UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 26, 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 1-5039
WEIS MARKETS, INC.(Exact name of registrant as specified in its charter)
Pennsylvania
(State or other jurisdiction of incorporation or organization)
24-0755415(I.R.S. Employer Identification No.)
1000 S. Second StreetP. O. Box 471Sunbury, Pennsylvania(Address of principal executive offices)
17801-0471(Zip Code)
Registrant's telephone number, including area code: (570) 286-4571
Registrant's web address: www.weismarkets.com
Not Applicable(Former name, former address and former fiscal year, if changed since last report)
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 [X] 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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes [X] No [ ]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the 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 [X]
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 Exchange Act). Yes [ ] No [X]
Securities registered pursuant to section 12(b) of the act:
Title of each class
Trading symbol
Name of exchange on which registered
Common stock, no par value
WMK
New York Stock Exchange
As of November 5, 2020, there were issued and outstanding 26,898,443 shares of the registrant’s common stock.
WEIS MARKETS, INC.
TABLE OF CONTENTS
Page
Part I. Financial Information
Item 1. Financial Statements
Consolidated Balance Sheets
1
Consolidated Statements of Income
2
Consolidated Statements of Comprehensive Income
3
Consolidated Statements of Shareholders’ Equity
4
Consolidated Statements of Cash Flows
5
Notes to Consolidated Financial Statements
6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
11
Item 3. Quantitative and Qualitative Disclosures about Market Risk
18
Item 4. Controls and Procedures
Part II. Other Information
Item 1a. Risk Factors
19
Item 6. Exhibits
20
Signatures
21
Exhibit 31.1 Rule 13a-14(a) Certification - CEO
Exhibit 31.2 Rule 13a-14(a) Certification - CFO
Exhibit 32 Certification Pursuant to 18 U.S.C. Section 1350
Table of Contents
PART I – FINANCIAL INFORMATION
ITEM I – FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
(unaudited)
(dollars in thousands)
September 26, 2020
December 28, 2019
Assets
Current:
Cash and cash equivalents
$
117,408
66,871
Marketable securities
102,449
63,538
SERP investment
20,362
18,935
Accounts receivable, net
50,726
55,764
Inventories
265,990
279,806
Prepaid expenses and other current assets
29,810
23,378
Total current assets
586,745
508,292
Property and equipment, net
897,768
886,928
Operating lease right-to-use
202,058
210,196
Goodwill
52,330
Intangible and other assets, net
17,832
17,816
Total assets
1,756,733
1,675,562
Liabilities
Accounts payable
188,714
180,718
Accrued expenses
38,300
39,528
Operating leases
39,297
39,114
Accrued self-insurance
19,029
15,719
Deferred revenue, net
6,539
8,662
Income taxes payable
8,783
8,197
Total current liabilities
300,662
291,938
Postretirement benefit obligations
23,136
22,143
17,612
17,625
171,125
179,654
Deferred income taxes
100,863
97,041
Other
8,629
8,416
Total liabilities
622,027
616,817
Shareholders’ Equity
Common stock, no par value, 100,800,000 shares authorized, 33,047,807 shares issued,
26,898,443 shares outstanding
9,949
Retained earnings
1,272,655
1,198,173
Accumulated other comprehensive income
(Net of deferred taxes of $1,168 in 2020 and $593 in 2019)
2,959
1,480
1,285,563
1,209,602
Treasury stock at cost, 6,149,364 shares
(150,857)
Total shareholders’ equity
1,134,706
1,058,745
Total liabilities and shareholders’ equity
See accompanying notes to Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF INCOME
13 Weeks Ended
39 Weeks Ended
(dollars in thousands, except shares and per share amounts)
September 28, 2019
Net sales
1,002,387
876,222
3,086,910
2,640,907
Cost of sales, including advertising, warehousing and distribution expenses
728,054
643,397
2,255,544
1,941,860
Gross profit on sales
274,333
232,825
831,366
699,047
Operating, general and administrative expenses
231,527
215,282
695,130
637,385
Income from operations
42,806
17,543
136,236
61,662
Investment income (loss) and interest expense
1,890
1,467
937
5,441
Other income (expense)
(1,218)
(39)
(1,160)
(2,309)
Income before provision for income taxes
43,478
18,971
136,013
64,794
Provision for income taxes
12,142
4,652
36,516
15,696
Net income
31,336
14,319
99,497
49,098
Weighted-average shares outstanding, basic and diluted
26,898,443
Cash dividends per share
0.31
0.93
Basic and diluted earnings per share
1.16
0.53
3.70
1.83
See accompanying notes to Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Other comprehensive income (loss) by component, net of tax:
Available-for-sale marketable securities
