COFFEE HOLDING CO INC 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Cautionary Note on Forward-Looking Statements Some of the matters discussed under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” “Business,” “Risk Factors” and elsewhere in this annual report include forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. We have based these forward-looking statements upon information available to management as of the date of this Form 10-Q and management’s expectations and projections about future events, including, among other things: ● our dependency on a single commodity could affect our revenues and profitability; ● our success in expanding our market presence in new geographic regions; ● the effectiveness of our hedging policy may impact our profitability; ● the success of our joint ventures; ● our success in implementing our business strategy or introducing new products; ● our ability to attract and retain customers; ● our ability to obtain additional financing; ● our ability to comply with the restrictive covenants we are subject to under our current financing; ● the effects of competition from other coffee manufacturers and other beverage alternatives; ● the impact to the operations of our Colorado facility; ● general economic conditions and conditions which affect the market for coffee; ● the potential adverse impact of the COVID-19 pandemic on our operations and results, including as a result of the loss of adequate labor, any prolonged closures, or series of temporary closures, of our supply chain, or changes in consumer behaviors, when stay-at-home restriction orders are lifted and/or as a result of the COVID-19 pandemic’s impact on financial markets and economic conditions; ● our expectations regarding, and the stability of, our supply chain, including potential shortages or interruptions in the supply or delivery of green coffee, as a result of COVID-19 or otherwise; ● the macro global economic environment; ● our ability to maintain and develop our brand recognition; ● the impact of rapid or persistent fluctuations in the price of coffee beans; ● fluctuations in the supply of coffee beans; ● the volatility of our common stock; and ● other risks which we identify in future filings with the Securities and Exchange Commission (the “SEC”). In some cases, you can identify forward-looking statements by terminology such as “may,” “should,” “could,” “predict,” “potential,” “continue,” “expect,” “anticipate,” “future,” “intend,” “plan,” “believe,” “estimate” and similar expressions (or the negative of such expressions). Any or all of our forward looking statements in this quarterly report and in any other public statements we make may turn out to be wrong. They can be affected by inaccurate assumptions we might make or by known or unknown risks and uncertainties. Consequently, no forward-looking statement can be guaranteed. In addition we undertake no responsibility to update any forward-looking statement to reflect events or circumstances that occur after the date of this quarterly report. - 17 - Overview We are an integrated wholesale coffee roaster and dealer in the United States and one of the few coffee companies that offers a broad array of coffee products across the entire spectrum of consumer tastes, preferences and price points. As a result, we believe that we are well-positioned to increase our profitability and endure potential coffee price volatility throughout varying cycles of the coffee market and economic conditions. Our operations have primarily focused on the following areas of the coffee industry: ● the sale of wholesale specialty green coffee; ● the roasting, blending, packaging and sale of private label coffee; ● the roasting, blending, packaging and sale of our eight brands of coffee; and ● sales of our tabletop coffee roasting equipment. Our operating results are affected by a number of factors including: ● the level of marketing and pricing competition from existing or new competitors in the coffee industry; ● our ability to retain existing customers and attract new customers; ● our hedging policy; ● fluctuations in purchase prices and supply of green coffee and in the selling prices of our products; and ● our ability to manage inventory and fulfillment operations and maintain gross margins. Our net sales are driven primarily by the success of our sales and marketing efforts and our ability to retain existing customers and attract new customers. For this reason, we have made, and will continue to evaluate, strategic decisions to acquire and invest in measures that are expected to increase net sales. In addition to our acquisitions, in October 2020, we entered into an agreement to become a 49% owner in The Jordre Well, a CBD beverage company (“The Jordre Well”). Under the terms of the agreement with The Jordre Well, The Jordre Well assists us in the development and commercialization of CBD-infused line extensions for the existing coffee brands within our portfolio, as well as launch new brands that are intended to serve consumer demand for non-coffee CBD-infused beverages and products. In July 2021, we and The Jordre Well commenced commercial sales of our first CBD-infused line extension for our flagship dark roast Latin espresso brand, Café Caribe, as well as our first CBD-infused line extension for our gourmet coffee brand, Harmony Bay. We believe these efforts will allow us to expand our business. Our sales are affected by the price of green coffee. We purchase our green coffee from dealers located primarily within the United States. The dealers supply us with coffee beans from many countries, including Colombia, Mexico, Kenya, Indonesia, Brazil and Uganda. The supply and price of coffee beans are subject to volatility and are influenced by numerous factors which are beyond our control. For example, in Brazil, which produces approximately 40% of the world’s green coffee, the coffee crops are historically susceptible to frost in June and July and drought in September, October and November. However, because we purchase coffee from a number of countries