Notes to Consolidated Financial Statements
December 31, 2018 and 2017
(In thousands)
Note 1 – Basis of presentation
The accompanying consolidated financial
statements and accompanying notes have been prepared in accordance with accounting principles generally accepted in the United
States of America (“U.S. GAAP”). Our consolidated financial statements include all of the assets, liabilities and results
of operations of Lifeway’s wholly owned subsidiaries (collectively “Lifeway” or the “Company”). All
inter-company balances and transactions have been eliminated in the consolidated financial statements.
Note 2 – Summary of significant
accounting policies
Use of estimates
The preparation of consolidated financial
statements in conformity with U.S. 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 reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant
estimates made in preparing the consolidated financial statements include the reserve for promotional allowances, the valuation
of goodwill and intangible assets, stock-based and incentive compensation, and deferred income taxes.
Revenue Recognition
We sell food and beverage products across
select product categories to customers predominantly within the United States (see Note 11, Segments, Products and Customers).
We also sell bulk cream, a byproduct of our fluid milk manufacturing process. In accordance with Accounting Standards Codification
(“ASC”) 606, Revenue from Contracts with Customers, we recognize revenue when control over the products transfers to
our customers, which generally occurs upon delivery to our customers or their common carriers. The Company adopted this standard
at the beginning of fiscal year 2018, with no significant impact to its financial position or results of operations, using the
modified retrospective method. The amount of revenue recognized reflects the consideration to which the Company expects to be entitled
to receive in exchange for these goods or services, using the five-step method required by ASC 606.
For the Company, the contract is the approved
sales order, which may also be supplemented by other agreements that formalize various terms and conditions with customers. The
Company applies judgment in determining the customer’s ability and intention to pay, which is based on a variety of factors
including the customer’s historical payment experience or, in the case of a new customer, published credit and financial
information pertaining to the customer.
Performance obligations promised in a contract
are identified based on the goods or services that will be transferred to the customer, which is the delivery of food products
which provide immediate benefit to the customer.
We account for product shipping and handling
as fulfillment activities with revenues for these activities recorded within net revenue and costs recorded within cost of goods
sold. Any taxes collected on behalf of government authorities are excluded from net revenues.
Variable consideration, which typically
includes volume-based rebates, known or expected pricing or revenue adjustments, such as trade discounts, allowances for non-saleable
products, product returns, trade incentives and coupon redemption, is estimated utilizing the most likely amount method.
Key sales terms, such as pricing and quantities
ordered, are established on a frequent basis such that most customer arrangements and related incentives have a one year or shorter
duration. As such, we do not capitalize contract inception costs and we capitalize product fulfillment costs in accordance with
U.S. GAAP and our inventory policies. We do not have any significant deferred revenue or unbilled receivables at the end of a period.
We generally do not receive noncash consideration for the sale of goods nor do we grant payment financing terms greater than one
year.
Accounts Receivable
We provide credit terms to customer in-line
with industry standards and maintain allowances for potential credit losses based on historical experience. Customer balances are
written off after all collection efforts are exhausted. Estimated product returns, which have not been material, are deducted from
sales at the time of revenue recognition.
Cash and cash equivalents
Lifeway considers cash and all highly liquid
investments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents are stated
at cost, which approximates or equals fair value due to their short-term nature.
Lifeway from time to time may have bank
deposits in excess of insurance limits of the Federal Deposit Insurance Corporation. Lifeway has not experienced any losses in
such accounts and believes it is not exposed to any significant credit risk related to its cash and cash equivalents.
Fair Value Measurements
Fair value is estimated by applying the
following hierarchy, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within
the hierarchy upon the lowest level of input that is available and significant to the fair value measurement:
Level 1 –
Quoted prices
in active markets for identical assets or liabilities.
Level 2 –
Observable
inputs other than quoted prices in active markets for identical assets and liabilities, quoted prices for identical or similar
assets or liabilities in inactive markets, or other inputs that are observable or can be corroborated by observable market data
for substantially the full term of the assets or liabilities.
Level 3.
Inputs that are
generally unobservable and typically reflect management’s estimate of assumptions that market participants would use in pricing
the asset or liability.
Lifeway’s financial assets and liabilities
that are not carried at fair value on a recurring basis include cash and cash equivalents, accounts receivable, other receivables,
accounts payable, accrued expenses and revolving line of credit for which carrying value approximates fair value.
Inventories
Inventories are stated at the lower of
cost or net realizable value, valued on a first in, first out basis (“FIFO”). The costs of finished goods inventories
include raw materials, direct labor, and overhead costs. Inventories are stated net of reserves for excess or obsolete inventory.
Property, plant and equipment
Property, plant and equipment are recorded
at cost and depreciated using the straight-line method over the estimated useful lives of the related assets. When assets are retired
or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts, and any resulting gain or
loss is recognized in income for the period. The cost of maintenance and repairs that do not improve or extend the life of the
assets are charged to expense as incurred; significant renewals and betterments are capitalized.
Property, plant and equipment is being
depreciated over the following useful lives:
Category
|
|
Years
|
Buildings and improvements
|
|
31 and 39
|
Machinery and equipment
|
|
5 – 12
|
Office equipment
|
|
3 – 7
|
Vehicles
|
|
5
|
Leasehold improvements
|
|
Shorter of expected useful life or lease term
|
Goodwill and other intangible assets
Goodwill represents the excess purchase
price over the fair value of the net tangible and other identifiable intangible assets acquired. Goodwill and indefinite lived
intangible assets are not amortized, but are reviewed for impairment at least annually.
Intangible assets acquired in a business
combination are recorded at their estimated fair values at the date of acquisition. Lifeway amortizes other intangible assets over
their estimated useful lives, as disclosed in the table below.
