| Item 2. | Management’s Discussion and Analysis of Financial Condition and Results of Operations. |
11
The Business and Strategy
Item 2.Management’s Discussion and AnalysisTandy Leather Factory, Inc. is one of Financial Condition and Results of Operations.
Our Business
We are the world’s largest specialty retailerretailers of leather and leathercraft related items, offeringleathercraft-related items. Founded in 1919 in Fort Worth, Texas, and organized in 2005 as a Delaware corporation, the Company introduced leathercrafting to millions of American and later Canadian and other international customers and has built a track record as the trusted source of quality leather, tools, leather, accessories,hardware, supplies, kits and teaching materials. materials for leatherworkers everywhere. Today, our mission remains to build on our legacy of inspiring the timeless art and trade of leatherworking.
What differentiates Tandy from the competition is our high brand awareness and strong brand equity and loyalty, our network of retail stores that provides convenience, a high-touch customer service experience, and a hub for the local leathercrafting community, and our 100-year heritage. We believe that this combination of qualities is unique to Tandy and gives the brand competitive advantages that are difficult for others to replicate.
We sell our products primarily through company-owned stores and through orders generated from our website, www.tandyleather.com.global websites, and through direct account representatives in our commercial division. We also manufacture leather lace, cut leather pieces and most of the do-it-yourself kits that are a Delaware corporation,sold in our stores and on our common stock trades on the NASDAQ Global Market under the symbol “TLF.”websites. We have builtalso offer production services to our business by offeringcustomers such as cutting (“clicking”), splitting, and some assembly. We maintain our principal offices at 1900 Southeast Loop 820, Fort Worth, Texas 76140.
Currently, the Company operates a total of 103 retail stores. There are 92 stores in the United States (“U.S,”), ten stores in Canada and one store in Spain.
Tandy Leather has been introducing people to leatherworking for over 100 years. Our stores have been and continue to be our competitive advantage: where our consumers learn the craft in classes, open table, and from the expertise of our store staff, where they can touch, feel and test the product, and where they can connect and commune with others passionate about leather. Our websites provide inspiration, detailed product descriptions and specifications, educational information and videos, and a convenient place to also purchase product – especially for those who are far from our retail stores, including a growing international customer base. For many of our retail and web customers, quality products in one location atleatherworking evolves from a passion to a trade. Our Commercial Division is tailored to the needs of those customers who build businesses around leather. With dedicated direct account representatives, a direct-from-our-warehouse shipping model, bulk and volume-based competitive prices.pricing, customized product development, and production and pre-production services, we are building long-term, strategic relationships with our largest customers.
In 2019, with the arrival of a new management team, we began the process of assessing and reinvigorating the business. We operate in two segments: North America and International. Prior to January 1, 2017, we operatedfocused in three segments: Wholesale, Retailbroad strategic initiative areas: 1) improving our brand proposition, 2) rebuilding our foundation: the talent, processes, tools and International. To better reflect how management analyzessystems needed to modernize and efficiently operate the business, and allocates resources, we combined Wholesale3) creating a vision and Retail into North America effective January 1, 2017, while International remainsroad map for long-term growth. We had significant achievements in all of these areas including significantly improving the same. All prior year data discussed throughout this Form 10Q has been restated to conform toproduct quality, breadth of assortment and value, dramatically improving the new reporting segment structure. There is no change to our consolidated financial position or results.website and web operations, rebuilding the team, people policies and culture, and replacing all of the key systems, among many other accomplishments.
We believe that the keymade this steady progress to transform and reinvigorate our success is our ability to profitably grow our base business. We expect to grow that business by opening new locations and by increasing sales in our existing locations. To date in 2017, we have reopened one store in Harrisburg, PA and opened new stores in Allen, TX; Miami, FL; and McAllen, TX.
As of November 1, 2017, our North America segment operates 115 company-owned stores located in 42 U.S. states and 7 Canadian provinces. We expect to grow the number of stores in North America to approximately 150even in the future. Our paceface of store openings has recently picked up due totwo very significant obstacles. In 2019, as part of the assessment of the business, we discovered errors in accounting that required a changerestatement of our financials. This work was costly and time-consuming, but we successfully completed the restatement in strategy2021 along with implementation of new accounting systems, redesign of processes and controls, and a focus on growth.
Our International Leathercraft segment operates four company-owned stores with one located in each of Northampton, United Kingdom; Manchester, United Kingdom; Sydney, Australia; and Jerez, Spain. We expect to continue opening international storessignificant upgrade in the future, but do not intend to open any new international stores in 2017 or 2018.
Our customer base is diverse, with individual retail customers asteam. In 2020, while making progress against our largest customer group, representing approximately 56%transformation and still working through our restatement, we temporarily closed all of our 2016 sales. The remaining 44%retail stores as a result of the COVID-19 pandemic.
With COVID-19 related store closing and the restatement behind us and with many of our 2016 sales were to our wholesale, manufacturer and institutional groups (including horse and tack shops, Western wear, crafters, upholsterers, cobblers, auto repair, education, hospitals, prisons and other large businesses that use our products as raw materials to produce goods for resale). Generally, our retail customers provide a higher gross profit than our wholesale and manufacturer groups.
Our initiatives to increase sales include new merchandising with an expanded product line intended to grow business to our retail customers, a refocus on business development to our wholesale and manufacturer groups, improvements to our digital and e-commerce channels, as well as updates to our promotional and clearance activity. We have also increased our training efforts with our store associates to strengthen their product knowledge. We believe that our store associates, armed with a solid knowledge of our extensive product line, can drive higher average tickets and traffic conversion.
Wetaking hold, we are also focusingnow focused on improving our customer experience, increasing our brand awareness,financial sustainability and strengthening our store performance. To help achieve those goals,profitability. In the short-term, we are managing operating expenses and gross margin to deliver free operating cash and operating income even in early 2017, we announced a district restructuring with our store footprint divided into fifteen districts (previously, our store footprint was divided into five regions). Each district contains six to ten stores, reporting to a district manager who is tasked with growing traffic and sales, as well as training store managers and associates to better serve our customers and succeed in today’s retail environment. Asthe face of November 1, 2017, we have filled eleven of our fifteen district manager positions.
Our strategy has required, and is expected topossible continued economic headwinds. We will also continue to require, investmentsselectively invest in our new stores, expanded inventory and merchandising, as well as operating costs for additional headcount, travel, training and marketing expenses. We believe we are investing in areas that will drive sustainable long-term growth.profitable sales growth where it makes sense, but rebuilding a durable, profitable business model is the highest priority.
Critical Accounting Policies
A description of our critical accounting policies appears in Item 7 “Management's Discussions and Analysis of Financial Condition and Results of Operations” in our Annual Reportannual report on Form 10-K for the fiscal year ended December 31, 2016.2022.
Forward-Looking StatementsRevenue Recognition. Our revenue is earned from sales of merchandise and generally occurs via three methods: (1) at the store counter, (2) via web sales, and (3) via sales representatives. We recognize revenue when we satisfy the performance obligation of transferring control of product merchandise over to a customer. At the store counter, our performance obligation is met, and revenue is recognized when a sales transaction occurs with a customer. When merchandise is shipped to a customer, our performance obligation is met, and revenue is recognized when control passes to the customer. Shipping terms are normally free on board (“FOB”) shipping point and control passes when the merchandise is shipped to the customer. Sales tax and comparable foreign tax are excluded from net sales, while shipping charged to our customers is included in net sales. Net sales are based on the amount of consideration that we expect to receive, reduced by estimates for future merchandise returns.
Certain statements contained in this reportThe sales return allowance is based each year on historical customer return behavior and other known factors and reduces net sales and cost of sales, accordingly. Under our sales returns policy, merchandise may be returned, under most circumstances, up to 60 days after the date of purchase. As merchandise is returned, the company records the sales return against the sales return allowance.
