Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read together with our consolidated financial statements and the notes thereto, included in Item 8 of this Annual Report on Form 10-K. This discussion summarizes the significant factors affecting our consolidated operating results, financial condition and liquidity and cash flows for the years ended December 31, 2021 and 2020. Except for historical information, the matters discussed in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are forward-looking statements that involve risks and uncertainties and are based upon judgments concerning factors that are beyond our control.
Overview
Xcel Brands is a media and consumer products company engaged in the design, production, marketing, live streaming, wholesale distribution, and direct-to-consumer sales of branded apparel, footwear, accessories, fine jewelry, home goods and other consumer products, and the acquisition of dynamic consumer lifestyle brands. The Company’s brands have generated over $3 billion in retail sales via live streaming in interactive television and digital channels alone.
Xcel was founded in 2011 with a vision to reimagine shopping, entertainment, and social media as one thing. Xcel owns the Isaac Mizrahi, LOGO by Lori Goldstein, Judith Ripka, Halston, C Wonder, and Longaberger brands, pioneering a true omni-channel sales strategy which includes the promotion and sale of products under its brands through interactive television, digital live-stream shopping, brick-and-mortar retail,wholesale, and e-commerce channels.
To grow our brands, we are focused on the following primary strategies:
● expanding and leveraging our live-streaming platform. We recently launched our live-streaming platform through our Longaberger brand technology platform with the goal to build the world’s largest digital marketplace powered by live-streaming and micro-influencers for home and other related products, designed to create a better lifestyle. We plan to leverage this technology across our other brands.
● wholesale distribution of our brands to retailers that sell to the end consumer;
● wholesale sales and/or licensing our brands for sale through interactive television (i.e., QVC, HSN, The Shopping Channel, TVSN, etc.);
● licensing our brands to manufacturers and retailers for promotion and distribution through e-commerce, social commerce, and traditional brick-and-mortar retail channels whereby we provide certain design services;
● distribution of our brands through e-commerce directly to the end consumer; and
● acquiring additional consumer brands and integrating them into our operating platform and leveraging our operating infrastructure and distribution relationships.
We believe that we offer a unique value proposition to our retail and direct-to-consumer customers, and our licensees for the following reasons:
● our management team, including our officers’ and directors’ experience in, and relationships within, the industry;
● our deep knowledge and expertise in live-streaming sales;
● our design, production, sales, marketing, and supply chain and integrated technology platform enables us to design, market, and distribute trend-right product; and
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● our operating strategy, significant media and internet presence and distribution network.
Our vision is intended to reimagine shopping, entertainment, and social media as one thing. By leveraging live streaming, digital, and social media content across all distribution channels, we seek to drive consumer engagement and generate retail sales across our brands. Our strong relationships with leading retailers, interactive television companies, and streaming networks enable us to reach consumers in over 200 million homes worldwide and hundreds of millions of social media followers.
We believe our design, production, and supply chain platform provides significant competitive advantages compared with traditional wholesale consumer products companies that design, manufacture, and distribute products. We focus on our core competencies of live streaming, marking, design, integrated technologies, production and supply chain platform, and brand development. We believe that we offer a 360-degree solution to our retail partners that addresses many of the challenges facing the retail industry today. We believe our platform is highly scalable. Additionally, we believe we can acquire additional brands into our platform in order to leverage our operating infrastructure, marketing capabilities, and distribution network.
Critical Accounting Policies and Estimates
The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Critical accounting policies are those that are the most important to the portrayal of our financial condition and results of operations, and that require our most difficult, subjective, and complex judgments as a result of the need to make estimates about the effect of matters that are inherently uncertain. Critical accounting estimates are those that involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our financial condition or results of operations. While our significant accounting policies and estimates are described in more detail in the notes to our consolidated financial statements, our most critical accounting policies and estimates, discussed below, pertain to revenue recognition, trademarks and other intangible assets, leases, and income taxes. These include but are not limited to the estimation of the useful lives of our trademarks, the estimation of the future cash flows related to our trademarks, and the estimation of our incremental borrowing rate (for purposes of accounting for leases). In applying such policies, we must use some amounts that are based upon our informed judgments and best estimates. Estimates, by their nature, are based upon judgments and available information. The estimates that we make are based upon historical factors, current circumstances, and the experience and judgment of management. We evaluate our assumptions and estimates on an ongoing basis.
Revenue Recognition
Licensing
In connection with our licensing model, we follow Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 606-10-55-65, by which we recognize net licensing revenue at the later of when (1) the subsequent sale or usage occurs or (2) the performance obligation to which some or all of the sales- or usage-based royalty has been allocated is satisfied (in whole or in part). More specifically, we separately identify:
(i) Contracts for which, based on experience, royalties are expected to exceed any applicable minimum guaranteed payments, and to which an output-based measure of progress based on the “right to invoice” practical expedient is applied because the royalties due for each period correlate directly with the value to the customer of our performance in each period (this approach is identified as “View A” by the FASB Revenue Recognition Transition Resource Group, “TRG”); and
(ii) Contracts for which revenue is recognized based on minimum guaranteed payments using an appropriate measure of progress, in which minimum guaranteed payments are straight-lined over the term of the contract and recognized ratably based on the passage of time, and to which the royalty recognition constraint to the sales-based royalties in excess of minimum guaranteed is applied and such sales-based royalties are recognized to distinct period
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only when the minimum guaranteed is exceeded on a cumulative basis (this approach is identified as “View C” by the TRG).
Wholesale Sales
We generate revenue through sale of branded jewelry and apparel to both domestic and international customers who, in turn, sell the products to their consumers. We recognize revenue when performance obligations identified under the terms of contracts with our customers are satisfied, which occurs upon the transfer of control of the merchandise in accordance with the contractual terms and conditions of the sale. Shipping to customers is accounted for as a fulfillment activity and is recorded within other selling, general and administrative expenses.
