XCel Brands, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995. The statements that are not historical facts contained in this report are forward-looking statements that involve a number of known and unknown risks, uncertainties and other factors, all of which are difficult or impossible to predict and many of which are beyond our control, which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. These risks are detailed in the Risk Factors section of our Form 10-K for the fiscal year ended December 31, 2022, as filed with the SEC on April 17, 2023. The words “believe,” “anticipate,” “expect,” “continue,” “estimate,” “appear,” “suggest,” “goal,” “potential,” “predicts,” “seek,” “will,” “confident,” “project,” “provide,” “plan,” “likely,” “future,” “ongoing,” “intend,” “may,” “should,” “would,” “could,” “guidance,” and similar expressions identify forward-looking statements. Overview Xcel Brands, Inc. (“Xcel,” the “Company,” “we,” “us,” or “our”) 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. Xcel was founded in 2011 with a vision to reimagine shopping, entertainment, and social media as one thing. Currently, the Company’s brand portfolio consists of the LOGO by Lori Goldstein brand (the “Lori Goldstein Brand”), the Halston brands (the "Halston Brand"), the Judith Ripka brands (the "Ripka Brand"), the C Wonder brands (the "C Wonder Brand"), the Longaberger brand (the “Longaberger Brand”), the Isaac Mizrahi brands (the "Isaac Mizrahi Brand"), and other proprietary brands. ● The Lori Goldstein Brand, Halston Brand, Ripka Brand, and C Wonder Brand are wholly owned by the Company. ● We manage the Longaberger Brand through our 50% ownership interest in Longaberger Licensing, LLC. ● We manage the Q Optix business through our 50% ownership interest in Q Optix, LLC. ● The Company wholly owned and managed the Isaac Mizrahi Brand through May 31, 2022. On May 31, 2022, we sold a majority interest in the brand to a third party, but retained a 30% noncontrolling interest in the brand and continue to contribute to the operations of the brand through a service agreement. Xcel continues to pioneer 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 be everywhere its customers shop. Our brands have generated over $3 billion in retail sales via live streaming in interactive television and digital channels alone Our objective is to build a diversified portfolio of lifestyle consumer brands through organic growth and the strategic acquisition of new brands. To grow our brands, we are focused on the following primary strategies: ● distribution and/or licensing of our brands for sale through interactive television (i.e., QVC, HSN, The Shopping Channel, TVSN, CJO, JTV, etc.); ● wholesale distribution through joint ventures or licensing of our brands to retailers that sell to the end consumer; ● direct-to-consumer distribution of our brands through e-commerce and live streaming; ● 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; and 19 Table of Contents ● acquiring additional consumer brands and integrating them into our operating platform and leveraging our operating infrastructure and distribution relationships. We believe that Xcel offers 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 , expertise, and proprietary technology in live streaming; ● our design, production, sales, marketing, and supply chain and integrated technology platform that enables us to design and distribute trend-right product; and ● our significant media and internet presence. We utilize state-of-the-art supply chain management technology, trend analytics, and data science to actively monitor fashion trends and read and react to customer demands. Summary of Operating Results Three months ended March 31, 2023 (the “current quarter”) compared with the three months ended March 31, 2022 (the “prior year quarter”) Revenues Current quarter net revenue decreased approximately $2.7 million to $6.1 million from $8.7 million for the prior year quarter. Net licensing revenue decreased by approximately $3.7 million in the current quarter to $2.2 million, compared with $6.0 million in the prior year quarter. This decrease in licensing revenue was primarily attributable to the May 31, 2022 sale of a majority interest in the Isaac Mizrahi brand through the sale of a 70% interest in IM Topco, LLC to WHP. Since the closing of such sale, we no longer record Isaac Mizrahi brand licensing revenue as part of our revenues. Net sales increased by approximately $1.0 million in the current quarter to $3.8 million, compared with $2.8 million in the prior year quarter. This increase was primarily attributable to sale of all of our C Wonder apparel inventory to HSN as part of the restructuring and transformation of our business operating model, which we began in the current quarter and expect to complete by the end of the second quarter of 2023. Cost of Goods Sold Current quarter cost of goods sold was $2.7 million, compared with $1.7 million for the prior year quarter. Gross profit margin from net product sales (net sales less cost of goods sold, divided by net sales) decreased from approximately 40% in the prior year quarter to approximately 30% in the current quarter. Gross profit (net revenue less cost of goods sold) decreased approximately $3.7 million to $3.4 million from $7.1 million in the prior year quarter, primarily driven by the aforementioned decrease in net licensing revenue. ​ 20 Table of Contents Operating Costs and Expenses Operating costs and expenses decreased approximately $1.3 million from $8.3 million in the prior year quarter to $7.0 million in the current quarter. This decrease