UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One) |
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☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
| For the quarterly period ended |
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OR | |
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☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT |
| For the transition period from ______________ to ______________ |
Commission File No. 001-33531
AEROGROW INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
NEVADA | 46-0510685 |
(State or other jurisdiction of incorporation or organization) | (IRS Employer Identification Number) |
6075 Longbow Drive, Suite 200, Boulder, Colorado | 80301 |
(Address of principal executive offices) | (Zip Code) |
(303) 444-7755
(Registrant'sRegistrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ | Accelerated filer ☐
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Non-accelerated filer
| Smaller reporting company ☒ |
Emerging growth company ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
Number of shares of issuer'sissuer’s common stock outstanding as of February of August 65, 20120189: 34,328,03634,328,036
FORM 10-Q REPORT
June 30,December 31, 2018
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PART I Financial Information |
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Item 1. | 3 | |
| Condensed Balance Sheets as of | 3 |
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| Notes to the Unaudited Condensed Financial Statements (Unaudited) | 7 |
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Item 2. |
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Item 3. |
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Item 4. |
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PART II Other Information |
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Item 1. |
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Item 1A. |
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Item 2. |
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Item 3. |
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Item 4. |
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Item 5. |
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Item 6. |
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PART I - FINANCIAL INFORMATION
Item 1. Condensed Financial Statements
June 30, 2018 | March 31, 2018 | December 31, 2018 | March 31, 2018 | |||||||||||||
(in thousands, except share and per share data) | (Unaudited) | (Derived from Audited Statements) | ||||||||||||||
ASSETS | ||||||||||||||||
(in thousands, except share and per share data) ASSETS | (Unaudited) | (Derived from Audited Statements) | ||||||||||||||
Current assets | ||||||||||||||||
Cash | $ | 7,005 | $ | 7,482 | $ | 3,163 | $ | 7,482 | ||||||||
Restricted cash | 15 | 15 | 15 | 15 | ||||||||||||
Accounts receivable, net of allowance for doubtful accounts of $23 and $39 at June 30, 2018 and March 31, 2018, respectively | 2,013 | 4,296 | ||||||||||||||
Accounts receivable, net of allowance for doubtful accounts of $79 and $39 at December 31, 2018 and March 31, 2018, respectively | 8,516 | 4,296 | ||||||||||||||
Other receivables | 195 | 281 | 178 | 281 | ||||||||||||
Inventory | 4,208 | 5,047 | ||||||||||||||
Inventory, net | 10,273 | 5,047 | ||||||||||||||
Prepaid expenses and other | 2,867 | 493 | 1,196 | 493 | ||||||||||||
Total current assets | 16,303 | 17,614 | 23,341 | 17,614 | ||||||||||||
Property and equipment and intangible assets, net of accumulated depreciation of $4,480 and $4,386 at June 30, 2018 and March 31, 2018, respectively | 441 | 514 | ||||||||||||||
Property and equipment and intangible assets, net of accumulated depreciation of $4,694 and $4,386 at December 31, 2018 and March 31, 2018, respectively | 1,049 | 514 | ||||||||||||||
Other assets | ||||||||||||||||
Deposits | 39 | 39 | 39 | 39 | ||||||||||||
Total assets | $ | 16,783 | $ | 18,167 | $ | 24,429 | $ | 18,167 | ||||||||
LIABILITIES AND STOCKHOLDERS' EQUITY | ||||||||||||||||
LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||||||||||
Current liabilities | ||||||||||||||||
Accounts payable | $ | 920 | $ | 1,227 | $ | 3,174 | $ | 1,227 | ||||||||
Accounts payable related party | 1,782 | 1,521 | 744 | 1,521 | ||||||||||||
Accrued expenses | 1,550 | 2,231 | 1,703 | 2,231 | ||||||||||||
Customer deposits | 146 | 163 | 317 | 163 | ||||||||||||
Notes payable related party | 6,155 | - | ||||||||||||||
Debt associated with sale of intellectual property | 71 | 80 | 56 | 80 | ||||||||||||
Total current liabilities | 4,469 | 5,222 | 12,149 | 5,222 | ||||||||||||
Long term liabilities | ||||||||||||||||
Capital lease liability | 9 | 12 | 6 | 12 | ||||||||||||
Other liability | 196 | 190 | 226 | 190 | ||||||||||||
Total liabilities | 4,674 | 5,424 | 12,381 | 5,424 | ||||||||||||
Commitments and contingencies | ||||||||||||||||
Stockholders' equity | ||||||||||||||||
Common stock, $.001 par value, 750,000,000 shares authorized, 34,328,036 shares issued and outstanding at June 30, 2018 and March 31, 2018 | 34 | 34 | ||||||||||||||
Stockholders’ equity | ||||||||||||||||
Common stock, $.001 par value, 750,000,000 shares authorized, 34,328,036 shares issued and outstanding at December 31, 2018 and March 31, 2018, respectively | 34 | 34 | ||||||||||||||
Additional paid-in capital | 140,817 | 140,817 | 140,817 | 140,817 | ||||||||||||
Accumulated deficit | (128,742 | ) | (128,108 | ) | (128,803 | ) | (128,108 | ) | ||||||||
Total stockholders' equity | 12,109 | 12,743 | ||||||||||||||
Total liabilities and stockholders' equity | $ | 16,783 | $ | 18,167 | ||||||||||||
Total stockholders’ equity | 12,048 | 12,743 | ||||||||||||||
Total liabilities and stockholders’ equity | $ | 24,429 | $ | 18,167 |
See accompanying notes to the condensed financial statements.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months ended June 30, | ||||||||||||||||||||||||
2018 | 2017 | Three Months ended December 31, | Nine Months ended December 31, | |||||||||||||||||||||
(in thousands, except per share data) | 2018 | 2017 | 2018 | 2017 | ||||||||||||||||||||
Net revenue | $ | 3,743 | $ | 2,462 | $ | 12,941 | $ | 17,351 | $ | 25,261 | $ | 25,554 | ||||||||||||
Cost of revenue | 2,310 | 1,640 | 8,930 | 11,429 | 16,487 | 17,148 | ||||||||||||||||||
Gross profit | 1,433 | 822 | 4,011 | 5,922 | 8,774 | 8,406 | ||||||||||||||||||
Operating expenses | ||||||||||||||||||||||||
Research and development | 160 | 91 | 76 | 186 | 366 | 419 | ||||||||||||||||||
Sales and marketing | 1,242 | 832 | 3,898 | 4,617 | 6,770 | 6,461 | ||||||||||||||||||
General and administrative | 685 | 627 | 572 | 713 | 2,155 | 1,978 | ||||||||||||||||||
Total operating expenses | 2,087 | 1,550 | 4,546 | 5,516 | 9,291 | 8,858 | ||||||||||||||||||
Loss from operations | (654 | ) | (728 | ) | ||||||||||||||||||||
(Loss) profit from operations | (535 | ) | 406 | (517 | ) | (452 | ) | |||||||||||||||||
Other income (expense), net | ||||||||||||||||||||||||
Other income (expense), net | 20 | 39 | ||||||||||||||||||||||
Total other income (expense) income, net | 20 | 39 | ||||||||||||||||||||||
Other (expense) income, net | ||||||||||||||||||||||||
Interest expense – related party | (156 | ) | (19 | ) | (185 | ) | (20 | ) | ||||||||||||||||
Other (expense) income, net | (16 | ) | 4 | 7 | 52 | |||||||||||||||||||
Total other (expense) income, net | (172 | ) | (15 | ) | (178 | ) | 32 | |||||||||||||||||
Net loss | $ | (634 | ) | $ | (689 | ) | ||||||||||||||||||
Change in fair value of stock to be distributed for Scotts Miracle-Gro transactions | - | 581 | ||||||||||||||||||||||
Net loss attributable to common stockholders | $ | (634 | ) | $ | (108 | ) | ||||||||||||||||||
Net (loss) income | $ | (707 | ) | $ | 391 | $ | (695 | ) | $ | (420 | ) | |||||||||||||
Change in fair value of stock and dividend to be distributed for Scotts Miracle-Gro transactions | - | - | - | 534 | ||||||||||||||||||||
Net (loss) income attributable to common shareholders | $ | (707 | ) | $ | 391 | $ | (695 | ) | $ | 114 | ||||||||||||||
Net loss per common share, basic and diluted | $ | (0.02 | ) | $ | (0.00 | ) | ||||||||||||||||||
Net (loss) income per share, basic and diluted | $ | (0.02 | ) | $ | 0.01 | $ | (0.02 | ) | $ | 0.00 | ||||||||||||||
Weighted average number of common shares outstanding, basic and diluted | 34,328 | 33,477 | 34,328 | 34,328 | 34,328 | 33,951 |
See accompanying notes to the condensed financial statements.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
Three Months Ended June 30, | ||||||||||||||||
2018 | 2017 | Nine Months Ended December 31, | ||||||||||||||
(in thousands) | 2018 | 2017 | ||||||||||||||
Cash flows from operating activities: | ||||||||||||||||
Net loss | $ | (634 | ) | $ | (689 | ) | ||||||||||
Adjustments to reconcile net loss to net cash used by operations: | ||||||||||||||||
Net (loss) | $ | (695 | ) | $ | (420 | ) | ||||||||||
Adjustments to reconcile net (loss) to cash (used) by operations: | ||||||||||||||||
Depreciation and amortization expense | 95 | 102 | 308 | 268 | ||||||||||||
Bad debt (recovery) expense | (16 | ) | (10 | ) | ||||||||||||
Bad debt expense | 40 | 69 | ||||||||||||||
Inventory allowance | - | (16 | ) | 40 | (90 | ) | ||||||||||
Accretion of debt associated with sale of intellectual property | (9 | ) | (10 | ) | (24 | ) | (28 | ) | ||||||||
Loss on write-off of assets | - | 19 | ||||||||||||||
Change in operating assets and liabilities: | ||||||||||||||||
Decrease in accounts receivable | 2,299 | 1,248 | ||||||||||||||
(Increase) in accounts receivable | (4,260 | ) | (7,258 | ) | ||||||||||||
Decrease in other receivable | 86 | 82 | 103 | 62 | ||||||||||||
Decrease (increase) in inventory | 839 | (27 | ) | |||||||||||||
(Increase) in prepaid expense and other | (2,374 | ) | (634 | ) | ||||||||||||
(Increase) in inventory | (5,266 | ) | (2,884 | ) | ||||||||||||
(Increase) in prepaid expenses and other | (703 | ) | (169 | ) | ||||||||||||
(Increase) in deposits | - | (4 | ) | - | (4 | ) | ||||||||||
(Decrease) increase in accounts payable | (46 | ) | 116 | |||||||||||||
(Decrease) in accrued expenses | (676 | ) | (654 | ) | ||||||||||||
(Decrease) in customer deposits | (17 | ) | (21 | ) | ||||||||||||
Increase in accounts payable | 1,170 | 2,342 | ||||||||||||||
(Decrease) increase in accrued expenses | (492 | ) | 1,667 | |||||||||||||
Increase in accrued interest-related party | 155 | - | ||||||||||||||
Increase in customer deposits | 154 | 253 | ||||||||||||||
Net cash (used) by operating activities | (453 | ) | (517 | ) | (9,470 | ) | (6,173 | ) | ||||||||
Cash flows from investing activities: | ||||||||||||||||
Purchases of equipment | (21 | ) | (51 | ) | (843 | ) | (464 | ) | ||||||||
Net cash (used) by investing activities | (21 | ) | (51 | ) | (843 | ) | (464 | ) | ||||||||
Cash flows from financing activities: | ||||||||||||||||
Proceeds from notes payable-related party | 6,000 | 1,000 | ||||||||||||||
Repayment of notes payable-related party | - | (1,000 | ) | |||||||||||||
Repayment of capital lease | (3 | ) | (2 | ) | (6 | ) | (5 | ) | ||||||||
Net cash (used) by financing activities | (3 | ) | (2 | ) | ||||||||||||
Net cash provided (used) by financing activities | 5,994 | (5 | ) | |||||||||||||
Net (decrease) in cash | (477 | ) | (570 | ) | (4,319 | ) | (6,642 | ) | ||||||||
Cash and cash equivalents and restricted cash, beginning of period | 7,497 | 8,819 | ||||||||||||||
Cash and cash equivalents and restricted cash, end of period | $ | 7,020 | $ | 8,249 | ||||||||||||
Cash, cash equivalents and restricted cash, beginning of period | 7,497 | 8,819 | ||||||||||||||
Cash, cash equivalents and restricted cash, end of period | $ | 3,178 | $ | 2,177 |
See supplemental disclosures below and the accompanying notes to the condensed financial statements.
