CRYSTAL ROCK HOLDINGS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The accompanying unaudited consolidated financial statements have been prepared in accordance with Form 10-Q instructions and in the opinion of management contain all adjustments (consisting of only normal recurring accruals) necessary to present fairly the consolidated financial position, results of operations, and cash flows for the periods presented. The results have been determined on the basis of generally accepted accounting principles and practices of the United States of America ("GAAP"), applied consistently with the Annual Report on Form 10-K of Crystal Rock Holdings, Inc. (the "Company") for the year ended October 31, 2015.
Certain information and footnote disclosures normally included in audited consolidated financial statements presented in accordance with GAAP have been condensed or omitted. The accompanying consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended October 31, 2015. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the full year.
The financial statements herewith reflect the consolidated operations and financial condition of Crystal Rock Holdings, Inc. and its wholly owned subsidiary Crystal Rock LLC.
2. GOODWILL AND OTHER INTANGIBLE ASSETS
Major components of other intangible assets consisted of:
| | | April 30, 2016 | | | October 31, 2015 | |
| | | Gross Carrying Amount | | | Accumulated Amortization | | | Wgt.
Avg.
Amort.
Years | | | Gross Carrying Amount | | | Accumulated Amortization | | | Wgt.
Avg.
Amort.
Years | |
| Amortized Intangible Assets: | | | | | | | | | | | | | | | | | | |
| Covenants Not to Compete | | $ | 2,536,488 | | | $ | 2,411,763 | | | | 2.20 | | | $ | 2,536,488 | | | $ | 2,382,570 | | | | 2.54 | |
| Customer Lists | | | 10,313,819 | | | | 8,924,373 | | | | 2.49 | | | | 10,313,819 | | | | 8,639,685 | | | | 2.95 | |
| Other Identifiable Intangibles | | | 608,393 | | | | 287,391 | | | | 23.52 | | | | 608,393 | | | | 271,211 | | | | 24.00 | |
| Total | | $ | 13,458,700 | | | $ | 11,623,527 | | | | | | | $ | 13,458,700 | | | $ | 11,293,466 | | | | | |
Amortization expense for the three month periods ending April 30, 2016 and 2015 was $170,789 and $184,031, respectively. Amortization expense for the six month periods ending April 30, 2016 and 2015 was $330,061 and $368,754, respectively.
There were no changes in the carrying amount of goodwill for the three and six month periods ending April 30, 2016 and 2015.
3. DEBT
On May 20, 2015 the Company amended its Credit Agreement (the "Agreement") with Bank of America to provide a senior financing facility consisting of term debt and a revolving line of credit. Under the Agreement, the Company became obligated on $12,000,000 of debt in the form of a term note to refinance the previous senior term debt and to fund repayment of a portion of its outstanding subordinated debt. Additionally, the Agreement includes a $5,000,000 revolving line of credit that can be used for the purchase of fixed assets, to fund acquisitions, to collateralize letters of credit, and for operating capital.
The Agreement amortizes the term debt over a five year period with 59 equal monthly installments of $133,333 and a final payment of $4,133,333 due in May 2020. The revolving line of credit matures in May 2018. There are various restrictive covenants under the Agreement, and the Company is prohibited from entering into other debt agreements without the bank's consent. The Agreement also prohibits the Company from paying dividends without the prior consent of the bank.
At April 30, 2016, there was no balance outstanding on the line of credit and a letter of credit was issued for $1,415,000 to collateralize the Company's liability insurance program as of that date. Consequently, as of April 30, 2016, there was $3,585,000 available to borrow from the revolving line of credit. There was $10,533,000 outstanding on the term note as of April 30, 2016.
On September 16, 2015, the Company amended its Credit Agreement with Bank of America (as so amended, the "Amendment"), effective as of July 31, 2015. Under the Amendment, interest is paid at a rate of one-month LIBOR plus a margin based on the achievement of a specified leverage ratio. As of April 30, 2016, the margin was 3.50% for the term note and 3.25% for the revolving line of credit. The Company fixed the interest rate on a portion of its term debt by purchasing an interest rate swap as of the date of the Agreement. As of April 30, 2016, the Company had $5,266,669 of the term debt subject to variable interest rates. The one-month LIBOR was .4352% on the last business day of April 2016 resulting in total variable interest rates of 3.9352% and 3.6852%, for the term note and the revolving line of credit, respectively, as of April 30, 2016.
The Amendment requires the Company to be in compliance with certain financial covenants at the end of each quarter. The covenants include rolling four quarter EBITDA of $4,000,000 as of April 30, 2016 and minimum liquidity (as defined) of at least $1,000,000. The Amendment also requires specific EBITDA goals each quarter through the quarter ending October 31, 2016 and minimum liquidity (as defined) of no less than $1,000,000 through January 30, 2017. As of April 30, 2016, the Company was in compliance with these covenants and the terms of the Amendment.
Effective for the quarter ending January 31, 2017, the quarterly covenants will include senior debt service coverage as defined of greater than 1.25 to 1, total debt service coverage, as defined, of greater than 1.05 to 1, and senior debt to EBITDA of less than 2.50 to 1.
The Amendment also restricts payments of interest on Subordinated Notes and Company acquisitions until certain conditions are met.
