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
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 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.
24
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; and
●
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
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. As of the fiscal
period ending January 31, 2022, we agreed with Generations to no longer move forward with this joint venture.
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.
Recent
Events
On
September 29, 2022, we entered into the Merger Agreement, Upon the terms and subject to the conditions set forth in the Merger Agreement,
Merger Sub will merge with and into JVA, with JVA surviving as a direct, wholly-owned subsidiary of Pubco. As a result of the Merger,
each issued and outstanding share of our common stock will be cancelled and converted for the right of the holder thereof to receive
one Pubco Ordinary Share.
25
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.
We
recognize 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 we evaluate the transfer of promised goods or
services and recognizes revenue when our customer obtains control of promised goods or services in an amount that reflects the consideration
which we expect to be entitled to receive in exchange for those goods or services. To determine revenue recognition for the arrangements
that we determine are within the scope of ASC 606, we perform 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.
We
have intangible assets consisting of our customer lists and relationships and trademarks acquired from Comfort Foods, OPTCO and SONO.
At October 31, 2023 our balance sheet reflected intangible assets as set forth below:
October 31, 2023
Customer list and relationships, net
$ 184,750
Trademarks and tradenames
327,000
$ 511,750
The
trademarks which are deemed to have indefinite lives are subject to annual impairment tests. We assess the potential impairment of 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
we are a single reporting unit, we used a hybrid approach to determine our fair market value, which included an income approach to conduct
the annual impairment assessment. 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.
26
RESULTS
OF OPERATIONS
Year
Ended October 31, 2023 (Fiscal Year 2023) Compared to the Year Ended October 31, 2022 (Fiscal Year 2022)
Net
Sales. Net sales totaled $68,173,404 for the fiscal year ended October 31, 2023, an increase of $2,466,525, or 4%, from $65,706,879
for the fiscal year ended October 31, 2022. 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 during the second half of the year.
Cost
of Sales. Cost of sales for the fiscal year ended October 31, 2023 was $57,214,382, or 84% of net sales, as compared to $54,692,933,
or 83% of net sales, for the fiscal year ended October 31, 2022. Cost of sales consists primarily of the cost of green coffee and packaging
materials and realized and unrealized gains or losses on hedging activity. For the fiscal year ended October 31, 2023, the net result
of our hedging activities resulted in a gain of approximately $189,000, and for the fiscal year ended October 31, 2022, the net result
of our hedging activities resulted in a loss of approximately $100,000. The increase in cost of sales was due to increased prices of
green coffee, freight, salaries and packaging materials.
Gross
Profit. Gross profit for the fiscal year ended October 31, 2023 was $10,959,022, a decrease of $54,924 from $11,013,946 for the
fiscal year ended October 31, 2022. Gross profit as a percentage of net sales decreased to 16% for the fiscal year ended October 31,
2023 from 17% for the fiscal year ended October 31, 2022. The decrease in gross profit percentage was attributable to higher raw material
costs.
Operating
Expenses. Total operating expenses decreased by $4,862,129 to $12,290,717 for the fiscal year ended October 31, 2023 from $16,352,846
for the fiscal year ended October 31, 2022. Selling and administrative expenses decreased $2,108,250, to $11,680,782 for the fiscal year
ended October 31, 2023 from $12,989,032 for the fiscal year ended October 31, 2022. Goodwill and other intangible impairment during fiscal
year ended October 31, 2023 amounted to $0. A decrease of $2,769,552 as compared to fiscal year ended October 31, 2022. Operating expenses
decreased primarily due to the termination of our Generations joint venture and no operating expenses for this joint venture for the
year ended October 31, 2023 compared to the year ended October 31, 2022, partially offset by increase in various other categories.
Other
Income (Expense). Other income for the fiscal year ended October 31, 2023 was $227,899, an increase of $485,649 from other expense
of $258,750 for the fiscal year ended October 31, 2022. The increase in other income was attributable to an increase in other income
of $634,181 due to an insurance claim and a $650,000 gain from the sale of an investment, an increase in interest income of $4,853, partially
offset by an increase in interest expense of $338,308 and an increase in our loss from equity investments of $464,077.
Loss
Before Provision For Income Taxes And Non-Controlling Interest In Subsidiary. We had a loss of $1,103,796 before income taxes and
non-controlling interest in subsidiary for the fiscal year ended October 31, 2023 compared to a loss of $5,597,650 for the fiscal year
ended October 31, 2022, resulting in a net change of $4,493,854 for the year ended October 31, 2023.
