HF Foods Group Inc. — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. HF Foods distributes food and related products primarily to Asian restaurants and food-service customers in the United States. The results include B&R Global, acquired in November 2019, so reported year-over-year comparisons are not directly comparable.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Revenue | $104.6 million | $74.7 million | $280.4 million | $149.5 million |
| Gross profit / margin | $20.6 million / 19.7% | $12.5 million / 16.7% | $49.6 million / 17.7% | $25.2 million / 16.9% |
| Operating income (loss) | $(4.5) million | $1.4 million | $(4.9) million | $3.8 million |
| Net income (loss) attributable to HF Foods | $(4.1) million | $1.0 million | $(343.9) million | $2.7 million |
| Adjusted EBITDA | $3.4 million | $3.6 million | $7.8 million | $7.1 million |
| Operating cash flow | Not separately stated | Not separately stated | $32.4 million | $2.1 million |
- Reported revenue rose 39.9% in Q2 and 87.5% for the first half, principally because B&R Global was included in 2020 but not in the 2019 reported periods. On a pro forma basis, first-half 2020 revenue fell 32.8% from 2019, and adjusted EBITDA fell 59.0% to $7.8 million from $19.0 million.
- Q2 gross margin improved to 19.7%; management attributed the increase partly to a shift away from lower-margin buffet customers and selling through lower-cost inventory at higher food prices. Adjusted EBITDA is a non-GAAP measure and should not be read as a substitute for GAAP results.
- The first-half net loss includes a $338.2 million noncash goodwill impairment charge, recorded in Q1 after COVID-19-related declines prompted a valuation review. Remaining goodwill was $68.5 million. The impairment drove most of the reported first-half loss.
Liquidity, debt and balance sheet
- At June 30, cash was $8.6 million; current assets were $103.5 million and current liabilities $85.6 million, implying working capital of about $17.9 million.
- Cash declined $6.0 million from year-end 2019. First-half cash flow was $32.4 million provided by operations, $94.1 million used in investing (primarily the warehouse-property acquisition), and $55.7 million provided by financing.
- Debt included $32.0 million outstanding on the revolving line of credit and $96.5 million of long-term debt, of which $7.8 million was current. The company also had a $7.0 million related-party subordinated note, bearing 6% interest and due in 2030. Total listed contractual obligations were $137.8 million.
- The $100 million revolving facility matures in November 2022; mortgage term loans include a $75.6 million facility related to the warehouse acquisition. Management said it expected operating cash flow to cover normal working-capital needs and obligations for at least 12 months, but noted this depends on sales, collections, economic conditions, and continued bank and supplier support.
- Management reported compliance with the Second Amended Credit Agreement’s covenants at June 30. The filing also reports a covenant violation on one long-term-debt arrangement; Bank of America granted a waiver on August 7, 2020.
COVID-19, outlook and material matters
- Management said restaurant disruption caused a sharp sales decline: late-March sales were about 67% below the comparable prior-year pro forma period, and April sales were as much as 75% lower. Several distribution centers were temporarily closed, then reopened April 27.
- Management reported weekly sales recovered to over 50% and 60% of pre-pandemic levels in May and June, respectively, and to nearly 65% by the report date. Cost actions—including furloughs, fewer delivery schedules and temporary center closures—were said to reduce overall costs by about 40% from pre-COVID levels. The company also pursued online grocery sales and retail partnerships. Management cautioned that recovery timing and the pandemic’s full effects remained uncertain.
- The January 2020 acquisition of ten warehouses for $101.3 million involved a related party: Co-CEO Xiao Mou Zhang owned an 8.91% interest in the seller. Funding included $75.6 million of mortgage-backed term loans, a $7.0 million related-party note and revolving-credit borrowings.
- The company recorded a $1.3 million Q2 loss from changes in interest-rate-swap fair value. It entered a forward-starting $80 million swap in June; management said approximately 71% of floating-rate debt was effectively hedged for June 2021–June 2025.
- Shareholder securities class actions and a derivative lawsuit allege, among other claims, misleading disclosures and related-party conduct. The company disputes the claims; it said potential loss could not be determined and recorded no accrual. Separate employment lawsuits were also disclosed, with no accrual recorded.
- Disclosure controls were deemed ineffective at June 30 due to material weaknesses involving limited U.S. GAAP/SEC reporting resources and IT general controls. Management described remediation efforts but said the weaknesses remained until remediation is completed and tested. No quantified earnings or revenue guidance was provided.
Investor verification priorities
- Assess underlying performance using pro forma comparisons, separating B&R Global acquisition effects from COVID-19-related declines and recovery.
- Review goodwill impairment assumptions and sensitivity to sales forecasts, margins, discount rates and further pandemic effects.
- Verify liquidity and covenant headroom, debt maturities, the August 7 covenant waiver, and capacity under the revolving facility.
- Examine the related-party warehouse transaction and note, and developments in the securities and derivative lawsuits.
- Track the effectiveness and independent validation of internal-control remediation, and the sustainability of reported cost reductions and cash generation.