MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
As
used in this Quarterly Report on Form 10-Q, we, us, our and the Company
refer to Willamette Valley Vineyards, Inc.
Forward
Looking Statements
This
Managements Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Form 10-Q
contain forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking
statements involve risks and uncertainties that are based on current expectations, estimates and projections about the Companys
business, and beliefs and assumptions made by management. Words such as expects, anticipates, intends,
plans, believes, seeks, estimates intends, plans,
predicts, potential, should, or will or the negative thereof and variations
of such words and similar expressions are intended to identify such forward-looking statements. Therefore, actual outcomes and
results may differ materially from what is expressed or forecasted in such forward-looking statements due to numerous factors,
including, but not limited to: availability of financing for growth, availability of adequate supply of high quality grapes, successful
performance of internal operations, impact of competition, changes in wine broker or distributor relations or performance, impact
of possible adverse weather conditions, impact of reduction in grape quality or supply due to disease, changes in consumer spending,
the reduction in consumer demand for premium wines and the impact of the COVID-19 pandemic and the policies of United States federal,
state and local governments in response to such pandemic. In addition, such statements could be affected by general industry and
market conditions and growth rates, and general domestic economic conditions. Many of these risks as well as other risks that
may have a material adverse impact on our operations and business, are identified in Item 1A Risk Factors in the
Companys Annual Report on Form 10-K for the year ended December 31, 2019, as well as in the Companys other Securities
and Exchange Commission filings and reports. The forward-looking statements in this report are made as of the date hereof, and,
except as otherwise required by law, the Company disclaims any intention or obligation to update or revise any forward-looking
statements or to update the reasons why the actual results could differ materially from those projected in the forward-looking
statements, whether as a result of new information, future events or otherwise.
Critical
Accounting Policies
The
foregoing discussion and analysis of the Companys financial condition and results of operations are based upon our financial
statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires the
Companys management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates,
including those related to revenue recognition, collection of accounts receivable, valuation of inventories, and amortization
of vineyard development costs. The Company bases its estimates on historical experience and on various other assumptions that
are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions
or conditions. A description of the Companys critical accounting policies and related judgments and estimates that affect
the preparation of the Companys financial statements is set forth in the Companys Annual Report on Form 10-K for
the year ended December 31, 2019. Such policies were unchanged during the six months ended June 30, 2020.
Overview
The
Company, one of the largest wine producers in Oregon by volume, believes its success is dependent upon its ability to: (1) grow
and purchase high quality vinifera wine grapes; (2) vinify the grapes into premium, super premium and ultra-premium wine; (3)
achieve significant brand recognition for its wines, first in Oregon and then nationally and internationally; (4) effectively
distribute and sell its products nationally; and (5) continue to build on its base of direct to consumer sales.
The
Companys goal is to continue to build on a reputation for producing some of Oregons finest, most sought-after wines.
The Company has focused on positioning itself for strategic growth through property purchases, property development and issuance
of the Companys Series A Redeemable Preferred Stock (the Preferred Stock). Management expects near term financial
results to be negatively impacted by these activities as a result of incurring costs of accrued preferred stock dividends, strategic
planning and development costs and other growth associated costs.
The
Companys wines are made from grapes grown in vineyards owned, leased or contracted by the Company, and from grapes purchased
from other nearby vineyards. The grapes are harvested, fermented and made into wine primarily at the Companys winery in
Turner Oregon (the Winery) and the wines are sold principally under the Companys Willamette Valley Vineyards
label, but also under the Griffin Creek, Pambrun, Elton, Maison Bleue, Metis, Natoma, Elton and Tualatin Estates labels. The Company
also owns the Tualatin Estate Vineyards and Winery, located near Forest Grove, Oregon. The Company generates revenues from the
sales of wine to wholesalers and direct to consumers.
Direct
to consumer sales primarily include sales through the Companys tasting rooms, telephone, internet and wine club. Direct
to consumer sales are at a higher unit price than sales through distributors due to prices received being closer to retail than
those prices paid by wholesalers. The Company continues to emphasize growth in direct to consumer sales through the Companys
35,642 square foot hospitality facility at the Winery and expansion and growth in wine club membership. Additionally, the Companys
preferred stock sales since August 2015 have resulted in approximately 5,738 new preferred stockholders many of which the Company
believes are wine enthusiasts. When considering joint ownership, we believe these new stockholders represent approximately 9,000
potential customers of the Company.
