ROCKY BRANDS, INC. 10-Q

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. OVERVIEW During the second quarter of 2024, we amended and restated our Original ABL Facility which resulted in a restated $175.0 million revolving credit facility and a new $50.0 million term facility. The proceeds from this transaction were used to retire our existing senior secured term loan facility with TCW Asset Management Company, LLC as of April 26, 2024. This transaction resulted in an expense of $2.6 million, consisting of a loss on extinguishment of term debt in the amount of $1.1 million and a $1.5 million prepayment penalty, which are included in Interest Expense and Other - net within the Unaudited Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2024. See Note 10 - Long Term Debt to the Unaudited Condensed Consolidated Financial Statements for further information regarding our long-term debt. During the first quarter of 2023, we divested the Servus brand. The gain of approximately $1.3 million on the sale of the Servus brand was recorded within Interest Expense and Other - net in the Unaudited Condensed Consolidated Statements of Operations for the six months ended June 30, 2023. Following the sale of the Servus brand, we manufactured Servus product on behalf of the buyer, pursuant to a transition services agreement. These sales were recorded within our Contract Manufacturing reporting segment and are not expected to recur on an ongoing basis. The Servus brand was sold to allow us to focus on our more profitable core brands and allocate resources toward growth and development of additional opportunities with those brands moving forward. In 2023, we were also awarded a new multi-year contract with the U.S. Military pursuant to which we will produce and ship a minimum numbers of pairs to the U.S. Military through 2026, with the option to extend. The sales under this contract are included in our Contract Manufacturing reporting segment. The first quarter of 2024 was the first full quarter in which shipments were made to the U.S. Military under this multi-year contract. SECOND QUARTER 2024 FINANCIAL HIGHLIGHTS COMPARED TO SECOND QUARTER 2023 ● Net sales decreased 1.6% to $98.3 million from the year ago quarter; ● Operating income increased 104.7% to $4.5 million from the year ago quarter; ● Inventory decreased 20.0% to $175.0 million as of June 30, 2023; and ● Total debt decreased 31.3% to $152.4 million as of June 30, 2024. FIRST HALF OF 2024 FINANCIAL HIGHLIGHTS COMPARED TO FIRST HALF OF 2023 ● Net sales increased 40 basis points to $211.2 million from the year ago period; ● Gross margin increased 20 basis points to 38.9% for the six months ending June 30, 2024; and ● Operating income increased 965 basis points to $12.5 million from the year ago period. During the three and six months ended June 30, 2024, compared to the same periods last year, our Wholesale segment sales decreased while our Retail segment sales increased, particularly driven by an increase in our branded e-Commerce website sales. Additionally, our Contract Manufacturing segment sales increased despite a decrease in private label contract sales during the three and six months ended June 30, 2024 due to the aforementioned newly awarded contract with the U.S. Military. These factors combined with an uptick in Wholesale gross margin resulted in increased gross margin for both the three and six months ended June 30, 2024 compared to the prior year periods. As a result of cost saving measures and operational efficiencies from strategic restructuring initiatives implemented over the past year, we also saw a reduction in operating expenses as a percentage of net sales. The decline in operating expenses coupled with increased margin led to increased operating income for both the three and six months ended June 30, 2024 compared to the prior year periods. RESULTS OF OPERATIONS The following tables set forth, for the periods indicated, information derived from our Unaudited Condensed Consolidated Financial Statements. The discussion that follows each table should be read in conjunction with our Unaudited Condensed Consolidated Financial Statements as well as our Annual Report on Form 10-K for the year ended December 31, 2023 . Three Months Ended Six Months Ended June 30, June 30, ($ in thousands) 2024 2023 2024 2023 Net sales $ 98,258 $ 99,822 $ 211,164 $ 210,267 Cost of goods sold 60,220 62,250 128,977 128,936 Gross margin 38,038 37,572 82,187 81,331 Operating expenses 33,530 35,370 69,695 74,974 Income from operations $ 4,508 $ 2,202 $ 12,492 $ 6,357 Second quarter net sales decreased 1.6% to $98.3 million compared with $99.8 million in the second quarter of 2023. The change in net sales was attributable to a $3.2 million decrease in Wholesale net sales, a $1.0 million increase in Retail net sales and a $0.6 million increase in Contract Manufacturing net sales. Gross margin in the second quarter of 2024 was $38.0 million, or 38.7% of net sales, compared to $37.6 million, or 37.6% of net sales, for the same period last year. The 110-basis point increase in gross margin as a percentage of net sales was due to an increase of 200-basis points in Wholesale gross margin as well as a higher percentage of Retail net sales, which carry higher gross margins than our Wholesale and Contract Manufacturing segments. Operating expenses were $33.5 million, or 34.1% of net sales, for the second quarter of 2024 compared to $35.4 million, or 35.4% of net sales, for the same period a year ago. The decrease in operating expense as a percentage of net sales was largely attributable to the restructuring and savings achieved from the cost-saving initiatives implemented in 2023. Income from operations for the second quarter of 2024 was $4.5 million, or 4.6% of net sales compared to $2.2 million or 2.2% of net sales for the same period a year ago. The increase in income from operations was primarily driven by an increase in gross margin in the current year period combined with a decrease in operating expenses. 