We record a gift card liability for the unfulfilled performance obligation on the date we issue a gift card to a customer. We record revenue and reduce the gift card liability as the customer redeems the gift card. In addition, for gift card breakage, we recognize a proportionate amount for the expected unredeemed gift cards over the expected customer redemption period, which is one year.
Inventory. Inventory is stated at the lower of first-in, first-out (“FIFO”) cost or net realizable value, and FIFO layers are maintained at the location level. Finished goods held for sale include the cost of merchandise purchases, the costs to bring the merchandise to our Texas distribution center, warehousing and handling expenditures, and distributing and delivering merchandise to our stores. These costs include depreciation of long-lived assets utilized in acquiring, warehousing and distributing inventory. Manufacturing inventory including raw materials we fileand work-in-process is valued on a FIFO basis using full absorption accounting which includes material, labor, and other applicable manufacturing overhead. Carrying values of inventory are analyzed and, to the extent that the cost of inventory exceeds the net realizable value, provisions are made to reduce the carrying amount of the inventory.
We regularly review all inventory items to determine if there are (i) damaged goods (e.g., for leather, excessive scars or damage from ultra-violet (“UV”) light), (ii) items that need to be removed from our product line (e.g., slow-moving items, inability of a supplier to provide items of acceptable quality or quantity, and to maintain freshness in the product line) and (iii) pricing actions that need to be taken to adequately value our inventory at the lower of FIFO cost or net realizable value.
Since the determination of net realizable value of inventory involves both estimation and judgement with regard to market values and reasonable costs to sell, differences in these estimates could result in ultimate valuations that differ from the recorded asset.
The majority of inventory purchases and commitments are made in U.S. dollars in order to limit the Company’s exposure to foreign currency fluctuations. Goods shipped to us are recorded as inventory owned by us when the risk of loss shifts to us from the supplier. Inventory is physically counted twice annually in the Texas distribution center. At the store level, inventory is physically counted each quarter. Inventory is then adjusted in our accounting system to reflect actual count results.
Leases. We lease certain real estate for our retail store locations and warehouse equipment for our Texas distribution center, both under long-term lease agreements. Starting in 2019, with the Securitiesadoption of Accounting Standards Update (“ASU”) 2016-02, Leases (Topic 842), once we have determined an arrangement is a lease, at inception we recognize a lease asset and Exchange Commission, as well as information included in oral statements or other written statements made or to be made by us, other than statements of historical fact, are forward-looking statements withinlease liability at commencement date based on the meaning of Section 27Apresent value of the Securities Actlease payments over the lease term. We elected not to record leases with an initial term of 1933, as amended, and Section 21E of12 months or less on the Securities Exchange Act of 1934, as amended. Forward-looking statements generally are accompanied by words such as “may,” “will,” “could,” “should,” “anticipate,” “believe,” “budgeted,” “expect,” “intend,” “plan,” “project,” “potential,” “estimate,” “continue,” or “future” variations thereof or other similar statements. There are certain important risks that could cause results to differ materially from those anticipated by some of the forward-looking statements. Some, but notbalance sheet for all of the important risks, including, without limitation, those described below, could cause actual results to differ materially from those suggested by the forward-looking statements. Please refer also to our Annual Report on Form 10-K for fiscal year ended December 31, 2016 for additional information concerning these and other uncertainties that could negatively impact the Company. Potential factors, which could cause our actual results of operations to differ materially from those in the forward-looking statements include, among others:asset classes.
Ø | General economic conditions in the United States and abroad; |
Ø | Increased pressure on margins; |
Ø | Increases in the cost of the products we sell or a reduction in availability of those products; |
Ø | Challenges in implementing our planned expansion and district restructuring; |
Ø | Failure to hire and train qualified personnel to operate new and existing stores; |
Ø | Failure to protect our trademarks and other proprietary intellectual property rights; |
Ø | Negative impact of foreign currency fluctuations on our financial condition and results of operations; |
Ø | Information technology system failures or network disruptions; |
Ø | Significant data security or privacy breach of our information systems; |
Ø | Loss or prolonged disruption in the operation of our centralized distribution center; and |
We assume no obligation to update or otherwise revise our forward-looking statements even if experience or future changes make it clear that any projected results, express or implied, will not be realized.
For our operating leases, the present value of our lease payments may include: (1) rental payments adjusted for inflation or market rates, and (2) lease terms with options to renew the lease when it is reasonably certain we will exercise such an option. The exercise of lease renewal options is generally at our discretion. Payments based on a change in an index or market rate are not considered in the determination of lease payments for purposes of measuring the related lease liability. We discount lease payments using our incremental borrowing rate based on information available as of the measurement date.
We recognize rent expense related to our operating leases on a straight-line basis over the lease term. Rent expense is recorded in operating expenses. The net adjustment between rent expense and the actual cash paid during the fiscal year has been recorded as accrued expenses and other liabilities in the accompanying consolidated balance sheets.
For finance leases, our right-of-use assets are amortized on a straight-line basis over the earlier of the useful life of the right-of-use asset or the end of the lease term with rent expense recorded to operating expenses. We adjust the lease liability to reflect lease payments made during the period and interest incurred on the lease liability using the effective interest method. The incurred interest expense is recorded in interest expense on the consolidated statements of operations and comprehensive income (loss). The depreciable life of related leasehold improvements is based on the shorter of the useful life or the lease term. We also perform interim reviews of our operating lease assets for impairment when evidence exists that the carrying value of an asset group, including a lease asset, may not be recoverable.
None of our lease agreements contain material residual value guarantees or material restrictive covenants. As of September 30, 2023, we have no sublease agreements and no lease agreements in which we are named as a lessor. We do not have any contingent rental payment agreements. On September 8, 2022, we entered into a concession agreement for our store on the Fort Bragg military base in which the concession payment is based on a sliding scale percentage of sales.
Impairment of Long-Lived Assets. We evaluate long-lived assets on a quarterly basis to identify events or changes in circumstances (“triggering events”) that indicate the carrying value of certain assets may not be recoverable. Upon the occurrence of a triggering event, right-of-use (“ROU”) lease assets, property and equipment and definite-lived intangible assets are reviewed for impairment and an impairment loss is recorded in the period in which it is determined that the carrying amount of the assets is not recoverable. The determination of recoverability is made based upon the estimated undiscounted future net cash flows of assets grouped at the lowest level for which there are identifiable cash flows independent of the cash flows of other groups of assets with such cash flows to be realized over the estimated remaining useful life of the primary asset within the asset group. The Company determined the lowest level of identifiable cash flows that are independent of other asset groups to be primarily at the individual store level. If the estimated undiscounted future net cash flows for a given store are less than the carrying amount of the related store assets, an impairment loss is determined by comparing the estimated fair value with the carrying value of the related assets. The impairment loss is then allocated across the asset group’s major classifications which in this case are operating lease assets and property and equipment. Triggering events at the store level could include material declines in operational and financial performance or planned changes in the use of assets, such as store relocation or store closure. This evaluation requires management to make judgements relating to future cash flows, growth rates and economic and market conditions. The fair value of an asset group is estimated using a discounted cash flow valuation method.
Stock-based Compensation. The Company’s stock-based compensation relates primarily to restricted stock unit (“RSU”) awards. Accounting guidance requires measurement and recognition of compensation expense at an amount equal to the grant date fair value. Compensation expense is recognized for service-based stock awards on a straight-line basis or ratably over the requisite service period, based on the closing price of the Company’s stock on the date of grant. The service-based awards typically vest ratably over the requisite service period, provided that the participant is employed on the vesting date. The total compensation expense is reduced by actual forfeitures as they occur over the requisite service period of the awards. Performance-based RSUs vest, if at all, upon the Company satisfying certain performance targets. The Company records compensation expense for awards with a performance condition when it is probable that the condition will be achieved. If the Company determines it is not probable a performance condition will be achieved, no compensation expense is recognized. If the Company changes its assessment in a subsequent period and concludes it is probable a performance condition will be achieved, the Company will recognize compensation expense ratably between the period of the change in assessment through the expected date of satisfying the performance condition for vesting. If the Company subsequently assesses that it is no longer probable that a performance condition will be achieved, the accumulated expense that has been previously recognized will be reversed. The compensation expense ultimately recognized, if any, related to performance-based awards will equal the grant date fair value based on the number of shares for which the performance condition has been satisfied. We issue shares from authorized shares upon the lapsing of vesting restrictions on RSUs. We do not use cash to settle equity instruments issued under stock-based compensation awards.