In addition to the senior debt, as of April 30, 2016, the Company has subordinated debt owed to Henry, Peter and John Baker in the aggregate principal amount of $9,832,000 that is due November 20, 2020. The interest rate on each of these notes is 12% per annum. On September 16, 2015, the Company amended its Subordinated Notes held by related parties. Future interest payments on the notes will not be paid but will be added to the principal balance of the Subordinated Notes as of the date the payment is due until the following conditions are met: (1) the ratio of consolidated operating cash flow to consolidated total debt service is not less than 1.2 to 1 and (2) historical consolidated EBITDA of greater than $6,000,000 for two consecutive reference periods. As of April 30, 2016, $833,000 of accrued interest had been added to the principal balance of the Subordinated Notes.
4. INVENTORIES
Inventories consisted of the following at:
| | | April 30, | | | October 31, | |
| | | 2016 | | | 2015 | |
| Finished Goods | | $ | 2,232,290 | | | $ | 2,453,974 | |
| Raw Materials | | | 117,912 | | | | 157,707 | |
| Total Inventories | | $ | 2,350,202 | | | $ | 2,611,681 | |
Finished goods inventory consists of products that the Company sells such as, but not limited to, coffee, cups, soft drinks, and snack foods. Raw material inventory consists primarily of bottle caps. The amount of raw and bottled water on hand does not represent a material amount of inventory. The Company estimates that value as of April 30, 2016 and October 31, 2015 to be $53,000 and $65,000, respectively. This value includes the cost of allocated overhead. Bottles are accounted for as fixed assets.
5. ON-BALANCE SHEET DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
Derivative Financial Instruments
The Company has stand-alone derivative financial instruments in the form of an interest rate swap agreement, which derives its value from underlying interest rates. This transaction involves both credit and market risk. The notional amount is an amount on which calculations, payments, and the value of the derivative are based. The notional amount does not represent direct credit exposure. Direct credit exposure is limited to the net difference between the calculated amount to be received and paid, if any. Such difference, which represents the fair value of the derivative instrument, is reflected on the Company's consolidated balance sheet as an unrealized gain or loss on derivatives.
The Company is exposed to credit-related losses in the event of nonperformance by the counterparties to these agreements. The Company controls the credit risk of its financial contracts through credit approvals, limits and monitoring procedures, and currently has no reason to believe that any counterparties will fail to fulfill their obligations.
This interest rate swap agreement is considered a cash flow hedge to hedge against the variability of interest rates on outstanding debt. The net unrealized loss relating to interest rate swaps was recorded in current and long term liabilities with an offset to other comprehensive income for the effective portion of the hedge. At April 30, 2016, these cash flow hedges were deemed 100% effective. The portion of the net unrealized loss in current liabilities is the amount expected to be reclassified to income within the next twelve months.
The following information pertains to the Company's outstanding interest rate swap at April 30, 2016. The pay rate is fixed and the receive rate is one month LIBOR.
| Instrument Rate | Notional Amount | Pay Rate | Receive Rate |
| Interest rate swap | $5,266,668 | 1.25% | .4352% |
The table below details the adjustments to other comprehensive income (loss), on a before tax and net-of tax basis, for the fiscal quarters ended April 30, 2016 and 2015.
| | | Before-Tax | | | Tax Benefit | | | Net-of-Tax | |
Three Months Ended April 30, 2015 | | | | | | | | | |
| Loss on interest rate swap | | $ | (2,169 | ) | | $ | 868 | | | $ | (1,301 | ) |
| Reclassification adjustment for loss in income | | | 7,444 | | | | (2,978 | ) | | | 4,466 | |
| Net unrealized gain | | $ | 5,274 | | | $ | (2,110 | ) | | $ | 3,165 | |
Three Months Ended April 30, 2016 | | | | | | | | | | | | |
| Loss on interest rate swap | | $ | (3,899 | ) | | $ | 1,560 | | | $ | (2,339 | ) |
| Reclassification adjustment for loss in income | | | 8,082 | | | | (3,233 | ) | | | 4,849 | |
| Net unrealized gain | | $ | 4,183 | | | $ | (1,673 | ) | | $ | 2,510 | |
The reclassification adjustments of $8,082 and $7,444 represent interest the Company paid in excess of the amount that would have been paid without the interest rate swap agreement during the quarters ended April 30, 2016 and 2015, respectively. These amounts were reclassified from accumulated other comprehensive loss and recorded in the consolidated statements of operations as interest expense. No other material amounts were reclassified during the quarters ended April 30, 2016 and 2015.
The table below details the adjustments to other comprehensive income (loss), on a before tax and net-of tax basis, for the six months ended April 30, 2016 and 2015.
| | | Before-Tax | | | Tax Benefit | | | Net-of-Tax | |
Six Months Ended April 30, 2015 | | | | | | | | | |
| Loss on interest rate swap | | $ | (5,464 | ) | | $ | 2,186 | | | $ | (3,278 | ) |
| Reclassification adjustment for loss in income | | | 15,563 | | | | (6,226 | ) | | | 9,337 | |
| Net unrealized gain | | $ | 10,099 | | | $ | (4,040 | ) | | $ | 6,059 | |
Six Months Ended April 30, 2016 | | | | | | | | | | | | |
| Loss on interest rate swap | | $ | (54,942 | ) | | $ | 21,977 | | | $ | (32,965 | ) |
| Reclassification adjustment for loss in income | | | 12,915 | | | | (5,166 | ) | | | 7,749 | |
| Net unrealized loss | | $ | (42,027 | ) | | $ | 16,811 | | | $ | (25,216 | ) |
The reclassification adjustments of $12,915 and $15,563 represent interest the Company paid in excess of the amount that would have been paid without the interest rate swap agreement during the six months ended April 30, 2016 and 2015, respectively. These amounts were reclassified from accumulated other comprehensive loss and recorded in the consolidated statements of operations as interest expense. No other material amounts were reclassified during the quarters ended April 30, 2016 and 2015.