Category
|
|
Years
|
Recipes
|
|
4
|
Trade names
|
|
8-15
|
Formula
|
|
10
|
Customer lists
|
|
8-10
|
Customer relationships
|
|
8-12
|
Impairment
Lifeway reviews intangible assets for impairment
at least once per year to determine if any adverse conditions exist that would indicate the carrying value of these assets may
not be recoverable. Lifeway conducts more frequent impairment assessments if certain conditions exist, such as a change in the
competitive landscape, any internal decisions to pursue new or different strategies, a loss of a significant customer, or a significant
change in the market place including changes in the prices paid for our products or changes in the size of the market for our products.
If the estimated remaining useful life of an intangible asset is changed, the remaining carrying amount of the intangible asset
is amortized prospectively over the revised remaining useful life.
Long-lived assets, including
property, plant, and equipment, and cost method investments, are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be recoverable and prior to any goodwill impairment test.
Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net
cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated future cash flows,
an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the
asset. There were no indicators of tangible asset impairment in 2018 or 2017.
Income taxes
Deferred income taxes are the result of
temporary differences that arise from income and expense items reported for financial accounting and tax purposes in different
periods. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the year
in which the deferred tax assets or liabilities are expected to be realized or settled. Deferred tax assets and liabilities are
classified on a net basis as non-current.
The principal sources of temporary differences
are different depreciation and amortization methods for financial statement and tax purposes, capitalization of indirect costs
for tax purposes, purchase price adjustments, incentive compensation, reserves for excess and obsolete inventory, the allowance
for doubtful accounts, and the newly enacted interest expense limitations.
Lifeway has analyzed filing positions in
all the federal and state jurisdictions where it is required to file income tax returns, as well as all open tax years in these
jurisdictions. We recognize the income tax benefit from an uncertain tax position when it is more likely than not that, based on
technical merits, the position will be sustained upon examination, including resolutions of any related appeals or litigation processes.
We apply a more likely than not threshold to the recognition and derecognition of uncertain tax positions. Accordingly, we recognize
the amount of tax benefit that has a greater than 50% likelihood of being ultimately realized upon settlement. Future changes in
judgment related to the expected ultimate resolution of uncertain tax positions will affect earnings in the quarter of such change.
For those income tax positions where it is not more likely than not that a tax benefit will be sustained, no tax benefit has been
recognized in the financial statements. The total amount of unrecognized tax benefits can change due to audit settlements, tax
examination activities, statute expirations and the recognition and measurement criteria under accounting for uncertainty in income
taxes. Lifeway recognizes penalties and interest related to unrecognized tax benefits in the provision (benefit) for income taxes
in the consolidated statements of operations.
Share-based compensation
Share-based compensation expense is recognized
for equity awards over the vesting period based on their grant date fair value. The fair value of restricted stock awards is equal
to the closing price of our stock on the date of grant.
Treasury stock
Treasury stock is recorded using the cost
method.
Advertising costs
Lifeway expenses advertising costs as incurred.
For the years ended December 31, 2018 and 2017 total advertising expenses were $4,518 and $7,402, respectively.
Earnings (loss) per common share
Basic earnings (loss) per common share
is computed by dividing net income (loss) available to common stockholders by the weighted average number of common shares issued
and outstanding during each period. Diluted earnings (loss) per common share is computed by dividing net income (loss) available
to common stockholders by the weighted average number of common shares issued and outstanding and the effect of all dilutive common
stock equivalents outstanding during each period. For the years ended December 31, 2018 and 2017, there were 0 common stock equivalents
outstanding.
Recently Adopted Accounting Pronouncements
In June 2018, the FASB issued ASU 2018-07, Improvements
to Nonemployee Share-Based Payment Accounting
.
The new guidance is intended to simplify aspects of accounting for share-based
payments to nonemployees by aligning it with the accounting for share-based payments to employees, with certain exceptions. The
new guidance is effective for financial statements issued for fiscal years beginning after December 15, 2018, and interim periods
within those years. Early adoption is permitted, but no earlier than an entity’s adoptions of Topic 606. We adopted this
new standard in June 2018. The adoption of this amendment had no impact on the consolidated financial statements.
In May 2017, the Financial Accounting Standards
Board ("FASB”) issued ASU No. 2017-09, Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting.
The new guidance provides clarity and reduces both diversity in practice and cost of complexity when accounting for a change to
the terms of or conditions of a share-based payment award. The amendments in this update provide guidance about which changes to
the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. This guidance
was effective January 1, 2018. The adoption of this amendment had no impact on the consolidated financial statements.
In January 2017, the FASB issued ASU No.
2017-04, Intangibles - Goodwill and Other: Simplifying the Test for Goodwill Impairment. The new guidance simplifies the subsequent
measurement of goodwill by removing the second step of the two-step impairment test. The amendment requires an entity to perform
its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity
still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test
is necessary. The Company adopted the new standard on a prospective basis through our test for goodwill impairment in the fourth
quarter of 2018. See note 5 for further discussion and the results of our test for goodwill impairment.
In August 2016, the FASB issued ASU No.
2016-15, Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments. The new guidance is intended to address
the diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash
flows, such as debt prepayment or debt extinguishment costs, contingent consideration payments made after an acquisition, proceeds
from the settlement of insurance claims, and other topics. This guidance was effective January 1, 2018. The adoption of this amendment
had no impact on the consolidated financial statements.
In January 2016, the FASB issued ASU No.
2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities. The new guidance modifies how entities measure
equity investments and present changes in the fair value of financial liabilities. Under the new guidance, entities will have to
measure equity investments that do not result in consolidation and are not accounted under the equity method at fair value and
recognize any changes in fair value in net income unless certain conditions exist. This guidance was effective January 1, 2018.
The adoption of this amendment had no impact on the consolidated financial statements.
In May 2014, the FASB issued ASU No. 2014-09,
Revenue from Contracts with Customers (Topic 606) (“ASU 2014-09”), which supersedes the revenue recognition requirements
in Topic 605, Revenue Recognition, including most industry-specific requirements. ASU 2014-09 establishes a five-step revenue recognition
process in which an entity will recognize revenue when it transfers promised goods or services to customers in an amount that reflects
the consideration to which an entity expects to be entitled in exchange for those goods or services. The standard allows for either
“full retrospective” adoption, meaning the standard is applied to all of the periods presented, or “modified
retrospective” adoption, meaning the standard is applied only to the most current period presented in the financial statements.