Income Taxes. Income taxes are estimated for each jurisdiction in which we operate. This involves assessing current tax exposure together with temporary differences resulting from differing treatment of items for tax and financial statement accounting purposes. Any resulting deferred tax assets are evaluated for recoverability based on estimated future taxable income. To the extent it is more-likely-than-not that all or a portion of a deferred tax asset will not be realized, a valuation allowance is recorded. Our evaluation regarding whether a valuation allowance is required or should be adjusted also considers, among other things, the nature, frequency, and severity of recent losses, forecasts of future profitability and the duration of statutory carryforward periods. Deferred tax assets and liabilities are measured using the enacted tax rates in effect in the years when those temporary differences are expected to reverse. The effect on deferred taxes from a change in tax rate is recognized through continuing operations in the period that includes the enactment date of the change. Changes in tax laws and rates could affect recorded deferred tax assets and liabilities in the future. A tax benefit from an uncertain tax position may be recognized when it is more-likely-than-not that the position will be sustained upon examination, including resolutions of any related appeals or litigation processes, based on the technical merits. Income tax positions must meet a more-likely-than-not recognition threshold to be recognized. We recognize tax liabilities for uncertain tax positions and adjust these liabilities when our judgement changes as a result of the evaluation of new information not previously available. Due to the complexity of some of these uncertainties, the ultimate resolution may result in a payment that is materially different from the current estimate of the tax liabilities. These differences will be reflected as increases or decreases to income tax expense and the effective tax rate in the period in which new information becomes available. We recognize interest and/or penalties related to all tax positions in income tax expense. To the extent that accrued interest and penalties do not ultimately become payable, amounts accrued will be reduced and reflected as a reduction of the overall income tax provision in the period that such determination is made.
We may be subject to periodic audits by the Internal Revenue Service and other taxing authorities. These audits may challenge certain of our tax positions, such as the timing and amount of deductions and allocation of taxable income to the various jurisdictions.
Results of Operations
Three Months Ended September 30, 20172023 and 20162022
The following tables presenttable presents selected financial data for each of our segments:data:
| | | Quarter Ended Sept 30, 2017 | | | Quarter Ended Sept 30, 2016 | |
| | | Net Sales | | | Income from Operations | | | Net Sales | | | Income from Operations | |
| North America | | $ | 17,421,013 | | | $ | 649,797 | | | $ | 17,745,130 | | | $ | 1,589,071 | |
| International | | | 967,368 | | | | 478 | | | | 883,232 | | | | (49,012 | ) |
| Total | | $ | 18,388,381 | | | $ | 650,275 | | | $ | 18,628,362 | | | $ | 1,540,059 | |
| | | Three Months Ended September 30, | |
| (in thousands) | | 2023 | | | 2022 | | | $ Change | | | % Change | |
| Net sales | | $ | 17,542 | | | $ | 19,057 | | | $ | (1,515 | ) | | | (8.0 | )% |
| Gross profit | | | 10,938 | | | | 11,596 | | | | (658 | ) | | | (5.7 | )% |
| Gross margin percentage | | | 62.4 | % | | | 60.8 | % | | | - | | | | 1.6 | % |
| Operating expenses | | | 10,058 | | | | 10,620 | | | | (562 | ) | | | (5.3 | )% |
| Income (loss) from operations | | $ | 880 | | | $ | 976 | | | $ | (96 | ) | | | (9.8 | )% |
Net Sales
Consolidated net sales for the quarter ended September 30, 20172023 decreased $239,981,$1.5 million, or 1.3%8.0%, compared to the corresponding prior year period. We believe the decrease in sales was due to continued weaker consumer demand resulting from ongoing uncertainty related to global political, economic and other uncontrollable factors, and a decline in consumer response to our promotional activities.
Our store footprint consisted of 103 and 104 stores at September 30, 2023 and September 30, 2022, respectively.
During the third quarter of 2023, we did not close any existing stores, nor did we open new stores. We evaluate a number of factors when determining whether to close existing stores, including the 4-wall cash flow trend and longer-term projection for the store, the long-term sales trend, ongoing cost of store operations, date of lease expiration, quality of the store and location, and the size and potential of the trade area including proximity to other existing stores, among other variables. We use similar factors to determine whether to open new stores. Management will be closing store 202 located in Fort Liberty, North Carolina on November 30, 2023.
Gross Profit
Gross profit decreased by $0.7 million, or 5.7%, compared to the same period in 2016. International reported a sales increase of 9.5%, while North America reported a sales decline of 1.8%. Income from operations on a consolidated basis2022, and our gross margin percentage for the quarter ended September 30, 2017 decreased $889,784, from the third quarter of 2016 primarily due2023 increased 160 basis points to the decrease in sales and an62.4%. We believe this increase in operating expenses, primarily related to the six new stores opened since October 2016, as well as the additional expenses associated with our new district manager structure.
The following table shows in comparative form our consolidated net income for the third quartergross margin percentage was a result of 2017 and 2016:
| | | 2017 | | | 2016 | | | % change | |
| Net income | | $ | 521,414 | | | $ | 1,000,350 | | | | (47.9 | %) |
Additional information appears below for each segment (see also the information contained in Note 7 to the consolidated financial statements included in Item 1 of this Report).
North America
North America consisted of 115 stores at September 30, 2017 and 109 stores at September 30, 2016. Six new stores opened since the beginning of the third quarter of 2016, with one each in Philadelphia, PA (October 2016); Lyndhurst, NJ (November 2016); Johnston, RI (December 2016); Allen, TX (April 2017); Miami, FL (May 2017); and McAllen, TX (May 2017). Our Harrisburg, PA store was temporarily closed from April 2016 through December 2016. A store is categorized as “new” until it is operating for the full comparable period in the prior year. The table below reports our net sales by store category:
| | | # Stores | | | Qtr Ended 09/30/17 | | | # Stores | | | Qtr Ended 09/30/16 | | | $ Change | | | % Change | |
| Same stores | | | 108 | | | $ | 16,786,811 | | | | 108 | | | $ | 17,745,130 | | | $ | (958,319 | ) | | | (5.4 | %) |
| New stores | | | 6 | | | | 518,777 | | | | | | | | - | | | | 518,777 | | | | N/A | |
| Temp closed store | | | 1 | | | | 115,425 | | | | 1 | | | | - | | | | 115,425 | | | | N/A | |
| Total net sales | | | 115 | | | $ | 17,421,013 | | | | 109 | | | $ | 17,745,130 | | | $ | (324,117 | ) | | | (1.8 | )% |
The following table presents our sales mix by customer categories for the quarters ended September 30:
Customer Group | 2017 | | 2016 |
RETAIL (end users, consumers, individuals) | 58% | | 55% |
INSTITUTION (prisons, prisoners, hospitals, schools, youth organizations, etc.) | 3% | | 3% |
WHOLESALE (resellers & distributors, saddle & tack shops, authorized dealers, etc.) | 35% | | 37% |
| MANUFACTURERS | 4% | | 5% |
| | 100% | | 100% |
Net sales decreased 1.8%, or $324,000, for the third quarter of 2017 compared to the third quarter of 2016, primarily due to the negative impact from the recent hurricanes as discussed more fully below, as well as a continued trend of lower salesboth weaker consumer responsiveness to our wholesalepromotional activities and manufacturer groups, partially offset bytherefore a higher sales to our retail customers. We believe our wholesale and manufacturer groups are buying less as their businesses are struggling from e-commerce and other competition as well as attrition, while sales to our retail group have increased due to new marketing and merchandising initiatives.