Direct to Consumer Sales
Our revenue associated with our e-commerce jewelry operations and the Longaberger brand is recognized at a point in time when product is shipped to the customer. Shipping to customers is accounted for as a fulfillment activity and is recorded within other selling, general and administrative expenses. Revenue associated with our fine jewelry brick-and-mortar retail store is recognized at the point of sale.
Trademarks and Other Intangible Assets
We follow ASC Topic 350, “Intangibles - Goodwill and Other.” Under this standard, goodwill and indefinite-lived intangible assets are not amortized, but are required to be assessed for impairment at least annually. Our finite-lived intangible assets are amortized over their estimated useful lives. We estimate the useful lives of our intangible assets based principally on our expected use and strategic plans for each asset, our own historical experience with similar assets, and our expectations related to demand, competition, and other economic factors.
We perform our annual quantitative analysis of our indefinite-lived intangible asset as of December 31 each year. There were no impairment charges recorded for our indefinite-lived intangible asset for the years ended December 31, 2021 and 2020.
During the year ended December 31, 2020, delays and uncertainty in implementing the brick-and-mortar retail store strategy for a portion of the Ripka Brand, primarily as a result of the novel coronavirus disease pandemic, indicated that the carrying value of the Ripka Brand trademarks may not be recoverable. Therefore, we performed an impairment test of the related finite-lived intangible assets, and as a result, recorded a $13.0 million impairment charge related to the Ripka Brand trademarks.
No other impairment charges were recorded for intangible assets for the years ended December 31, 2021 and 2020.
Indefinite-Lived Intangible Asset
We test our indefinite-lived intangible asset for recovery in accordance with ASC 820-10-55-3F, which states that the income approach (“Income Approach”) converts future amounts (for example, cash flows) into a single current (that is, discounted) amount. When the Income Approach is used, fair value measurement reflects current market expectations about those future amounts. The Income Approach is based on the present value of future earnings expected to be generated by a business or asset. Income projections for a future period are discounted at a rate commensurate with the degree of risk associated with future proceeds. A residual or terminal value is also added to the present value of the income to quantify the value of the business beyond the projection period. As such, recoverability of such assets is measured by a comparison of the carrying amount of the asset to its expected future discounted net cash flows. If the carrying amount of such assets is considered to be impaired, the impairment to be recognized is measured as the amount by which the carrying amount of the assets exceeds the recoverability of the assets.
We also re-evaluate on an annual basis whether events and circumstances continue to support an indefinite useful life.
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Finite-Lived Intangibles
Our finite-lived intangible assets, including Trademarks, are reviewed for impairment whenever events or changes in circumstances indicate that their carrying value may not be recoverable. An impairment loss is recognized if the carrying amount of a finite-lived intangible asset is not recoverable and its carrying amount exceeds its fair value.
With reference to our finite-lived intangible assets’ impairment process, we group assets and liabilities at the lowest level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities and evaluate the asset group against the sum of undiscounted future cash flows. If the undiscounted cash flows do not indicate the carrying amount of the asset is recoverable, an impairment charge is measured as the amount by which the carrying amount of the asset group exceeds its fair value based on discounted cash flows analysis or appraisals.
Leases
We determine if an arrangement is a lease at the inception of the arrangement. At commencement of a lease (i.e., the date on which the lessor makes the underlying asset available for use), we recognize an operating lease right-of-use (“ROU”) asset, representing our right to use the underlying leased asset for the lease term, and a lease liability, representing our obligation to make future lease payments, based on the present value of the remaining lease payments over the lease term. As generally our leases do not provide an implicit rate, we use our incremental borrowing rate based on the information available at the commencement date in determining the present value of lease payments. We may use the implicit rate when readily determinable. Operating lease ROU assets also include scheduled lease payments made and initial direct costs, and exclude lease incentives and accrued rent. Lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for operating lease payments is generally recognized on a straight-line basis over the lease term.
For real estate leases, we account for the lease and non-lease components as a single lease component. Variable lease payments that do not depend on an index or rate (such as real estate taxes and building insurance and lessee’s shares thereof), if any, are excluded from lease payments at lease commencement date for initial measurement. Subsequent to initial measurement, these variable payments are recognized when the event determining the amount of variable consideration to be paid occurs.
For leases with a term of 12 months or less, we do not recognize lease liabilities and ROU assets, but recognize the lease payments in net income on a straight-line basis over the respective lease terms.
We recognize income from subleases (in which we are the sublessor) on a straight-line basis over the term of the sublease, as a reduction to lease expense.
Income Taxes
Income tax expense is the tax payable for the period and the change during the period in deferred tax assets and liabilities. Deferred income taxes are determined based on the temporary difference between the financial reporting and tax bases of assets and liabilities using enacted rates in effect during the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. ASC Topic 740, “Accounting for Income Taxes” clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. Tax positions shall initially be recognized in the financial statements when it is more likely than not that the position will be sustained upon examination by the tax authorities. Such tax positions shall initially and subsequently be measured as the largest amount of tax benefit that has a probability of fifty percent or greater of being realized upon ultimate settlement with the tax authority, assuming full knowledge of the position and all relevant facts. Tax years that remain open for assessment for federal and state tax purposes include the years ended December 31, 2018 through December 31, 2021.
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Recently Issued Accounting Pronouncements
In June 2016, the FASB issued Accounting Standards Update (“ASU”) No. 2016-13, "Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments," which was subsequently amended in November 2018 through ASU No. 2018-19. This ASU will require entities to estimate lifetime expected credit losses for financial instruments, including trade and other receivables, which will result in earlier recognition of credit losses. In November 2019, the FASB issued ASU No. 2019-10, which, among other things, deferred the application of the new guidance on credit losses for smaller reporting companies to fiscal years beginning after December 15, 2022, including interim periods within those fiscal years. We are currently evaluating the new guidance to determine the impact the adoption of this guidance will have on our results of operations, cash flows, and financial condition.