was primarily attributable to lower salaries, benefits and employment costs, driven by the combination of (i) the May 31, 2022 sale of a majority interest in the Isaac Mizrahi brand and the transfer of the employees associated with the Isaac Mizrahi brand to the IM Topco, LLC business venture, and (ii) reductions in staffing levels during the current quarter related to the restructuring and transformation of our business operating model. Other Expense (Income), Including Non-cash Expenses We account for our interest in the ongoing operations of IM Topco, LLC using the equity method of accounting. We recognized an equity method loss of $0.52 million related to our investment for the current quarter, based on the distribution provisions set forth in the related business venture agreement. Depreciation and amortization was approximately $1.8 million in both the current quarter and prior year quarter. Interest and Finance Expense Interest and finance expense for the current quarter was approximately $0.0 million, compared with $0.7 million for the prior year quarter. This decrease was attributable to the May 31, 2022 repayment of all of our outstanding term loan debt. Income Tax Benefit The estimated annual effective income tax rate for the current quarter and the prior year quarter was approximately 0% for both periods, resulting in an income tax benefit of $0 for both periods. For both the current quarter and the prior year quarter, the federal statutory rate differed from the effective tax rate due to the recording of a valuation allowance against the benefit that would have otherwise been recognized, as it was considered not more likely than not that the net operating losses generated during each period will be utilized in future periods. Net Loss Attributable to Xcel Brands, Inc. Stockholders We had a net loss of $5.6 million for the current quarter, compared with a net loss of $3.5 million for the prior year quarter, due to the combination of the factors outlined above. Non-GAAP Net (Loss) Income, Non-GAAP Diluted EPS, and Adjusted EBITDA We had a non-GAAP net loss of approximately $3.6 million, or $0.18 per diluted share (“non-GAAP diluted EPS”), for the current quarter and a non-GAAP net loss of $1.9 million, or $0.10 per diluted share, for the prior year quarter. Non-GAAP net (loss) income is a non-GAAP unaudited term, which we define as net (loss) income attributable to Xcel Brands, Inc. stockholders, exclusive of amortization of trademarks, our proportional share of trademark amortization of equity method investees, stock-based compensation, loss on extinguishment of debt, gain on sales of assets, gain on reduction of contingent obligations, 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 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 $(3.2) million for the current quarter, compared with approximately $(0.9) million for the prior year quarter. Adjusted EBITDA is a non-GAAP unaudited measure, which we define as net (loss) income attributable to Xcel Brands, Inc. stockholders before depreciation and amortization, our proportional share of trademark amortization of equity method investees, interest and finance expenses (including loss on extinguishment of debt, if any), income taxes, other state and local franchise taxes, stock-based compensation, gains on reduction of contingent obligations, gains on sale of assets, costs (recoveries) in connection with potential acquisitions, asset 21 Table of Contents 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. 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 non-GAAP net income, non-GAAP diluted EPS, and Adjusted EBITDA in a different manner than we calculate these measures. 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 net income, non-GAAP diluted EPS, and Adjusted EBITDA does not imply that our future results will be unaffected by these expenses or any other 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: ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended ​ ​ March 31, ($ in thousands) 2023 2022 Net loss attributable to Xcel Brands, Inc. stockholders ​ $ (5,643) ​ $ (3,487) Amortization of trademarks ​ 1,520 ​ 1,514 Proportional share of trademark amortization of equity method investee ​ ​ 515 ​ ​ — Stock-based compensation ​ 57 ​ 32 Non-GAAP net (loss) income ​ $ (3,551) ​ $ (1,941) ​ The following table is a reconciliation of diluted loss per share (our most directly comparable financial measure presented in accordance with GAAP) to non-GAAP diluted EPS: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended ​ ​ March 31, ​ 2023 2022 Diluted loss per share ​ $ (0.29) ​ $ (0.18) Amortization of trademarks ​ 0.08 ​ 0.08 Proportional share of trademark amortization of equity method investee ​ ​ 0.03 ​ ​ — Stock-based compensation ​ 0.00 ​ 0.00 Non-GAAP diluted EPS ​ $ (0.18) ​ $ (0.10) Non-GAAP weighted average diluted shares ​ 19,633,194 ​ 19,571,119 ​ ​ 22 Table of Contents 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: ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended ​ ​ March 31, ($ in thousands) 2023 2022 Net loss attributable to Xcel Brands, Inc. stockholders ​ $ (5,643) ​ $ (3,487) Depreciation and amortization ​ 1,797 ​ 1,820 Proportional share of trademark amortization of equity method investee ​ ​ 515 ​ ​ — Interest and finance expense ​ 25 ​ 709 State and local franchise taxes ​ 21 ​ 36 Stock-based compensation ​ 57 ​ 32 Adjusted EBITDA ​ $ (3,228) ​ $ (890) ​ Liquidity and Capital Resources General As of March 31, 2023 and December 31, 2022, our cash and cash equivalents were $1.6 million and $4.6 million, respectively. 