Grocery Outlet Holding Corp. 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations You should read the following discussion of our financial condition and results of operations in conjunction with the unaudited condensed consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q ("Form 10-Q" or “report"), and the audited consolidated financial statements and related notes thereto and management's discussion and analysis of financial condition and results of operations included in our Annual Report on Form 10-K for the fiscal year ended December 30, 2023 ("2023 Form 10-K"). This discussion may contain forward-looking statements based upon current expectations that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth in other sections of this report. See "Special Note Regarding Forward-Looking Statements" in this report. We operate on a fiscal year that ends on the Saturday closest to December 31st each year. Fiscal 2023 ended December 30, 2023. References to the third quarter of fiscal 2024 and the third quarter of fiscal 2023 refer to the 13 weeks ended September 28, 2024 and September 30, 2023, respectively. As used in this report, references to "Grocery Outlet," "the Company," "the registrant," "we," "us" and "our," refer to Grocery Outlet Holding Corp. and its consolidated subsidiaries unless otherwise indicated or the context requires otherwise. Overview We are a high-growth, extreme value retailer of quality, name-brand consumables and fresh products sold primarily through a network of independently operated stores. Our flexible buying model allows us to offer quality, name-brand opportunistic products at prices generally 40% to 70% below those of conventional retailers. Our stores are primarily run by entrepreneurial independent operators ("IOs") who create a neighborhood feel through personalized customer service and a localized product offering. As of September 28, 2024, we had 529 stores in California, Washington, Oregon, Pennsylvania, Tennessee, Idaho, Nevada, Maryland, North Carolina, New Jersey, Georgia, Ohio, Alabama, Delaware, Kentucky and Virginia. Macroeconomic Conditions and Recent Developments Over the past several years, and to a lesser extent recently, our business has been and continues to be impacted by macroeconomic conditions including supply chain and labor challenges, inflation and subsequent disinflation, and changes in consumer behavior, and our IOs have been impacted by staffing challenges and increased labor costs and utility costs within their businesses. Furthermore, planned construction and opening of new stores has been, and may continue to be, negatively impacted due to both increased lead times to acquire materials, obtain permits and licenses, hook up utilities as well as higher construction and development related c osts. Additionally, during fiscal 2024 we have seen increases in promotional and pricing activities from key competitors, putting further pressure on our relative value. In turn, we have been actively negotiating costs and adjusting prices to sharpen our value proposition. The ext ent of the continuing impact of these factors on our operational and financial performance will depend on many factors, including certain factors outside of our control. Our new store growth efforts for fiscal 2024 and beyond are focused on organic growth and new real estate opportunities that align with our long-term geographic expansion and store growth strategies. Complementary growth opportunities may include expanding strategic relationships with large property owners, evaluating acquisitions of opportunistic real estate that become available through consolidation in the retail sector, and exploring strategic regional acquisitions of operating businesses. On April 1, 2024, we acquired The Bargain Barn, Inc., a Tennessee corporation doing business as United Grocery Outlet (“United Grocery Outlet"), which included 40 stores in six adjacent states we did not operate in as of such date (Tennessee, North Carolina, Georgia, Alabama, Kentucky and Virginia) and a company-operated distribution center. Our near-term integration focus is expanding the assortment, investing in store refreshes and new fixtures and introducing some of our marketing programs to the Southeast region. In addition to the newly acquired United Grocery Outlet stores, we plan to open 27 stores in fiscal 2024, for a planned total of 66 net new stores in fiscal 2024. Excluding the United Grocery Outlet transaction, we opened 22 new stores and closed one store during the 39 weeks ended September 28, 2024. In late August 2023, we replaced components of our enterprise resource planning system, including our financial ledger, inventory management platform and product data warehouse system. The implementation of these system upgrades resulted in disruption to our business operations, including ordering and inventory disruptions, as well as payment processing, which adversely impacted our results of operations for the fiscal months of September through December of 2 023 as well as during the 39 weeks ended September 28, 2024, as more fully described below in "Comparison of the 13 and 39 weeks ended September 28, 2024 and September 30, 2023." We have since improved the data visibility to help us manage and forecast the business and we continue to work to further improve visibility into additional operating data, increase speed and refine the tools that we and our independent operators use to manage the business. 