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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
| | | | | |
(Mark One) | |
☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
| For the three months ended |
| March 31, 2020 |
| OR |
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to | |
Commission file number 001-37540
HOSTESS BRANDS, INC.
(Exact name of registrant as specified in its charter)
| | | | | | | | |
Delaware | | 47-4168492 |
(State or other jurisdiction of incorporation or organization)
| | (I.R.S. Employer Identification No.) |
7905 Quivira Road | | 66215 |
Lenexa, | KS | (Zip Code) |
(Address of principal executive offices) | | |
(816) 701-4600
Registrant’s telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
| | | | | | | | |
Title of each Class | Ticker Symbol | Name of each exchange on which registered |
Class A Common Stock, Par Value of $0.0001 per share | TWNK | The Nasdaq Stock Market LLC |
Warrants, each exercisable for a half share of Class A Common Stock | TWNKW | The Nasdaq Stock Market LLC |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically, every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b‑2 of the Exchange Act.:
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
Large accelerated filer | ☒ | Accelerated filer | ☐ | Non‑accelerated filer | ☐ | Smaller reporting company | ☐ | Emerging growth company | ☐ |
☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b‑2 of the Act). Yes ☐ No ☒
Shares of Class A common stock outstanding - 123,202,917 shares at May 5, 2020
Shares of Class B common stock outstanding - 7,440,587 shares at May 5, 2020
HOSTESS BRANDS, INC.
FORM 10-Q
For the Quarter Ended March 31, 2020
INDEX
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Cautionary Note Regarding Forward Looking Statements
This Quarterly Report on Form 10-Q contains statements reflecting our views about our future performance that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve substantial risks and uncertainties. All statements contained in this Quarterly Report other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward-looking statements. Statements that constitute forward-looking statements are generally identified through the inclusion of words such as “believes,” “expects,” “intends,” “estimates,” “projects,” “anticipates,” “will,” “plan,” “may,” “should,” or similar language. Statements addressing our future operating performance and statements addressing events and developments that we expect or anticipate will occur are also considered forward-looking statements. All forward-looking statements included herein are made only as of the date hereof. It is routine for our internal projections and expectations to change throughout the year, and any forward-looking statements based upon these projections or expectations may change prior to the end of the next quarter or year. Readers of this Quarterly Report are cautioned not to place undue reliance on any such forward-looking statements. As a result of a number of known and unknown risks and uncertainties, our actual results or performance may be materially different from those expressed or implied by these forward-looking statements. Risks and uncertainties are identified under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2019 and herein, as updated by subsequent filings. The impact of COVID-19 may also exacerbate these risks, any of which could have a material effect on us. This situation is changing rapidly and additional impacts may arise that the Company is not aware of currently. All subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these risk factors. We undertake no obligation to update any forward-looking statement, whether as a result of new information, future events, or otherwise.
