Item 7. Management’s Discussion and Analysis
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with information included in Item 8 of this report. Unless otherwise indicated, the terms “Company”, “Chefs’ Warehouse”, “we”, “us”, and “our” refer to The Chefs’ Warehouse, Inc. and its subsidiaries.
Overview and Recent Developments
Overview
We are a premier distributor of specialty foods in nine of the leading culinary markets in the United States. We offer more than 50,000 SKUs, ranging from high-quality specialty foods and ingredients to basic ingredients and staples, produce and center-of-the-plate proteins. We serve more than 34,000 customer locations, primarily located in our sixteen geographic markets across the United States and Canada, and the majority of our customers are independent restaurants and fine dining establishments. Our Allen Brothers subsidiary sells certain of our center-of-the-plate products directly to consumers. We expanded our direct-to-consumer product offerings in fiscal 2020 by launching our “Shop Like a Chef” online home delivery platform in several of the markets we serve.
We believe several key differentiating factors of our business model have enabled us to execute our strategy consistently and profitably across our expanding customer base. These factors consist of a portfolio of distinctive and hard-to-find specialty food products, an extensive selection of center-of-the-plate proteins, a highly trained and motivated sales force, strong sourcing capabilities, a fully integrated warehouse management system, a highly sophisticated distribution and logistics platform and a focused, seasoned management team.
In recent years, our sales to existing and new customers have increased through the continued growth in demand for specialty food and center-of-the-plate products in general; increased market share driven by our large percentage of sophisticated and experienced sales professionals, our high-quality customer service and our extensive breadth and depth of product offerings, including, as a result of our acquisitions; the expansion of our existing distribution centers; our entry into new distribution centers, including the construction of new distribution centers in San Francisco, Toronto, Dallas, Los Angeles and Miami; and the import and sale of our proprietary brands. Through these efforts, we believe that we have been able to expand our customer base, enhance and diversify our product selections, broaden our geographic penetration and increase our market share.
Effect of the COVID-19 Pandemic on our Business and Operations
The COVID-19 pandemic (“Pandemic”) has had a material impact on our business and operations and those of our customers. In an effort to limit the spread of the virus, federal, state and local governments began implementing various restrictions beginning in late March that resulted in the closure of non-essential businesses in many of the markets we serve, which forced our customers in those markets to either transition their establishments to take-out service, delivery service or temporarily cease operations. State and local governments began to ease these restrictions in mid-May, however, restrictions in certain of our key markets were not eased until early June. As of December 25, 2020, the majority of state and local governments with jurisdiction over markets in which the Company operates allow the Company’s customers to operate outdoor dining and indoor dining service while adhering to specified social distancing and capacity restrictions. The duration and extent of restrictions imposed on our customers by federal, state and local governments is dependent on future developments regarding the Pandemic, including new information about the severity of the disease, trends in infection rates, and development of effective medical treatments for the disease, among others.
The adverse impact of the Pandemic on our customers during the fifty-two weeks ended December 25, 2020 resulted in a $616.7 million decline in our organic sales compared to the prior year. Due to the Pandemic, we incurred estimated non-cash charges of $15.8 million related to incremental bad debt expense and approximately $14.6 million related to estimated inventory obsolescence during the fifty-two weeks ended December 25, 2020.
Our management team is responding rapidly to the changing landscape and pursuing alternate sources of revenue to mitigate the extent of sales declines in our core customer base. Our sales force is working closely with our core customers and developing solutions to help them fulfill the demand in their communities while complying with health and safety restrictions. We are actively entering into new business relationships which include retail food outlets as they have experienced increases in consumer demand and shortages in their traditional supply chains due to the Pandemic. As we develop these new sales channels, we are negotiating favorable credit terms given the nature of the underlying customer base and the current market
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environment. In addition, our purchasing teams have worked diligently to shift our product purchases to SKUs that are in high demand. Thus far, we have not experienced difficulties in procuring products from our suppliers.
In response to the Pandemic, we expanded our direct-to-consumer product offerings by launching our “Shop Like a Chef” online home delivery platform in several of the markets we serve. We now offer products directly to consumers through both our Allen Brothers and “Shop Like a Chef” online platforms.
We have implemented cost control measures during this time of demand volatility. Our variable cost structure naturally decreases as our sales decrease, however, we are also reducing our fixed cost structure. Among other actions, we have postponed planned capital expenditures, returned certain equipment on short-term rental agreements, and reduced compensation expense through salary reductions, furloughs and lay-offs as we right-size our organization to current levels of demand.
Management determined the Pandemic’s adverse impact on our operations and our market capitalization were triggering events that required us to test goodwill and long-lived assets for impairment as of March 27, 2020. No impairments were identified as a result of these tests. Although there were no additional triggering events during the remainder of fiscal 2020, the impacts of the Pandemic on our business are uncertain and will depend on future developments, and as such, it is possible that another triggering event could occur that under certain circumstances could cause us to recognize an impairment charge in the future.