In November 2021, the FASB issued ASU No. 2021-10, “Government Assistance (Topic 823): Disclosures by Business Entities about Government Assistance.” This ASU will require certain financial statement disclosures about transactions with a government that are accounted for by applying a grant or contribution accounting model by analogy. This guidance is effective for financial statements issued for annual periods beginning after December 15, 2021. As this ASU only affects financial statement disclosures, the adoption of this guidance will not have any impact on our results of operations, cash flows, or financial condition.
Recently Adopted Accounting Pronouncements
We adopted ASU No. 2019-12, “Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes” effective January 1, 2021. This ASU removes certain exceptions to the general principles in Topic 740, including, but not limited to, intraperiod tax allocations and interim period tax calculations. The ASU also provides additional clarification and guidance related to recognition of franchise taxes and changes in tax laws. The adoption of this new guidance did not have any impact on our results of operations, cash flows, or financial condition.
We adopted ASU No. 2018‑13, “Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement” effective January 1, 2020. This ASU adds, modifies, and removes several disclosure requirements relative to the three levels of inputs used to measure fair value in accordance with Topic 820, “Fair Value Measurement.” The adoption of this new guidance did not have any impact on our results of operations, cash flows, or financial condition.
Summary of Operating Results
The consolidated financial statements and related notes included elsewhere in this Form 10-K are as of or for the year ended December 31, 2021 (the “Current Year”), and the year ended December 31, 2020 (the “Prior Year”).
Revenues
Current Year net revenue increased approximately $8.5 million to $37.9 million from $29.4 million for the Prior Year.
Net licensing revenue increased by $1.6 million in the Current Year to approximately $21.8 million, compared with approximately $20.2 million in the Prior Year. This increase in licensing revenue was primarily attributable to the acquisition of the Lori Goldstein brand on April 1, 2021, as well as continued revenue growth under licensing agreements for the Isaac Mizrahi brand, partially offset by a decline in licensing revenue related to the transition of the H Halston brand to a wholesale supply model.
Net sales increased by $6.9 million in the Current Year to $16.1 million, compared with $9.2 million in the Prior Year. Net sales of jewelry – primarily through wholesale distribution, and to a lesser extent through e-commerce and brick-and-mortar retail – comprised nearly half of the overall increase in net product sales. Sales of Longaberger branded products through e-commerce, social commerce, and livestreaming grew by over 270% year-over-year. In addition, wholesale apparel sales contributed significantly to the year-over-year increase in net product sales, as retail sales were severely negatively impacted in the Prior Year period during the initial outbreak of the COVID-19 pandemic.
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Cost of Goods Sold
Current Year cost of goods sold was $10.7 million, compared with $5.5 million for the Prior Year due to the higher volumes of product sales in the Current Year. Gross profit (net revenue less cost of goods sold) increased approximately $3.3 million to $27.3 million from $24.0 million in the Prior Year, driven by the combination of the aforementioned increases in both net licensing revenue and net product sales. Gross profit margin from product sales (net sales less cost of goods sold, divided by net sales) declined from approximately 41% in the Prior Year to approximately 34% in the Current Year, primarily due to increased freight costs and other supply costs to source products.
Operating Costs and Expenses
Operating costs and expenses decreased approximately $0.6 million from $40.4 million in the Prior Year to $39.8 million in the Current Year.
This decrease in operating costs and expenses was mainly driven by lower non-cash impairment charges of $13.1 million recorded in the Prior Year (primarily related to the Ripka Brand trademarks) compared with $1.4 million in the Current Year (related to our brick-and-mortar fine jewelry retail store, which we subsequently closed in 2022). This decrease was partially offset by the combination of (i) a $4.5 million increase in selling, general and administrative expenses, which was primarily attributable to increased marketing, advertising and public relations expenses, and higher warehouse and logistics costs, partially offset by lower bad debt expense; (ii) a $3.5 million increase in salaries, benefits and employment taxes, which was primarily attributable to the combination of post-COVID normalized salary costs and costs associated with the Lori Goldstein brand; and (iii) the Prior Year benefit of government assistance received through the Paycheck Protection Program in 2020, for which the Company recognized $1.8 million as a reduction to Prior Year operating costs and expenses. Also significantly offsetting the aforementioned decrease in operating costs and expenses was a $1.3 million increase in depreciation and amortization expense, primarily related to the Lori Goldstein brand trademarks acquired on April 1, 2021.
Other Income
During the Prior Year, we recognized a $0.05 million net gain on the sale of certain assets related to the Longaberger brand.
Interest and Finance Expense
Interest and finance expense for the Current Year was $3.6 million, compared with $1.2 million for the Prior Year.
This increase of approximately $2.4 million was primarily attributable to $1.5 million of losses on the extinguishment of debt recognized in the Current Year as a result of the new term loan financing agreements entered into on April 14, 2021 and December 30, 2021. The increase in interest and finance expense was also partially attributable to the fact that the new term loan agreements entered into during the Current Year resulted in a higher outstanding principal balance at a higher interest rate as compared with the previous loan agreement.
Income Tax Benefit
The effective income tax benefit rate for the Current Year was approximately 19.3% resulting in a $3.1 million income tax benefit. During the Current Year, the effective tax rate was impacted by the impact of stock-based compensation, which decreased the effective rate by approximately 5.6%. The effective tax rate was also impacted by recurring permanent differences; the largest such recurring permanent differences were state and local tax provisions, which increased the effective rate in 2021 by approximately 4.6%, and disallowed excess compensation, which decreased the effective rate in 2021 by approximately 0.7%.
The effective income tax benefit rate for the Prior Year was approximately 25.9% resulting in a $4.5 million income tax benefit. During the Prior Year, the effective tax rate was impacted by the vesting of restricted shares of common stock. The excess tax deficiencies were treated as a discrete item in the determination of the tax provision, and decreased the
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effective rate by approximately 1.9%. The effective tax rate was also impacted by recurring permanent differences, which, based on the amount of income before income taxes compared to the permanent differences, increased the effective rate in 2020 by approximately 4.0%. The largest such recurring permanent differences were state and local tax provisions, which increased the effective rate in 2020 by approximately 4.5%, and disallowed excess compensation, which decreased the effective rate in 2020 by approximately 0.5%. Also impacting the effective rate for 2020 was the addback impact of the Paycheck Protection Program, which increased the effective rate by approximately 2.2%.