HOSTESS BRANDS, INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited, amounts in thousands, except shares and per share data)
| | | | | | | | | | | | | | | |
| March 31, | | | December 31, | |
ASSETS | 2020 | | | 2019 | |
| | | | | |
Current assets: | | | | | |
Cash and cash equivalents | $ | 96,167 | | | | $ | 285,087 | | |
Accounts receivable, net | 147,064 | | | | 104,892 | | |
Inventories | 50,737 | | | | 47,608 | | |
| | | | | |
Prepaids and other current assets | 12,321 | | | | 15,569 | | |
Total current assets | 306,289 | | | | 453,156 | | |
Property and equipment, net | 276,628 | | | | 242,384 | | |
Intangible assets, net | 1,987,931 | | | | 1,853,315 | | |
Goodwill | 701,905 | | | | 535,853 | | |
Other assets, net | 16,824 | | | | 12,993 | | |
Total assets | $ | 3,289,577 | | | | $ | 3,097,701 | | |
| | | | | |
LIABILITIES AND STOCKHOLDERS’ EQUITY | | | | | |
| | | | | |
Current liabilities: | | | | | |
Long-term debt and lease obligations payable within one year | $ | 14,437 | | | | $ | 11,883 | | |
Tax receivable agreement payments payable within one year | 10,800 | | | | 12,100 | | |
Accounts payable | 67,105 | | | | 68,566 | | |
Customer trade allowances | 48,876 | | | | 45,715 | | |
Accrued expenses and other current liabilities | 43,808 | | | | 21,661 | | |
| | | | | |
Total current liabilities | 185,026 | | | | 159,925 | | |
Long-term debt and lease obligations | 1,112,388 | | | | 975,405 | | |
Tax receivable agreement obligations | 129,400 | | | | 126,096 | | |
Deferred tax liability | 290,342 | | | | 256,051 | | |
Other long-term liabilities | 1,320 | | | | — | | |
Total liabilities | 1,718,476 | | | | 1,517,477 | | |
| | | | | |
Commitments and Contingencies (Note 13) | | | | | |
| | | | | |
Class A common stock, $0.0001 par value, 200,000,000 shares authorized, 123,186,308 and 122,108,086 shares issued and outstanding at March 31, 2020 and December 31, 2019, respectively | 12 | | | | 12 | | |
Class B common stock, $0.0001 par value, 50,000,000 shares authorized, 7,440,587 and 8,409,834 shares issued and outstanding at March 31, 2020 and December 31, 2019, respectively | 1 | | | | 1 | | |
Additional paid in capital | 1,163,263 | | | | 1,152,055 | | |
Accumulated other comprehensive income (loss) | (9,583) | | | | (756) | | |
Retained earnings | 336,828 | | | | 334,480 | | |
Stockholders’ equity | 1,490,521 | | | | 1,485,792 | | |
Non-controlling interest | 80,580 | | | | 94,432 | | |
Total liabilities and stockholders’ equity | $ | 3,289,577 | | | | $ | 3,097,701 | | |
See accompanying notes to the unaudited consolidated financial statements.
HOSTESS BRANDS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited, amounts in thousands, except shares and per share data)
| | | | | | | | | | | | | | | | | | | |
| Three Months Ended | | | | | | | | |
| March 31, 2020 | | | March 31, 2019 | | | | | |
| | | | | | | | | |
Net revenue | $ | 243,485 | | | | $ | 222,738 | | | | | | |
Cost of goods sold | 164,148 | | | | 147,550 | | | | | | |
Gross profit | 79,337 | | | | 75,188 | | | | | | |
Operating costs and expenses: | | | | | | | | | |
Advertising and marketing | 10,063 | | | | 8,863 | | | | | | |
Selling expense | 18,120 | | | | 8,520 | | | | | | |
General and administrative | 25,195 | | | | 17,471 | | | | | | |
Amortization of customer relationships | 6,484 | | | | 5,985 | | | | | | |
Business combination transaction costs | 4,282 | | | | — | | | | | | |
Other operating expense (income) | 27 | | | | (1,761) | | | | | | |
Total operating costs and expenses | 64,171 | | | | 39,078 | | | | | | |
Operating income | 15,166 | | | | 36,110 | | | | | | |
Other expense: | | | | | | | | | |
Interest expense, net | 11,725 | | | | 10,236 | | | | | | |
| | | | | | | | | |
| | | | | | | | | |
Other expense | 553 | | | | 440 | | | | | | |
Total other expense | 12,278 | | | | 10,676 | | | | | | |
Income before income taxes | 2,888 | | | | 25,434 | | | | | | |
Income tax expense (benefit) | 248 | | | | (1,178) | | | | | | |
Net income | 2,640 | | | | 26,612 | | | | | | |
Less: Net income attributable to the non-controlling interest | 292 | | | | 5,486 | | | | | | |
Net income attributable to Class A stockholders | $ | 2,348 | | | | $ | 21,126 | | | | | | |
| | | | | | | | | |
Earnings per Class A share: | | | | | | | | | |
Basic | $ | 0.02 | | | | $ | 0.21 | | | | | | |
Diluted | $ | 0.02 | | | | $ | 0.21 | | | | | | |
Weighted-average shares outstanding: | | | | | | | | | |
Basic | 123,123,656 | | | | 100,085,141 | | | | | | |
Diluted | 126,075,126 | | | | 100,777,609 | | | | | | |
See accompanying notes to the unaudited consolidated financial statements.