ASU 2014-09 also requires enhanced disclosures regarding the nature, amount, timing and uncertainty of revenues and cash flows
from contracts with customers. On August 12, 2015 the FASB approved a one-year delay of the effective date to reporting periods
beginning after December 15, 2017, while permitting companies to voluntarily adopt the new standard as of the original effective
date. In December 2016, the FASB issued ASU No. 2016-20, Technical Corrections and Improvements to Topic 606, Revenue from Contracts
with Customers, which clarifies narrow aspects of ASC 606 or corrects unintended application of the guidance. The effective date
and transition requirements for ASU 2016-20 are the same as the effective date and transition requirements for ASU 2014-09. Under
the delayed effective date, this guidance was effective January 1, 2018. We adopted the new standard on January 1, 2018 on a modified
retrospective basis. The adoption of this amendment had no material impact on the consolidated financial statements. The Company
has revised its relevant policies and procedures, as applicable, to meet the new accounting, reporting and disclosure requirements
of Topic 606 and has updated internal controls accordingly. Refer to the Revenue Recognition section above and Note 11, Segment,
Products, and Customers for additional information.
Recently Issued Accounting Pronouncements
In February 2016, the FASB issued ASU No.
2016-02, Leases (Topic 842), which affects any entity that enters into a lease (as that term is defined in ASU 2016-02), with some
specified scope exceptions. Under ASU 2016-02, companies can adopt the amended guidance using a modified retrospective transition
approach, using an application date of either the beginning of the earliest comparative period presented or the beginning of the
reporting period in which the companies first apply the new standard. We adopted this standard on January 1, 2019 using the an
application date of January 1, 2019, and elected certain practical expedients allowed under the standard. In July 2018, the FASB
issued ASU No. 2018-11, Leases (842), Targeted Improvements, which provides an additional transition election to not restate comparative
periods for the effects of applying the new standard. The guidance requires lessees to recognize lease assets and lease liabilities
in the balance sheet and disclose key information about leasing arrangements, such as information about variable lease payments
and options to renew and terminate leases. The amended guidance will require both operating and finance leases to be recognized
in the balance sheet. A lessee should recognize in the statement of financial position a liability to make lease payments (the
lease liability) and a right-of-use asset representing its right to use the underlying asset for the lease term. The new guidance
is effective for financial statements issued for fiscal years beginning after December 15, 2018, and interim periods within those
years.
Lifeway will elect certain of the practical
expedients that are permitted under the transition guidance within ASU 2016-02 and related standards. Among other things, this
practical expedient allows us to carryforward the historical lease classification, and not reassess initial direct costs for any
existing leases as of January 1, 2019 or reassess whether any expired or existing contracts are or contain leases. In addition,
we are electing to adopt the hindsight practical expedient to determine the reasonably certain lease term for existing leases.
We will make an accounting policy election to continue recording leases with an initial term of 12 months or less consistent with
our prior financial reporting and elect the practical expedient to combine lease and non-lease components. The Company has revised
its relevant policies and procedures, as applicable, to meet the new accounting, reporting and disclosure requirements of Topic
842 and has updated internal controls accordingly.
The main difference between the guidance
in ASU 2016-02 and current GAAP is the recognition of lease assets and lease liabilities by lessees for those leases classified
as operating leases under current GAAP. Recognition of the assets and liabilities will have a material impact to our consolidated
balance sheets upon adoption. However, since all of our leases are operating leases under ASC 840 and we will carryforward the
historical lease classification, the new standard will have no immediate, material impact on our Consolidated Statements of Operations,
Consolidated Statements of Stockholders’ Equity, or Consolidated Statements of Cash Flows. We are in the process of finalizing
our review of contracts and calculating the impact of the new standard on our balance sheet. We expect the adoption to result in
increase of assets of approximately $745 and liabilities of $772 as of January 1, 2019.
Note 3 – Inventories, net
Inventories consisted of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Ingredients
|
|
$
|
1,580
|
|
|
$
|
1,717
|
|
Packaging
|
|
|
2,072
|
|
|
|
2,453
|
|
Finished goods
|
|
|
2,165
|
|
|
|
3,527
|
|
Total inventories, net
|
|
$
|
5,817
|
|
|
$
|
7,697
|
|
Note 4 – Property, Plant and Equipment, net
Property, plant and equipment consisted
of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Land
|
|
$
|
1,747
|
|
|
$
|
1,747
|
|
Buildings and improvements
|
|
|
17,520
|
|
|
|
17,260
|
|
Machinery and equipment
|
|
|
29,692
|
|
|
|
27,539
|
|
Vehicles
|
|
|
937
|
|
|
|
901
|
|
Office equipment
|
|
|
838
|
|
|
|
734
|
|
Construction in process
|
|
|
546
|
|
|
|
1,683
|
|
|
|
|
51,280
|
|
|
|
49,864
|
|
Less accumulated depreciation
|
|
|
(26,707
|
)
|
|
|
(25,219
|
)
|
Total property, plant and equipment, net
|
|
$
|
24,573
|
|
|
$
|
24,645
|
|
Note 5 – Goodwill and Intangible Assets
Goodwill and indefinite-lived intangible
assets consisted of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Goodwill
|
|
$
|
9,124
|
|
|
$
|
10,368
|
|
Brand names
|
|
|
3,700
|
|
|
|
3,700
|
|
Goodwill and indefinite lived intangible assets
|
|
$
|
12,824
|
|
|
$
|
14,068
|
|
We conduct impairment tests of
goodwill and indefinite-lived intangible assets annually as of the fourth quarter and on an interim basis when circumstances
arise that indicate a possible impairment. In the fourth quarter of 2018, we early adopted ASU 2017-04, Intangibles
— Goodwill and Other: Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of
goodwill by removing the second step of the two-step impairment test.