Unrealized holding gains (losses) arising during period
(Net of deferred taxes of $143 and $67, respectively for the thirteen weeks ended and $575 and $490, respectively for the thirty-nine weeks ended)
362
166
1,479
1,242
Reclassification adjustment for gains included in net income
(Net of deferred taxes of $0 and $16, respectively for the thirteen weeks ended and $0 and $16, respectively for the thirty-nine weeks ended)
-
Other comprehensive income gain, net of tax
127
1,203
Comprehensive income, net of tax
31,698
14,446
100,976
50,301
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
Accumulated
(dollars in thousands, except shares)
Total
For Thirteen Weeks Ended
Common Stock
Retained
Comprehensive
Treasury Stock
Shareholders’
September 26, 2020 and September 28, 2019
Shares
Amount
Earnings
Income (Loss)
Equity
Balance at June 27, 2020
33,047,807
1,249,657
2,598
6,149,364
1,111,347
Net Income
—
Other comprehensive income, net of
reclassification adjustments and tax
Dividends paid
(8,339)
Balance at September 26, 2020
Balance at June 29, 2019
1,181,647
1,337
1,042,076
Balance at September 28, 2019
1,187,627
1,465
1,048,184
For the Thirty-Nine weeks Ended
Balance at December 28, 2019
(25,016)
Balance at December 29, 2018
1,163,545
262
1,022,899
CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash flows from operating activities:
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization
74,003
69,857
Loss on disposition of fixed assets
2,618
1,137
(Gain) on sale of marketable securities
(55)
Unrealized (gain) loss in value of equity securities
1,892
(1,637)
3,247
1,483
Unrealized (gain) in SERP
(760)
(1,289)
Changes in operating assets and liabilities:
13,816
17,519
Accounts receivable and prepaid expenses
(1,393)
7,205
Accounts payable and other liabilities
4,694
(9,153)
Income taxes
587
3,610
(4,020)
972
Net cash provided by operating activities
194,181
138,747
Cash flows from investing activities:
Purchase of property and equipment
(83,574)
(70,084)
Proceeds from the sale of property and equipment
308
1,489
Purchase of marketable securities
(38,259)
(9,220)
Proceeds from the sale and maturities of marketable securities
3,690
5,325
Purchase of intangible assets
(127)
(558)
Change in SERP investment
(666)
(1,910)
Net cash used in investing activities
(118,628)
(74,958)
Cash flows from financing activities:
Net cash used in financing activities
Net increase in cash and cash equivalents
50,537
38,773
Cash and cash equivalents at beginning of year
37,808
Cash and cash equivalents at end of period
76,581
See accompanying notes to Consolidated Financial Statements. In the first thirty-nine weeks of 2020, there was $32.7 million cash paid for income taxes compared to $10.6 million in 2019 for the same period. Cash paid for interest related to long-term debt was $27 thousand and $50 thousand in the first thirty-nine weeks of 2020 and 2019, respectively.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(1) Significant Accounting Policies
Basis of Presentation: The accompanying unaudited Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. In the opinion of management, all adjustments (consisting of normal recurring deferrals and accruals) considered necessary for a fair presentation have been included. The operating results for the periods presented are not necessarily indicative of the results to be expected for the full year. The Company has evaluated subsequent events for disclosure through the date of issuance of the accompanying unaudited consolidated interim financial statements and there were no material subsequent events which require additional disclosure. For further information, refer to the Consolidated Financial Statements and footnotes thereto included in the Company's latest Annual Report on Form 10-K.
(2) Current Relevant Accounting Standards
The Company regularly monitors recently issued accounting standards and assesses their applicability and impact. The Company believes that there are no accounting standard updates that have or will have a material or significant impact on the Company's accounting policies.
(3) Marketable Securities
The Company’s marketable securities are all classified as available-for-sale within “Current Assets” in the Company’s Consolidated Balance Sheets. FASB has established three levels of inputs that may be used to measure fair value:
Level 1 Observable inputs such as quoted prices in active markets for identical assets or liabilities;
Level 2 Observable inputs, other than Level 1 inputs in active markets, that are observable either directly or indirectly; and
Level 3 Unobservable inputs for which there is little or no market data, which require the reporting entity to develop its own assumptions.