HOSTESS BRANDS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited, amounts in thousands)
| | | | | | | | | | | | | | | |
| Three Months Ended | | | | | | |
| March 31, 2020 | | March 31, 2019 | | | | |
| | | | | | | |
Net income | $ | 2,640 | | | $ | 26,612 | | | | | |
Other comprehensive loss: | | | | | | | |
Unrealized loss on interest rate swap contracts designated as cash flow hedges | (12,708) | | | (2,165) | | | | | |
Tax benefit | 3,169 | | | 447 | | | | | |
Comprehensive income (loss) | (6,899) | | | 24,894 | | | | | |
Less: Comprehensive income (loss) attributed to non-controlling interest | (437) | | | 4,984 | | | | | |
Comprehensive income (loss) attributed to Class A stockholders | $ | (6,462) | | | $ | 19,910 | | | | | |
See accompanying notes to the unaudited consolidated financial statements.
HOSTESS BRANDS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Unaudited, amounts in thousands except share data)
| | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Class A Voting Common Stock | | | | Class B Voting Common Stock | | | | Additional Paid-in Capital | | Accumulated Other Comprehensive Income (Loss) | | Retained Earnings | | Total Stockholders’ Equity | | Non-controlling Interest |
| Shares | | Amount | | Shares | | Amount | | | | | | | | | | |
Balance–December 31, 2018 | | 100,046,392 | | | $ | 10 | | | 30,255,184 | | | $ | 3 | | | $ | 925,902 | | | $ | 2,523 | | | $ | 271,365 | | | $ | 1,199,803 | | | $ | 350,454 | |
Comprehensive income (loss) | | — | | | — | | | — | | | — | | | — | | | (1,216) | | | 21,126 | | | 19,910 | | | 4,984 | |
Share-based compensation, net of income taxes of $613 | — | | | — | | | — | | | — | | | 1,668 | | | — | | | — | | | 1,668 | | | — | |
Distributions | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | (457) | |
Exercise of public warrants | | 50 | | | — | | | — | | | — | | | — | | | — | | | — | | | — | | | — | |
Balance–March 31, 2019 | | 100,046,442 | | | $ | 10 | | | 30,255,184 | | | $ | 3 | | | $ | 927,570 | | | $ | 1,307 | | | $ | 292,491 | | | $ | 1,221,381 | | | $ | 354,981 | |
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Balance–December 31, 2019 | | 122,108,086 | | | $ | 12 | | | 8,409,834 | | | $ | 1 | | | $ | 1,152,055 | | | $ | (756) | | | $ | 334,480 | | | $ | 1,485,792 | | | $ | 94,432 | |
Comprehensive income | | — | | | — | | | | — | | | | — | | | | — | | | | (8,810) | | | | 2,348 | | | | (6,462) | | | (437) | |
Share-based compensation, including income taxes of $103 | 106,770 | | | — | | | | — | | | | — | | | | 2,180 | | | | — | | | | — | | | | 2,180 | | | — | |
Exchanges | | 969,247 | | | — | | | | (969.247) | | | | — | | | | 11,819 | | | | (17) | | | | — | | | | 11,802 | | | | (11,802) | |
Distributions | | — | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | (1,613) | |
Exercise of employee stock options | | 2,030 | | | — | | | | — | | | | — | | | | 153 | | | | — | | | | — | | | | 153 | | | | — | |
Payment of taxes for employee stock awards | | — | | | — | | | | — | | | | — | | | | (1,004) | | | | — | | | | — | | | | (1,004) | | | | — | |
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Exercise of public warrants | | 175 | | | — | | | | — | | | | — | | | | 2 | | | | — | | | | — | | | | 2 | | | | — | |
Tax receivable agreement arising from exchanges, net of income taxes of $1,341 | — | | | — | | | | — | | | | — | | | | (1,942) | | | | — | | | | — | | | | (1,942) | | | — | |
Balance–March 31, 2020 | | 123,186,308 | | | $ | 12 | | | 7,440,587 | | | $ | 1 | | | $ | 1,163,263 | | | $ | (9,583) | | | $ | 336,828 | | | $ | 1,490,521 | | | $ | 80,580 | |
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See accompanying notes to the unaudited consolidated financial statements.