Income
Taxes . Our benefit for income taxes for the fiscal year ended October 31, 2023 totaled $268,220 compared to a benefit of $995,793
for the fiscal year ended October 31, 2022. The change was attributable to the difference in the income for the year ended October 31,
2023 versus fiscal year ended October 31, 2022.
Net
Loss . We had a net loss of $835,576 or $0.15 per share basic and diluted, for the fiscal year ended October 31, 2023 compared
to a net loss of $3,744,785, or $0.66 per share basic and diluted for the fiscal year ended October 31, 2022. The decrease in net loss
was due to our results as described above.
27
Liquidity
and Capital Resources
As
of October 31, 2023, we had working capital of $18,600,262, which represented a $6,661,962 decrease from our working capital of $25,262,224
as of October 31, 2022. Our working capital decrease was primarily due to decreases of $265,675 in inventory, $500,279 in prepaid and
refundable taxes, $473,132 in due from broker, $18,374 in prepaid expenses and other current assets, increases of $1,391,578 in accounts
payable and accrued expenses, $34,891 in lease liability – current portion and the inclusion of our line of credit of $9,620,000,
partially offset by increases of $218,104 in cash, $3,316,559 in accounts receivable and decreases of $876,148 in cash overdraft and
$1,231,156 in due to broker As of October 31, 2023, the outstanding balance on our line of credit was $9,620,000 compared to $8,314,000
as of October 31, 2022.
On
April 25, 2017 we and OPTCO (together with us, collectively referred to herein as 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 was later acquired by Webster Financial Corp. (“Webster”),
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 17, 2022, we reached an agreement for a new loan modification agreement and credit facility which extended the maturity date to
June 29, 2022. All other terms of the A&R Loan Agreement and A&R Loan Facility remained the same.
On
June 28, 2022, we reached an agreement for a new loan modification agreement and credit facility with Webster. 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 remained
the same.
We
are subject to certain covenants with respect to our credit agreement and we were not in compliance with the net profit and
non-borrower affiliate covenants as of October 31, 2022. We requested a waiver from the lender and the waiver was granted and
received on March 15, 2023. The lender also extended the due date of the October 31, 2022 financial statements until April 15, 2023.
On March 15, 2023, the A&R Loan Agreement was also modified to, among other things: (i) provide for a requirement for
subordination agreements if necessary, (ii) change the terms of transactions with affiliates from a dollar limitation to allowable
in the ordinary course of business, and (iii) establish a new covenant for a fixed charge coverage ratio. As of October 31, 2023, we
were not in compliance with the terms of the credit agreement. The Company has not received a waiver from the lender. The lender has reserved
its right to exercise its rights and remedies at any time at its sole discretion. These conditions raise substantial doubt about the Company’s
ability to continue as a going concern. Our audited consolidated financial statements do not include any adjustments for the recovery
and classification of assets or the amounts and classification of liabilities that might be necessary should we be unable to continue
as a going concern. If we are unable to continue as a going concern, our shareholders would likely lose some or all their investment in
our securities.
28
For
the fiscal year ended October 31, 2023, our operating activities provided net cash of $652,083 as compared to the fiscal year ended October
31, 2022 when operating activities used net cash of $5,437,508. The increased cash flow from operations for the fiscal year ended October
31, 2023 was primarily due to our lower net loss.
For
the fiscal year ended October 31, 2023, our investing activities used net cash of $857,760 as compared to the fiscal year ended
October 31, 2022 when net cash used by investing activities was $1,059,205. The decrease in our uses of cash in investing activities
was due to our decreased outlays for purchases of machinery and equipment during the fiscal
year ended October 31, 2023.
For
the fiscal year ended October 31, 2023 our financing activities provided net cash of $423,781 compared to net cash provided in financing
activities of $5,316,311 for the fiscal year ended October 31, 2022. The change in cash flow from financing activities for the fiscal
year ended October 31, 2023 was due to our decreased advances from 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, 2024 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. We are in the process of renewing
our credit facility.
We
believe that if the Merger with Delta closes, the A&R Loan Agreement and A&R Loan Facility with Webster Bank will continue in
the ordinary course.
ITEM
7A.
QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not
applicable.
ITEM
8.
FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA
See
pages F-1 through F-22 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.
29