We have and will continue to evaluate the impact of recent hurricanes. We have four stores in South Texas and five stores in Florida, all of which were closed during the days leading up to the hurricanes and for several days afterwards for our employees’ safety, as well as loss of power and/or ingress/egress issues, although nonepercentage of our stores sustained significant flooding or damage. However, we expectproduct sold at full price, and improvements in warehouse handling and freight costs that sales may continue to be negatively impactedare included as our customers in South Texas and Florida focus on rebuilding. For the quarter ended September 30, 2017, our sales for these nine stores declined by 16.3% as compared to the quarter ended September 30, 2016. We are seeing this trend continue through the datecost of this filing.sales.
Income from operations for North America during the quarter ended September 30, 2017 decreased by $939,000 from the comparative 2016 quarter due to a decrease in gross profit of $87,000 and increase in operating expenses of $852,000. Gross profit as a percentage of sales improved from 62.7% in the third quarter of 2016 to 63.4% in the third quarter of 2017, due to an increase in sales of higher margin products compared to last year’s third quarter and customer mix with more retail than business sales. Operating expenses increased 8.9% compared to last year’s comparable period. The most significant expense increases occurred in personnel, occupancy and selling costs related to the six new stores that have opened since October 2016 as well as the increase in our store manager salaries and the investment in our district manager structure. We believe these investments in personnel and new stores are laying the foundation for future profitable growth.
International Leathercraft
International Leathercraft consists of all stores located outside of North America. As of September 30, 2017 and 2016, this segment contained four stores, two of which are located in United Kingdom and one each in Australia and Spain. This segment’s sales totaled approximately $967,000 for the third quarter of 2017, compared to approximately $883,000 in the third quarter of 2016, an increase of $84,000 or 9.5%. The increase was primarily due to higher sales in Spain and the UK from an increase in ticket counts, while Australia’s sales and ticket counts were relatively flat. Additionally, favorable exchange rates also positively impacted sales and gross profit. International’s operating expenses of $597,000 for the third quarter of 2017 increased by $28,000 compared to third quarter of 2016, primarily due to higher personnel costs from turnover at our store in Australia. Overall, advertising and marketing expenses are this segment’s largest expense, followed by employee compensation, rent, travel, and shipping costs to customers.
Other ExpensesOperating expenses
We paid $53,000 in interest on our bank debt in the third quarter of 2017,Operating expenses decreased $0.6 million or 5.3% compared to $43,000the corresponding prior year period, primarily as a result of a decrease in salaries of $0.7 million, contract labor of $0.3 million, and digital marketing of $0.1 million, offset by an increase in bonus accruals of $0.2 million, increase in employee group insurance of $0.2 million, and traditional marketing of $0.1 million. Adjusted operating expenses excluding non-routine items as shown above is a non-GAAP measure, included here to provide additional information regarding the third quarter of 2016 due toCompany’s financial performance on a slightly higher interest rate and higher weighted average outstanding balance in 2017 compared to 2016. We recorded income of $42,000 for currency fluctuations in the third quarter of 2017, compared to a $3,600 expense in the third quarter of 2016.recurring basis.
Income Taxes
The decrease in theOur effective tax rate of 25% for the third quarter of 2017three months ended September 30, 2023 was 24.0% compared to 33%26.3% for the same period in 2022. Our effective tax rate differs from the third quarter of 2016 wasfederal statutory rate primarily due to U.S. state income tax expense, expenses that are nondeductible for tax purposes, the reversal ofchange in our valuation allowance associated with our deferred tax position for fixed assets.
assets, and differences in tax rates in foreign jurisdictions.
Nine Months Ended September 30, 20172023 and 20162022
The following tables presenttable presents selected financial data for eachdata:
| | | Nine Months Ended September 30, | |
| (in thousands) | | 2023 | | | 2022 | | | $ Change | | | % Change | |
| Net sales | | $ | 55,384 | | | $ | 57,967 | | | $ | (2,583 | ) | | | (4.5 | )% |
| Gross profit | | | 33,677 | | | | 34,028 | | | | (351 | ) | | | (1.0 | )% |
| Gross margin percentage | | | 60.8 | % | | | 58.7 | % | | | - | | | | 2.1 | % |
| Operating expenses | | | 31,027 | | | | 32,959 | | | | (1,932 | ) | | | (5.9 | )% |
| Income from operations | | $ | 2,650 | | | $ | 1,069 | | | $ | 1,581 | | | | 147.9 | % |
Net Sales
| | | Nine Months Ended Sept 30, 2017 | | | Nine Months Ended Sept 30, 2016 | |
| | | Net Sales | | | Income from Operations | | | Net Sales | | | Income from Operations | |
| North America | | $ | 55,080,152 | | | $ | 4,276,247 | | | $ | 56,043,559 | | | $ | 6,644,592 | |
| International | | | 2,738,844 | | | | (233,044 | ) | | | 2,779,935 | | | | 97,148 | |
| Total | | $ | 57,818,996 | | | $ | 4,043,203 | | | $ | 58,823,494 | | | $ | 6,741,740 | |
Consolidated net sales for the nine months ended September 30, 20172023 decreased $1,004,498,$2.6 million, or 1.7%4.5%, compared to the corresponding prior year period. We believe the decrease in sales was due to continued weaker consumer demand resulting from ongoing uncertainty related to global political, economic and other uncontrollable factors, and a decline in consumer response to our promotional activities.
Since January 1, 2023, we closed one store in Baldwin Park, California in March 2023 and opened one new store during the first nine months of the year. We evaluate a number of factors when determining whether to close existing stores, including the 4-wall cash flow trend and longer-term projection for the store, the long-term sales trend, ongoing cost of store operations, date of lease expiration, quality of the store and location, and the size and potential of the trade area including proximity to other existing stores, among other variables. We use similar factors to determine whether to open new stores.
Gross Profit
Gross profit decreased by $0.4 million, or 1.0%, compared to the same period in 2016. North America2022, and International reported sales declines of 1.7% and 1.5%, respectively. Income from operations on a consolidated basisour gross margin percentage for the nine months ended September 30, 20172023 increased by 210 basis points to 60.8%. We believe this increase in gross margin percentage was a result of both weaker consumer responsiveness to our promotional activities and therefore a higher percentage of our product sold at full price, and modest improvements in warehouse handling and freight costs that are included as cost of sales.
Operating expenses
| | | Nine Months Ended September 30, | | | | | | | |
| (in thousands) | | 2023 | | | 2022 | | | $ Change | | | % Change | |
Operating expenses | | $ | 31,027 | | | $ | 32,959 | | | $ | (1,932 | ) | | $ | (5.9 | %) |
Non-routine items related to restatement | | | - | | | | (246 | ) | | | 246 | | | | 100.0 | % |
Adjusted operating expenses | | $ | 31,027 | | | $ | 32,713 | | | $ | (1,686 | ) | | $ | (5.2 | %) |
| | | | | | | | | | | | | | | | | |
Operating expenses % of sales | | | 56.0 | % | | | 56.9 | % | | | | | | | | |
Adjusted operating expenses % of sales | | | 56.0 | % | | | 56.4 | % | | | | | | | | |
Operating expenses decreased 40%,by $1.9 million or $2,698,537, from the same period in 2016 primarily due5.9% compared to the corresponding prior year period, primarily as a result of a decrease in salescontract labor of $0.9 million, salaries of $0.8 million, meeting and conference of $0.2 million, office supplies of $0.2 million, utilities and telephone of $0.2 million and outside services of $0.1 million, offset by an increase in bonus accruals of $0.5 million. Adjusted operating expenses including non-routine items as shown above is a non-GAAP measure, included here to provide additional information regarding the Company’s financial performance on a recurring basis. Non-routine items are primarily related to seven new stores opened since2022 legal and accounting costs associated with the beginning of 2016, as well as investments in our district manager structure.restatement.