HOSTESS BRANDS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, amounts in thousands)
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| | | Three Months Ended | | | |
| | | March 31, 2020 | | March 31, 2019 | |
Operating activities | | | | | | |
| Net income | | $ | 2,640 | | | $ | 26,612 | | |
| Depreciation and amortization | | 12,821 | | | 10,878 | | |
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| Debt discount (premium) amortization | | 338 | | | (228) | | |
| Tax receivable agreement remeasurement | | — | | | (1,761) | | |
| Unrealized foreign exchange losses | | 286 | | | — | | |
| Non-cash lease expense | | 590 | | | — | | |
| Share-based compensation | | 2,077 | | | 2,281 | | |
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| Deferred taxes | | (649) | | | (2,882) | | |
| Loss on sale of assets | | 27 | | | — | | |
| Change in operating assets and liabilities, net of acquisitions and dispositions: | | | | | |
| | Accounts receivable | (17,463) | | | (23,552) | | |
| | Inventories | 5,180 | | | (4,578) | | |
| | Prepaids and other current assets | 3,270 | | | 2,917 | | |
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| | Accounts payable and accrued expenses | 864 | | | 16,594 | | |
| | Customer trade allowances | 3,161 | | | 2,104 | | |
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| Net cash provided by operating activities | | 13,142 | | | 28,385 | | |
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Investing activities | | | | | | |
| Purchases of property and equipment | | (11,323) | | | (9,493) | | |
| Acquisition of business, net of cash acquired | | (318,427) | | | — | | |
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| Acquisition and development of software assets | | (1,793) | | | (1,342) | | |
| Net cash used in investing activities | | (331,543) | | | (10,835) | | |
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Financing activities | | | | | | |
| Repayments of long-term debt and lease obligations | | (2,792) | | | (2,530) | | |
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| Proceeds from long-term debt origination, net of fees paid | | 136,888 | | | — | | |
| Distributions to non-controlling interest | | (1,614) | | | (457) | | |
| Tax payments related to issuance of shares to employees | | (1,004) | | | — | | |
| Cash received from exercise of options and warrants | | 155 | | | — | | |
| Payments on tax receivable agreement | | (1,279) | | | (457) | | |
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| Net cash provided by (used in) financing activities | | 130,354 | | | (3,444) | | |
| Effect of exchange rate changes on cash and cash equivalents | | (873) | | | — | | |
Net increase (decrease) in cash and cash equivalents | | | (188,920) | | | 14,106 | | |
Cash and cash equivalents at beginning of period | | | 285,087 | | | 146,377 | | |
Cash and cash equivalents at end of period | | | $ | 96,167 | | | $ | 160,483 | | |
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Supplemental Disclosures of Cash Flow Information: | | | | | |
Cash paid during the period for: | | | | | |
| Interest | | $ | 10,758 | | | $ | 11,087 | |
| Net taxes refunded | | $ | (586) | | | $ | (10) | |
Supplemental disclosure of non-cash investing: | | | | | |
| Accrued capital expenditures | | $ | 2,014 | | | $ | 1,436 | |
See accompanying notes to the unaudited consolidated financial statements.