The Company’s marketable securities valued using Level 1 inputs include highly liquid equity securities, for which quoted market prices are available. The Company’s municipal bond portfolio is valued using Level 2 inputs. The Company’s municipal bonds are valued using a combination of pricing for similar securities, recently executed transactions, cash flow models with yield curves and other pricing models utilizing observable inputs, which are considered Level 2 inputs.
For Level 2 investment valuation, the Company utilizes standard pricing procedures of its investment advisory firm which includes various third party pricing services. These procedures also require specific price monitoring practices as well as pricing review reports, valuation oversight and pricing challenge procedures to maintain the most accurate representation of investment fair market value.
The Company accrues interest on its bond portfolio throughout the life of each bond held. Dividends from the equity securities are recognized as received. Interest, dividends and unrealized gains and losses on equity securities are recognized in “Investment income and interest expense” on the Company’s Consolidated Statements of Income. The Company recognized investment income of $1.9 million in the third quarter of 2020, which included an unrealized gain in equity securities of $120 thousand. In the thirteen weeks ending September 28, 2019, the Company recognized investment income of $1.5 million, which included unrealized gains in equity securities of $844 thousand. In the thirty-nine weeks ending September 26, 2020, the Company recognized investment gains of $964 thousand, net of unrealized losses in equity securities of $1.9 million. In the thirty-nine weeks ending September 28, 2019, the Company recognized investment income of $5.5 million, which included unrealized gains in equity securities of $1.6 million.
(3) Marketable Securities (continued)
Marketable securities, as of September 26, 2020 and December 28, 2019, consisted of:
Gross
Amortized
Unrealized
Fair
Cost
Holding Gains
Holding Losses
Value
Available-for-sale:
Level 1
Equity securities
7,308
Level 2
Municipal bonds
91,013
5,346
95,141
9,201
52,264
2,091
(18)
54,337
Maturities of marketable securities classified as available-for-sale at September 26, 2020, were as follows:
Due within one year
10,561
10,649
Due after one year through five years
37,659
39,421
Due after five years through ten years
42,793
45,071
SERP Investments
The Company also maintains a non-qualified supplemental executive retirement plan for certain of its associates which allows them to defer income to future periods. Participants in the plan earn a return on their deferrals based on mutual fund investments. The Company chooses to invest in the underlying mutual fund investments to offset the liability associated with the non-qualified deferred compensation plan. Such investments are reported on the Company’s Consolidated Balance Sheets as “SERP investment,” are classified as trading securities and are measured at fair value using Level 1 inputs with gains and losses included in “Investment income and interest expense” on the Company’s Consolidated Statements of Income. The changes in the underlying liability to the associates are recorded in “Other income (expense).”
(4) Accumulated Other Comprehensive Income
All balances in accumulated other comprehensive income are related to available-for-sale marketable securities. The following table sets forth the balance of the Company’s accumulated other comprehensive income, net of tax.
Unrealized Gains
on Available-for-Sale
Marketable Securities
Accumulated other comprehensive income balance as of December 28, 2019
Other comprehensive income before reclassifications
Amounts reclassified from accumulated other comprehensive income
Net current period change in other comprehensive income
Accumulated other comprehensive income balance as of September 26, 2020
The following table sets forth the effects on net income of the amounts reclassified out of accumulated other comprehensive income for the periods ended September 26, 2020 and September 28, 2019.
Amounts Reclassified from
Accumulated Other Comprehensive Income to the
Location
Unrealized gains (losses) on available-for-sale marketable securities
16
Total amount reclassified, net of tax
(5) Long-Term Debt
On September 1, 2016 Weis Markets entered into a revolving credit agreement with Wells Fargo Bank, National Association (the “Credit Agreement”), which was amended on August 21, 2019 and matures on September 1, 2022. The Credit Agreement provides for an unsecured revolving credit facility with an aggregate principal amount not to exceed $30.0 million with an additional discretionary amount available of $70.0 million. As of September 26, 2020, the availability under the revolving credit agreement was $24.1 million, net of $5.9 million letters of credit. The letters of credit are maintained primarily to support performance, payment, deposit or surety obligations of the Company.
Interest expense related to long-term debt was $8 thousand and $10 thousand in the thirteen weeks ended September 26, 2020 and September 28, 2019, respectively. In the first thirty-nine weeks of 2020 and 2019, interest expense related to long-term debt totaled $27 thousand and $43 thousand, respectively.