21 Table of Contents In the third quarter of fiscal 2024, we began to introduce our private label products in stores. In addition to providing better value and inventory consistency for our customers, our private label products are expected to deliver better margins for us and our IOs. We currently anticipate introducing over 150 new private-label SKUs by the end of fiscal 2024. Key Factors and Measures We Use to Evaluate Our Business We consider a variety of financial and operating measures in assessing the performance of our business. The key generally accepted accounting principles ("GAAP") financial measures we use are net sales, gross profit and gross margin, selling, general and administrative expenses ("SG&A") and operating income. The key operational metrics and non-GAAP financial measures we use are number of new stores, comparable store sales, EBITDA, adjusted EBITDA, adjusted net income and adjusted earnings per share. Third Quarter of Fiscal 2024 Overview Key financial and operating performance results for the third quarter of fiscal 2024 compared to the third quarter of fiscal 2023 were as follows: • Net sales increased 10.4% to $1.11 billion from $1.00 billion in the third quarter of fiscal 2023. • Comparable store sales increased by 1.2%, driven by a 2.0% increase in the number of transactions, partially offset by a 0.7% decrease in average transaction size. • We opened 5 new stores, ending the third quarter of fiscal 2024 with 529 stores in 16 states. • Gross ma rgin decreased by 30 basis points to 31.1%, compare d to gross margin of 31.4% in the third quarter of fiscal 2023. • SG&A increased by 9.5% to $304.6 million, or 27.5% of net sales. • Net income wa s $24.2 million, or $0.24 per diluted share, compared to net income of $27.1 million, or $0.27 per diluted share, in the third quarter of fiscal 2023. • Adjusted EBITDA (1) increased 6.0% to $72.3 million co mpared to $68.1 million in the third quarter of fiscal 2023. • Adjusted net inco me (1) decreased 10.1% to $27.9 million, or $0.28 pe r adjusted diluted share (1) , compared to $31.0 million, or $0.31 per adjusted diluted share, in the third quarter of fiscal 2023. _______________________ (1) Adjusted EBITDA, adjusted net income and adjusted diluted earnings per share are non-GAAP financial measures, which exclude the impact of certain special items. Please note that our non-GAAP financial measures should be considered as a supplement to, and not as a substitute for, or superior to, financial measures calculated in accordance with GAAP. See the "Operating Metrics and Non-GAAP Financial Measures" section below for additional information about these items, including their definitions, how the non-GAAP measures provide useful information to investors and how management utilizes them, and reconciliations of the non-GAAP measures and the most directly comparable GAAP measures. 22 Table of Contents Key Components of Results of Operations Net Sales We recognize revenues from the sale of products at the point of sale, net of any taxes or deposits collected and remitted to governmental authorities. Discounts provided to customers by us are recognized at the time of sale as a reduction in net sales as the products are sold. Discounts that are funded solely by IOs are not recognized as a reduction in net sales as the IO bears the incidental costs arising from the discount. We do not accept manufacturer coupons. Net sales consist of net sales from comparable stores, described below under "Operating Metrics and Non-GAAP Financial Measures - Comparable Store Sales," and non-comparable stores. Growth of our net sales is generally driven by expansion of our store base in existing and new markets as well as comparable store sales growth. Net sales are impacted by the spending habits of our customers, customer perception of value in our offerings, product mix and supply, as well as promotional and competitive activities. Our ever-changing selection of offerings across diverse product categories supports growth in net sales by attracting new customers and encouraging repeat visits from our existing customers. The spending habits of our customers are affected by changes in macroeconomic conditions, governmental benefit programs such as the Supplemental Nutrition Assistance Program and discretionary income. Our customers' discretionary income is impacted by wages, fuel and other cost-of-living increases including food-at-home inflation, as well as consumer trends and preferences, which fluctuate depending on the environment. Because we offer a broad selection of merchandise at extreme values, historically our business has benefited from periods of economic uncertainty. Cost of Sales, Gross Profit and Gross Margin Cost of sales includes, among other things, merchandise costs, inventory markdowns, inventory losses, transportation costs and distribution and warehousing costs, including depreciation. Gross profit is equal to our net sales less our cost of sales. Gross margin is gross profit as a percentage of our net sales. Gross margin is a measure used by management to indicate whether we are selling merchandise at an appropriate gross profit. Gross margin is impacted by product mix and availability, as some products generally provide higher gross margins, and by our merchandise costs, which can vary. Gross margin is also impacted by the costs of distributing and transporting product to our stores, which can vary. Our gross profit is variable in nature and generally follows changes in net sales. While our disciplined buying approach has produced consistent gross margins throughout economic cycles, which we believe has helped to mitigate adverse impacts on gross profit and results of operations, changes in consumer demand as a result of macroeconomic conditions, including inflationary cost increases for goods, labor and transportation, supply chain constraints and changes in discretionary income, have resulted and could continue to result in higher variability to our gross margins. The components of our cost of sales, as well as our gross profit and gross margin, may not be comparable to the same or similar measures of our competitors and other retailers. Selling, General and Administrative Expenses SG&A are comprised of both store-related expenses and corporate expenses. Our store-related expenses include commissions paid to IOs, occupancy and our portion of maintenance costs, depreciation and amortization