Continued from previous page
Three Months Ended June 30, (in thousands) | Nine Months Ended December 31, (in thousands) | |||||||||||||||
2018 | 2017 | 2018 | 2017 | |||||||||||||
Cash paid during the year for: | ||||||||||||||||
Interest | $ | - | $ | - | ||||||||||||
Interest-related party | $ | 24 | $ | 19 | ||||||||||||
Income taxes | $ | - | $ | - | $ | - | $ | - | ||||||||
Supplemental disclosure of non-cash investing and financing activities: | ||||||||||||||||
Change in fair value of SMG intellectual property royalty, branding license and interest on notes payable-related party | $ | - | $ | 570 | $ | - | $ | 485 | ||||||||
Change in fair value of stock dividends accrued on convertible preferred stock | $ | - | $ | 11 | $ | - | $ | 49 | ||||||||
Decrease in liability due to issuance of stock to SMG for intellectual property and branding license | $ | - | $ | 1,286 |
NOTES TO THE CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. Description of the Business
AeroGrow International, Inc. (collectively, the “Company,” “AeroGrow,” “we,” “our” or “us”) was incorporated in the State offormed as a Nevada corporation on March 25, 2002. The Company’s principal business is developing, marketing, and distributing advanced indoor aeroponic garden systems designed and priced to appeal to the consumer gardening, cooking and small indoor appliance markets worldwide. The Company manufactures, distributes and markets ten different models of its AeroGarden systems in multiple colors, as well as over 40 varieties of seed pod kits and a full line of accessory products through multiple channels including retail distribution (brickvia online retail outlets and brick and mortar and online),storefronts, catalogue and direct-to-consumer sales primarily in the United States and Canada.Canada, as well as selected countries in Europe.
2. Basis of Presentation, Liquidity and Summary of Significant Accounting Policies
Basis of Presentation
The unaudited interim financial statements of the Company included herein have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) for interim reporting including the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. These condensed statements do not include all disclosures required by accounting principles generally accepted in the United States of America (“U.S. GAAP”) for annual audited financial statements and should be read in conjunction with the Company’s audited financial statements and related notes included in the Company’s Annual Report on Form 10-K for the year ended March 31, 2018, (“Fiscal 2018”), as filed with the SEC on June 28, 2018.
In the opinion of management, the accompanying unaudited interim financial statements reflect all adjustments, including normal recurring adjustments, necessary to present fairly the financial position of the Company at June 30,December 31, 2018, the results of operations for the three monthsthree- and nine–month periods ended June 30,December 31, 2018 and 2017, and the cash flows for the three monthsnine–month periods ended June 30,December 31, 2018 and 2017. The results of operations for the three and nine months ended June 30,December 31, 2018 are not necessarily indicative of the expected results of operations for the full year or any future period. In this regard, the Company’s business is highly seasonal, with approximately 60.1% of revenues in the fiscal year ended March 31, 2018 (“Fiscal 20182018”) occurring in the four consecutive calendar months fromof October through January. DuringFurthermore, during the three-monthnine-month period ended June 30,December 31, 2018, the Company has further expandedcontinued to expand its distribution channels and invested in necessary overhead in anticipation ofchannel to prepare for the Fiscal 2019 peak sales season. The balance sheet as of March 31, 2018 is derived from the Company’s audited financial statements.
Liquidity
Sources of funding to meet prospective cash requirements during Fiscal 2019 include the Company’s existing cash balances, cash flow from operations, and borrowings under the Company’s debt arrangements. We may need to seek additional debt or equity capital, however, to address the seasonal nature of our working capital needs, to enable us to invest further in trying to increase the scale of our business and provide a cash reserve against contingencies. There can be no assurance we will be able to raise this additional capital.
On July 6, 2018, the Company entered into a Term Loan Agreement in the principal amount of up to $6.0 million with a wholly owned subsidiary of The Scotts Miracle-Gro Company (collectively with its subsidiary, “SMG” or “Scotts Miracle-Gro”). See Note 10 for subsequent events.3 “Notes Payable, Long Term Debt and Current Portion – Long Term Debt” below.
Significant Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. It is reasonably possible that a change in the Company’s estimates could occur in the near term as additional or new information becomes available.
Net Income (Loss) per Share of Common Stock
The Company computes net income (loss) per share of common stock in accordance with Accounting Standards Codification (“ASC”) 260. ASC 260 requires companies with complex capital structures to present basic and diluted earnings per share (“EPS”). Basic EPS is measured as the income or loss available to common stockholders divided by the weighted average shares of common stock outstanding for the period. Diluted EPS is similar to basic EPS, but presents the dilutive effect on a per share basis of potential common stock equivalents (e.g., convertible securities, options, and warrants) as if such securities had been converted into common stock at the beginning of the periods presented. SecuritiesPotential shares of common stock that have an anti-dilutive effect (i.e., those that increase income per share or decrease loss per share) are excluded from the calculation of diluted EPS include:and include the following: (i) employee stock options to purchase 125,000 shares and warrants to purchase 2,00093,000 shares of common stock for the period ended June 30,December 31, 2018; and (ii) employee stock options to purchase 175,000 shares and warrants to purchase 2,00093,000 shares for the three monthsperiod ended June 30,December 31, 2017.
Concentrations of Risk
ASC 825-10-50-20 requires disclosure of significant concentrations of credit risk regardless of the degree of such risk.
Reclassifications:
Certain prior year amounts have been reclassified to conform to current year presentation.
Cash:
The Company maintains cash depository accounts with financial institutions. The amount on deposit with severalone financial institutionsinstitution exceeded the $250,000 federally insured limit as of June 30,December 31, 2018. The Company has not historically incurred any losses related to these deposits. The financial institutions are highly rated, financially sound and the risk of loss is minimal.
Customers and Accounts Receivable:
For the three months ended June 30,December 31, 2018, the Company had two customers, Amazon.com and 2017, one customer, Amazon.com,Woot.com, that represented 41.8%26.7% and 23%, respectively,10.9% of the Company’s net revenue, respectively. For the three months ended December 31, 2017, the Company had one customer, Amazon.com that represented 35.5% of the Company’s net revenue. For the nine months ended December 31, 2018, the Company had one customer, Amazon.com which represented 38.3% of the Company’s net revenue. For the nine months ended December 31, 2017, the Company had two customers, Amazon.com and Bed, Bath & Beyond, which represented 28.2% and 10.4% of the Company’s net revenue, respectively.
As of June 30,December 31, 2018, the Company had three customers, Woot.com, Amazon.com and Bed, Bath &and Beyond, and Kohl’s, that represented 26.1%16.3%, 18.5%12.6%, and 11.6% of the Company’s outstanding accounts receivable, respectively. As of March 31, 2018, the Company had two customers, Canadian Tire Corporation and Amazon.com, which represented 27.3% and 22.3%, respectively, of outstanding accounts receivable. The Company believes that all receivables from these customers are collectible.
Suppliers:
For the three months ended June 30,December 31, 2018, the Company purchased inventories and other inventory-related items from one supplier totaling $2.7$4.3 million. For the three months ended June 30,December 31, 2017, the Company purchased inventories and other inventory-related items from one supplier totaling $1.7$4.9 million. The purchase ofFor the nine months ended December 31, 2018, the Company purchased inventories and other inventory-related items is tied tofrom one supplier totaling $15.5 million. For the anticipated timingnine months ended December 31, 2017, the Company purchased inventories and amount of sales for our highly seasonal business and payment terms with our suppliers.other inventory-related items from one supplier totaling $13.7 million.
The Company’s primary contract manufacturers are located in China. As a result, the Companywe may be subject to political, currency, regulatory, transportation/shipping, third-party labor and weather/natural disaster risks. Although the Company believeswe believe alternate sources of manufacturing could be obtained, these risks and any potential lossthe risk of supplyan interruption in product sourcing could have an adverse impact on operations, especially in the short term.operations.
Fair Value of Financial Instruments
The Company follows the guidance in ASC 820, Fair Value Measurements and Disclosures (“ASC 820”), as it relates to the fair value of its financial assets and liabilities. ASC 820 provides for a standard definition of fair value to be used in new and existing pronouncements. This guidance requires disclosure of fair value information about certain financial instruments (insurance contracts, real estate, goodwill and taxes are excluded) for which it is practicable to estimate such values, whether or not these instruments are included in the balance sheet at fair value. The fair values presented for certain financial instruments are estimates which, in many cases, may differ significantly from the amounts that could be realized upon immediate liquidation.
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability, (i.e., exit price), in an orderly transaction between market participants. ASC 820 also provides a hierarchy for determining fair value, which emphasizes the use of observable market data whenever available. The three broad levels defined by the hierarchy are as follows, with the highest priority given to Level 1, as these are the most reliable, and the lowest priority given to Level 3.
Level 1 – Quoted prices in active markets for identical assets.
Level 2 – Quoted prices for similar assets in active markets, quoted prices for identical or similar assets in markets that are not active, or other inputs that are observable or can be corroborated by observable market data, including model-derived valuations.
Level 3 – Unobservable inputs that are supported by little or no market activity.
The carrying value of financial instruments including cash, receivables, and accounts payable, and accrued expenses, and notes payable related party approximates their fair value at June 30,December 31, 2018 and March 31, 2018 due to the relatively short-term nature of these instruments.
The Company’s intellectual property liability carrying value was determined utilizingby Level 3 inputs.�� As discussed below in Notes 3 and 4, this liability was incurred in conjunction with the Company’s strategic alliance with Scotts Miracle-Gro. As of June 30,December 31, 2018 and March 31, 2018, the fair value of the Company'sCompany’s note payable sale of the intellectual property liability was estimated using the discounted cash flow method, which is based on expected future cash flows, discounted to present value using a discount rate of 15%. As of June 30, 2018,Historically, the Company did not have any financial assets or liabilitieshas also had a note payable from Scotts Miracle-Gro that were measured at fair value onis also valued using the discounted cash flow method. The Company borrowed a recurring basis, subsequent to initial recognition.
Accounts Receivable and Allowance for Doubtful Accounts
The Company sells its products to retailers and directly to consumers. Direct-to-consumer transactions are primarily paid by credit card. Retailer sales terms vary by customer, but generally range from net 30 days to net 60 days, while direct-to-consumer transactions are primarily paid by credit card.days. Accounts receivable are reported at net realizable value and net of the allowance for doubtful accounts. The Company uses the allowance method to account for uncollectible accounts receivable. The Company'sCompany’s allowance estimate is based on a review of the current status of trade accounts receivable, which resulted in an allowance of $23,000$79,000 and $39,000 at June 30,December 31, 2018 and March 31, 2018, respectively.
Other Receivables
In conjunction with the Company’s processing of credit card transactions for its direct-to-consumer sales activities and as security with respect to the Company’s performance for credit card refunds and charge backs, the Company is required to maintain a cash reserve with Vantiv, the Company’s credit card processor. This reserve is equal to 5% of the credit card sales processed during the previous six months. As of June 30,December 31, 2018 and March 31, 2018, the balance in this reserve account was $195,000$178,000 and $281,000, respectively.
Advertising and Production Costs
The Company expenses all production costs related to advertising, including print, television, and radio advertisements when the advertisement has been broadcast or otherwise distributed. In contrast, the Company records media and marketing costs related to its direct-to-consumer advertisements, inclusive of postage and printing costs incurred in conjunction with mailings of direct-response catalogues, and related direct-response advertising costs. Direct-to-consumer advertising costs incurred are reported as assets and should be amortized over the estimated period of the benefits, based on the proportion of current period revenue from the advertisement to probable future revenue.
As the Company has continued to expand its retail distribution channel, the Company has expanded its advertising to include online gateway and portal advertising, as well as placement in third party catalogues.
Advertising expense for the three months ended June 30, 2018 and June 30, 2017, were as follows:
Three Months Ended June 30, (in thousands) | ||||||||
2018 | 2017 | |||||||
Direct-to-consumer | $ | 89 | $ | 72 | ||||
Retail | 372 | 185 | ||||||
Other | $ | 15 | $ | 10 | ||||
Total advertising expense | $ | 476 | $ | 267 |
As of June 30, 2018 and March 31, 2018, the Company had deferred $3,000 and $14,000, respectively, related to such media and advertising costs which include the catalogue costs described above. The costs are included within the “prepaid expenses and other” line of the balance sheets.
Inventory
Inventories are valued at the lower of cost, determined on the basis of standard costing, which approximates the first-in, first-out method, or net realizable value. When the Company is the manufacturer, raw materials, labor, and manufacturing overhead are included in inventory costs. The Company records the raw materials at delivered cost. Standard labor and manufacturing overhead costs are applied to the finished goods based on normal production capacity.capacity as prescribed under ASC 330 Inventory Pricing. A majority of the Company’s products are manufactured overseas and are recorded at standard cost, which includes product costs for purchased and manufactured products, and freight and transportation costs for inbound freight from manufacturers. Inventory values at June 30,December 31, 2018 and March 31, 2018 were as follows:
June 30, | March 31, | |||||||
2018 (in thousands) | 2018 (in thousands) | |||||||
Finished goods | $ | 3,078 | $ | 4,117 | ||||
Raw materials | 1,130 | 930 | ||||||
$ | 4,208 | $ | 5,047 |
December 31, 2018 | March 31, 2018 | |||||||
(in thousands) | (in thousands) | |||||||
Finished goods | $ | 9,107 | $ | 4,117 | ||||
Raw materials | 1,166 | 930 | ||||||
$ | 10,273 | $ | 5,047 |
The Company determines an inventory obsolescence reserve based on management’s historical experience and establishes reserves against inventory according to the age of the product. As of June 30,December 31, 2018 and March 31, 2018, the Company had reserved $106,000 and $66,000 for inventory obsolescence.obsolescence, respectively. The inventory values are shown net of these reserves.
