UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10‑Q



(Mark One)
x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the three months ended ~~September~~June 30, ~~2017~~2018
OR
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to

Commission file number 001‑37540

HOSTESS BRANDS, INC.

~~(f/k/a GORES HOLDINGS, INC.)~~

(Exact name of registrant as specified in its charter)



Delaware (State or other jurisdiction of incorporation or organization)	47‑4168492 (I.R.S. Employer Identification No.)
1 East Armour Boulevard Kansas City, MO (Address of principal executive offices)	64111 (Zip Code)

(816) 701‑4600

Registrant’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 to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S‑T (§229.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non‑accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b‑2 of the Exchange Act.:



Large accelerated filer ox	Accelerated filer xo	Non‑accelerated filer o (Do not check if a smaller reporting company)	Smaller reporting company o	Emerging growth company xo

☐ 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 Act). Yes o No x

Shares of Class A common stock outstanding - ~~99,632,183~~99,919,503 shares at ~~November 3, 2017~~August 6, 2018

Shares of Class B common stock outstanding - 30,255,184 s~~30,398,777 shares~~hares at ~~November 3, 2017~~ August 6, 2018

HOSTESS BRANDS, INC.

FORM 10-Q

FOR THE QUARTER ENDED ~~SEPTEMBER~~JUNE 30, ~~2017~~2018

INDEX



		Page
PART I - Financial Information
Item 1.	Consolidated Financial Statements
	Consolidated Balance Sheets (Unaudited)	45
	Consolidated Statements of Operations (Unaudited)	6
	Consolidated Statements of Comprehensive Income (Unaudited)	7
	Consolidated Statements of Stockholders’ Equity (Unaudited)	8
	Consolidated Statements of Cash Flows (Unaudited)	9
	Notes to ~~Unaudited~~ Consolidated Financial Statements (Unaudited)	10
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	2621
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	4728
Item 4.	Controls and Procedures	4729
PART II - Other Information
Item 1.	Legal Proceedings	4830
Item 1A.	Risk Factors	4830
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	4830
Item 3.	Default Upon Senior Securities	4931
Item 4.	Mine Safety Disclosures	4931
Item 5.	Other Information	4931
Item 6.	Exhibits	4932

Cautionary Note Regarding Forward Looking Statements

This Quarterly Report on Form 10-Q (“Quarterly Report”) contains statements reflecting our views about our future performance that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve substantial risks and uncertainties. All statements contained in this Quarterly Report other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward-looking statements. Statements that constitute forward-looking statements are generally identified through the inclusion of words such as “believes,” “expects,” “intends,” “estimates,” “projects,” “anticipates,” “will,” “plan,” “may,” “should,” or similar language. Statements addressing our future operating performance and statements addressing events and developments that we expect or anticipate will occur are also considered as forward-looking statements. All forward‑looking statements included herein are made only as of the date hereof. It is routine for our internal projections and expectations to change throughout the year, and any forward-looking statements based upon these projections or expectations may change prior to the end of the next quarter or year. Readers of this Quarterly Report are cautioned not to place undue reliance on any such forward-looking statements. As a result of a number of known and unknown risks and uncertainties, our actual results or performance may be materially different from those expressed or implied by these forward-looking statements. Risks and uncertainties are identified ~~and~~ under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, ~~2016,~~2017, as updated by subsequent filings. All subsequent written or oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these risk factors. We undertake no obligation to update any forward-looking statement, whether as a result of new information, future events, or otherwise. The discussion and analysis of our financial condition and results of operations included in Item 2- Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with our Consolidated Financial Statements and related notes included in Item 1 of this Quarterly Report on Form 10-Q.

HOSTESS BRANDS, INC.

CONSOLIDATED BALANCE SHEETS

(Unaudited, amounts in thousands, except shares and per share data)


	September 30,			December 31,			June 30,		December 31,
ASSETS	2017			2016			2018		2017
	(Successor)			(Successor)
Current assets:
Cash and cash equivalents	$	101,171		$	26,855		$	115,272	$	135,701
Accounts receivable, net	100,733			89,237			110,470		101,012
Inventories	33,812			30,444			38,191		34,345
Prepaids and other current assets	6,791			4,827			11,276		7,970
Total current assets	242,507			151,363			275,209		279,028
Property and equipment, net	166,931			153,224			199,839		174,121
Intangible assets, net	1,929,082			1,946,943			1,911,099		1,923,088
Goodwill	580,349			588,460			578,345		579,446
Other assets, net	7,804			7,902			18,137		10,592
Total assets	$	2,926,673		$	2,847,892		$	2,982,629	$	2,966,275

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities:
Long-term debt and capital lease obligation payable within one year	$	11,357		$	11,496		$	11,268	$	11,268
Tax receivable agreement payments payable within one year							700		14,200
Accounts payable	53,451			34,083			70,858		49,992
Customer trade allowances	35,150			36,691			42,012		40,511
Accrued expenses and other current liabilities	11,051			21,656			10,810		11,880
Total current liabilities	111,009			103,926			135,648		127,851
Long-term debt and capital lease obligation	988,476			993,374			982,328		987,920
Tax receivable agreement	175,487			165,384			68,584		110,160
Deferred tax liability	366,457			353,797			272,966		267,771
Total liabilities	1,641,429			1,616,481			1,459,526		1,493,702
Commitments and Contingencies (Note 14)
Class A common stock, $0.0001 par value, 200,000,000 shares authorized, 99,992,183 and 98,250,917 shares issued and outstanding at September 30, 2017 and December 31, 2016, respectively	10			10
Class B common stock, $0.0001 par value, 50,000,000 shares authorized, 30,398,777 and 31,704,988 shares issued and outstanding at September 30, 2017 and December 31, 2016, respectively	3			3
Commitments and Contingencies (Note 12)
Class A common stock, $0.0001 par value, 200,000,000 shares authorized, 99,919,503 and 99,791,245 shares issued and outstanding at June 30, 2018 and December 31, 2017, respectively							10		10
Class B common stock, $0.0001 par value, 50,000,000 shares authorized, 30,255,184 and 30,319,564 shares issued and outstanding at June 30, 2018 and December 31, 2017, respectively							3		3
Additional paid in capital	923,739			912,824			923,502		920,723
Accumulated other comprehensive loss	(43		)	—
Retained earnings (accumulated deficit)	28,593			(15,618		)
Accumulated other comprehensive income							4,177		1,318
Retained earnings							251,593		208,279
Stockholders’ equity	952,302			897,219			1,179,285		1,130,333
Non-controlling interest	332,942			334,192			343,818		342,240
Total liabilities and stockholders’ equity	$	2,926,673		$	2,847,892		$	2,982,629	$	2,966,275

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited, amounts in thousands, except shares and per share data)


	Three Months Ended					Nine Months Ended				Three Months Ended					Six Months Ended
	September 30, 2017		September 30, 2016			September 30, 2017		September 30, 2016		June 30, 2018			June 30, 2017		June 30, 2018			June 30, 2017
	(Successor)		(Predecessor)			(Successor)		(Predecessor)
Net revenue	$	192,250	$	196,197		$	579,967	$	548,757	$	215,849		$	203,178	$	424,592		$	387,716
Cost of goods sold	113,885		113,618			333,861		309,427		148,992			114,734		286,494			219,976
Gross profit	78,365		82,579			246,106		239,330		66,857			88,444		138,098			167,740
Operating costs and expenses:
Advertising and marketing	8,871		10,381			24,304		27,529		8,938			8,111		17,808			15,433
Selling expense	7,606		8,271			24,418		23,175		7,751			8,700		15,139			16,812
General and administrative	14,494		10,784			43,416		32,015		11,185			15,739		25,746			28,921
Amortization of customer relationships	5,994		156			17,860		468		5,994			5,994		11,989			11,867
Tax receivable agreement liability remeasurement										(1,752		)	—		(1,752		)	—
Business combination transaction costs	—		4,049			—		7,065		—			—		47			—
Impairment of property and equipment	1,003		—			1,003		7,267		—			—		1,417			—
Related party expenses	92		1,058			284		3,431		92			108		184			192
Tax receivable agreement liability remeasurement	1,589		—			1,589		—
Recall and other costs (recoveries)	—		(3,787		)	—		473
Total operating costs and expenses	39,649		30,912			112,874		101,423		32,208			38,652		70,578			73,225
Operating income	38,716		51,667			133,232		137,907		34,649			49,792		67,520			94,515
Other expense:
Other expense (income):
Interest expense, net	9,966		18,004			29,831		53,746		9,749			10,035		19,089			19,865
Loss on modification of debt	2,122		—			1,948		—
Gain on buyout of tax receivable agreement										—			—		(12,372		)	—
Other expense	182		173			1,309		2,344		86			239		169			953
Total other expense	12,270		18,177			33,088		56,090		9,835			10,274		6,886			20,818
Income before income taxes	26,446		33,490			100,144		81,817		24,814			39,518		60,634			73,697
Income tax expense (benefit)	10,316		(23		)	31,608		294
Income tax expense										194			11,311		6,712			21,291
Net income	16,130		33,513			68,536		81,523		24,620			28,207		53,922			52,406
Less: Net income attributable to the non-controlling interest	6,581		2,329			24,325		4,110		5,337			9,377		10,799			17,744
Net income attributable to Class A shareholders/partners	$	9,549	$	31,184		$	44,211	$	77,413
Net income attributable to Class A stockholders										$	19,283		$	18,830	$	43,123		$	34,662

Earnings per Class A share:
Basic	$	0.10				$	0.45			$	0.19		$	0.19	$	0.43		$	0.35
Diluted	$	0.09				$	0.42			$	0.18		$	0.18	$	0.41		$	0.33
Weighted-average shares outstanding:
Basic	99,557,183					98,920,808				99,939,642			98,943,690		99,916,161			98,600,075
Diluted	105,418,566					105,840,673				104,773,094			107,184,341		104,911,474			106,004,898

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited, amounts in thousands)


	Three Months Ended					Nine Months Ended					Three Months Ended						Six Months Ended
	September 30, 2017			September 30, 2016		September 30, 2017			September 30, 2016		June 30, 2018			June 30, 2017			June 30, 2018			June 30, 2017
	(Successor)			(Predecessor)		(Successor)			(Predecessor)
Net income	$	16,130		$	33,513	$	68,536		$	81,523	$	24,620		$	28,207		$	53,922		$	52,406
Other comprehensive loss:
Unrealized income (loss) on interest rate swap contract designated as a cash flow hedge	565			—		(100		)	—
Income tax (expense) benefit	(172		)	—		31			—
Unrealized gain (loss) on interest rate swap contract designated as a cash flow hedge											1,383			(665		)	5,121			(665		)
Tax benefit (expense)											(292		)	203			(1,079		)	203
Comprehensive income	16,523			33,513		68,467			81,523		25,711			27,745			57,964			51,944
Less: Comprehensive income attributed to non-controlling interest	6,712			2,329		24,299			4,110		5,664			9,219			11,989			17,586
Comprehensive income attributed to class A shareholders/partners	$	9,811		$	31,184	$	44,168		$	77,413
Comprehensive income attributed to Class A stockholders											$	20,047		$	18,526		$	45,975		$	34,358