Periodically,
the Company will sell grapes or bulk wine, due to them not meeting Company standards or being in excess to production targets,
however this is not a significant part of the Companys activities. The Company had no bulk wine sales the three months
ended June 30, 2020 and $2,800 in bulk wine sales for the same period of 2019. The Company had bulk wine sales of $28,734 for
the six months ended June 30, 2020 and $45,563 in bulk wine sales for the same period of 2019.
The
Company sold approximately 83,435 and 70,048 cases of produced wine during the six months ended June 30, 2020 and 2019, respectively,
an increase of 13,387 cases, or 19.1% in the current year period over the prior year period. The increase in wine case sales was
primarily the result of increased case sales through distributors.
Cost
of sales includes grape costs, whether purchased or grown at Company vineyards, winemaking and processing costs, bottling, packaging,
warehousing, and shipping and handling costs. For grapes grown at Company vineyards, costs include farming expenditures and amortization
of vineyard development costs.
At
June 30, 2020, wine inventory included approximately 156,657 cases of bottled wine and 258,299 gallons of bulk wine in various
stages of the aging process. Case wine is expected to be sold over the next 12 to 24 months and generally before the release date
of the next vintage. The Winery bottled approximately 103,893 cases during the six months ended June 30, 2020.
Willamette
Valley Vineyards continues to receive positive recognition through national magazines, regional publications, local newspapers
and online bloggers.
Wine
Enthusiast awarded the Companys 2018 White Pinot Noir with 92 points and Editors Choice, 2017 Dijon Clone Chardonnay
with 91 points and Editors Choice, 2019 Whole Cluster Pinot Noir with 91 points and Editors Choice, 2017 Vintage
44 Pinot Noir with 90 points, 2018 Estate Chardonnay with 90 points, 2019 Estate Rosé of Pinot Noir with 90 points and
2019 Whole Cluster Rosé of Pinot Noir with 90 points and Editors Choice.
The
Companys 2019 Whole Cluster Rosé of Pinot Noir was awarded a Double Gold medal and received a score of 96 points
at The Sunset International Wine Competition.
The
Companys 2018 Whole Cluster Pinot Noir was awarded 92 points and the 2017 Estate Pinot Noir was awarded 90 points from
Wine.com.
Wine
Advocate awarded the Companys 2016 Fuller Pinot Noir with 90 points and the Elton Florine Pinot Noir, a boutique
wine brand from the Eola-Amity Hills AVA, with 90 points.
Forbes
included the Companys Whole Cluster Rosé of Pinot Noir in the article, Oregons Willamette Valley
Makes Rosé like no Place Else on Earth.
The Wall Street Journal featured
the Company’s Pinot Gris and quoted its Winemaker Joe Ibrahim in the article, “The Best Wines to Drink with Salmon.”
The Company’s 2018 Whole Cluster
Pinot Noir was included in the Prevention Magazine article titled, "10 Best Red Wines Made in the United States to
Buy in 2020."
Forbes featured a Question and
Answer with the Company’s Founder/CEO Jim Bernau about the preferred stock offering and other financial successes in the
article entitled, “Willamette Valley Vineyards: How An Innovative Financial Strategy Fuels Dramatic Growth.”
The Company’s ultraviolet light
filtration technology installed in its HVAC system to reduce harmful microorganisms was featured in The Oregonian, Wine
Business Monthly, Capital Press, The Corvallis Advocate, KPTV Fox Channel 12 (Fox-affiliated television) and
KATU Channel 2 (ABC-affiliated television station).
The Company’s Tualatin Estate Vineyard founded in 1973 was included in more than 30
articles about the new Tualatin Hills sub-AVA of the Willamette Valley, including The Hour, The Oregonian, Times Union
and San Antonio Express-News, as well as a KOIN Newschannel 6 (Portland CBS-affiliate television station) broadcast.