14 Table of Contents Net sales for the six months ended June 30, 2024 increased 0.4% to $211.2 million from $210.3 million for the six months ended June 30, 2023. Wholesale segment sales decreased $3.5 million, Retail segment sales increased $1.9 million and Contract Manufacturing segment sales increased $2.4 million during the first half of the year compared to the prior year period. The decrease in Wholesale sales for the six months ended June 30, 2024 was mainly attributable to the sales of Servus brand in March 2023. Gross margin in the second half of 2024 and 2023 was $82.1 million, or 38.9% of net sales and $81.3 million, or 38.7% of net sales, respectively. The increase in gross margin as a percent of sales was mainly attri butable to increased Retail net sales which carry higher gross margins than the Wholesale and Contract Manufacturing segments. Operating expenses for the six months ended June 30, 2024 were $69.7 million, or 33.0% of net sales, compared to $75.0 million, or 35.7% of net sales for the six months ended June 30, 2023 . The reduction in operating expenses as a percentage of net sales during the six months ended June 30, 2024 compared to the year ago period was largely attributable to the restructuring and savings achieved from the cost-saving initiatives implemented in 2023. Income from operations for the six months ended June 30, 2024 was $12.5 million or 5.9% of net sales compared to $6.4 million or 3.0% of net sales for the same period a year ago. The increase in income from operations was primarily driven by an increase in gross margin in the current year period combined with a reduction in operating expenses. Three Months Ended June 30, 2024 compared to Three Months Ended June 30, 2023 Three Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) NET SALES: Wholesale $ 68,258 $ 71,462 $ (3,204 ) (4.5 )% Retail 26,110 25,082 1,028 4.1 Contract Manufacturing 3,890 3,278 612 18.7 Total Net Sales $ 98,258 $ 99,822 $ (1,564 ) (1.6 )% Wholesale net sales for the three months ended June 30, 2024 were $68.3 million compared to $71.5 million for the three months ended June 30, 2023 . The decline in sales from the year-ago period was mainly attributable to non-recurring commercial military sales to a single customer in the second quarter of 2023, which did not occur again in the current year period. Retail net sales for the three months ended June 30, 2024 were $26.1 million compared to $25.1 million for the three months ended June 30, 2023 . The increase in Retail net sales for the second quarter of 2024 was due to continued growth in our e-commerce business as we focused on targeted marketing efforts, primarily through digital marketing. This led to increased brand awareness and allowed us to engage more directly with consumers, which resulted in increased traffic on our branded websites and increased sales for the three months ended June 30, 2024 compared to the prior year period. Contract Manufacturing net sales for the three months ended June 30, 2024 were $3.9 million compared to $3.3 million for the three months ended June 30, 2023 . The increase was due to a multi-year contract awarded with the U.S. Military in the fourth quarter of 2023. 15 Table of Contents Three Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) GROSS MARGIN: Wholesale Margin $'s $ 25,432 $ 25,176 $ 256 Margin % 37.3 % 35.2 % 2.1 % Retail Margin $'s $ 12,234 $ 12,219 $ 15 Margin % 46.9 % 48.7 % (1.8 )% Contract Manufacturing Margin $'s $ 372 $ 177 $ 195 Margin % 9.6 % 5.4 % 4.2 % Total Margin $'s $ 38,038 $ 37,572 $ 466 Margin % 38.7 % 37.6 % 1.1 % Wholesale gross margin for the three months ended June 30, 2024 was $25.4 million, or 37.3% of net sales, compared to $25.2 million, or 35.2% of net sales, for the three months ended June 30, 2023 . The increase in Wholesale gross margin was due to product mix as well as improved efficiencies at our manufacturing facilities and lower costs from our sourced factories over the last six months due to increased production. Retail gross margin for the three months ended June 30, 2024 was $12.2 million, or 46.9% of net sales, compared to $12.2 million, or 48.7% of net sales for the three months ended June 30, 2023 . The decrease in gross margin as a percent of sales was mainly attri butable to product mix as combined with enhanced promotional efforts on our branded e-Commerce websites as we aim to optimize our inventory levels. Contract Manufacturing gross margin for the three months ended June 30, 2024 was $0.4 million, or 9.6% of