Net Loss
We had a net loss of approximately $13.0 million for the Current Year, compared with a net loss of approximately $13.1 million for the Prior Year, as a result of the factors discussed above.
Non-GAAP Net Income, Non-GAAP Diluted EPS and Adjusted EBITDA
We had a non-GAAP net loss of $6.2 million or $(0.32) per share (“non-GAAP diluted EPS”) based on 19,455,987 weighted average shares outstanding for the Current Year, compared with non-GAAP net income of $1.8 million, or $0.10 per share based on 19,152,569 weighted average shares outstanding for the Prior Year. Non-GAAP net income is a non-GAAP unaudited term, which we define as net income (loss) attributable to Xcel Brands, Inc. stockholders, exclusive of amortization of trademarks, stock-based compensation, loss on extinguishment of debt, gain on sales of assets, costs (recoveries) in connection with potential acquisitions, certain adjustments to the provision for doubtful accounts related to the bankruptcy of and economic impact on certain retail customers due to the COVID-19 pandemic, asset impairments, and deferred income taxes. Non-GAAP net income and non-GAAP diluted EPS measures do not include the tax effect of the aforementioned adjusting items, due to the nature of these items and the Company’s tax strategy.
We had Adjusted EBITDA of approximately $(2.5) million for the Current Year, compared with Adjusted EBITDA of approximately $4.1 million for the Prior Year. Adjusted EBITDA is a non-GAAP unaudited measure, which we define as net income (loss) attributable to Xcel Brands, Inc. stockholders before depreciation and amortization, interest and finance expenses (including loss on extinguishment of debt, if any), income taxes, other state and local franchise taxes, stock-based compensation, gain on sale of assets, costs (recoveries) in connection with potential acquisitions, asset impairments, and certain adjustments to the provision for doubtful accounts related to the bankruptcy of and economic impact on certain retail customers due to the COVID-19 pandemic.
Management uses non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA as measures of operating performance to assist in comparing performance from period to period on a consistent basis and to identify business trends relating to the Company’s results of operations. Management believes non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA are also useful because these measures adjust for certain costs and other events that management believes are not representative of our core business operating results, and thus these non-GAAP measures provide supplemental information to assist investors in evaluating the Company’s financial results. The Company incurred certain costs in the Prior Year which it could have eliminated but elected not to do so in light of government assistance received through the Paycheck Protection Program under the CARES Act (the “PPP Benefit”), which represents a cash benefit directly related to the Company’s operating expenses incurred. Accordingly, the PPP Benefit is not considered a reconciling item for purposes of the computation of non-GAAP net income and Adjusted EBITDA. Adjusted EBITDA is the measure used to calculate compliance with the EBITDA covenant under our term loan agreement.
Non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA should not be considered in isolation or as alternatives to net income, earnings per share, or any other measure of financial performance calculated and presented in accordance with GAAP. Given that non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA are financial measures not deemed to be in accordance with GAAP and are susceptible to varying calculations, our non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA may not be comparable to similarly titled measures of other companies, including companies in our industry, because other companies may calculate these measures in a different manner than we do.
In evaluating non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA, you should be aware that in the future we may or may not incur expenses similar to some of the adjustments in this report. Our presentation of non-GAAP
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net income, non-GAAP diluted EPS, and Adjusted EBITDA does not imply that our future results will be unaffected by these expenses or any unusual or non-recurring items. When evaluating our performance, you should consider non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA alongside other financial performance measures, including our net income and other GAAP results, and not rely on any single financial measure.
The following table is a reconciliation of net loss attributable to Xcel Brands, Inc. stockholders (our most directly comparable financial measure presented in accordance with GAAP) to non-GAAP net (loss) income:
Year Ended December 31,
($ in thousands)
2021
2020
Net loss attributable to Xcel Brands, Inc. stockholders
$
(12,184)
$
(12,936)
Asset impairments
1,372
13,113
Amortization of trademarks
5,435
4,432
Stock-based compensation
720
850
Loss on extinguishment of debt
1,516
—
(Recovery of) costs in connection with potential acquisition
—
(158)
Certain adjustments to provision for doubtful accounts
132
971
Gain on sale of assets
—
(46)
Deferred income tax benefit
(3,192)
(4,382)
Non-GAAP net (loss) income
$
(6,201)
$
1,844
The following table is a reconciliation of diluted (loss) earnings per share to non-GAAP diluted EPS:
Year Ended December 31,
2021
2020
Diluted loss per share attributable to Xcel Brands, Inc. stockholders
$
(0.63)
$
(0.68)
Asset impairments
0.07
0.69
Amortization of trademarks
0.28
0.23
Stock-based compensation
0.04
0.04
Loss on extinguishment of debt
0.08
—
(Recovery of) costs in connection with potential acquisition
—
(0.01)
Certain adjustments to provision for doubtful accounts
0.01
0.05
Gain on sale of assets
—
0.00
Deferred income tax benefit
(0.17)
(0.22)
Non-GAAP diluted EPS
$
(0.32)
$
0.10
Diluted weighted average shares outstanding
19,455,987
19,152,569
The following table is a reconciliation of basic weighted average shares outstanding to non-GAAP diluted weighted average shares outstanding:
Year Ended December 31,
2021
2020
Basic weighted average shares
19,455,987
19,117,460
Effect of exercising warrants
—
490
Effect of exercising stock options
—
34,619
Non-GAAP diluted weighted average shares outstanding
19,455,987
19,152,569
As a result of the non-GAAP net loss for the Current Year, the non-GAAP diluted weighted average shares outstanding for the Current Year excludes the effect of exercising warrants and stock options, as such effect would be anti-dilutive.