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY ~~(DEFICIT)~~

(Unaudited, amounts in thousands except ~~shares~~share data)

Partners’ Equity (Deficit)
Hostess Holdings, LP
(Predecessor)

Class A
Class C
Total Partners’
Equity (Deficit)
Non-controlling
Interest
Balance – December 31, 2015
$ (276,084 )
$ (346,046 )
$ (622,130 )
$ (37,991 )
Distributions to partners
(2,439 )
(8,134 )
(10,573 )
(555 )
Unit based compensation
345
344
689

—
Net income
38,707
38,706
77,413

4,110
Balance – September 30, 2016
$ (239,471 )
$ (315,130 )
$ (554,601 )
$ (34,436 )


Stockholders’ Equity
Hostess Brands, Inc. (Successor)
	Class A Voting Common Stock			Class B Voting Common Stock				Additional Paid-in Capital			Accumulated Other Comprehensive Loss			Accumulated Losses / Retained Earnings			Total Stockholders’ Equity			Non-controlling Interest			Class A Voting Common Stock			Class B Voting Common Stock				Additional Paid-in Capital			Accumulated Other Comprehensive Income			Accumulated Losses / Retained Earnings			Total Stockholders’ Equity			Non-controlling Interest
	Shares	Amount		Shares		Amount																	Shares	Amount		Shares		Amount
Balance–December 31, 2016	98,250,917	$	10	31,704,988		$	3	$	912,824		$	—		$	(15,618	)	$	897,219		$	334,192		98,250,917	$	10	31,704,988		$	3	$	912,824		$	—		$	(15,618	)	$	897,219		$	334,192
Comprehensive income	—	—		—		—		—			(43		)	44,211			44,168			24,299			—	—		—		—		—			(304		)	34,662			34,358			17,586
Share-based compensation	435,000	—		—		—		7,990			—			—			7,990			—			435,000	—		—		—		4,360			—			—			4,360			—
Exchanges	1,306,211	—		(1,306,211	)	—		12,609			—			—			12,609			(12,609		)	1,306,211	—		(1,306,211	)	—		12,609			—			—			12,609			(12,609		)
Distributions	—	—		—		—		—			—			—			—			(12,940		)	—	—		—		—		—			—			—			—			(8,918		)
Exercise of public warrants	55	—		—		—		1			—			—			1			—			55	—		—		—		1			—			—			1			—
Tax receivable agreement arising from exchanges, net of income taxes of $1,845	—	—		—		—		(9,685		)	—			—			(9,685		)	—			—	—		—		—		(9,685		)	—			—			(9,685		)	—
Balance–September 30, 2017	99,992,183	$	10	30,398,777		$	3	$	923,739		$	(43	)	$	28,593		$	952,302		$	332,942
Balance–June 30, 2017																							99,992,183	$	10	30,398,777		$	3	$	920,109		$	(304	)	$	19,044		$	938,862		$	330,251


Balance–December 31, 2017																							99,791,245	$	10	30,319,564		$	3	$	920,723		$	1,318		$	208,279		$	1,130,333		$	342,240
Adoption of new accounting standards, net of income taxes of $83																							—	—		—		—		—			7			191			198			85
Comprehensive income																							—	—		—		—		—			2,852			43,123			45,975			11,989
Share-based compensation, net of income taxes of $189																							63,878	—		—		—		2,532			—			—			2,532			—
Exchanges																							64,380	—		(64,380	)	—		1,033			—			—			1,033			(1,033		)
Distributions																							—	—		—		—		—			—			—			—			(9,463		)
Payment of taxes for employee stock awards																							—	—		—		—		(436		)	—			—			(436		)	—
Tax receivable agreement arising from exchanges, net of income taxes of $50																							—	—		—		—		(350		)	—			—			(350		)	—
Balance–June 30, 2018																							99,919,503	$	10	30,255,184		$	3	$	923,502		$	4,177		$	251,593		$	1,179,285		$	343,818

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, amounts in thousands)


			Nine Months Ended
			September 30, 2017			September 30, 2016					Six Months Ended
			(Successor)			(Predecessor)					June 30, 2018			June 30, 2017
Operating activities	Operating activities								Operating activities
	Net income		$	68,536		$	81,523
	Depreciation and amortization		28,576			9,054
	Impairment of property and equipment		1,003			7,267			Net income		$	53,922		$	52,406
	Debt discount (premium) amortization		(647		)	2,486			Depreciation and amortization		20,648			18,854
	Non-cash loss on debt modification		1,729			—			Impairment of property and equipment		1,417			—
	Non-cash change in tax receivable agreement liability		1,589			—			Debt premium amortization		(541		)	(470		)
	Gain on sale of property and equipment		(10		)	(153		)	Tax receivable agreement remeasurement and gain on buyout		(14,124		)	—
	Share-based compensation		7,990			689			Stock-based compensation		2,721			4,360
	Deferred taxes		19,993			237			Non-cash gain on debt modification		—			(394		)
	Change in operating assets and liabilities								Gain on sale/abandonment of property and equipment		—			(15		)
		Accounts receivable	(11,496		)	(13,555		)	Deferred taxes		4,994			12,505
		Inventories	(3,368		)	(1,850		)	Change in operating assets and liabilities:
		Prepaids and other current assets	(1,950		)	(9,397		)		Accounts receivable	(8,458		)	(10,883		)
		Accounts payable and accrued expenses	7,369			17,098				Inventories	3,558			(3,353		)
		Customer trade allowances	(1,541		)	(4,316		)		Prepaids and other current assets	(1,643		)	(140		)
		Other	—			430				Accounts payable and accrued expenses	17,187			(6,418		)
	Net cash provided by operating activities		117,773			89,513				Customer trade allowances	1,501			1,327
									Net cash provided by operating activities		81,182			67,779
Investing activities	Investing activities								Investing activities
	Purchases of property and equipment		(22,755		)	(23,995		)	Purchases of property and equipment		(19,836		)	(15,101		)
	Acquisition of Superior		—			(50,091		)	Acquisition of business		(23,910		)	—
	Proceeds from sale of assets		85			4,350			Proceeds from sale of assets		—			54
	Acquisition of software assets		(1,728		)	(1,917		)	Acquisition and development of software assets		(1,591		)	(859		)
	Net cash used in investing activities		(24,398		)	(71,653		)	Net cash used in investing activities		(45,337		)	(15,906		)

Financing activities	Financing activities								Financing activities
	Repayments of long-term debt and capital lease obligation		(5,103		)	(6,985		)	Repayments of long-term debt and capital lease obligation		(5,051		)	(2,570		)
	Debt fees		(1,017		)	—			Debt fees		—			(1,017		)
	Distributions to partners		—			(10,573		)	Distributions to non-controlling interest		(9,463		)	(8,918		)
	Distributions to non-controlling interest		(12,940		)	(555		)	Tax payments related to issuance of shares to employees		(407		)	—
	Proceeds from the exercise of warrants		1			—			Payments on tax receivable agreement		(41,353		)	—
	Net cash used in financing activities		(19,059		)	(18,113		)	Proceeds from the exercise of warrants		—			1
Net increase in cash and cash equivalents			74,316			(253		)
									Net cash used in financing activities		(56,274		)	(12,504		)
Net increase (decrease) in cash and cash equivalents									Net increase (decrease) in cash and cash equivalents		(20,429		)	39,369
Cash and cash equivalents at beginning of period	Cash and cash equivalents at beginning of period		26,855			64,473			Cash and cash equivalents at beginning of period		135,701			26,855
Cash and cash equivalents at end of period	Cash and cash equivalents at end of period		$	101,171		$	64,220		Cash and cash equivalents at end of period		$	115,272		$	66,224


Supplemental Disclosures of Cash Flow Information:	Supplemental Disclosures of Cash Flow Information:					Supplemental Disclosures of Cash Flow Information:
Cash paid during the period for:	Cash paid during the period for:					Cash paid during the period for:
	Interest	$	35,085	$	50,799	Interest	$	20,358	$	24,958
	Taxes paid	$	12,902	$	—	Taxes paid	$	3,959	$	9,930
Supplemental disclosure of non-cash investing:	Supplemental disclosure of non-cash investing:					Supplemental disclosure of non-cash investing:
	Purchases of property and equipment funded by accounts payable	$	932	$	2,072	Change in accrued capital expenditures	$	1,388	$	123

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

1. Summary of Significant Accounting Policies

Description of Business

Hostess Brands, Inc. is a Delaware corporation headquartered in Kansas City, Missouri. The consolidated financial statements include the accounts of Hostess Brands, Inc. and its ~~wholly owned~~ subsidiaries (collectively, the “Company”). The Company is a leading packaged food company focused on developing, manufacturing, marketing, selling and distributing fresh sweet baked goods in the United States.

The Company’s operations are conducted through indirect operating subsidiaries that are wholly-owned by Hostess ~~brand dates to 1919 when the~~ Holdings, L.P. (“Hostess ~~CupCake was introduced to the public, followed by Twinkies~~® ~~in 1930. In 2013, the Legacy~~Holdings”), a direct subsidiary of Hostess ~~Equityholders (as defined below) acquired the Hostess brand out~~Brands, Inc. The Company holds 100% of the ~~bankruptcy liquidation proceedings~~general partnership interest in Hostess Holdings and a majority of ~~its prior owners, free~~the limited partnership interests therein and ~~clear~~consolidates Hostess Holdings in the Company’s consolidated financial statements. The remaining limited partnership interests in Hostess Holdings are held by the holders of ~~all past liabilities. After~~the outstanding shares of Class B common stock of Hostess Brands, Inc. These limited partnership interests in Hostess Holdings are reflected in our consolidated financial statements as a brief hiatus in production, the Company began providing Hostess products to consumers and retailers across the nation in July 2013. Today, the Company produces a variety of new and classic treats primarily under the Hostess® and Dolly Madison® group of brands, including Twinkies®, CupCakes, Ding Dongs®, HoHos®, Donettes® and Fruit Pies.non-controlling interest.

On November 4, 2016 (the “Closing Date”), in a transaction referred to as the “Business Combination,” the Company, then known as Gores Holdings, Inc. (“Gores Holdings”), acquired a controlling interest in Hostess Holdings, ~~L.P. (“Hostess Holdings”),~~ an entity owned indirectly by C. Dean Metropoulos (the “Metropoulos Entities”) and certain equity funds managed by affiliates of Apollo Global Management, LLC (the “Apollo Funds”, and together with entities controlled by Mr. Metropoulos, the “Legacy Hostess Equityholders”). Our “Sponsor” refers to Gores Sponsor, LLC, a Delaware limited liability company and the principal stockholder of Gores Holdings, Inc. prior to the Business Combination, and the “The Gores Group” refers to The Gores Group LLC, an affiliate of our Sponsor. In connection with the closing of the Business Combination, Gores Holdings, Inc. changed its name to “Hostess Brands, Inc.” and its trading symbols on NASDAQ from “GRSH” and “GRSHW,” to “TWNK” and “TWNKW”.