We closed the fiscal year with total cash and cash equivalents of $193.3 million, and approximately $50.3 million of remaining availability under our asset-based loan facility as of December 25, 2020.
The future impact of the Pandemic on our business, operations and liquidity is difficult to predict at this time and is highly dependent on future developments including new information that may emerge on the severity of the disease, the extent of the outbreak, federal, state and local government responses, trends in infection rates, development of effective medical treatments for the disease, and future consumer spending behavior, among others.
Recent Significant Acquisitions
On February 3, 2020, we entered into an asset purchase agreement to acquire substantially all of the assets of Cambridge Packing Co, Inc. (“Cambridge”), a specialty center-of-the-plate producer and distributor in New England. The cash purchase price was approximately $16.4 million, inclusive of a $0.6 million working capital true-up. We are required to pay additional contingent consideration, if earned, of up to $3.0 million over a two-year period upon successful attainment of certain gross profit targets.
On January 27, 2020, we entered into an asset purchase agreement to acquire substantially all of the assets, including certain real-estate assets, of Sid Wainer & Son (“Sid Wainer”), a specialty food and produce distributor in New England. The cash purchase price was approximately $44.1 million, inclusive of a $2.4 million working capital true-up. We are required to pay additional contingent consideration, if earned, of up to $4.0 million over a two-year period upon successful attainment of certain gross profit targets.
On February 25, 2019, pursuant to an asset purchase agreement, we acquired substantially all of the assets of Bassian Farms, Inc. and related entities (“Bassian”), a specialty center-of-the-plate distributor based in northern California. The aggregate purchase price for the transaction was approximately $31.8 million, consisting of $28.0 million in cash paid at closing and the issuance of a $4.0 million unsecured convertible note, partially offset by the settlement of a net working capital true-up. We are also required to pay additional contingent consideration, if earned, which could total $9.0 million over a four-year period. The payment of the earn-out liability is subject to the successful achievement of certain gross profit targets.
Transition of Trademarks
During the fourth quarter of fiscal 2020, we committed to a plan to shift our brand strategy to leverage our Allen Brothers brand in our west coast region and determined that our Del Monte, Ports Seafood and Bassian Farms trademarks did not fit our long-term strategic objectives. This brand transition is planned to begin in the second quarter of fiscal 2021. As a result, we recorded a $24.2 million impairment charge, $17.5 million net of tax, to write-down the value of our Del Monte and Bassian Farms trademarks.
Our Growth Strategies and Outlook
We continue to invest in our people, facilities and technology in an effort to achieve the following objectives and maintain our premier position within the specialty foodservice distribution market:
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• sales and service territory expansion;
• operational excellence and high customer service levels;
• expanded purchasing programs and improved buying power;
• product innovation and new product category introduction;
• operational efficiencies through system enhancements; and
• operating expense reduction through the centralization of general and administrative functions.
Our growth has allowed us to improve upon our organization’s infrastructure, open new distribution facilities and pursue selective acquisitions. Over the last several years, we have increased our distribution capacity to approximately 2.2 million square feet in 36 distribution facilities as of February 10, 2021. From fiscal 2018 through the end of fiscal 2020, we have invested significantly in acquisitions, infrastructure and management.
Key Factors Affecting Our Performance
Due to our focus on menu-driven independent restaurants, fine dining establishments, country clubs, hotels, caterers, culinary schools, bakeries, patisseries, chocolateries, cruise lines, casinos and specialty food stores, our results of operations are materially impacted by the success of the food-away-from-home industry in the United States and Canada, which is materially impacted by general economic conditions, weather, discretionary spending levels and consumer confidence. When economic conditions deteriorate, our customers’ businesses are negatively impacted as fewer people eat away-from-home and those who do spend less money. As economic conditions begin to improve, our customers’ businesses historically have likewise improved, which contributes to improvements in our business. Similarly, the direct-to-consumer business of our Allen Brothers subsidiary is significantly dependent on consumers’ discretionary spending habits, and weakness or uncertainty in the economy could lead to consumers buying less from Allen Brothers.
Volatile food costs may have a direct impact upon our profitability. Prolonged periods of product cost inflation may have a negative impact on our profit margins and results of operations to the extent we are unable to pass on all or a portion of such product cost increases to our customers. In addition, product cost inflation may negatively impact consumer discretionary spending decisions within our customers’ establishments, which could adversely impact our sales. Conversely, our profit levels may be negatively impacted during periods of product cost deflation even though our gross profit as a percentage of sales may remain relatively constant. However, some of our products, particularly certain of our center-of-the-plate protein items, are priced on a “cost plus” markup, which helps mitigate the negative impact of deflation.
Given our wide selection of product categories, as well as the continuous introduction of new products, we can experience shifts in product sales mix that have an impact on net sales and gross profit margins. This mix shift is most significantly impacted by the introduction of new categories of products in markets that we have more recently entered, the shift in product mix resulting from acquisitions, as well as the continued growth in item penetration on higher velocity items such as dairy products.