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The following table is a reconciliation of net loss attributable to Xcel Brands, Inc. stockholders (our most directly comparable financial measure presented in accordance with GAAP) to Adjusted EBITDA:
Year Ended December 31,
($ in thousands)
2021
2020
Net loss attributable to Xcel Brands, Inc. stockholders
$
(12,184)
$
(12,936)
Asset impairments
1,372
13,113
Depreciation and amortization
6,830
5,497
Interest and finance expense
3,579
1,193
Income tax benefit
(3,106)
(4,518)
State and local franchise taxes
142
145
Stock-based compensation
720
850
(Recovery of) costs in connection with potential acquisition
—
(158)
Certain adjustments to provision for doubtful accounts
132
971
Gain on sale of assets
—
(46)
Adjusted EBITDA
$
(2,515)
$
4,111
Liquidity and Capital Resources
General
As of December 31, 2021 and 2020, our cash and cash equivalents were $4.5 million and $5.0 million, respectively. Restricted cash at December 31, 2021 and 2020 consisted of $0.7 million and $1.1 million, respectively, of cash deposited as collateral for an irrevocable standby letter of credit associated with the lease of our current corporate office and operating facility.
Our principal capital requirements have been to fund working capital needs, acquire new brands, and to a lesser extent, capital expenditures. Notwithstanding our recent investments in our ERP system and our brick-and-mortal retail store, our business operating model generally does not require material capital expenditures, and as of December 31, 2021, we have no significant commitments for future capital expenditures. Material cash requirements from known contractual and other obligations are discussed under “Obligations and Commitments” below.
We expect that existing cash and operating cash flows will be adequate to meet our operating needs, term debt service obligations, and capital expenditure needs, for at least the twelve months subsequent to the filing date of this Annual Report on Form 10-K. We believe that cash from future operations, including growth opportunities and future business development, as well as currently available cash, will be sufficient to satisfy our anticipated long-term operating needs, including our debt service requirements and making necessary investments in our infrastructure and technology, for the foreseeable future beyond the next twelve months.
Working Capital
Our working capital (current assets less current liabilities, excluding the current portion of lease obligations and any contingent liabilities payable in common stock) was $7.9 million as of both December 31, 2021 and 2020. Commentary on components of our cash flows for the Current Year compared with the Prior Year is set forth below.
Operating Activities
Net cash (used in) provided by operating activities was approximately $(6.6) million and $3.2 million in the Current Year and Prior Year, respectively.
The Current Year’s cash used in operating activities was primarily attributable to the combination of the net loss of $(13.0) million plus non-cash expenses of approximately $7.7 million, and a net change in operating assets and liabilities of approximately $(1.2) million. Non-cash net expenses were primarily comprised of $6.8 million of depreciation and amortization, $1.4 million of asset impairment charges, $0.3 million of amortization of deferred finance costs, a $1.5
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million loss on extinguishment of debt, $0.7 million of stock-based compensation, and $(3.2) million of deferred income tax benefit. The net change in operating assets and liabilities notably included a decrease in accounts receivable of $1.1 million, an increase in inventory of $(2.2) million, an increase in prepaid expenses and other assets of $(0.8) million, and an increase in accounts payable, accrued expenses and other current liabilities of $1.2 million. The changes in accounts receivable and payable were primarily related to the timing of collections and payments, while the change in inventory is primarily related to expected increases in wholesales, including our drop-ship programs, and an increase in our direct-to-consumer businesses.
The Prior Year’s cash provided by operating activities was primarily attributable to the combination of the net loss of $(13.1) million plus non-cash expenses of approximately $16.2 million, and a net change in operating assets and liabilities of approximately $0.1 million. The net loss of $(13.1) million included $1.8 million of government assistance received through the PPP under the CARES Act, which was recognized as a reduction to Current Year expenses for which the program was intended to compensate. Non-cash net expenses were primarily comprised of a $13.0 million intangible asset impairment charge, $5.5 million of depreciation and amortization, $1.0 million of bad debt expense, $0.9 million of stock-based compensation, and $(4.4) million of deferred income tax benefit. The net change in operating assets and liabilities included a decrease in accounts receivable of $0.7 million, an increase in inventory of $(0.3) million, a decrease in prepaid expenses and other assets of $0.6 million, and a decrease in accounts payable, accrued expenses and other current liabilities of $(0.5) million, all of which are primarily due to timing of collections and payments, and cash paid in excess of rent expense of $(0.4) million.
Investing Activities
Net cash used in investing activities for the Current Year was approximately $4.8 million, which was primarily attributable to the acquisition of the Lori Goldstein brand on April 1, 2021, and, to a lesser extent, to capital expenditures relating to the fit-out and furnishing of our new Judith Ripka fine jewelry retail store.
Net cash used in investing activities for the Prior Year was approximately $0.7 million, primarily attributable to capital expenditures, a substantial portion of which related to the implementation of our ERP system.
Financing Activities
Net cash provided by financing activities for the Current Year was approximately $10.5 million, and was primarily attributable to a net increase in debt obligations of $13.5 million, due to debt refinancing transactions entered into on April 14, 2021 and December 30, 2021, as well as cash contributions received from the non-controlling interest holder in Longaberger Licensing, LLC of $1.0 million. These sources of cash were partially offset by deferred finance costs and other fees paid in connection with the aforementioned debt refinancing transactions of $(2.7) million, and principal payments made on term loan debt of $(1.3) million during the year.
Net cash used in financing activities for the Prior Year was approximately $(2.2) million, and was primarily attributable to payments made on long-term debt obligations of $(2.3) million, cash contributions received from the non-controlling interest holder in Longaberger Licensing, LLC of $0.3 million, and $(0.2) million of shares repurchased related to vested restricted stock in exchange for withholding taxes.