As a result of the Business Combination, for accounting purposes, Hostess Brands, Inc. is the acquirer and Hostess Holdings is the acquired party and accounting predecessor. Our financial statement presentation includes the financial statements of Hostess Holdings and its subsidiaries as “Predecessor” for periods prior to the completion of the Business Combination and of Hostess Brands, Inc., including the consolidation of Hostess Holdings and its subsidiaries, for periods from and after the Closing Date (referred to as the “Successor”). Unless the context requires otherwise, the “Company” refers to the Predecessor for periods prior to the Business Combination and to the Successor for periods after the Business Combination.

On May 10, 2016, the Company purchased the stock of Superior Cake Products, Inc. (“Superior”) located in Southbridge, Massachusetts. Superior manufactures and distributes eclairs, madeleines, brownies, and iced cookies sold in the “In-Store Bakery” section of retailers.

In the consolidated statements of operations, amortization of customer relationships (previously reported in the Predecessor’s unaudited quarterly financial statements within general and administrative) has been presented separately from general and administrative in the current period presentation, with conforming reclassifications made for the prior period presentation; recall and other costs (recoveries) (previously reported in the Predecessor‘s unaudited quarterly financial statements as a reduction of gross profit) have been presented as recall and other expenses along with amounts previously reported as loss on sale of property and equipment and bakery shutdown costs.

In the consolidated balance sheets, customer trade allowances (previously netted as an allowance against trade accounts receivable) are presented in current liabilities, with conforming reclassifications made for the prior period presentation.

For the three and nine months ended September 30, 2017, the Company recorded adjustments to previously reported gains on debt modifications, resulting in a pre-tax charge of $2.1 million and $1.6 million, respectively. The Company has determined that these corrections of errors are immaterial to the current and prior reported periods.

~~The Company has two reportable segments: Sweet Baked Goods and Other.~~

Basis of Presentation

The consolidated financial statements included herein have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) and the rules and regulations of the Securities and Exchange Commission (“SEC”). In the opinion of management, the unaudited consolidated financial statements include all adjustments necessary for the fair presentation of the Company’s financial position and of the results of operations and cash flows for the periods presented, all such adjustments were of a normal and recurring nature. The results of operations are not necessarily indicative of the results to be expected for the full fiscal year. The accompanying unaudited consolidated financial statements and notes thereto should be read in conjunction with the audited consolidated financial statements and notes thereto for the fiscal year ended December 31, ~~2016.~~2017.

Mr. Metropoulos and the Metropoulos Entities hold their equity investment in the Company primarily through Class B limited partnership units in the Company’s subsidiary, Hostess Holdings (“Class B Units”) and an equal number of shares of the Company’s Class B common stock (“Class B Stock”). The Company’s Class B Stock has voting, but no economic rights, while Hostess Holdings’ Class B Units have economic, but no voting rights. Each Class B Unit, together with a share of Class B Stock held by the Metropoulos Entities, is exchangeable for a share of the Company’s Class A common stock (or at the option of the Company, the cash equivalent thereof). The interest of the Metropoulos Entities in Hostess Holdings’ Class B Units is reflected in the Company’s consolidated financial statements as a non-controlling interest.

The Company has two reportable segments: Sweet Baked Goods and In-Store Bakery. Previously, the Company’s reportable segments were Sweet Baked Goods and Other. A change in the Company’s internal reporting structure during the fourth quarter of 2017 caused the Company to reassess its reportable segments. Prior period segment disclosures have been reclassified to conform with the current period presentation.

Adoption of New Accounting Standards

On January 1, 2018, the Company adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606), using the modified retrospective transition method. Under this method, results for reporting periods beginning January 1, 2018 are presented under Topic 606. Prior period amounts are not adjusted and continue to be reported in accordance with the historic accounting under Topic 605, with the cumulative effect of applying Topic 606 to prior period amounts recognized as an adjustment to opening retained earnings.The Company has elected to apply the new standard to contracts that are not complete as of January 1, 2018. Under this transition method, the Company deemed contracts to be not complete if, as of the date of transition, the Company had not fulfilled its performance obligations. The impact of the adoption of Topic 606 is further described in the Revenue Recognition section of this footnote.

On January 1, 2018, the Company adopted ASU No. 2017-12, Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities (ASU 2017-12). The adoption of this standard did not have a material impact on the consolidated financial statements.

In March 2018, the Company adopted ASU 2018-05, Income Taxes (Topic 740): Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118, which updates the income tax accounting in U.S. GAAP to reflect the SEC’s interpretive guidance released on December 22, 2017, when the legislation commonly referred to as the Tax Cuts and Jobs Act (“Tax Reform”) was signed into law. Additional information regarding the adoption of this standard is contained in Note 10-Income Taxes.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of the Company and its majority-owned or controlled subsidiaries (including those for which the Company is the primary beneficiary of a variable interest entity), collectively referred to as the Company. All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets and liabilities at the date of the financial statements and for the reported amounts of revenues and expenses during the reporting period. Management utilizes estimates, including, but not limited to, valuation and useful lives of tangible and intangible assets, reserves for trade and promotional allowances ~~workers’ compensation~~ and ~~self-insured medical claims.~~valuation of expected future payments under the tax receivable agreement. Actual results could differ from these estimates. ~~Certain prior year amounts have been reclassified to conform with current year presentation.~~

Accounts Receivable

Accounts receivable represents amounts invoiced to customers for ~~goods that~~performance obligations which have been ~~received by the customer.~~satisfied. As of ~~September~~June 30, ~~2017~~2018 and December 31, ~~2016,~~2017, the Company’s accounts receivable were ~~$100.7~~$110.5 million and ~~$89.2~~$101.0 million, respectively, which have been reduced by ~~allowances~~an allowance for damages occurring during shipment, quality claims and doubtful accounts in the amount of $2.5 million and ~~$1.9~~$2.1 million, respectively. In addition, there are customer trade allowances of ~~$35.2~~$42.0 million and ~~$36.7~~$40.5 million as of ~~September~~June 30, ~~2017~~2018 and December 31, ~~2016,~~2017, respectively, in current liabilities in the consolidated balance sheets.

Inventories

Inventories are stated at the lower of cost or ~~market~~net-realizable value on a first-in first-out basis.

Abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage) are expensed in the period they are incurred.

The components of inventories are as follows:


(In thousands)	September 30, 2017		December 31, 2016		June 30, 2018		December 31, 2017
	(Successor)		(Successor)
Ingredients and packaging	$	14,474	$	12,712	$	16,892	$	14,826
Finished goods	16,441		14,229		19,823		15,471
Inventory in transit to customers	2,897		3,503		1,476		4,048
	$	33,812	$	30,444	$	38,191	$	34,345

Impairment of Property and Equipment

For the ~~three and nine~~six months ended ~~September~~June 30, ~~2017 (Successor),~~2018, the Company recorded an impairment loss of ~~$1.0~~$1.4 million related to athe planned disposition of certain production ~~line that was idled when~~equipment before the ~~related production was transitioned to a third party. During the first quarter~~end of 2016 (Predecessor), the Company recorded an impairment loss of $7.3 million when it closed multiple production lines at the Indianapolis, Indiana bakery and transitioned production to other facilities.its useful life. The measurement of this loss was based on Level 3 inputs within the fair value measurement hierarchy. The remaining net book value of the equipment is included in other assets, net on the consolidated balance sheet.

Software Costs

Included in the caption ~~“Other~~“other assets” in the consolidated balance sheets is capitalized software in the amount of ~~$7.3~~$7.5 million and ~~$7.4~~$7.3 million at ~~September~~June 30, ~~2017~~2018 and December 31, ~~2016,~~2017, respectively. Capitalized software costs are amortized over their estimated useful life of five years commencing when such assets are ready for their intended use. Software amortization expense included in general and administrative was ~~$0.6 million and $1.8 million for the three and nine months ended September 30, 2017 (Successor), respectively, compared to $0.5~~$0.8 million and $1.4 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor)~~2018, respectively, compared to $0.6 million and $1.2 million for the three and six months ended June 30, 2017, respectively.

Revenue Recognition

Net revenue consists primarily of sales of packaged food products. The Company recognizes revenue when the obligations under the terms of its agreements with customers have been satisfied. The Company’s obligation is satisfied when control of the product is transferred to its customers along with the title, risk of loss and rewards of ownership. Depending on the arrangement with the customer, these criteria are met either at the time the product is shipped or when the product is received by such customer.

Customers are invoiced at the time of shipment or customer pickup based on credit terms established in accordance with industry practice. Invoices generally require payment within 30 days. Net revenue is recognized in an amount that reflects the consideration the Company expects to be entitled to in exchange for that product. Amounts billed to customers related to shipping and handling are classified as net revenue. A provision for payment discounts and other allowances is estimated based on the Company’s historical performance or specific terms with the customer. The Company generally does not accept product returns and provides these allowances for anticipated expired or damaged products.

Trade promotions, consisting primarily of customer pricing allowances, merchandising funds and consumer coupons, are offered through various programs to customers and consumers. A provision for estimated trade promotions is recorded as a reduction of revenue in the same period when the sale is recognized.

The Company also offers rebates based on purchase levels, product placement locations in retail stores and advertising placed by customers. The ultimate cost of these programs is dependent on certain factors such as actual purchase volumes or customer activities and is the subject of significant management estimates. The Company accounts for these programs as variable consideration and recognizes a reduction in revenue in the same period as the underlying program.

For product produced by third parties, management evaluates whether the Company is the principal (i.e., ~~respectively.~~report revenue on a gross basis) or agent (i.e., report revenue on a net basis). Management has determined that it is the principal in all cases, since it establishes its own pricing for such product, generally assumes the credit risk for amounts billed to its customers, and often takes physical control of the product before it is shipped to customers.

The Company utilizes a practical expedient approach under Topic 606 and does not disclose the value of unsatisfied performance obligations for (i) contracts with an original expected length of one year or less and (ii) contracts for which the Company recognizes revenue at the amount to which the Company has the right to invoice for services performed.

See Note 4 - Segment Reporting to the Company’s consolidated financial statements for a disaggregation of net revenue.

The adoption of Topic 606 had no significant impact on the Company’s consolidated statement of operations for the three or six months ended June 30, 2018 or the consolidated balance sheet as of June 30, 2018.

The cumulative effect of the changes made to the Company’s consolidated January 1, 2018 balance sheet for the adoption of Topic 606 was as follows (in thousands):



	Balance at December 31, 2017		Adjustments Due to Topic 606			Balance at January 1, 2018
Current assets:
Accounts receivable, net	$	101,012	$	1,000		$	102,012
Inventories	34,345		(531		)	33,814

Current liabilities:
Accounts payable	49,992		103			50,095

Long-term liabilities:
Deferred tax liability	267,771		83			267,854

Stockholders’ equity:
Retained earnings	208,279		198			208,477
Non-controlling interest	342,240		85			342,325

The adjustments shown above are primarily attributed to a change in the criteria used to determine when the Company’s performance obligation is satisfied. Prior to the adoption of Topic 606, the Company’s performance obligation was satisfied when risk of loss related to the product transferred to the customer. After implementing Topic 606, the Company’s performance obligation is satisfied based on a set of criteria including the customer’s obligation to pay, physical possession, transfer of legal title, transfer of risk and rewards of ownership and the customer’s acceptance of the product. Depending on the arrangement with the customer, the application of this new criteria changed the timing of revenue recognition for certain contracts.