The foodservice distribution industry is fragmented but consolidating, and we have supplemented our internal growth through selective strategic acquisitions. We believe that the consolidation trends in the foodservice distribution industry will continue to present acquisition opportunities for us, which may allow us to grow our business at a faster pace than we would otherwise be able to grow the business organically.
Performance Indicators
In addition to evaluating our income from operations, our management team analyzes our performance based on net sales growth, gross profit and gross profit margin.
• Net sales growth. Our net sales growth is driven principally by changes in volume and, to a lesser degree, changes in price related to the impact of inflation in commodity prices and product mix. In particular, product cost inflation and deflation impacts our results of operations and, depending on the amount of inflation or deflation, such impact may be material. For example, inflation may increase the dollar value of our sales, and deflation may cause the dollar value of our sales to fall despite our unit sales remaining constant or growing.
• Gross profit and gross profit margin. Our gross profit and gross profit as a percentage of net sales, or gross profit margin, are driven principally by changes in volume and fluctuations in food and commodity prices and our ability to pass on any price increases to our customers in an inflationary environment and maintain or increase gross profit margin when our costs decline. Our gross profit margin is also a function of the product mix of our net sales in any period. Given our wide selection of product categories, as well as the continuous introduction of new products, we can experience
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shifts in product sales mix that have an impact on net sales and gross profit margins. This mix shift is most significantly impacted by the introduction of new categories of products in markets that we have more recently entered, impact of product mix from acquisitions, as well as the continued growth in item penetration on higher velocity items such as dairy products.
Key Financial Definitions
• Net sales: Net sales consist primarily of sales of specialty products, center-of-the-plate proteins and other food products to independently-owned restaurants and other high-end foodservice customers, which we report net of certain group discounts and customer sales incentives. Net sales also include direct-to-consumer sales on our e-commerce platforms.
• Cost of sales: Cost of sales include the net purchase price paid for products sold, plus the cost of transportation necessary to bring the product to our distribution facilities and food processing costs. Food processing costs include, but are not limited, to direct labor and benefits, applicable overhead and depreciation of equipment and facilities used in food processing activities. Our cost of sales may not be comparable to other similar companies within our industry.
• Selling, general and administrative expenses: Selling, general and administrative expenses include facilities costs, product shipping and handling costs, warehouse costs, and other selling, general and administrative costs.
• Other operating expenses: Other operating expenses includes expenses primarily related to changes in the fair value of the Company’s earn-out liabilities, gains and losses on asset disposals, asset impairments and certain third-party deal costs incurred in connection with business acquisitions or financing arrangements.
• Interest expense: Interest and other expense consists primarily of interest on our outstanding indebtedness and, as applicable, the amortization or write-off of deferred financing fees.
Reclassifications
In response to a comment letter from the staff of the SEC’s Division of Corporation Finance, we have reclassified our food processing costs, previously included in operating expenses, to cost of sales and have split our historical presentation of operating expenses between selling, general and administrative expenses and other operating expenses . These reclassifications have no impact on the Company’s operating income, net income or cash flows. Furthermore, management has reclassified gain/loss from asset disposal, which was previously presented as a non-operating expense, to other operating expenses. See Note 2 “Reclassifications” to our consolidated financial statements for a full description of these reclassifications.
Results of Operations
Fiscal Years Ended
December 25, 2020 December 27, 2019 December 28, 2018
Net sales $ 1,111,631 $ 1,591,834 $ 1,444,609
Cost of sales 863,480 1,205,266 1,095,693
Gross profit 248,151 386,568 348,916
Selling, general and administrative expenses 336,394 329,542 298,102
Other operating expenses 14,417 6,359 2,225
Operating (loss) income (102,660) 50,667 48,589
Interest expense 20,946 18,264 20,745
(Loss) income before income taxes (123,606) 32,403 27,844
Provision for income tax (benefit) expense (40,703) 8,210 7,442
Net (loss) income $ (82,903) $ 24,193 $ 20,402
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Fiscal Year Ended December 25, 2020 Compared to Fiscal Year Ended December 27, 2019
Net Sales
2020 2019 $ Change % Change
Net sales $ 1,111,631 $ 1,591,834 $ (480,203) (30.2) %
Sales growth from acquisitions contributed $136.5 million, or 8.6%, to sales growth. Organic sales declined $616.7 million, or 38.8%, versus the prior year primarily due to impacts of the Pandemic. Organic case count declined approximately 43.5% in our specialty category. In addition, specialty unique customers and placements declined 30.4% and 43.6%, respectively, compared to the prior year. Pounds sold in our center-of-the-plate category decreased 38.0% compared to the prior year. Estimated deflation was 0.3% in our specialty category and inflation of 3.5% in our center-of-the-plate category compared to fiscal 2019.
Gross Profit
2020 2019 $ Change % Change
Gross profit $ 248,151 $ 386,568 $ (138,417) (35.8) %
Gross profit margin 22.3 % 24.3 %
Gross profit decreased primarily due to decreased sales volumes. Gross profit margin decreased approximately 196 basis points. Gross profit margins decreased 441 basis points in the Company’s specialty category and increased 117 basis points in the Company’s center-of-the-plate category compared to the prior year period. Our gross profit results include a charge of approximately $14.6 million related to estimated inventory losses from obsolescence due to the Pandemic’s impact on our customers’ purchasing behavior.