6. FAIR VALUES OF ASSETS AND LIABILITIES
Fair Value Hierarchy
The Company's assets and liabilities measured at fair value on a recurring basis are as follows:
| | | Level 1 | | | Level 2 | | | Level 3 | |
| Liabilities: | | | | | | | | | |
April 30, 2016 | | | | | | | | | |
| Unrealized loss on derivatives | | $ | - | | | $ | 50,939 | | | $ | - | |
| | | | |
October 31, 2015 | | | |
| Unrealized loss on derivatives | | $ | - | | | $ | 8,912 | | | $ | - | |
In determining the fair value, the Company uses a model that calculates a present value of the payments as they amortize through the life of the loan (float) based on the variable rate and compares them to the calculated value of the payment based on the fixed rate (fixed) defined in the swap. In calculating the present value, in addition to the term, the model relies on other data – the "rate" and the "discount factor."
| § | In the "float" model, the rate reflects where the market expects LIBOR to be for the respective period and is based on the Eurodollar futures market. |
| § | The discount factor is a function of the volatility of LIBOR. |
Payments are calculated by applying the rate to the notional amount and adjusting for the term. Then the present value is calculated by using the discount factor.
There were no assets or liabilities measured at fair value on a nonrecurring basis.
7. INCOME (LOSS) PER SHARE AND WEIGHTED AVERAGE SHARES
The Company considers outstanding in-the-money stock options as potential common stock in its calculation of diluted earnings per share, unless the effect would be anti-dilutive, and uses the treasury stock method to calculate the applicable number of shares. The following calculation provides the reconciliation of the denominators used in the calculation of basic and fully diluted earnings per share:
| | | Three Months Ended April 30, | | | Six Months Ended April 30, | |
| | | 2016 | | | 2015 | | | 2016 | | | 2015 | |
| Net Income (Loss) | | $ | 239,251 | | | $ | (641,334 | ) | | $ | 209,723 | | | $ | (1,067,944 | ) |
| Denominator: | | | | | | | | | | | | | | | | |
| Basic Weighted Average Shares Outstanding | | | 21,358,411 | | | | 21,358,411 | | | | 21,358,411 | | | | 21,358,411 | |
| Dilutive effect of Stock Options | | | - | | | | - | | | | - | | | | - | |
| Diluted Weighted Average Shares Outstanding | | | 21,358,411 | | | | 21,358,411 | | | | 21,358,411 | | | | 21,358,411 | |
| Basic Income (Loss) Per Share | | $ | .01 | | | $ | (.03 | ) | | $ | .01 | | | $ | (.05 | ) |
| Diluted Income Per (Loss) Share | | $ | .01 | | | $ | (.03 | ) | | $ | .01 | | | $ | (.05 | ) |
As of April 30, 2016 there were no options outstanding. As of April 30, 2015 there were 46,250 options outstanding. For the three and six month periods ended April 30, 2015 there were no options used to calculate the effect of dilution because the Company had a net loss.
8. COMPENSATION PLANS
The Company measures the cost of employee services received in exchange for an award of equity instruments based on the grant date fair value of the award. That cost is recognized over the period during which an employee is required to provide services in exchange for the award, the requisite service period (usually the vesting period). The Company provides an estimate of forfeitures at the initial date of grant.
In April 2004, the Company's stockholders approved the 2004 Stock Incentive Plan. The plan provided for issuances of awards of up to 250,000 restricted or unrestricted shares of the Company's common stock, or incentive or non-statutory stock options to purchase such common stock. None of the total amount of options is outstanding. As of February 18, 2014, no further options may be granted under the 2004 Plan.
In April 2014, the Company's stockholders approved the 2014 Stock Incentive Plan. The plan provided for issuances of awards of up to 500,000 restricted or unrestricted shares of the Company's common stock, or incentive or non-statutory stock options to purchase such common stock. Of the total amount of shares authorized under this plan, no options have been granted and 500,000 shares are available for grant at April 30, 2016.
The options issued under the plans generally vest in periods up to five years based on the continuous service of the recipient and have 10 year contractual terms. Share awards generally vest over one year. Option and share awards provide for accelerated vesting if there is a change in control of the Company (as defined in the plans).
There was one option grant, for a total of 10,000 shares, that was forfeited in the first six months of 2016 and eight option grants, for a total of 201,500 shares that expired in the first six months of 2015. Other than the forfeitures and expirations, there was no activity related to stock options and outstanding stock option balances during the three and six month periods ended April 30, 2016 and 2015. The Company did not grant any equity based compensation during the six months ended April 30, 2016 and 2015.
Compensation is determined using the Black-Scholes model and the simplified method to derive the expected term of the options and historical volatility over the past five years.
All incentive and non-qualified stock option grants had an exercise price equal to the market value of the underlying common stock on the date of grant.
| 9. | RECENT ACCOUNTING PRONOUNCEMENTS |
In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers (Topic 606)", which stipulates that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve this core principle, an entity should apply the following steps: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract and (5) recognize revenue when (or as) the entity satisfies a performance obligation. In August 2015, the FASB issued ASU 2015-14, which deferred the effective date of the ASU to fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2016. Companies may use either a full retrospective or a modified retrospective approach to adopt this ASU. The Company is currently evaluating the transition methods and the impact of the standard on its consolidated financial statements.