Concentrations

The Company has one customer that accounted for 10% or more of the Company’s total net revenue. The percentage of total net revenues for this customer is presented below by segment:


	Three Months Ended				Nine Months Ended				Three Months Ended				Six Months Ended
(% of Consolidated Net Revenues)	September 30, 2017		September 30, 2016		September 30, 2017		September 30, 2016		June 30, 2018		June 30, 2017		June 30, 2018		June 30, 2017
	(Successor)		(Predecessor)		(Successor)		(Predecessor)
Sweet Baked Goods	18.8	%	18.1	%	18.9	%	20.3	%	18.4	%	19.9	%	18.1	%	19.1	%
Other	0.9	%	3.1	%	0.8	%	1.5	%
In-Store Bakery									0.6		0.7		0.6		0.7
Total	19.7	%	21.2	%	19.7	%	21.8	%	19.0	%	20.6	%	18.7	%	19.8	%

~~Advertising Costs~~

~~Advertising costs, through both national and regional media, are expensed in the period in which the advertisements are run. These costs totaled $0.3 million and $0.6 million~~ for the three and nine months ended September 30, 2017 (Successor), and $0.4 million and $1.5 million for the three and nine months ended September 30, 2016 (Predecessor), respectively. These costs are recorded within advertising and marketing expense on the consolidated statement of operations.

~~Derivatives~~

In April 2017, the Company entered into an interest rate swap contract to mitigate its exposure to changes in the variable interest rate on its long-term debt. This contract was designated as a cash flow hedge. Changes in the fair value of this instrument are recognized in accumulated other comprehensive loss in the consolidated balance sheets and reclassified into earnings in the period in which the hedged transaction affects earnings. Hedging ineffectiveness, if any, is recognized in earnings in the consolidated statements of operations. Payments made under this contract are included in the supplemental disclosure of interest in the consolidated statement of cash flows.Collective Bargaining Agreements

~~New Accounting Pronouncements~~

~~In August 2017, the FASB issued Accounting Standards Update No. 2017-12 (“ASU 2017-12”),~~ ~~Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities, which improves the financial reporting~~As of ~~hedging relationships to better portray the economic results of an entity's risk management activities in its financial statements and make certain targeted improvements to simplify the application~~June 30, 2018, approximately 46.3%, of the ~~hedge accounting guidance in current GAAP. The amendments in this update better align an entity's risk management activities and financial reporting for hedging relationships through changes~~Company’s employees are covered by collective bargaining agreements, including 14.4% subject to ~~both the designation and measurement guidance for qualifying hedging relationships and presentation of hedge results. The effective date for the standard is for fiscal years beginning after~~collective bargaining agreements which will expire before December ~~15,~~31, 2018. ~~The Company does not expect the adoption of this standard to have a material impact on its consolidated financial position, results of operations or cash flows.~~

~~In May 2017, the FASB issued~~

Accounting Standards ~~Update No. 2017-9 (“ASU 2017-9”),~~ ~~Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting~~, which provides guidance about what changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. Per ASU 2017-9, an entity should account for the effects of a modification unless all the following are met: (1) the fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the modified award is the same as the fair value (or calculated value or intrinsic value, if such an alternative measurement method is used) of the original award immediately before the original award is modified. If the modification does not affect any of the inputs to the valuation technique that the entity uses to value the award, the entity is not required to estimate the value immediately before and after the modification, (2) the vesting conditions of the modified award are the same as the vesting conditions of the original award immediately before the original award is modified, and (3) the classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified. The current disclosure requirements in Topic 718 apply regardless of whether an entity is required to apply modification accounting under the amendments in ASU 2017-9. The Company has early adopted ASU 2017-9 for the three months ended September 30, 2017. The adoption of this standard did not have a material impact on the Company’s consolidated financial position, results of operations, or cash flows.

~~In January 2017, the FASB issued Accounting Standards Update No. 2017-4 (“ASU 2017-4”),~~ ~~Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment~~. ASU 2017-4 eliminates Step 2 from the goodwill impairment test. Step 2 required an entity to determine the fair value at the impairment testing date of its assets and liabilities following the procedure that would be required in a business combination. Instead, an entity should perform its goodwill impairment test and recognize an impairment charge by comparing the fair value of a reporting unit with its carrying amount. ASU 2017-4 will become effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted. The Company early adopted ASU 2017-4 and does not expect adoption to have a material impact on its consolidated financial position, results of operations or cash flows. Our goodwill impairment tests have not proceeded to Step 2 in any measurement period.Issued but Not yet Adopted

In February 2016, ~~the FASB issued~~ ASU No. 2016-02, Leases (“ASU 2016-02”)~~, which is intended~~ was issued to improve financial reporting about leasing transactions. This standard requires a lessee to record on the balance sheet the assets and liabilities for the rights and obligations created by lease terms of more than 12 months. This standard will be effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, and early adoption is permitted. The Company is currently evaluating the impact the adoption of ASU 2016-02 will have on its consolidated financial position, results of operations orand cash flows.

~~In May 2014, the FASB issued ASU No. 2014-09,~~ ~~Revenue from Contracts with Customers~~ (Topic 606), (“ASU 2014-09”), which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The new standard is effective for the Company on January 1, 2018. The standard permits adoption retrospectively to each prior report period presented, retrospectively to each prior report period presented utilizing practical expedient(s), or retrospectively with the cumulative effect of initially applying the standard at the date of initial application. In March 2016 and April 2016, the FASB issued ASU No. 2016-08 and ASU No. 2016-10, respectively, which clarifies the implementation guidance on principal versus agent considerations and also identifies performance obligations and the licensing implementation guidance, while retaining the related principles for those areas. The Company is in the process of completing its review of customer contracts to determine the impact that Topic 606 will have on the Company's consolidated financial statements. The Company plans to adopt the standard in the first quarter of 2018 retrospectively with the cumulative effect of initially applying the standard as of January 1, 2018.

The planned adoption dates for all standards not yet implemented are based on the Company’s assessment that it will lose its status as an Emerging Growth Company, as defined in the Jumpstart Our Business Startups Act (JOBS Act), as of December 31, 2017.

2. ~~Business Combination~~Aryzta Transaction

On February 1, 2018 (the “Purchase Date”), the Company acquired certain U.S. breakfast assets of Aryzta, LLC, including a bakery facility and certain brand names. The Company acquired the assets to expand its product portfolio and to gain previously outsourced manufacturing capabilities for its existing product portfolio. The assets acquired and liabilities assumed have preliminarily been determined to constitute a business and will be recorded at their estimated fair values as of the Purchase Date under the acquisition method of accounting.

Consideration for this acquisition included a $23.9 million cash payment. The Company is still finalizing the purchase price and the allocation of the purchase price to the individual assets acquired and liabilities assumed. The purchase price ~~for~~and allocation included in the ~~Business Combination was allocated~~June 30, 2018 consolidated balance sheet are based on management’s best estimate and are preliminary and subject to change. To assist management in the ~~fair value of~~allocation, the Company has engaged a valuation specialist to prepare an appraisal. The Company will finalize the amounts recognized as the information necessary to complete the analysis is obtained.

The provisional amounts for the assets acquired and liabilities assumed ~~based~~as of the Purchase Date are as follows (in thousands):



Inventory	$	8,162
Property and equipment	16,838
Other liabilities	(1,090		)
Net assets acquired	$	23,910

Based on the preliminary ~~valuations performed by the Company as~~assessment of the ~~Closing Date. During the nine months ended September 30, 2017 the Company revised its estimate~~purchase allocation, no goodwill or other intangible assets have been recorded as a result of the future cash tax savings under the tax receivable agreement. This resulted in a $8.1 million decrease in goodwill, a decrease to the tax receivable agreement liability of $3.0 million, a $5.5 million decrease to deferred tax liabilities, and an increase to accrued expenses and other liabilities of $0.4 million.

this transaction.

3~~. Stock-Based Compensation~~

~~Hostess Brands, Inc. 2016 Equity Incentive Plan (Successor)~~

The Hostess Brands, Inc. 2016 Equity Incentive Plan (the “2016 Plan”) provides for the grant of various equity-based incentive awards to directors of the Company, certain members of Company management, and service providers to the Company. The types of equity-based awards that may be granted under the 2016 Plan include: stock options, stock appreciation rights (SARs), restricted stock, restricted stock units (RSUs), and other stock-based awards. There are 7,150,000 registered shares of Class A common stock reserved for issuance under the 2016 Plan. All awards issued under the 2016 Plan may only be settled in shares of Class A common stock.

~~Restricted Stock Units~~

~~During the nine months ended September 30, 2017, the following RSUs were granted under the 2016 Plan:~~

~~22,732 RSUs to directors of the Company. The units vest on November 4, 2017. These awards only contain service conditions.~~

297,500 RSUs to certain members of management. One-third of the units vest at each of the following dates: January 1, 2018, November 4, 2018, and November 4, 2019. Vesting is dependent upon positive earnings per share for the fiscal year ending immediately prior to the vesting date. Management has determined it is probable that these performance conditions will be met.

~~18,116 RSUs to certain members of management. One-third of the units vest at each of the following dates: June 1 of each of 2018, 2019, and 2020.These awards only contain service conditions.~~

~~372,036 RSUs to certain members of management. One-third of the units vest at each of the following dates; November 4 of each of 2017, 2018 and 2019. These awards only contain service conditions.~~

715,406 RSUs to certain members of management. The units vest on December 31, 2019. At the end of each of three annual performance periods ending December 31, 2017, 2018 and 2019, a portion of the units will be banked if the Company achieves certain EBITDA targets. Banked shares continue to be subject to continued service through the December 31, 2019 vesting date. Management has determined it is probable that a portion of the EBITDA target will be met for the 2017 annual performance period. Depending on actual performance during each performance period, award recipients have the opportunity to receive up to 225% of the granted units.

For the three and ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor), $1.8~~2018, the Company incurred less than$0.1 million ~~and $4.1 million~~ of ~~compensation expense~~expenses related to the ~~RSUs was recognized within general and administrative~~acquisition. These expenses ~~on the consolidated statement of operations, respectively.~~

~~The following table summarizes the activity of the Company’s unvested RSUs for the nine months ended September 30, 2017:~~

Restricted Stock
Units Weighted Average
Grant Date
Fair Value
Unvested units as of December 31, 2016 (Successor) —
$ —
Total Granted 1,425,790
15.77
Forfeited (79,543 ) 15.78
Vested —
—
Unvested as of September 30, 2017 (Successor) 1,346,247
$ 15.77

As of September 30, 2017, there was $17.1 million of total unrecognized compensation cost related to non-vested RSUs granted under the 2016 Plan; that cost is expected to be recognized over the vesting periodsare classified as ~~described above.~~

~~Restricted Stock Awards~~

On March 23, 2017, the Company granted 435,000 shares of restricted stock to the Company’s Chief Executive Officer under the 2016 Plan. One-third of the shares vest on each of the following dates: January 1, 2018 and November 4 of each of 2018 and 2019. Vesting at each date is also dependent upon positive earnings per share for the fiscal year ending immediately prior to the vesting date. Each restricted stock award had a grant date fair value based on the closing price of the Company’s common stock on the grant date and management’s assumption that there will be no forfeitures.