Selling, General and Administrative Expenses
2020 2019 $ Change % Change
Selling, general and administrative expenses 336,394 329,542 6,852 2.1 %
Percentage of net sales 30.3 % 20.7 %
The increase in selling, general and administrative expense relates primarily to our recent acquisitions and an estimated non-cash charge of approximately $15.8 million to bad debt expense incurred during the first quarter of fiscal 2020 at the onset of the Pandemic, partially offset by cost measures implemented during the year in response to the Pandemic’s adverse impact on demand for our products. Our ratio of selling, general and administrative expenses to net sales was higher as a result of the Pandemic’s adverse impacts on our sales growth and a 161 basis point increase in non-cash charges related to bad debt expense.
Other Operating Expenses
2020 2019 $ Change % Change
Other operating expenses 14,417 6,359 8,058 126.7 %
The increase in other operating expenses relates primarily to a $24.2 million impairment charge on Del Monte and Bassian trademarks and non-cash credits of $11.5 million for changes in the fair value of our contingent earn-out liabilities compared to non-cash charges of $5.9 million in the prior year period.
Interest Expense
2020 2019 $ Change % Change
Interest expense 20,946 18,264 $ 2,682 14.7 %
Interest and other expense increased primarily due to $1.2 million in one-time third-party costs incurred during the second quarter of 2020 in connection with the extension of a majority of our senior secured term loans and the full year impact of interest charged on our Convertible Senior Notes issued on November 22, 2019.
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Provision for Income Taxes
2020 2019 $ Change % Change
Provision for taxes (40,703) 8,210 $ (48,913) (595.8) %
Effective tax rate 32.9 % 25.3 %
The higher effective tax rate is primarily related to our net loss for fiscal 2020 which allows us to claim tax refunds against taxes paid in fiscal 2015 and 2017, both of which were at statutory tax rates of 35%.
Fiscal Year Ended December 27, 2019 Compared to Fiscal Year Ended December 28, 2018
Net Sales
2019 2018 $ Change % Change
Net sales $ 1,591,834 $ 1,444,609 $ 147,225 10.2 %
Organic growth contributed $65.0 million, or 4.5%, to sales growth in the year. The remaining sales growth of $82.2 million, or 5.7%, resulted from acquisitions. Organic case count grew approximately 5.2% in our specialty category. In addition, growth in specialty unique customers and placements grew 4.5% and 3.0%, respectively, compared to the prior year. Pounds sold in our center-of-the-plate category increased 0.7% compared to the prior year. Estimated inflation was 2.4% in our specialty category and 2.6% in our center-of-the-plate category compared to fiscal 2018.
Gross Profit
2019 2018 $ Change % Change
Gross profit 386,568 348,916 $ 37,652 10.8 %
Gross profit margin 24.3 % 24.2 %
Gross profit increased primarily due to increased sales volumes. Gross profit margin increased approximately 13 basis points. Gross profit margins increased 19 basis points in the Company’s specialty category and increased 27 basis points in the Company’s center-of-the-plate category compared to the prior year period
Selling, General and Administrative Expenses
2019 2018 $ Change % Change
Selling, general and administrative expenses 329,542 298,102 31,440 10.5 %
Percentage of net sales 20.7 % 20.6 %
The increase in selling, general and administrative expenses relates primarily to increased sales volumes. Selling, general and administrative expenses as a percentage of net sales increased 7 basis points. The primary drivers of the increase in the ratio of selling, general and administrative expenses to sales were a 27 basis point increase in warehouse costs, primarily related to our investments in Texas and our new facility in Los Angeles, partially offset by a 22 basis point reduction in general and administrative compensation costs as a percentage of sales.
Other Operating Expenses
2019 2018 $ Change % Change
Other operating expenses 6,359 2,225 4,134 185.8 %
The increase in other operating expenses relates primarily to non-cash charges of $5.9 million for changes in the fair value of our contingent earn-out liabilities compared to non-cash charges of $1.4 million in the prior year period.
Interest Expense
2019 2018 $ Change % Change
Interest expense 18,264 20,745 $ (2,481) (12.0) %
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Interest and other expense decreased primarily due to a $1.1 million write-off of deferred financing fees in fiscal 2018 associated with the re-pricing of our Term Loan and lower effective interest charged on our outstanding debt in fiscal 2019.
Provision for Income Taxes
2019 2018 $ Change % Change
Provision for taxes 8,210 7,442 $ 768 10.3 %
Effective tax rate 25.3 % 26.7 %
The lower effective tax rate in fiscal 2019 is due to certain permanent tax differences related to stock compensation.
Liquidity and Capital Resources
We finance our day-to-day operations and growth primarily with cash flows from operations, borrowings under our senior secured credit facilities and other indebtedness, operating leases, trade payables and equity financing.
