Rocky Mountain Chocolate Factory, Inc. — Form 10-Q Summary
Reporting period: Three and nine months ended November 30, 2018; filed January 14, 2019. The company is a confectionery manufacturer, franchisor and retail operator, including frozen-yogurt businesses through U-Swirl. At quarter-end, its system included 465 operating stores and cafés across the listed brands and arrangements.
Financial performance
| Metric | Three months ended Nov. 30, 2018 | Year-over-year | Nine months ended Nov. 30, 2018 | Year-over-year |
|---|---|---|---|---|
| Revenue | $8.95 million | Down 10.2% | $25.12 million | Down 8.9% |
| Operating income | $678,374 | Down 43.4% | $2.50 million | Down 36.0% |
| Net income | $525,361 | Down 30.1% | $1.85 million | Down 25.7% |
| Basic EPS | $0.09 | From $0.13 | $0.31 | From $0.42 |
- For the nine-month period, factory sales fell 7.4%, retail sales 11.4%, franchise fees 53.4%, and royalties and marketing fees 8.1%. Fewer domestic franchise units and fewer openings reduced recurring fees; company-owned store closures reduced retail sales.
- Factory gross margin declined to 21.0% from 24.1% for the quarter and to 22.9% from 25.6% year to date. Management cited lower production volumes and factory efficiencies; quarterly transportation fuel and equipment costs also pressured margins. Company-wide reported gross margin on factory and retail sales was 24.8% for the quarter and 28.4% year to date.
- Cash provided by operating activities was $1.70 million for nine months, versus $1.65 million a year earlier. Investing activities used $419,014, primarily for property and equipment; financing activities used $3.14 million, mainly for debt payments and dividends. Cash declined $1.86 million to $4.21 million.
- At November 30, 2018, working capital was $9.6 million and the current ratio was 2.7:1. Total debt was $1.52 million, including $1.39 million classified as current; the $5 million revolving credit line was undrawn, and the company reported covenant compliance. The line was due for renewal in September 2019.
Material changes and unusual items
- ASC 606 was adopted March 1, 2018 using the modified retrospective method; prior-year figures were not restated. Initial franchise and renewal fees are now recognized over contract terms, generally 10–15 years. Adoption also changed gift-card breakage accounting and increased opening retained earnings by $925,929. The filing’s revenue reconciliation shows lower 2018 franchise-fee revenue under the new method; comparisons with 2017 are therefore not fully like-for-like.
- Nine-month restructuring charges were $176,981 for closing underperforming company-owned locations. Depreciation and amortization outside cost of sales rose to $879,552 from $591,863, primarily because management changed estimates for U-Swirl intangibles and accelerated amortization.
- The company paid quarterly dividends of $0.12 per share in March, June and September 2018 and declared another $0.12 dividend, paid in December. No shares were repurchased in the period.
- Operating leases were off balance sheet under the then-applicable accounting; the company expected the new lease standard to add right-of-use assets and lease liabilities, with the cumulative adjustment estimated at approximately 10% of total assets. Management expected no cash-flow impact.
Outlook, commentary and risks
No quantified earnings or revenue guidance was provided. Management said operating cash flows and available financing should be sufficient for at least the next 12 months. Results are seasonal, and quarterly results may not indicate full-year performance.
- The largest manufacturing customer reduced purchases; its revenue was approximately $1.8 million, or 7.1% of company revenue, for the nine months, versus $2.9 million, or 10.3%, a year earlier. Management cautioned that sales could continue to decline and might not return to historical levels.
- Domestic franchise closures exceeded openings, while same-store franchise sales were approximately unchanged year to date. Same-store pounds purchased by domestic RMCF franchise and license locations declined 1.5%.
- Commodity purchase contracts expose the company to price risk: management estimated a 10% price change in contracted ingredients could produce a $141,000 favorable or unfavorable effect. Other cited risks include competition, consumer demand, raw-material and labor costs, international expansion, co-branding and regulation.
- The company had approximately $1.4 million in purchase obligations, primarily for manufacturing commodities. It reported ordinary-course legal proceedings and no expected material adverse effect. Management reported effective disclosure controls and no material change in internal control during the quarter.
Most important facts for investors to verify
- Whether the largest customer’s orders stabilize and factory sales and production volumes recover.
- Whether franchise closures continue to exceed openings, and how system sales affect recurring royalty revenue.
- Whether factory margins recover after lower production volume, and whether inventory growth and working-capital needs remain manageable.
- The cash and dividend outlook alongside the $1.39 million current debt maturity, line-of-credit renewal, and covenant requirements.
- The effects of ASC 606 on comparisons and gift-card liabilities, and the eventual balance-sheet impact of lease accounting.