We completed our step one goodwill impairment
analysis for our single reporting unit during the fourth quarter of 2018. Considerable management judgment is necessary to
evaluate goodwill and indefinite-lived intangible assets for impairment. We estimate fair value using widely accepted valuation
techniques including discounted cash flows and market multiples analysis with respect to our single reporting unit, and the relief-from-royalty
method with respect to our indefinite-lived brand names. These valuation approaches are dependent upon a number of factors, including
estimates of future growth and trends, royalty rates in the category of intellectual property, discount rates and other variables.
Assumptions used in our valuations were consistent with our internal projections and operating plans, as well as other factors
and assumptions, and significant management judgment. Additionally, under the market approach analysis, we used significant other
observable inputs including various guideline company comparisons. We base our fair value
estimates on assumptions we believe to be reasonable, but which are unpredictable and inherently uncertain. Changes in these estimates
or assumptions could materially affect the determination of fair value and the conclusions of the step one analysis for our one
reporting unit.
Upon completion of the annual goodwill
impairment analysis as of December 31, 2018, the Company recorded impairment losses of $1,244. The goodwill impairment loss is
included in Goodwill impairment on the Consolidated Statements of Operations. As of December 31, 2018, the gross carrying
value of goodwill was $10,368 and accumulated goodwill impairment was $1,244.
The Company performed the annual impairment
assessment on the indefinite-lived intangible asset as of December 31, 2018 resulting in no impairment losses.
Finite-lived Intangible Assets
Other intangible assets, net consisted
of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Recipes
|
|
$
|
44
|
|
|
$
|
44
|
|
Customer lists and other customer related intangibles
|
|
|
4,529
|
|
|
|
4,529
|
|
Customer relationships
|
|
|
985
|
|
|
|
985
|
|
Trade names
|
|
|
2,248
|
|
|
|
2,248
|
|
Formula
|
|
|
438
|
|
|
|
438
|
|
|
|
|
8,244
|
|
|
|
8,244
|
|
Accumulated amortization
|
|
|
(7,900
|
)
|
|
|
(7,269
|
)
|
Intangible assets, net
|
|
$
|
344
|
|
|
$
|
975
|
|
The estimated annual intangible asset amortization
expense related to amortizable intangible assets as of December 31, 2018 is as follows:
2019
|
|
$
|
214
|
|
2020
|
|
|
130
|
|
Total
|
|
$
|
344
|
|
Note 6 – Accrued Expenses
Accrued expenses consisted of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Payroll and incentive compensation
|
|
$
|
1,937
|
|
|
$
|
2,208
|
|
Real estate taxes
|
|
|
398
|
|
|
|
371
|
|
Other
|
|
|
442
|
|
|
|
405
|
|
Total accrued expenses
|
|
$
|
2,777
|
|
|
$
|
2,984
|
|
Note 7 – Debt
Notes payable consisted of the following:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
|
|
|
|
|
|
|
Variable rate term loan due May 31, 2018. Principal and interest payable monthly with a balloon payment due at maturity. Paid in full.
|
|
$
|
–
|
|
|
$
|
2,832
|
|
|
|
|
|
|
|
|
|
|
Variable rate term loan due May 31, 2019. Principal and interest payable monthly with a balloon payment due at maturity. Paid in full.
|
|
|
–
|
|
|
|
3,447
|
|
Total term loans
|
|
|
–
|
|
|
|
6,279
|
|
Less current portion
|
|
|
–
|
|
|
|
(3,166
|
)
|
Total long-term portion
|
|
$
|
–
|
|
|
$
|
3,113
|
|
The variable rate term loans were subject
to interest at the prime rate or at the LIBOR plus 2.5% and were collateralized by substantially all of Lifeway’s assets.
The two term loans were refinanced and paid in full on May 7, 2018. See Line of Credit below.
Line of Credit
On May 7, 2018, Lifeway entered into an
Amended and Restated Loan and Security Agreement (the “Revolving Credit Facility”) with its existing lender. The Revolving
Credit Facility provides for a revolving line of credit up to a maximum of $10 million (the “Revolving Loan”) with
an incremental facility not to exceed $5 million (the “Incremental Facility” and together with the Revolving Loan,
the “Loans”). The proceeds of the Loans were used to pay off Lifeway’s existing debt with the lender under the
Loan and Security Agreement, Revolving Note, and Term Note entered into on February 6, 2009, and for general working capital purposes.
Upon closing, we retired all the then-outstanding term loans described above.
As of December 31, 2018, we had $5,995,
net of $55 of unamortized deferred financing costs, outstanding under the Revolving Credit Facility. We had approximately $3,950
available under the Borrowing Base for future borrowings as of December 31, 2018.
All outstanding amounts under the Loans
bear interest, at Lifeway’s election, at either the lender Base Rate (the greater of either the Federal Funds Rate plus 0.5%,
or the Prime Rate) or the LIBOR plus 2.50%, payable monthly in arrears. Lifeway is also required to pay a quarterly unused line
fee and, in conjunction with the issuance of any letters of credit, a letter of credit fee. Lifeway’s average interest rate
on debt outstanding under our Revolving Credit Facility for the period May 7, 2018 through December 31, 2018 was 4.79%. The weighted-average
interest rate on debt outstanding at December 31, 2018 was 4.98%.
The commitment under the Revolving Credit
Facility matures May 7, 2021. The Revolving Credit Facility is presented as a long-term debt obligation as of December 31, 2018.
The Loans and all other amounts due and owed under the Revolving Credit Facility and related documents are secured by substantially
all of our assets.
Amounts available for borrowing under
the Revolving Credit Facility equal the lesser of (i) the Borrowing Base (as defined below), or (ii) $10 million (plus the amount
of any Incremental Facility requested by Lifeway and approved by lender), in each case, as the same is reduced by the aggregate
principal amount outstanding under the Loans. “Borrowing Base” under the Revolving Credit Facility means, generally,
an amount equal to our cash and cash equivalents plus our eligible accounts receivable and eligible inventory, less certain reserves,
divided by 1.5.
