HF Foods Group Inc. 10-Q

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q for HF Foods Group Inc. (“HF Foods”, the “Company,” “we,” “us,” or “our”) contains forward-looking statements. Forward-looking statements include statements about our expectations, beliefs, plans, objectives, intentions, assumptions and other statements that are not historical facts. Words or phrases such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “might,” “plan,” “potential,” “predict,” “project,” “will” or similar words or phrases, or the negatives of those words or phrases, may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking. We derive many of our forward-looking statements from our operating budgets and forecasts, which are based on many detailed assumptions. While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and it is impossible for us to anticipate all factors that could affect our actual results. All forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that we expected. Factors that could cause or contribute to such differences include those discussed in this Quarterly Report on Form 10-Q, and in particular, the risks discussed under the caption “Risk Factors” in Item 1A and those discussed in other documents we file with the Securities and Exchange Commission (the “SEC”). We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements, except as required by law. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. In addition, we cannot assure you that we will realize the results or developments we expect or anticipate or, even if substantially realized, that they will result in the consequences or affect us or our operations in the way we expect. The forward-looking statements included in this Quarterly Report on Form 10-Q are made only as of the date hereof. Except as otherwise required by law, we undertake no obligation to update or revise any forward-looking statement as a result of new information, future events or otherwise. Overview We market and distribute Asian specialty food products, seafood, fresh produce, frozen and dry food, and non-food products primarily to Asian restaurants and other foodservice customers throughout the United States. HF Foods was formed through a merger between two complementary market leaders, HF Foods Group Inc. and B&R Global. In 2022, HF Foods acquired two frozen seafood suppliers, expanding its distribution network in Illinois, Texas and along the eastern seaboard, from Massachusetts to Florida, as well as Pennsylvania, West Virginia, Ohio, Kentucky, and Tennessee. We aim to supply the increasing demand for Asian American restaurant cuisine, leveraging our nationwide network of distribution centers and our strong relations with growers and suppliers of fresh, high-quality specialty restaurant food products and supplies primarily in North America, South America and Asia. Capitalizing on our deep understanding of the Asian culture, we have become a trusted partner serving Asian restaurants and other foodservice customers throughout the United States. We are dedicated to serving the vast array of Asian restaurants in need of high-quality and specialized food ingredients at competitive prices. Transformation Plan To position the business for long-term success, we have initiated a comprehensive, operational transformation plan in an effort to drive growth and cost savings. Our transformation is focused on four key areas, each of which we expect will positively impact future growth or cost savings. The components of our transformation are as follows: • Centralized Purchasing: We began the roll out of our centralized purchasing program with seafood and poultry products and have yielded positive results with respect to margin expansion for the product category. We are now focusing on expanding the program to other categories. • Fleet and Transportation: We have established a national fleet maintenance program. Within this, we have defined new truck specifications, initiated a replacement program for 50% of our current fleet, implemented a national fuel savings program to maximize efficiency, and plan to outsource domestic inbound freight logistics to a third-party partner to adopt a cohesive national approach to our supply chain. This is expected to deliver substantial improvements to our transportation system. • Digital Transformation: We are in the process of completing the implementation of a modern ERP solution across all of our distribution centers. This is expected to deliver enhanced operational efficiency and responsiveness, streamlined processes, and greater data driven decision-making. 