Item 7. Management’s Discussion and Analysis
ITEM
7.
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-K 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”). 22
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 annual 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 annual report.
22
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 invest in measures that are expected
to increase net sales. These transactions include our acquisition of Premier Roasters, LLC, including equipment and a roasting facility
in La Junta, Colorado, the addition of a west coast sales manager to increase sales of our private label and branded coffees to new customers,
our joint venture with Caruso’s Coffee, Inc. of Brecksville, Ohio, and the transaction with OPTCO. On June 29, 2016, we purchased
substantially all the assets, including equipment, inventory, customer lists and relationships of Coffee Kinetics, LLC., a Washington
limited liability company. On February 24, 2017, we acquired 100% of the capital stock of Comfort Foods, Inc. (“CFI”), a
Massachusetts based medium sized coffee roaster, manufacturing both branded and private label coffee for retail and foodservice customers.
In April 2018, Generations Coffee Company, the entity formed as a result of our joint venture with Caruso’s Coffee, Inc., purchased
substantially all the assets of Steep & Brew, Inc. In October 2020, we entered into the Jordre Well Agreement to become a 49% owner
in The Jordre Well, a CBD beverage company. Under the terms of the Jordre Well Agreement, The Jordre Well will assist 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. We believe these efforts will allow us
to expand our business.
Our
net 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.
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, as further explained in Note 2 of the Notes to the Consolidated
Financial Statements in this Report. 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. See “Item 1A –
Risk Factors - 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.
23
Critical
Accounting Policies and Estimates
We
prepare our consolidated financial statements in accordance with U.S. Generally Accepted Accounting Principles (“GAAP”).
Our significant accounting policies are described in Note 2 – Summary of Significant Accounting Policies to our consolidated
financial statements attached hereto. We believe the following critical accounting policies involve the most significant judgements and
estimates used in the preparation of our consolidated financial statements.
●
The
Company recognizes revenue in accordance with the five-step model as prescribed by the Financial Accounting Standards Board (“FASB”)
Accounting Codification (“ASC”) Topic 606 (“ASC 606”) in which the Company evaluates the transfer of promised
goods or services and recognizes revenue when its customer obtains control of promised goods or services in an amount that reflects
the consideration which the Company expects to be entitled to receive in exchange for those goods or services. To determine revenue
recognition for the arrangements that the Company determines are within the scope of ASC 606, the Company performs the following
five steps: (1) identify the contract(s) with a customer, (2) identify the performance obligations in the contract, (3) determine
the transaction price, (4) allocate the transaction price to the performance obligations in the contract and (5) recognize revenue
when (or as) the entity satisfies a performance obligation.
●
Our
goodwill consists of the cost in excess of the fair market value of the acquired net assets of OPTCO, SONO, CFI and Steep & Brew,
through GCC, which has been integrated into a structure that does not provide the basis for separate reporting units. Consequently,
we are a single reporting unit for goodwill impairment testing purposes. We also have intangible assets consisting of our customer
lists and relationships and trademarks acquired from OPTCO and SONO. At October 31, 2021 our balance sheet reflected goodwill and
intangible assets as set forth below:
October
31, 2021
Customer
list and relationships, net
$ 447,869
Non-compete,
net
29,700
Goodwill
2,488,785
Trademarks
and tradenames
408,000
$ 3,374,354
Goodwill
and the trademarks which are deemed to have indefinite lives are subject to annual impairment tests. Goodwill impairment tests require
the comparison of the fair value and carrying value of reporting units. We assess the potential impairment of goodwill and indefinite
lived intangible assets annually and on an interim basis whenever events or changes in circumstances indicate that the carrying value
may not be recoverable. Upon completion of such review, if impairment is found to have occurred, a corresponding charge will be recorded.
The value assigned to the customer list and relationships is being amortized over a twenty year period and a recoverability test is performed
whenever events or changes in circumstances indicate that the carrying value may not be recoverable.
Because
the Company is a single reporting unit, the company used a hybrid approach to determine the fair market value of the Company, which included
an income approach to conduct the annual impairment assessment. Goodwill and the indefinite lived intangible assets are tested annually
at the end of each fiscal year to determine whether they have been impaired. Upon completion of each annual review, there can be no assurance
that a material charge will not be recorded. Impairment testing is required more often than annually if an event or circumstance indicates
that an impairment or decline in value may have occurred.
For
the years ending October 31, 2021 and 2020, no impairment charges were recorded to the carrying value of goodwill and the reporting unit
has a fair value in excess of its carrying value by approximately 4% as of October 31, 2021. For the year ended October 31, 2021 we recorded
impairment on two of our trademarks totaling $1,080,000 as the carrying amount of these trademarks exceeded the respective fair values
on the test date which were determined using a relief from royalty method.
24
Year
Ended October 31, 2021 (Fiscal Year 2021) Compared to the Year Ended October 31, 2020 (Fiscal Year 2020)
Net
Sales. Net sales totaled $63,922,402 for the fiscal year ended October 31, 2021, a decrease of $10,413,413, or 14%, from $74,335,815
for the fiscal year ended October 31, 2020. The decrease in net sales was due to the impacts of the COVID-19 pandemic which caused many
of our green coffee customers who service the restaurant and food service industry, as well as our customers in the food service space
to either close or suspend their business operations during the period resulting in lost revenues from that segment of our customer base.
Also, supermarket sales returned to more traditional levels in the second half of the fiscal year, as the stockpiling in the second quarter
of the year did not repeat for the remaining six months of the year.
Cost
of Sales. Cost of sales for the fiscal year ended October 31, 2021 was $47,901,126, or 75% of net sales, as compared to $61,256,926,
or 82% of net sales, for the fiscal year ended October 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
and our hedging of green coffee costs, partially offset by higher packaging costs due to increases in materials, most notably steel for
our cans.