The Revolving Credit Facility contains
customary representations, warranties, and covenants on the part of Lifeway, including financial covenants requiring us to achieve
a minimum EBITDA threshold for each of the fiscal quarters through December 31, 2018; maintain (a) a fixed charge coverage ratio
of no less than 1.25 to 1.0, and (b) a Senior Debt to EBITDA ratio of not more than 3.00 to 1.0 at December 31, 2018 and for each
of the succeeding fiscal quarters ending through the expiration date. The Revolving Credit Facility also provides for events of
default, including failure to repay principal and interest when due and failure to perform or violation of the provisions or covenants
of the agreement, as a result of which amounts due under the Revolving Credit Facility may be accelerated. We were not in compliance
with the minimum EBITDA and fixed charge coverage ratio covenants at December 31, 2018, but we have obtained a waiver of those
covenants as of that date. The revolving credit facility was amended on April 10, 2019, effective March 31, 2019. See Note 14 for
discussion of this subsequent event.
Note 8 – Commitments and contingencies
Lease obligations
Lifeway leases three retail stores for
its Lifeway Kefir Shop subsidiary, certain machinery and equipment, and office space under operating leases. Total lease expense
was $769 and $702 for the years ended December 31, 2018 and 2017, respectively. Future annual minimum base rental payments under
non-cancelable leases with a lease term in excess of one year as of December 31, 2018 were as follows:
Year
|
|
Operating
Leases
|
|
2019
|
|
$
|
473
|
|
2020
|
|
|
171
|
|
2021
|
|
|
95
|
|
2022
|
|
|
55
|
|
2023
|
|
|
4
|
|
Total minimum lease payments
|
|
$
|
798
|
|
Litigation
Lifeway is engaged in various legal actions,
claims, and proceedings arising in the normal course of business, including commercial disputes, product liabilities, intellectual
property matters and employment-related matters resulting from our business activities.
We record accruals for outstanding legal
matters when we believe it is probable that a loss will be incurred and the amount of such loss can be reasonably estimated. We
evaluate, on a periodic basis, developments in legal matters that could affect the amount of any accrual and developments that
would make a loss contingency both probable and reasonably estimable. If a loss contingency is not both probable and estimable,
we do not establish an accrued liability. Currently, none of our accruals for outstanding legal matters are material individually
or in the aggregate to our financial position and it is management’s opinion that the ultimate resolution of these outstanding
legal matters will not have a material adverse effect on our business, financial condition, results of operations, or cash flows.
However, if we ultimately are required to make payments in connection with an adverse outcome, it is possible that it could have
a material adverse effect on our business, financial condition, results of operations or cash flows.
Lifeway’s contingencies are subject
to substantial uncertainties, including for each such contingency the following, among other factors: (i) the procedural status
of the case; (ii) whether the case has or may be certified as a class action suit; (iii) the outcome of preliminary motions; (iv)
the impact of discovery; (v) whether there are significant factual issues to be determined or resolved; (vi) whether the proceedings
involve a large number of parties and/or parties and claims in multiple jurisdictions or jurisdictions in which the relevant laws
are complex or unclear; (vii) the extent of potential damages, which are often unspecified or indeterminate; and (viii) the status
of settlement discussions, if any, and the settlement posture of the parties. Consequently, Lifeway cannot predict with any reasonable
certainty the timing or outcome of such contingencies, and we are unable to estimate a possible loss or range of loss.
Note 9 – Income taxes
On December 22, 2017, the Tax Cuts and
Jobs Act (the “Act”) was signed into law. The Act significantly changed U.S. income tax law by, among other things,
reducing the U.S. federal income tax rate from 35% to 21%, transitioning from a global tax system to a modified territorial tax
system, eliminating the domestic manufacturing deduction, reduction in the dividend received deduction, and limiting the tax deductions
for interest expense and certain executive compensation.
The SEC issued Staff Accounting Bulletin
No. 118 ("SAB 118") to address the application of US GAAP in situations where a registrant does not have the necessary
information available, prepared, or analyzed (including computations) in reasonable detail to complete the accounting for certain
income tax effects of the Tax Act. To the extent that a company’s accounting for the Tax Act is incomplete but it is able
to provide a reasonable estimate, it must record a provisional amount in the financial statements. SAB 118 provides a measurement
period that should not extend beyond one year from the Tax Act enactment date for companies to complete the accounting under ASC
740.
For the year-ended December 31, 2017, the
Company recorded an estimate of the provisions of the Act and recognized a $378 discrete net tax benefit in our 2017 financial
statements arising from revaluing our net deferred tax liabilities to reflect the new tax rate. As of December 31, 2018, there
have been no changes to the provisional estimate.
The provision (benefit) for income taxes
consists of the following:
|
|
For the Years Ended December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Current:
|
|
|
|
|
|
|
Federal
|
|
$
|
(13
|
)
|
|
$
|
(359
|
)
|
State and local
|
|
|
249
|
|
|
|
193
|
|
Total current
|
|
|
236
|
|
|
|
(166
|
)
|
Deferred
|
|
|
(461
|
)
|
|
|
(292
|
)
|
Benefit for income taxes
|
|
$
|
(225
|
)
|
|
$
|
(458
|
)
|
A reconciliation of the U.S. federal statutory rate to the effective
tax rate used in the provision for income taxes is as follows:
|
|
2018
|
|
|
2017
|
|
|
|
Amount
|
|
|
Percentage
|
|
|
Amount
|
|
|
Percentage
|
|
Federal income tax computed at the statutory rate
|
|
$
|
(695
|
)
|
|
|
21.0%
|
|
|
$
|
(274
|
)
|
|
|
34.0%
|
|
State and local tax, net
|
|
|
(47
|
)
|
|
|
1.4%
|
|
|
|
1
|
|
|
|
(0.1)%
|
|
Goodwill impairment
|
|
|
324
|
|
|
|
(9.8)%
|
|
|
|
–
|
|
|
|
0.0%
|
|
U.S. domestic manufacturers’ deduction & other permanent differences
|
|
|
147
|
|
|
|
(4.4)%
|
|
|
|
111
|
|
|
|
(13.8)%
|
|
Changes for tax positions of prior years
|
|
|
–
|
|
|
|
0.0%
|
|
|
|
118
|
|
|
|
(14.6)%
|
|
Change in tax rates (a)
|
|
|
(37
|
)
|
|
|
1.1%
|
|
|
|
(378
|
)
|
|
|
47.0%
|
|
Change in tax estimate
|
|
|
83
|
|
|
|
(2.5)%
|
|
|
|
(36
|
)
|
|
|
4.5%
|
|
Benefit for income taxes
|
|
$
|
(225
|
)
|
|
|
6.8%
|
|
|
$
|
(458
|
)
|
|
|
57.0%
|
|
(a)
|
Includes the estimated impact of the Act in 2017.