Revenue Recognition
The Company adopted ASU No. 2014-09, "Revenue“Revenue from Contracts with Customers",Customers,” and all the related amendments (collectively “ASC 606”) on April 1, 2018 using the modified retrospective method. The adoption did not have a material impact to the nature and timing of its revenues, results of operations, cash flows and statement of financial position. The comparative information has not been restated and continues to be reported under the accounting standards in effect in those periods.
The following table summarizes the impactseffect of adopting ASC 606 on the Company’s unaudited consolidated balance sheets as of June 30, 2018:December 31, 2018 (in thousands):
As reported (in thousands) | Adjustments | Balance without adoption of ASC 606 | ||||||||||||||||||||||
(in thousands) | As reported | Adjustments | Balance without adoption of ASC 606 | |||||||||||||||||||||
Assets | ||||||||||||||||||||||||
Accounts receivable, net | $ | 2,013 | $ | (376 | ) | $ | 2,389 | $ | 8,516 | $ | (1,321 | ) | $ | 9,837 | ||||||||||
Liabilities | ||||||||||||||||||||||||
Accrued expenses | $ | 1,550 | $ | (376 | ) | $ | 1,926 | $ | 1,703 | $ | (1,321 | ) | $ | 3,024 |
The Company currently has two operating and reportable segments, (i) the Direct to ConsumerDirect–to-Consumer segment, which is composed of sales directly from our website, mail order or customer calls to our customer service department and (ii) the Retail segment, which is comprised ofincludes all sales related to retailers, including where possession of our product is taken and sold by the retailer in store or online, and drop ship orders that process from the retailer and drop directly to our warehouse for us to ship on behalf of the retailer.
The majority of the Company’s revenue is recognized when it satisfies a single performance obligation by transferring control of its products and the risk of loss to a customer. Control is generally transferred when the Company’s products are either shipped or delivered based on the terms contained within the underlying contracts or agreements. The Company’s general payment terms are short-term in duration. The Company does not have significant financing components or payment terms. The Company did not have any material unsatisfied performance obligations as of June 30,December 31, 2018 or March 31, 2018.
The Company excludes from revenues all taxes assessed by a governmental authority that are imposed on the sale of its products and collected from customers.
There were no changes to the Company’s accounting for variable consideration under ASC 606. However, the change in classification of several accrued expenses from a liability to a contra asset to show net realizable accounts receivable results in a change in presentation of net realizable accounts receivable on the balance sheet. Promotional and other allowances (variable consideration) recorded as a reduction to net sales, primarily include consideration given to retail customers including, but not limited to the following:
● |
| discounts granted off list prices to support price promotions to end-consumers by retailers; |
● |
| the Company’s agreed share of fees given directly to retailers for advertising, in-store marketing and promotional activities; and |
● |
| incentives given to the Company’s retailers for achieving or exceeding certain predetermined purchases (i.e., rebates). |
The Company’s promotional allowance programs with its retailers are executed through separate agreements in the ordinary course of business. These agreements generally provide for one or more of the arrangements described above and are of varying durations, ranging from one day to one year. The Company’s promotional and other allowances are calculated based on various programs with retail customers, and accruals are established during the year for its anticipated liabilities. These accruals are based on agreed upon terms, as well as the Company’s historical experience with similar programs, and require management’s judgment with respect to estimating consumer participation and retail customer performance levels. Differences between such estimated expense and actual expenses for promotional and other allowance costs have historically been insignificant and are recognized in earnings in the period such differences are determined.
The Company records estimated reductions to revenue for customer and distributor programs and incentive offerings, including promotions, rebates, and other volume-based incentives, based on historical rates. Certain incentive programs require the Company to estimate the number of customers who will actually redeem the incentive based on historical industry experience. As of June 30,December 31, 2018 and March 31, 2018, the Company reduced accounts receivable $434,000$1.3 million and accrued expenses $430,000, respectively, as an estimate for the foregoing deductions and allowances within the “accounts receivable, net” and “accrued expenses” line of the balance sheets, respectively.
Warranty and Return Reserves
The Company records warranty liabilities at the time of sale for the estimated costs that may be incurred under its basic warranty program. The specific warranty terms and conditions vary depending upon the product sold, but generally include technical support, repair parts, and labor for periods up to one year. Factors that affect the Company’s warranty liability include the number of installed units currently under warranty, historical and anticipated rates of warranty claims on those units, and cost per claim to satisfy the Company’s warranty obligation. Based upon the foregoing, the Company has recorded a provision for potential future warranty costs of $122,000$151,000 and $111,000 as of June 30,December 31, 2018 and March 31, 2018, respectively. These expenses are recorded in the accrued expenses line of the condensed balance sheets.
The Company reserves for known and potential returns from customers and associated refunds or credits related to such returns based upon historical experience. In certain cases, retailretailer customers are provided a fixed allowance, usually in a range ofthe 1% to 2%, range, to cover returned goods and this allowance is deducted from payments made to us by such customers. As of June 30,December 31, 2018 and March 31, 2018, the Company has recorded a reserve for customer returns of $183,000$595,000 and $293,000, respectively. Additionally, the Company calculates specific returns for any customers that are deemed to have a right of return and the customer specific calculation is reviewed for reasonableness at the end of each period. These expenses are recorded in the accrued expenses line of the condensed balance sheets.
Advertising and Production Costs
The Company expenses all production costs related to advertising, including print, television, and radio advertisements when the advertisement has been broadcast or otherwise distributed. The Company records media costs related to its direct-to-consumer advertisements, inclusive of postage and printing costs incurred in conjunction with mailings of direct-response catalogues, and related direct-response advertising costs, in accordance with ASC 340-20 Reporting on Advertising Costs. As prescribed by ASC 340-20-25, direct-to-consumer advertising costs incurred are reported as assets and are amortized over the estimated period of the benefits, based on the proportion of current period revenue from the advertisement to probable future revenue.
Advertising expense for the three and nine months ended December 31, 2018 and December 31, 2017, were as follows:
Three Months Ended December 31, (in thousands) | Nine Months Ended December 31, (in thousands) | |||||||||||||||
2018 | 2017 | 2018 | 2017 | |||||||||||||
Direct-to-consumer | $ | 168 | $ | 279 | $ | 321 | $ | 399 | ||||||||
Retail | 2,110 | 2,605 | 2,774 | 2,905 | ||||||||||||
Brand and other | 276 | 726 | 297 | 746 | ||||||||||||
Total advertising expense | $ | 2,554 | $ | 3,610 | $ | 3,392 | $ | 4,050 |
As of December 31, 2018 and March 31, 2018, the Company deferred $19,000 and $3,000, respectively, related to such media and advertising costs, which include the catalogue cost described above and commercial production costs. The costs are included in the prepaid expenses and other line of the condensed balance sheets.
Segments of an Enterprise and Related Information
U.S. GAAP utilizes a management approach based on allocating resources and assessing performance as the source of the Company'sCompany’s reportable segments. U.S. GAAP also requires disclosures about products and services, geographic areas and major customers. At present, the Company operates in two segments, Direct-to-Consumer and Retail Sales.
Recently Issued Accounting Pronouncements
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses: Measurement of Credit Losses on Financial Instruments,” which requires entities to estimate all expected credit losses for certain types of financial instruments, including trade receivables, held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. The updated guidance also expands the disclosure requirements to enable users of financial statements to understand the entity’s assumptions, models and methods for estimating expected credit losses over the entire contractual term of the instrument from the date of initial recognition of that instrument. This guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within that reporting period, and early adoption is permitted. The Company is in the process of evaluating the potential impact of this new guidance on the Company’s consolidated financial statements and related disclosures.
In February 2016, the FASB issued ASU 2016-02, “Leases.” The new standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. The new standard is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. ALessees are required to use a modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. The adoption of this ASU is expected to result in all operating leases being capitalized and recorded as a current andand/or long-term liability recorded in the Company’s financial statements. We are currently evaluating the impact of adoption of this ASU on our consolidated financial statements and disclosures.
In August 2015, the FASB issued ASU 2015-14 to defer the effective date by one year of previously issued ASU 2014-09, “Revenue from Contracts with Customers,” which amended revenue recognition guidance to clarify the principles for recognizing revenue from contracts with customers. The guidance requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which an entity expects to be entitled in exchange for those goods or services. The guidance also requires expanded disclosures relating to the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. Additionally, qualitative and quantitative disclosures are required about customer contracts, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. The standard became effective for us in Fiscal Year 2019 and did not have a material impact on our financial statements. The Company adopted ASU No. 2014-09, "Revenue from Contracts with Customers", and all the related amendments (collectively “ASC 606”) on April 1, 2018 using the modified retrospective method. The adoption did not have a material impact to the nature and timing of its revenues or changes to retained earnings due to the nature of revenues of our product which is related to product shipments and has relatively short revenue and accounts receivable cycles. Our revenues generally do not include future or multiple deliverables and as such our process to recognize revenue was consistent with the guidance and adoption of ASC 606. The adoption did not have a material impact on results of operations, cash flows but did impact the balance sheet classification of some accrued expenses which will now be reported as contra accounts receivable. The comparative information has not been restated and continues to be reported under the accounting standards in effect in those periods.
3. Notes Payable, Long Term Debt and Current Portion – Long TermTerm Debt
The following represents the changes to our Notes Payable, Long Term Debt and Current Portion – Long Term Debt for the periods presented. For a more detailed discussion on our previously outstanding Notes Payable, Long Term Debt and Current Portion – Long Term Debt, refer to the Company’s Annual Report on Form 10-K for the year ended March 31, 2018, as filed with the SEC on June 28, 2018. The following are the changes to our Notes Payable, Long Term Debt and Current Portion – Long Term Debt for the periods presented.
As of June 30,December 31, 2018 and March 31, 2018, the outstanding balance of the Company’s note payable and debt, including accrued interest, is as follows:
June 30, 2018 | March 31, 2018 | December 31, 2018 | March 31, 2018 | |||||||||||||
(in thousands) | (in thousands) | (in thousands) | (in thousands) | |||||||||||||
Sale of intellectual property liability (see Note 4) | 71 | 80 | 56 | 80 | ||||||||||||
Notes payable related party | 6,155 | - | ||||||||||||||
Total debt | 71 | 80 | 6,211 | 80 | ||||||||||||
Less notes payable and current portion – long term debt | 71 | 80 | ||||||||||||||
Less current portion of intellectual property liability | 6,211 | 80 | ||||||||||||||
Long term debt | $ | - | $ | - | $ | - | $ | - |
Scotts Miracle-Gro Term Loan
On July 6, 2018, AeroGrow entered into a Term Loan Agreement (“Term Loan”) in the principal amount of up to $6.0 million with Scotts Miracle-Gro (“SMG Term Loan”). The proceeds will be made available as needed in increments of $500,000, the Company may pay down and reborrow during the Term Loan, not to exceed $6.0 million with a due date of March 29, 2019. The funding provides general working capital and is being used for the purpose of acquiring inventory to support anticipated growth as the Company expands its retail and its direct-to-consumer sales channels. The Term Loan Agreement is secured by a lien on the assets of the Company and interest is charged at the stated rate of 10% per annum, but will be paid quarterly in arrears in cash at the end of each September, December and March. The Term Loan Agreement was filed as an exhibit to a Current Report on Form 8-K filed with the SEC on July 12, 2018. As of December 31, 2018, the Company had borrowed $6.0 million under the Term Loan.
Liability Associated with Scotts Miracle-Gro Transaction
TheOn April 22, 2013, the Company and Scotts Miracle-Gro also agreed to enter an Intellectual Property Sale Agreement, a Technology License Agreement, a Brand License Agreement, and a Supply Chain Services Agreement. The Intellectual Property Sale Agreement and the Technology License constitute an agreement of sales of future revenues. SinceBecause the Company received cash from Scotts Miracle-Gro and agreed to pay for a defined period a specified percentage of revenue, and because the Company has significant involvement in the generation of its revenue, the excess paid over net book value is classified as debt and is being amortized under the effective interest method. As of June 30,December 31, 2018 and March 31, 2018, a liability of $71,000$56,000 and $80,000, respectively, was recorded on the balance sheets for the Intellectual Property Sale Agreement. As of June 30,December 31, 2018 and March 31, 2018, the accrued liability for the Technology Licensing Agreement, the accrual is calculated as 2% of the annual net sales and recorded as a liability and amounts to $725,000$509,000 and $648,000, respectively. The accrued liability for the Brand License Agreement which is calculated at an amount equal to 5% of incremental growthall seed kit and seed kit related sales and is recorded as a liability and amounts to $1.3 million$317,000 and $1.3 million as of June 30,December 31, 2018 and March 31, 2018, respectively.