Bernau Estate, the Company’s méthode
champenoise sparkling wine facility with a biodynamically-farmed vineyard, planned to open in 2022 in the Dundee Hills, was
in a feature article with photographs in The Oregonian. The article also touched on the preferred stock offering
funding method for the project.
Willamette Wineworks, the Companys first microwinery outpost featuring wine tasting, food
pairings and a barrel blending system to create custom wine blends was featured in Sacramento Business Journal, Gold
Country Media, Capital Public Radio News and an on-air interview
Impact
of COVID-19 on Operations
The
COVID-19 pandemic has been declared a National Public Health Emergency in the United States, and on March 8, 2020, Oregon Governor
Kate Brown declared a state of emergency to address the spread of COVID-19 in Oregon. The outbreak in Oregon and other parts of
the United States, as well as the response to COVID-19 by federal, state and local governments could have a continued material
adverse impact on economic and market conditions in the United States, and likely will negatively affect our business and operations.
The COVID-19 pandemic and the government responses to the outbreak presents uncertainty and risk with respect to the Company and
its performance and financial results.
With
the exception of key operations personnel, we have shifted our office staff to remote workstations, and we expect we will continue
to operate remotely until state and local government shelter-in-place orders have been lifted and management determines it is
safe for employees to return to offices. Far exceeding the required Oregon Healthy Authority protocols, a new state-of-the-art
UV light filtration has been installed in the Companys HVAC system to reduce harmful viruses in the air at its tasting
room locations and staff offices.
We
have not experienced significant disruptions to our supply chain network, however with orders imposed by the local state government,
we expect a negative impact on our direct to consumer sales. In response to the closing of our tasting rooms and other restrictions,
the Company launched curbside pick-ups, complimentary shipping specials with minimum purchase and a new wine delivery service
for locals, which we are hopeful will mitigate some of the expected declines in direct to consumer sales.
Additionally,
the demand for the Companys wine sold directly or through distributors to restaurants, bars, and other hospitality locations
will likely be significantly reduced in the near-term due to orders restricting consumers from visiting, as well as in some cases
the temporary closure of such establishments.
The
extent of the impact of the COVID-19 pandemic on the Companys business is highly uncertain and difficult to predict, as
the response to the pandemic is continuing to evolve. The severity of the impact of the COVID-19 pandemic on the Companys
business will depend on a number of factors, including, but not limited to, the duration and severity of the pandemic and the
extent and severity of the impact on the Companys customers, all of which are uncertain and cannot be predicted.
RESULTS
OF OPERATIONS
Revenue
Sales
revenue for the three months ended June 30, 2020 and 2019 were $5,568,654 and $5,790,837, respectively, a decrease of $222,183,
or 3.8%, in the current year period over the prior year period. This decrease was mainly caused by a
decrease in direct sales of $156,802 and a decrease in sales through distributors of $65,381 in the current year three-month period
over the prior year period. The decrease in direct sales to consumers was primarily the result of retail sales decreases
in tasting room revenue, hospitality and kitchen sales mostly due to the temporary closure and restrictions on the operation of
our tasting rooms resulting from the COVID-19 pandemic. The decrease in revenue from sales through distributors was primarily
attributed to lower sales to the on-premise market as many of these establishments have been closed or had other restrictions
placed on them due to the COVID-19 pandemic. Sales revenue for the six months ended June 30, 2020 and 2019 were $12,090,549 and
$10,789,623, respectively, an increase of $1,300,926, or 12.1%, in the current year period over the prior year period. This increase
was mainly caused by an increase in revenues from direct sales of $75,332
and an increase in revenues from sales through distributors of $1,225,594 in the current year period over the prior year period.
The increase in revenues from direct sales to consumers was primarily the result of increased phone sales and internet
sales. The increase in sales through distributors was primarily the result of an increase in off-premise sales.
Cost
of Sales
Cost
of Sales for the three months ended June 30, 2020 and 2019 were $2,067,122 and $2,292,479, respectively, a decrease of $225,357,
or 9.8%, in the current period over the prior year period. This change was primarily the result of an increase in sales and the
vintages sold in 2020. Cost of Sales for the six months ended June 30, 2020 and 2019 were $4,676,975 and $4,010,629, respectively,
an increase of $666,346, or 16.6%, in the current period over the prior year period. This change was primarily the result of an
increase in sales in 2020.