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Description of Business
Hostess Brands, Inc. is a Delaware corporation headquartered in Lenexa, Kansas. The consolidated financial statements include the accounts of Hostess Brands, Inc. and its subsidiaries (collectively, the “Company”). The Company is a leading packaged food company focused on developing, manufacturing, marketing, selling and distributing snack products, including sweet baked goods, cookies and wafers in North America.
The Company’s operations are conducted through indirect operating subsidiaries that are wholly-owned by Hostess Holdings, L.P. (“Hostess Holdings”), a direct subsidiary of Hostess Brands, Inc. Hostess Brands, Inc. holds 100% of the general partnership interest in Hostess Holdings and a majority of the limited partnership interests therein and consolidates Hostess Holdings in the Company’s consolidated financial statements. The remaining limited partnership interests in Hostess Holdings are held by the holders of the outstanding shares of Class B common stock of Hostess Brands, Inc. These limited partnership interests in Hostess Holdings are reflected in the consolidated financial statements as a non-controlling interest. In January 2020, the Company acquired Voortman Cookies, Limited (“Voortman”) a manufacturer of premium, branded wafers as well as sugar-free and specialty cookies.
Basis of Presentation
The consolidated financial statements included herein have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and the rules and regulations of the Securities and Exchange Commission (“SEC”). In the opinion of management, the unaudited consolidated financial statements include all adjustments necessary for the fair presentation of the Company’s financial position and of the results of operations and cash flows for the periods presented, and all such adjustments were of a normal and recurring nature. The results of operations are not necessarily indicative of the results to be expected for the full fiscal year. The accompanying unaudited consolidated financial statements and notes thereto should be read in conjunction with the audited consolidated financial statements and notes thereto for the fiscal year ended December 31, 2019.
For the periods presented, the Company has two reportable segments: Snacking and In-Store Bakery. The Company sold its In-Store Bakery operations on August 30, 2019. Subsequent to the sale, Snacking is the Company’s single reportable segment.
Adoption of New Accounting Standards
In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses: Measurement of Credit Losses on Financial Instruments (“Topic 326”). This ASU requires entities to measure the impairment of certain financial instruments, including trade receivables, based on expected losses rather than incurred losses. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company adopted the standard effective January 1, 2020. Adoption of Topic 326 did not have a material impact on the Company’s consolidated financial statements.
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of the Company and its majority-owned or controlled subsidiaries (including those for which the Company is the primary beneficiary of a variable interest entity). All intercompany balances and transactions have been eliminated in consolidation.
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets and liabilities at the date of the financial statements and for the reported amounts of revenues and expenses during the reporting period. Management utilizes estimates, including, but not limited to, valuation and useful lives of tangible and intangible assets, valuation of expected future payments under the tax receivable agreement, and reserves for trade and promotional allowances. Actual results could differ from these estimates.
Accounts Receivable
Accounts receivable represents amounts invoiced to customers for performance obligations which have been satisfied. As of March 31, 2020 and December 31, 2019, the Company’s accounts receivable were $147.1 million and $104.9 million, respectively, which have been reduced by an allowance for damages occurring during shipment, quality claims and doubtful accounts in the amount of $3.7 million and $2.7 million, respectively.
Inventories
Inventories are stated at the lower of cost or net-realizable value on a first-in first-out basis. Abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage) are expensed in the period they are incurred.
The components of inventories are as follows:
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(In thousands) | March 31, 2020 | | December 31, 2019 |
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Ingredients and packaging | $ | 22,726 | | | $ | 21,439 | |
Finished goods | 24,709 | | | 22,513 | |
Inventory in transit to customers | 3,302 | | | 3,656 | |
| $ | 50,737 | | | $ | 47,608 | |
Software Costs
Capitalized software is included in “Other assets, net” in the consolidated balance sheets in the amount of $14.4 million and $11.9 million at March 31, 2020 and December 31, 2019, respectively. Capitalized software costs are amortized over their estimated useful life of five years commencing when such assets are ready for their intended use. Software amortization expense included in general and administrative operating expense was $1.3 million for the three months ended March 31, 2020, compared to $0.7 million for the three months ended March 31, 2019.