Indebtedness
The following table presents selected financial information on our indebtedness (in thousands):
December 25, 2020 December 27, 2019 December 28, 2018
Senior secured term loan $ 201,553 $ 238,129 $ 239,745
Total convertible debt $ 154,000 $ 154,000 $ —
Borrowings outstanding on asset-based loan facility $ 40,000 $ — $ 44,185
Finance leases and other financing obligations $ 15,798 $ 3,905 $ 193
As of December 25, 2020, we have various floating- and fixed-rate debt instruments with varying maturities for an aggregate principal amount of $395.6 million. See Note 10 “Debt Obligations” to our consolidated financial statements for a full description of our debt instruments.
On June 8, 2020, we amended our senior secured credit agreement which converted $238.1 million of the term loans then outstanding into a new tranche of term loans (the “2025 Tranche”), which, among other things, extended the maturity date by three years and increased the fixed-rate portion of interest charged by 200 basis points. The Company made a prepayment of $35.7 million on the 2025 Tranche immediately after it was established. See Note 10 “Debt Obligations” to our consolidated financial statements for a full description.
On March 18, 2020, we drew $100.0 million on our asset-based loan facility to increase our cash on hand during the early stages of the Pandemic’s impact to our business and have subsequently repaid $60.0 million of the draw.
On November 22, 2019, we issued $150.0 million aggregate principal amount of 1.875% Convertible Senior Notes (the “Senior Notes”). Approximately $43.2 million of the net proceeds were used to repay all borrowings then outstanding under our ABL and we intend to use the remainder for working capital and general corporate purposes, which may include future acquisitions.
On July 25, 2018, the holders of the $36.8 million principal amount of convertible subordinated notes, issued in connection with our acquisition of Del Monte, converted these notes and related accrued interest of $0.3 million into 1,246,272 shares of the Company’s common stock.
On June 29, 2018, we entered into a new asset-based loan facility (“ABL”) that increased our borrowing capacity from $75.0 million to $150.0 million. Additionally, we reduced the fixed-rate portion of interest charged on our senior secured term loan (“Term Loan”) from 475 basis points to 350 basis points over Adjusted LIBOR as a result of repricings executed on December 14, 2017 and November 16, 2018.
A portion of the interest rate charged on our Term Loan is currently based on LIBOR and, at our option, a component of the interest charged on the borrowings outstanding on our ABL, if any, may bear interest rates based on LIBOR. LIBOR has been the subject of reform and was expected to phase out by the end of fiscal 2021, however, on November 30, 2020, the ICE Benchmark Administration Limited (“ICE”) announced plans to delay the phase out of LIBOR to June 30, 2023. The consequences of the discontinuation of LIBOR cannot be entirely predicted but could impact the interest expense we incur on
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these debt instruments. We will negotiate alternatives to LIBOR with our lenders before LIBOR ceases to be a widely available reference rate.
Equity Offering
On May 14 and June 2, 2020, we completed public offerings for a total of 6,634,615 shares of our common stock which resulted in net proceeds of approximately $85.9 million. See Note 11 “Stockholders’ Equity” to our consolidated financial statements for a full description.
Liquidity
The following table presents selected financial information on liquidity (in thousands):
December 25, 2020 December 27, 2019 December 28, 2018
Cash and cash equivalents $ 193,281 $ 140,233 $ 42,410
Working capital, (1) excluding cash and cash equivalents
$ 94,279 $ 162,772 $ 160,783
Availability under asset-based loan facility $ 50,282 $ 133,359 $ 90,015
(1) We define working capital as current assets less current liabilities. The fiscal 2020 and 2019 balances include the impact of recognizing operating lease right-of-use assets and liabilities as a result of our adoption of Accounting Standards Codification Topic 842, “Leases,” as of December 29, 2018.
We believe our existing balances of cash and cash equivalents, working capital and the availability under our asset-based loan facility, are sufficient to satisfy our working capital needs, capital expenditures, debt service and other liquidity requirements associated with our current operations over the next twelve months.
Our capital expenditures, excluding cash paid for acquisitions, were approximately $7.0 million for fiscal 2020. We are not providing guidance on our capital expenditures for fiscal 2021 due to the continued uncertainty with regards to the pace of the economic recovery and the duration of the Pandemic related restrictions on our customers.
Cash Flows
Fiscal Year Ended
December 25, 2020 December 27, 2019 December 28, 2018
Net income $ (82,903) $ 24,193 $ 20,402
Non-cash charges $ 62,509 $ 47,625 $ 38,186
Changes in working capital $ 63,275 $ (26,811) $ (13,506)
Cash provided by operating activities $ 42,881 $ 45,007 $ 45,082
Cash used in investing activities $ (67,968) $ (44,154) $ (33,688)
Cash provided by (used in) financing activities $ 78,056 $ 96,947 $ (10,442)
Fiscal Year 2020 Cash Flows
Net cash provided by operations was $42.9 million for fiscal 2020 consisting of a $82.9 million net loss, offset by $62.5 million of non-cash charges and an increase in working capital of $63.3 million. Non-cash charges increased predominately due to the $24.2 million write down of Del Monte and Bassian trademarks. The increase in working capital of $63.3 million is primarily driven by negotiating favorable credit terms with our customers and suppliers and maintaining lower inventory balances as a result of reduced demand due to the Pandemic.