Obligations and Commitments
Term Loan Debt and Revolving Loan Debt
Previous Term Loan Debt
On February 11, 2019, the Company entered into an amended loan agreement with Bank Hapoalim B.M. (“BHI”), which amended and restated a prior term loan with BHI. Under that amended loan agreement, the aggregate amount of all the term loans extended by BHI to Xcel was $22.0 million, which amount was divided into two term loans: (1) a term loan in the amount of $7.3 million and (2) a term loan in the amount of $14.7 million. These two term loans bore interest at a fixed rate of 5.1% and 6.25% per annum, respectively. Such loan agreement was subsequently amended on April 13, 2020 and
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again on August 18, 2020; such amendments changed the timing and amount of quarterly installment payments, but did not change the total principal balance, interest rate, or maturity date. These amendments during 2020 were accounted for as debt modifications and, accordingly, no gain or loss was recorded.
April 2021 Term Loan Debt
On April 14, 2021, Xcel, as Borrower, and its wholly-owned subsidiaries entered into a Loan and Security Agreement (the “Loan Agreement”) with BHI as administrative agent and collateral agent, FEAC Agent, LLC (“FEAC”) as co-collateral agent, and the financial institutions party thereto as lenders. Pursuant to the Loan Agreement, the lenders made two term loans: (1) a term loan in the amount of $10.0 million (“Term Loan A”) and (2) a term loan in the amount of $15.0 million (“Term Loan B” and, together with Term Loan A, the “Term Loans”).
The Loan Agreement also provided that the lenders make available to Xcel a revolving loan facility in an amount up to $4.0 million on a discretionary basis, but not to exceed 85% of the amount of eligible accounts receivable, as defined.
Management assessed and determined that this new agreement resulted in an extinguishment of the previous term loan debt, and accordingly recognized a loss of approximately $0.82 million (consisting of $0.09 million of unamortized deferred finance costs and $0.73 million of breakage fees owed to the old lender under the terms of the previous debt agreement) during the Current Year. Approximately $367,000 of such aforementioned breakage fees were paid at time of extinguishment, with the remaining $367,000 of such fees payable in three equal payments on each of May 1, 2022, 2023, and 2024.
Upon entering into the Loan Agreement, Xcel paid a 2.5% closing fee in the amount of $0.625 million to the administrative agent for the benefit of each lender having a term loan commitment; the Company also paid approximately $0.6 million of various legal and other fees in connection with the execution of the Loan Agreement. These fees and costs totaling approximately $1.2 million were deferred on the Company’s balance sheet as a reduction of the carrying value of the Term Loans, to be subsequently amortized to interest expense over the term of the Term Loans using the effective interest method.
The Term Loans were to mature on April 14, 2025, with principal payable in 16 quarterly installments of $625,000 on each of March 31, June 30, September 30, and December 31 of each year, commencing on June 30, 2021 and ending on March 31, 2025, with a final payment of $15.0 million on the maturity date of April 14, 2025. The Company made the required principal payments on June 30, 2021 and September 30, 2021 (totaling $1.25 million) as scheduled.
Interest on Term Loan A accrued at LIBOR plus 4.0% per annum, and interest on the Term Loan B accrued at LIBOR plus 8.0% per annum. Interest on the Loans was paid on the last business day of each calendar month. Base Rate was defined in the Loan Agreement as the greater of (a) BHI’s stated prime rate or (b) 2.00% per annum plus the overnight federal funds rate published by the Federal Reserve Bank of New York. LIBOR was defined in the Loan Agreement as the greater of (a) the rate of interest per annum for deposits in dollars for an interest period equal to one month as published by ICE Benchmark Administration Limited or a comparable or successor quoting service at approximately 11:00 a.m. (London time) on such date of determination or (b) 1.0% per annum.
The Loan Agreement also contained customary covenants, including reporting requirements, trademark preservation, and financial covenants (on a consolidated basis with Xcel and its wholly-owned subsidiaries).
The Company, BHI, FEAC, and the lenders subsequently amended the Loan Agreement multiple times during 2021 – on August 12, 2021, September 29, 2021, and November 12, 2021. While these amendments modified financial covenants and/or adjusted the maximum amount available under the revolving loan facility, there were no changes made to the total principal balance, interest rate, maturity date, or any other terms of the Loan Agreement.
Also, under the terms of the April 2021 Loan Agreement, the lenders made a revolving loan facility available to Xcel. On June 24, 2021, we borrowed $1.5 million under the aforementioned revolving loan facility, and on September 30, 2021, we borrowed $998,000 under the revolving loan facility. We repaid the outstanding balance in full on December 30, 2021. The revolving loan facility bore interest at a rate of 4.75% per annum, and we incurred related interest expense of
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approximately $0.05 million for the Current Year. As of December 31, 2021, we no longer had access to a revolving loan facility under the terms of the new loan agreement entered into on December 30, 2021 (as described below).
December 2021 Term Loan Debt
On December 30, 2021, Xcel, as Borrower, and its wholly-owned subsidiaries, IM Brands, LLC, JR Licensing, LLC, H Licensing, LLC, C Wonder Licensing, LLC, Xcel Design Group, LLC, Judith Ripka Fine Jewelry, LLC, H Heritage Licensing, LLC, Xcel-CT MFG, LLC and Gold Licensing, LLC, as Guarantors (each a “Guarantor” and collectively, the “Guarantors”), entered into a Loan and Security Agreement (the “New Loan Agreement”) with FEAC, as lead arranger and as administrative agent and collateral agent for the lenders party to the New Loan Agreement, and the financial institutions party thereto as lenders (the “Lenders”). Pursuant to the New Loan Agreement, the Lenders made a term loan in the aggregate amount of $29.0 million (the “New Term Loan”). The proceeds of the New Term Loan were used for the purpose of refinancing existing indebtedness (i.e., the April 2021 Term Loan debt), to pay fees, costs, and expenses incurred in connection with entering into the New Loan Agreement, and for working capital purposes.