(6) Revenue Recognition
The Chief Operating Officer, the Company’s chief operating decision maker, analyzes store operational revenues by geographical area but each area offers customers similar product, has similar distribution methods, and is supported by centralized management processes. The Company’s operations are reported as a single reportable segment.
The following table represents net sales by type of product for the thirteen and thirty-nine week periods ending September 26, 2020 and September 28, 2019:
Grocery
878,378
87.7
%
754,872
86.1
Pharmacy
89,306
8.9
84,632
9.7
Fuel
32,275
3.2
34,041
3.9
Manufacturing
2,428
0.2
2,677
0.3
Total net sales
100.0
2,729,626
88.4
2,289,658
86.7
264,448
8.6
251,095
9.5
85,370
2.8
93,777
3.6
7,466
6,377
(7) Leases
As of September 26, 2020, the Company leased approximately 51% of its open store facilities under operating leases that expire at various dates through 2035, with the remaining store facilities being owned. These leases generally provide for fixed annual rentals; however, several provide for minimum annual rentals plus variable lease costs related to real estate taxes and insurance as well as contingent rentals based on a percentage of annual sales or increases periodically based on inflation. These variable lease costs are not included in the measurement of the operating lease right-to-use assets or lease liabilities and are charged to the related expense category included in “Operating, general and administrative expenses.” Most of the leases contain multiple renewal options, under which the Company may extend the lease terms from 5 to 20 years. Additionally, the Company has operating leases for certain transportation and other equipment.
The Company leases or subleases space to tenants in owned, vacated and open store facilities. Rental income is recorded when earned as a component of “Operating, general and administrative expenses.”
The following is a schedule of the lease costs included in “Operating, general and administrative expenses” for the thirteen and thirty-nine weeks ended September 26, 2020 and September 28, 2019.
13 weeks ended
39 weeks ended
Operating lease cost
11,504
11,493
34,554
34,549
Variable lease cost
2,821
2,636
8,355
8,190
Lease or sublease income
(2,116)
(1,945)
(6,286)
(5,795)
Net lease cost
12,209
12,184
36,623
36,944
(8) Prior Year Reclassification
As of December 28, 2019, the Company reclassified non-service components of the Supplemental Executive Retirement Plan (SERP) benefit obligation separately from the service cost component. These non-service components totaling $2.3 million as of September 28, 2019 were reclassified to “Other income (expense)”. The Company recognizes service cost components in “Operating, general and administrative costs”.
The tables below summarize the effects of the reclassifications of previously reported Consolidated Financial Statements for the fiscal quarter ended September 26, 2020.
As Previously
Reported
Reclassifications
As Adjusted
215,321
17,504
39
639,694
59,353
2,309
Unrealized (gain) loss in SERP
140,036
(3,199)
1,289
(76,247)
(9) COVID-19
On March 11, 2020, the World Health Organization declared that the novel coronavirus (COVID-19) had become a pandemic, and on March 13, the U.S. President declared a National Emergency concerning the disease. Additionally, in March 2020, state governments in the Company’s geographic operating area began instituting preventative shut down measures in order to combat the novel coronavirus pandemic. The coronavirus and actions taken to mitigate the spread of it have had and are expected to continue to have an adverse impact on the economies and financial markets of the geographical area in which the Company operates. On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) was enacted to amongst other provisions, provide emergency assistance for individuals, families and businesses affected by the novel coronavirus pandemic.
The Company’s business being deemed essential resulted in incremental financial performance that may not be indicative of future financial results and there remains uncertainty and increased risks concerning its employees, customers, supply chain and government regulation (see Forward-Looking Statements).
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of Weis Markets, Inc.’s (the “Company”) financial condition and results of operations should be read in conjunction with the unaudited Consolidated Financial Statements and related notes included in Item 1 of this Quarterly Report on Form 10-Q, the Company’s audited Consolidated Financial Statements and the related notes included in the Company’s Annual Report on Form 10-K for the year ended December 28, 2019, filed with the U.S. Securities and Exchange Commission, as well as the cautionary statement captioned "Forward-Looking Statements" immediately following this analysis.
Company Summary
Weis Markets is a conventional supermarket chain that operates 195 retail stores with over 24,000 associates located in Pennsylvania and six surrounding states: Delaware, Maryland, New Jersey, New York, Virginia and West Virginia. Approximately 98% of Weis Markets associates are paid an hourly wage. Its products include groceries, dairy products, frozen foods, meats, seafood, fresh produce, floral, pharmacy services, deli products, prepared foods, bakery products, beer and wine, fuel and general merchandise items, such as health and beauty care and household products. The store product selection includes national, local and private brands and the Company promotes by using Everyday Lower Price; Low Price Guarantee; Low, Low Price; and Loyalty programs. The Loyalty program includes fuel rewards that may be redeemed at the Company’s fuel stations or one of its third-party fuel station partners.