Net cash used in investing activities was $68.0 million in fiscal 2020 driven by $7.0 million in capital expenditures which included implementations of our Enterprise Resource Planning (“ERP”) system. The Company used $60.9 million in cash to fund acquisitions, the most significant of which were Sid Wainer and Cambridge.
Net cash provided by financing activities was $78.1 million for fiscal 2020 driven by $85.9 million net proceeds from our common stock offering and $40.0 million of net draws on our asset-based loan facility, partially offset by payments of debt and finance lease obligations of $40.4 million.
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Fiscal Year 2019 Cash Flows
Net cash provided by operations was $45.0 million for fiscal 2019 consisting of $24.2 million of net income and $47.6 million of non-cash charges, partially offset by an increase in working capital of $26.8 million. The increase in non-cash charges of $9.4 million is primarily driven by changes in the fair value of earn-out liabilities of $4.4 million and higher depreciation and amortization expense. The increase in working capital of $26.8 million is a result of organic growth and acquisitions and includes $1.8 million of earn-out liability payments classified as operating activities.
Net cash used in investing activities was $44.2 million in fiscal 2019 driven by $16.1 million in capital expenditures which included implementations of our ERP system and the buildouts of our headquarters in Ridgefield, CT and distribution center in Dallas, Texas. The Company used $28.1 million in cash to fund acquisitions, the most significant of which was Bassian.
Net cash provided by financing activities was $96.9 million for fiscal 2019 driven by $145.0 million of net proceeds received from the issuance of our Senior Notes, partially offset by $44.2 million to settle all borrowings outstanding on our ABL and $2.4 million of earn-out liability payments classified as financing activities.
Seasonality
Excluding our Allen Brothers direct-to-consumer business, we generally do not experience any material seasonality. However, our sales and operating results may vary from quarter to quarter due to factors such as changes in our operating expenses, management’s ability to execute our operating and growth strategies, personnel changes, demand for our products, supply shortages, weather patterns and general economic conditions.
Our Allen Brothers direct-to-consumer business is subject to seasonal fluctuations, with direct-to-consumer center-of-the-plate protein sales typically higher during the holiday season in our fourth quarter; accordingly, a disproportionate amount of operating cash flows from this portion of our business is generated by our direct-to-consumer business in the fourth quarter of our fiscal year. Despite a significant portion of these sales occurring in the fourth quarter, there are operating expenses, principally advertising and promotional expenses, throughout the year.
The Pandemic has had a material impact on our business and operations and those of our customers. Our net sales were most significantly impacted during the second quarter of fiscal 2020 when, in an effort to limit the spread of the virus, federal, state and local governments began implementing various restrictions that resulted in the closure of non-essential businesses in many of the markets we serve, which forced our customers in those markets to either transition their establishments to take-out service, delivery service or temporarily cease operations.
Inflation
Our profitability is dependent on, among other things, our ability to anticipate and react to changes in the costs of key operating resources, including food and other raw materials, labor, energy and other supplies and services. Substantial increases in costs and expenses could impact our operating results to the extent that such increases cannot be passed along to our customers. The impact of inflation on food, labor, energy and occupancy costs can significantly affect the profitability of our operations.
Commitments and Significant Contractual Obligations
The following table summarizes our contractual obligations and commercial commitments at December 25, 2020:
Payments Due by Period (1, 2, 3)
Total Less than One Year 1-3
Years 4-5
Years Thereafter
(In thousands)
Indebtedness $ 405,889 $ 4,715 $ 84,516 $ 316,658 $ —
Finance lease obligations $ 17,259 $ 4,905 $ 6,756 $ 4,291 $ 1,307
Pension exit liabilities $ 2,020 $ 159 $ 351 $ 401 $ 1,109
Long-term operating leases $ 177,740 $ 24,542 $ 40,787 $ 25,104 $ 87,307
Total $ 602,908 $ 34,321 $ 132,410 $ 346,454 $ 89,723
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(1) Interest on our various outstanding debt instruments is included in the above table, except for our Term Loans and ABL, which have floating interest rates. At December 25, 2020, we had borrowings of $201.6 million under our Term Loans and $40.0 million under our ABL. During the fiscal year ended December 25, 2020, the weighted average interest rate on our Term Loan and ABL borrowings were approximately 4.4% and 1.7%, respectively. See Note 10 “Debt Obligations” to our consolidated financial statements for further information on our debt instruments.
(2) The table above excludes $2.8 million of total contingent earn-out liabilities related to certain acquisitions as of December 25, 2020 and approximately $30.2 million of lease payments related to a distribution facility that does not commence until fiscal 2021.
(3) The table above excludes our supplier purchase obligations as we do not have any material unconditional contractual obligations to purchase fixed or minimum quantities of goods or services from our suppliers.