Disaggregation of Revenue
Net revenue consists of sales of packaged food products in the United States primarily within the Sweet Baked Goods category. Beginning with the acquisition of Voortman on January 3, 2020, (see Note 2. Business Combinations) the Company also sells products in the United States and Canada within the Cookies category.
The following tables disaggregate revenues by geographical market.
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| Three Months Ended March 31, 2020 | | | | | | |
(In thousands) | Sweet Baked Goods | | In-Store Bakery | | Cookies | | Total |
United States | $ | 226,361 | | | | $ | — | | | | $ | 13,307 | | | $ | 239,668 | |
Canada | — | | | | — | | | | 3,817 | | | 3,817 | |
| $ | 226,361 | | | $ | — | | | $ | 17,124 | | | $ | 243,485 | |
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
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| Three Months Ended March 31, 2019 | | | | | | |
(In thousands) | Sweet Baked Goods | | In-Store Bakery | | Cookies | | Total |
United States | $ | 212,879 | | | | $ | 9,859 | | | | $ | — | | | $ | 222,738 | |
Canada | — | | | | — | | | | — | | | — | |
| $ | 212,879 | | | $ | 9,859 | | | $ | — | | | $ | 222,738 | |
Concentrations
The Company has one customer (together with its affiliates) that accounted for 10% or more of the Company’s total net revenue. The percentage of total net revenues for this customer is presented below by segment:
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| Three Months Ended | | | | | | |
(% of Consolidated Net Revenues) | March 31, 2020 | | March 31, 2019 | | | | |
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Snacking | 21.1 | % | | 23.5 | % | | | | |
In-Store Bakery | 0.0 | % | | 0.6 | % | | | | |
Total | 21.1 | % | | 24.1 | % | | | | |
Foreign Currency Remeasurement
Certain activity and balances related to the operations of Voortman originate from transactions denominated in the Canadian dollar (CAD). CAD transactions have been remeasured into U.S. dollars (USD) on the consolidated statement of operations using the average exchange rate for the reporting period. Balances expected to be settled in CAD have been remeasured into USD on the consolidated balances sheet using the exchange rate at the end of the period. During the three months ended March 31, 2020, the Company recognized a loss on remeasurement of less than $0.1 million, reported within other expense on the consolidated statement of operations.
2. Business Combinations
On January 3, 2020, the Company completed the previously announced acquisition of all of the shares of the parent company of Voortman, a manufacturer of premium, branded wafers as well as sugar-free and specialty cookies for approximately $325.8 million ($423.2 million CAD), pending final working capital and other closing statement adjustments. This purchase price was reduced by a net gain on a related foreign currency contract of $6.9 million, cash acquired of $1.6 million and a receivable for certain purchase price adjustments of $1.1 million, resulting in a net cash outflow of $318.4 million.
The acquisition of Voortman diversifies and expands the Company’s product offerings and manufacturing capabilities in the adjacent cookie category. The acquisition also leverages the Company’s customer reach and lean and agile business model. The combined Company expects to realize additional benefits of scale via sharing established, efficient infrastructure and strengthening of collaborative retail partnerships in the United States and Canada.
An aggregate of $10.8 million CAD was deposited into an escrow account to satisfy amounts in respect of post-closing adjustments and to provide for payment to the Company of indemnity claims, if any. There were no working capital or other adjustments made to the escrow balance during the three months ended March 31, 2020. The Company continues to work through post-closing working capital and other adjustments in accordance with the terms of the share purchase agreement, as well as other contractual rights it has under the transaction documents.
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Included in other non-current liabilities in the table below is a $1.3 million liability for an uncertain tax position acquired in the transaction. It is offset by a non-current receivable balance of $1.3 million representing expected recovery through seller or insurance policy indemnification.