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 in 2020 and 2021, respectively, our business operating model generally does not require material capital expenditures, and as of March 31, 2023, we have no significant commitments for future capital expenditures. Working Capital Our working capital (current assets less current liabilities, excluding the current portion of operating lease obligations and any contingent obligations payable in common stock) was $5.1 million and $8.8 million as of March 31, 2023 and December 31, 2022, respectively. Liquidity and Management’s Plans We incurred a net loss of approximately $5.6 million during the three months ended March 31, 2023 (which included non-cash expenses of approximately $2.4 million), and had an accumulated deficit of approximately $38.4 million as of March 31, 2023. Net cash used in operating activities was approximately $2.9 million for the three months ended March 31, 2023. These factors, along with our current levels of cash and working capital, raise uncertainties about the Company’s ability to continue as a going concern. ​ Management plans to mitigate an expected shortfall of capital and to support future operations by shifting the business from a wholesale/licensing hybrid model into a “licensing-plus” business model. In the first quarter of 2023, we began to restructure our business operations by entering into new licensing agreements and joint venture arrangements with best-in-class business partners. We entered into a new interactive television licensing agreement with America’s Collectibles Network, Inc. d/b/a Jewelry Television (“JTV”) for the Ripka Brand, and a separate license with JTV for the Ripka Brand’s e-commerce business. For apparel, similar transactions have recently been executed. In conjunction with the launch of the C Wonder Brand on HSN, we licensed the wholesale operations related to the brand to One Jeanswear Group, LLC (“OJG”); this new license with OJG also includes other new celebrity brands that we plan to launch in 2023 and beyond. For the Halston Brand, on May 15, 2023 we entered into a new master license agreement for men’s, women’s, and children’s apparel, fashion accessories, and other product categories with an industry-leading wholesale apparel company for distribution through department stores, e-commerce, and other retailers. This new master license for the Halston Brand provides for an upfront cash payment and royalties to the Company, including certain guaranteed minimum royalties, includes significant annual minimum net sales requirements, and has a twenty-five-year term (consisting of an initial five- 23 Table of Contents year period, followed by a twenty-year period), subject to the licensee’s right to terminate with at least 120 days’ notice prior to the end of each five-year period during the term. ​ Management expects the transition of these operating businesses to be completed by the end of the second quarter of 2023. We believe that this evolution of our operating model will provide significant cost savings and allow us to reduce and better manage our exposure to operating risks. As of March 31, 2023, the Company has taken steps that will reduce payroll costs by $6 million and operating expenses by $7 million over the next twelve months. ​ Based on these recent events and changes in our business model, management expects to generate adequate cash flows to meet the Company’s operating and capital expenditure needs, for at least the twelve months subsequent to the filing date of this Quarterly Report on Form 10-Q, and therefore, such conditions and uncertainties with respect to the Company’s ability to continue as a going concern as of March 31, 2023, have subsequently been alleviated. Commentary on the components of our cash flows for the current quarter as compared with the prior year quarter is set forth below. Operating Activities Net cash used in operating activities was approximately $2.92 million in the current quarter, compared with approximately $0.89 million in the prior year nine months. The current quarter cash used in operating activities was primarily attributable to the combination of the net loss of $(5.94) million plus non-cash items of approximately $2.37 million and the net change in operating assets and liabilities of approximately $0.65 million. Non-cash items were primarily comprised of $1.80 million of depreciation and amortization and the $0.52 million undistributed proportional share of net loss of equity method investee. The net change in operating assets and liabilities was primarily comprised of increases in various operating liabilities of approximately $1.40 million, partially offset by an increase in accounts receivable of $(0.86) million. The prior year quarter cash used in operating activities was primarily attributable to the combination of the net loss of $(3.74) million plus non-cash expenses of approximately $1.94 million and the net change in operating assets and liabilities of approximately $0.91 million. Non-cash net expenses were primarily comprised of $1.82 million of depreciation and amortization and $0.09 million of amortization of deferred finance costs. The net change in operating assets and liabilities was primarily comprised of an increase in various operating liabilities of $2.62 million, partially offset by an increase in accounts receivable of $(1.04) million and an increase in inventory of $(0.57) million. Investing Activities Net cash used in investing activities for the current quarter consisted of approximately $0.08 million of capital expenditures, primarily related to software. Net cash used in the investing activities for the prior year quarter consisted of approximately $0.04 million of capital expenditures. Financing Activities Net cash used in financing activities for the prior year quarter consisted of approximately $(0.63) million of scheduled principal payments on term loan debt. There was no cash used in or provided by financing activities in the current quarter. 