Gross
Profit
Gross
profit for the three months ended June 30, 2020 and 2019 was $3,501,532 and $3,498,358, respectively, an increase of $3,174, or
0.1%, in the second quarter of 2020 over the same quarter in the prior year. Gross profit for the six months ended June 30,
2020 and 2019 was $7,413,574 and $6,778,994, respectively, an increase of $634,580, or 9.4%, in the current year period over the
prior year period. This increase was primarily the result of an increase in case sales over the first six months of the current
year compared to the same period in 2019.
Gross
profit as a percentage of net sales for the three months ended June 30, 2020 and 2019 was 62.9% and 60.4%, respectively, an increase
of 2.5 percentage points in the current year period over the prior year period. Gross profit as a percentage of net sales for
the six months ended June 30, 2020 and 2019 was 61.3% and 62.8%, respectively, a decrease of 1.5 percentage points in the current
year period over the prior year period. This decrease was primarily the result of more sales coming from distribution sales which
have a lower selling price.
Selling,
General and Administrative Expenses
Selling,
general and administrative expense for the three months ended June 30, 2020 and 2019 was $2,555,958 and $2,901,927 respectively,
a decrease of $345,969, or 11.9%, in the current quarter over the same quarter in the prior year. This decrease was primarily
the result of a decrease in selling expenses of $292,588, or 15.3% and a decrease in general and administrative expenses of $53,381,
or 5.4% in the current quarter compared to the same quarter last year. Selling, general and administrative expense for the six
months ended June 30, 2020 and 2019 was $5,385,462 and $5,618,125, respectively, a decrease of $232,663, or 4.1%, in the current
year period over the prior year period. This decrease was primarily the result of a decrease in selling expenses of $319,548,
or 8.7% being partially offset by an increase in general and administrative expenses of $86,885, or 4.5% in the current year period
compared to the same period in 2019. Selling expenses decreased in both the first half and second quarter of 2020 compared to
the same periods in 2019 primarily as a result of more sales coming from distributors which have lower selling costs, combined
with reduced travel and the temporary closure of tasting rooms as a result of the Covid-19 pandemic. General and administrative
expenses decreased in the second quarter primarily a result of less contract labor and professional fees and increased for the
six months ended June 30, 2020 primarily as a result of increased insurance and compensation related costs compared to the same
period in 2019.
Interest
Expense
Interest
expense for the three months ended June 30, 2020 and 2019 was $105,133 and $111,088, respectively, a decrease of $5,955 or 5.4%,
in the second quarter of 2020 over the same quarter in the prior year. Interest expense for the six months ended June 30, 2020
and 2019 was $210,875 and $221,502, respectively, a decrease of $10,627 or 4.8%, in the current year period over the prior year
period. The decrease in interest expense for the second quarter and first six months of 2020 was primarily the result of decreased
debt compared to the second quarter and first six months of 2019.
Income
Taxes
The
income tax expense for the three months ended June 30, 2020 and 2019 was $231,533 and $134,363, respectively, an increase of $97,170
or 72.3%, in the second quarter of 2020 over the same quarter in the prior year mostly as a result of higher pre-tax income in
the second quarter of 2020, compared to the same quarter in 2019. The Companys estimated federal and state combined income
tax rate was 27.2% for the three months ended June 30, 2020 and 2019. The income tax expense for the six months ended June 30,
2020 and 2019 was $525,766 and $284,366, respectively, an increase of $241,400 or 84.9%, in the current year period over the prior
year period mostly a result of higher pre-tax income in the first six months of 2020, compared to the same period in 2019. The
Companys estimated federal and state combined income tax rate was 27.2% and 26.6% for the three months ended June 30, 2020
and 2019, respectively.
Net
Income
Net
income for the three months ended June 30, 2020 and 2019 was $620,421 and $359,911, respectively, an increase of $260,510, or
72.4%, in the second quarter of 2020 over the same quarter in the prior year. Net income for the six months ended June 30, 2020
and 2019 was $1,407,503 and $786,387, respectively, an increase of $621,116, or 79.0%, in the current year period over the prior
year period. The increase in net income for the second quarter and first half of 2020, compared to the comparable periods in 2019,
was primarily the result of increased gross profits in addition to lower selling, general and administrative expenses.