In July 2015, the FASB issued ASU 2015-11, "Simplifying the Measurement of Inventory". The ASU requires entities using the first-in, first-out (FIFO) inventory costing method to subsequently value inventory at the lower of cost and net realizable value. The ASU defines net realizable value as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This ASU requires prospective application and is effective for fiscal years beginning after December 15, 2016 and interim periods within those fiscal years, with early adoption permitted. The adoption of this guidance by the Company is not expected to have a material impact on its consolidated financial statements.
In November 2015, the FASB issued ASU 2015-17, "Balance Sheet Classification of Deferred Taxes", which simplifies the presentation of deferred income taxes. This ASU requires that deferred tax assets and liabilities be classified as non-current in a statement of financial position. The Company is currently in the process of evaluating the effect this guidance will have on its consolidated financial statements and related disclosures.
In February 2016, the FASB issued ASU 2016-02, "Leases", which is intended to improve financial reporting about leasing transactions. The ASU requires that leased assts be recognized as assets on the balance sheet and the liabilities for the obligations under the lease also be recognized on the balance sheet. This ASU requires disclosures to help investors and other financial statement users better understand the amount, timing, and uncertainty of cash flows arising from leases. The required disclosures include qualitative and quantitative requirements. This ASU is effective for fiscal years beginning after December 15, 2019 and interim periods within the fiscal years beginning after December 15, 2020.
In March 2016, the FASB issued accounting guidance in order to simplify certain aspects of the accounting and presentation of share-based payments, including the income tax consequences, classification of awards as either equity or liabilities and classification on the statement of cash flows. This accounting guidance is effective for fiscal periods beginning after December 15, 2016, and interim periods within those years. This guidance may be applied either on a prospective basis, retrospective basis or a modified retrospective basis depending on the specific accounting topic covered in the accounting guidance. Early adoption is permitted. The Company is currently evaluating the impact of adopting this accounting guidance in the first quarter of 2018.
| 10. | SIGNIFICANT ACCOUNTING POLICIES |
Uncollectible Trade Accounts Receivable - Individual accounts receivable are written off when deemed uncollectible, with any future recoveries recorded as income when received.
For more details regarding the Company's accounts receivable policies refer to Note 2, Significant Accounting Policies, in the financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended October 31, 2015.
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis should be read in conjunction with the consolidated financial statements and notes thereto as filed in our Annual Report on Form 10-K for the year ended October 31, 2015 as well as the consolidated financial statements and notes contained herein.
Forward-Looking Statements
The "Management's Discussion and Analysis" (MD&A) portion of this Form 10-Q contains forward-looking statements, including statements about these topics:
| (1) | the lower gross profits of products that we are offering in connection with our brand expansion and response to competition in our marketplace, |
| (2) | the outstanding debt levels may adversely impact the business profitability and ability to finance future expansion, |
| (3) | the cost pressures related to commodities affecting our business, and |
| (4) | the potential adverse effect of weather on our sales and costs. |
The following factors could cause actual results to differ materially from statements in MD&A about topic (1): The volume of and revenues from products that we sell may be greater or less than we anticipate. If greater, the effect will likely reduce our gross margin percentage overall as a result of lower prices in response to competition; if less, the effect on our gross margin percentage should be less significant, although in that case our results of operations could be adversely affected due to lower revenues. We also incorporate by reference into this paragraph the full Risk Factors on pages 12 through 15 of our Annual Report on Form 10-K for the Fiscal Year Ended October 31, 2015 (our 2015 Form 10-K) beginning "We operate in a competitive business environment that is influenced by conditions some of which are controllable and others are beyond our control."; "The office products business is highly competitive"; "Acquisitions may disrupt our operations or adversely affect our results"; and "We also face significant competition in the water and office refreshment business".
The following factors could strain liquidity and working capital availability in MD&A about topic (2): We incorporate by reference into this paragraph the full Risk Factor on page 17 of our 2015 Form 10-K beginning "Our Company is significantly leveraged".
The following factors could cause actual results to differ materially from statements in MD&A about topic (3): We incorporate by reference into this paragraph the full Risk Factor on page 18 of our 2015 Form 10-K beginning "Fluctuations in the cost of essential raw materials and commodities".
The following factors could cause actual results to differ materially from statements in MD&A about topic (4): We incorporate by reference into this paragraph the full Risk Factor on page 19 of our 2015 Form 10-K beginning "Our business has been and may continue to be affected from time to time by extremes of weather".
Results of Operations
Overview and Trends
Our strategy of improving both operating income and profit margin percentages by avoiding "commodity pricing," providing value-added service, and working to operate a leaner, more efficient business continues to show encouraging results with meaningful improvement.
The first six months of 2016 were marked by a significant increase in gross margin percentage, which improved to 48.2% from 44.3% in the corresponding period of 2015. Results were also positively affected by sharp decreases in selling, general and administrative expenses (lower by $2,286,000, or 14%) and total operating expenses (lower by $2,425,000, or 14%) when the corresponding six-month periods are compared.
The effect of these changes was a $2,096,000 improvement in operating income, despite a 10% reduction in sales in the first half of 2016 compared to the corresponding half of 2015. We also improved net income by $1,278,000, to $210,000 in the first six months of 2016.