of store-related assets and the cost of opening new IO stores. Company-operated store-related expenses also include payroll, benefits, supplies and utilities. Corporate expenses include payroll and benefits for corporate and field support, share-based compensation, marketing and advertising, insurance and professional services, depreciation and amortization of corporate assets and operator recruiting and training costs. We continue to closely manage our expenses and monitor SG&A as a percentage of net sales. SG&A generally increases as we grow our store base and invest in our corporate infrastructure. SG&A related to commissions paid to IOs are variable in nature and generally increase as gross profits rise and decrease as gross profits decline. We expect that our SG&A will continue to increase in future periods as we continue to grow our net sales and gross profits. The components of our SG&A may not be comparable to the components of similar measures of our competitors and other retailers. Operating Income Operating income is gross profit less SG&A. Operating income excludes interest expense, net, loss on debt extinguishment and modification and income tax expense. We use operating income as an indicator of the productivity of our business and our ability to manage expenses. 23 Table of Contents Results of Operations The following tables summarize key components of our results of operations both in dollars and as a percentage of net sales (amounts in thousands, except for percentages): 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 September 28, 2024 September 30, 2023 Net sales $ 1,108,183 $ 1,003,913 $ 3,273,647 $ 2,979,635 Cost of sales 763,311 688,222 2,275,590 2,036,831 Gross profit 344,872 315,691 998,057 942,804 Selling, general and administrative expenses 304,586 278,134 931,103 835,948 Operating income 40,286 37,557 66,954 106,856 Other expenses: Interest expense, net 6,439 4,226 15,174 14,911 Loss on debt extinguishment and modification — — — 5,340 Total other expenses 6,439 4,226 15,174 20,251 Income before income taxes 33,847 33,331 51,780 86,605 Income tax expense 9,669 6,191 14,626 21,274 Net income and comprehensive income $ 24,178 $ 27,140 $ 37,154 $ 65,331 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 September 28, 2024 September 30, 2023 Percentage of net sales (1) Net sales 100.0 % 100.0 % 100.0 % 100.0 % Cost of sales 68.9 % 68.6 % 69.5 % 68.4 % Gross profit 31.1 % 31.4 % 30.5 % 31.6 % Selling, general and administrative expenses 27.5 % 27.7 % 28.4 % 28.1 % Operating income 3.6 % 3.7 % 2.0 % 3.6 % Other expenses: Interest expense, net 0.6 % 0.4 % 0.5 % 0.5 % Loss on debt extinguishment and modification — % — % — % 0.2 % Total other expenses 0.6 % 0.4 % 0.5 % 0.7 % Income before income taxes 3.1 % 3.3 % 1.6 % 2.9 % Income tax expense 0.9 % 0.6 % 0.4 % 0.7 % Net income and comprehensive income 2.2 % 2.7 % 1.1 % 2.2 % _______________________ (1) Components may not sum to totals due to rounding. 24 Table of Contents Operating Metrics and Non-GAAP Financial Measures Number of New Stores The number of new stores reflects the number of stores opened or acquired during a particular reporting period. Newly opened stores require an initial capital investment from us for store build-outs, fixtures and equipment that we amortize over time as well as cash required for inventory and pre-opening expenses and typically the issuance of IO notes to support IO startup costs. Certain newly acquired stores may require refreshes and new fixtures. We expect new store growth to be a very significant and critical driver of our net sales growth over the long term. We lease substantially all of our store locations. Our initial lease terms on stores are typically ten years with options to renew for two or three successive five-year periods. Comparable Store Sales We use comparable store sales as an operating metric to measure performance of a store during the current reporting period against the performance of the same store in the corresponding period of the previous year. Comparable store sales are impacted by the same factors that impact net sales. Comparable store sales consists of net sales from our stores beginning on the first day of the fourteenth full fiscal month following a store's opening, which is when we believe comparability is achieved, or the thirteenth full fiscal month following a store's acquisition. Included in our comparable store definition are those stores that have been remodeled, expanded, or relocated in their existing location or respective trade areas. Excluded from our comparable store definition are those stores that have been temporarily closed for an extended period, those that have had their business materially disrupted for both planned projects as well as due to unforeseen circumstances, permanent store closures and dispositions. When applicable, as was the case with fiscal 2020 and will be the case with fiscal 2025, we exclude the net sales in the non-comparable week of a 53-week year from the same store sales calculation after comparing the current and prior year weekly periods that are most closely aligned. Opening or acquiring new stores is a primary component of our growth strategy and, as we continue to execute on our growth strategy, we expect that a significant portion of our net sales growth will be attributable to non-comparable store net sales. Accordingly, comparable store sales is only one of many measur es we use to assess the success of our growth strategy. EBITDA, Adjusted EBITDA, Adjusted Net Income and Adjusted Earnings Per Share EBITDA, adjusted EBITDA, adjusted net income and adjusted earnings per share are non-GAAP financial measures that are supplemental key metrics used by management and our Board of Directors to assess our financial performance. EBITDA, adjusted EBITDA, adjusted net income and adjusted earnings per share are also frequently used by analysts, investors and other interested parties to evaluate us and