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 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 which we believe helps diversify our industry focus while at the same time complements our business operations and relationships. 24 Table of Contents While the recent sale of a majority interest in the Isaac Mizrahi brand has resulted in a short-term decrease in our revenues, as that brand represented a significant portion of our historical revenues, we are taking actions to replace those revenues in the long-term with new strategic business initiatives, as we concentrate our resources on growing our brands, launching new brands, and entering into new business partnerships. We continue to seek new opportunities, including expansion through interactive television, live streaming, additional domestic and international licensing arrangements, and acquiring additional brands, including recent launches of our Victor Glemaud and C Wonder by Christian Siriano businesses on HSN. In the first quarter of 2023, we began to restructure our business operations by shifting our business from a wholesale/licensing hybrid model into a “licensing-plus” business model. These efforts include entering into new structured contractual arrangements with best-in-class business partners in order to more efficiently operate our wholesale and e-commerce businesses and reduce and better manage our exposure to operating risks. At the same time, we continue to face a number of headwinds in the current macroeconomic environment. The global shipping industry has experienced and continues to experience challenges related to port delays and reduced 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 2023. Further, the cost of raw materials, labor, manufacturing, energy, fuel, shipping and logistics, and other inputs related to the production and distribution of our products have increased and may continue to increase unexpectedly. Beginning in the first quarter of 2022, input costs increased significantly. We expect the pressures of input cost inflation to continue for at least the majority of 2023. We may not be able to mitigate the impact of inflation and cost increases or pass these costs along to our customers. Also, poor economic and market conditions, including a potential recession, may negatively impact market sentiment, decreasing the demand for apparel, footwear, accessories, fine jewelry, home goods, and other consumer products, which would adversely affect our operating income and results of operations. If we are unable to take effective measures in a timely manner to mitigate the impact of inflation as well as a potential recession, our business, financial condition, and results of operations could be adversely affected. 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 and business partners, 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 Item 1A of our most recent Annual Report on Form 10-K 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. ​ 25 Table of Contents Critical Accounting Policies and Estimates The preparation of our unaudited condensed consolidated financial statements in conformity with GAAP requires management to exercise judgment. We exercise considerable judgment with respect to establishing sound accounting policies and in making estimates and assumptions that affect the reported amounts of our assets and liabilities, our recognition of revenues and expenses, and disclosure of commitments and contingencies at the date of the financial statements. We evaluate our estimates and judgments on an on-going basis. We base our estimates and judgments on a variety of factors, including our historical experience, knowledge of our business and industry, and current and expected economic conditions 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. We periodically re-evaluate our estimates and assumptions with respect to these judgments and modify our approach when circumstances indicate that modifications are necessary. While we believe that the factors we evaluate provide us with a meaningful basis for establishing and applying sound accounting policies, we cannot guarantee that the results will always be accurate. Because the determination of these estimates requires the exercise of judgment, actual results could differ from such estimates. Please refer to our Annual Report on Form 10-K for the year ended December 31, 2022, filed with the SEC on April 17, 2023, for a discussion of our critical accounting policies and estimates. ​ Effective January 1, 2023, we adopted the provisions of Accounting Standards Update No. 2016-13, "Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments" (as amended). Although the adoption of this new guidance did not have a significant impact on the Company’s results of operations, cash flows, or financial condition, it represented a change in our accounting policy with respect to the estimation of allowance for uncollectible accounts. Refer to Part I, Item 1, Note 5 of this Quarterly Report on Form 10-Q for additional information. During the three months ended March 31, 2023, there were no other material changes to our accounting policies. ​ ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable to smaller reporting companies. ​