The New Loan Agreement also provides that Xcel may request the Lenders make incremental term loans of up to $25.0 million (the “Incremental Term Loans”). The terms and conditions of the Incremental Term Loans will be agreed in an amendment to the New Loan Agreement prior to the funding by the Incremental Term Loans.
Management assessed and determined that the New Loan Agreement resulted in an extinguishment of the April 2021 Term Loan debt, and accordingly recognized a loss of approximately $0.74 million (consisting of $0.92 million of unamortized deferred finance costs and $(0.18) of net fees owed to BHI less refunds of certain costs related to the April 2021 Term Loan debt) during the Current Year.
Upon entering into the New Loan Agreement, Xcel paid a 1.75% closing fee to FEAC for the benefit of the Lenders; the Company also paid approximately $0.5 million of various legal and other fees in connection with the execution of the New Loan Agreement. These fees and costs totaling approximately $1.0 million have been deferred on the Company’s balance sheet as of December 31, 2021 as a reduction of the carrying value of the New Term Loan, to be subsequently amortized to interest expense over the term of the New Term Loan using the effective interest method.
The New Term Loan matures on April 14, 2025. Principal on the New Term Loan is payable in quarterly installments of $625,000 on each of March 31, June 30, September 30 and December 31 of each year, commencing on March 31, 2022 and ending on March 31, 2025, with a final payment of $20,875,000 on the maturity date of April 14, 2025.
Thus, the aggregate remaining annual principal payments under the New Term Loan at December 31, 2021 were as follows:
Amount of
($ in thousands)
Principal
Year Ending December 31,
Payment
2022
$
2,500
2023
2,500
2024
2,500
2025
21,500
Total
$
29,000
Xcel has the right upon thirty (30) days prior written notice to prepay all or any portion of the New Term Loan or Incremental Term Loans and accrued and unpaid interest thereon; provided that any prepayment shall be applied first to prepay the New Term Loan in full and second to the Incremental Term Loans.
If the New Term Loan is prepaid in whole or in part on or prior to the second anniversary of the closing date (including as a result of an event of default), Xcel shall pay a prepayment premium as follows: an amount equal to the principal amount of the New Term Loan prepaid multiplied by: (i) five percent (5.00%) if such prepayment occurs on or before the first anniversary of the closing date; (ii) two percent (2.00%) if such prepayment occurs at any time after the first anniversary
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of the closing date and on or prior to the second anniversary of the closing date; and (iii) one percent (1.00%) if such prepayment occurs at any time after the second anniversary of the closing date.
Xcel’s obligations under the New Loan Agreement are guaranteed by the Guarantors and secured by all of the assets of Xcel and the Guarantors (as well as any subsidiary formed or acquired that becomes a credit party to the Loan Agreement) and, subject to certain limitations contained in the New Loan Agreement, equity interests of the Guarantors (as well as any subsidiary formed or acquired that becomes a credit party to the New Loan Agreement).
Xcel also granted the Lenders a right of first offer to finance any acquisition for which the consideration therefore will be paid other than by cash of Xcel or the Guarantors, the issuance of equity interest of Xcel or the issuance of notes to the applicable seller.
The New Loan Agreement contains customary covenants, including reporting requirements, trademark preservation, and the following financial covenants of Xcel (on a consolidated basis with the Guarantors and any subsidiaries subsequently formed or acquired that become a credit party under the Loan Agreement):
● liquid assets of at least (i) $2.5 million during the first fiscal month of each fiscal quarter if cash payments from revenue licenses during the immediately succeeding 30 days are expected to be at least $4.0 million, and (ii) $3.0 million at all other times;
● a fixed charge coverage ratio of not less than 1.00 to 1.00 for the fiscal quarter ending September 30, 2022, and for the twelve fiscal month period ending at the end of each fiscal quarter commencing with the fiscal quarter ending December 31, 2022;
● a loan to value ratio not to exceed 50% at all times;
● minimum revenues as set forth below:
Fiscal Period
Minimum Revenue
April 1, 2021 - December 31, 2021
$
16,445,000
For the trailing twelve month period ending March 31, 2022
$
23,500,000
For the trailing twelve month period ending June 30, 2022
$
24,491,000
For the trailing twelve month periods ending September 30, 2022
and each fiscal quarter end thereafter
$
25,000,000
● the sum of (i) the eligible inventory plus (ii) eligible cash on hand to the extent not used to satisfy the Minimum Accounts Amount (as defined below) plus (iii) the eligible accounts to the extent not used to satisfy the Minimum Accounts Amount (as defined below) of at least $1.25 million at all times (“Minimum Inventory Amount”), and the sum of (i) the eligible accounts plus (ii) eligible cash on hand to the extent not used to satisfy the Minimum Inventory Amount of at least $1.5 million at all times (“Minimum Accounts Amount”); and
● Adjusted EBITDA of at least $2.0 million for the 6 fiscal month period ending June 30, 2022.
The Company was in compliance with all applicable covenants under the Loan Agreement as of and for the fiscal year ended December 31, 2021.
Interest on the New Term Loan accrues at “LIBOR” plus 7.5% per annum, and is payable on the last business day of each calendar month. “LIBOR” is defined in the New Loan Agreement as the greater of (a) the rate of interest per annum for deposits in dollars for an interest period equal to three months as published by Bloomberg or a comparable or successor quoting service at approximately 11:00 a.m. (London time) two business days prior to the last business day of each calendar month and (b) 1.0% per annum.
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For the Current Year and Prior Year, the Company incurred interest expense of approximately $1.9 million and $1.2 million, respectively, related to term loan debt. The effective interest rate related to term loan debt was approximately 8.7% and 6.7% for the Current Year and Prior Year, respectively.