On March 11, 2020, the World Health Organization declared that the novel coronavirus (COVID-19) had become a pandemic, and on March 13, the U.S. President declared a National Emergency concerning the disease. Additionally, in March 2020, state governments in the Company’s geographic operating area began instituting preventative shut down measures in order to combat the novel coronavirus pandemic. The Company’s business was deemed essential and thus its stores have remained open during this time period, and sales, costs and profits have increased. Although the Company sees similar sales and profit results extending into the beginning of the next quarter, the Company is not able to speculate how the ensuing economy or unknown future related expenses will affect it after the governmental novel coronavirus pandemic measures have ended. The closure of other food sources and government stimulus payments to affected individuals have been accretive to our sales; however, the Company also faces new and increased risks concerning its employees, government regulation and supply chain (see Forward-Looking Statements, below).
The Company advertises its products and promotes its brand through radio ads; e-mail blasts; and on-line via its web site, social media and mobile applications. Printed circulars have been used extensively on a weekly basis to advertise featured items. The Company promotes by using Everyday Lower Price, Low Price Guarantee, Low, Low Price and utilizes a loyalty marketing program, “Weis Club Preferred Shopper,” which enables customers to receive discounts, promotions and in-store and fuel rewards. During the current novel coronavirus pandemic, the Company has reduced its use of weekly newspaper circulars which resulted in a cost savings. At this point the Company has not determined if its use of printed circulars will be increased after the end of the pandemic.
Utilizing its own centrally located distribution center and transportation fleet, Weis Markets self distributes approximately 69% of product with the remaining being supplied by direct store vendors. In addition, the Company has three manufacturing facilities which process milk, ice cream and fresh meat products primarily for the Company’s stores but serve other companies as well. The corporate offices are located in Sunbury, PA where the Company was founded in 1912. The Company has implemented current CDC guidelines to attempt to ensure the continuity of its distribution center and fleet.
The Company continues to innovate and remain relevant to industry trends and offering customer convenience by presenting
programs like “Weis 2 Go Online” ordering with curbside pickup and home delivery. In the third quarter of 2020, the Company offered Weis 2 Go Online curbside pickup in 182 of its locations as well as home delivery with Shipt in 175 different locations. During the first thirty-nine weeks of 2020, ecommerce sales have increased 147% when compared to the same period in 2019.
(continued)
Results of Operations
Analysis of Consolidated Statements of Income
Percentage Changes
2020 vs. 2019
(dollars in thousands except per share amounts)
14.4
16.9
13.2
16.2
17.8
18.9
Gross profit margin
27.4
26.6
26.9
26.5
7.5
9.1
O, G & A, percent of net sales
23.1
24.6
22.5
24.1
144.0
120.9
Operating margin
4.3
2.0
4.4
2.3
Investment income and interest expense
28.8
(82.8)
Investment income and interest expense, percent of net sales
0.0
3023.1
(49.8)
Other income (expense), percent of net sales
(0.1)
129.2
109.9
Income before provision for income taxes, percent of net sales
2.2
2.5
161.0
132.6
Effective income tax rate
27.9
24.5
26.8
24.2
118.8
102.6
Net income, percent of net sales
3.1
1.6
1.9
118.9
102.2
Net Sales
Analysis of Sales
Net sales, excluding fuel sales
15.2
Comparable store sales
14.8
17.3
Comparable store sales, excluding fuel sales
15.7
18.4
When calculating the percentage change in comparable store sales, the Company defines a new store to be comparable after it has been in operation for five full quarters. Relocated stores and stores with expanded square footage are included in comparable store sales since these units are located in existing markets and are open during construction. Planned store dispositions are excluded from the calculation. The Company only includes retail food stores in the calculation.
Results of Operations (continued)
Net Sales (continued)
Analysis of Sales (continued)
According to the latest U.S. Bureau of Labor Statistics’ report, the annual Seasonally Adjusted Food-at-Home Consumer Price Index decreased 1.6% compared to a decrease of 0.3% for the same period last year. Even though the U.S. Bureau of Labor Statistics’ index rates may be reflective of a trend, it will not necessarily be indicative of the Company’s actual results. According to the U.S. Department of Energy, the thirteen-week average price of gasoline in the Central Atlantic States decreased 14.7% or $0.42 per gallon in the third quarter of 2020 compared to the same quarter in 2019. The year to date average decreased 13.0% or $0.36 per gallon in the first thirty-nine weeks of 2020 when compared to the same period in 2019.