and are able to freely substitute one country’s coffee for another in our products, price fluctuations in one country generally have not had a material impact on the price we pay for coffee. Accordingly, price fluctuations in one country generally have not had a material effect on our results of operations, liquidity and capital resources. Historically, because we generally have been able to pass green coffee price increases through to customers, increased prices of green coffee generally result in increased net sales, irrespective of sales volume. - 18 - The supply and price of coffee beans are subject to volatility and are influenced by numerous factors which are beyond our control. Historically, we have used, and intend to continue to use in a limited capacity, short-term coffee futures and options contracts primarily for the purpose of partially hedging the effects of changing green coffee prices. In addition, we acquired, and expect to continue to acquire, futures contracts with longer terms, generally three to four months, primarily for the purpose of guaranteeing an adequate supply of green coffee. Realized and unrealized gains or losses on options and futures contracts are reflected in our cost of sales. Gains on options and futures contracts reduce our cost of sales and losses on options and futures contracts increase our cost of sales. The use of these derivative financial instruments has generally enabled us to mitigate the effect of changing prices. We believe that, in normal economic times, our hedging policies remain a vital element to our business model not only in controlling our cost of sales, but also giving us the flexibility to obtain the inventory necessary to continue to grow our sales while trying to minimize margin compression during a time of historically high coffee prices. However, no strategy can entirely eliminate pricing risks and we generally remain exposed to losses on futures contracts when prices decline significantly in a short period of time, and we would generally remain exposed to supply risk in the event of non-performance by the counterparties to any of our futures contracts. Although we have had net gains on options and futures contracts in the past, we have incurred significant losses on options and futures contracts during some recent reporting periods. In these cases, our cost of sales has increased, resulting in a decrease in our profitability or increase our losses. Such losses have and could in the future materially increase our cost of sales and materially decrease our profitability and adversely affect our stock price. If our hedging policy is not effective, we may not be able to control our coffee costs, we may be forced to pay greater than market value for green coffee and our profitability may be reduced. Failure to properly design and implement an effective hedging strategy may materially adversely affect our business and operating results. If the hedges that we enter do not adequately offset the risks of coffee bean price volatility or our hedges result in losses, our cost of sales may increase, resulting in a decrease in profitability or increased losses. As previously announced, as a result of the volatile nature of the commodities markets, we have and are continuing to scale back our use of hedging and short-term trading of coffee futures and options contracts, and intend to continue to use these practices in a limited capacity going forward. COVID-19 Pandemic The global outbreak of COVID-19 was declared a pandemic by the World Health Organization and a national emergency by the U.S. government in March 2020 and has negatively affected the U.S. and global economies, disrupted global supply chains, resulted in significant travel and transport restrictions, mandated closures and stay-at-home orders, and created significant disruption of the financial markets. However, we are classified as an essential business and its factories continued to operate with little to no impact from the pandemic-related closures. To date, we have experienced minimal disruption to our supply chain or distribution network, including the supply of green coffee beans, though it is possible that more significant disruptions could occur if the COVID-19 pandemic continues to impact markets around the world. We are also working closely with all of our business partners. As a food producer, we are an essential service and almost all of our employees continue to work within our production and distribution facilities. The COVID-19 pandemic has had a material adverse impact on our condensed consolidated financial statements for the three and nine months ended July 31, 2021, and it has resulted, and is expected to continue to result for at least the near and immediate term, in significant economic disruptions and changes to consumer behaviors in the United States, which, has impacted and is expected to continue to negatively impact our business. Many of our customers who purchase green coffee from us for use in cafés, restaurants and food service operations, were forced to temporarily suspend or close operations, adversely impacting our sales to customers in that segment. However, as sales to the café, restaurant and food service segment decreased in the current quarter, sales to large wholesaler and retail customers increased, as there was a shift in buying and consumption of coffee products to this segment. The continuing impact on our business, including the length and impact of stay-at-home orders and/or regional quarantines, labor shortages and employment trends, disruptions to supply chains, including our ability to obtain products from global suppliers, higher operating costs, the form and impact of economic stimulus and general overall economic instability, is uncertain at this time and could have a material adverse effect on our business, results of operations, and financial condition. - 19 - Critical Accounting Policies and Estimates There have been no changes to our critical accounting policies during the three and nine months ended July 31, 2021. Critical accounting policies and the significant estimates in accordance with such policies are regularly discussed with our Audit Committee. Those policies are discussed under “Critical Accounting Policies” in “Part II. Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” as well as in our consolidated financial statements and footnotes thereto, each included in our annual report on Form 10-K filed with the SEC on February 16, 2021 for the fiscal year ended October 31, 2020. Three Months Ended July 31, 2021 Compared to the Three Months Ended July 31, 2020 Net Sales. Net sales totaled $13,634,313 for the three months ended July 31, 2021, a decrease of $3,709,696, or 21.3%, from $17,344,009 for the three months ended July 31, 2020. The decrease in net sales was due to multiple factors, including a 35% decline in cases shipped from our largest production facility in Colorado, as sales to supermarket and wholesale accounts declined significantly during the quarter due to the post Covid-19 demand along with an approximately $1,400,000 decline in sales from our Generations/Steep N Brew subsidiary. Cost of Sales. Cost of sales for the three months ended July 31, 2021 was $10,708,461, or 78.5% of net sales, as compared to $13,517,482, or 77.9% of net sales, for the three months July 31, 2020. Cost of sales consists primarily of the cost of green coffee and packaging materials and realized and unrealized gains or losses on hedging activity. The decrease in cost of sales was due to our decreased sales partially offset by higher packaging costs due to increases in materials, most notably steel for our cans. Gross Profit. Gross profit for the three months ended July 31, 2021 amounted to $2,925,852 or 21.5% of net sales, as compared to $3,826,527 or 22.1% of net sales, for the three months ended July 31, 2020. The decrease in gross profit percentage was attributable to decreased margins on our roasted and branded products due to higher packaging and green coffee costs as most of our wholesale and retail accounts were still operating under the pricing structures in place prior to the rise in green coffee prices towards the end of the quarter which was partially offset by higher selling prices at the end of the quarter to our green coffee customers. Operating Expenses. Total operating expenses decreased by $12,918 to $3,239,317 for the three months ended July 31, 2021 from $3,252,235 for the three months ended July 31, 2020. Selling and administrative expenses increased by $3,694 and officers’ salaries decreased by $16,612. Our continued efforts to control costs through the elimination of redundancy in our operations and the elimination of certain unnecessary variable costs were the primary reasons for this decrease. These efforts were partially offset by the continued increase in our freight costs as the cost of truckload and LTL (less than full truckloads) deliveries to our largest wholesale customers continued to increase during the quarter. Other Income (Expense). Other expense for the three months ended July 31, 2021 was $5,956, a decrease of $40,627 from $46,583 for the three months ended July 31, 2020. The decrease in other expense was attributable to a decrease in interest expense of $40,081, an increase in our loss from our equity investments of $1,907 and an increase in our interest income of $2,453, during the three months ended July 31, 2021 as compared to the three months ended July 31, 2020. Income Taxes . Our benefit for income taxes for the three months ended July 31, 2021 totaled $91,003 compared to a provision of $161,454 for the three months ended July 31, 2020. The change was primarily attributable to the difference in the income for the quarter ended July 31, 2021 versus the income in the quarter ended July 31, 2020. Net Income . We had a net loss of $127,051 or $0.02 per share basic and diluted, for the three months ended July 31, 2021 compared to net income of $391,324, or $0.07 per share basic and diluted for the three months ended July 31, 2020. This was driven primarily by losses out of our Generations subsidiary of approximately $152,000 along with the non-cash cost of our stock option program of approximately $189,768 for the quarter. - 20 - Nine Months Ended July 31, 2021 Compared to the Nine Months Ended July 31, 2020 Net Sales. Net sales totaled $46,236,708 for the nine months ended July 31, 2021, a decrease of $10,488,678, or 18.5%, from $56,725,386 for the nine months ended July 31, 2020. The decrease in net sales was due to multiple factors, including an approximate $2,500,000 decrease in sales from our Generations/Steep N Brew subsidiary, a decline in sales of green coffee during the first half of the year as many of our customers remained closed or impaired by continued COVID-19 restrictions as well as a decline in sales to supermarkets on private label products during the quarter. Cost of Sales. Cost of sales for the nine months ended July 31, 2021 was $35,061,947, or 75.8% of net sales, as compared to $45,287,198, or 79.8% of net sales, for the nine months July 31, 2020. Cost of sales consists primarily of the cost of green coffee and packaging materials and realized and unrealized gains or losses on hedging activity. The decrease in cost of sales was due to our decreased sales partially offset by higher packaging costs due to increases in materials, most notably steel for our cans. Gross Profit. Gross profit for the nine months ended July 31, 2021 amounted to $11,174,761 or 24.2% of net sales, as compared to $11,438,188 or 20.2% of net sales, for the nine months ended July 31, 2020. The increase in gross profit percentage was attributable to increased margins on our roasted and branded products and green coffee sales in the last year, partially due to the movement of lower cost green coffee inventory built up in previous quarters, partially offset by higher packaging costs due to increases in materials, most notably steel for our cans. Operating Expenses. Total operating expenses decreased by $662,947 to $9,867,700 for the nine months ended July 31, 2021 from $10,530,647 for the