The following table shows in comparative form our consolidated net income for the first nine months of 2017 and 2016:Income Taxes
| | | 2017 | | | 2016 | | | % change | |
| Net income | | $ | 2,780,411 | | | $ | 4,342,262 | | | | (36.0 | %) |
Additional information appears below for each segment (see also the information contained in Note 7 to the consolidated financial statements included in Item 1 of this Report).
North America
In addition to the six new stores mentioned previously, Nyack, NY opened in March 2016 and is considered a new store in the following table of net sales by store category. Our Harrisburg, PA store was temporarily closed from April 2016 through December 2016:
| | | # Stores | | | Nine Months Ended 09/30/17 | | | # Stores | | | Nine Months Ended 09/30/16 | | | $ Change | | | % Change | |
| Same stores | | | 107 | | | $ | 53,196,638 | | | | 107 | | | $ | 54,863,405 | | | $ | (1,666,767 | ) | | | (3.0 | %) |
| New stores | | | 7 | | | | 1,562,619 | | | | 1 | | | | 622,336 | | | | 940,283 | | | | 151.1 | % |
| Closed/temp closed stores | | | 3 | | | | 320,895 | | | | 3 | | | | 557,818 | | | | (236,923 | ) | | | (42.5 | %) |
| Total net sales | | | 115 | | | $ | 55,080,152 | | | | 109 | | | $ | 56,043,559 | | | $ | (963,407 | ) | | | (1.7 | )% |
The following table presents our sales mix by customer categories for the nine months ended September 30:
Customer Group | 2017 | | 2016 |
RETAIL (end users, consumers, individuals) | 58% | | 55% |
INSTITUTION (prisons, prisoners, hospitals, schools, youth organizations, etc.) | 3% | | 3% |
WHOLESALE (resellers & distributors, saddle & tack shops, authorized dealers, etc.) | 35% | | 37% |
| MANUFACTURERS | 4% | | 5% |
| | 100% | | 100% |
Net sales decreased 1.7%, or $963,000, for the first nine months of 2017 compared to the same period in 2016, primarily due to a 3% decrease in same store sales. By customer group, sales to our wholesale and manufacturer groups have been weak as their businesses have been struggling from e-commerce and other competition as well as attrition, while sales to our retail group has increased due to new marketing and merchandising initiatives. Additionally,effective tax rate for the nine months ended September 30, 2017, our sales2023 was 28.8% compared to 26.3% for the nine stores impacted by the recent hurricanes declined by 6.3% as compared to the nine months ended September 30, 2016.
Income from operations for North America for the nine months ended September 30, 2017 decreased $2,368,000same period in 2022. Our effective tax rate differs from the comparative 2016 period. A decrease in gross profit of $125,000 and an increase in operating expenses of $2,243,000 contributed to the decline in income from operations. Gross profit as a percentage of sales increased from 63.1% in the first nine months of 2016 to 64.0% in the first nine months of 2017, due to an increase in sales of higher margin products compared to last year’s first three quarters and customer mix. Operating expenses increased 7.8% compared to last year’s comparable period. The most significant expense increases occurred in personnel, occupancy and selling costs related to the seven new stores opened as well as the increase in our store manager salaries and the investment in our new district manager structure. We believe these investments in personnel and new stores are laying the foundation for future profitable growth.
International Leathercraft
International’s sales totaled approximately $2,739,000 for the first nine months of 2017, compared to approximately $2,780,000 in the first nine months of 2016, a decrease of $41,000 or 1.5%,federal statutory rate primarily due to a lower average ticket and unfavorable foreign currency exchange ratesU.S. state income tax expense, expenses that are nondeductible for tax purposes, the change in the first nine months of the year in the UK and to a lesser extent, Spain. As discussed previously, our third quarter performance had an improvement in sales and exchange rates. The unfavorable exchange rates in the first half of the year also negatively impacted our gross profit margin which declined from 65.8% in 2016 to 57.6% in 2017. The impact of changes in foreign currency exchange rates in the UK and Spain makes our products more expensive and compresses gross profit. International’s operating expenses increased by $78,000 due to higher personnel, rent and advertising costs. Operating expenses totaled approximately $1,810,000 in the first nine months of 2017, compared to $1,732,000 in the first nine months of 2016. Overall, advertising and marketing expenses are this segment’s largest expense, followed by employee compensation, rent, travel, and shipping costs to customers.
Other Expenses
We paid approximately $143,000 in interest on our bank debt in the first nine months of 2017, compared to approximately $109,000 in the first nine months of 2016. We recorded approximately $4,700 in interest income on our cash balances in the nine months ended September 30, 2017 compared to approximately $3,600 in the nine months ended September 30, 2016. We recorded income of $27,000 for currency fluctuations in the first three quarters of 2017. Comparatively, in the first three quarters of 2016, we recorded income of $1,700 for currency fluctuations.
Income Taxes
The decrease in the effective tax rate of 31% for the nine months ended September 30, 2017 compared to 35% in 2016 was due to the reversal ofvaluation allowance associated with our deferred tax position for fixed assets.assets, and differences in tax rates in foreign jurisdictions.
Capital Resources, Liquidity and Financial Condition
We require cash principally for day-to-day operations, to purchase inventory and to finance capital investments, and to service our outstanding debt.investments. We expect to fund our operating and liquidity needs as well as our store growthprimarily from a combination of current cash balances and internallycash generated funds.from operating activities. Any excess cash will be invested as determined by our Board of Directors in accordance with its approved investment policy. Our cash balances atas of September 30, 20172023 totaled $12. 2$8.6 million. In addition,
On January 3, 2023, the Company entered into a credit agreement (the “Credit Agreement”) with JPMorgan Chase Bank, N.A. Under the Credit Agreement, the bank provides the Company a credit facility of up to $5,000,000 on standard terms and conditions, including affirmative and negative covenants set forth in the Credit Agreement. As security for the credit facility, the Company has pledged as collateral certain of its assets, including the Company’s cash in deposit accounts, inventory and equipment. As of the date of this filing, no funds have been borrowed under this facility.
Debt Agreements
During the second quarter of 2020, the Company borrowed $0.4 million from Banco Santander S.A. under the Institute of Official Credit Guarantee for Small and Medium-sized Enterprises in order to facilitate the continuation of employment and to attenuate the economic effects of the COVID-19 virus. This loan was provided for by the Spanish government as part of a COVID-19 relief program. During the second quarter of 2022, we have availablerepaid this loan in full.
Share Repurchase Program and Share Repurchase
On August 9, 2020, the Board of Directors approved a $6 million line of credit, more fully described below.
In August 2015, our Board authorized a share repurchasenew program where we mayto repurchase up to 1.2$5.0 million of the Company’s common stock between August 9, 2020 and July 31, 2022. This program expired in July 2022. On August 8, 2022, the Board of Directors approved a new program to repurchase up to $5.0 million of the Company’s common stock between that date and August 31, 2024. As of September 30, 2023, approximately $4.9 million remained available for repurchase under this new program.
On April 11, 2022, we entered into an agreement with two institutional shareholders of the Company to repurchase 359,500 shares of our common stock, at prevailing market rates through August 2016. Subsequently,par value $0.0024 in a private transaction. The purchase price was $5.00 per share for a total of $1.8 million. The closing of the program was amendedrepurchases took place on April 22, 2022, and these shares were subsequently cancelled. Prior to increase the numberrepurchase, the shares represented approximately 4.2% of shares available forour outstanding common stock. The direct share repurchase transactions were separately authorized by our Board of Directors and did not reduce the remaining amount authorized to 2.2 million and to extendbe repurchased under the program throughAugust 2018. plans described above.
