Winmark Corp. 10-Q Summary: Quarter Ended April 1, 2006
Business Context and Reporting Period
This Form 10-Q covers the three-month period ended April 1, 2006. Winmark Corporation operates as a franchisor of value-oriented retail concepts (Play It Again Sports, Once Upon A Child, Plato's Closet, and Music Go Round) and engages in equipment leasing through its subsidiaries Winmark Capital Corporation and Wirth Business Credit, Inc. As of the period end, the company operated 806 franchised stores.
Key Financial Metrics
| Metric | Q1 2006 | Q1 2005 |
|---|---|---|
| Total Revenue | $6,969,500 | $7,144,700 |
| Net Income | $1,113,300 | $699,900 |
| Earnings Per Share (Diluted) | $0.18 | $0.11 |
| Operating Cash Flow | $1,495,200 | $1,425,100 |
| Cash and Equivalents (End of Period) | $1,847,000 | $6,641,300 |
| Current Ratio | 2.1:1 | 2.3:1 |
| Long-Term Debt | $0 | $0 |
Note: While no long-term debt was outstanding as of April 1, 2006, the company utilized a $15 million credit facility (amended March 31, 2006) and had $2.0 million outstanding on this facility as of May 5, 2006.
Material Changes vs. Prior Period
- Revenue Composition: Total revenue decreased 2.5% year-over-year. This was driven by a 42.3% decline in merchandise sales due to the 2005 sale of all company-owned retail stores and a strategic shift for franchisees to buy directly from vendors. Conversely, royalties increased 11.7% and leasing income surged 323.6% due to portfolio expansion.
- Profitability: Net income increased 59.1% to $1.11 million. Operating income rose 19.5% to $1.41 million, aided by a $360,000 gain on the redemption of preferred stock in Commercial Credit Group, Inc., recorded as interest and other income.
- Segment Performance: The franchising segment contribution increased 17.5% to $3.24 million. The leasing segment loss widened to $606,000 (from $454,400) due to $864,000 in startup direct costs, partially offset by higher leasing income.
- Liquidity: Cash and cash equivalents decreased by $1.1 million, primarily due to $2.1 million in investing activities (purchasing equipment for lease contracts) and $785,000 in stock repurchases.
Outlook, Risks, and Unusual Items
- Capital Strategy: The company filed a "shelf registration" (Form S-1) for up to $50 million in subordinated unsecured notes to fund leasing expansion, acquisitions, and stock repurchases. No assurance of proceeds is given.
- Investment Activity: The company redeemed its preferred stock in Commercial Credit Group, Inc., receiving $2.0 million plus a $360,000 transaction fee, and issued $2.0 million in senior subordinated notes to the same entity at 14.75% interest.
- Commitments: Winmark has a remaining $500,000 commitment to lend to BridgeFunds Limited, extended to July 14, 2006.
- Stock Repurchases: The company repurchased 35,000 shares in Q1 2006 at an average price of $22.43. Approximately 484,458 shares remain available under the current repurchase plan.
- Risks: Management notes that results are dependent on franchisee performance, lease originations, and the ability to control SG&A expenses. The leasing segment remains in a startup phase with significant direct costs.
Investor Verification Checklist
- Verify the sustainability of the 323.6% increase in leasing income against the widening operating loss in the leasing segment.
- Confirm the status of the $50 million shelf registration and potential dilution or debt service obligations if notes are issued.
- Monitor the $2.0 million outstanding balance on the LaSalle Bank credit facility and compliance with the amended financial covenants (tangible net worth, interest coverage, leverage ratio).
- Assess the impact of the strategic shift away from direct merchandise sales on future revenue stability.
- Review the $11 million in long-term investments (Tomsten, CCG, BridgeFunds) for liquidity constraints and impairment risks.