other companies in our industry. Management believes it is useful to investors and analysts to evaluate these non-GAAP measures on the same basis as management uses to evaluate our operating results. We use these non-GAAP measures to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions and to compare our performance against that of other peer companies using similar measures. In addition, we use adjusted EBITDA to supplement GAAP measures of performance to evaluate our performance in connection with compensation decisions. We believe that excluding items from operating income, net income and earnings per diluted share that may not be indicative of, or are unrelated to, our core operating results, and that may vary in frequency or magnitude, enhances the comparability of our results and provides additional information for analyzing trends in our business. We define EBITDA as net income before net interest expense, income taxes and depreciation and amortization expenses. Adjusted EBITDA represents EBITDA adjusted to exclude share-based compensation expense, loss on debt extinguishment and modification, asset impairment and gain or loss on disposition, acquisition and integration costs, costs related to the amortization of inventory purchase accounting asset step-ups and certain other expenses that may not be indicative of, or are unrelated to, our core operating results, and that may vary in frequency or magnitude. Adjusted net income represents net income adjusted for the previously mentioned adjusted EBITDA adjustments, further adjusted for the amortization of property and equipment purchase accounting asset step-ups and deferred financing costs, tax adjustment to normalize the effective tax rate, and tax effect of total adjustments. Basic adjusted earnings per share is calculated using adjusted net income, as defined above, and basic weighted average shares outstanding. Diluted adjusted earnings per share is calculated using adjusted net income, as defined above, and diluted weighted average shares outstanding. These non-GAAP measures may not be comparable to similar measures reported by other companies and have limitations as analytical tools, and you should not consider them in isolation or as a substitute for analysis of our results as reported under GAAP. We address the limitations of the non-GAAP measures through the use of various GAAP measures. In the future, we will incur expenses or charges such as those added back to calculate adjusted EBITDA or adjusted net income. Our 25 Table of Contents presentation of these non-GAAP measures should not be construed as an inference that our future results will be unaffected by the adjustments we have used to derive such non-GAAP measures. The following table summarizes key operating metrics and non-GAAP financial measures for the periods presented (amounts in thousands, except for percentages and store counts): 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 September 28, 2024 September 30, 2023 Other Financial and Operations Data Number of new stores (1) 5 8 62 15 Number of stores open at end of period 529 455 529 455 Comparable store sales increase (2) 1.2 % 6.4 % 2.6 % 9.2 % EBITDA (3) $ 68,101 $ 59,443 $ 146,203 $ 165,197 Adjusted EBITDA (3) $ 72,258 $ 68,143 $ 179,531 $ 201,740 Adjusted net income (3) $ 27,853 $ 30,989 $ 61,757 $ 89,932 _______________________ (1) 39 weeks ended September 28, 2024 includes addition of 40 stores from acquisition of United Grocery Outlet. (2) Comparable store sales consist of net sales from our stores beginning on the first day of the fourteenth full fiscal month following the store's opening, which is when we believe comparability is achieved, or the thirteenth full fiscal month following the store's acquisition. (3) See "GAAP to Non-GAAP Reconciliations" section below for the applicable reconciliations. 26 Table of Contents GAAP to Non-GAAP Reconciliations The following tables provide a reconciliation from our GAAP net income to EBITDA and adjusted EBITDA, GAAP net income to adjusted net income, and our GAAP earnings per share to adjusted earnings per share for the periods presented (amounts in thousands, except per share data): 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 September 28, 2024 September 30, 2023 Net income $ 24,178 $ 27,140 $ 37,154 $ 65,331 Interest expense, net 6,439 4,226 15,174 14,911 Income tax expense 9,669 6,191 14,626 21,274 Depreciation and amortization expenses 27,815 21,886 79,249 63,681 EBITDA 68,101 59,443 146,203 165,197 Share-based compensation expenses (1) 1,663 7,535 16,806 25,516 Loss on debt extinguishment and modification (2) — — — 5,340 Asset impairment and gain or loss on disposition (3) 216 117 961 460 Acquisition and integration costs (4) 760 — 8,346 — Amortization of purchase accounting assets (5) — — 839 — Other (6) 1,518 1,048 6,376 5,227 Adjusted EBITDA $ 72,258 $ 68,143 $ 179,531 $ 201,740 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 September 28, 2024 September 30, 2023 Net income $ 24,178 $ 27,140 $ 37,154 $ 65,331 Share-based compensation expenses (1) 1,663 7,535 16,806 25,516 Loss on debt extinguishment and modification (2) — — — 5,340 Asset impairment and gain or loss on disposition (3) 216 117 961 460 Acquisition and integration costs (4) 760 — 8,346 — Amortization of purchase accounting assets and deferred financing costs (5) 1,389 1,424 4,939 4,415 Other (6) 1,518 1,048 6,376 5,227 Tax adjustment to normalize effective tax rate (7) (600) (3,418) (1,308) (4,274) Tax effect of total adjustments (8) (1,271) (2,857) (11,517) (12,083) Adjusted net income $ 27,853 $ 30,989 $ 61,757 $ 89,932 GAAP earnings per share: Basic $ 0.25 $ 0.27 $ 0.37 $ 0.66 Diluted $ 0.24 $ 0.27 $ 0.37 $ 0.65 Adjusted earnings per share: Basic $ 0.28 $ 0.31 $ 0.62 $ 0.91 Diluted $ 0.28 $ 0.31 $ 0.62 $ 0.89 Weighted average shares outstanding: Basic 98,359 99,108 99,140 98,514 Diluted 98,933 100,973 100,146 100,727 ___________________________ (1) Includes non-cash share-based compensation expense and cash dividends paid on vested share-based awards as a result of dividends declared in connection with a recapitalization that occurred in fiscal 2018. (2) Represents the write-off of debt issuance costs and debt discounts as well as debt modification costs related to refinancing and/or repayment of our credit facilities. See Note 3 to the condensed consolidated financial statements for additional information. (3) Represents asset impairment charges and gains or losses on dispositions of assets. 