Comparable store sales for the third quarter of 2020 is positive compared to the same period a year ago, with increases of 14.8% with fuel and 15.7% without fuel. Year to date, comparable store sales for 2020 also remained positive when compared to the same period in 2019, with increases of 17.3% and 18.4% with and without fuel, respectively. The Company’s 2020 sales were favorably impacted as a result of increased sales demand related to the novel coronavirus pandemic as well as increasing market share.
Although the Company experienced retail inflation and deflation in various commodities for the periods presented, the recent novel coronavirus pandemic has caused uncertainty about future economic conditions and may change future product mix. Management cannot accurately measure the full impact of inflation or deflation on retail pricing due to changes in the types of merchandise sold between periods, shifts in customer buying patterns and the fluctuation of competitive factors. Management remains confident in its ability to generate sales growth in a highly competitive environment, but also understands some competitors have greater financial resources and could use these resources to take measures which could adversely affect the Company's competitive position.
Cost of Sales and Gross Profit
Cost of sales consists of direct product costs (net of discounts and allowances), net advertising costs, distribution center and transportation costs, as well as manufacturing facility operations. Increased sales volume resulted in an increase in cost of sales. Both direct product cost and distribution cost increase when sales volume increases.
Gross profit on sales for the third quarter of 2020 increased 0.8% when compared to the same period in 2019. Year to date, 2020 gross profit on sales is positive when compared to the same period in 2019, with an increase of 0.5%. The increase in gross profit rate is attributable to a change in sales mix along with increased fresh department sell through, which reduced the amount of product loss.
Non-cash LIFO inventory valuation adjustments represent expense of $2.2 million in the first thirty-nine weeks of 2020, compared to income of $1.2 million in 2019. Although the Company experienced cost inflation and deflation in various commodities for the periods presented, the recent novel coronavirus pandemic has caused uncertainty about future economic conditions. Due to this uncertainty, management has estimated a greater annual increase in LIFO expense than it has in previous years due to expected product cost inflation by year end.
Operating, General and Administrative Expenses
The majority of the operating, general and administrative expenses are driven by sales volume.
Employee-related costs such as wages, employer paid taxes, health care benefits and retirement plans, comprise approximately 63% of the total “Operating, general and administrative expenses.” As a percent of sales, direct store labor decreased 0.8% in the third quarter of 2020 when compared to the same period in 2019, and decreased 0.6% when comparing the first thirty-nine weeks of 2020 with the same period in 2019.
Depreciation and amortization expense charged to “Operating, general and administrative expenses” was $23.9 million, or 2.4% of net sales during the third quarter of 2020 compared to $21.4 million, or 2.5% of net sales during the third quarter of 2019. During the first thirty-nine weeks of 2020 and 2019, depreciation and amortization expense charged to “Operating, general and administrative expenses” was $67.3 million, or 2.2% of net sales and $63.9 million, or 2.4% of net sales, respectively. See the Liquidity and Capital Resources section for further information regarding the Company’s capital expansion program.
A breakdown of the material increases (decreases) as a percent of sales in "Operating, general and administrative expenses" is as follows:
Increase
Increase (Decrease)
(Decrease)
as a % of sales
Wages expense
6,495
(0.9)
Fixed expense
3,713
(0.3)
Utilities expense
(345)
(0.2)
30,562
(0.8)
6,441
(0.5)
(1,714)
Fixed expenses include occupancy costs, depreciation and amortization and insurance expenses. Although fixed expenses have increased from a cost perspective, the increase in sales has caused a decrease in the percent of sales rate.
The majority of the operating, general and administrative expenses as a percent of sales presented for the third quarter and first thirty-six weeks of 2020 have benefited in comparison with the 2019 percent of sales due to the increase in sales caused by the novel coronavirus pandemic. Due to the nature of fixed expenses, management expects less variability when analyzed as a percent of sales, relative to the majority of operating, general and administrative expenses.
Provision for Income Taxes
The effective income tax rate was 27.9% and 24.5% for the thirteen weeks ended September 26, 2020 and September 28, 2019, respectively. The effective income tax rate was 26.8% and 24.2% for the first thirty-nine weeks of 2020 and 2019, respectively. Historically, the effective income tax rate differed from the federal statutory rate, primarily due to the effect of state taxes, net of permanent differences.