4. Scotts Miracle-Gro Transactions – Convertible Preferred Stock, Warrants and Other Transactions
Series B Convertible Preferred Stock and Related Transactions
On April 22, 2013, the Company entered into a Securities Purchase Agreement with SMG Growing Media, Inc., a wholly owned subsidiary of Scotts Miracle-Gro (NYSE: “SMG”), a worldwide marketer of branded consumer lawn and garden products. Pursuant to the Securities Purchase Agreement, Scotts Miracle-Gro acquired 2,649,007 shares of the Company’s Series B Convertible Preferred Stock, par value $0.001 per share (the “Series“Series B Preferred Stock”) and (ii) a warrant to purchase up to 80%shares of the Company’s common stock (the “Warrant”)“Warrant,” as described in greater detail below) for an aggregate purchase price of $4.0 million. The Securities Purchase Agreement, Certificates of Designations for the Series B Preferred Stock, Form of Warrant, Indemnification Agreement, Investor’s Rights Agreement and Voting Agreement werehave been filed as exhibits to a Current Report on Form 8-K that was filed with the SEC on April 23, 2013. After deducting offering expenses, including commissions and expenses paid to the Company’s advisor, net cash proceeds totaled to $3.8 million. The Company used $950,000 of the net proceeds to repay “in full” (with concessions) the Promissory Note due to a former supplier. The Company used the remaining net proceeds for working capital and general corporate purposes. On November 29, 2016 Scotts Miracle-Gro fully exercised the Warrant and by its terms,upon exercise of the Warrant the Series B Preferred Stock automatically converted into the Company’sshares of common stock. Scotts Miracle-Gro currently owns approximately 80.5% of the Company’s outstanding common stock.
Upon demand by Scotts Miracle-Gro, the Company must use its best efforts to file a Registration Statement on Form S-3, or, if the Company is not eligible for Form S-3, on Form S-1 (collectively, the “Registration Statement”), covering the shares of the Company’s common stock issued upon conversion/exercise of the Preferred Stock and the Warrant, within 120 calendar days after receipt of Scotts Miracle-Gro’s demand for registration. The Company mustregistration and shall use its best efforts to cause the Registration Statement to become effective as soon as possible thereafter.
In conjunction with the private offering described above, the Company and Scotts Miracle-Gro also agreed to enter an Intellectual Property Sale Agreement, a Technology License Agreement, a Brand License Agreement, and a Supply Chain Services Agreement. The Intellectual Property Sale Agreement and the Technology License constitute an agreement of sales of future revenues. For more details regarding these agreements, please refer to Note 3 “Scotts Miracle-Gro Transactions” to the financial statements included in the Company’s Annual Report on Form 10-K, as filed with the SEC on June 28, 2018. See also Note 103 for subsequent events.the Term Loan with Scotts Miracle-Gro.
5. Equity Compensation Plans and Employee Benefit Plans
For the three monthsthree- and nine-month periods ended June 30,December 31, 2018 and June 30,December 31, 2017, the Company did not grant any options to purchase the Company’s common stock under the Company’s 2005 Equity Compensation Plan (the “2005 Plan”) and no new options will be granted under this plan until a new plan is adopted.plan.
During the three and nine months ended June 30,December 31, 2018, 50,00020,000 and 70,000 options to purchase shares of common stock were cancelled or expired, respectively, and no shares of common stock were issued upon exercise of outstanding stock options.options under the 2005 Plan. During the three and nine months ended June 30,December 31, 2017, no options to purchase shares of common stock were cancelled or expired, and no shares of common stock were issued upon exercise of outstanding stock options. options under the 2005 Plan.
As of June 30,December 31, 2018, the Company had no unvested outstanding options to purchase shares of the Company’s common stock and thatthus, there will result inbe no additional compensation expense.expense associated with unvested stock options.
Information regarding all stock options outstanding under the Company’s 2005 Plan as of June 30,December 31, 2018 is as follows:
OPTIONS OUTSTANDING AND EXERCISABLE | |||||||||||||||||||
Weighted- | |||||||||||||||||||
average | Weighted- | Aggregate | |||||||||||||||||
Remaining | average | Intrinsic | |||||||||||||||||
Exercise | Options | Contractual | Exercise | Value | |||||||||||||||
price | (in thousands) | Life (years) | Price | (in thousands) | |||||||||||||||
$ | 1.55 | 11 | 2.14 | $ | 1.55 | ||||||||||||||
$ | 2.20 | 21 | 0.31 | $ | 2.20 | ||||||||||||||
$ | 5.31 | 93 | 1.10 | $ | 5.31 | ||||||||||||||
125 | 1.07 | $ | 4.47 | $ | 17 |
OPTIONS OUTSTANDING AND EXERCISABLE | ||||||||||||||||||
Weighted- | ||||||||||||||||||
average | Weighted- | Aggregate | ||||||||||||||||
Remaining | average | Intrinsic | ||||||||||||||||
Exercise | Options | Contractual | Exercise | Value | ||||||||||||||
price | (in thousands) | Life (years) | Price | (in thousands) | ||||||||||||||
$ | 1.55 | 11 | 1.63 | $ | 1.55 | |||||||||||||
$ | 5.31 | 93 | 0.60 | $ | 5.31 | |||||||||||||
105 | 0.71 | $ | 4.90 | $ | 8 |
The aggregate intrinsic value in the preceding table represents the difference between the Company’s closing stock price and the exercise price of each in-the-money option on the last trading day of the period presented, which was June 29,December 31, 2018.
6. Income Taxes
The Company follows the guidance in ASC 740, Accounting for Uncertainty in Income Taxes (“ASC 740”) which clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. This interpretation defines the minimum recognition threshold a tax position is required to meet before being recognized in the financial statements.
Deferred income taxes are recognized for the tax consequences in future years of differences between the tax basis of assets and liabilities and their financial reporting amounts at the end of each period, based on enacted laws and statutory rates applicable to the periods in which the differences are expected to affect taxable income. Any liability for actual taxes to taxing authorities is recorded as income tax liability.
A valuation allowance is established against such assets where management is unable to conclude more likely than not that such asset will be realized. As of June 30,December 31, 2018 and March 31, 2018, the Company recognized a valuation allowance equal to 100% of the net deferred tax asset balance and the Company has no unrecognized tax benefits related to uncertain tax positions.
7. Related Party Transactions
See Note 6 “Related Party Transactions” of Form 10-K for the year ended March 31, 2018, as filed with the SEC on June 28, 2018 for a detailed discussion of related party transactions. Additionally, see Note 10 “Subsequent Events” to our financial statements for discussion related to debt and equity transactions involving our officers, directors and 5% or greater shareholders.
up to $6.0 million with Scotts Miracle-Gro. Interest is charged at the stated rate of 10% per annum and will be paid quarterly in arrears, in cash at the end of each September, December and March. The Company borrowed $6.0 million under the Term Loan as of December 31, 2018. See Note 3 “Notes Payable, Long Term Debt and Current Portion – Long Term Debt” above.
8. Common Stock WarrantsStockholders’ Equity
A summary of the Company’s common stock warrant activity for the period from April 1, 2018 through June 30,December 31, 2018 is presented below:
Warrants Outstanding (in thousands) | Weighted Average Exercise Price | Aggregate Intrinsic Value | Warrants Outstanding (in thousands) | Weighted Average Exercise Price | Weighted Average Remaining Life (Years) | Aggregate Intrinsic Value (in thousands) | ||||||||||||||||||||||
Outstanding, April 1, 2018 | 2 | $ | 2.10 | $ | 1 | 2 | $ | 2.10 | 0.77 | $ | 1 | |||||||||||||||||
Granted | - | - | - | - | ||||||||||||||||||||||||
Exercised | - | - | - | - | ||||||||||||||||||||||||
Expired | - | - | (2 | ) | 2.10 | |||||||||||||||||||||||
Outstanding, June 30, 2018 | 2 | $ | 2.10 | $ | 1 | |||||||||||||||||||||||
Outstanding, December 31, 2018 | - | $ | - | - | $ | - |
As
9. Segment Information
The Company has determined that its reportable segments are those that are based on its method of internal reporting and the perspective of the chief operating decision maker. The company has two reportable segments,segments; Retail Sales and Direct-to-Consumers. The Company evaluates performance based on the primary financial measure of contribution margin (“segment profit”). Segment profit reflects the income or loss from operations before corporate expenses, non-operating income, net interest expense, and income taxes. The Company does not have any individually identified assets regarding specific segments as all processes to manufacture products are not different based on segment.
Three Months Ended June 30, 2018 | Three Months Ended December 31, 2018 | |||||||||||||||||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||||||||||||||
Net sales | $ | 1,454 | $ | 2,289 | $ | - | $ | 3,743 | $ | 2,872 | $ | 10,069 | $ | - | $ | 12,941 | ||||||||||||||||
Cost of revenue | 889 | 1,421 | - | 2,310 | 2,223 | 6,707 | - | 8,930 | ||||||||||||||||||||||||
Gross profit | 565 | 868 | - | 1,433 | 649 | 3,362 | - | 4,011 | ||||||||||||||||||||||||
Gross profit percentage | 38.9 | % | 37.9 | % | - | 38.3 | % | 22.6 | % | 33.4 | % | - | 31.0 | % | ||||||||||||||||||
Sales and marketing (1) | 75 | 432 | 111 | 618 | 193 | 2,465 | 728 | 3,386 | ||||||||||||||||||||||||
Segment profit | 490 | 436 | (111 | ) | 815 | 456 | 897 | (728 | ) | 625 | ||||||||||||||||||||||
Segment profit percentage | 33.7 | % | 19.0 | % | - | 21.8 | % | 15.9 | % | 8.9 | % | - | 4.8 | % |
(1) Sales and marketing includes advertising, trade shows, media production and promotional products and other as discussed in the sales and marketing section of our Management’s Discussion and Analysis of Financial Condition and Results of Operations, which is included in Part II. Item 2. of this Quarterly Report on Form 10-Q (the “MD&A”).
Three Months Ended December 31, 2017 | ||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||
Net sales | $ | 3,189 | $ | 14,162 | $ | - | $ | 17,351 | ||||||||
Cost of revenue | 2,247 | 9,182 | - | 11,429 | ||||||||||||
Gross profit | 942 | 4,980 | - | 5,922 | ||||||||||||
Gross profit percentage | 29.5 | % | 35.2 | % | - | 34.1 | % | |||||||||
Sales and marketing (1) | 229 | 3,411 | 157 | 3,797 | ||||||||||||
Segment profit | 713 | 1,569 | (157 | ) | 2,125 | |||||||||||
Segment profit percentage | 22.4 | % | 11.1 | % | - | 12.2 | % |
(1) Sales and marketing includes advertising, trade shows, media production and promotional products and other as discussed in the sales and marketing section of the MD&A.
Three Months Ended June 30, 2017 | Nine Months Ended December 31, 2018 | |||||||||||||||||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||||||||||||||
Net sales | $ | 1,425 | $ | 1,037 | $ | - | $ | 2,462 | $ | 5,480 | $ | 19,780 | $ | - | $ | 25,260 | ||||||||||||||||
Cost of revenue | 936 | 704 | - | 1,640 | 3,617 | 12,870 | - | 16,487 | ||||||||||||||||||||||||
Gross profit | 489 | 333 | - | 822 | 1,863 | 6,910 | - | 8,773 | ||||||||||||||||||||||||
Gross profit percentage | 34.3 | % | 32.1 | % | - | 33.4 | % | 34.0 | % | 34.9 | % | - | 34.7 | % | ||||||||||||||||||
Sales and marketing (1) | 20 | 251 | 69 | 340 | 337 | 3,311 | 1,041 | 4,689 | ||||||||||||||||||||||||
Segment profit | 469 | 82 | (69 | ) | 482 | 1,526 | 3,599 | (1,041 | ) | 4,084 | ||||||||||||||||||||||
Segment profit percentage | 32.9 | % | 7.9 | % | - | 19.6 | % | 27.8 | % | 18.2 | % | - | 16.2 | % |
(1) Sales and marketing includes advertising, trade shows, media production and promotional products and other as discussed in the sales and marketing section of the MD&A.
Nine Months Ended December 31, 2017 | ||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||
Net sales | $ | 5,524 | $ | 20,030 | $ | - | $ | 25,554 | ||||||||
Cost of revenue | 3,785 | 13,363 | - | 17,148 | ||||||||||||
Gross profit | 1,739 | 6,667 | - | 8,406 | ||||||||||||
Gross profit percentage | 31.5 | % | 33.3 | % | - | 32.9 | % | |||||||||
Sales and marketing (1) | 252 | 3,784 | 372 | 4,408 | ||||||||||||
Segment profit | 1,487 | 2,883 | (372 | ) | 3,998 | |||||||||||
Segment profit percentage | 26.9 | % | 14.4 | % | - | 15.6 | % |
(1) Sales and marketing includes advertising, trade shows, media production and promotional products and other as discussed in the sales and marketing section of the MD&A.
10. Subsequent Events
On July 6, 2018, AeroGrow entered into a Term Loan Agreement (“Term Loan”) in the principal amount of up to $6.0 million with Scotts Miracle-Gro. The proceeds will be made available as needed in increments of $500,000, the Company may reborrow and pay down during the Term Loan, not to exceed $6.0 million with a due date of March 29, 2019. The funding will provide general working capital and will be used for the purpose of acquiring inventory to support anticipated growth as the Company expands its retail and its direct-to-consumer sales channels. Advances under the Term Loan Agreement will be secured by a lien on the assets of the Company. Interest will be charged at the stated rate of 10% per annum and will be paid quarterly in arrears on each of September 28, 2018, December 31, 2018 and March 29, 2019.