net sales, compared to $0.2 million, or 5.4% of net sales for the three months ended June 30, 2023 . The increase in gross margin was driven by increased sales to the U.S. Military which carried higher margins than private label sales. Three Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) OPERATING EXPENSES $ 33,530 $ 35,370 $ (1,840 ) (5.2 )% % of Net Sales 34.1 % 35.4 % (1.3 )% Operating expenses for the three months ended June 30, 2024 were $33.5 million or 34.1% of net sales compared to $35.3 million, or 35.4% of net sales for the three months ended June 30, 2023 . The reduction in operating expenses in the second quarter of 2024 compared to the second quarter of 2023 was attributable to the restructuring and savings achieved from the cost-saving initiatives implemented in 2023. Three Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) INTEREST EXPENSE AND OTHER - net $ (6,131 ) $ (5,630 ) $ (501 ) 8.9 % Interest Expense and Other - net for the three months ended June 30, 2024 was $6.1 million compared to $5.6 million in the year ago period. The increase in interest expense in the current period was due to a $2.6 million term loan extinguishment charge associated with a prepayment penalty and accelerated amortization of deferred financing fees in connection with paying off our term debt, see Note 10 - Long Term Debt to the Unaudited Condensed Consolidated Financial Statement for more information. Excluding this $2.6 million term loan extinguishment charge, Interest Expense and Other - net, decreased $2.1 million during the three months ended June 30, 2024 compared to the prior year period as a result of lower debt levels and lower interest rates in the second quarter of 2024 compared to the second quarter of 2023. Three Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) Income Tax (Benefit) Expense $ (380 ) $ (713 ) $ 333 (46.7 )% Effective Tax Rate 23.4 % 20.8 % 2.6 % The increase in our effective tax rate in the second quarter of 2024 compared to the same year ago period was primarily driven by a shift in the mix of the Company's domestic and foreign earnings. 16 Table of Contents Six Months Ended June 30, 2024 compared to Six Months Ended June 30, 2023 Six Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) NET SALES: Wholesale $ 148,050 $ 151,513 $ (3,463 ) (2.3 )% Retail 56,517 54,592 1,925 3.5 Contract Manufacturing 6,597 4,162 2,435 58.5 Total Net Sales $ 211,164 $ 210,267 $ 897 0.4 % Wholesale net sales for the six months ended June 30, 2024 were $148.1 million compared to $151.5 million for the six months ended June 30, 2023 . The decrease in W holesale sales for the six months ended June 30, 2024 was primarily due to the sale of the Servus brand in March 2023 as well as n on-recurring commercial military sales to a single customer in the second quarter of 2023 that were not repeated in the current year period. Retail net sales for the six months ended June 30, 2024 were $56.5 million compared to $54.6 million for the six months ended June 30, 2023 . The increase in Retail net sales was primarily due to growth in our e-commerce business as we focused on our targeted marketing efforts, primarily through digital marketing. This led to increased brand awareness and allowed us to engage more directly with consumers, which resulted in increased traffic on our branded websites and increased sales for the six months ended June 30, 2024 compared to the prior year ago period. Contract Manufacturing net sales for the six months ended June 30, 2024 were $6.6 million compared to $4.2 million for the six months ended June 30, 2023 . The increase was due to a multi-year contract awarded with the U.S. Military in the fourth quarter of 2023. Six Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) GROSS MARGIN: Wholesale Margin $'s $ 54,463 $ 54,485 $ (22 ) Margin % 36.8 % 36.0 % 0.8 % Retail Margin $'s $ 27,036 $ 26,598 $ 438 Margin % 47.8 % 48.7 % (0.9 )% Contract Manufacturing Margin $'s $ 688 $ 248 $ 440 Margin % 10.4 % 6.0 % 4.4 % Total Margin $'s $ 82,187 $ 81,331 $ 856 Margin % 38.9 % 38.7 % 0.2 % Wholesale gross margin for the six months ended June 30, 2024 was $54.5 million, or 36.8% of net sales, compared to $54.5 million, or 36.0% of net sales for the six months ended June 30, 2023. The increase in Wholesale gross margin as a percent of sales was due to the divestiture of the Servus brand in March 2023, which carried lower gross margins than the rest of our product portfolio, as well as product mix. The increase in reported gross margin for the current year period was partially offset by a $1.3 million net tariff refund received in the first quarter of 2023. Retail gross margin for the six months ended June 30, 2024 was $27.0 million, or 47.8% of net sales, compared to $26.6 million, or 48.7% of net sales for the six months ended June 30, 2023. The decrease in gross margin as a percent of sales was mainly attri butable to product mix combined with enhanced promotional efforts on our branded e-Commerce websites as we continue to optimize our inventory levels. Contract Manufacturing gross margin for the six months ended June 30, 2024 was $0.7 million, or 10.4% of net sales, compared to $0.2 million, or 6.0% of net sales for the six months ended June 30, 2024 . T he increase in