nine months ended July 31, 2020. Selling and administrative expenses decreased by $625,794 and officers’ salaries decreased by $37,153. Our continued efforts to control costs through the elimination of redundancy in our operations and the elimination of certain unnecessary variable costs were the primary reasons for this decrease. These efforts were partially offset by the continued increase in our freight costs as the cost of truckload and LTL (less than full truckloads) deliveries to our largest wholesale customers was up approximately 20% year over year. Other Income (Expense). Other expense for the nine months ended July 31, 2021 was $52,450, a decrease of $99,887 from $152,337 for the nine months ended July 31, 2020. The decrease in other expense was attributable to a decrease in interest expense of $102,032 and an increase in our interest income of $685, partially offset by an increase in our loss from our equity investments of $2,830, during the nine months ended July 31, 2021 as compared to the nine months ended July 31, 2020. Income Taxes . Our provision for income taxes for the nine months ended July 31, 2021 totaled $419,326 compared to a provision of $250,804 for the nine months ended July 31, 2020. The change was primarily attributable to the difference in the income for the nine months ended July 31, 2021 versus the income in the nine months ended July 31, 2020. Net Income . We had net income of $907,305 or $0.16 per share basic and diluted, for the nine months ended July 31, 2021 compared to net income of $289,994, or $0.05 per share basic and diluted for the nine months ended July 31, 2020. The increase in net income was due primarily to the reasons described above. - 21 - Liquidity and Capital Resources As of July 31, 2021, we had working capital of $20,573,060, which represented a $3,466,478 decrease from our working capital of $24,039,538 as of October 31, 2020, and total stockholders’ equity of $27,995,276 which increased by $1,476,610 from our total stockholders’ equity of $26,518,666 as of October 31, 2020. Our working capital decreased primarily due to decreases of $1,156,932 in accounts receivable, $750,468 in inventories, $92,597 in prepaid and refundable income taxes, increases of $1,048,073 in accounts payable and accrued expenses, increases in our line of credit – current portion of $2,500,000, increases of $288,294 in income taxes payable, partially offset by increase of $1,636,300 in cash, $339,855 in prepaid expenses, decreases in lease liability – current portion of $77,287, note payable – current portion of $875, and due to broker of $315,569. As of July 31, 2021, the outstanding balance on our line of credit was $2,500,000 compared to $3,796,822 as of October 31, 2020. On April 25, 2017, we and Organic Products Trading Company, LLC (“OPTCO”)(collectively, the “Borrowers”) entered into an Amended and Restated Loan and Security Agreement (the “A&R Loan Agreement”) and Amended and Restated Loan Facility (the “A&R Loan Facility”) with Sterling National Bank (“Sterling”), which consolidated (i) the financing agreement between us and Sterling, dated February 17, 2009, as modified, (the “Company Financing Agreement”) and (ii) the financing agreement between us, as guarantor, OPTCO and Sterling, dated March 10, 2015 (the “OPTCO Financing Agreement”), amongst other things. On March 13, 2020, we reached an agreement for a new loan modification agreement and credit facility with Sterling. The terms of the new agreement among other things: (i) provides for a new maturity date of March 31, 2022 and (ii) decreases the interest rate per annum to LIBOR plus 1.75% (with such interest rate not to be lower than 3.50%). Each of the A&R Loan Facility and A&R Loan Agreement contains covenants, subject to certain exceptions, that place annual restrictions on the Borrowers’ operations, including covenants relating to debt restrictions, capital expenditures, indebtedness, minimum deposit restrictions, tangible net worth, net profit, leverage, employee loan restrictions, dividend and repurchase restrictions (common stock and preferred stock), and restrictions on intercompany transactions. We were in compliance with all covenants as of July 31, 2021 and October 31, 2020. Each of the A&R Loan Facility and the A&R Loan Agreement is secured by all of our tangible and intangible assets. Other than as amended and restated by the A&R Loan Agreement, the Company Financing Agreement and the OPTCO Financing Agreement remain in full force and effect. For the nine months ended July 31, 2021, our operating activities provided net cash of $4,428,138 as compared to the nine months ended July 31, 2020 when operating activities provided net cash of $2,921,973. The increased cash flow from operations for the nine months ended July 31, 2021 was primarily due to our inventory usage during the quarter and our net income. For the nine months ended July 31, 2021, our investing activities used net cash of $1,491,233 as compared to the nine months ended July 31, 2020 when net cash used by investing activities was $392,023. The increase in our uses of cash in investing activities was due to our increased purchases of building, machinery and equipment. In June 2021, the Company purchased a facility in Colorado for $900,321 that it was previously leasing. For the nine months ended July 31, 2021, our financing activities used net cash of $1,300,605 compared to net cash used by financing activities of $2,739,728 for the nine months ended July 31, 2020. The change in cash flow from financing activities for the nine months ended July 31, 2021 was due to our decreased principal payments on our credit line, partially offset by increased proceeds. The Company believes that, based on its current cash position, and its current projection of revenue, expenses, capital expenditures and cash flows, it has sufficient resources to fund its operations for at least the next twelve months following the filing of this Report. - 22 - Off-Balance Sheet Arrangements We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not Applicable.