The decline in sales and the improvement in margin percentages reflected a decision to emphasize the service aspect of our business to a greater extent, with less emphasis on meeting the lowest prices offered by our competitors. The sales decrease was in all major product lines except water. Notably, despite a decrease in revenues of $3,584,000 in the first half of 2016 compared to the first half of 2015, our dollar gross profit declined by just $328,000. The 2016 sales mix attributable to the decrease in all product sales, except water, resulted in a much improved gross profit as a percentage of sales.
Operating a leaner, more efficient business with lower operating costs more than offset the effects of slightly lower margin dollars, resulting in positive operating income and net income for the first half of 2016 compared to an operating loss and a net loss for the same period of 2015.
Results of Operations for the Three Months Ended April 30, 2016 (Second Quarter) Compared to the Three Months Ended April 30, 2015
Sales
Sales for the three months ended April 30, 2016 were $16,711,000 compared to $18,729,000 for the corresponding period in 2015, a decrease of $2,018,000 or 11%. Other than water and other revenues, all sales categories declined. The most notable decline was that of office products.
The comparative breakdown of sales of the product lines for the respective three-month periods ended April 30, 2016 and 2015 is as follows:
Product Line (000's $) | | 2016 | | | 2015 | | | Difference | | | % Diff. | |
| Water | | $ | 6,905 | | | $ | 6,647 | | | $ | 258 | | | | 4 | % |
| Coffee | | | 2,993 | | | | 3,558 | | | | (565 | ) | | | (16 | %) |
| Refreshment | | | 2,507 | | | | 2,794 | | | | (287 | ) | | | (10 | %) |
Equipment Rental | | | 1,744 | | | | 1,870 | | | | (126 | ) | | | (7 | %) |
| Office Products | | | 2,053 | | | | 3,370 | | | | (1,317 | ) | | | (39 | %) |
| Other | | | 509 | | | | 490 | | | | 19 | | | | 4 | % |
| Total | | $ | 16,711 | | | $ | 18,729 | | | $ | (2,018 | ) | | | (11 | %) |
Water – Sales of water increased 4% for the second quarter 2016 as compared to the same period of 2015. The increase is attributable to an average price increase of just under 2% and a volume increase of 2%.
Coffee – The decrease in sales was attributable to a decline in our traditional higher volume lines, bulk and K-cup, while Cool Beans® pods increased 6%. Bulk products sales continued to be negatively influenced by the single serve lines and K-cup sales declined as a result of ongoing commoditization. The increase in pod sales is a result of conversion of the other lines as well as new sales but the volume of the product, to date, has not approached that of the other coffee products.
Refreshment – Complementary coffee products, single serve drinks, cups, and vending sales all declined while small packaged water sales, such as ½ liter cases of water, increased 9%.
Equipment Rental – The decrease in sales was a result of a 3% decrease in price and 4% decrease in number of rental units in the field. During the past twelve months the Company has lost units mostly due to the loss of competitive bids.
Office Products – The decrease in sales was a result of implemented price increases on items previously sold at cost or near cost.
Other – The increase is attributable to an increase in late payment finance charges partially offset by a decrease in the fees that are charged to offset energy costs for delivery and freight, raw materials, and bottling operations.
Gross Profit/Cost of Goods Sold – Despite a decrease in sales for the three months ended April 30, 2016, gross profit increased to $8,229,000 from $8,112,000 for the comparable period in 2015. As a percentage of sales, gross margin was 49% compared to 43% for the same period a year ago. The increase in gross profit of $117,000 was primarily due to lower sales of lower margin items combined with an increase in water sales. The increase in water volume combined with lower fuel costs for the transportation of water also led to greater cost efficiencies in production. For the comparable three month periods, water accounted for 41% and 36% of total sales in 2016 and 2015, respectively.
Cost of goods sold includes all costs to bottle water, costs of purchasing and receiving products for resale, including freight, as well as costs associated with product quality, warehousing and handling costs, internal transfers, and the repair and service of rental equipment, but does not include the costs of distributing our product to our customers. We include distribution costs in selling, general, and administrative expense, and the amount is reported below. The reader should be aware that other companies may include distribution costs in their cost of goods sold, in which case, on a comparative basis, such other companies may have a lower gross margin as a result.
Operating Expenses and Income from Operations
Total operating expenses decreased to $7,436,000 in the second quarter of 2016 from $8,763,000 in the comparable period in 2015, a decrease of $1,327,000, or 15%.
Selling, general and administrative (SG&A) expenses of $7,150,000 in the second quarter of 2016 decreased $1,285,000, or 15%, from $8,435,000 in the comparable period in 2015. Of total SG&A expenses, route distribution costs decreased $421,000, or 11%, as a result of lower labor, truck operating and fuel costs; combined selling and marketing costs decreased $505,000, or 36%, as a result of reduced staffing; and administration costs decreased $359,000, or 11%, as a result of lower labor and insurance costs and reduced professional fees.
Advertising expenses were $115,000 in the second quarter of 2016 compared to $143,000 in the second quarter of 2015, a decrease of $28,000, or 19%. The decrease in advertising costs is primarily related to a decrease in outsourced services and more reliance on social media.
Amortization decreased to $171,000 in the second quarter of 2016 from $184,000 in the comparable quarter in 2015, a decline of $13,000, or 7%. Amortization is attributable to intangible assets that were acquired as part of acquisitions. The lower amortization in 2016 is attributable to some intangible assets becoming fully amortized during 2015. In addition, we had a gain of $1,000, from the sale of assets in the second quarter of 2016, we recognized no gains on similar sales in the second quarter of 2015. We routinely sell assets used in the normal course of business as they are replaced with newer assets.
