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. - 16 - 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 (the “ Jordre Well Agreement”) to become a 49% owner in The Jordre Well, a CBD beverage company (“The Jordre Well”). 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 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. 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. - 17 - 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 our factories continued to operate with little to no impact from the pandemic-related closures. To date, we have experienced 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. 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 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. Critical Accounting Policies and Estimates There have been no changes to our critical accounting policies during the three and nine months ended July 31, 2022. 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 January 31, 2022 for the fiscal year ended October 31, 2021. - 18 - Three Months Ended July 31, 2022 Compared to the Three Months Ended July 31, 2021 Net Sales. Net sales totaled $17,013,286 for the three months ended July 31, 2022, an increase of $3,378,973, or 24.8%, from $13,634,313 for the three months ended July 31, 2021. The increase in net sales was due to an increase of sales to our legacy customers along with incremental sales to several significant new customers in the quarter. Cost of Sales. Cost of sales for the three months ended July 31, 2022 was $13,867,710, or 81.5% of net sales, as compared to $10,708,461, or 78.5% of net sales, for the three months July 31, 2021. 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 increase in cost of sales was due to our increased sales to our customers, increased prices of green coffee and packaging materials. Gross Profit. Gross profit for the three months ended July 31, 2022 amounted to $3,145,576 or 18.5% of net sales, as compared to $2,925,852 or 21.5% of net sales, for the three months ended July 31, 2021. The decrease in gross profits on a percentage basis was attributable to the factors listed above. Operating Expenses. Total operating expenses decreased by $333,223 to $2,906,094 for the three months ended July 31, 2022 from $3,239,317 for the three months ended July 31, 2021. Selling and administrative expenses decreased by $326,684 and officers’ salaries decreased by $6,539. Other Income (Expense). Other expense for the three months ended July 31, 2022 was $60,452, an increase of $54,496 from $5,956 for the three months ended July 31, 2021. The increase in other expense was attributable to an increase in interest expense of $47,898 due to our additional advances, an increase in our loss from our equity investments of $3,900 and a decrease in our interest income of $2,698, during the three months ended July 31, 2022. Income Taxes . Our provision for income taxes for the three months ended July 31, 2022 totaled $46,649 compared to a benefit of $91,003 for the three months ended July 31, 2021. The change was primarily attributable to the difference in the loss for the quarter ended July 31, 2022 versus the income in the quarter ended July 31, 2021. Net (Loss) Income . We had net income of $132,381 or $0.02 per share basic and diluted, for the three months ended July 31, 2022 compared to a net loss of $127,051, or $(0.02) per share basic and diluted for the three months ended July 31, 2021. The increase in net income was due to the factors listed above. - 19 - Nine Months Ended July 31, 2022 Compared to the Nine Months Ended July 31, 2021 Net Sales. Net sales totaled $50,216,316 for the nine months ended July 31, 2022, an increase of $3,979,608, or 8.6%, from $46,236,708 for the nine months ended July 31, 2021. The increase in net sales was due to an increase of sales to our customers partially offset by a decrease in sales from our Generations/Steep N Brew subsidiary. Cost of Sales. Cost of sales for the nine months ended July 31, 2022 was $40,806,381, or 81.3% of net sales, as compared to $35,061,947, or 75.8% of net sales, for the nine months July 31, 2021. 