Winmark Corporation — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 27, 2020; comparisons are to the periods ended June 29, 2019. Winmark franchises five value-oriented retail brands and operates equipment-leasing businesses. It reported 1,255 franchised stores and an $18.8 million net leasing portfolio at quarter-end.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Revenue | $12.39 million | $17.40 million | $30.99 million | $35.74 million |
| Operating income | $6.68 million | $9.85 million | $16.78 million | $19.91 million |
| Net income | $5.06 million | $7.30 million | $12.37 million | $14.57 million |
| Diluted EPS | $1.33 | $1.79 | $3.21 | $3.52 |
| Operating margin | 53.9% | 56.6% | 54.2% | 55.7% |
| Net margin | 40.8% | 42.0% | 39.9% | 40.8% |
- Revenue mix and drivers: Q2 royalties were $7.81 million, down 38.3%; six-month royalties were $18.98 million, down 22.3%. Leasing income was $3.47 million in Q2 and $9.35 million year to date, up from the prior-year periods. Six-month leasing income net of leasing expense was $7.4 million versus $7.3 million.
- Expenses: SG&A fell 22.9% in Q2 to $4.96 million and 20.2% for the six months to $10.71 million. The six-month credit-loss provision rose to $503,900 from $79,400, reflecting estimated COVID-19 effects on lease customers.
- Cash flow: Operating activities generated $23.24 million in the first six months, versus $23.71 million a year earlier. Investing used $2.69 million, primarily for leased equipment. Financing used $44.39 million, including $48.99 million for the tender-offer repurchase and $1.10 million in dividends. Cash, cash equivalents and restricted cash declined $23.84 million to $1.34 million.
- Liquidity and debt: The company had $45.0 million available under its revolving credit facility, with no balance outstanding at June 27. It had $15.0 million principal outstanding on Series A notes and $9.1 million on Series B notes; these carry 5.50% and 5.10% interest, respectively. The filing reports covenant compliance. Balance-sheet notes payable, net of issuance costs, totaled about $24.0 million.
- Balance sheet and capital returns: Total assets were $31.63 million, versus $61.84 million at year-end 2019. Shareholders’ deficit was $18.57 million, largely following the $49.0 million tender offer for 300,000 shares. The company paid quarterly dividends of $0.25 and $0.05 per share in Q1 and Q2, respectively.
Material changes and management commentary
- COVID-19-related temporary store closures and reduced customer traffic lowered franchisee sales and royalties. Management reported sequential recovery in monthly royalty revenue: April, May and June were 16%, 76% and 108% of the respective 2019 levels.
- Franchising segment contribution fell to $4.60 million in Q2 from $8.45 million; leasing segment contribution rose to $2.08 million from $1.40 million. For the six months, franchising contribution declined to $11.81 million from $15.95 million, while leasing contribution increased to $4.97 million from $3.96 million.
- Leased-equipment purchases were $2.7 million in the first half, compared with $5.7 million in 2019. Management said lower purchases and a smaller lease portfolio could weigh on long-term leasing-segment operating income. Despite pandemic disruption, 51 of 52 franchise agreements available for renewal were renewed; seven stores opened and eight closed.
- Management said cash on hand, operating cash flow, lease-discounting sources and the credit facility were expected to fund planned operations through 2021. This is subject to substantial pandemic-related uncertainty; the company said the full impact on its financial position and results could not be reasonably estimated. No specific earnings or revenue guidance was provided.
Risks, contingencies and other items
- Management identified continuing risks from store closures or reduced traffic, weaker consumer spending, and potential leasing-customer defaults or lower lease originations. COVID-19’s duration and financial effects remained uncertain.
- The company deferred $4.4 million of federal and state income-tax payments under the CARES Act, with payment expected in Q3 2020.
- The revolving credit facility terminates in July 2021; aggregate commitments automatically reduce by $5.0 million in July 2020. Debt agreements are secured by substantially all company assets and include financial covenants.
- The company reported no material litigation, no off-balance-sheet arrangements, and no material changes to internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether franchisee sales and royalty revenue sustain or reverse the reported Q2 monthly recovery as pandemic-related restrictions and consumer behavior evolve.
- Whether credit losses rise, and whether lease originations and portfolio size recover from the first-half decline.
- That liquidity assumptions remain adequate given low quarter-end cash, the credit facility’s 2021 termination and commitment reduction, and ongoing debt service.
- The effects of the $49.0 million repurchase on leverage and the reported shareholders’ deficit, and the terms and remaining capacity of future repurchases.
- The timing and payment of the deferred $4.4 million of income taxes.