The Term Loan Agreement has been filed as an exhibit to a Current Report on Form 8-K filed with the SEC on July 11, 2018.
None.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The discussion contained herein is for the three and nine months ended June 30,December 31, 2018 and June 30,December 31, 2017. The following discussion should be read in conjunction with the financial statements of AeroGrow International, Inc. (the “Company,” “AeroGrow,” “we,” “our,“AeroGrow,” or “us,”“our”) and the notes to the financial statements included in Item 1 above in this Quarterly Report on Form 10-Q for the period ended June 30,December 31, 2018 (this “Quarterly Report”). The following discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), including statements that include words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “may,” “will,” or similar expressions that are intended to identify forward-looking statements. In addition, any statements that refer to expectations, projections, or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements. Such statements include, but are not limited to, statements regarding our intent, belief, or current expectations regarding our strategies, plans, and objectives, our product release schedules, our ability to design, develop, manufacture, and market products, the ability of our products to achieve or maintain commercial acceptance, our ability to obtain financing and/or generate cash flow sufficientnecessary to fund our future operations, and our ability to continue as a going concern. Such statements are not guarantees of future performance and are subject to risks, uncertainties, and assumptions that are difficult to predict. Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors. Factors that could cause or contribute to the differences are discussed in this Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations and in Item 1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended March 31, 2018. Except as required by applicable law or regulation, we undertake no obligation to revise or update any forward-looking statements contained in this Quarterly Report. The information contained in this Quarterly Report is not a complete description of our business or the risks associated with an investment in our common stock. Each reader should carefully review and consider the various disclosures we made in this Quarterly Report and in our other filings with the U.S. Securities and Exchange Commission (“SEC”).
Overview
AeroGrow International, Inc. was formed as a Nevada corporation inon March 25, 2002. The Company’s principal business is developing, marketing, and distributing advanced indoor aeroponic garden systems designed and priced to appeal to the consumer gardening, cooking and small indoor appliance markets worldwide. The Company’s principal activities from its formation through March 2006, consisted of product research and development, market research, business planning, and raising the capital necessary to fund these activities. In December 2005, the Company commenced initial production of its AeroGarden system and, in March 2006, began shipping these systems to retail and catalogue customers. The Company manufactures, distributes and markets ten different models of its AeroGarden systems in multiple colors, as well as over 40 varieties of seed pod kits and a full line of accessory products through multiple channels including online retail distribution, in-store retail distribution, catalogue and direct-to-consumer sales primarily in the United States and Canada as well as selected countries in Europe.
In April 2013, we entered into a Securities Purchase Agreement and strategic alliance with a wholly owned subsidiary of The Scotts Miracle-Gro Company (collectively with its subsidiary, “SMG” or “Scotts Miracle-Gro”). Pursuant to the Securities Purchase Agreement, we issued (i) 2.6 million shares of Series B Convertible Preferred Stock, par value $0.001 per share (the “Series B Preferred Stock); and (ii) a warrant to purchase up to 80%shares of the Company’sour common stock for an aggregate purchase price of $4.0 million. In addition, as part of the strategic alliance, we entered into several other agreements with Scotts Miracle-Gro, including: (i) an Intellectual Property Sale Agreement; (ii) a Technology Licensing Agreement; (iii) a Brand License Agreement; and (iv) a Supply Chain Management Agreement. In November 2016, Scotts Miracle-Gro fully exercised the Warrant and, by its terms, the Series B Preferred Stock automatically converted into the Company’s common stock. Scotts Miracle-Gro currently owns approximately 80.5% of the Company’s outstanding common stock.
Pursuant to the Intellectual Property Agreement, we agreed to sell all intellectual property associated with our hydroponic products (the “Hydroponic IP”), other than the AeroGrow and AeroGarden trademarks, free and clear of all encumbrances, to Scotts Miracle-Gro for $500,000. Scotts Miracle-Gro has the right to use the AeroGrow and AeroGarden trademarks in connection with the sale of products incorporating the Hydroponic IP. In addition to the total working capital infusion of approximately $4.5 million from the Securities Purchase Agreement and Intellectual Property Sale Agreement, as amended, the strategic alliance affordsallows us to use the globally recognized and highly trusted Miracle-Gro brand name. We believe that the strategic alliance also gives Scotts Miracle-Gro an entry into the burgeoning indoor gardening market, while providing AeroGrow a broad base of support in marketing, distribution, supply chain logistics, R&D, and sourcing. We intend to usehave also used our strategic alliance with Scotts Miracle-Gro to re-establish our presence in the retail and international sales channels. In Fiscal 2019, we amended the agreement with Scotts Miracle-Gro to allow more freedom in the use of the Brand License Agreement and remove the Miracle-Gro brand from Gardens we are selling and thus eliminate the cost associated with this portion of the agreement.
On July 6, 2018, the Company entered into a Term Loan Agreement in the principal amount of up to $6.0 million with Scotts Miracle-Gro. The proceeds are made available as needed in increments of $500,000, and the Company may pay down and reborrow during the Term Loan, not to exceed $6.0 million with a due date of March 30, 2018. The Term Loan Agreement is secured by a lien on the assets of the Company. Interest is charged at the stated rate of 10% per annum and is paid, in cash, quarterly in arrears at the end of each September, December and March. The funding is being used to provide general working capital and to acquire inventory to support anticipated growth as the Company expands its retail and its direct-to-consumer sales channels. See Note 3 “Notes Payable, Long Term Debt and Current Portion – Long Term Debt” to our condensed financial statements.
Results of Operations
Three Months Ended June 30,December 31, 2018 and June 30,December 31, 2017
Summary Overview
For the three months ended June 30,December 31, 2018, we generated $3.7$12.9 million of total net revenue, an increasea decrease of 52.0%25.4%, or $1.3$4.4 million, relative to the same period in the prior year. Retail sales increased by 131.1%decreased 30.6% to $2.3$9.3 million primarily due to earlier load-in of sales to the continued sales intobrick and mortar customers at the housewares channel and growing enthusiasm about new gardens that were first introducedend of the quarter ended September 30, 2018, as well as an increase in the prior year. Direct-to-consumerreturns from brick and mortar retail customers. This decrease was partially offset by growth in some new retail accounts and continued strong sales increased 2.1%with our web/internet channels (Amazon.com, Amazon Europe, Walmart.com, etc.). Sales in our direct-to-consumer channel decreased 9.9%, to $1.5 million, reflecting increased visibility and continued momentum$2.9 million. This decrease resulted primarily from our general advertising and marketing campaign. newly launched redesigned website, which is more focused on brand building compared to the prior website design.
For the three months ended June 30,December 31, 2018, total gross dollar sales of AeroGarden units increaseddecreased by 69.9%27.9% from the prior year period and seedperiod. Seed pod kit and accessory sales increased by 40.2%28.7% over the prior year period. AeroGarden sales, net of allowances, represented 75.0%79.0% of total revenue, as compared to 67.1%87.8% in the prior year period. This percentage increase,decrease, on a product line basis, was attributable to growthearlier load-in of brick and mortar sales in the retail channel,quarter ended September 30, 2018, which tends initially to favor garden sales over seed pod kit or accessory sales, especially during the high demand holiday season. Seed pod kit and accessory sales increased as a percent of the total to 21.0% from 12.2% due to the decline in the sales of AeroGardens. The increase in sales of seed pod kits and accessories are typically resultsdependent on prior purchases of gardens which were higher in new customers purchasing AeroGardens beforethe prior quarter due to timing of load-in. Additionally, the increase in seed pod kit and accessories. Sales of seed pod kits increased from 46,000 to 75,000 units, primarilyaccessories sales as a resultpercentage of the increased sizerevenue represented a total dollar sales increase of our active customer database as new customers entered the AeroGrow franchise.$605,000.
The Company continues to spend advertising dollars in order to strategically build market awareness and enhance initiatives implemented in the prior year. For Fiscal 2019, we intend to expand consumer awareness of the AeroGrow brand andas well as the product line. As a result, duringDuring the three months ended June 30,December 31, 2018, we incurred $476,000spent $2.6 million in advertising expenditures, a decrease of advertising expenses to support our direct-to-consumer and retail channels, a $209,000$1.1 million, or 78.6% year-over-year increase29.2%, compared to the same period ended December 31, 2017. This decrease was primarily due to a decrease in Fiscal 2018.our retail marketing campaigns and change in the advertising programs utilized to reach a broader market. The advertising expenditures were divided as follows:
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Our grossGross profit for the three months ended June 30,December 31, 2018 was 38.3%31.0%, updown from 33.4%34.1% in the prior year period, primarily dueperiod. This decrease was attributable to changesthe following factors, each of which carry lower margins: (1) a shift in customer and product mix and less aggressive pricing andfrom AeroGardens to seed pot kits; (2) the change inintroduction of new retail accounts, as compared to existing retail accounts; and; (3) expansion into the Brand Agreement. InEuropean market, which entails additional barriers to entry. This decrease was partially offset by the prior year, we also incurred several one-time fees in establishingintroduction of new customers and additional shipping costs for international and direct-to-consumer sales which weren’t repeated this year.products with higher margins.
In aggregate, our total operating expenses increased 34.6%decreased 17.6%, or $536,000,$970,000, year-over-year, principally becauseto as we spent moreshift general advertising and media in order to develop the brand and in anticipation of current and future revenue growth. GrossThe decrease in gross spending increasedwas attributable to a $1.1 million decrease in advertising, primarily with our larger retailers, catalogues and television programs, partially offset by a $103,000 increase in the following areas:use of consultants, new product testing and certifications and various general expenses, and Company-wide travel expense.
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As a result of efforts to drive growth and increase sales, ourOur operating loss was $654,000$535,000 for the three months ended June 30,December 31, 2018, as compared to an operating lossprofit of $728,000$406,000 in the prior year period.period, for the reasons disclosed above.
Net other incomeexpense for the three months ended June 30,December 31, 2018 totaled $20,000,$172,000, as compared to net incomeother expense of $39,000$15,000 in the prior year period. The current year other incomeincrease is attributable to interest income, other income from consulting related revenue, and foreign exchange losses. In the prior year period, net other expense was primarily attributable to $136,000 of additional interest income, other income from consulting related revenue, and foreign exchange gains. expense on the Term Loan compared to the prior year.
Net loss for the three months ended June 30,December 31, 2018 was $634,000,$707,000, as compared to the $689,000 lossnet income of $391,000 a year earlier. The decrease in net loss reflectedincome is primarily a result of the increasedoverall decrease in net sales revenue, decreased operating expenses as a percentage of revenue and increases in margins. discussed above.
The following table sets forth, as a percentage of sales, our financial results for the three months ended June 30,December 31, 2018 and the three months ended June 30,December 31, 2017:
Three Months Ended June 30, | Three Months Ended December 31, (in thousands) | |||||||||||||||
2018 | 2017 | 2018 | 2017 | |||||||||||||
Net revenue | ||||||||||||||||
Direct-to-consumer | 38.9 | % | 57.9 | % | 22.2 | % | 18.4 | % | ||||||||
Retail | 60.1 | % | 39.6 | % | 71.7 | % | 77.0 | % | ||||||||
International | 1.0 | % | 2.5 | % | 6.1 | % | 4.6 | % | ||||||||
Total net revenue | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | ||||||||
Cost of revenue | 61.7 | % | 66.6 | % | 69.0 | % | 65.9 | % | ||||||||
Gross profit | 38.3 | % | 33.4 | % | 31.0 | % | 34.1 | % | ||||||||
Operating expenses | ||||||||||||||||
Research and development | 4.3 | % | 3.7 | % | 0.6 | % | 1.1 | % | ||||||||
Sales and marketing | 33.2 | % | 33.8 | % | 30.1 | % | 26.6 | % | ||||||||
General and administrative | 18.3 | % | 25.5 | % | 4.4 | % | 4.1 | % | ||||||||
Total operating expenses | 55.8 | % | 63.0 | % | 35.1 | % | 31.8 | % | ||||||||
Loss from operations | (17.5 | )% | (29.6 | )% | ||||||||||||
Profit from operations | (4.1 | )% | 2.3 | % |
Revenue
For the three months ended June 30,December 31, 2018, revenue totaled $3.7$12.9 million, a year-over-year increasedecrease of 52.0%25.5% or $1.3$4.4 million, from the three months ended June 30,December 31, 2017.
Three Months Ended June 30, (in thousands) | ||||||||||||||||
2018 | 2017 | Three Months Ended December 31, (in thousands) | ||||||||||||||
Net revenue | 2018 | 2017 | ||||||||||||||
Direct-to-consumer | $ | 1,454 | $ | 1,425 | $ | 2,872 | $ | 3,189 | ||||||||
Retail | 2,253 | 974 | 9,274 | 13,356 | ||||||||||||
International | 36 | 63 | 795 | 806 | ||||||||||||
Total | $ | 3,743 | $ | 2,462 | $ | 12,941 | $ | 17,351 |
Direct-to-consumer sales for the three months ended June 30,December 31, 2018 totaled $1.5$2.9 million, an increase of $29,000,down $317,000, or 2.1%9.9%, from the prior year period. This increase was caused by drivingThe decrease in sales through direct-to-consumer awareness andchannels is due to the resultinglaunch of our new website, which focuses more on brand recognition. Due to the website changes at the beginning of the quarter, the direct-to-consumer sales during our non-peak season, follow-on directtook time to convert traffic to sales at a rate similar to customers that have previously purchased AeroGardens, and continued momentum from general brand awareness campaigns.the prior year.