27 Table of Contents (4) Represents costs related to the acquisition and integration of United Grocery Outlet, including due diligence, legal, other consulting and retention bonus expenses. (5) For purposes of determining adjusted EBITDA, this line represents the incremental amortization of inventory step-ups resulting from purchase price accounting related to acquisitions. For purposes of determining adjusted net income, in addition to the previously noted item, this line also represents the incremental amortization of an asset step-up resulting from purchase price accounting related to our acquisition in 2014 by an investment fund affiliated with Hellman & Friedman LLC, as well as the amortization of debt issuance costs, as these items are already included in the adjusted EBITDA reconciliation within the depreciation and amortization expenses and interest income, net, respectively. (6) Represents other non-recurring, non-cash or non-operational items, such as technology upgrade implementation costs, certain personnel-related costs, costs related to employer payroll taxes associated with equity awards, legal settlements and other legal expenses, store closing costs, strategic project costs and miscellaneous costs. (7) Represents adjustments to normalize the effective tax rate for the impact of unusual or infrequent tax items that we do not consider in our evaluation of ongoing performance, including excess tax expenses or benefits related to stock option exercises and vesting of restricted stock units ("RSUs") and performance-based restricted stock units ("PSUs") that are recorded in earnings as discrete items in the reporting period in which they occur. (8) Represents the tax effect of the total adjustments. We calculate the tax effect of the total adjustments on a discrete basis excluding any non-recurring and unusual tax items. Comparison of the 13 and 39 weeks ended September 28, 2024 and September 30, 2023 (amounts in thousands, except percentages) Net Sales 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Net sales $ 1,108,183 $ 1,003,913 $ 104,270 10.4 % $ 3,273,647 $ 2,979,635 $ 294,012 9.9 % The increase in net sales for the 13 and 39 weeks ended September 28, 2024 compared to the same periods in fiscal 2023 was primarily attributable to an increase in comparable store sales as well as non-comparable store net sales growth primarily from the 74 net new stores acquired or opened over the last 12 months. Comparable store sales increased 1.2% for the 13 weeks ended September 28, 2024 and 2.6% for the 39 weeks ended September 28, 2024 compared to the same periods in fiscal 2023. The increase in comparable store sales for the 13 weeks ended September 28, 2024 was driven by a 2.0% increase in the number of transactions, partially offset by a 0.7% decrease in average transaction size. The increase in comparable store sales for the 39 weeks ended September 28, 2024 was driven by a 4.6% increase in the number of transactions, partially offset by a 1.9% decrease in average transaction size. Cost of Sales 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Cost of sales $ 763,311 $ 688,222 $ 75,089 10.9 % $ 2,275,590 $ 2,036,831 $ 238,759 11.7 % % of net sales 68.9 % 68.6 % 69.5 % 68.4 % The increase in cost of sales for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily the result of an increase in comparable store sales combined with non-comparable net sales from 74 net new stores acquired or opened over the last 12 months. The increase in cost of sales for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily the result of an increase in comparable store sales combined with non-comparable net sales from 74 net new stores acquired or opened over the last 12 months, as well as impacts related to our system upgrades. Cost as a percentage of net sales increased slightly for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023. Cost as a percentage of net sales increased for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 primarily due to inventory management impacts related to our system upgrades, as certain tools we used to manage the business on our legacy system took longer to rebuild, which impacted data visibility. 28 Table of Contents Gross Profit and Gross Margin 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Gross profit $ 344,872 $ 315,691 $ 29,181 9.2 % $ 998,057 $ 942,804 $ 55,253 5.9 % Gross margin 31.1 % 31.4 % 30.5 % 31.6 % The increase in gross profit for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily the re sult of an increase in comparable store sales combined with non-comparable sales from 74 net new stores acquired or opened over the last 12 months. The increase in gross profit for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily the result of an increase in comparable store sales combined with non-comparable sales from 74 net new stores acquired or opened over the last 12 mo nths, partially offset by impacts related to our system upgrades. Gross margin decreased slightly for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023. Gross margin decreased for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 primarily due to inventory management impacts related to our system upgrades, as certain tools we used to manage the business on our legacy system took longer to rebuild, which impacted data visibility. Selling, General and Administrative Expenses 