Management has determined that the shares of restricted stock are unvested stock awards as defined by accounting standards. If the vesting requirements of a restricted stock award are not satisfied, or the performance conditions not attained, the award will be forfeited and the shares of Class A common stock subject to the award shall be returned to the Company.

As of September 30, 2017, there was $4.1 million of total unrecognized compensation cost related to the non-vested restricted stock; that cost is expected to be recognized over the vesting periods described above. For the three and nine months ended September 30, 2017 (Successor), the Company recognized expense of $1.3 million and $2.8 million related to the restricted stock awards within general and administrative expenses on the consolidated statement of operations, respectively.

~~The following table summarizes the activity of the Company’s restricted stock awards for the nine months ended September 30, 2017:~~

Shares of
Restricted Stock Weighted Average
Grant Date Fair Value
Unvested units as of December 31, 2016 (Successor)
—
$ —
Granted
435,000
15.78
Forfeited
—
—
Vested
—
—
Unvested as of September 30, 2017 (Successor)
435,000
$ 15.78

~~Stock Options~~

During the nine months ended September 30, 2017, the Company granted 1,155,788 stock options to certain members of management under the Plan. The weighted average grant date fair value of $5.03 per option was estimated using the Black-Scholes option-pricing model (level 3) with the following assumptions:



	~~Nine Months~~ ~~Ended~~ ~~September 30, 2017~~
~~Expected volatility~~ ⁽¹⁾	~~27.53%~~
~~Expected dividend yield~~ ⁽²⁾	—%
~~Expected option term~~ ⁽³⁾	~~6.25 years~~
~~Risk-free rate~~ ⁽⁴⁾	~~2.1%~~


~~(1)~~	~~The expected volatility assumption was calculated based on a peer group analysis of stock price volatility with a look back period based on the expected term and ending on the grant date.~~


~~(2)~~	As of September 30, 2017, we have not paid any dividends on our common stock. As of the stock option grant date, we did not anticipate paying any dividends on our common stock over the term of the stock options. Option holders have no right to dividends prior to the exercise of the options.


~~(3)~~	We utilized the simplified method to determine the expected term of the stock options since we do not have sufficient historical exercise data to provide a reasonable basis upon which to estimate expected term.


~~(4)~~	~~The risk-free interest rate was based on the U.S. Treasury yield curve in effect at the time of grant which corresponds to the expected term of the stock options.~~

The stock options vest in four equal annual installments on varying dates through June 2021. As of September 30, 2017, there was $4.5 million of total unrecognized compensation cost related to non-vested stock options outstanding under the 2016 Plan; that cost is expected to be recognized over the vesting periods. For the three and nine months ended September 30, 2017 (Successor), there was $0.6 million and $1.1 million, respectively, of expense related to the stock options recognized within general and administrativebusiness combination transaction costs on the consolidated statement of operations.

~~The following table summarizes the activity of the Company’s unvested stock options for the nine months ended September 30, 2017 (Successor):~~

Number
of
Options Weighted Average
Remaining
Contractual Life
(years) Weighted
Average
Exercise Price Weighted
Average Grant
Date Fair Value
Outstanding as of December 31, 2016 (Successor) —
—
$ —
$ —
Granted 1,155,788
5.77
15.85
5.03
Exercised —
—
—
—
Forfeited (44,371 ) 5.75
15.78
5.03
Outstanding as of September 30, 2017 (Successor) 1,111,417
5.77
$ 15.85
$ 5.03
Exercisable as of September 30, 2017 (Successor) —
—
—
—

~~Hostess Management, LLC Equity Interest Plan (Predecessor)~~

The Company established a profits interest plan under the 2013 Hostess Management, LLC (“Hostess Management”) Equity Incentive Plan (“2013 Plan”) to allow members of the management team to participate in the success of the Company. The 2013 Plan consisted of an approximate 9% ownership interest in the Company’s subsidiary, New Hostess Holdco, LLC. Hostess Management had three classes of units and required certain returns to ranking classes before other classes participated in subsequent returns of Hostess Management.

~~The Company recognized unit-based compensation expense of $0.3 million and $0.7 million for~~For the three and ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor), within general~~2018, the operations of the acquired assets provided net revenue of $20.8 million and ~~administrative expense on~~$35.4 million, respectively, and negative gross profit of $6.3 million and $10.7 million, respectively. The negative gross profit does not reflect the ~~consolidated statement~~allocation of ~~operations, respectively. All outstanding units under~~shared costs incurred by the ~~2013 Plan were redeemed and~~Company. Due to the ~~2013 Plan~~nature of these costs, the Company determined it was ~~terminated on November 4, 2016. As of~~ ~~December 31, 2016, there were no outstanding units.~~impracticable to allocate to individual bakeries.

~~Related Party Stock Awards~~

~~See note 15 for information regarding additional equity awards not issued under the 2016 or 2013 Plans.~~

4.3. Property and Equipment

Property and equipment consists of the following:


(In thousands)	September 30, 2017			December 31, 2016			June 30, 2018			December 31, 2017
	(Successor)			(Successor)
Land and buildings	$	31,296		$	30,275		$	37,415		$	32,088
Machinery and equipment	130,778			112,221			169,633			141,995
Construction in progress	15,363			12,334			13,330			13,489
	177,437			154,830			220,378			187,572
Less accumulated depreciation	(10,506		)	(1,606		)	(20,539		)	(13,451		)
	$	166,931		$	153,224		$	199,839		$	174,121

Depreciation expense was ~~$3.1~~$3.8 million and ~~$8.9~~$7.2 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor), and $2.5~~2018, respectively, compared to $3.0 million and ~~$6.7~~$5.8 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor),~~2017, respectively.

5.4. Segment Reporting

The Company has two reportable segments: Sweet Baked Goods and ~~Other.~~In-Store Bakery. The Company’s Sweet Baked Goods segment consists of sweet baked goods that are sold under the Hostess® and Dolly Madison® ~~brands. Other consists of~~brands, Hostess® branded bread and buns and frozen retail ~~(which~~products. The operations attributed to assets acquired from Aryzta are included in the Sweet Baked Goods segment. The In-Store Bakery segment consists of ~~deep-fried Twinkies®, launched in August 2016), “In-Store Bakery,” or “ISB” (which includes Superior)~~Superior® and ~~licensing.~~Hostess® branded products sold through the in-store bakery section of grocery and club stores.

~~The Company evaluates~~We evaluate performance and ~~allocates~~allocate resources based on net revenue and gross profit. Information regarding the operations of these reportable segments is as follows:


(In thousands)	Three Months Ended September 30, 2017		Three Months Ended September 30, 2016		Nine Months Ended September 30, 2017		Nine Months Ended September 30, 2016		Three Months Ended June 30, 2018		Three Months Ended June 30, 2017		Six Months Ended June 30, 2018		Six Months Ended June 30, 2017
	(Successor)		(Predecessor)		(Successor)		(Predecessor)
Net revenue:
Sweet Baked Goods	$	173,552	$	174,473	$	524,731	$	508,288	$	204,237	$	191,695	$	403,529	$	366,488
Other	18,698		21,724		55,236		40,469
In-Store Bakery									11,612		11,483		21,063		21,228
Net revenue	$	192,250	$	196,197	$	579,967	$	548,757	$	215,849	$	203,178	$	424,592	$	387,716

Depreciation and amortization:
Sweet Baked Goods	$	8,703	$	2,585	$	25,587	$	8,119	$	9,857	$	8,899	$	19,251	$	17,522
Other	1,019		583		2,989		935
In-Store Bakery									700		689		1,397		1,332
Depreciation and amortization	$	9,722	$	3,168	$	28,576	$	9,054	$	10,557	$	9,588	$	20,648	$	18,854

Gross profit:
Sweet Baked Goods	$	72,965	$	76,777	$	230,217	$	227,322	$	64,359	$	85,486	$	133,797	$	162,268
Other	5,400		5,802		15,889		12,008
In-Store Bakery									2,498		2,958		4,301		5,472
Gross profit	$	78,365	$	82,579	$	246,106	$	239,330	$	66,857	$	88,444	$	138,098	$	167,740

Capital expenditures (1):
Sweet Baked Goods	$	9,109	$	9,312	$	24,772	$	25,701	$	13,432	$	7,662	$	22,598	$	15,645
Other	205		161		643		211
In-Store Bakery									164		167		217		438
Capital expenditures	$	9,314	$	9,473	$	25,415	$	25,912	$	13,596	$	7,829	$	22,815	$	16,083


(1)	Capital expenditures consists of purchases of property and equipment and acquisition and development of software assets paid in cash or acquired through accounts payable during the three and ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor)~~2018 and ~~2016 (Predecessor).~~2017.

Total assets by reportable segment are as follows:


(In thousands)	September 30, 2017		December 31, 2016		June 30, 2018		December 31, 2017
	(Successor)		(Successor)
Total segment assets:
Sweet Baked Goods	$	2,719,743	$	2,633,758	$	2,893,075	$	2,884,642
Other	206,930		214,134
In-Store Bakery					89,554		81,633
Total segment assets	$	2,926,673	$	2,847,892	$	2,982,629	$	2,966,275

~~6. Goodwill and~~5. Intangible Assets

Goodwill and intangible assets as of September 30, 2017 and December 31, 2016 were recognized as part of the purchase price allocation of the Business Combination as of the Closing Date. The amount allocated to goodwill and other intangible assets is subject to final valuation adjustments. These adjustments could have a material impact on goodwill and other intangible assets. During the nine months ended September 30, 2017, the purchase price allocation for the Business Combination was adjusted, resulting in a $8.1 million decrease to goodwill.