|
The tax effects of temporary differences giving rise to deferred
income tax assets and liabilities are as follows:
|
|
December 31,
|
|
|
|
2018
|
|
|
2017
|
|
Deferred tax liabilities attributable to:
|
|
|
|
|
|
|
|
|
Accumulated depreciation and amortization
|
|
$
|
(2,062
|
)
|
|
$
|
(1,784
|
)
|
Total net deferred tax liabilities
|
|
|
(2,062
|
)
|
|
|
(1,784
|
)
|
Deferred tax assets attributable to:
|
|
|
|
|
|
|
|
|
Net operating losses
|
|
|
595
|
|
|
|
14
|
|
Capital loss carry-forward & investment impairment
|
|
|
115
|
|
|
|
122
|
|
Incentive compensation
|
|
|
448
|
|
|
|
255
|
|
Inventory
|
|
|
355
|
|
|
|
335
|
|
Allowances for doubtful accounts and discounts
|
|
|
109
|
|
|
|
161
|
|
Other
|
|
|
50
|
|
|
|
57
|
|
Total net deferred tax assets
|
|
|
1,673
|
|
|
|
944
|
|
Net deferred tax liabilities
|
|
$
|
(390
|
)
|
|
$
|
(840
|
)
|
A reconciliation of the beginning and ending
amount of unrecognized tax benefits is as follows:
|
|
2018
|
|
|
2017
|
|
Balance at January 1
|
|
$
|
181
|
|
|
$
|
63
|
|
Additions for tax positions of prior years
|
|
|
–
|
|
|
|
118
|
|
Release for tax positions of prior years
|
|
|
(118
|
)
|
|
|
–
|
|
Balance at December 31
|
|
$
|
63
|
|
|
$
|
181
|
|
Lifeway is subject to U.S. federal income
tax as well as income tax in multiple state and city jurisdictions. With limited exceptions, our calendar year 2015 and subsequent
federal and state tax years remain open by statute. The amount of unrecognized tax benefits that, if recognized, would impact the
annual effective tax rate was not significant as of December 31, 2018 and 2017.
The amount of interest and penalties recognized
in the consolidated statements of operations was $0 and $152 during 2018 and 2017, respectively. The amount of accrued interest
and penalties recognized in the consolidated balance sheets was $19 and $171 at December 31, 2018 and 2017, respectively.
Note 10 – Stock-based and Other
Compensation
In December 2015, Lifeway stockholders
approved the 2015 Omnibus Incentive Plan, which authorized the issuance of an aggregate of 3.5 million shares to satisfy awards
of stock options, stock appreciation rights, unrestricted stock, restricted stock, restricted stock units, performance shares and
performance units to qualifying employees. Under the Plan, the Board or its Audit and Corporate Governance Committee approves stock
awards to executive officers and certain senior executives, generally in the form of restricted stock or performance shares. The
number of performance shares that participants may earn depends on the extent to which the corresponding performance goals have
been achieved. Stock awards generally vest over a three-year performance or service period. At December 31, 2018, 3.467 million
shares remain available under the Omnibus Incentive Plan. While we plan to continue to issue awards pursuant to the Plan at least
annually, we may choose to suspend the issuance of new awards in the future and may grant additional awards at any time including
issuing special grants of restricted stock, restricted stock units, and stock options to attract and retain new and existing
executives.
Stock Options
Pursuant to the Omnibus Incentive Plan,
Lifeway granted 26 stock options to certain key employees effective January 1, 2016 and 24 stock options on July 1, 2016 (the “2016
options”). The 2016 options generally vest over a three-year period, on a relatively accelerated basis. The accelerated vesting
reflects the landmark nature of the awards and the relative tenure of individual participants.
The following table summarizes stock option
activity during the year ended December 31, 2018:
|
|
Options
|
|
|
Weighted
average
exercise price
|
|
|
Weighted
average
remaining contractual life
|
|
|
Aggregate
intrinsic value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at December 31, 2017
|
|
|
45
|
|
|
$
|
10.45
|
|
|
|
–
|
|
|
|
–
|
|
Granted
|
|
|
–
|
|
|
$
|
–
|
|
|
|
–
|
|
|
|
|
|
Exercised
|
|
|
–
|
|
|
$
|
–
|
|
|
|
–
|
|
|
|
–
|
|
Forfeited
|
|
|
(4
|
)
|
|
$
|
10.73
|
|
|
|
–
|
|
|
|
–
|
|
Outstanding at December 31, 2018
|
|
|
41
|
|
|
$
|
10.42
|
|
|
|
7.22
|
|
|
$
|
–
|
|
Exercisable at December 31, 2018
|
|
|
36
|
|
|
$
|
10.42
|
|
|
|
7.23
|
|
|
$
|
–
|
|
For the years ended December 31, 2018 and
2017 total pre-tax stock-based compensation expense recognized in the consolidated statements of operations was $9 and $41, respectively.
For the years ended December 31, 2018 and 2017 tax-related benefits of $3 and $17 were also recognized. As of December 31, 2018,
the total remaining unearned compensation related to non-vested stock options was $1, which is expected to be amortized over the
weighted-average remaining service period of 0.50 years.