Cash Flows
| | | Nine Months Ended June 30, | |
| (amounts in thousands) | | 2023 | | | 2022 | |
| Net cash provided by (used in) operating activities | | $ | 1,193 | | | $ | (3,957 | ) |
| Net cash used in investing activities | | | (334 | ) | | | (825 | ) |
| Net cash used in financing activities | | | (12 | ) | | | (2,198 | ) |
| Effect of exchange rate changes on cash and cash equivalents | | | (199 | ) | | | (125 | ) |
| Net increase (decrease) in cash and cash equivalents | | $ | 648 | | | $ | (7,105 | ) |
For the nine months ended September 30, 2017, no shares were repurchased, while 520,500 shares were repurchased during the nine months ended September 30, 2016. At September 30, 2017, there are 1,150,793 shares available for repurchase under the plan.
On September 18, 2015, we executed a Promissory Note and Business Loan Agreement with BOKF, NA d/b/a Bank of Texas (“BOKF”) which provided us with a line of credit facility of up to $10,000,000 for the purpose of repurchasing shares of our common stock pursuant to our stock repurchase program. On August 25, 2016, this line of credit was amended to increase the availability2023, cash from $10,000,000 to $15,000,000 for the repurchase of shares of our common stock through the earlier of August 25, 2017 or the date on which the entire amount is drawn. On August 10, 2017, this line of credit was further amended to extend the drawdown period and conversion date from August 25, 2017 to August 18, 2018 to align with our stock repurchase program. During this time period, we are required to make monthly interest-only payments. At the end of this time period, we expect that the principal balance will be rolled into a 4-year term note. This Promissory Note is securedoperations generated $1.2 million driven by a Deednet income of Trust on$1.7 million, non-cash expense of $4.1 million, including depreciation, amortization, and stock-based compensation, accounts receivable of $0.1 million, prepaid expense of $0.1 million, offset by a reduction in lease liability payments of $2.7 million, a reduction in accounts payable of $1.7 million, and an increase in inventory of $0.4 million. We invested $0.3 million in capital expenditures primarily related to system modifications and improvements. The activities above, in addition to the real estate located at 1900 SE Loop 820, Fort Worth, Texas. There were no amounts drawn on this line during the nine months ended September 30, 2017. effect of exchange rate changes, resulted in a net increase in cash of $0.6 million.
For the nine months ended September 30, 2016, we drew approximately $3.72022, cash from operations used $4.0 million on this line whichdriven by a net investment in inventory of $4.5 million, a net reduction in lease liabilities of $2.5 million, and net change in income tax expense of $0.3 million and net decrease in prepaid expenses of $0.3 million, partially offset by net income of $0.8 million, noncash expense of $4.1 million, including depreciation, amortization, and stock-based compensation, a net decrease of $2.0 million in accounts payable and accrued expenses, a net decrease of $0.2 million in accounts receivable and other changes in operating assets and liabilities. We invested $0.8 million in capital expenditure primarily related to system implementations. Cash used in financing activities was usedprimarily due to repurchase approximately 520,500the purchase of 359,500 shares of our common stock. At September 30, 2017, the unused portionstock for $5.00 per share, or $1.8 million, from two institutional shareholders of the line of credit was approximately $7.6 million.
Also, on September 18, 2015, we executedCompany in a Promissory Note and Business Loan Agreementprivate transaction. We also paid off our loan with BOKF which provides us with a line of credit facility of up to $6,000,000 and is secured by our inventory. On August 10, 2017, this line of credit was amended to extendBanco Santander S.A. in Spain for $0.4 million during the maturity to September 18, 2019.second quarter. The Business Loan Agreement contains covenants that require us to maintain a funded debt to EBITDA ratio of no greater than 1.5 to 1 and a Fixed Charge Coverage Ratio greater than or equal to 1.2 to 1. Both ratios are calculated quarterly on a trailing four quarter basis. For the nine month periods ended September 30, 2017 and 2016, there were no amounts drawn on this line.
Amounts drawn under either facility accrue interest at the London interbank Eurodollar market rate for U.S. dollars (commonly known as “LIBOR”) plus 1.85% (3.086% and 2.557% at September 30, 2017 and December 31, 2016, respectively).
On our consolidated balance sheet, total assets increased from $70.7 million at year-end 2016 to $74.4 million at September 30, 2017. Total stockholders’ equity increased from $53.7 million at December 31, 2016 to $57.9 million at September 30, 2017, primarily due to net income earnedactivities above, in the first nine months of 2017, the exercise of stock options and impact of foreign currency translation. Our current ratio increased from 6.5 at December 31, 2016 to 7.7 at September 30, 2017 due primarilyaddition to the increaseeffect of exchange rate changes, resulted in inventory.a net decrease in cash of $7.1 million.
As of September 30, 2017, our investment in inventory increased by $8.0 million from year-end 2016, as we stocked up following the holiday sales, invested in the four new stores opened/reopened since December 31, 2016, and expanded our product line to support new marketing and merchandising initiatives. Inventory turnover reached an annualized rate of 2.1 times during the first three quarters of 2017, decreasing from 2.2 times for the same period in 2016. Inventory turnover was 2.5 times for all of 2016. We compute our inventory turns as sales divided by average inventory. At September 30, 2017, average inventory per store was $181,000, an increase of 3% compared to $175,000 at September 30, 2016.
Accounts payable increased approximately $1 million to $2.6 million at September 30, 2017 compared to $1.6 million at year-end 2016 due to the increase in inventory and timing of payments. Accrued expenses decreased from $5.9 million at December 31, 2016 to $4.6 million at September 30, 2017. The payment of the 2016 manager bonuses in March 2017 primarily accounted for the reduction.
During the first nine months of 2017, cash flow used in operating activities was $3.3 million, composed of net income of $2.8 million, plus $1.5 million of depreciation and amortization, plus $962,000 of foreign currency translation, offset by changes in working capital including purchases of inventory and payments of 2016 bonuses.
By comparison, during the first nine months of 2016, cash flow provided by operating activities was approximately $1.9 million, composed of net income of $4.3 million, plus $1.3 million of depreciation and amortization, offset by the increase in inventory of $3.5 million.
Cash flow used in investing activities totaled approximately $1.6 million and $1.4 million in the first three quarters of 2017 and 2016, respectively, consisting primarily of the purchase of fixtures for new stores, store moves and remodels and computer equipment, and in 2017, vehicles and computer equipment for our new district managers.
There was $223,000 of cash provided by financing activities in the first nine months of 2017, related to proceeds from the exercise of stock options, compared to $22,000 used in financing activities in the first nine months of 2016. In 2016, we repurchased $3.7 million of treasury stock, funded primarily through drawdowns on our line of credit with BOKF, as well as made a scheduled payment on our capital lease obligation for $6,710.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
For disclosures about market risk affecting us, see Item 7A “Quantitative and Qualitative Disclosures About Market Risk” in our Annual Report on Form 10-K for fiscal year ended December 31, 2016. We believe that our exposure to market risks has not changed significantly since December 31, 2016.
| Item 4. | Controls and Procedures. |
Item 4. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
OurAs previously disclosed in our Form 10-K and Form 10-Q filings dating back to the period ended December 31, 2019, our management, team, under the supervision and with the participation of our principal executive officer and our principal financial officer,Chief Executive Officer (“CEO”), evaluated the effectiveness of the design and operation of our disclosure controls and procedures as such term is defined under Rulein Rules 13a-15(e) promulgatedand 15d-15(e) under the Securities Exchange Act of 1934, as amended as of the last day of the fiscal period covered by this report, September 30, 2017. The term disclosure controls(the “Exchange Act”) and procedures means our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commission’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Securities Exchange Act of 1934, as amended, is accumulated and communicated to management, including our principal executive and principal financial officer, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based on this evaluation, our principal executive officer and our principal financial officer concluded that as of September 30, 2017, our disclosure controls and procedures were not effective due to material weaknesses, which were described in detail in previous filings. As of September 30, 2023, we have remediated all of the factors that contributed to past material weaknesses. While we have successfully tested our controls and procedures in the third quarter of 2023, we are not prepared to say at this time that our controls are effective without another consecutive quarter of successful testing. We expect to report that our controls and procedures are fully effective at athe end of the fourth quarter of 2023.