20 • Facility Upgrades: We will be reorganizing and upgrading our facilities and distribution centers to efficiently streamline costs, and to capitalize on cross-selling opportunities with both new and existing customers. Financial Overview Three Months Ended March 31, ($ in thousands) 2025 2024 Change Net revenue $ 298,428 $ 295,654 $ 2,774 Net loss $ (1,530) $ (559) $ (971) Adjusted EBITDA $ 9,773 $ 8,702 $ 1,071 For additional information on our non-GAAP financial measures, EBITDA and Adjusted EBITDA, see the section entitled “EBITDA and Adjusted EBITDA” below. How to Assess HF Foods’ Performance In assessing our performance, we consider a variety of performance and financial measures, including principal growth in net revenue, gross profit, distribution, selling and administrative expenses, as well as certain non-GAAP financial measures, including EBITDA and Adjusted EBITDA. The key measures that we use to evaluate the performance of our business are set forth below: Net Revenue Net revenue is equal to gross sales minus sales returns, sales incentives that we offer to our customers, such as rebates and discounts that are offsets to gross sales; and certain other adjustments. Our net revenue is driven by changes in number of customers and average customer order amount, product inflation that is reflected in the pricing of our products and mix of products sold. Gross Profit Gross profit is equal to net revenue minus cost of revenue. Cost of revenue primarily includes inventory costs (net of supplier consideration), inbound freight, customs clearance fees and other miscellaneous expenses. Cost of revenue generally changes as we incur higher or lower costs from suppliers and as the customer and product mix changes. Distribution, Selling and Administrative Expenses Distribution, selling and administrative expenses consist primarily of salaries, stock-based compensation and benefits for employees and contract laborers, trucking and fuel expenses, utilities, maintenance and repair expenses, insurance expenses, depreciation and amortization expenses, selling and marketing expenses, professional fees and other operating expenses. EBITDA and Adjusted EBITDA Discussion of our results includes certain non-GAAP financial measures, including EBITDA and Adjusted EBITDA, that we believe provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing our financial performance with other companies in the same industry, many of which present similar non-GAAP financial measures to investors. We present EBITDA and Adjusted EBITDA in order to provide supplemental information that we consider relevant for the readers of our condensed consolidated financial statements included elsewhere in this report, and such information is not meant to replace or supersede GAAP measures. Management uses EBITDA to measure operating performance, defined as net income before interest expense, interest income, income taxes, and depreciation and amortization. In addition, management uses Adjusted EBITDA, defined as net income before interest expense, interest income, income taxes, and depreciation and amortization, further adjusted to exclude certain unusual, non-cash, or non-recurring expenses. Management believes that Adjusted EBITDA is less susceptible to variances in actual performance resulting from non-recurring expenses, and other non-cash charges and is more reflective of other factors that affect our operating performance. 21 The definition of EBITDA and Adjusted EBITDA may not be the same as similarly titled measures used by other companies in the industry. EBITDA and Adjusted EBITDA are not defined under GAAP and are subject to important limitations as analytical tools and should not be considered in isolation or as substitutes for analysis of HF Foods’ results as reported under GAAP. For example, Adjusted EBITDA: • excludes certain tax payments that may represent a reduction in cash available; • does not reflect any cash capital expenditure requirements for the assets being depreciated and amortized that may have to be replaced in the future; • does not reflect changes in, or cash requirements for, our working capital needs; and • does not reflect the significant interest expense, or the cash requirements, necessary to service our debt. For additional information on EBITDA and Adjusted EBITDA and a reconciliation to their most directly comparable U.S. GAAP financial measures, see “ Results of Operations — EBITDA and Adjusted EBITDA ” below. Results of Operations Comparison of Three Months Ended March 31, 2025 to Three Months Ended March 31, 2024 The following table sets forth a summary of our consolidated results of operations for the three months ended March 31, 2025 and 2024 . The historical results presented below are not necessarily indicative of the results that may be expected for any future period. Three Months Ended March 31, ($ in thousands) 2025 2024 Change Net revenue $ 298,428 $ 295,654 $ 2,774 Cost of revenue 247,469 245,243 2,226 Gross profit 50,959 50,411 548 Distribution, selling and administrative expenses 49,805 50,496 (691) Income (loss) from operations 1,154 (85) 1,239 