Liquidity and Capital Resources
The primary source of cash is cash flows generated from operations. In addition, the Company has access to a revolving credit agreement entered into on September 1, 2016, and amended on August 21, 2019, with Wells Fargo Bank, NA (the “Credit Agreement”). The Credit Agreement matures on September 1, 2022 and provides for an unsecured revolving credit facility with an aggregate principal amount not to exceed $30.0 million with an additional discretionary amount available of $70.0 million. As of September 26, 2020, the availability under the revolving credit agreement was $24.1 million with $5.9 million of letters of credit outstanding. The letters of credit are maintained primarily to support performance, payment, deposit or surety obligations of the Company.
The Company’s investment portfolio consists of high-grade bonds with maturity dates between one and 10 years and three long-held high yield, large capitalized public company equity securities. The portfolio totaled $102.4 million as of September 26, 2020. Management anticipates maintaining the investment portfolio but has the ability to liquidate if needed.
The Company’s capital expansion program includes the construction of new superstores, the expansion and remodeling of existing units, the acquisition of sites for future expansion, new technology purchases and the continued upgrade of the Company’s distribution facilities and transportation fleet. Management currently plans to invest approximately $90 million in its capital expansion program in 2020. However, management’s ability to complete its current plans will depend upon the governmental jurisdictions in which the Company operates and preventative shut down mandates by such jurisdictions regarding the novel coronavirus pandemic.
The Company expects that cash generated from operations and cash available under the Credit Agreement will fund its working capital requirements, debt requirements, capital expansion program, acquisitions and dividends. The Company has no other commitment of capital resources as of September 26, 2020, other than the lease commitments on its store facilities and transportation equipment under operating leases that expire at various dates through 2035.
The Board of Directors’ 2004 resolution authorizing the repurchase of up to one million shares of the Company’s common stock has a remaining balance of 752,468 shares. The Company has entered into a brokerage agreement with Wells Fargo Securities, LLC to facilitate possible share repurchases.
Quarterly Cash Dividends
At its regular meeting held in October, the Board of Directors unanimously approved a quarterly dividend of $0.31 per share, payable on November 23, 2020 to shareholders of record on November 9, 2020. The Company expects to continue paying regular cash dividends on a quarterly basis. However, the Board of Directors reconsiders the declaration of dividends quarterly. The Company pays these dividends at the discretion of the Board of Directors and the continuation of these payments and the amount of the dividends depends upon the results of operations, the financial condition of the Company and other factors which the Board of Directors deems relevant.
Liquidity and Capital Resources (continued)
Cash Flow Information
Net cash provided by (used in):
Operating activities
55,434
Investing activities
(43,670)
Financing activities
Operating
Cash flows from operating activities increased $55.4 million in the first thirty-nine weeks of 2020 compared to the first thirty-nine weeks of 2019. Management attributes this increase to increased sales volume resulting from the novel coronavirus pandemic. Sales and profit increased substantially over the same period last year, while inventory levels have decreased in the stores.
Investing
Property and equipment purchases during the first thirty-nine weeks of 2020 totaled $83.6 million compared to $70.1 million in the first thirty-nine weeks of 2019. As a percentage of sales, capital expenditures were 2.7% in the first thirty-nine weeks of both 2020 and 2019. The Company increased its marketable securities portfolio during the first thirty-nine weeks of 2020 and plans to maintain or increase the portfolio through the remainder of the year.
Financing
The Company paid dividends of $25.0 million in both the first thirty-nine weeks of 2020 and the first thirty-nine weeks of 2019. The Company has not had an obligation on the Credit Agreement since the second quarter of 2018.
Accounting Policies and Estimates
The Company has chosen accounting policies that it believes are appropriate to accurately and fairly report its operating results and financial position, and the Company applies those accounting policies in a consistent manner. The Significant Accounting Policies are summarized in Note 1 to the Consolidated Financial Statements included in the 2019 Annual Report on Form 10-K. There have been no changes to the Significant Accounting Policies since the Company filed its Annual Report on Form 10-K for the fiscal year ended December 28, 2019.