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change SG&A $ 304,586 $ 278,134 $ 26,452 9.5 % $ 931,103 $ 835,948 $ 95,155 11.4 % % of net sales 27.5 % 27.7 % 28.4 % 28.1 % The increase in SG&A for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was driven by $26.5 million in higher store-related expenses while corporate-related expenses remained relatively flat. Store-related expenses primarily increased as a result of higher store occupancy costs due to 74 net new stores acquired or opened over the last 12 months, additional personnel costs from the Company-operated stores that were acquired in the United Grocery Outlet transaction, and the recognition of an e-commerce vendor receivable during the 13 weeks ended September 30, 2023. These increases were partially offset by lower commission payments to IOs primarily due to $7.2 million of incremental support we elected to provide our IOs in connection with our system upgrade during the 13 weeks ended September 30, 2023, while support was minimal during the 13 weeks ended September 28, 2024. Corporate-related expenses remained relatively flat and included lower incentive compensation expenses, partially offset by increases in other corporate-related expenses to support the continued growth of the business. The increase in SG&A for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was driven by $77.7 million in higher store-related expenses and $17.5 million in higher corporate-related expenses. Store-related expenses primarily increased as a result of higher commission payments to IOs, largely due to 33 net new stores operated by IOs over the last 12 months and an increase of $9.0 million period over period in incremental support we elected to provide to our IOs in connection with our system upgrades. Also contributing to the increase in SG&A, were higher store occupancy costs due to 74 net new stores acquired or opened over the last 12 months, additional personnel costs from the Company-operated stores that were acquired in the United Grocery Outlet transaction, and the recognition of an e-commerce vendor receivable during the 39 weeks ended September 30, 2023. Corporate-related expenses increased largely due to increased professional service costs to support our system upgrades and support the continued growth of the business, United Grocery Outlet acquisition-related costs, and higher marketing expenses, partially offset by lower incentive compensation expenses. As a percentage of net sales, SG&A decreased slightly for the 13 weeks ended September 28, 2024 and increased slightly for the 39 weeks ended September 28, 2024 compared to the same periods in fiscal 2023 primarily due to the aforementioned factors. 29 Table of Contents Interest Expense, Net 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Interest expense, net $ 6,439 $ 4,226 $ 2,213 52.4 % $ 15,174 $ 14,911 $ 263 1.8 % % of net sales 0.6 % 0.4 % 0.5 % 0.5 % The increase in net interest expense for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily driven by higher average principal debt outstanding during the 13 weeks ended September 28, 2024, due largely to support share repurchases and other cash outlays to support the continued growth of the business, after the acquisition of United Grocery Outlet. The increase in net interest expense for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily driven by higher average principal debt outstanding during the 39 weeks ended September 28, 2024, due largely to support share repurchases and other cash outlays to support the continued growth of the business, after the acquisition of United Grocery Outlet, partially offset by the capitalization of $1.0 million of interest for the 39 weeks ended September 28, 2024. See Note 3 to the condensed consolidated financial statements for additional information. Loss on Debt Extinguishment and Modification 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Loss on debt extinguishment and modification $ — $ — $ — — % $ — $ 5,340 $ (5,340) (100.0) % % of net sales — % — % — % 0.2 % During the 39 weeks ended September 30, 2023, we recorded a $5.3 million loss on debt extinguishment related to the payoff of $385.0 million of principal on the senior term loan outstanding under our prior credit facilities. Income Tax Expense 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Income tax expense $ 9,669 $ 6,191 $ 3,478 56.2 % $ 14,626 $ 21,274 $ (6,648) (31.2) % % of net sales 0.9 % 0.6 % 0.4 % 0.7 % Effective income tax rate 28.6 % 18.6 % 28.2 % 24.6 % The increase in income tax expense for the 13 weeks ended September 28, 2024, compared to the same period in fiscal 2023 was primarily due to the increase in our effective income tax rate. The decrease in income tax expense for the 39 weeks ended September 28, 2024, compared to the same period in fiscal 2023 was primarily due to lower pretax book income, partially offset by the increase in our effective income tax rate. The increase in our effective income tax rate for the 13 and 39 weeks ended September 28, 2024 compared to the 13 and 39 weeks ended September 30, 2023 was primarily driven by lower excess tax benefits related to the exercise of stock options, non-deductible acquisition and integration costs related to the acquisition of United Grocery Outlet, and lower pretax book income. 