Sales to retailer customers for the three months ended June 30,December 31, 2018 totaled $2.3$9.3 million, up $1.3down $4.1 million, or 131.2%30.6%, principally reflecting organic growthtiming of earlier load-in of sales to our brick-and-mortar stores during the quarter ended September 30, 2018 and an increase in our existing retail accounts, namely Amazon.com. retailer returns.
International sales decreasetotaled $795,000, as compared to $35,000$806,000 in comparison to the prior year period, primarily due to timing of sales while testing the European market as we continue to test international markets in order to understand the trends, that impactdistribution models and acceptance of our products in the international market.
Our products consist of AeroGardens, and seed pod kits and accessories. A summary of the sales of these two product categories for the three months ended June 30,December 31, 2018 and June 30,December 31, 2017 is as follows:
Three Months Ended June 30, (in thousands) | Three Months Ended December 31, (in thousands) | |||||||||||||||
2018 | 2017 | 2018 | 2017 | |||||||||||||
Product revenue | ||||||||||||||||
AeroGardens | $ | 2,806 | $ | 1,652 | $ | 13,925 | $ | 19,307 | ||||||||
Seed pod kits and accessories | 1,162 | 829 | 2,715 | 2,111 | ||||||||||||
Discounts, allowances and other | (225 | ) | (19 | ) | (3,699 | ) | (4,067 | ) | ||||||||
Total | $ | 3,743 | $ | 2,462 | $ | 12,941 | $ | 17,351 | ||||||||
% of total revenue | ||||||||||||||||
AeroGardens | 75.0 | % | 67.1 | % | 107.6 | % | 111.3 | % | ||||||||
Seed pod kits and accessories | 31.0 | % | 33.7 | % | 21.0 | % | 12.1 | % | ||||||||
Discounts, allowances and other | (6.0 | )% | (0.8 | )% | (28.6 | )% | (23.4 | )% | ||||||||
Total | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % |
AeroGarden sales increased $1.2decreased $5.4 million, or 69.9%27.9%, from the prior year period, reflecting (i) increaseddecreased retail channel sales as we continued our growth with existing customers to gain customer acceptancebecause of our productthe earlier load-in into more brick-and-mortar stores in historically slower sales period which was primarily related to sales to Amazon.com, (ii) sales of AeroGardens, primarily in our Retail channel and (iii) continued our focus on advertising and general awareness campaigns toward the general population, which continue to inform buyers about our products.quarter ended September 30, 2018. The increase in seed pod kit and accessory sales which increased by $333,000,of $605,000, or 40.2%28.7%, principally reflects the prior period focus on acquiring new AeroGarden customers, who have historically purchased seed pod kits and accessories after purchasing and using new AeroGardens, partially offset by a decreaseincrease in light bulb sales as the demand for AeroGardens with LED lighting increases.our established base of AeroGardens. For the three months ended June 30,December 31, 2018, sales of seed pod kits and accessories represented 31.0%21.0% of total revenue, as compared to 33.7%12.1% in the prior year period. Other revenue, which is comprised primarily of grow club revenue, shipping revenue, accruals and deductions, increased as a percent of total revenue to (6.0)(28.6)% from (0.8)(23.4)% in the prior year period, primarily due to increases in revenue deductions for estimated future returns and sales discounts and allowances and discounts for in-storecertain retail accounts. At the end of each reporting period we analyze the possibility of product returns from customers and determine if specific reserves are satisfactory or should be adjusted. During the current year period we determined the customer specific reserve should be increased.
Cost of Revenue
Cost of revenue for the three months ended June 30,December 31, 2018 totaled $2.3$8.9 million, an increasea decrease of $670,000,$2.5 million, or 40.8%21.9%, from the three months ended June 30,December 31, 2017. Cost of revenue includes product costs for purchased and manufactured products, freight costs for inbound freight from manufacturers, costs related to warehousing and the shipping of products to customers, credit card processing fees for direct sales, and duties and customs applicable to imported products. As a percent of total revenue, cost of revenue represented 61.7%69.0% of revenue, as compared to 66.6%65.9% for the quarter ended June 30,December 31, 2017. The decreasepercentage increase was primarily attributable to decreased sales during the current quarter, partially offset by changes in costs asour new product pricing structure and a percent of revenue reflected the change in the brand agreement withBrand Agreement in which we will no longer pay a 5% fee to Scotts Miracle-Gro less aggressive pricing with certain customers,on the sale of AeroGardens; however, we will continue to pay a 5% fee on the sale of seed pod kits and test marketing with several new retailers.related products.
Gross Profit
Our gross profit varies based upon the factors impacting net revenue and cost of revenue as discussed above, as well as the mix of our revenue that comes from the retail, direct-to-consumer, and international channels. In a direct-to-consumer sale, we recognize as revenue the full consumer purchase price for the product. In retail and international sales, by comparison, we recognize as revenue the wholesale price that we charge to the retailer or international distributor. Media costs associated with direct sales are included in sales and marketing expenses. For international sales, when we sell to a distributor, margins are structured based on the distributor purchasing products by letter of credit or cash in advance, terms with the distributor bearing all of the marketing and distribution costs within its territory. As a result, international sales generally have lower gross profits than domestic retail sales. We have begun international test marketing through Amazon in various countries, so this margin model may change over time. The decrease in our gross profit is due primarily due to changes in customer and product mix, particularly the introduction of AeroGarden products into new brick-and-mortar stores which carry higher return allowances. Additionally, we experienced higher costs during the current quarter, particularly due to one-time fees related to establishing new retail customers and additional shipping costs for international and direct-to-consumer channels. The gross profit for the quarter ended June 30,December 31, 2018 was 38.3%31.0%, as compared to 33.4%34.1% for the quarter ended June 30,December 31, 2017. The increasedecrease in our gross profit was primarily attributabledue to the increased sales to both retailshift in retailers with lower margins and direct-to-consumer customers and changes to the brand agreement with Scotts Miracle-Gro, partially offset by some pricing pressure in our direct-to-consumer channel, and changes to our customer and product mix. impact of the additional return reserve.
Research and Development
Research and development costs for the quarter ended June 30,December 31, 2018 totaled $160,000, an increase$76,000, a decrease of $68,000$110,000 from the quarter ended June 30,December 31, 2017. Our research and development spending increased for the quarter ended June 30, 2018, particularlyThe decrease principally reflected decrease expenses related to salaries and wages,new product certifications design, development, testing and consulting service expenses for market research andas our new product developmentintroductions in the current year leveraged the existing technology and testing, partially offset by increased reimbursements of consulting fees.redesigned some current products.
Sales and Marketing
Sales and marketing costs for the three months ended June 30,December 31, 2018 totaled $1.2$3.9 million, relatively flat withas compared to $4.6 million for the prior year period.three months ended December 31, 2017, a decrease of 15.6%. Sales and marketing costs include all costs associated with the marketing, sales, operations, customer support, and sales order processing for our products, and consisted of the following:
Three Months Ended June 30, (in thousands) | Three Months Ended December 31, (in thousands) | |||||||||||||||
2018 | 2017 | 2018 | 2017 | |||||||||||||
Advertising | $ | 476 | $ | 267 | $ | 2,554 | $ | 3,609 | ||||||||
Personnel | 504 | 429 | 328 | 637 | ||||||||||||
Sales commissions | 6 | (17 | ) | 47 | 86 | |||||||||||
Trade shows | - | - | ||||||||||||||
Travel | 70 | 45 | 59 | 38 | ||||||||||||
Media production and promotional products | 5 | 3 | 54 | 31 | ||||||||||||
Quality control and processing fees | 46 | 29 | 78 | 59 | ||||||||||||
General brand marketing | 567 | - | ||||||||||||||
Other | 135 | 76 | 211 | 157 | ||||||||||||
$ | 1,242 | $ | 832 | $ | 3,898 | $ | 4,617 |
Advertising expense is composed primarily of television advertising, catalogue development, production, printing, and postage costs, web media expenses for search and affiliate web marketing programs, and the cost of developing and employing other forms of advertising. Each is a key component of our integrated marketing strategy because it helps build consumer awareness and demand for our products in the retailer and direct-to-consumer sales channels. TotalAs noted above, during the three months ended December 31, 2018, we spent $2.6 million in advertising expense was $476,000 for the quarter ended June 30, 2018, a year-over-year change of 78.6%, or $209,000, primarily because we increased spending on general brand awareness and marketing, promotional programs withinexpenditures to support our retail channel, email campaigns, and pay-per click advertising.direct-to-consumer channels, a 29.2% year-over-year decrease compared to the same period in Fiscal 2018. The decrease resulted from: (1) retail-specific advertising, which decreased to $2.1 million from $2.6 million, as the Company invested less in driving product awareness through platforms made available by our retail partners; and (2) reduced spending in general YouTube, Facebook and other general media advertising to a $276,000; and (3) a $110,000 decrease in direct-to-consumer advertising to $168,000.
Sales and marketing personnel costs include salaries, payroll taxes, employee benefits and other payroll costs for our sales, operations, customer service, graphics and marketing departments. For the three months ended June 30,December 31, 2018, personnel costs for sales and marketing were $504,000, up $75,000$328,000, down $309,000 or 17.4%48.5% from the three months ended June 30,December 31, 2017. The increasedecrease reflected changes to the hiring of part-time employees as full-time employees, the creation of a new marketing roleemployee incentive programs offset by some increases in the departmentsalaries and thewages necessary to drive increased sales to retailers and through our direct-to-consumer channel. Personnel expenses include all related increase inpayroll including departmental incentive programs, including salaries, bonuses and employee benefits for those employees.benefits.
Other marketing expenses increased year-over-year as we continue to grow our business andprincipally because of changes in overall promotional programs including a significant increase in social media, market research programs and other programs, including increased travel.retailer marketing programs.
General and Administrative
General and administrative costs for the three months ended June 30,December 31, 2018 totaled $685,000,$572,000, as compared to $627,000$713,000 for the three months ended June 30,December 31, 2017, an increasea decrease of 9.2%19.8%, or $58,000.$141,000. The increase wasdecrease is attributable to decreases in the departmental incentive program, offset by a variety of areascosts, including increases in salariessupplies, bad debt expense, and wages, travel, web hosting, electronic data processing, network consulting feesthe use of outside contractors for new market and depreciation expenses.product initiatives.
Operating Loss and Income
Our operating loss for the three months ended June 30,December 31, 2018 was $654,000,$535,000, a decrease of $75,000$941,000 from the $728,000$406,000 in operating lossincome for the three months ended June 30,December 31, 2017. The decrease reflected decreased operating loss was attributable to higher sales in both our retail and direct-to-consumer channels, along with higher revenue reductions for various returns and increased margins,allowances, partially offset by increased marketing and brand awarenessdecreases in operating expenses, including overall general advertising, expenses.as discussed in greater detail above.
Net Income and Loss
For the three months ended June 30,December 31, 2018, we recorded a net loss of $634,000,$707,000, a $55,000 improvement$1.1 million decrease over the $689,000$391,000 net lossincome for the three months ended June 30,December 31, 2017. The decrease in the net lossincome is primarily a result of increaseddecreased sales volume in the current year period, partially offset by the decrease in operating expenses.
Nine Months Ended December 31, 2018 and December 31, 2017
Summary Overview
For the nine months ended December 31, 2018, total revenue decrease $294,000, or 1.2%, to $25.3 million relative to the same period in the prior year. Retail sales decreased $174,000, or 0.9%, due to a lack of sell through and due to a limited time remaining on store shelves with increasesseveral brick and mortar retailers and as such we recorded an increased estimate of returns. Sales in our direct-to-consumer channel decreased 0.8%, or $44,000, primarily due to our newly launched redesigned website, which is more focused on building brand recognition and resulted in some lost sales initially until the website was modified after the initial launch. Sales to international distributors decreased $76,000 to $876,000 in the nine months ended December 31, 2018, relative to the same period in the prior year, primarily due to product testing and understanding our expanded distribution in certain international markets such as Amazon.uk, France, Germany, Spain and Italy.
For the nine months ended December 31, 2018, total dollar sales of AeroGardens decreased by 3.5% and seed pod kit accessories increased by 27.0%, over the prior year period. AeroGarden sales, net of allowances, represented 78.9% of total revenue, as compared to 83.5% in the prior year period. This percentage decrease, on a product line basis, was attributable to an increase in the estimate of allowances. Seed pod kit and accessory gross sales increased as a percent of the total sales to 21.1% from 16.5% in the prior year period and total dollar seed pot kit and accessory sales increased by $1.1 million.
