Sprouts Farmers Market, Inc. — Q2 2020 Form 10-Q
Business context and reporting period. Sprouts operates specialty healthy-grocery stores. This unaudited filing covers the 13 and 26 weeks ended June 28, 2020, compared with the periods ended June 30, 2019. The company had 350 stores in 23 states at quarter-end and 352 stores as of July 29, 2020. Fiscal 2020 is a 53-week year.
Financial performance
| Metric | 13 weeks ended June 28, 2020 | 26 weeks ended June 28, 2020 |
|---|---|---|
| Net sales | $1,642.8 million; up 16% | $3,289.3 million; up 16% |
| Comparable-store sales growth | 9.1% | 9.9% |
| Gross profit / gross margin | $612.7 million / 37.3% (32.8% prior year) | $1,206.5 million / 36.7% (33.5% prior year) |
| Operating income | $92.8 million, versus $51.3 million | $220.4 million, versus $130.9 million |
| Net income / diluted EPS | $67.0 million / $0.57; both up 90% | $158.8 million / $1.35; up 73% / 78% |
| Operating cash flow | $393.3 million for the first half, versus $249.2 million | |
| Capital expenditures | $64.6 million for the first half, versus $93.4 million |
For the quarter, SG&A rose 28% to $488.9 million and increased to 29.8% of sales from 27.1%. For the first half, SG&A rose 22% to $925.2 million and was 28.1% of sales, versus 26.8%. First-half store closure and other costs included a $0.6 million net gain, primarily from assigning a closed-store lease.
Financial position, liquidity and debt
- Cash and cash equivalents were $328.1 million at June 28, 2020, versus $85.3 million at December 29, 2019. Cash, cash equivalents and restricted cash totaled $329.6 million at period-end.
- Long-term debt under the revolving credit agreement was $451.0 million, down $87.0 million from year-end after principal payments. The company also reported $10.9 million of finance lease liabilities.
- The revolving facility has a $700 million commitment and matures March 27, 2023; $34.4 million of letters of credit were outstanding. The company reported compliance with its financial covenants.
- Operating cash flow benefited from working-capital changes, including higher accrued income taxes and accounts payable. Management said available cash and expected operating cash flow should cover anticipated needs for at least 12 months.
Changes, outlook and risks
- COVID-19 drove both growth and costs. Management attributed strong sales to initial customer stockpiling and continued at-home food consumption. Higher sales, favorable shrink and more efficient promotions supported gross-margin expansion. Added labor, overtime, bonuses, benefits, safety measures and e-commerce fees increased operating costs.
- Outlook is uncertain. Sprouts expected approximately 20 store openings in 2020, with 12 opened through July 29. It targeted at least 10% annual new-store growth beyond 2020, subject to COVID-19 impacts. The filing provides no quantified earnings or sales guidance; management said pandemic duration and severity make forecasting difficult.
- Key operating risks include changing customer demand as restaurants reopen, supply-chain and staffing disruption, possible store or construction delays, increased digital fulfillment costs, and pandemic-related safety, litigation and cybersecurity risks.
- Debt and interest-rate exposure: approximately 55% of outstanding debt was fixed after interest-rate swaps. Management estimated each 100-basis-point LIBOR change would affect annual interest expense by about $2.0 million after swaps, versus $4.5 million without them. The swaps had a $14.2 million fair-value liability.
- Contingencies: the company could not reasonably estimate potential loss in a California Proposition 65 coffee-warning case; no provision was recorded. It also disclosed ordinary-course claims and an IRS examination of its 2017 federal tax return. Other described litigation settlements were funded by insurance and were not material.
Most important facts for investors to verify
- How much of the exceptional comparable-store growth and margin improvement persists as pandemic-driven buying patterns change.
- Whether higher labor, safety and e-commerce costs continue to pressure SG&A and margins.
- Whether cash generation remains strong after the working-capital benefits recorded in the first half.
- Progress on store-opening plans, supply-chain and staffing capacity, and the company’s ability to sustain its stated growth targets.
- Debt repayment, covenant headroom, interest-rate exposure and the effect of lease obligations on liquidity.
- Developments in the coffee litigation and IRS examination, including any material change in potential exposure.