~~Activity of goodwill is presented below by reportable segment:~~

(In thousands) Sweet Baked Goods Other Total
Balance as of December 31, 2016 (Successor) $ 518,759
$ 69,701
$ 588,460
Measurement period adjustment of the Business Combination (8,111 ) —
(8,111 )
Balance as of September 30, 2017 (Successor) $ 510,648
$ 69,701
$ 580,349

Intangible assets consist of the following:


(In thousands)	September 30, 2017			December 31, 2016			June 30, 2018			December 31, 2017
	(Successor)			(Successor)
Intangible assets with indefinite lives (Trademarks and Trade Names)	$	1,408,848		$	1,408,848		$	1,408,848		$	1,408,848
Intangible assets with definite lives (Customer Relationships)	542,011			542,011			542,011			542,011
Less accumulated amortization (Customer Relationships)	(21,777		)	(3,916		)	(39,760		)	(27,771		)
Intangible assets, net	$	1,929,082		$	1,946,943		$	1,911,099		$	1,923,088

Amortization expense was $6.0 million and ~~$17.9~~$12.0 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor)~~2018 and ~~$0.2~~$6.0 million and ~~$0.5~~$11.9 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor),~~2017, respectively. The unamortized portion of customer relationships will be expensed over their remaining useful life, from 18 to 23 years. The weighted-average amortization period as of ~~September~~June 30, ~~2017~~2018 for customer relationships was ~~21.8~~21.0 years. ~~Future expected amortization expense is as follows:~~

(In thousands)
Remainder of 2017 $ 5,994
2018 23,977
2019 23,977
2020 23,977
2021 23,977
2022 and thereafter 418,332

7.6. Accrued Expenses

Included in accrued expenses are the following:


(In thousands)	September 30, 2017		December 31, 2016		June 30, 2018		December 31, 2017
	(Successor)		(Successor)
Payroll, vacation and other compensation					$	6,330	$	4,342
Annual incentive bonuses	$	4,141	$	5,997	1,136		4,259
Payroll, vacation and other compensation	3,496		5,121
Workers compensation reserve					1,666		1,650
Self-insurance reserves	1,310		2,091		1,338		1,192
Taxes					99		99
Accrued interest	224		4,885		241		338
Current income taxes payable	113		2
Workers compensation reserve	1,650		1,321
Interest rate swap contract	99		—
Litigation (Note 14)	—		1,100
Other	18		1,139
	$	11,051	$	21,656	$	10,810	$	11,880

8.7. Debt

On May 19, 2017, the Company’s subsidiary, Hostess Brands, LLC, and its lenders amended the New First Lien Term Loan (Second Amended First Lien Term Loan). The Second Amended First Lien Term Loan requires quarterly payments of interest at a rate of the greater of the applicable LIBOR or 0.75% per annum (LIBOR Floor) plus an applicable margin of 2.50% per annum or the base rate plus an applicable margin of 1.50% per annum. The principal is paid quarterly at a rate of 0.25% of the aggregate principal balance with the remaining principal amount due upon maturity on August 3, 2022. The Second Amended First Lien Term Loan is secured by substantially all the Company’s present and future assets through a guarantor agreement. The interest rate charged to the Company on the New First Lien Term Loan from January 1, 2017 through May 18, 2017 was 4.00%. From May 19, 2017 through September 30, 2017, the interest rate charged to the Company on the Second Amended First Lien Term Loan was 3.73%.

A summary of the carrying value of the debt and the capital lease obligation is as follows:


(In thousands)	September 30, 2017			December 31, 2016			June 30, 2018			December 31, 2017
	(Successor)			(Successor)
Second Amended First Lien Term Loan (3.7% as of September 30, 2017)
Principal	$	993,763		$	—
Unamortized debt premium and issuance costs	5,462			—
	999,225			—
New First Lien Term Loan (4.0%)
Third First Lien Term Loan (4.2% as of June 30, 2018)
Principal	—			998,750			$	988,794		$	993,762
Unamortized debt premium and issuance costs	—			5,396			4,315			4,857
	—			1,004,146			993,109			998,619
Capital lease obligation (6.8%)	608			724			487			569
Total debt and capital lease obligation	999,833			1,004,870			993,596			999,188
Less: Amounts due within one year	(11,357		)	(11,496		)	(11,268		)	(11,268		)
Long-term portion	$	988,476		$	993,374		$	982,328		$	987,920

At ~~September~~June 30, ~~2017,~~2018, minimum debt repayments under the ~~Second Amended~~Third First Lien Term Loan are due as follows:

(In thousands)
Remainder of 2017 $ 2,491
2018 9,963
2019 9,963
2020 9,963
2021 9,963
2022 and thereafter 951,420

~~Revolving Credit Facility~~

The Company had no outstanding borrowings under its Revolving Credit Agreement (the “Revolver”) as of September 30, 2017. See Note 14. Commitments and Contingencies for information regarding the letters of credits, which reduce the amount available for borrowing under the Revolver. Interest expense from the Revolver debt fee amortization was $0.1 million and $0.3 million for the three and nine months ended September 30, 2016 (predecessor), respectively.



(In thousands)
Remainder of 2018	$	4,969
2019	9,938
2020	9,938
2021	9,938
2022	954,011

9.8. Interest Rate Swap

~~In April 2017,~~To reduce the effect of interest rate fluctuations, the Company entered into an interest rate swap contract with a counter party to make a series of payments based on a fixed interest rate of 1.78% and receive a series of payments based on the greater of LIBOR or 0.75%. Both the fixed and floating payment streams are based on a notional amount of $500 million at the inception of the contract and will be reduced by $100 million each year of the five-year contract. As of June 30, 2018, the notional amount is $400 million. The Company entered into this transaction to reduce its exposure to changes in cash flows associated with its variable rate debt and has designated this derivative as a cash flow hedge. At ~~September~~June 30, ~~2017,~~2018, the effective ~~fixed~~ interest rate on the long-term debt hedged by this contract was ~~4.28%~~4.03%.

~~For the~~ three and nine months ended September 30, 2017, no amounts were recorded in the consolidated statements of operations for ineffectiveness and there were no reclassifications from accumulated other comprehensive loss into earnings. As of ~~September~~June 30, 2018 and December 31, 2017, the fair value of the interest rate swap contract of ~~$0.1~~$8.0 million and $2.9 million was reported within ~~accrued expenses and~~ other ~~liabilities~~assets, net on the consolidated balance sheet. ~~$1.5 million of unrealized losses recognized in accumulated other comprehensive income as of September 30, 2017 are expected to be reclassified into interest expense through September 30, 2018.~~ The fair value of the interest rate swap contract is measured on a recurring basis by netting the discounted future fixed cash payments and the discounted expected variable cash receipts. The variable cash receipts are based on the expectation of future interest rates (forward curves) derived from observed market interest rate curves (Level 2).

~~10.Equity~~

The Company’s authorized common shares consist of three classes: 200,000,000 shares of Class A common stock, 50,000,000 shares of Class B common stock, and 10,000,000 shares of Class F common stock (none of which were issued and outstanding at September 30, 2017 or December 31, 2016). As of September 30, 2017 and December 31, 2016, there were 99,992,183 and 98,250,917 shares of Class A common stock issued and outstanding, respectively. At September 30, 2017 and December 31, 2016 there were 30,398,777 and 31,704,988 shares of Class B common stock issued and outstanding, respectively.

Shares of Class A common stock and Class B common stock have identical voting rights. However, shares of Class B common stock do not participate in earnings or dividends of the Company. Ownership of shares of Class B common stock is restricted to owners of Class B units in Hostess Holdings. Class B units in Hostess Holdings may be exchanged (together with the cancellation of an equivalent number of shares of Class B common stock) by the holders thereof for, at the election of the Company, shares of Class A common stock or the cash equivalent of such shares. During the three months ended September 30, 2017, there was no activity. During the nine months ended September 30, 2017, 1,306,211 Class B shares were exchanged for Class A common shares.

As of September 30, 2017 and December 31, 2016, there were 37,499,890 and 37,500,000 public warrants, respectively, and 19,000,000 private placement warrants outstanding. Each warrant entitles its holder to purchase one-half of one share of our Class A common stock at an exercise price of $5.75 per half share, to be exercised only for a whole number of shares of our Class A common stock. The warrants became exercisable on December 4, 2016 (30 days after the completion of the Business Combination on November 4, 2016) and expire on December 4, 2021, or earlier upon redemption or liquidation. The Company may call the outstanding warrants for redemption at a price of $0.01 per warrant, if the last sale price of the Company’s common stock equals or exceeds $24.00 per share for any 20 trading days within a 30 trading day period ending on the third business day before the Company sends the notice of redemption to the warrant holders. The private placement warrants, however, are nonredeemable so long as they are held by the Company’s Sponsor or its permitted transferees. During the three months ended September 30, 2017, the private placement warrants were registered with the SEC for future potential sales to the public. When sold to the public, the private placement warrants will become public warrants.

~~11.~~9. Earnings per Share

Basic earnings per share is calculated by dividing net income attributable to the Company’s Class A ~~shareholders~~stockholders for the period by the weighted average number of Class A common shares outstanding for the period excluding non-vested restricted stock awards. In computing ~~dilutive~~diluted earnings per share, basic earnings per share is adjusted for the assumed issuance of all applicable potentially dilutive share-based awards, including: public and private placement warrants, ~~RSUs,~~ restricted stock awards, restricted stock units, and stock options.

Below are basic and diluted net income per share:


	Three Months Ended September 30, 2017		Nine Months Ended September 30, 2017		Three Months Ended June 30, 2018		Three Months Ended June 30, 2017		Six Months Ended June 30, 2018		Six Months Ended June 30, 2017
	(Successor)		(Successor)
Numerator:
Net income attributable to Class A shareholders (in thousands)	$	9,549	$	44,211
Net income attributable to Class A stockholders (in thousands)					$	19,283	$	18,830	$	43,123	$	34,662
Denominator:
Weighted-average Class A shares outstanding - basic (excluding non-vested restricted stock awards)	99,557,183		98,920,808
Weighted-average Class A shares outstanding - basic					99,939,642		98,943,690		99,916,161		98,600,075
Dilutive effect of warrants	5,717,416		6,844,613		4,668,452		8,144,735		4,856,923		7,371,050
Dilutive effect of restricted stock awards and RSUs	143,967		75,252
Dilutive effect of restricted stock and restricted stock units					165,000		95,916		138,390		33,773
Weighted-average shares outstanding - diluted	105,418,566		105,840,673		104,773,094		107,184,341		104,911,474		106,004,898

Net income per Class A share - basic	$	0.10	$	0.45	$	0.19	$	0.19	$	0.43	$	0.35

Net income per Class A share - dilutive	$	0.09	$	0.42
Net income per Class A share - diluted					$	0.18	$	0.18	$	0.41	$	0.33

For ~~both~~ the three and ~~nine~~six months ended ~~September~~June 30, 2018 and 2017, stock options were excluded from the computation of diluted net income per share because the assumed proceeds from the awards’ exercise was greater than the average market price of the common shares.

~~12.~~10. Income Taxes

The Company is subject to U.S. federal, state and local taxes on its allocable portion of the income of Hostess Holdings, a partnership for U.S. federal and most applicable state and local taxes. As a partnership, Hostess Holdings is itself not subject to U.S. federal and certain state and local income taxes. The operations of Hostess Holdings include those of its C Corporation subsidiaries.

The income tax expense in the accompanying consolidated statement of operations is based on an estimate of the Company’s annual effective income tax rate and adjusted for discrete items, if any. The Company’s estimated annual effective tax rate based on annual projected earnings for the year ending December 31, ~~2017~~2018 is ~~projected to be 29.6%~~20.4% prior to ~~adjusting for~~taking into account any discrete items. During the three and six months ended ~~September~~June 30, ~~2017,~~2018, the Company recorded a ~~nonrecurring~~ discrete ~~charge~~income tax benefit of ~~approximately $2.2~~$5.0 million related to a change in the Company’s estimated state tax ~~law. The Company’s effective tax rate differs from~~rate. During the ~~statutory rate primarily due to~~six months ended June 30, 2018, the ~~portion of net income attributed to the non-controlling interest which represents an ownership interest in~~Company also recorded a ~~partnership for income tax purposes.~~

Deferred income taxes are provided for the effects of temporary differences between the tax basis of an asset or liability and its reported amount in the accompanying consolidated balance sheets. The recognition of deferred tax assets is based on management’s belief that it is more likely than not that the tax benefits associated with temporary differences, net operating loss carryforwards and tax credits will be utilized. The Company is in an overall net deferred tax liability position of $366.5 million and $353.8 million as of September 30, 2017 and December 31, 2016, respectively, primarily due to temporary differences in the book basis as compared to the tax basis of its investment in Hostess Holdings.