The income from operations for the three months ended April 30, 2016 was $793,000 compared to a loss from operations of $651,000 in the comparable period in 2015, an improvement of $1,444,000. The improvement was the result of a higher gross profit due to a change in product mix and lower operating expenses.
Interest, Taxes, and Other Expenses
Interest expense was $406,000 for the three months ended April 30, 2016 compared to $384,000 in the three months ended April 30, 2015, an increase of $22,000. The increase is attributable to higher debt and a higher weighted average of interest rates.
The income before income taxes was $387,000 for the three months ended April 30, 2016 compared to a loss before income taxes of $1,034,000 in the corresponding period in 2015, an improvement of $1,421,000. The tax expense for the second quarter of 2016 was $148,000 compared to a tax benefit of $393,000 in 2015. The expected effective tax rates used was the same in both 2016 and 2015.
Net Income (Loss)
The net income for the three months ended April 30, 2016 was $239,000 compared to a net loss of $641,000 in the corresponding period in 2015. The improvement is attributable to a higher gross profit and reduced operating expenses despite lower sales the second quarter of 2016 as compared to the same period in fiscal year 2015.
Results of Operations for the Six Months Ended April 30, 2016 (First Half) Compared to the Six Months Ended April 30, 2015
Sales
Sales for the six months ended April 30, 2016 were $32,842,000 compared to $36,427,000 for the corresponding period in 2015, a decrease of $3,585,000 or 10%. Other than water revenues, all sales categories declined. The most notable decline was that of office products.
The comparative breakdown of sales of the product lines for the respective six-month periods ended April 30, 2016 and 2015 is as follows:
Product Line (000's $) | | 2016 | | | 2015 | | | Difference | | | % Diff. | |
| Water | | $ | 13,053 | | | $ | 12,783 | | | $ | 270 | | | | 2 | % |
| Coffee | | | 5,913 | | | | 6,982 | | | | (1,069 | ) | | | (15 | %) |
| Refreshment | | | 4,876 | | | | 5,447 | | | | (571 | ) | | | (10 | %) |
| Equipment Rental | | | 3,535 | | | | 3,809 | | | | (274 | ) | | | (7 | %) |
| Office Products | | | 4,533 | | | | 6,336 | | | | (1,803 | ) | | | (28 | %) |
| Other | | | 932 | | | | 1,070 | | | | (138 | ) | | | (13 | %) |
| Total | | $ | 32,842 | | | $ | 36,427 | | | $ | (3,585 | ) | | | (10 | %) |
Water – Sales of water increased 2% for the first half 2016 as compared to the same period of 2015. The increase is attributable to an average price increase of 1% and a volume increase of 1%.
Coffee – The decrease in sales was attributable to a decline in our traditional higher volume lines, bulk and K-cup, while Cool Beans® pods increased 8%. Bulk products sales continued to be negatively influenced by the single serve lines and K-cup sales declined as a result of ongoing commoditization. The increase in pod sales is a result of conversion of the other lines as well as new sales but the volume of the product, to date, has not approached that of the other coffee products.
Refreshment – Complementary coffee products, single serve drinks, cups, and vending sales all declined while sales of small packaged water, such as ½ liter cases of water, increased 5%.
Equipment Rental – The decrease in sales was a result of a 3% decrease in price and 4% decrease in number of rental units in the field. During the past twelve months the Company has lost units mostly due to the loss of incumbent competitive bids.
Office Products – The decrease in sales was a result of implemented price increases on items previously sold at cost or near cost.
Other – The decrease is the result of a decrease in the fees that are charged to offset energy costs for delivery and freight, raw materials, and bottling operation as well as other miscellaneous revenue streams partially offset by an increase in late payment finance charges.
Gross Profit/Cost of Goods Sold – The decrease in sales for the six months ended April 30, 2016 resulted in a gross profit decrease of $329,000 to $15,818,000 from $16,147,000 for the comparable period in 2015. As a percentage of sales, gross margin was 48% compared to 44% for the same period a year ago. Due to a changing sales mix with a reduction of lower margin sales items, the gross margin percentage increased in 2016 as compared to 2015.
Cost of goods sold includes all costs to bottle water, costs of purchasing and receiving products for resale, including freight, as well as costs associated with product quality, warehousing and handling costs, internal transfers, and the repair and service of rental equipment, but does not include the costs of distributing our product to our customers. We include distribution costs in selling, general, and administrative expense, and the amount is reported below. The reader should be aware that other companies may include distribution costs in their cost of goods sold, in which case, on a comparative basis, such other companies may have a lower gross margin as a result.
Operating Expenses and Income from Operations
Total operating expenses decreased to $14,676,000 in the first half of 2016 from $17,101,000 in the comparable period in 2015, a decrease of $2,425,000, or 14%.
Selling, general and administrative (SG&A) expenses of $14,099,000 in the first half of 2016 decreased $2,286,000, or 14%, from $16,385,000 in the comparable period in 2015. Of total SG&A expenses, route distribution costs decreased $574,000, or 8%, as a result of lower labor, truck operating and fuel costs; combined selling and marketing costs decreased $1,023,000, or 37%, as a result of reduced staffing; and administration costs decreased $689,000, or 11%, as a result of lower labor and insurance costs and reduced professional fees.
Advertising expenses were $251,000 in the first half of 2016 compared to $397,000 in the first half of 2015, a decrease of $146,000, or 37%. The decrease in advertising costs is primarily related to a decrease in outsourced services and more reliance on social media.