30 Table of Contents Net Income 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Net income $ 24,178 $ 27,140 $ (2,962) (10.9) % $ 37,154 $ 65,331 $ (28,177) (43.1) % % of net sales 2.2 % 2.7 % 1.1 % 2.2 % As a result of the foregoing factors, net income decreased for the 13 and 39 weeks ended September 28, 2024 compared to the same periods in fiscal 2023. Adjusted EBITDA 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Adjusted EBITDA $ 72,258 $ 68,143 $ 4,115 6.0 % $ 179,531 $ 201,740 $ (22,209) (11.0) % The increase in adjusted EBITDA for the 13 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily due to the increase in gross profit, partially offset by the increase in SG&A related expenses, as discussed above. The decrease in adjusted EBITDA for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily due to the increase in SG&A related expenses, partially offset by the increase in gross profit, as discussed above. Adjusted Net Income 13 Weeks Ended 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change September 28, 2024 September 30, 2023 $ Change % Change Adjusted net income $ 27,853 $ 30,989 $ (3,136) (10.1) % $ 61,757 $ 89,932 $ (28,175) (31.3) % The decrease in adjusted net income for the 13 and 39 weeks ended September 28, 2024 compared to the same periods in fiscal 2023 was primarily due to the increase in SG&A related expenses, partially offset by the increase in gross profit, as discussed above. 31 Table of Contents Liquidity and Capital Resources Sources of Liquidity Based on our current operations and new store growth plans, we expect to satisfy our short-term and long-term cash requirements through a combination of our existing cash and cash equivalents position, funds generated from operating activities, and the borrowing capacity available in the revolving credit facility under our credit agreement, dated February 21, 2023, with Bank of America, N.A. (the "2023 Credit Agreement"). If cash generated from our operations and borrowings under the revolving credit facility are not sufficient or available to meet our liquidity requirements, then we will be required to obtain additional equity or debt financing in the future. There can be no assurance that equity or debt financing will be available to us when we need it or, if available, the terms will be satisfactory to us and not dilutive to our then-current stockholders. Additionally, we may seek to take advantage of market opportunities to refinance our existing debt instruments with new debt instruments at interest rates, maturities and terms we deem attractive. As of September 28, 2024, we had cash and cash equivalents of $68.7 million, which consisted primarily of cash held in checking and money market accounts with financial institutions. In addition, we have a revolving credit facility with $400.0 million in borrowing capacity under the 2023 Credit Agreement. As of September 28, 2024, we had $140.0 million outstanding under the revolving credit facility and $4.5 million of outstanding standby letters of credit, resulting in $255.5 million of remaining borrowing capacity available under this revolving credit facility. During the 39 weeks ended September 28, 2024, $140.0 million was borrowed under this revolving credit facility to support share repurchases and other cash outlays to support the continued growth of the business, after the acquisition of United Grocery Outlet. In October 2024, we borrowed an additional $30.0 million of principal under the revolving credit facility primarily to support share repurchases. The senior secured credit facilities of the 2023 Credit Agreement permit us to add incremental term loan facilities, increase any existing term loan facility, increase revolving commitments, and/or add incremental replacement revolving credit facility tranches. The aggregate principal amount of such incremental facilities are limited to (a) an amount not in excess of the sum of the greater of $200.0 million and 100% of Consolidated EBITDA (as defined in the 2023 Credit Agreement), subject to certain limitations, plus (b) voluntary prepayments of any term loan facility, voluntary permanent reductions of the commitments for the revolving credit facility and voluntary prepayments of indebtedness secured by liens on the collateral securing the credit facilities, subject to certain exceptions, plus (c) an amount such that (assuming that the full amount of any such incremental revolving increase and/or incremental replacement revolving credit facility was drawn, and after giving effect to any appropriate pro forma adjustment events) we would be in compliance, on a pro forma basis (but excluding the cash proceeds of such incurrence), with a Total Net Leverage Ratio (as defined in the 2023 Credit Agreement) of 3.00 to 1.00. We may also, from time to time, at our sole discretion, prepay or retire all or a portion of our outstanding debt. Material Cash Requirements Other than the information noted below, there has been no material change in our material cash requirements since the end of fiscal 2023. See our 2023 Form 10-K for additional information. Capital Expenditures Capital expenditures include purchases of capital assets such as property and equipment as well as intangible assets and licenses. Capital expenditures for the 39 weeks ended September 28, 2024, before the impact of tenant improvement allowances, were $140.8 million, and, net of tenant improvement allowances, were $124.9 million. We currently expect total capital expenditures, net of tenant improvement allowances, to be approximately $200.0 million for fiscal 2024, which includes new store growth, upgrades to our existing fleet including United Grocery Outlet store capital improvements, as well as ongoing investments in technology, supply chain and infrastructure. Debt Obligations The 2023 Credit Agreement requires us to make scheduled quarterly amortization payments of the senior term loan. Such payments total $46.9 million over the remaining term of the senior term loan, with $1.9 million payable over the remainder of fiscal 2024. The remaining senior term loan principal balance and any outstanding revolving credit facility balance will become due in February 2028 at maturity. See Note 3 to the condensed consolidated financial statements for additional information. 