The Company does not believe it has any significant uncertain tax positions and therefore has no unrecognized tax benefits at September 30, 2017, that if recognized, would affect the annual effective tax rate. Interest and penalties related to income tax liabilities, if incurred, are included indiscrete income tax expense inof $1.6 million related to the ~~consolidated statement~~buyout of ~~operations.~~

~~13. Tax Receivable Agreement~~

~~The~~the tax receivable agreement ~~was~~ entered into ~~by the Company~~ in connection with the Business Combination (the “Tax Receivable Agreement”) ~~and generally provides~~.

At December 31, 2017, the Company recorded provisional amounts for the ~~payment by~~impact of re-measurement on its deferred taxes related to Tax Reform as set forth under SAB No. 118 guidance. Through June 30, 2018, no adjustments were made to the provisional amounts. These provisional amounts are subject to refinement during the measurement period under SAB 118.

11. Tax Receivable Agreement

On January 26, 2018, the Company entered into an agreement to the Legacy Hostess Equityholders of 85% of the net cash savings, if any, in U.S. federal, state and local income tax that the Company actually realizes (or is deemed to realize in certain circumstances) in periods after the closing of the Business Combination (which periods may extend, unlessterminate all future payments payable under the Tax Receivable Agreement ~~is terminated early~~to the Apollo Funds in ~~accordance with its terms,~~exchange for ~~more than 15 years following any exchange~~a payment of ~~Class B Units of Hostess Holdings for shares~~$34.0 million (the “Buyout”). Subsequent to the Buyout, the Company will retain a greater portion of the ~~Company’s Class A common stock or the~~future cash ~~equivalent thereof) as a result of (i) certain increases in~~ tax ~~basis resulting from the Business Combination; (ii) certain tax attributes of Hostess Holdings and its subsidiaries existing prior~~savings subject to the ~~Business Combination and prior to subsequent exchanges~~Tax Receivable

Agreement. The Buyout did not affect the portion of ~~Class B Units; (iii) certain increases in tax basis resulting from exchanges of Class B Units; (iv) imputed interest deemed to be paid by~~ the ~~Company as a result of payments it makes~~rights under the Tax Receivable ~~Agreement; and (v) certain increases in tax basis resulting from payments~~Agreement payable to Metropoulos Entities, including those previously assigned by the Apollo Funds. If the Company ~~makes under~~enters into a definitive agreement on or before January 26, 2019 and that agreement results in a change in control (as defined in the Tax Receivable ~~Agreement. The~~Agreement), the Company will ~~retain~~be required to make an additional payment of $10.0 million to the ~~benefit~~Apollo Funds. As of June 30, 2018, no amounts have been paid and there are no amounts reflected in the consolidated financial statements related to the change in control provision, based on management’s estimate of the ~~remaining 15%~~fair value of ~~these cash savings. Certain~~the potential obligation.

During the three and six months ended June 30, 2018, the Company recognized a gain on the remeasurement of the future expected payments under the Tax Receivable Agreement ~~will be made~~due to ~~Legacy Hostess Equityholders~~a change in ~~accordance with specified percentages, regardless~~the Company’s estimated state tax rate. As of June 30, 2018, the ~~source of the applicable tax attribute. Significant inputs used to preliminarily estimate the future~~ expected ~~payments include a~~cash tax savings rate ~~of approximately 37%~~was 26.9%.

The following table summarizes activity related to the ~~tax receivable agreement~~Tax Receivable Agreement for the ~~nine~~six months ended ~~September~~June 30, ~~2017:~~2018:

(In thousands)
Balance December 31, 2016 (Successor) $ 165,384
Measurement period adjustment of the Business Combination (3,016 )
Balance arising from exchanges of Class B units for Class A shares 11,530
Remeasurement due to change in state tax rate 1,589
Balance September 30, 2017 (Successor) $ 175,487

During the three months ended September 30, 2017, the Company remeasured the Tax Receivable Agreement due to a change in a state tax law. This resulted in $1.6 million of expense on the consolidated statement of operations.



(In thousands)
Balance December 31, 2017	$	124,360
Exchange of Class B units for Class A shares	400
Reduction of future payments due to the Buyout	(46,371		)
Remeasurement due to change in estimated state tax rate	(1,752		)
Payments	(7,353		)
Balance June 30, 2018	$	69,284

As of ~~September~~June 30, ~~2017~~2018 the future expected payments under the Tax Receivable Agreement are as follows:


(In thousands)
Remainder of 2017	$	—
2018	14,165
Remainder of 2018			$	700
2019	10,375		4,300
2020	10,097		4,300
2021	9,845		4,200
2022			4,200
Thereafter	131,005		51,584

~~14.~~12. Commitments and Contingencies

~~Accruals and the Potential Effect of Litigation~~

Liabilities related to legal proceedings are recorded when it is probable that a liability has been incurred and the associated amount can be reasonably estimated. Where the estimated amount of loss is within a range of amounts and no amount within the range is a better estimate than any other amount, the minimum amount is accrued.

As additional information becomes available, the potential liabilities related to these matters are reassessed and the estimates revised, if necessary. These accrued liabilities are subject to change in the future based on new developments in each matter, or changes in circumstances, which could have a material effect on the Company’s financial condition and results of operations.

~~During the three months ended September 30, 2017, the Company paid an award in the National Frozen Distribution Consultants, Inc. (NFDC) arbitration of approximately $2.0 million.~~

From time to time, the Company is subject to various other legal actions, lawsuits, claims and proceedings related to products, employment, environmental regulations, and other matters incidental to its businesses.

Based upon information presently known, the Company does not believe that the ultimate resolution of such matters will have a material effect on the Company’s financial position, although the final resolution of such matters could have a material effect on its results of operations or cash flows in the period of resolution.

~~Contractual Commitments~~

The Company is a party to various long-term arrangements through advance purchase contracts to lock in prices for certain high-volume raw materials, packaging components and fuel for normal product production requirements. These advance purchase arrangements are contractual agreements and can only be canceled with a termination penalty that is based upon the current market price of the commodity at the time of cancellation. These agreements qualify for the “normal purchase” exception under accounting standards; therefore, the purchases under these contracts are included as a component of cost of goods sold.

~~Contractual commitments were as follows:~~

(In millions) Total Committed Commitments within 1 year Commitments beyond 1 year
Ingredients $ 82.4
$ 69.2
$ 13.2
Packaging $ 44.3
$ 39.1
$ 5.2

~~Letters of Credit~~

The Company is a party to Letter of Credit arrangements to provide for the issuance of standby letters of credit in the amount of $2.2 million and $1.7 million, respectively. The arrangements support the collateral requirements for insurance. The Letters of Credit are 100% secured through our Revolver.

~~15.~~13. Related Party Transactions

Prior to the Business Combination, the Company was party to an agreement to employ Mr. Metropoulos as the Executive Chairman. The agreement, dated April 2013, included payment of an annual salary, a performance bonus at the discretion of the board of directors, and expenses related to the use of his personal aircraft. For the three and nine months ended September 30, 2016 (Predecessor), $1.1 million and $3.4 million was expensed by the Company for this compensation agreement. The agreement with Mr. Metropoulos was terminated in connection with the Business Combination.

For periods prior to the Business Combination, related party expenses consisted of the normal annual cash payments associated with our employment arrangements with Mr. Metropoulos as Chief Executive Officer and/or Executive Chairman. In connection with the Business Combination, Mr. Metropoulos became party to new employment arrangements with the Company and its subsidiaries. Following the consummation of the Business Combination, the expense associated with Mr. Metropoulos’s employment arrangements is estimated to be approximately $0.3 million annually.

As part of the Business Combination, the Company agreed to grant shares of Class A common stock or Class B units of Hostess Holdings and equivalent shares of Class B common stock of the Company to an entity owned by Mr. Metropoulos if certain EBITDA thresholds are met for the year ended December 31, 2017. The potential grants under this arrangement are between zero and 5.5 million shares. Based on the nature of the arrangement, for U.S. GAAP purposes the potential grants are considered to be compensation for future services to be provided by Mr. Metropoulos. In order to receive 2.75 million shares under this agreement, adjusted EBITDA, as calculated pursuant to the terms of the Master Transaction Agreement entered into in connection with the Business Combination, (“MTA EBITDA”), for the year ended December 31, 2017 must be greater than $240.5 million. If MTA EBITDA is greater than $245.5 million, an additional 2.75 million shares will be awarded. As of September 30, 2017, management determined it ~~was not probable that the Company would meet the 2017 MTA EBITDA thresholds.~~

Under the terms of ~~Mr. Metropoulos’~~an employment agreement with the Company’s Executive Chairman, C. Dean Metropoulos, the Company is obligated to ~~grant~~issue additional equity (in the form of either shares of Class A common stock of the Company, or Class B units of Hostess Holdings and equivalent shares of Class B common stock of the Company) to Mr. Metropoulos if ~~MTA~~certain EBITDA thresholds (as adjusted to reflect acquisitions) are met for the year ended December 31, 2018. ~~The potential grants range from zero~~Under this agreement, up to 2.75 million ~~shares. In order to receive 1.375 million~~ shares ~~under this agreement, MTA EBITDA for the year ended December 31, 2018 must~~could be ~~greater than $257.8 million. If MTA EBITDA is greater than $262.8 million, an additional 1.375 million shares will be awarded.~~ issued. As of ~~September~~June 30, ~~2017, management~~2018, the Company determined it waswas not probable that the Co~~mpany~~EBITDA thresholds would ~~meet the 2018 MTA EBITDA thresholds.~~be met.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion summarizes the significant factors affecting the consolidated operating results, financial condition, liquidity and capital resources of Hostess Brands, Inc. This discussion should be read in conjunction with our unaudited consolidated financial statements and notes thereto included herein, and our audited Annual Report on Form 10-K for the year ended December 31, 2017. The terms “our”, “we,” “us,” and “Company” as used herein refer to Hostess Brands, Inc. and its consolidated subsidiaries.

Overview

We are a leading United States packaged food company ~~focused on developing, manufacturing, marketing, selling~~operating in two reportable segments: Sweet Baked Goods (“SBG”) and distributing fresh sweet baked goods coast-to-coast, providing a wide range of snack cakes, donuts, sweet rolls, snack pies and related products. We acquired the Hostess® brand and certain strategic assets out of the bankruptcy liquidation proceedings of Old Hostess Inc., its prior owner, free and clear of all past liabilities, in April 2013, and relaunched the brand later that year.