Gross
Profit. Gross profit for the fiscal year ended October 31, 2021 was $16,021,276, an increase of $2,942,387 from $13,078,889 for
the fiscal year ended October 31, 2020. Gross profit as a percentage of net sales increased to 25% for the fiscal year ended October
31, 2021 from 18% for the fiscal year ended October 31, 2020. The increase in gross profits was attributable to increased margins on
our roasted and branded products and green coffee sales in the last part of the year, partially due to the movement of lower cost green
coffee inventory built up in previous quarters, which was partially offset by higher packaging costs due to increases in materials.
Operating
Expenses. Total operating expenses increased by $671,914 to $14,576,121 for the fiscal year ended October 31, 2021 from $13,904,207
for the fiscal year ended October 31, 2020. Selling and administrative expenses increased $740,121, or 6%, to $13,963,328 for the fiscal
year ended October 31, 2021 from $13,223,207 for the fiscal year ended October 31, 2020. The recording of $1,080,000 of trademark impairment
partially offset by our efforts to control costs through the elimination of redundancy in our operations was the primary reason for this
increase. Officers’ salary decreased by $68,207 or 10% to $612,793 for the fiscal year ended October 31, 2021 from $681,000 for
the fiscal year ended October 31, 2020. Each of our Chief Executive Officer, Andrew Gordon, and our Vice President-Operations, David
Gordon, reduced their compensation during this period due to the uncertainty of the results due to the impacts of the COVID-19 pandemic.
25
Other
Income (Expense). Other expense for the fiscal year ended October 31, 2021 was $237,298, an increase of $684,859 from other income
of $447,561 for the fiscal year ended October 31, 2020. The increase in other expense was attributable to our recognition of the forgiveness
of the Paycheck Protection Program government loan of $634,400 in fiscal year ended October 31, 2020 and an increase in loss from equity
investment of $154,144, partially offset by an increase in interest income of $4,304 and a decrease in our interest expense of $99,381,
during the fiscal year ended October 31, 2021.
Income
(Loss) Before provision for income Taxes and Non-controlling Interest in Subsidiary. We had income of $1,207,857 before income
taxes and non-controlling interest in subsidiary for the fiscal year ended October 31, 2021 compared to a loss of $377,757 for the fiscal
year ended October 31, 2020, resulting in a net change of $1,585,614 for the year ended October 31, 2021.
Income
Taxes . Our provision for income taxes for the fiscal year ended October 31, 2021 totaled $340,180 compared to a benefit of $41,713
for the fiscal year ended October 31, 2020. The change was attributable to the difference in the income for the year ended October 31,
2021 versus fiscal year ended October 31, 2020.
Net
Income (Loss) . We had a net income of $1,255,354 or $0.22 per share basic and diluted, for the fiscal year ended October 31,
2021 compared to a net loss of ($94,301), or ($0.02) per share basic and diluted for the fiscal year ended October 31, 2020. The increase
in net income was due to our results as described above.
Liquidity
and Capital Resources
As
of October 31, 2021, we had working capital of $19,983,435, which represented a $4,056,103 decrease from our working capital of $24,039,538
as of October 31, 2020. Our working capital decreased primarily due to decreases of $1,141,127 in inventory and $69,353 in prepaid and
refundable taxes, increases of $2,011,542 in accounts payable and accrued expenses, $3,799,975 in our short term borrowings, $411,078
in income taxes payable, partially offset by increases of $821,155 in cash, $1,891,073 in accounts receivable, $469,004 in due from broker,
$51,978 in prepaid expenses and other current assets and a decrease of $143,763 in lease liability – current portion. As of October
31, 2021, the outstanding balance on our line of credit was $3,800,850 compared to $3,796,822 as of October 31, 2020.
On
April 25, 2017, us and 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 the Company 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%).
26
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 October 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 remains in full force and
effect.
Pursuant
to the terms of the Jordre Well Agreement, we issued to The Jordre Well 139,250 shares of our Common Stock on the effective date of the
Jordre Well Agreement and are obligated to issue an additional 139,250 shares of Common Stock once $500,000 in revenue is generated from
the joint venture.
For
the fiscal year ended October 31, 2021, our operating activities provided net cash of $4,709,519 as compared to the fiscal year ended
October 31, 2020 when operating activities provided net cash of $4,385,757. The increased cash flow from operations for the fiscal year
ended October 31, 2021 was primarily due to our inventories usage and our accounts receivable and accounts payable activity during the
year ended October 31, 2021.
For
the fiscal year ended October 31, 2021, our investing activities used net cash of $3,887,317 as compared to the fiscal year ended October
31, 2020 when net cash used by investing activities was $537,835. The increase in our uses of cash in investing activities was due to
our increased outlays for purchases of machinery and equipment and our other investment during the fiscal year ended October 31, 2021.
For
the fiscal year ended October 31, 2021, our financing activities used net cash of $1,047 compared to net cash used in financing activities
of $3,375,358 for the fiscal year ended October 31, 2020. The change in cash flow from financing activities for the fiscal year ended
October 31, 2021 was due to our decreased principal reductions on our line of credit.
We
expect to fund our operations, including paying our liabilities, funding capital expenditures and making required payments on our indebtedness,
through October 31, 2022 with cash provided by operating activities and the use of our credit facility. In addition, an increase in eligible
accounts receivable and inventory would permit us to make additional borrowings under our line of credit.
ITEM
7A.
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not
applicable.
ITEM
8.
FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA
See
pages F-1 through F-23 following the Exhibit Index of this Annual Report on Form 10-K.
ITEM
9.
CHANGES
IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
27