We had outstanding letters of credit of approximately $20.1 million and $16.6 million at December 25, 2020 and December 27, 2019, respectively. Substantially all of our assets are pledged as collateral to secure our borrowings under our credit facilities.
Off-Balance Sheet Arrangements
As of December 25, 2020, we did not have any off-balance sheet arrangements, as defined in Item 303(a)(4)(ii) of Regulation S-K.
Critical Accounting Policies
The preparation of our consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. The SEC has defined critical accounting policies as those that are both most important to the portrayal of our financial condition and results and require our most difficult, complex or subjective judgments or estimates. Based on this definition, we believe our critical accounting policies include the following: (i) determining our allowance for doubtful accounts, (ii) inventory valuation, with regard to determining inventory balance adjustments for excess and obsolete inventory, (iii) business combinations, (iv) valuing goodwill and intangible assets, (v) self-insurance reserves, (vi) accounting for income taxes and (vii) contingent earn-out liabilities. For all financial statement periods presented, there have been no material modifications to the application of these critical accounting policies.
Allowance for Doubtful Accounts
We analyze customer creditworthiness, accounts receivable balances, payment history, payment terms and historical bad debt levels when evaluating the adequacy of our allowance for doubtful accounts. In instances where a reserve has been recorded for a particular customer, future sales to the customer are either conducted using cash-on-delivery terms or the account is closely monitored so that agreed-upon payments are received prior to orders being released. A failure to pay results in held or cancelled orders. We also estimate receivables that will ultimately be uncollectible based upon historical write-off experience. Management incorporates current macro-economic factors in existence as of the balance sheet date that may impact the food-away-from-home industry and/or its customers, and specifically, beginning in the first quarter of fiscal 2020, the impact of the Pandemic. We may be required to increase or decrease our allowance for doubtful accounts due to various factors, including the overall economic environment and particular circumstances of individual customers. Our accounts receivable balance was $96.4 million and $175.0 million, net of the allowance for doubtful accounts of $24.0 million and $8.8 million, as of December 25, 2020 and December 27, 2019, respectively.
Inventory Valuation
We adjust our inventory balances for excess and obsolete inventories. These adjustments are primarily based upon customer demand, inventory age, specifically identified inventory items and overall economic conditions. A sudden and unexpected change in consumer preferences or change in overall economic conditions could result in a significant change to these adjustments that could require a corresponding charge to earnings. We actively manage our inventory levels as we seek to minimize the risk of loss and have consistently achieved a relatively high level of inventory turnover. As a result of the impacts of the Pandemic on our customer demand we incurred additional inventory valuation charges of $14.6 million in fiscal 2020.
Business Combinations
We account for acquisitions in accordance with Accounting Standards Codification Topic 805 “Business Combinations.” Assets acquired and liabilities assumed are recorded at their estimated fair values, as of the acquisition date . The judgments made in determining the estimated fair value of assets acquired and liabilities assumed, including estimated useful life, may
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have a material impact on our consolidated balance sheet and may materially impact the amount of depreciation and amortization expense recognized in periods subsequent to the acquisition. We determine the fair value of intangible assets using an income approach and, when appropriate, we engage a third party valuation firm. Generally, we utilize the multi-period excess earnings method to determine the fair value of customer relationships and the relief from royalty method to determine the fair value of tradenames. These valuation methods contain significant assumptions and estimates including forecasts of expected future cash flows and discount rates. Determining the useful life of an intangible asset also requires judgment, as different types of intangible assets will have different useful lives. The excess of the purchase price over the fair values of identifiable assets and liabilities is recorded as goodwill.
Valuation of Goodwill and Intangible Assets
We are required to test goodwill for impairment at each of our reporting units annually, or more frequently when circumstances indicate an impairment may have occurred. We have elected to perform our annual tests for indications of goodwill impairment during the fourth quarter of each fiscal year.
Goodwill is tested at the reporting unit level, which is an operating segment or a component of an operating segment. When analyzing whether to aggregate components into single reporting units, management considers whether each component has similar economic characteristics. We have evaluated the economic characteristics of our different geographic markets, including our recently acquired businesses, along with the similarity of the operations and margins, nature of the products, type of customer and methods of distribution of products and the regulatory environment in which we operate and concluded that the business consists of three operating segments: East Coast, Midwest and West Coast and these operating segments represent our reporting units.
In testing goodwill for impairment, we may elect to perform a qualitative assessment to evaluate whether it is more likely than not that the fair value of each reporting unit is less than its carrying amount. The qualitative analysis considers various factors including macroeconomic conditions, market conditions, industry trends, cost factors and financial performance, among others. If our qualitative assessment indicates that goodwill impairment is more likely than not, we proceed to perform a quantitative assessment to determine the fair value of the reporting unit.
When a quantitative analysis is required, we estimate the fair value of our reporting units using an income approach that incorporates the use of a discounted cash flow model that involves many management assumptions that are based upon future growth projections. Assumptions include estimates of future revenue based upon budget projections and growth rates which include estimates for the duration of the Pandemic’s impact on the Company’s customers. We develop estimates of future levels of gross and operating profits and projected capital expenditures. This methodology includes the use of estimated discount rates based upon industry and competitor analysis as well as other factors. A goodwill impairment loss, if any, would be recognized for the amount by which a reporting unit’s carrying value exceeds its fair value.