During the nine months ended December 31, 2018, we spent $3.4 million in advertising expenditures to support our direct-to-consumer and retail channels, a year-over-year decrease of 16.2%, compared to the same period ended December 31, 2017. These expenditures included the following:
● | Retail-specific advertising decreased $131,000 to $2.8 million from $2.9 million for the nine months ended December 31, 2018 and December 31, 2017, respectively, as the Company continues to invest in: (i) platforms made available by our retailers; (ii) various promotional programs to increase product awareness with our housewares channel of retail accounts, including catalogues and email campaigns; and (iii) web-based advertising programs (e.g. inclusion in retail catalogues, website banner ads, email blasts, targeted search campaigns, etc.). |
● | Other advertising related expenses decreased $449,000 to $297,000 during the nine months ended December 31, 2018, due to changes in spending on general TV to more linear, connected, online TV, YouTube, Facebook and other media advertising. The Company views this general investment as a long term commitment to increasing awareness of the AeroGarden brand. |
● | Finally, direct-to-consumer advertising decreased to $322,000 from $399,000 for the nine months ended December 31, 2018 and December 31, 2017, respectively. This decrease reflects decreased spending on catalogues and decreases in pay-per-click campaigns. Efficiency, as measure by dollars of direct-to-consumer sales per dollar of related advertising expense, increased to $16.35 or 18.1% for the nine months ended December 31, 2018, as compared to $13.85 for the same period in Fiscal 2018. |
Gross profit for the nine months ended December 31, 2018 was 34.7%, as compared to 32.9% during the prior year period. This increase was attributable to lower costs on several of our new products, as well as changes in our new product pricing structure with retailers and in our Brand Agreement with Scotts Miracle-Gro, in which we no longer pay a 5% fee on the sale of AeroGardens; however, we will continue to pay a 5% fee on the sale of Seed Pod Kits.
In aggregate, our total operating expenses increased 4.9%, or $433,000, year-over-year, principally to support new product introductions and general brand awareness and marketing campaigns. Gross spending increased in the following areas:
● | A $247,000 increase in other contracted services, which include expenses related to our investment in our new ERP, website redesign, legal fees relating to potential tariff impacts and product testing; |
● | A $142,000 increase in a variety of general operating accounts, including repairs and maintenance, insurance, telephone, general courier fees, office supplies and equipment; and |
● | A $107,000 increase in company-wide travel to manufacturers in China and potential domestic and European customers. |
As a result of continued growth in the online and housewares channels and our efforts to provide general awareness of our product, our operating loss increased by $65,000 to $517,000 for the nine months ended December 31, 2018, from $452,000 in the prior year period.
Other expense and income for the nine months ended December 31, 2018, totaled to net other expense of $177,000, as compared to net other income of $33,000 in the prior year period. The net other expense in the current year period is attributable to interest expense on the Term Loan, offset by other income from consulting related revenue, and foreign exchange gains. In the prior year, net other income was primarily attributable to interest income, other income from consulting related revenue, and foreign exchange gains.
The net loss for the nine months ended December 31, 2018, was $694,000, as compared to a $420,000 loss in the prior year. The increased net loss is attributable to the factors discussed above.
The following table sets forth, as a percentage of sales, our financial results for the nine months ended December 31, 2018 and the nine months ended December 31, 2017:
Nine Months Ended December 31, | ||||||||
2018 | 2017 | |||||||
Net revenue | ||||||||
Direct-to-consumer | 21.7 | % | 21.6 | % | ||||
Retail | 74.8 | % | 74.7 | % | ||||
International | 3.5 | % | 3.7 | % | ||||
Total net revenue | 100.0 | % | 100.0 | % | ||||
Cost of revenue | 65.3 | % | 67.1 | % | ||||
Gross profit | 34.7 | % | 32.9 | % | ||||
Operating expenses | ||||||||
Research and development | 1.4 | % | 1.6 | % | ||||
Sales and marketing | 26.8 | % | 25.3 | % | ||||
General and administrative | 8.5 | % | 7.8 | % | ||||
Total operating expenses | 36.7 | % | 34.7 | % | ||||
Loss from operations | (2.0 | )% | (1.8 | )% |
Revenue
For the nine months ended December 31, 2018, revenue totaled $25.2 million, a year-over-year decrease of 1.2%, or $293,000, from the nine months ended December 31, 2017.
Nine Months Ended December 31, (in thousands) | ||||||||
Net Revenue | 2018 | 2017 | ||||||
Direct-to-consumer | $ | 5,480 | $ | 5,524 | ||||
Retail | 18,904 | 19,077 | ||||||
International | 876 | 953 | ||||||
Total | $ | 25,260 | $ | 25,554 |
Direct-to-consumer sales for the nine months ended December 31, 2018 totaled $5.5 million, down $44,000, or 0.8%, from the prior year period. The decrease in sales to direct-to-consumer channels is due to our launch of a new website at the beginning of the third quarter, which initially resulted in decreased direct-to-consumer sales until the website was modified after the initial launch, partially offset by pricing strategies to drive direct-to-consumer sales during our non-peak season and continued cumulative momentum from our general brand awareness campaigns.
Sales to retailer customers for the nine months ended December 31, 2018 totaled $18.9 million, down $174,000, or 0.9%, from the prior-year period, principally reflecting increased returns and allowances for brick and mortar retailers for programs, which are expected to end in the next quarter.
International sales for the nine months ended December 31, 2018 decreased $76,000, primarily due to sales testing in Europe and as we continue to understand international market factors, distribution models and acceptance of our products in the international market.
Our products consist of AeroGardens, seed pod kits and accessories. A summary of the sales of these product categories for the nine months ended December 31, 2018 and December 31, 2017 is as follows:
Nine Months Ended December 31, (in thousands) | ||||||||
2018 | 2017 | |||||||
Product Revenue | ||||||||
AeroGardens | $ | 26,615 | $ | 27,584 | ||||
Seed pod kits and accessories | 5,327 | 4,195 | ||||||
Discounts, allowances and other | (6,682 | ) | (6,225 | ) | ||||
Total | $ | 25,260 | $ | 25,554 | ||||
% of Total Revenue | ||||||||
AeroGardens | 105.4 | % | 107.9 | % | ||||
Seed pod kits and accessories | 21.1 | % | 16.5 | % | ||||
Discounts, allowances and other | (26.5 | )% | (24.4 | )% | ||||
Total | 100.0 | % | 100.0 | % |
AeroGarden sales decreased $969,000, or 3.5%, from the prior year period, reflecting decreased sales in both the retail and direct-to-consumer channels. This percentage decrease was attributable to slower sales to existing customers, partially offset by expansion and product introduction into new retail accounts. Sales of seed pod kits and accessories increased $1.1 million, or 27.0%, reflecting an increase in both direct-to-consumer and retail sales, as well as the increase in our established base of AeroGardens. For the nine months ended December 31, 2018, sales of seed pod kits and accessories represented 21.1% of total revenue, as compared to 16.4% in the prior year period. Other revenue, which is comprised primarily of grow club revenue, shipping revenue, accruals and deductions, increased as a percent of the total to (26.5)% from (24.4)% in the prior year period due to higher deductions and accruals for sales allowances and future discounts for new in-store retail accounts.
Cost of Revenue
Cost of revenue for the nine months ended December 31, 2018 totaled $16.5 million, a decrease of $661,000, or 3.9%, from the nine months ended December 31, 2017. Cost of revenue includes product costs for purchased and manufactured products, freight costs for inbound freight from manufacturers, costs related to warehousing and shipping products to customers, credit card processing fees for direct sales, and duties and customs applicable to imported products. As a percent of total revenue, cost of revenue for the nine months ended December 31, 2018, represented 65.3% of revenue, as compared to 67.1% during the nine months ended December 31, 2017. The decrease in costs as a percent of revenue reflected new product pricing structure and a change in the Brand Agreement with Scotts Miracle-Gro in which we will no longer pay a 5% fee to on the sale of AeroGardens; however, we will continue to pay a 5% fee on the sale of seed pod kits and related accessories.
Gross Profit
Our gross profit varies based upon the factors affecting net revenue and cost of revenue as discussed above, as well as the mix of our revenue that comes from the retail, direct-to-consumer, and international channels. In a direct-to-consumer sale, we recognize as revenue the full consumer purchase price for the product. In retail and international sales, by comparison, we recognize as revenue the wholesale price that we charge to the retailer or international distributor. Media costs associated with direct sales are included in sales and marketing expenses. For international sales, when we sell to a distributor margins are structured based on the distributor purchasing products by letter of credit or cash in advance terms, with the distributor bearing all of the marketing and distribution costs within its territory. As a result, international sales generally have lower gross profits than domestic retail sales. We have begun international test sales through Amazon in various countries, so this margin model may change over time. We saw increases at our established accounts, including direct-to-consumer, which were offset by the lower margins at some new retail accounts. The gross profit for the nine months ended December 31, 2018 was 34.7% as compared to 32.9% for the nine months ended December 31, 2017.
Research and Development
Research and development costs for the nine months ended December 31, 2018 totaled $366,000, a decrease of 12.7%, or $53,000, from the nine months ended December 31, 2018. The decrease is related to new product certification and testing expenses, bonuses and $60,000 of consulting fee reimbursement, partially offset by increases in prototype development, shipping expenses and increased employee headcount, partially offset by decreases.
Sales and Marketing
Sales and marketing costs for the nine months ended December 31, 2018 totaled $6.8 million, as compared to $6.5 million for the nine months ended December 31, 2017, an increase of 4.8%, or $310,000. Sales and marketing costs include all costs associated with the marketing, sales, operations, customer support, and order processing for our products, and consisted of the following:
|
| Nine Months Ended December 31, (in thousands) |
| |||||
|
| 2018 |
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| 2017 |
| ||
Advertising |
| $ | 3,392 |
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| $ | 4,050 |
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Personnel |
|
| 1,591 |
|
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| 1,613 |
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Sales commissions |
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| 103 |
|
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| 116 |
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Trade shows |
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| 3 |
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| 1 |
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Travel |
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| 190 |
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|
| 124 |
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Media production and promotional products |
|
| 66 |
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|
| 41 |
|
Quality control and processing fees |
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| 198 |
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|
| 144 |
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General brand marketing | 614 | - | ||||||
Other |
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| 614 |
|
|
| 372 |
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|
| $ | 6,771 |
|
| $ | 6,461 |
|
Advertising expense totaled $3.4 million for the nine months ended December 31, 2018, a year-over-year decrease of 16.2%, or $658,000. These expenditures included: (1) retail-specific advertising decreased to $2.8 million from $2.9 million, as we continue investing in driving product awareness through platforms made available by our retail partners; (2) approximately $297,000 in general YouTube, Facebook and other general media advertising; and (3) direct-to-consumer advertising, which decreased to $321,000 from $399,000.
Sales and marketing personnel costs include salaries, payroll taxes, employee benefits and other payroll costs for our sales, operations, customer service, graphics and marketing departments. For the nine months ended December 31, 2018, personnel costs for sales and marketing were $1.6 million, down slightly from $1.6 million for the nine months ended December 31, 2017, a decrease of 1.4%. The increase reflected the hiring of part-time employees as full-time employees, creation of new marketing and retail support roles, and a related increase in employee benefits for those employees. Personnel expenses include all related payroll expenses, including incentive programs, bonuses and employee benefits.
Other marketing expenses increased year-over-year because of increases in a variety of spending categories, including additional travel, social media, market research, retailer marketing programs, third party sales tax software and new products that were initiated during the current year quarter.
General and Administrative
General and administrative costs for the nine months ended December 31, 2018 totaled $2.2 million, as compared to $2.0 million for the nine months ended December 31, 2017, an increase of 8.9%, or $177,000. The increase is attributable to (i) other contracting fees for upgrading our website, an ERP system, web hosting, electronic data processing, and network consulting and software troubleshooting fees; (ii) office, equipment and general supplies; (iii) payroll-related expenses, including incentive programs, salaries, bonuses and employee benefits; and (iv) estimates for the allowance for bad debt and depreciation.
Operating Loss
Our operating loss for the nine months ended December 31, 2018 was $517,000, an increase of $65,000 from the operating loss of $452,000 for the nine months ended December 31, 2017. The increased operating loss was attributable to decreased sales in both the retail distribution and direct-to consumer channels, and by increased general operating and media expenses designed to continue growingdrive brand awareness.awareness, as discussed in greater detail above.
Net Loss
The net loss for the nine months ended December 31, 2018 was $694,000, as compared to a $420,000 net loss in the prior year, as discussed above.
Segment Results
We report our segment information in the same way that management assesses the business and makes decision regarding the allocations of resources in accordance with the Segment Reporting Topic of the Financial Accounting Standards Board Accounting Standards Codification (ASC). Factors considered in determining our reportable segments include the nature of the business activities, the reports provided to the Company’s chief operating decision maker (CODM) for operating and administrative activities, available information and information that is presented to our Board of Directors.
The Company’s CODM has been identified as the Chief Executive Officer because he has final authority over the performance assessment and resource allocation decisions. The CODM regularly receives discrete financial information about each reportable segment. The CODM uses all such information for performance assessment and resource allocation decisions. The CODM evaluates the performance of and allocates resources based upon the contribution margins of each segment.