Management’s Annual Report on Internal Control over Financial Reporting
Our management, including our CEO, is responsible for establishing and maintaining adequate internal control over our financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Management’s establishing and maintaining adequate internal control over financial reporting is based upon the criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO Framework”). A system of internal control over financial reporting should be designed to provide reasonable assurance level.regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.
Remediation of Previously reported “Material Weakness”
In 2019, we reported material misstatements in our financial statements that resulted from material weaknesses in our internal controls. Since then, we have filed restated financial statements and timely filed all subsequent Forms 10-Q and 10-K. We have also taken a number of measures to remediate the control weaknesses that we have been describing in our filings as they were implemented. These include, among others:
Replaced critical roles within our accounting team with full-time employees with expertise in GAAP accounting, SEC reporting and disclosure, internal audit and internal controls;
Replaced our legacy accounting systems with an integrated enterprise resource planning (“ERP”) solution which includes general ledger, warehouse management and factory production modules designed to calculate inventory on a FIFO basis;
Implemented a new point-of-sale system for most of our stores that is fully integrated with our new ERP system. The remaining one store will be converted in the fourth quarter 2023;
Implemented new accounting processes and procedures aligned with our new ERP system that incorporate best practices to minimize errors and putting into action control activities that will prevent misstatements and that address appropriate segregation of duties;
Updated process narrative documentation in the following areas: (i) fixed assets and lease accounting, (ii) information technology (IT) governance, and (iii) HR and payroll;
Created a risk controls matrix which includes, among other things, a comprehensive list of key and mitigating controls, a description of the risk the control is designed to mitigate, the individual responsible for each control, the frequency in which the control is performed, and a mapping of each control to the five COSO Framework components (control environment, risk assessment, control activities, information and communication, or monitoring activities);
Established a greater sense of accountability by requiring sub-certifications below the CEO level for certain key accounting, finance and operations personnel.
Improved the accounting close process, including periodic review and update of our accounting close checklists for completeness of duties, accuracy of owners and deadlines to maintain accountability, timely review of account reconciliations and calculations involving judgement, and timely reporting of financial results;
In the last quarter ended September 30, 2023, we completed the final steps in our remediation plan, specifically:
Completed implementation of new accounting procedures and activities aligned with our new ERP system that improve upon the reliability of financial reporting and the preparation of financial statements in accordance with GAAP;
Completed all narrative documentation in particular in the following areas: (i) financial reporting, (ii) inventory, (iii) purchasing and accounts payable, (iv) revenue, (v) general accounting, treasury, and financial planning & analysis, and (vi) tax;
Began the periodic review of our risk controls matrix and process narrative documentation to ensure changes such as personnel, information sources, processes, systems, and frequency in performing the control are properly reflected in a timely manner;
Reported the progress and results of our remediation plan to the Audit Committee including the identification, status, and resolution of internal control deficiencies, and created a schedule for regular reporting; and
Finalized a comprehensive approach to regularly evaluate the operating effectiveness of our disclosure controls and procedures and our internal control over financial reporting using the COSO Framework as a guide.
Control Environment
Our management, including our CEO, our Audit Committee and our Board of Directors have taken certain steps to set the proper tone-at-the-top in support of the Company’s values and climate to develop and maintain an effective internal control environment. These actions include:
Recurring meetings with leadership, finance and accounting and other key functional areas to train staff on processes for oversight and emphasize each individual’s accountability for internal control compliance, and to create a pattern of regular discussion of such controls.
Regular periodic communications from the CEO and other key senior leaders on the Company’s mission, core values, Code of Business Conduct and Ethics, whistleblower policies, and each employee’s individual responsibility for internal control compliance.
Reorganization of the finance and accounting team to address segregation of duties issues, oversight, and review of work, and recruiting and hiring qualified, competent employees with relevant experience for the roles.
Regular performance evaluations to include position-specific criteria for functional competence, including performance of internal control responsibilities.
Risk Oversight Measures
We continue to identify risks and enhance risk oversight measures. In late 2019, we developed an annual strategic planning process designed to identify specific operating objectives for the organization and to conduct an assessment across the organization of the risks to meeting those objectives, including the risk of fraud. Furthermore, on a quarterly basis, management will review our periodic filings to ensure that identified risks have been appropriately disclosed. In the areas of reporting and compliance objectives, we have developed a process to conduct monthly business reviews by functional area that would include risk assessments of reporting accuracy based on complexity and transaction levels. We have also created a disclosure committee to ensure accurate review of the financial statements as well as compliance with GAAP and other regulatory requirements. and to appropriately mitigate any risks identified during the period.
Control Activities
We conducted detailed working sessions to document our current and prior finance and accounting policies, procedures, and step-by-step activities. As aforementioned, management:
Completed the implementation of our new point-of-sale system, which is fully integrated with our ERP system.
Completed all relevant functionality in our ERP system to improve our internal controls over financial reporting.
Implemented newly-designed processes, structures, delegation of authority and controls, in accordance with the COSO Framework, including:
| o | Quarterly updates for our Controller regarding upcoming accounting pronouncement and proposed changes to GAAP accounting standards, tax regulations, and other requirements that may impact the Company’s financial reporting; |
| o | Timely reviews each quarter of the most significant accounting estimates and judgment; |
| o | Validation of results through detailed variance analyses and reconciliation of account balances performed on a timely basis; |
| o | Monthly business review of actual financial performance compared to forecasts with participation from leadership across the organization; and |
| o | Establishing a disclosure committee comprised of key management throughout the different areas of the organization to evaluate the appropriateness of disclosures in the Company’s periodic filings on Forms 10-K and 10-Q and to support the CEO with the certification process. |
Information Processing and Communication
The implementation of our new ERP system eliminated the need for the topside adjustment calculations that had to be performed because our legacy systems were not integrated and many of our accounting processes were manual. This new ERP system allows us to automate certain accounting processes, reducing the risk of management override, and eliminating the need for topside adjustments outside of the system. In addition, management developed detailed policies, procedures and internal controls related to our financial reporting and working to develop regular reporting from our new systems that can validate the quality of our data and provide accurate information to support internal and external reporting and audit requirements. These updated controls will continue to be tested by management and results to be submitted to the Audit Committee.
Monitoring Activities
In addition to the items noted above, as we continue to evaluate, remediate, and improve our internal control over financial reporting, our management expects to continue to implement additional measures to address control deficiencies and further refine and improve the remediation efforts described above. Specifically, we have developed a checklist of activities based on the criteria established in the COSO Framework against which we will continue to assess the design of entity-level and activity-level controls, and the operational effectiveness of such controls. Deficiencies identified in this process will be addressed by management, including our CEO. This assessment, any deficiencies and any remedial actions will be shared and discussed with our Audit Committee and our independent auditors on a quarterly basis.
Cybersecurity
We utilize information technology for internal and external communications with vendors, customers, and banks as well as systems technology for reporting and managing our operations. Loss, disruption, or compromise of these systems could significantly impact operations and results. Other than temporary disruption to operations that may be caused by a cybersecurity breach, we believe cash transactions to be the primary risk for potential loss. We work with our financial institutions to take steps to minimize the risk by requiring multiple levels of authorization, encryption, and other controls. The Company utilizes third party intrusion prevention and detection systems and performs periodic penetration testing to monitor its cybersecurity environment. However, the Company has not performed a formalized risk assessment to address cybersecurity risks or documented internal controls that assist in alleviating such risks.
Changes in Internal Control Over Financial Reporting
There have been no changesAs discussed in the remediation section above, we implemented the warehouse management, factory production system and general ledger systems modules as part of our new ERP system implementation, and we implemented our new point-of-sale system, which is fully integrated with our ERP system, in most of our U.S. stores with the remaining one store to be converted in Q4, 2023. We redesigned the controls, updated narratives of our processes and procedures and will continue to test these controls and report the results to our Audit Committee and remediate any discrepancies identified. While we expect our new ERP system to strengthen our internal control over financial controls by automating certain manual processes and standardizing business processes and reporting during the fiscal quarter ended September 30, 2017 that materially affected, or are reasonably likelyacross our organization, management will continue to materially affect,evaluate and monitor our internal control over financial reporting.controls as each of the affected areas evolves.