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 increase in cost of sales was due to increased prices of green coffee and packaging materials and the balance of our losses from our Generations/Steep N Brew subsidiary, which included obsolete inventory write-off of approximately $718,000. Gross Profit. Gross profit for the nine months ended July 31, 2022 amounted to $9,409,935 or 18.7% of net sales, as compared to $11,174,761 or 24.2% of net sales, for the nine months ended July 31, 2021. The decrease in gross profit percentage was attributable to higher raw material costs and the impact of losses from our Generations/Steep N Brew subsidiary through April 30, 2022. Operating Expenses. Total operating expenses increased by $112,492 to $9,980,192 for the nine months ended July 31, 2022 from $9,867,700 for the nine months ended July 31, 2021. Selling and administrative expenses increased by $123,618 and officers’ salaries decreased by $11,126. Our efforts to control costs through the elimination of redundancy in our operations and the elimination of certain unnecessary variable costs was offset by the increase in our freight costs and an increase of $415,096 in bad debt expense related to our Generations subsidiary. Other Income (Expense). Other expense for the nine months ended July 31, 2022 was $182,452, an increase of $130,002 from $52,450 for the nine months ended July 31, 2021. The increase in other expense was attributable to an increase in interest expense of $94,683 due to additional advances on our line of credit, an increase in our loss from our equity investments of $35,785, partially offset by an increase in our interest income of $466, during the nine months ended July 31, 2022 as compared to the nine months ended July 31, 2021. Income Taxes . Our benefit for income taxes for the nine months ended July 31, 2022 totaled $188,626 compared to a provision of $419,326 for the nine months ended July 31, 2021. The change was primarily attributable to the difference in the loss for the nine months ended July 31, 2022 versus the income in the nine months ended July 31, 2021. Net (Loss) Income . We had net income of $45,148 or $0.01 per share basic and diluted, for the nine months ended July 31, 2022 compared to net income of $907,305, or $0.16 per share basic and diluted for the nine months ended July 31, 2021. The decrease in net income was due primarily to the reasons described above. - 20 - Liquidity and Capital Resources As of July 31, 2022, we had working capital of $24,543,495, which represented a $4,560,060 increase from our working capital of $19,983,435 as of October 31, 2021. Our working capital increased primarily due to increases in inventory of $3,277,595, $165,419 in prepaid expenses and other current assets, $577,043 in prepaid and refundable taxes, decreases of $175,173 in accounts payable and accrued expenses, decrease of $3,800,850 in our line of credit current portion, decreases of $269,074 in due to broker, decrease of $217,944 in lease liabilities – current portion, and $414,949 in income taxes payable, partially offset by decreases of $2,265,798 in cash, $1,764,874 in accounts receivable, $307,315 in due from broker. As of July 31, 2022, the outstanding balance on our line of credit was $6,114,000 compared to $3,800,850 as of October 31, 2021. On April 25, 2017, we 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 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%). On June 28, 2022, we reached an agreement for a new loan modification agreement and credit facility with Webster Bank. The terms of the new agreement, among other things: (i) provided for a new maturity date of June 30, 2024, and (ii) changed the interest rate per annum to SOFR plus 1.75% (with such interest rate not to be lower than 3.50%). All other terms of the A&R Loan Agreement and A&R Loan Facility remain the same. Each of the A&R Loan Facility and A&R Loan Agreement contain 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, 2022 and October 31, 2021. 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. - 21 - For the nine months ended July 31, 2022, our operating activities used net cash of $2,820,251 as compared to the nine months ended July 31, 2021 when operating activities provided net cash of $4,428,138. The decreased cash flow from operations for the nine months ended July 31, 2022 was primarily due to our net loss, and the increase in our inventory. For the nine months ended July 31, 2022, our investing activities used net cash of $1,357,066 as compared to the nine months ended July 31, 2021 when net cash used by investing activities was $1,491,233. The increase in our uses of cash in investing activities was due to our increased purchases of machinery and equipment during the nine months ended July 31, 2022. For the nine months ended July 31, 2022, our financing activities provided net cash of $1,911,519 compared to net cash used by financing activities of $1,300,605 for the nine months ended July 31, 2021. The change in cash flow from financing activities for the nine months ended July 31, 2022 was due to our increased advances on our credit line. We expect to fund our operations, including paying our liabilities, funding capital expenditures and making required payments on our indebtedness, through at least the next twelve months from the date of these consolidated financial statements were available to be issued, 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. 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.