The Company recorded a preliminary allocation of the purchase price to tangible and identified intangible assets acquired and liabilities assumed, based on their fair values as of the closing date. The final allocation of the purchase price is pending the final valuation of certain assets acquired and liabilities assumed and finalization of customary closing adjustments to the final purchase price. The Company expects to finalize the allocation of the purchase consideration as soon as practicable. The preliminary purchase price allocation is as follows:
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(In thousands) | | |
Cash | | $ | 1,639 | |
Accounts receivable | | 24,848 | |
Inventory | | 8,309 | |
Income tax receivable | | 6,079 | |
Other current assets | | 420 | |
Property and equipment | | 32,371 | |
Customer relationships | | 11,100 | |
Trade names | | 130,000 | |
Goodwill | | 166,052 | |
Other non-current assets | | 1,320 | |
Accounts payable and accrued expenses | | (4,317) | |
Customer trade allowances | | (4,762) | |
Lease liabilities | | (6,420) | |
Deferred taxes | | (39,554) | |
Other non-current liabilities | | (1,320) | |
Assets acquired and liabilities assumed | | $ | 325,765 | |
During the three months ended March 31, 2020, the Company incurred $4.3 million of expenses related to this acquisition. These expenses are classified as business combination transaction costs on the consolidated statements of operations.
The following unaudited pro forma combined financial information presents the Company’s results as though the acquisition of Voortman had occurred at January 1, 2019. The unaudited pro forma consolidated financial information has been prepared using the acquisition method of accounting in accordance with U.S. GAAP:
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| Three Months Ended | | | |
(In thousands) | | March 31, 2020 | | March 31, 2019 |
| | (unaudited, pro forma) | | |
Net revenue | | $ | 243,485 | | | $ | 243,060 | |
Net income | | $ | 2,640 | | | $ | 24,859 | |
3. Exit Costs
Subsequent to the Company’s acquisition of Voortman, activities were initiated to transition Voortman’s distribution model to the Company’s direct-to-warehouse distribution model. The Company is incurring costs to exit Voortman’s direct-store-delivery model, including severance and contract termination costs, which includes termination of third-party distributor relationships. Total costs are expected to be approximately $10 million through completion of the transition in 2020. During the three months ended March 31, 2020, contract termination costs of $6.4 million and
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
severance costs of $2.2 million were recognized within selling expenses and general and administrative expenses, respectively, on the consolidated statement of operations.
Reserves for these activities are reported within accrued expenses on the consolidated balance sheet and had the following activity during the three months ended March 31, 2020:
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(In thousands) | | Severance | | Contract Termination | | Total |
Charges recorded | | $ | 2,171 | | | | $ | 6,440 | | | | $ | 8,611 | |
Payments made | | (97) | | | | (176) | | | | (273) | |
Impact of change in exchange rates on CAD denominated liability | | (222) | | | | (429) | | | | (651) | |
Reserve balance as of March 31, 2020 | | $ | 1,852 | | | $ | 5,835 | | | $ | 7,687 | |
4. Property and Equipment
Property and equipment consists of the following:
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(In thousands) | March 31, 2020 | | December 31, 2019 |
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Land and buildings | $ | 56,106 | | | $ | 53,683 | |
Right of use assets, operating | 30,190 | | | 23,771 | |
Machinery and equipment | 230,313 | | | 209,382 | |
Construction in progress | 15,802 | | | 5,878 | |
| 332,411 | | | 292,714 | |
Less accumulated depreciation | (55,783) | | | (50,330) | |
| $ | 276,628 | | | $ | 242,384 | |
Depreciation expense was $5.0 million for the three months ended March 31, 2020, compared to $4.2 million for the three months ended March 31, 2019.
5. Segment Reporting
For the periods presented, the Company has two reportable segments: Snacking and In-Store Bakery. The Company’s Snacking segment consists of sweet baked goods, cookies, wafers and bread products that are sold under the Hostess®, Dolly Madison®, Cloverhill® Big Texas®, and Voortman® brands. During the three months ended March 31, 2020, the Company added the newly acquired Voortman operations into the reportable segment previously known as Sweet Baked Goods and renamed the segment as “Snacking”. The In-Store Bakery segment consists primarily of Superior on Main® branded and private label products sold through the in-store bakery section of grocery and club stores. The Company divested its In-Store Bakery operations on August 30, 2019. Subsequent to the sale, Snacking is the Company’s single reportable segment.
