Turning Point Brands, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Unaudited consolidated results; amounts below are in U.S. dollars unless noted.
Business context and results
TPB sells tobacco and adult consumer alternative products through Smokeless, Smoking, and NewGen segments. Growth in NewGen reflects acquisitions and newer alternative products; the company also cited ongoing strength in Stoker’s moist snuff.
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net sales | $93.3 million | $81.1 million | $185.0 million | $155.0 million |
| Gross profit | $41.2 million | $35.8 million | $81.6 million | $67.6 million |
| Gross margin | 44.1% | 44.1% | 44.1% | 43.6% |
| Operating income | $19.9 million | $14.8 million | $32.0 million | $24.5 million |
| Net income | $13.2 million | $9.3 million | $19.8 million | $12.4 million |
| Diluted EPS | $0.66 | $0.47 | $0.99 | $0.62 |
| Operating cash flow | Not reported separately | Not reported separately | $21.7 million | $6.0 million |
Financial position, liquidity, and debt
- At June 30, cash was $2.1 million, current assets $121.2 million, and current liabilities $67.9 million; working capital was $53.3 million, up from $48.1 million at year-end 2018.
- Gross debt, including the revolver and IVG note and before deferred financing costs, was $204.5 million, down from $224.0 million at December 31, 2018. Unrestricted cash was $2.1 million; a further $4.0 million was restricted MSA escrow cash.
- The company had $15.0 million drawn on its $50 million revolving facility and $33.2 million available after letters of credit. It reported compliance with credit-facility covenants at June 30.
- Six-month investing cash use was $0.3 million and financing cash use was $20.9 million, primarily reflecting debt repayments and dividends. Operating cash flow benefited from working-capital movements, including higher accounts payable.
Changes versus comparable periods
- Q2 sales rose 15.1% year over year. NewGen sales increased 52.8% to $41.8 million, while Smokeless sales rose 7.2% and Smoking sales fell 13.5%.
- For the first half, sales increased 19.3%. NewGen rose 59.4% to $85.4 million, Smokeless rose 7.9%, and Smoking declined 9.7%.
- Management attributed NewGen growth to IVG, Vapor Supply, and Nu-X alternative product sales. Smoking weakness reflected delayed Canadian paper orders associated with packaging regulations and declining low-margin cigar sales.
- Q2 net income included a $5.5 million net gain from settling the VMR distribution agreement, recorded as a reduction in SG&A. NewGen gross profit included $2.0 million of tariff expense in Q2 and $4.0 million in the first half.
- Adjusted EBITDA, a non-GAAP measure, was $18.3 million for Q2 versus $17.2 million, and $34.3 million for the first half versus $30.9 million. The company’s adjustment for the VMR settlement removes the gain from this measure.
Outlook, management commentary, and risks
- The filing provides no quantified forward guidance. Management said operating cash flow and revolver availability should cover operating cash requirements for the foreseeable future.
- Regulatory uncertainty is material for NewGen. Following a court order, marketers generally faced a May 12, 2020 deadline to submit premarket tobacco applications for deemed new products to continue marketing them, subject to potential changes, exemptions, or further proceedings. TPB expected to file applications but gave no assurance of FDA approval; product availability, inventory, revenue, and liquidity could be affected.
- The company highlighted uncertain federal, state, and local rules for hemp- and CBD-derived products, as well as tobacco regulation, product-liability claims involving malfunctioning vapor devices, and reliance on suppliers, retailers, and third-party manufacturers.
- Interest-rate exposure remains relevant: $70 million of variable-rate debt was covered by swaps. Management estimated a 1% rate increase would affect annual pretax income by approximately $1.3 million.
- Subsequent to quarter-end, TPB acquired Solace Technologies and agreed to invest $3 million for a 30% stake in Canadian distributor ReCreation Marketing, with options to increase its ownership. It also issued $172.5 million of 2.50% convertible notes due 2024 after the purchasers exercised their additional-note option. Proceeds were used to repay the second-lien term loan, fund capped-call transactions, and support general corporate purposes, including potential acquisitions. The notes’ initial conversion price was approximately $53.86 per share; capped calls had a stated cap of $82.86 per share.
- The company reported several vapor-device personal-injury lawsuits; outcomes and potential losses were uncertain. It also noted possible future tobacco-product litigation and extensive regulatory and competitive risks.
Important facts for investors to verify
- Whether NewGen growth and margins can be sustained, particularly after separating acquisition contributions, tariff costs, and the VMR settlement’s one-time benefit.
- The status, cost, and outcome of required FDA applications, and the effect of the May 2020 deadline on TPB’s own and third-party vapor products.
- Post-quarter-end convertible-note proceeds, use of funds, second-lien repayment, amended credit covenants, and potential dilution or cash settlement upon conversion.
- Debt-service capacity, covenant headroom, revolver availability, and cash generation given modest unrestricted cash and working-capital movements.
- Developments in Canadian paper orders, tobacco and CBD regulation, vapor-product litigation, and other contingencies.