Interest expense 2,609 2,834 (225) Other income, net (177) (94) (83) Change in fair value of interest rate swap contracts 1,184 (1,970) 3,154 Lease guarantee income — (115) 115 Loss before income taxes (2,462) (740) (1,722) Income tax benefit (932) (181) (751) Net loss and comprehensive loss (1,530) (559) (971) Less: net income attributable to noncontrolling interests 115 135 (20) Net loss and comprehensive loss attributable to HF Foods Group Inc. $ (1,645) $ (694) $ (951) 22 The following table sets forth the components of our consolidated results of operations expressed as a percentage of net revenue for the periods indicated: Three Months Ended March 31, 2025 2024 Net revenue 100.0 % 100.0 % Cost of revenue 82.9 % 82.9 % Gross profit 17.1 % 17.1 % Distribution, selling and administrative expenses 16.7 % 17.1 % Income (loss) from operations 0.4 % — % Interest expense 0.9 % 1.0 % Other expense (income), net (0.1) % — % Change in fair value of interest rate swap contracts 0.4 % (0.7) % Lease guarantee income — % — % Loss before income taxes (0.8) % (0.3) % Income tax benefit (0.3) % (0.1) % Net loss and comprehensive loss (0.5) % (0.2) % Less: net income attributable to noncontrolling interests — % — % Net loss and comprehensive loss attributable to HF Foods Group Inc. (0.6) % (0.2) % Net Revenue Net revenue for the three months ended March 31, 2025 increased by $2.8 million, or 0.9%, compared to the same period in 2024. This growth was achieved despite one fewer day of operations compared to the prior year period. The increase was primarily attributable to volume increases and improved pricing in Commodity, Meat & Poultry and Seafood, offset by a decrease in volume within other categories. Gross Profit Gross profit was $51.0 million for three months ended March 31, 2025 compared to $50.4 million in the same period in 2024 , an increase of $0.5 million, or 1.1%. The increase was primarily attributable to an increase in margins on Commodity and Seafood during the quarter. Gross profit margin for the three months ended March 31, 2025 of 17.1% remained consistent compared to 17.1% in the same period in 2024 . Distribution, Selling and Administrative Expenses Distribution, selling and administrative expenses decreased by $0.7 million, or 1.4%, to $49.8 million, for the three months ended March 31, 2025 primarily due to a decrease of $1.6 million in professional fees. Distribution, selling and administrative expenses as a percentage of net revenue decreased to 16.7% for the three months ended March 31, 2025 from 17.1% in the same period in 2024, primarily due to increased net revenue and lower professional fees, partially offset by increased payroll, insurance, rental and other expenses. Interest Expense Interest expense for the three months ended March 31, 2025 of $2.6 million decreased slightly compared to $2.8 million for the three months ended March 31, 2024. Average floating interest rates on our floating-rate debt for the three months ended March 31, 2025 decreased by approximately 1.0% on our line of credit and 1.0% on the JPMorgan Chase mortgage-secured term loan, compared to the same period in 2024. Our average daily line of credit balance increased by $4.0 million, or 9.0%, to $48.7 million for the three months ended March 31, 2025 from $44.7 million for the three months ended March 31, 2024, and our average daily JPMorgan Chase mortgage-secured term loan balance decreased by $5 million, or 4.8%, to $100.4 million for the three months ended March 31, 2025 from $105.5 million for the three months ended March 31, 2024. 23 Income Tax Benefit Income tax benefit was $932 thousand for the three months ended March 31, 2025, compared to an income tax benefit of $181 thousand for the three months ended March 31, 2024, primarily due to an increase in loss before income taxes. Net Loss Net loss was $1.5 million for the three months ended March 31, 2025 , compared to net loss of $0.6 million for the three months ended March 31, 2024. The increased loss was primarily driven by the change related to the fair value of interest rate swap contracts of $3.2 million partially offset by the change in income from operations of $1.2 million. EBITDA and Adjusted EBITDA The following table reconciles EBITDA and Adjusted EBITDA to the most directly comparable GAAP measure: Three Months Ended March 31, ($ in thousands) 2025 2024 Change Net loss $ (1,530) $ (559) $ (971) Interest expense 2,609 2,834 (225) Income tax benefit (932) (181) (751) Depreciation and amortization 6,758 6,676 82 EBITDA 6,905 8,770 (1,865) Lease guarantee income — (115) 115 Change in fair value of interest rate swap contracts 1,184 (1,970) 3,154 Stock-based compensation expense 374 738 (364) Business transformation costs (1) 237 973 (736) Other non-routine expense (2) 100 306 (206) Executive transition and organizational redesign (3) 973 — 973 Adjusted