gross margin was driven by increased sales with the U.S. Military which carried higher margins than sales private label sales. Six Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) OPERATING EXPENSES $ 69,695 $ 74,974 $ (5,279 ) (7.0 )% % of Net Sales 33.0 % 35.7 % (2.7 )% 17 Table of Contents Operating expenses for the six months ended June 30, 2024 were $69.7 million or 33.0% of net sales compared to $75.0 million, or 35.7% of net sales for the six months ended June 30, 2023 . The reduction in operating expenses during the six months ended June 30, 2024 compared to the year ago period was primarily attributable to restructuring and cost-savings initiatives implemented in 2023 as well as lower outbound freight costs. Six Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) INTEREST EXPENSE AND OTHER - net $ (10,785 ) $ (10,294 ) $ (491 ) 4.8 % Interest Expense and Other - net for the six months ended June 30, 2024 increased $0.5 million compared to the six months ended June 30, 2023. The increase in interest expense in the current period was partially due to a $2.6 million term loan extinguishment charge associated with a prepayment penalty and accelerated amortization of deferred financing fees in connection with paying off our term debt, see Note 10 - Long Term Debt to the Unaudited Condensed Consolidated Financial Statement for more information. Additionally, for the six months ended June 30, 2023, we recorded a $1.3 million gain within Interest Expense and Other - net resulting from the sale of the Servus brand. See Note 4 - Sale of Servus Brand and Related Assets for more information. Taking these items into consideration, the decrease in Interest Expense and Other - net was attributed to lower debt levels and interest rates in current period compared to the same period last year. Six Months Ended June 30, ($ in thousands) 2024 2023 Inc./ (Dec.) Inc./ (Dec.) Income Tax (Benefit) Expense $ 399 $ (823 ) $ 1,222 (148.5 )% Effective Tax Rate 23.4 % 20.9 % 2.5 % The increase in our effective tax rate for the six months ended June 30, 2024 compared to the same year ago period was primarily driven by a shift in the mix of the Company's domestic and foreign earnings. LIQUIDITY AND CAPITAL RESOURCES Overview Our principal source of liquidity has been our income from operations. During the six months ended June 30, 2024 , our primary use of cash was payments on our credit facilities. Our working capital consists primarily of trade receivables and inventory, offset by short-term debt and accounts payable. Our working capital fluctuates throughout the year as a result of our seasonal business cycle and business expansion and is generally lowest in the months of January through March of each year and highest during the months of May through October of each year. We typically utilize our revolving credit facility to fund our seasonal working capital requirements. As a result, balances on our revolving credit facility can fluctuate significantly throughout the year. Our capital expenditures relate primarily to projects relating to our corporate offices, property, merchandising fixtures, molds and equipment associated with our manufacturing and distribution operations and for information technology. Capital expenditures were $2.4 million and $2.3 million fo r the six months ended June 30, 2024 and 2023 , respectively. We lease certain machinery, a distribution center in Reno, Nevada, and manufacturing facilities under operating leases that generally provide for renewal options. We believe that our ABL Facility, coupled with cash generated from operations will provide sufficient liquidity to fund our operations and debt obligations for at least the next twelve months. Our continued liquidity, however, is contingent upon future operating performance, cash flows and our ability to meet financial covenants under our credit facility. For more information regarding our credit facility see Note 10 - Long Term Debt of our Notes to Unaudited Condensed Consolidated Financial Statements. Cash Flows Six Months Ended June 30, ($ in millions) 2024 2023 Operating activities $ 23.9 $ 19.7 Investing activities (0.4 ) 15.6 Financing activities (23.8 ) (37.9 ) Net change in cash and cash equivalents $ (0.3 ) $ (2.6 ) Operating Activities. Net cash provided by operating activities for the six months ended June 30, 2024 and 2023 was $23.9 million and $19.7 million, respectively. Adjusting for non-cash items, net income provided a cash in-flow of $10.5 million and $2.7 million for the six months ended June 30, 2024 and 2023 , respectively. The net change in working capital and other assets and liabilities resulted in an increase to cash provided by operating activities of $13.4 million for the six months ended June 30, 2024 compared to an increase of $17.0 million for the six months ended June 30, 2023. 