We measure the fair value of stock options
using the Black-Scholes option pricing model. The expected term of options granted was based on the weighted average time of vesting
and the end of the contractual term. We utilized this simplified method as we do not have sufficient historical exercise data to
provide a reasonable basis upon which to estimate the expected term.
The following assumptions were used for the 2016 stock option
grants:
Risk free interest rate
|
|
1.00 - 1.11%
|
|
Expected dividend yield
|
|
|
0.27%
|
|
Expected volatility
|
|
|
38.96 - 39.94%
|
|
Expected term (years)
|
|
|
5.03 - 5.88
|
|
Restricted Stock Awards
Lifeway’s Board granted 20 Restricted
Stock Awards (“RSAs”) to certain non-employee directors in June 2018 vesting over a three-year service period. We also
approved awards of 16 RSA’s to employees during 2018. An RSA represents the right to receive one share of common stock in
the future. RSAs have no exercise price.
The following table summarizes RSA activity during the year
ended December 31, 2018:
|
|
RSA’s
|
|
|
|
|
|
Outstanding at December 31, 2017
|
|
|
–
|
|
Granted
|
|
|
36
|
|
Shares issued upon vesting
|
|
|
(2
|
)
|
Forfeited
|
|
|
(9
|
)
|
Outstanding at December 31, 2018
|
|
|
25
|
|
Weighted average grant date fair value per share outstanding
|
|
$
|
4.77
|
|
We expense RSA’s over the service
period. For the years ended December 31, 2018 and 2017 total pre-tax stock-based compensation expense recognized in the consolidated
statements of operations was $47 and $18, respectively. For the years ended December 31, 2018 and 2017 tax-related benefits of
$13 and $7, respectively, were also recognized. As of December 31, 2018, the total remaining unearned compensation related to non-vested
RSA’s was $81, which is expected to be amortized over the weighted-average remaining service period of 1.32 years.
Long-Term Incentive Compensation
Lifeway established a long-term incentive-based
compensation program for fiscal year 2017 (the “2017 Plan”) for certain senior executives and key employees (the “participants”).
We established a similar plan for participants for fiscal year 2018 (the “2018 Plan”). Under both the 2017 Plan and
the 2018 Plan, long-term incentive compensation is based on Lifeway’s achievement of certain sales and adjusted EBITDA performance
levels versus respective targets established by the Board for each fiscal year.
Under the 2017 Plan, collectively the participants
had the opportunity to earn cash and equity-based incentive compensation in amounts ranging from $0 to $11,025 depending on Lifeway’s
performance levels compared to the respective targets and the senior executive’s performance compared to their individual
objectives. The equity portion of the incentive compensation is payable in restricted stock that vests one-third in each of the
three years from the 2017 grant dates. For the year ended December 31, 2018, $636 was expensed under the 2017 Plan as stock-based
compensation expense in the consolidated statements of operations. For the year ended December 31, 2017, incentive compensation
earned by participants and expensed under the plan was $3,589 of which $1,610 will be settled through the issuance of stock, subject
to vesting, and $1,979 will be settled in cash. For the year ended December 31, 2017, incentive compensation recognized in the
consolidated statement of operations under the 2017 Plan was $2,516. As of December 31, 2018, the total remaining unearned compensation
related to the 2017 Plan was $336, of which $287 and $49 is expected to be recognized in 2019 and 2020, respectively, subject to
vesting.
Under the 2018 Plan, collectively the participants
have the opportunity to earn cash and equity-based incentive compensation in amounts ranging from $0 to $11,200 depending on Lifeway’s
performance levels compared to the respective targets and the senior executive’s performance compared to their individual
objectives. The equity portion of the incentive compensation is payable in restricted stock that vests one-third in each of the
three years from the 2018 grant dates. For the year ended December 31, 2018, $76 was expensed under the 2018 Plan as cash bonus
expense in the consolidated statements of operations. There were no equity-based incentive earnings under the 2018 plan during
the year ended December 31, 2018.
Retirement Benefits
Lifeway has a defined contribution plan
which is available to substantially all full-time employees. Under the terms of the plan we match employee contributions under
a prescribed formula. For the years ended December 31, 2018 and 2017 total contribution expense recognized in the consolidated
statements of operations was $417 and $376, respectively.
Note 11 – Segments, Products and Customers
Lifeway’s primary product is drinkable
kefir, a cultured dairy product. Lifeway Kefir is tart and tangy, high in protein, calcium and vitamin D. Thanks to our exclusive
blend of kefir cultures, each cup of kefir contains 12 live and active cultures and 15 to 20 billion beneficial CFU (Colony Forming
Units) at the time of manufacture.
We manufacture (directly or through co-packers)
our products under our own brand, as well as under private labels on behalf of certain customers. As of December 31, 2018, Lifeway
offered approximately 20 varieties of our kefir products including more than 60 flavors. In addition to our core drinkable kefir
products, we offer several lines of products developed through our innovation and development efforts. These include Kefir Cups,
a strained, cupped version of our kefir; and Organic Farmer Cheese Cups, a cupped version of our soft cheeses, both served in
resealable 5 oz. containers. We also offer Skyr, a strained cupped Icelandic yogurt; Plantiful, a plant-based probiotic beverage
made from organic and non-GMO pea protein with 10 vegan kefir cultures; a line of probiotic supplements for adults and children;
and a soft serve kefir mix.