32 Table of Contents Acquisition of United Grocery Outlet On April 1, 2024, Grocery Outlet Inc., our wholly owned subsidiary, acquired BBGO Acquisition, Inc., a holding company that owns all of the outstanding capital stock of The Bargain Barn Inc., which does business as United Grocery Outlet. The acquisition was completed for the total purchase consideration of $62.5 million, including $2.0 million of cash and cash equivalents on hand, after post-closing adjustments, and was funded with cash on hand. See Note 10 to the condensed consolidated financial statements for additional information. Debt Covenants The 2023 Credit Agreement contains certain customary representations and warranties, subject to limitations and exceptions, and affirmative and customary covenants. The 2023 Credit Agreement contains certain covenants that, among other things, limit our ability and the ability of our restricted subsidiaries to: pay dividends or distributions, repurchase equity, prepay junior debt and make certain investments; incur additional debt or issue certain disqualified stock and preferred stock; incur liens on assets; merge or consolidate with another company or sell, assign, transfer, lease, convey or otherwise dispose of all or substantially all of its assets; enter into transactions with affiliates; and allow to exist certain restrictions on the ability of our subsidiaries to pay dividends or make other payments to the borrower. The 2023 Credit Agreement also contains financial performance covenants requiring us to satisfy a maximum total net leverage ratio test and a minimum interest coverage ratio test as of the last day of each fiscal quarter. The maximum total net leverage ratio test requires us to be in compliance with a Total Net Leverage Ratio no greater than 3.50 to 1.00 as of the last day of each test period ending prior to the test period ending on or about December 31, 2025, and no greater than 3.25 to 1.00 as of the last day of each test period ending thereafter, subject to certain adjustments set forth in the 2023 Credit Agreement. The minimum interest coverage ratio test requires us to be in compliance with a Consolidated Interest Coverage Ratio (as defined in the 2023 Credit Agreement) of no less than 1.75 to 1.00 as of the last day of each test period. As of September 28, 2024, we were in compliance with all applicable financial covenant requirements for the 2023 Credit Agreement. 33 Table of Contents Cash Flows The following table summarizes our cash flows for the periods presented (amounts in thousands, except percentages): 39 Weeks Ended September 28, 2024 September 30, 2023 $ Change % Change Net cash provided by operating activities $ 72,465 $ 276,218 $ (203,753) (73.8) % Net cash used in investing activities (205,678) (131,030) (74,648) 57.0 % Net cash provided by (used in) financing activities 86,879 (92,253) 179,132 194.2 % Net (decrease) increase in cash and cash equivalents $ (46,334) $ 52,935 $ (99,269) (187.5) % Cash Provided by Operating Activities Net cash provided by operating activities was $72.5 million for the 39 weeks ended September 28, 2024 compared to $276.2 million for the same period in fiscal 2023. The decrease in net cash provided by operating activities of $203.8 million for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily driven by changes in accounts payable and accrued expenses combined with lower net income and changes in merchandise inventory levels. Cash Used in Investing Activities Net cash used in investing activities was $205.7 million for the 39 weeks ended September 28, 2024 compared to $131.0 million for the same period in fiscal 2023. The increase in net cash used in investing activities of $74.6 million for the 39 weeks ended September 28, 2024 compared to the same period in fiscal 2023 was primarily due to the acquisition of United Grocery Outlet in April 2024 combined with increased spending on property and equipment due to higher store count and construction related to future stores. Cash Provided by (Used in) Financing Activities Net cash provided by financing activities of $86.9 million for the 39 weeks ended September 28, 2024 was primarily due to the borrowing of $140.0 million on our revolving credit facility under the 2023 Credit Agreement and $8.3 million in proceeds from the exercise of stock options, partially offset by the repurchase of $56.4 million of our common stock and $3.8 million in scheduled principal payments on the senior term loan under the 2023 Credit Agreement. Net cash used in financing activities of $92.3 million for the 39 weeks ended September 30, 2023 was primarily due to the payoff of $385.0 million of principal on the prior senior term loan outstanding under our prior first lien credit facility, repayment of the $25.0 million of principal on our revolving credit facility, $4.5 million in debt issuance costs paid, $3.8 million in scheduled principal payments on the senior term loan under the 2023 Credit Agreement and the repurchase of $3.3 million worth of common stock, partially offset by $325.0 million in proceeds from the 2023 Credit Agreement. Critical Accounting Policies and Estimates Our condensed consolidated financial statements are prepared in accordance with GAAP and the applicable rules and regulations of the United States ("U.S.") Securities and Exchange Commission (the "SEC") for interim reporting. The preparation of our condensed consolidated financial statements requires us to make judgments and estimates that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. We evaluate our estimates and assumptions on an ongoing basis. Our judgments and estimates are based on historical experience and other factors believed to be reasonable under the circumstances. With respect to critical accounting policies, even a relatively minor variance between actual and expected results can potentially have a materially favorable or unfavorable impact on subsequent results of operations. There have been no material changes to our critical accounting policies and estimates during the 39 weeks ended September 28, 2024 from those disclosed in our 2023 Form 10-K. Recent Accounting Pronouncements Refer to Note 1 to the condensed consolidated financial statements included elsewhere in this report. 34 Table of Contents