Amortization decreased to $330,000 in the first half of 2016 from $369,000 in the comparable quarter in 2015, a decline of $39,000, or 11%. Amortization is attributable to intangible assets that were acquired as part of acquisitions. The lower amortization in 2016 is attributable to some intangible assets becoming fully amortized during 2015. In addition, we had a gain of $4,000, from the sale of assets in the first half of 2016 compared to a gain of $50,000 on asset sales in the first half of 2015. We routinely sell assets used in the normal course of business as they are replaced with newer assets.
The income from operations for the six months ended April 30, 2016 was $1,142,000 compared to a loss from operations of $954,000 in the comparable period in 2015, an improvement of $2,096,000. The improvement was the result of lower operating expenses partially offset by a lower gross profit attributable to lower sales.
Interest, Taxes, and Other Expenses
Interest expense was $804,000 for the six months ended April 30, 2016 compared to $768,000 in the six months ended April 30, 2015, an increase of $36,000. The increase is attributable to higher debt and a higher weighted average of interest rates.
The income before income taxes was $338,000 for the six months ended April 30, 2016 compared to a loss before income taxes of $1,722,000 in the corresponding period in 2015, an improvement of $2,060,000. The tax expense for the first six months of 2016 was $129,000 compared to a tax benefit of $655,000 in 2015. The expected effective tax rates used was the same in both 2016 and 2015.
Net Income (Loss)
The net income for the six months ended April 30, 2016 was $210,000 compared to a net loss of $1,068,000 in the corresponding period in 2015. The improvement is attributable to reduced operating expenses partially offset by slightly lower gross profit on significantly lower sales the first half of 2016 as compared to the same period in fiscal year 2015.
Liquidity and Capital Resources
As of April 30, 2016, we had working capital of $9,152,000 compared to $8,351,000 as of October 31, 2015, an increase of $801,000. The most significant change in working capital was due to the increase in cash of $1,043,000 during the six month period ending April 30, 2016. The more profitable operations and the deferral of cash subordinated interest payments were significant contributors to the increase in cash. Also during the six month period, we used $854,000 for capital expenditures and $800,000 for repayment of senior debt.
Our Credit Agreement with Bank of America (the "Bank") provides a senior financing facility consisting of term debt and a revolving line of credit. As of April 30, 2016 we had $10,533,000 outstanding on our term loan. We have no funds borrowed from our line of credit with the Bank. We have a letter of credit of $1,415,000 secured by our line of credit resulting in $3,585,000 available to borrow on the line of credit as of April 30, 2016.
Our term debt amortizes over a five year period with 59 equal monthly installments of $133,333 and a final payment of $4,133,333 due in May 2020. The revolving line of credit matures in May 2018. There are various restrictive covenants under the Agreement, and the Company is prohibited from entering into other debt agreements without the Bank's consent. The Agreement also prohibits the Company from paying dividends without the prior consent of the Bank.
On September 16, 2015, the Company amended its Credit Agreement with Bank of America (as so amended, the "Amendment"), effective as of July 31, 2015. Under the Amendment, interest is paid at a rate of one-month LIBOR plus a margin based on the achievement of a specified leverage ratio. As of April 30, 2016, the margin was 3.50% for the term note and 3.25% for the revolving line of credit. The Company fixed the interest rate on a portion of its term debt by purchasing an interest rate swap as of the date of the Agreement. As of April 30, 2016, the Company had $5,266,669 of the term debt subject to variable interest rates. The one-month LIBOR was .4352% on the last business day of April 2016 resulting in total variable interest rates of 3.9352% and 3.6852%, for the term note and the revolving line of credit, respectively, as of April 30, 2016.
The following information pertains to the Company's outstanding interest rate swap at April 30, 2016. The pay rate is fixed and the receive rate is one month LIBOR.
| Instrument Rate | Notional Amount | Pay Rate | Receive Rate |
| Interest rate swap | $5,266,668 | 1.25% | .4352% |
The Amendment requires the Company to be in compliance with certain financial covenants at the end of each quarter. The covenants include rolling four quarter EBITDA of $4,000,000 as of April 30, 2016 and minimum liquidity (as defined) of at least $1,000,000. The Amendment also requires specific EBITDA goals each quarter through the quarter ending October 31, 2016 and minimum liquidity (as defined) of no less than $1,000,000 through January 30, 2017. As of April 30, 2016, the Company was in compliance with these covenants and the terms of the Amendment.
Effective for the quarter ending January 31, 2017, the quarterly covenants will include senior debt service coverage as defined of greater than 1.25 to 1, total debt service coverage, as defined, of greater than 1.05 to 1, and senior debt to EBITDA of less than 2.50 to 1.
The Amendment also restricts payments of interest on Subordinated Notes and Company acquisitions until certain conditions are met.
In addition to the senior debt, as of April 30, 2016, the Company has subordinated debt owed to Henry, Peter and John Baker in the aggregate principal amount of $9,832,000 that is due November 20, 2020. The interest rate on each of these notes is 12% per annum. On September 16, 2015, the Company amended its Subordinated Notes held by related parties. Future interest payments on the notes will not be paid but will be added to the principal balance of the Subordinated Notes as of the date the payment is due until the following conditions are met: (1) the ratio of consolidated operating cash flow to consolidated total debt service of not less than 1.2 to 1 and (2) historical consolidated EBITDA of greater than $6,000,000 for two consecutive reference periods. As of April 30, 2016, $833,000 of accrued interest had been added to the principal balance of the Subordinated Notes.