Contingent Obligations – Halston Heritage Earn-Out
In connection with the February 11, 2019 purchase of the Halston Heritage trademarks from the H Company IP, LLC (“HIP”), the Company agreed to pay HIP additional consideration (the “Halston Heritage Earn-Out”) of up to $6.0 million, based on royalties earned through December 31, 2022. The Halston Heritage Earn-Out of $0.9 million is recorded as a long-term liability as of December 31, 2021 and 2020 in the accompanying consolidated balance sheets, based on the difference at the date of acquisition between the fair value of the acquired assets of the Halston Heritage Trademarks and the total consideration paid.
The Halston Heritage Earn-Out is generally required to be paid in shares of our common stock, subject to certain limitations. Payment of this obligation in stock would not affect our liquidity.
Contingent Obligation – Lori Goldstein Earn-Out
In connection with the April 1, 2021 purchase of the Lori Goldstein trademarks (see Note 3 of the financial statements for additional information), the Company agreed to pay the seller additional cash consideration of up to $12.5 million, based on royalties earned during the six calendar year period commencing in 2021. The Lori Goldstein Earn-Out of $6.6 million is recorded as a long-term liability at December 31, 2021 in the accompanying consolidated balance sheet, based on the difference at the date of acquisition between the fair value of the acquired assets of the Lori Goldstein brand and the total consideration paid.
Real Estate Leases
As described in Item 2 of this Annual Report on Form 10-K, as of December 31, 2021 we had real estate leases for our current office, former office, and a retail store location, with remaining lease terms between approximately two months to seven years. We recorded an impairment charge related to the right-of-use asset for the retail store as of December 31, 2021, subsequently closed the retail store in 2022, and are currently in the process of negotiating the termination of the retail store lease; however, the lease liability for the retail store remains on our consolidated balance sheet as a liability and is included in the future payment obligations set forth below.
Future payments under our real estate leases are expected to be approximately $1.7 million for the year ending December 31, 2022, $1.7 million for each of the years ending December 31, 2023 – 2026, and $2.0 million thereafter.
Employment Contracts
We have entered into contracts with certain executives and key employees. The future minimum payments under these contracts is expected to be approximately $2.4 million and is expected to be paid in 2022.
Other Factors
We continue to seek to expand and diversify the types of licensed products being produced under our brands. We plan to continue to diversify the distribution channels within which licensed products are sold, in an effort to reduce dependence on any particular retailer, consumer, or market sector within each of our brands. The Mizrahi brand, Lori Goldstein brand, Halston brand, and C Wonder brand have a core business in fashion apparel and accessories. The Ripka brand is a fine jewelry business, and the Longaberger brand focuses on home good products, which we believe helps diversify our industry focus while at the same time complements our business operations and relationships.
We continue to work towards expanding our wholesale and e-commerce businesses, and complement these operations with our licensing business.
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In addition, we continue to seek new opportunities, including expansion through interactive television, our design, production and supply chain platform, additional domestic and international licensing arrangements, and acquiring additional brands. In April 2021, we acquired the Lori Goldstein brand, which is currently available and sold to consumers through Qurate’s QVC channel.
However, the impacts of the ongoing COVID-19 pandemic are broad reaching and are having an impact on our licensing and wholesale businesses. This global pandemic is impacting our supply chain, and temporary factory closures and the pace of workers returning to work have impacted our contract manufacturers’ ability to source certain raw materials and to produce finished goods in a timely manner. The pandemic is also impacting distribution and logistics providers' ability to operate in the normal course of business. In addition, COVID-19 has resulted in a sudden and continuing decrease in sales for many of our products, resulting in order cancellations. Further, the global pandemic has affected the financial health of certain of our customers, and the bankruptcy of certain other customers, including Lord & Taylor and Le Tote, Stein Mart, and Century 21, from which we had an aggregate of approximately $1.4 million of accounts receivable due at December 31, 2021. As a result, we have recognized an allowance for doubtful accounts of approximately $1.1 million as of December 31, 2021, and may be required to make additional adjustments for doubtful accounts which would increase our operating expenses in future periods and negatively impact our operating results, and could result in our failure to meet financial covenants under our credit facility. Financial impacts associated with the COVID-19 pandemic include, but are not limited to, lower net sales, adjustments to allowances for doubtful accounts due to customer bankruptcy or other inability to pay their amounts due to vendors, the delay of inventory production and fulfillment, potentially further impacting net sales, and potential incremental costs associated with mitigating the effects of the pandemic, including increased freight and logistics costs and other expenses. The impact of the COVID-19 pandemic is expected to continue to have an adverse effect on our operating results, which could result in our inability to comply with certain debt covenants and require our lenders to waive compliance with, or agree to amend, any such covenant to avoid a default. The COVID-19 global pandemic is ongoing, and its dynamic nature, including uncertainties relating to the severity and duration of the pandemic, as well as actions that would be taken by governmental authorities to contain the pandemic or to treat its impact, makes it difficult to forecast any effects on our 2022 results. However, as of the date of this filing, we expect our results for some portion of 2022 to be affected.
In addition, the global shipping industry is currently experiencing challenges related to port delays and tight availability for carriers and containers. This situation has negatively impacted our supply chain partners, including third party manufacturers, logistics providers, and other vendors, as well as the supply chains of our licensees, and has resulted in increased cost of supply and freight costs for us and our licensees. Such higher costs are currently expected to continue for at least some portion of 2022.
Our long-term success, however, will still remain largely dependent on our ability to build and maintain our brands’ awareness and continue to attract wholesale and direct-to-consumer customers, and contract with and retain key licensees, as well as our and our licensees’ ability to accurately predict upcoming fashion and design trends within their respective customer bases and fulfill the product requirements of the particular retail channels within the global marketplace. Unanticipated changes in consumer fashion preferences and purchasing patterns, slowdowns in the U.S. economy, changes in the prices of supplies, consolidation of retail establishments, and other factors noted in “Risk Factors” could adversely affect our licensees’ ability to meet and/or exceed their contractual commitments to us and thereby adversely affect our future operating results.
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 material effect on our financial condition, results of operations or liquidity.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
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