18 Table of Contents Decreases in accounts receivable provided a source of cash of $13.1 million and $22.5 million for the six months ended June 30, 2024 and 2023 , respectively. The year-over-year decline in cash generated from accounts receivable was attributed to lower sales during the fourth quarter of 2023 compared to the fourth quarter of 2022. This reduction in sales led to decreased collections in the subsequent quarter, as there were fewer sales upon which to collect. An increase in inventory resulted in a use of cash of $5.8 million f or the six months ended June 30, 2024 compared to a decrease of inventory and a source of cash of $10.9 million for the six months ended June 30, 2023 . The rise in inventory in 2024 was driven by an increase in in-transit inventory at quarter-end as we optimize inventory levels in preparation the second half of the year. The decrease in inventory in 2023 was a result of efforts to reduce inventory levels to better align our inventory levels with supply needs. Changes in accounts payable resulted in a source of cash of $7.1 million for the six months ended June 30, 2024 compared to a use of cash of $10.1 million for the six months ended June 30, 2023 . The change in accounts payable was mainly attributable to the change in purchases resulting in the continuous improvement of our inventory levels and inventory optimization in both years. Investing Activities. Net cash used in investing activities for the six months ended June 30, 2024 was $0.4 million, compared to net cash provided by investing activities of $15.6 million for the same period in 2023. We invested $2.1 million and $1.7 million in capital expenditures for our manufacturing operations and information technology during the six months ended June 30, 2024 and 2023, respectively. These investments were offset by proceeds from the sale of the Servus brand, totaling $1.7 million in the six months ended June 30, 2024 and $17.3 million in the six months ended June 30, 2023. Financing Activities. Net cash used in financing activities for the six months ended June 30, 2024 and 2023 was $23.8 million and $37.9 million, respectively. The use of cash primarily related to payments on our revolving credit facility and term debt, which totaled $20.1 million and $35.6 million for the six months ended June 30, 2024 and 2023, respectively. Litigation The Company is involved in legal proceedings in the ordinary course of business. Unless otherwise stated, we believe that the likelihood of the resolution being materially adverse to our financial statements is remote and as such have not recorded any contingent liabilities within the accompanying Unaudited Condensed Consolidated Financial Statement. CRITICAL ACCOUNTING POLICIES AND ESTIMATES The preparation of the Company’s Unaudited Condensed Consolidated Financial Statements, which have been prepared in accordance with U.S. GAAP, requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. On an ongoing basis, management evaluates these estimates. Estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Historically, actual results have not been materially different from the Company’s estimates. However, actual results may differ materially from these estimates under different assumptions or conditions. We have identified the critical accounting policies used in determining estimates and assumptions in the amounts reported in our Management Discussion and Analysis of Financial Conditions and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2023. SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES REFORM ACT OF 1995 This report, including Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended, which are intended to be covered by the safe harbors created thereby. Those statements include, but may not be limited to, all statements regarding our and management’s intent, belief, and expectations, such as statements concerning our future profitability and our operating and growth strategy. Words such as “believe,” “anticipate,” “expect,” “will,” “may,” “should,” “intend,” “plan,” “estimate,” “predict,” “potential,” “continue,” “likely,” “would,” “could” and similar expressions are intended to identify forward-looking statements. Investors are cautioned that forward-looking statements involve risk and uncertainties including, without limitations, dependence on sales forecasts, changes in consumer demand, seasonality, impact of weather, competition, reliance on suppliers, risks inherent to international trade, changing retail trends, the loss or disruption of our manufacturing and distribution operations, cybersecurity breaches or disruption of our digital systems, fluctuations in foreign currency exchange rates, economic changes, as well as other factors set forth under the caption “Item 1A, Risk Factors” in our Annual Report on Form 10- K for the year ended December 31, 2023 (filed March 15, 2024) and the Quarterly Report on Form 10-Q for the quarter ended March 31, 2024 (filed May 9, 2024), and other factors detailed from time to time in our filings with the Securities and Exchange Commission. Although we believe that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate. Therefore, there can be no assurance that the forward-looking statements included herein will prove to be accurate. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by us or any other person that our objectives and plans will be achieved. We assume no obligation to update any forward-looking statements. 19 Table of Contents ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. There have been no material changes to our market risk as disclosed in Item 7A, “Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2023 .