Income
Applicable to Common Shareholders
Income
applicable to common shareholders for the three months ended June 30, 2020 and 2019 was $363,969 and $103,459, respectively, an
increase of $260,510, or 251.8%, in the second quarter of 2020 over the same quarter in the prior year. Income applicable to common
shareholders for the six months ended June 30, 2020 and 2019 was $894,599 and $273,483, respectively, an increase of $621,116,
or 227.1%, in the current year period over the prior year period. The increase in income applicable to common shareholders in
the second quarter and first six months of 2020, compared to the same periods of 2019, was the result of higher net income in
the current periods.
Liquidity
and Capital Resources
At
June 30, 2020, the Company had a working capital balance of $20.0 million and a current working capital ratio of 4.92:1.
At
June 30, 2020, the Company had a cash balance of $5,903,587. At December 31, 2019, the Company had a cash balance of $7,050,176.
This decrease is primarily the result of increased cash used in investing activities primarily on the construction of a new tasting
room in Dundee, Oregon. The total construction costs for the project is expected to be approximately $13.5 million, which we expect
will be funded through a combination of cash on hand as well as equity financing through the current preferred stock offering.
Construction began in July 2019 and was paused in March 2020 as a result of the uncertainty on the impact of the COVID-19 pandemic
on the Companys business. As of June 30, 2020, we had incurred approximately $4.6 million on the project.
Total
cash generated from operating activities in the six months ended June 30, 2020 was $1,776,123. Cash generated in operating activities
for the six months ended June 30, 2020 was primarily associated with cash received from increased net income, reduced inventory
and income taxes receivable, being partially offset by cash used in connection with an increase in accounts receivable and a decrease
in grapes payables.
Total
cash used in investing activities in the six months ended June 30, 2020 was $3,058,607. Cash used in investing activities for
the six months ended June 30, 2020 primarily consisted of cash used on construction activity on a new tasting room and vineyard
development costs.
Total
cash generated from financing activities in the six months ended June 30, 2020 was $135,895. Cash generated from financing activities
for the six months ended June 30, 2020 primarily consisted proceeds from investor deposits, being partially offset by the repayment
of debt.
The
Company has an asset-based loan agreement (the line of credit) with Umpqua Bank that allows it to borrow up to $2,000,000.
The Company renewed this agreement, in July 2019, until July 2021. The interest rate is prime less 0.5%, with a floor of 3.25%.
The loan agreement contains certain restrictive financial covenants with respect to total equity, debt-to-equity and debt coverage
that must be maintained by the Company on a quarterly basis. As of June 30, 2020, the Company was in compliance with all of the
financial covenants.
As
of June 30, 2020 and December 31, 2019, the Company had no balance outstanding on the line of credit.
As
of June 30, 2020 the Company had a 15-year installment note payable of $1,427,151, due in quarterly payments of $42,534, associated
with the purchase of property in the Dundee Hills AVA.
As
of June 30, 2020, the Company had a total long-term debt balance of $6,207,114, including the portion due in the next year, owed
to Farm Credit Services and Toyota Credit Corporation, exclusive of debt issuance costs of $152,354. As of December 31, 2019,
the Company had a total long-term debt balance of $6,423,517, exclusive of debt issuance costs of $158,978.
The
Company qualified and obtained a PPP loan for $1.655 million, but quickly returned the funds after obtaining a $5 million commercial
loan commitment from Farm Credit Services, which is intended to provide the Company with additional liquidity in the event the
Company was to experience operating losses from sales disruptions due to the COVID-19 pandemic. This Commitment came into
effect in July 2020 and as of the filing date the Company has not drawn down any funds on this commitment.
The
Company believes that cash flow from operations and funds available under the Companys existing credit facilities will
be sufficient to meet the Companys short-term needs. Due to the uncertainty surrounding the future impact of the COVID-19
pandemic on the Company we will continue to evaluate funding mechanisms to support our long-term funding requirements.
Off
Balance Sheet Arrangements
As
of June 30, 2020 and December 31, 2019, the Company had no off-balance sheet arrangements.
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