EBITDA $ 9,773 $ 8,702 $ 1,071 _________________ (1) Represents costs associated with the launch of strategic projects including supply chain management improvements and technology infrastructure initiatives. (2) Includes contested proxy and related legal and consulting costs and facility closure costs. (3) Includes severance and related expenses for the Company’s transition of executive officers and organizational redesign. Liquidity and Capital Resources As of March 31, 2025, we had cash of approximately $16.1 million, checks issued not presented for payment of $5.0 million and access to approximately $60.0 million in additional funds through our $125.0 million line of credit, subject to a borrowing base calculation. We have funded working capital and other capital requirements primarily by cash flow from operations and bank loans. Cash is required to pay purchase costs for inventory, salaries, fuel and trucking expenses, selling expenses, rental expenses, income taxes, other operating expenses and to service debts. We believe that our cash flow generated from operations is sufficient to meet our normal working capital needs for at least the next twelve months. However, our ability to repay our current obligations will depend on the future realization of our current assets. Management has considered the historical experience, the economy, the trends in the foodservice distribution industry to determine the expected collectability of accounts receivable and the realization of inventories as of March 31, 2025. We are party to an amortizing interest rate swap contract with JPMorgan Chase for an initial notional amount of $120.0 million, expiring in March 2028, as a means to partially hedge our existing floating rate loans exposure. Pursuant to the agreement, we will pay the swap counterparty a fixed rate of 4.11% in exchange for floating payments based on CME Term SOFR. 24 Management believes we have sufficient funds to meet our working capital requirements and debt obligations in the next twelve months. However, there are a number of factors that could potentially arise which might result in shortfalls in anticipated cash flow, such as the demand for our products, economic conditions, competitive pricing in the foodservice distribution industry, and our bank and suppliers being able to provide continued support. If the future cash flow from operations and other capital resources is insufficient to fund our liquidity needs, we may have to resort to reducing or delaying our expected capital investment plans, liquidating assets, obtaining additional debt or equity capital, or refinancing all or a portion of our debt. As of March 31, 2025, we have no off-balance sheet arrangements that currently have or are reasonably likely to have a material effect on our consolidated financial position, changes in financial condition, results of operations, liquidity, capital expenditures or capital resources. The following table summarizes cash flow data for the three months ended March 31, 2025 and 2024: Three Months Ended March 31, (In thousands) 2025 2024 Change Net cash provided by operating activities $ 6,948 $ 11,224 $ (4,276) Net cash used in investing activities (3,564) (2,585) (979) Net cash used in financing activities (1,752) (5,656) 3,904 Net increase in cash and cash equivalents $ 1,632 $ 2,983 $ (1,351) Operating Activities Net cash provided by operating activities consists primarily of net income adjusted for non-cash items, including depreciation and amortization, asset impairment charges, changes in deferred income taxes and others, and includes the effect of working capital changes. Net cash provided by operating activities decreased by $4.3 million primarily due to the timing of working capital outlays such as the increase of account receivable due to sales growth, inventory purchases to counter potential tariff increase partially offset by decreases in prepaid expenses. Investing Activities Net cash used in investing activities increased by $1.0 million primarily due to increased capital project spend in the three months ended March 31, 2025. Financing Activities Net cash used in financing activities decreased by $3.9 million to $1.8 million during the three months ended March 31, 2025 primarily due to the change in line of credit activity from net payments for the three months ended March 31, 2024 to net proceeds for the three months ended March 31, 2025. Critical Accounting Policies and Estimates We have prepared the financial information in this Quarterly Report in accordance with GAAP. Preparing our condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during these reporting periods. We base our estimates and judgments on historical experience and other factors we believe are reasonable under the circumstances. These assumptions form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Part