Forward-Looking Statements
In addition to historical information, this Form 10-Q Report may contain forward-looking statements, which are included pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. Any forward-looking statements contained herein are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. For example, risks and uncertainties can arise with changes in: general economic conditions, including their impact on capital expenditures; business conditions in the retail industry; the regulatory environment; rapidly changing technology and competitive factors, including increased competition with regional and national retailers; and price pressures. Readers are cautioned not to place undue reliance on forward-looking statements, which reflect management's analysis only as of the date hereof. The Company undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances that arise after the date hereof. Readers should carefully review the risk factors described in other documents the Company files periodically with the Securities and Exchange Commission.
On March 11, 2020, the World Health Organization declared that the novel coronavirus (COVID-19) had become a pandemic, and on March 13, the U.S. President declared a National Emergency concerning the disease. Additionally, in March 2020, state governments in the Company’s geographic operating area began instituting preventative shut down measures in order to combat the novel coronavirus pandemic. Management, at this time, cannot assess the ultimate economic impact to the Company, which will be determined by, among other things, the length of time that such circumstances continue, nor can the Company predict the effects of governmental and public responses to changing conditions. Below is a list of risks that management is monitoring:
Employees - Reduced workforces due to the temporary inability to work caused by illness, quarantine, or government mandates.
Supply Chain – Interruption in the Company’s supply chain due to having to suspend operations at its centrally located distribution center or vendors not being able to supply the Company because of their own suspended operations.
Lawsuits – Future litigation arising from issues concerning the novel coronavirus.
Future government regulation - Future laws, regulations, interpretations, administrative orders, or applications that may have an adverse impact on the Company’s operations and costs.
Customer trends – Changes in the methods in which customers procure the Company’s products.
Cyber security – Increased Cyber-attacks due to “work at home” requirements.
.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Quantitative Disclosure - There have been no material changes in the Company's market risk during the fiscal quarter ended September 26, 2020. Quantitative information is set forth in Item 7a on the Company’s Annual Report on Form 10-K under the caption “Quantitative and Qualitative Disclosures About Market Risk,” which was filed for the fiscal year ended December 28, 2019 and is incorporated herein by reference.
Qualitative Disclosure - This information is set forth in the Company's Annual Report on Form 10-K under the caption “Liquidity and Capital Resources,” within “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” which was filed for the fiscal year ended December 28, 2019 and is incorporated herein by reference.
ITEM 4. CONTROLS AND PROCEDURES
The Chief Executive Officer and the Chief Financial Officer, together with the Company’s Disclosure Committee, evaluated the Company’s disclosure controls and procedures as of the fiscal quarter ended September 26, 2020. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report to ensure that information required to be disclosed by the Company in the reports filed or submitted by it under the Securities Exchange Act of 1934, as amended, was recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by the Company in such reports was accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
In connection with the evaluation described above, there was no change in the Company’s internal control over financial reporting during the fiscal quarter ended September 26, 2020, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II – OTHER INFORMATION
ITEM 1a. RISK FACTORS
In addition to risks and uncertainties in the ordinary course of business common to all businesses, an important update to the risk factors previously disclosed in Item 1a of Part I of our Annual Report on Form 10-K for the year ended December 28, 2019 is listed below, which could materially impact the Company’s future performance. The risk factor below and the risk factors included in our Annual Report on Form 10-K may be important to understanding statements in this Form 10-Q and should be read in conjunction with the unaudited consolidated financial statements and related notes in Part I, Item 1, “Financial Statements” and Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Form 10-Q.
Our business and operations, and the operations of our suppliers, have been, and may in the future be adversely affected by epidemics or pandemics such as the novel coronavirus (COVID-19) pandemic outbreak.
We may face risks related to health epidemics and pandemics or other outbreaks of communicable diseases. The global spread of COVID-19 has created significant volatility, uncertainty and economic disruption. The Company’s business was deemed essential during the novel coronavirus pandemic and the Company is committed to maintaining a safe work and shopping environment. Management, at this time, cannot assess the ultimate economic impact to the Company, which will be determined by, among other things, the length of time that such circumstances continue, nor can the Company predict the effects of governmental and public responses to changing conditions. The risks and uncertainties surrounding the coronavirus pandemic are broad however below is a list of risks management is monitoring which could have a material impact on the Company’s business:
ITEM 6. EXHIBITS
Exhibits
Exhibit 31.1 Rule a-14(a) Certification - CEO
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
(Registrant)
Date:
11/5/2020
/S/Jonathan H. Weis
Jonathan H. Weis
Chairman,
President and Chief Executive Officer
(Principal Executive Officer)
/S/Scott F. Frost
Scott F. Frost
Senior Vice President, Chief Financial Officer
and Treasurer
(Principal Financial Officer)