As a result, we divide our business into two reportable segments: Direct-to-Consumer and Retail. This division of reportable segments is consistent with how the segments report to and are managed by the CODMchief operating decision maker of the Company. The Company evaluates performance based on the primary financial measure of contribution margin (“segment profit”). Segment profit reflects the income or loss from operations before corporate expenses, non-operating income, net interest expense, and income taxes.
Three Months Ended June 30, 2018 | Nine Months Ended December 31, 2018 | |||||||||||||||||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||||||||||||||
Net sales | $ | 1,454 | $ | 2,289 | $ | - | $ | 3,743 | $ | 5,480 | $ | 19,780 | $ | - | $ | 25,260 | ||||||||||||||||
Cost of revenue | 889 | 1,421 | - | 2,310 | 3,617 | 12,870 | - | 16,487 | ||||||||||||||||||||||||
Gross profit | 565 | 868 | - | 1,433 | 1,863 | 6,910 | - | 8,773 | ||||||||||||||||||||||||
Gross profit percentage | 38.9 | % | 37.9 | % | - | 38.3 | % | 34.0 | % | 34.9 | % | - | 34.7 | % | ||||||||||||||||||
Sales and marketing (1) | 75 | 432 | 111 | 618 | 337 | 3,311 | 1,041 | 4,689 | ||||||||||||||||||||||||
Segment profit | 490 | 436 | (111 | ) | 815 | 1,526 | 3,599 | (1,041 | ) | 4,084 | ||||||||||||||||||||||
Segment profit percentage | 33.7 | % | 19.0 | % | - | 21.8 | % | 27.8 | % | 18.2 | % | - | 16.2 | % |
(1) |
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Three Months Ended June 30, 2017 | Nine Months Ended December 31, 2017 | |||||||||||||||||||||||||||||||
(in thousands) | Direct-to-consumer | Retail | Corporate/Other | Consolidated | Direct-to-consumer | Retail | Corporate/Other | Consolidated | ||||||||||||||||||||||||
Net sales | $ | 1,425 | $ | 1,037 | $ | - | $ | 2,462 | $ | 5,524 | $ | 20,030 | $ | - | $ | 25,554 | ||||||||||||||||
Cost of revenue | 936 | 704 | - | 1,640 | 3,785 | 13,364 | - | 17,148 | ||||||||||||||||||||||||
Gross profit | 489 | 333 | - | 822 | 1,739 | 6,667 | - | 8,406 | ||||||||||||||||||||||||
Gross profit percentage | 34.3 | % | 32.1 | % | - | 33.4 | % | 31.5 | % | 33.3 | % | - | 32.9 | % | ||||||||||||||||||
Sales and marketing (1) | 20 | 251 | 69 | 340 | 252 | 3,784 | 372 | 4,408 | ||||||||||||||||||||||||
Segment profit | 469 | 82 | (69 | ) | 482 | 1,487 | 2,883 | (372 | ) | 3,998 | ||||||||||||||||||||||
Segment profit percentage | 32.9 | % | 7.9 | % | - | 19.6 | % | 26.9 | % | 14.4 | % | - | 15.6 | % |
(1) Sales and marketing includes advertising, trade shows, media production and promotional products and other as discussed in the sales and marketing section.
Liquidity and Capital Resources
After adjusting the net loss for non-cash items and changes in operating assets and liabilities, the net cash used by operating activities totaled $454,000$9.5 million for the threenine months ended June 30,December 31, 2018, as compared to cash used of $517,000 for$6.2 million in the three months ended June 30, 2017. prior year period.
Non-cash items, comprising depreciation, amortization, loss on disposal of fixed assets, bad debt (recoveries) allowances, and inventory allowances,allowance, totaled to a net gain of $70,000$364,000 for the threenine months ended June 30,December 31, 2018, as compared to a net gain of $66,000$238,000 in the prior year period. The increase principally reflected nominal non-cash expenses, including charges arising from all ofdepreciation and changes the non-cash compensation expenses. in inventory allowance.
Changes in current assets providedused net cash of $850,000$10.1 million during the threenine months ended June 30,December 31, 2018, principally from decreasesincreases in inventory and accounts receivable inventory and deposit balances, as we moved away froma result of our retail channel sales during the peak season, partially offset by increases in prepaid assets.holiday season.
As of June 30,December 31, 2018, the total inventory balance was $4.2$10.3 million, representing approximately 69179 days of sales activity, and 166106 days of sales activity, at the average daily rate of product cost expensed during the twelve months and three months ended June 30,December 31, 2018, respectively. The three months’ days in inventory calculation is based on the three months of sales activity and can beis greatly impactedaffected by the seasonality of our sales, which are at their highest level during our quarter ending December 31. The twelve months’ days in inventory calculation is based on the twelve months of sales activity and is less impacted by the seasonality of our sales.
Current operating liabilities decreased $740,000increased $1.0 million during the threenine months ended June 30,December 31, 2018, principally because of seasonal decreasesincreases in all operating liability accounts. Accounts payable as of June 30,December 31, 2018 totaled $2.7$3.9 million, representing approximately 2944 days of daily expense activity, and 5627 days of daily expense activity, at the average daily rate of expenses incurred during the twelve months and three months ended June 30,December 31, 2018, respectively.
Net investing activity used $21,000$844,000 of cash in the current year period, principally because of the purchases of equipment.equipment as we introduce new products.
Net financing activity provided net cash of $6.0 million during the nine months ended December 31, 2018, due to the Term Loan agreement with Scotts Miracle-Gro.
Cash
As of June 30,December 31, 2018, we had a cash balance of $7.0$3.2 million, of which $15,000 was restricted as collateral for various corporate obligations. This compares to a cash balance of $7.5 million as of March 31, 2018, of which $15,000 was restricted. The decrease in cash is primarily attributable to the purchase of inventory in the current quarter to meet anticipated peak season sales demand, in particular to satisfy the current period load-in sales with brick-and-mortar retail customers.
Borrowing Agreements
As of June 30,December 31, 2018 and March 31, 2018, we have no$6.0 million and $0 of outstanding long-term debt. See Note 10 for subsequent events as wedebt, respectively, and have entered into a Term Loan Agreement in the principal amount of up to $6.0 million with Scotts Miracle-Gro. As of December 31, 2018 and March 31, 2018, the outstanding balance of our note payable and debt, including accrued interest, was as follows:
December 31, 2018 | March 31, 2018 | |||||||
(in thousands) | (in thousands) | |||||||
Notes payable-related party | $ | 6,155 | $ | - | ||||
Total debt | 6,155 | - | ||||||
Less notes payable and current portion – long term debt | 6,155 | - | ||||||
Long term debt | $ | - | $ | - |
Cash Requirements
We generally require cash to:
● | fund our operations and working capital |
● | develop and execute our product development and market introduction |
● | execute our sales and marketing |
● | fund research and development |
● | pay debt obligations as they come due. |
At this time, we do not expect to enter into additional capital leases to finance major purchases. In addition, we do not currently have any binding commitments with third parties to obtain any material amount of equity or debt financing other than the financing arrangements described in this report.
Assessment of Future Liquidity and Results of Operations
Liquidity
To assess our ability to fund ongoing operating requirements, we developed assumptions regarding operating cash flow. Critical sources of funding, and key assumptions and areas of uncertainty include:
● | our cash of |
● | our cash of |
● | continued support of, and extensions of credit by, our suppliers and lenders, including, but not limited to, the Term Loan of up to $6.0 million from Scotts Miracle-Gro, of which we had borrowed $6.0 million and $6.0 million in principal amount as of December 31, 2018; |
● | our historical pattern of increased sales between September and March, and lower sales volume from April through |
● | the level of spending necessary to support our planned |
● | our sales to consumers, retailers, and international distributors, and the resulting cash flow from operations, which will depend in great measure on the success of our direct-to-consumer sales initiatives, and the acceptance of the product at our various retail distribution |
On July 6, 2018, the Company entered into a Term Loan Agreement in the principal amount of up to $6.0 million with Scotts Miracle-Gro. The proceeds are available as needed in increments of $500,000 not to exceed $6.0 million with a due date of March 30, 2018. The Term Loan Agreement is secured by a lien on the assets of the Company and interest is charged at the stated rate of 10% per annum to be paid quarterly in arrears in cash, at the end of each September, December and March. The funding provides general working capital and funds to acquire inventory to support anticipated growth as the Company expands its retail and its direct-to-consumer sales channels. During the quarter we borrowed the remaining Term Loan up to the $6.0 million loan and can reborrow amounts repaid against the Term Loan up to $6.0 million in order to purchase inventory during of our peak selling season. See Note 3 “Notes Payable, Long Term Debt and Current Portion – Long Term Debt” to our condensed financial statements.
Based on these facts and assumptions, we believe our existing cash and cash equivalents along with the Term Loan Agreement and the cash generated by our anticipated results from operations, will be sufficient to meet our operating needs for the next twelve months.
Results of Operations
There are several factors that could affect our future results of operations. These factors include, but are not limited to, the following:
● | the effectiveness of our consumer marketing efforts in generating both direct-to-consumer sales, and sales to consumers by our retailer |
● | uncertainty regarding the impact of macroeconomic conditions on consumer |
● | uncertainty regarding the capital markets and our access to sufficient capital to support our current and projected scale of |
● | the seasonality of our business, in which we have historically experienced higher sales volume |
● | a continued, uninterrupted supply of product from our third-party manufacturing suppliers in |
● | the success of |
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Off-Balance Sheet Arrangements
Other than our headquarter facility lease commitment incurred in the normal course of business, we do not have any off-balance sheet financing arrangements or liabilities, guarantee contracts, retained or contingent interest in transferred assets, and have not entered into any contracts for financial derivative such as futures, swaps, and options.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
Our interest income is most sensitive to fluctuations in the general level of U.S. interest rates. As such, changes in U.S. interest rates affect the interest earned on our cash, cash equivalents, and short-term investments, and the value of those investments. Due to the short-term nature of our cash equivalents and investments, we have concluded that a change in interest rates does not pose a material market risk to us with respect to our interest income. As discussed above, if we acquire additionalOur debt carries fixed interest rates and therefore changes in the general level of market interest rates couldwill not impact our interest expense during the terms of futureour existing debt arrangements.
Foreign Currency Exchange Risk
We transact business primarily in U.S. currency. Although we purchase our products in U.S. dollars, the prices charged by our suppliers in AsiaChina are predicated upon their cost for components, labor and overhead. Therefore, changes in the valuation of the U.S. dollar in relation to the Chinese currenciescurrency may cause our manufacturers to raise prices of our products which could reduce our profit margins.
In future periods, it is possible that we could be exposed to fluctuations in foreign currency exchange rates on accounts receivable from sales and net monetary assets denominated in foreign currencies and liabilities. To date, however, virtually all of our transactions have been denominated in U.S. dollars.
Foreign Import Tariff Risk
We purchase a significant portion of supplies from suppliers outside the United States. The United States and other countries have levied tariffs and taxes on certain goods. Further tariffs, additional taxes, or trade barriers may increase our selling and/or manufacturing costs, decrease margins, reduce the competitiveness of our products, or inhibit our ability to sell products or purchase necessary supplies, which could have a material adverse effect on our business, results of operations, or financial conditions.
Item 4. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures
Disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports filed or submitted by the Company under the Securities Exchange Act of 1934 (the “Exchange Act”), is recorded, processed, summarized, and reported, within the time periods specified in the rules and forms of the SEC. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in the reports filed under the Exchange Act is accumulated and communicated to the Company’s management, including its principal executive and financial officer, as appropriate, to allow timely decisions regarding required disclosure.
The Company carried out an evaluation, under the supervision and with the participation of its management, including its principal executive officer and principal financial officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this report. Based upon and as of the date of that evaluation, the Company’s principal executive officer and financial officer concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed in the reports the Company files and submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
(b) Changes in Internal Controls
There were no changes in the Company’s internal controls or in other factors that could have significantly affected those controls during the three months ended June 30,December 31, 2018.
PART II - OTHER INFORMATION
None.
Our operations and financial results are subject to various risks and uncertainties that could adversely affect our business, results of operations, financial condition, future results, and the trading price of our common stock. In addition to the other information set forth in this Quarterly Report, you should also carefully consider the factors described in “Part I. Item 1A. Risk Factors” of our Annual Report on Form 10-K for the year ended March 31, 2018, which could materially affect our business, results of operations, financial condition, future results, and the trading price of our common stock.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
Not applicable.
Not applicable.None.
Exhibit Number |
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Description |
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3.1 |
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3.2 |
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3.3 |
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3.4 |
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3.5 |
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3.6 |
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3.7 |
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3.8 |
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3.9 |
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3.10 |
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3.11 |
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In accordance with the requirements of the Securities Exchange Act of 1934 the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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| AeroGrow International, Inc. |
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Date: |
| /s/J. Michael Wolfe |
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| By: J. Michael Wolfe |
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| Its: President and Chief Executive Officer (Principal Executive Officer) and Director |
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Date: |
| /s/Grey H. Gibbs |
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| By: Grey H. Gibbs |
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| Its: Senior Vice President Finance and Accounting (Principal Accounting Officer) |
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