II, Item 7 — “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the 2024 Annual Report on Form 10-K includes a summary of the critical accounting policies and estimates we believe are the most important to aid in understanding our financial results. There have been no changes to those critical accounting policies and estimates that have had a material impact on our reported amounts of assets, liabilities, revenue, or expenses during the three months ended March 31, 2025. As a result of continued declines in the level of stock price, the Company performed a quantitative goodwill impairment assessment as of December 31, 2024. The results of the testing as of December 31, 2024, concluded that the estimated fair value of the reporting unit fell short of carrying value, and therefore impairment existed as of that date. A goodwill impairment charge of $46.3 million was recorded during the fourth quarter of the year ended December 31, 2024. 25 For the December 31, 2024 impairment test, we used a combination of discounted cash flow (“DCF”) model and market approaches, such as public company comparable analysis and comparable acquisitions analysis to determine fair value of the reporting unit. The income approach and market approaches were weighted equally to estimate fair value. The income approach requires detailed forecasts of cash flows, including significant assumptions such as revenue growth rates, gross profit margins, distribution, selling and administrative expenses, among other assumptions, and an estimate of weighted-average cost of capital which we believe approximate the assumptions from a market participant’s perspective. The market approaches are primarily impacted by an enterprise value multiple of EBITDA. These estimates incorporate many uncertain factors which could be impacted by changes in market conditions, interest rates, growth rate, tax rates, costs, customer behavior, regulatory environment and other macroeconomic changes. In addition, we considered the reasonableness of the fair value of the reporting unit by assessing the implied enterprise value control premium based on our market capitalization and also considered the lack of liquidity in the Company’s common stock. The Company’s common stock is fairly thinly traded, with a higher level of internal stockholders than its peers, and no major analyst coverage. As a result, the implied value from the traded stock price is based on limited investment public interest. Our market capitalization is calculated using the number of common shares outstanding and common stock publicly traded price. We determined that the implied control premium was reasonable which corroborates our fair value estimates. We categorize the fair value determination as Level 3 in the fair value hierarchy due to its use of internal projections and unobservable measurement inputs. Assumptions used in impairment testing are made at a point in time and require significant judgment; therefore, they are subject to change based on the facts and circumstances present at each impairment test date. Additionally, these assumptions are generally interdependent and do not change in isolation. We performed sensitivity analyses on the key inputs and assumptions used in determining the estimated fair value of our reporting unit by utilizing changes in assumptions that would reasonably likely occur. Assuming all other assumptions and inputs used in the fair value analysis are held constant, for the December 31, 2024 impairment test, a 100 basis point increase in the discount rate assumption, a 1x decrease in the respective EBITDA multiple assumptions, a 25 basis point decrease in the gross profit margin assumption, and a 50 basis point decrease in the revenue growth rate assumption would result in a decrease in the fair value of our reporting unit of approximately $11.6 million, $31.0 million, $7.3 million, and $5.5 million, respectively, which would likely result in further impairment. These estimated changes in fair value are not necessarily representative of the actual impairment that would be recorded in the event of a fair value decline. If, in future periods, the financial performance of the reporting unit does not meet forecasted expectations, or a prolonged decline occurs in the market price of our common stock, it may cause a change in the results of the impairment assessment and, as such, could result in further impairment of goodwill. The Company determined that there were no events or circumstances during the three months ended March 31, 2025 that would more likely than not reduce the fair value of the reporting unit below its carrying value. Recent Accounting Pronouncements For a discussion of recent accounting pronouncements, see Note 2 - Summary of Significant Accounting Policies to the condensed consolidated financial statements in this Quarterly Report on Form 10-Q.