Our product categories are:
|
•
|
Drinkable Kefir, sold in a variety of organic and non-organic sizes, flavors, and types, including low fat, non-fat, whole milk, protein, BioKefir (a 3.5 oz. kefir with additional probiotic cultures), and Kefir with Oats.
|
|
|
|
|
•
|
European-style soft cheeses, including farmer cheese in resealable cups.
|
|
|
|
|
•
|
Cream and other, which consists primarily of cream, a byproduct of making our kefir.
|
|
|
|
|
•
|
ProBugs, a line of kefir products in drinkable and frozen formats, designed for children.
|
|
|
|
|
•
|
Other Dairy, which
includes Cupped Kefir and Icelandic Skyr, a line of strained kefir and yogurt products in resealable cups.
|
|
|
|
|
•
|
Frozen Kefir, available in both bars and pint-size containers.
|
Lifeway has determined that it has one
reportable segment based on how our chief operating decision maker manages the business and in a manner consistent with the internal
reporting provided to the chief operating decision maker. The chief operating decision maker, who is responsible for allocating
resources and assessing our performance, has been identified collectively as the Chief Financial Officer, the Chief Operating Officer,
the Chief Executive Officer, and Chairperson of the board of directors. Substantially all of our consolidated revenues relate to
the sale of cultured dairy products that we produce using the same processes and materials and are sold to consumers through a
common network of distributors and retailers in the United States.
Net sales of products by category were
as follows for the years ended December 31:
|
|
2018
|
|
|
2017
|
|
In thousands
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Drinkable Kefir other than ProBugs
|
|
$
|
78,523
|
|
|
|
76%
|
|
|
$
|
90,514
|
|
|
|
76%
|
|
Cheese
|
|
|
11,486
|
|
|
|
11%
|
|
|
|
11,516
|
|
|
|
10%
|
|
Cream and other
|
|
|
5,276
|
|
|
|
5%
|
|
|
|
6,527
|
|
|
|
5%
|
|
Cupped Kefir and Skyr
|
|
|
3,836
|
|
|
|
4%
|
|
|
|
4,138
|
|
|
|
4%
|
|
ProBugs Kefir
|
|
|
2,795
|
|
|
|
3%
|
|
|
|
4,537
|
|
|
|
4%
|
|
Frozen Kefir (a)
|
|
|
1,434
|
|
|
|
1%
|
|
|
|
1,661
|
|
|
|
1%
|
|
Net Sales
|
|
$
|
103,350
|
|
|
|
100%
|
|
|
$
|
118,893
|
|
|
|
100%
|
|
(a)
|
Includes Lifeway Kefir Shop sales
|
|
Significant Customers
–
Sales are predominately to companies in the retail food industry located within the United States. Two major customers accounted
for approximately 21% and 22% of net sales for the years ended December 31, 2018 and 2017, respectively. Two major customers accounted
for approximately 17% and 19% of accounts receivable as of December 31, 2018 and 2017, respectively. Our ten largest customers
as a group accounted for approximately 59% of net sales for the years ended December 31, 2018 and 2017.
Note 12 – Share repurchase program
On September 24, 2015, Lifeway’s
Board of Directors authorized a stock repurchase program (the “2015 stock repurchase program”) under which we may,
from time to time, repurchase shares of our common stock for an aggregate purchase price not to exceed the lesser of $3,500 or
250 shares. On November 1, 2017, the Board amended the 2015 stock repurchase program (the “2017 amendment”), by adding
to (i.e., exclusive of the shares previously authorized under the 2015 stock repurchase program) the authorization the lesser of
$5,185 or 625 shares. Under the amended authorization, share repurchases may be executed through various means, including without
limitation in the open market or in privately negotiated transactions, in accordance with all applicable securities laws and regulations,
including without limitation Rule 10b-18 of the Securities Exchange Act of 1934, as amended. The extent to which Lifeway repurchases
its shares and the timing of such repurchases will depend upon a variety of factors, including market conditions, regulatory requirements
and other corporate considerations. The repurchase program does not obligate us to purchase any shares, and the program may be
terminated, suspended, increased, or decreased by our Board in its discretion at any time.
Pursuant to the share repurchase program,
during the year ended December 31, 2018, the Company repurchased 218 shares at a cost of $1,379 or approximately $6.33 per share.
During the year ended December 31, 2017, the Company repurchased 148 shares at a cost of $1,486 or approximately $10.07 per share.
Approximately $4,503 remained available under this program as of December 31, 2018.
Note 13 – Related party transactions
Lifeway obtains consulting services from
the Chairperson of its Board of Directors. Fees earned by the Chairperson are included in general and administrative expenses in
the accompanying consolidated statements of operations and were $1,000 during the years ended December 31, 2018 and 2017, respectively.
Lifeway is also a party to a royalty agreement
with the Chairperson under which we pay the Chairperson a royalty based on the sale of certain Lifeway products, not to exceed
$50 in any fiscal month. Royalties earned by the Chairperson are included in selling expenses in the accompanying consolidated
statements of operations and were $587 and $600 during the years ended December 31, 2018 and 2017, respectively.
Note 14 – Subsequent Events
On April 10, 2019, effective March 31,
2019, Lifeway entered into the First Modification to the Amended and Restated Loan and Security Agreement (the “Modified
Revolving Credit Facility”) with its existing lender. Under the amendment, the Modified Revolving Credit Facility provides
for a revolving line of credit up to a maximum of $9 million (the “Revolving Loan”) with an incremental facility not
to exceed $5 million (the “Incremental Facility” and together with the Revolving Loan, the “Loans”).
All outstanding amounts under the Loans
bear interest, based on a level of the Senior Debt to EBITDA ratio, at Lifeway’s election, at either the lender Base Rate
(the greater of either the Federal Funds Rate plus 0.0% to 0.5%, or the Prime Rate) or the LIBOR plus 2.25% to 3.00%, payable monthly
in arrears. Lifeway is also required to pay a quarterly unused line fee and, in conjunction with the issuance of any letters of
credit, a letter of credit fee.
As amended, the Modified Revolving Credit
Facility contains customary representations, warranties, and covenants on the part of Lifeway, including financial covenants requiring
us to achieve a minimum EBITDA threshold for each of the fiscal quarters through December 31, 2019, and maintain a fixed charge
coverage ratio of no less than 1.25 to 1.0 each of the fiscal quarters ending through the expiration date. The Modified Revolving
Credit Facility also provides for events of default, including failure to repay principal and interest when due and failure to
perform or violation of the provisions or covenants of the agreement, as a result of which amounts due under the Modified Revolving
Credit Facility may be accelerated.
The Company had outstanding borrowings
of $4,720 at the time of the modification.