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
The Company evaluates performance and allocates resources based on net revenue and gross profit. Information regarding the operations of these reportable segments is as follows:
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| Three Months Ended | | | | | | |
(In thousands) | March 31, 2020 | | March 31, 2019 | | | | |
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Net revenue: | | | | | | | |
Snacking | $ | 243,485 | | | $ | 212,879 | | | | | |
In-Store Bakery | — | | | 9,859 | | | | | |
Net revenue | $ | 243,485 | | | $ | 222,738 | | | | | |
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Depreciation and amortization: | | | | | | | |
Snacking | $ | 12,821 | | | $ | 10,180 | | | | | |
In-Store Bakery | — | | | 698 | | | | | |
Depreciation and amortization | $ | 12,821 | | | $ | 10,878 | | | | | |
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Gross profit: | | | | | | | |
Snacking | $ | 79,337 | | | $ | 73,145 | | | | | |
In-Store Bakery | — | | | 2,043 | | | | | |
Gross profit | $ | 79,337 | | | $ | 75,188 | | | | | |
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Capital expenditures (1): | | | | | | | |
Snacking | $ | 12,152 | | | $ | 4,262 | | | | | |
In-Store Bakery | — | | | 152 | | | | | |
Capital expenditures | $ | 12,152 | | | $ | 4,414 | | | | | |
(1)Capital expenditures consists of purchases of property and equipment and acquisition and development of software assets paid in cash or acquired through accounts payable. For the three months ended March 31, 2020 and 2019, capital expenditures in accounts payable decreased by $0.9 million and $6.4 million, respectively.
After the August 30, 2019 divestiture of the In-Store Bakery operations, the Company retained no assets related to the In-Store Bakery segment. All Assets at March 31, 2020 and December 31, 2019 were attributed to the Snacking segment.
HOSTESS BRANDS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
6. Goodwill and Intangible Assets
The Company recognized goodwill during the three months ended March 31, 2020 related to its acquisition of Voortman, which was incorporated into the Company’s Snacking reporting unit. At March 31, 2020, there is no goodwill associated with the In-Store Bakery reporting segment, which the Company divested in 2019. Goodwill activity is presented below.
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(In thousands) | | Snacking | |
Balance as of December 31, 2019 | | | $ | 535,853 | | |
Acquisition of Voortman | | | 166,052 | | |
Balance as of March 31, 2020 | | | $ | 701,905 | | |
Intangible assets consist of the following:
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(In thousands) | March 31, 2020 | | December 31, 2019 |
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Intangible assets with indefinite lives (Trademarks and Trade Names) | $ | 1,538,630 | | | $ | 1,408,630 | |
Intangible assets with definite lives (Customer Relationships) | 526,813 | | | 515,713 | |
Less accumulated amortization (Customer Relationships) | (77,512) | | | (71,028) | |
Intangible assets, net | $ | 1,987,931 | | | $ | 1,853,315 | |
The Company recognized additional trade names and customer relationships intangible assets during the three months ended March 31, 2020 related to the acquisition of Voortman. See Note 2. Business Combinations for additional details.
Amortization expense was $6.5 million for the three months ended March 31, 2020, and $6.0 million for the three months ended March 31, 2019. The unamortized portion of customer relationships will be expensed over their remaining useful lives, from 1 to 23 years. The weighted-average amortization period as of March 31, 2020 for customer relationships was 19.4 years.
7. Accrued Expenses and Other Current Liabilities
Included in accrued expenses and other current liabilities are the following:
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(In thousands) | March 31, 2020 | | December 31, 2019 |
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Payroll, vacation and other compensation | $ | 5,730 | | | $ | 3,389 | |
Incentive compensation | 4,862 | | | |