PART II. OTHER INFORMATION
| Item 1. | Legal Proceedings. |
Item 1. Legal Proceedings.
The information contained in Note 6, Commitments and Contingenciesto the consolidated financial statementsCondensed Consolidated Financial Statements included in Part I, Item 1 of this Report is hereby incorporated into this Item 1 by reference.
Our Risk Factors are discussed fully in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022 and incorporated herein by reference.
Item 2. | Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds. |
Purchases of Equity Securities by the Issuer and UseAffiliated Purchasers
The following table provides information about purchases we have made of Proceeds
There were no unregistered sales of equity securitiesour common stock during the quarter ended September 30, 2017. Further, there were no purchases of equity securities during the quarter ended September 30, 2017.2023:
ISSUER PURCHASES OF EQUITY SECURITIES
| Period | | (a) Total
number of shares purchased | | | (b) Average price paid per share | | | (c) Total number of shares purchased as part of publicly announced plans or programs | | | (d) Maximum value of shares that may yet be purchased under the plans or programs | |
July 1 – July 31, 2023 | | | — | | | | — | | | | — | | | $ | 4,997,000 | |
August 1 – August 31, 2023 | | | — | | | | — | | | | — | | | $ | 4,997,000 | |
September 1 – September 30, 2023 | | | — | | | | — | | | | — | | | $ | 4,997,000 | |
Total | | | — | | | | — | | | | — | | | | | |
Exhibit Number | | Description |
| 3.1 | | Certificate of Incorporation of The Leather Factory, Inc., and Certificate of Amendment to Certificate of Incorporation of The Leather Factory, Inc. filed as Exhibit 3.1 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on August 12, 2005 and incorporated by reference herein. |
| | |
| | Bylaws of The Leather Factory, Inc. (n/k/a Tandy Leather Factory, Inc.), filed as Exhibit 3.53.1 to theTandy Leather Factory, Inc.’s Current Report on Form 8-K filed by Tandy Leather Factory, Inc (f/k/a The Leather Factory, Inc.) with the Securities and Exchange Commission on July 14, 2004December 8, 2021 and incorporated by reference herein. |
| | |
| | Certificate of Designations of Series A Junior Participating Preferred Stock of Tandy Leather Factory, Inc. filed as Exhibit 3.1 to Tandy Leather Factory’s Inc.’s Current Report on Form 8-K filed with the Securities and Exchange Commission on June 10, 2013 and incorporated by reference herein. |
| | 10.1 |
| Certificate of Amendment of Certificate of Incorporation, dated March 1, 2023, filed as Exhibit 3.4 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on May 15, 2023 and incorporated by reference herein. |
| |
$6,000,000 Promissory Note, dated August 10, 2017,4.1 | Description of Securities filed as Exhibit 4.1 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on June 22, 2021 and incorporated by and between reference herein. |
| |
| Tandy Leather Factory, Inc. and BOKF, NA dba Bank of Texas,2013 Restricted Stock Plan, filed as Exhibit 10.1 to Tandy Leather Factory’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on November 14, 2013 and incorporated by reference herein. |
| |
| Amendment #1 to Tandy Leather Factory, Inc. 2013 Restricted Stock Plan filed as Exhibit 10.5 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange on June 22, 2021 and incorporated by reference herein. |
| |
| Form of Non-Employee Director Restricted Stock Agreement under Tandy Leather Factory, Inc.’s 2013 Restricted Stock Plan, filed as Exhibit 10.1 to Tandy Leather Factory, Inc.’s Current Report on Form 8-K filed with the Securities and Exchange Commission on AugustFebruary 14, 20172014 and incorporated by reference herein. |
| | 10.2 |
| | $15,000,000 Promissory Note, dated August 10, 2017, by and betweenForm of Employee Restricted Stock Award Agreement under Tandy Leather Factory, Inc. and BOKF, NA dba Bank of Texas,’s 2013 Restricted Stock Plan, filed as Exhibit 10.210.7 to Tandy Leather Factory’sFactory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on June 22, 2021 and incorporated by reference herein.
|
| |
| Form of Employment Agreement dated October 2, 2018 between the Company and Janet Carr, filed as Exhibit 10.1 to Tandy Leather Factory Inc.’s Current Report on Form 8-K filed with the Securities and Exchange Commission on August 14, 2017October 5, 2018 and incorporated by reference herein. |
| | *31.1 |
| Form of Stand-Alone Restricted Stock Unit Agreement dated October 2, 2018 between the Company and Janet Carr, filed as Exhibit 10.2 to Tandy Leather Factor’s Current Report on Form 8-K filed with the Securities and Exchange Commission on October 5, 2018 and incorporated by reference herein. |
| Form of Stand-Alone Restricted Stock Unit Agreement dated October 2, 2018 between the Company and Janet Carr, filed as Exhibit 10.3 to Tandy Leather Factor’s Current Report on Form 8-K filed with the Securities and Exchange Commission on October 5, 2018 and incorporated by reference herein. |
|
|
| Form of Stock Purchase Agreement dated January 28, 2021 between the Company and Central Square Management, filed as Exhibit 10.14 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on June 22, 2021 and incorporated by reference herein. |
| |
| Form of Restricted Stock Unit Agreement dated October 23, 2023 between the Company and Janet Carr. |
| |
| Code of Business Conduct and Ethics of Tandy Leather Factory, Inc., adopted by the Board of Directors in May, 2021, filed as Exhibit 14.1 to Tandy Leather Factory, Inc.’s Quarterly Report on Form 10-Q filed with the Securities and Exchange Commission on June 22, 2021 and incorporated by reference herein. |
| |
| 13a-14(a) or 15d-14(a) Certification by Shannon L. Greene,the Chief Executive Officer.Officer pursuant to Rule 13a-14(a) or 15d-14(a) under the Securities Exchange Act of 1934, as amended. |
| | *31.2 | | 13a-14(a) or 15d-14(a) Certification by Tina L. Castillo, Chief Financial Officer and Treasurer.
|
| *32.1 | | Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 2022. |
*101.INS | |
*101.INS | XBRL Instance Document. |
*101.SCH | |
*101.SCH | XBRL Taxonomy Extension Schema Document. |
*101.CAL | |
*101.CAL | XBRL Taxonomy Extension Calculation Document. |
*101.DEF | |
*101.DEF | XBRL Taxonomy Extension Definition Document. |
*101.LAB | |
*101.LAB | XBRL Taxonomy Extension Labels Document. |
*101.PRE | |
*101.PRE | XBRL Taxonomy Extension Presentation Document. |
____________* | | |
*Filed herewith.
| | |
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| TANDY LEATHER FACTORY, INC. |
| | (Registrant) |
| | |
Date: November 2, 20179, 2023 | By: /s/ Shannon L. GreeneJanet Carr |
| | Shannon L. GreeneJanet Carr |
| | Chief Executive Officer |
| |
Date: November 2, 2017 | By: /s/ Tina L. Castillo
|
| Tina L. Castillo |
| Chief Financial Officer |
EXHIBIT INDEX
Exhibit
Number
| | Description
|
| 3.1 | | |
| 3.2 | | |
| 3.3 | | |
| *31.1 | | |
| 10.1 | | |
| 10.2 | | |
| *31.2 | | |
| *32.1 | | |
*101.INS | | XBRL Instance Document.
|
*101.SCH | | XBRL Taxonomy Extension Schema Document.
|
*101.CAL | | XBRL Taxonomy Extension Calculation Document.
|
*101.DEF | | XBRL Taxonomy Extension Definition Document.
|
*101.LAB | | XBRL Taxonomy Extension Labels Document.
|
*101.PRE | | XBRL Taxonomy Extension Presentation Document. |
____________ | | |
*Filed herewith.
| | |
20