In addition to our senior and subordinated debt commitments, we have significant future cash commitments, primarily in the form of operating leases that are not reported on the consolidated balance sheet. The following table sets forth our contractual commitments in the remainder of the current year and future fiscal years as of April 30, 2016:
| | Payment due by Period | |
Contractual Obligations (2) | | Total | | | Remainder of 2016 | | | | 2017-2018 | | | | 2019-2020 | | | After 2020 | |
| Debt | | $ | 20,365,000 | | | $ | 800,000 | | | $ | 3,200,000 | | | $ | 6,533,000 | | | $ | 9,832,000 | |
| Interest on Debt (1) | | | 6,590,000 | | | | 810,000 | | | | 3,065,000 | | | | 2,715,000 | | | | - | |
| Operating Leases | | | 6,998,000 | | | | 1,484,000 | | | | 3,516,000 | | | | 1,766,000 | | | | 232,000 | |
| Total | | $ | 33,953,000 | | | $ | 3,094,000 | | | $ | 9,781,000 | | | $ | 11,014,000 | | | $ | 10,064,000 | |
| (1) | Interest based on 50% of outstanding senior debt at the hedged interest rate discussed above, 50% of outstanding senior debt at a variable rate of 3.93%, line of credit at a rate of 3.68%, and subordinated debt at a rate of 12%. |
| (2) | Customer deposits have been excluded from the table. Deposit balances vary from period to period with water sales but future increases and decreases in the balances are not accurately predictable. Deposits are excluded because, net of periodic additions and reductions, it is probable that a customer deposit balance will always be outstanding as long as the business operates. |
We have no other material contractual obligations or commitments.
Item 3. Quantitative and Qualitative Disclosures about Market Risks.
Pursuant to Regulation S-K, Item 305(e), smaller reporting companies are not required to provide this information.
Item 4. Controls and Procedures.
Our Chief Executive Officer and our Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures, as of the end of the period covered by this report, were adequate and effective to provide reasonable assurance that information required to be disclosed by us, including our consolidated subsidiary, in reports that we file or submit under the Exchange Act, is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms, and that information we are required to disclose in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our Chief Executive and Chief Financial officers, as appropriate to allow timely decisions regarding required disclosure.
The effectiveness of a system of disclosure controls and procedures is subject to various inherent limitations, including cost limitations, judgments used in decision making, assumptions about the likelihood of future events, the soundness of internal controls, and fraud. Due to such inherent limitations, there can be no assurance that any system of disclosure controls and procedures will be successful in preventing all errors or fraud, or in making all material information known in a timely manner to the appropriate levels of management.
Changes in Internal Control over Financial Reporting.
No change in our internal control over financial reporting occurred during the six month period ended April 30, 2016 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
PART II – OTHER INFORMATION
Item 1. Legal Proceedings.
None.
Item 1A. Risk Factors.
There was no change in the six months ended April 30, 2016 from the Risk Factors reported in our Annual Report on Form 10-K for the year ended October 31, 2015.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Mine Safety Disclosures.
None.
Item 5. Other Information.
None.
Item 6. Exhibits.
Exhibit
Number Description
| 3.1 | Certificate of Incorporation (Incorporated by reference to Exhibit B to Appendix A to our registration statement on Form S-4, File No. 333-45226, filed with the SEC on September 6, 2000) |
| 3.2 | Certificate of Amendment of Certificate of Incorporation (Incorporated by reference to Exhibit 4.2 of our current report on Form 8-K, filed with the SEC on October 19, 2000) |
| 3.3 | Certificate of Ownership and Merger of Crystal Rock Holdings, Inc. with and into Vermont Pure Holdings, Ltd. (Incorporated by reference to Exhibit 3.1 to our current report on Form 8-K, filed with the SEC on May 6, 2010) |
| 3.4 | By-laws, as amended (Incorporated by reference to Exhibit 3.2 to our report on Form 8-K, filed with the SEC on April 2, 2010) |
| 31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
| 32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 101 | Interactive Data Files regarding (a) our Consolidated Balance Sheets as of April 30, 2016 and October 31, 2015, (b) our Consolidated Statements of Operations for the Three and Six Months Ended April 30, 2016 and 2015, (c) our Consolidated Statements of Comprehensive Income (Loss) for the Three and Six Months Ended April 30, 2016 and 2015, (d) our Consolidated Statements of Cash Flows for the Six Months Ended April 30, 2016 and 2015, and (e) the Notes to such Consolidated Financial Statements. |
SIGNATURE
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.
Dated: June 13, 2016
CRYSTAL ROCK HOLDINGS, INC.
By: /s/ David Jurasek
David Jurasek
Chief Financial Officer/Treasurer
(Principal Accounting Officer and Principal Financial Officer)
Exhibits Filed Herewith
Exhibit
Number Description
| 31.1 | Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley act of 2002. |
| 31.2 | Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley act of 2002. |
| 32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 101 | Interactive Data Files regarding (a) our Consolidated Balance Sheets as of April 30, 2016 and October 31, 2015, (b) our Consolidated Statements of Operations for the Three and Six Months Ended April 30, 2016 and 2015, (c) our Consolidated Statements of Comprehensive Income (Loss) for the Three and Six Months Ended April 30, 2016 and 2015, (d) our Consolidated Statements of Cash Flows for the Six Months Ended April 30, 2016 and 2015, and (e) the Notes to such Consolidated Financial Statements. |