Due to the Pandemic’s adverse impact on our business, we performed an interim quantitative goodwill impairment test as of March 27, 2020 and concluded that goodwill was not impaired. As required, we performed our annual goodwill impairment test during the fourth quarter of fiscal 2020 the results of which indicated that goodwill was not impaired. Total goodwill as of December 25, 2020 and December 27, 2019 was $214.9 million and $197.7 million, respectively.
Intangible assets with finite lives are tested for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Cash flows expected to be generated by the related assets are estimated over the assets useful lives based on updated projections. If the evaluation indicates that the carrying amount of the asset may not be recoverable, the potential impairment is measured based on a projected discounted cash flow model. During the fourth quarter of fiscal 2020, we committed to a plan to shift our brand strategy to leverage our Allen Brothers brand in our west coast region and determined our Del Monte, Ports Seafood and Bassian Farms trademarks did no fit our long-term strategic objectives. This brand transition is planned to begin in the second quarter of fiscal 2021. The Company assessed these trademarks for impairment and used the relief of royalty method to determine fair value. Significant assumptions used include future sales forecasts, royalty rates and discount rates. As a result, we recorded a $24.2 million impairment charge, $17.5 million net of tax, to write-down the value of our Del Monte and Bassian Farms trademarks. There have been no other events or changes in circumstances during fiscal 2020 or 2019 indicating that the carrying value of our finite-lived intangible assets are not recoverable. Total finite-lived intangible assets as of December 25, 2020 and December 27, 2019 were $111.7 million and $138.8 million, respectively.
The assessment of the recoverability of goodwill and intangible assets contain uncertainties requiring management to make assumptions and to apply judgment to estimate economic factors and the profitability of future operations. Actual results could
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differ from these assumptions and projections, resulting in us revising our assumptions and, if required, recognizing an impairment loss.
Self-Insurance Reserves
We maintain a self-insured group medical program. The program contains individual stop loss thresholds of $275 thousand per incident and aggregate stop loss thresholds based upon the average number of employees enrolled in the program throughout the year. The amount in excess of the self-insured levels is fully insured by third party insurers. Liabilities associated with this program are estimated in part by considering historical claims experience and medical cost trends. Projections of future loss expenses are inherently uncertain because of the random nature of insurance claims occurrences and could be significantly affected if future occurrences and claims differ from these assumptions and historical trends.
We are self-insured for workers’ compensation and automobile liability to deductibles or self-insured retentions of $500 thousand per occurrence. The amounts in excess of our deductibles are fully insured by third party insurers. Liabilities associated with this program are estimated in part by considering historical claims experience and cost trends. Projections of future loss expenses are inherently uncertain because of the random nature of insurance claims occurrences and could be significantly affected if future occurrences and claims differ from these assumptions and historical trends.
Income Taxes
The determination of our provision for income taxes requires significant judgment, the use of estimates and the interpretation and application of complex tax laws. Our provision for income taxes primarily reflects a combination of income earned and taxed in the various U.S. federal and state jurisdictions. Jurisdictional tax law changes, increases or decreases in permanent differences between book and tax items, accruals or adjustments of accruals for unrecognized tax benefits, and our change in the mix of earnings from these taxing jurisdictions all affect the overall effective tax rate.
We estimate our ability to recover deferred tax assets within the jurisdiction from which they arise. This evaluation considers several factors, including recent results of operations, scheduled reversal of deferred tax liabilities, future taxable income and tax planning strategies. As of December 25, 2020 and December 27, 2019, we had valuation allowances of $2.3 million and $0.9 million, respectively, relating to certain net operating losses that may not be realizable in the future based on taxable income forecasts and certain state net operating loss limitations.
Contingent Earn-out Liabilities
We account for contingent consideration relating to business combinations as a liability and an increase to goodwill at the date of the acquisition and continually remeasure the liability at each balance sheet date by recording changes in the fair value through our consolidated statements of operations. We determine the fair value of contingent consideration based on future operating projections under various potential scenarios, including the use of Monte Carlo simulations, and weight the probability of these outcomes. The ultimate settlement of contingent earn-out liabilities relating to business combinations may be for amounts which are materially different from the amounts initially recorded and may cause volatility in our results of operations.
Management has discussed the development and selection of these critical accounting policies with our board of directors, and the board of directors has reviewed the above disclosure. Our consolidated financial statements contain other items that require estimation, but are not as critical as those discussed above. These other items include our calculations for bonus accruals, depreciation and amortization. Changes in estimates and assumptions used in these and other items could have an effect on our consolidated financial statements.
Recent Accounting Pronouncements
See Note 1 “Operations and Basis of Presentation” to our consolidated financial statements for a full description of recent accounting pronouncements including the respective expected dates of adoption and expected effects on our consolidated financial statements.
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