Willamette Valley Vineyards, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; filed August 14, 2018. The company produces and sells wine through direct-to-consumer channels and distributors. Results are unaudited.
Financial performance
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Net sales | $5.82 million | $5.31 million | $10.35 million | $9.76 million |
| Gross profit | $3.72 million | $3.19 million | $6.61 million | $5.93 million |
| Gross margin | 63.9% | 60.0% | 63.9% | 60.7% |
| Operating income | $1.18 million | $1.06 million | $1.65 million | $1.56 million |
| Net income | $803,255 | $593,501 | $1.13 million | $908,630 |
| Income attributable to common shareholders, after preferred dividends | $546,817 | $461,668 | $622,378 | $644,965 |
| EPS after preferred dividends | $0.11 | $0.09 | $0.13 | $0.13 |
- Q2 sales rose 9.6%; first-half sales rose 6.0%. Management attributed growth chiefly to direct sales, including tasting room, wine club and kitchen sales, with distributor sales also increasing.
- First-half wine case sales increased 3.8% to approximately 67,558 cases. Direct sales were $3.90 million for the half, up from $3.48 million; distributor sales were $6.45 million, up from $6.28 million.
- SG&A increased 19.4% in Q2 to $2.54 million and 13.5% for the first half to $4.96 million. Management cited higher staffing, marketing and incentive costs, the Walla Walla retail outlet, and development-related staffing and professional fees.
- Net income increased 35.3% in Q2 and 24.8% for the first half. First-half income attributable to common shareholders nevertheless declined 3.5%, primarily because accrued preferred dividends rose with the larger preferred share count.
Cash flow, liquidity and capital
- First-half operating cash flow was $40,443, versus $1.53 million in the prior-year period. Investing used $3.00 million, mainly for property, equipment and vineyard development; financing provided $184,945, including $549,357 from preferred stock issuance, partly offset by debt payments.
- Cash declined to $11.00 million at June 30 from $13.78 million at year-end. Management attributed the decrease primarily to investment in vineyard development and property and equipment.
- Working capital was $23.5 million and the current ratio 6.91:1 at June 30, compared with $24.0 million and 4.73:1 at December 31, 2017. The company reported $2.0 million available and no borrowings on its renewed $2.0 million revolving credit line, extended through July 31, 2019; it was in compliance with its covenants.
- At June 30, total long-term debt, including current maturities and net of issuance costs, was $6.86 million. Separately, notes payable for property purchases totaled approximately $1.72 million, including $1.59 million on the Dundee Hills property and $137,666 due in March 2019 on Walla Walla farmland. The company also disclosed a $19.60 million liquidation preference on redeemable preferred stock.
- Property and equipment additions were $2.37 million and vineyard development additions were $633,000 in the first half. Management said operating cash flow and existing credit facilities should meet foreseeable short- and long-term needs.
Changes, outlook and risks
- Gross margin improved year over year, but part of the comparison reflects prior-year bulk-wine inventory write-downs of $112,599 in Q2 and $188,517 in the first half; those write-downs did not recur in 2018. Management estimated they reduced prior-year gross margin by approximately 2.1 and 2.0 percentage points, respectively.
- The effective tax rate fell following the December 2017 Tax Cuts and Jobs Act; the company cited this as a contributor to higher net income. First-half interest expense rose 7.0% to $235,002.
- Management described strategic growth through property purchases, development and preferred-stock financing, and expected related costs—including preferred dividends and planning and development expenses—to weigh on near-term financial results. No specific earnings or revenue guidance was provided.
- Key risks identified include financing growth, access to adequate high-quality grapes, weather or disease affecting grape supply and quality, competition, distributor relationships, consumer spending and demand for premium wine, and regulatory changes. Wine club membership decreased by approximately 28 net members, or 0.4%, to 7,400 in the first half.
- The company disclosed a long-term grape purchase agreement through the 2023 harvest; purchase amounts depend on crop availability, quality and needs. It also has a long-term lease for a planned Willamette Wine Works location in Folsom, California. Management did not expect ordinary-course litigation to have a material effect, though outcomes cannot be predicted.
- The company adopted revenue recognition standard Topic 606 in Q1 2018 and said the impact was not material. It was still evaluating the impact of the new lease accounting standard. Management reported effective disclosure controls and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether revenue growth and improved gross margin persist after accounting for the nonrecurrence of 2017 inventory write-downs.
- Whether elevated SG&A and growth-related costs translate into sustained sales and profitability, particularly in direct-to-consumer operations and new locations.
- How operating cash generation develops given minimal first-half operating cash flow and continued vineyard and property investment.
- The cumulative cost and terms of preferred stock, including accrued dividends, its liquidation preference, and the company’s potential redemption option after June 1, 2021.
- Future grape supply, quality and pricing, and the financial commitments associated with the long-term grape agreement and property leases.