In-Store Bakery. We operate ~~five~~six bakeries and ~~three centralized~~five distribution centers. Our direct-to-warehouse (“DTW”) product distribution system allows us to deliver to our customers’ warehouses. Our customers in turn distribute to ~~their~~the retail ~~stores and/or distributors.~~

We have two reportable segments: “Sweet Baked Goods” and “Other”. Sweet Baked Goods consists of sweet baked goods that are sold under the Hostess® and Dolly Madison® brands. Other consists of Hostess® branded bread and buns, frozen retail (which includes deep-fried Twinkies®, launched in August 2016), “In-Store Bakery,” or “ISB” (which includes Superior Cake Products, Inc. (“Superior”), which we purchased in May 2016, and which manufactures and distributes eclairs, madeleines, brownies, and iced cookies in the ISB section of retailers) and licensing.stores.

Hostess® is the second leading brand by market share within the ~~Sweet Baked Goods (“SBG”)~~SBG category, according to Nielsen U.S. total universe. For the ~~52-week~~13-week period ended ~~October 7, 2017 our~~June 30, 2018, Hostess® brand market share was ~~17.0%~~17.5% per Nielsen’s U.S. SBG category data. We have a #1 leading market position within the two largest SBG ~~Segments;~~Segments: Donut ~~Segment~~ and Snack ~~Cake Segment,~~Cake. The Donut and Snack Cake Segments together account for ~~49.6%~~47.1% of the ~~Sweet Baked Goods~~SBG category’s total dollar sales.

~~Explanatory Note~~

Hostess Brands, Inc. (f/k/a Gores Holdings, Inc.) was originally incorporated in Delaware on June 1, 2015 as a special purpose acquisition company (SPAC), formed for the purpose of effecting a merger, capital stock exchange, asset acquisition, stock purchase, reorganization, or other similar business combination with one or more target businesses. On August 19, 2015, Gores Holdings, Inc. consummated its initial public offering (the “IPO”), following which its shares began trading on the Nasdaq Capital Market (“NASDAQ”).

On November 4, 2016 (the “Closing Date”), in a transaction referred to as the “Business Combination,” Gores Holdings, Inc. acquired a controlling interest in Hostess Holdings, L.P. (“Hostess Holdings”), an entity owned indirectly by C. Dean Metropoulos and certain equity funds managed by affiliates of Apollo Global Management, LLC (the “Apollo Funds”). Hostess Holdings had acquired the Hostess brand and certain strategic assets out of the bankruptcy liquidation proceedings of its prior owner (“Old Hostess”), free and clear of all past liabilities, in April 2013, and relaunched the Hostess brand later that year.

In connection with the closing of the Business Combination, Gores Holdings, Inc. changed its name to “Hostess Brands, Inc.” and its trading symbols on NASDAQ from “GRSH” and “GRSHW,” to “TWNK” and “TWNKW”.

Following the Business Combination, Mr. Metropoulos and the Apollo Funds continued as stockholders and Mr. Metropoulos became Executive Chairman of Hostess Brands, Inc. On April 19, 2017, the Apollo Funds completed the public sale of substantially all of their holdings of Class A common stock. Other equityholders also sold shares of Class A common stock through the public sale.

As a result of the Business Combination, for accounting purposes, Hostess Brands, Inc. is the acquirer and Hostess Holdings is the acquired party and accounting predecessor. Our financial statement presentation includes the financial statements of Hostess Holdings and its subsidiaries as “Predecessor” for periods prior to the completion of the Business Combination and of Hostess Brands, Inc., including the consolidation of Hostess Holdings and its subsidiaries, for periods from and after the Closing Date. For convenience, we have also included supplemental pro forma information for the three and nine months ended September 30, 2016 that gives effect to the Business Combination as if such transaction had been consummated on January 1, 2016. References in this Quarterly Report to information provided for 2016 on a pro forma basis refer to such supplemental pro forma financial information.

Unless the context otherwise requires, “we,” “us,” “our” and the “Company” refer, for periods prior to the completion of the Business Combination, to Hostess Holdings and its subsidiaries and, for periods upon or after the completion of the Business Combination, to Hostess Brands, Inc. and its subsidiaries, including Hostess Holdings and its subsidiaries. Our “Sponsor” refers to Gores Sponsor, LLC, a Delaware limited liability company and the principal stockholder of Gores Holdings, Inc. prior to the Business Combination, and the “The Gores Group” refers to The Gores Group LLC, an affiliate of our Sponsor. “Metropoulos Entities” refer to Mr. Metropoulos and entities controlled by him that continue to hold an equity stake in us. “Legacy Hostess Equityholders” refer to the Apollo Funds and the Metropoulos Entities, collectively.

~~Principal Components of Operating Results~~

~~Net Revenue~~

We generate revenue primarily through selling sweet baked goods and other products under the Hostess® group of brands, which includes iconic products such as Twinkies®, CupCakes, Ding Dongs®, Zingers®, HoHo’s® and Donettes® and the Dolly Madison® brand and the group of products under the Superior on Main® brand (e.g., eclairs, madeleines, brownies and iced cookies). Our product assortment, which includes snack cakes, muffins, donuts and pies, is sold to customers’ warehouses and distribution centers by the case or in display ready corrugate units. Retailers display and sell our products to the end consumer in single-serve, multi-pack or club-pack formats. We sell our products primarily to supermarket chains, national mass merchandisers and convenience stores, along with a smaller portion of our product sales going to dollar stores, vending, club, and other retail outlets.

Our revenues are driven by average net price and total volume of products sold. Factors that impact unit pricing and sales volume include product mix, the cost of ingredients, the promotional activities implemented by our Company and our competitors, industry capacity, new product initiatives and quality and consumer preferences. We do not keep a significant backlog of finished goods inventory, as our fresh baked products are promptly shipped to our distribution centers after being produced and then distributed to customers.

~~Cost of Goods Sold~~

Cost of goods sold consists of ingredients, packaging, labor, energy, other production costs, warehousing and transportation costs for the distribution of our products to our customers. The cost of ingredients and packaging represent the majority of our total costs of goods sold. All costs that are incurred at the bakeries are included in cost of goods sold. We do not allocate any corporate functions into cost of goods sold.

Our cost of ingredients consists principally of flour, sweeteners, edible oils and cocoa, which are subject to substantial price fluctuations, as is the cost of paper, corrugate, films and plastics used to package our products. The prices for raw materials are influenced by a number of factors, including the weather, crop production, transportation and processing costs, government regulation and policies and worldwide market supply and demand. We also rely on fuel products, such as natural gas, diesel, propane and electricity, to operate our bakeries and produce our products. Fluctuations in the prices of the raw materials or fuel products used in the production, packaging or transportation of our products affect the cost of products sold and our product pricing strategy. We utilize forward buying strategies through short-term and long-term advance purchase contracts to lock in prices for certain high-volume raw materials, packaged components and certain fuel inputs. Through these initiatives, we believe we are able to obtain competitive pricing.

~~Advertising and Marketing~~

Our advertising and marketing expenses primarily relate to our advertising campaigns, which include social media, print, online advertising, local promotional events and monthly agency fees. We also invest in wire and corrugate displays delivered to customers to display our products off shelf, field marketing and merchandising to reset and check the store inventory on a regular basis and marketing employment costs.

~~Selling Expense~~

Selling expenses primarily include sales management, employment, travel, and related expenses, as well as broker fees. We utilize brokers for sales support, including merchandising and order processing.

~~General and Administrative~~

General and administrative expenses primarily include employee and related expenses for the accounting, planning, customer service, legal, human resources, corporate operations, research and development, purchasing, logistics and executive functions. Also included are professional service fees related to audit and tax, legal, outsourced information technology functions, transportation planning, and corporate site and insurance costs.

The majority of our research and development spend is dedicated to enhancing and expanding our product lines responding to changing consumer preferences and trends and continuing to enhance the taste of our products. In addition, our research and development organization provides technical support to ensure that our core products are consistently produced in accordance with our high quality standards and specifications. Finally, this department is charged with developing processes to reduce our costs without adversely affecting the quality of our products.

~~Related Party Expenses~~

For periods prior to the Business Combination, related party expenses consisted of the normal annual cash payments associated with our employment arrangements with Mr. Metropoulos as Chief Executive Officer and/or Executive Chairman. Following the consummation of the Business Combination, the cash expenses associated with Mr. Metropoulos’s employment arrangements are approximately $0.3 million annually.

~~Non-Controlling Interest~~

Subsequent to the Business Combination, Hostess Brands, Inc. consolidated the financial position and results of operations of Hostess Holdings. Mr. Metropoulos and the Metropoulos Entities hold their equity investment in us primarily through Class B limited partnership units in the Company’s subsidiary, Hostess Holdings, (“Class B Units”) and an equal number of shares of the Company’s Class B common stock (“Class B Stock”). Our Class B Stock has voting, but no economic rights, while Hostess Holdings’ Class B Units have economic, but no voting rights. Each Class B Unit, together with a share of Class B Stock held by the Metropoulos Entities, is exchangeable for a share of the Company’s Class A common stock (or at the option of the Company, the cash equivalent thereof). The Company holds 100% of the general partnership interest in Hostess Holdings and a majority of the limited partnership interests, and consolidates Hostess Holdings in the Company’s consolidated financial statements. The interest of the Metropoulos Entities in Hostess Holdings’ Class B Units is reflected in our consolidated financial statements as a non-controlling interest.

For periods prior to the Business Combination, Hostess Holdings consolidated the financial position and results of operations of New Hostess Holdco, LLC. The portion of New Hostess Holdco, LLC not owned by Hostess Holdings (which constituted a profits interest plan for management) was recognized as a non-controlling interest in its consolidated financial statements.

Factors Impacting Recent Results

~~Long-term Debt Refinancing and Interest Rate Risk Management~~

Acquisition

On November 18, 2016, we refinanced our first and second lien term loans (the “Former First and Second Lien Term Loans”) into one new first lien term loan in the aggregate principal amount of $998.8 million and with a maturity date of August 3, 2022 (the “New First Lien Term Loan”).

To manage the risk related to our variable rate debt, on April 7, 2017, we entered into an interest rate swap contract with a counter party to make a series of payments based on a fixed interest rate of 1.78% and receive a series of payments based on the greater of LIBOR or 0.75%. Both the fixed and floating payment streams are based on a notional amount of $500 million at the inception of the contract and will be reduced by $100 million each year of the five year contract.

On May 19, 2017, the New First Lien Term Loan was amended resulting in a 0.5% decrease to the margin applied to our variable rate (the “Second Amended First Lien Term Loan”). The maturity date of August 3, 2022 remained unchanged.

~~Acquisition of Superior~~

~~On May 10, 2016,~~February 1, 2018, we acquired certain U.S. breakfast assets of Aryzta, LLC (Aryzta), primarily including a bakery facility, inventory, and the ~~stock of Superior for $51.0 million, including cash. The purchase price was subject~~Big Texas and Cloverhill brand names (collectively referred to ~~working capital and other purchase price adjustments~~ as ~~described in~~ the ~~stock purchase agreement. Superior is located in Southbridge, Massachusetts and manufactures eclairs, madeleines, brownies, and iced cookies.~~“Chicago Bakery”.) We acquired ~~Superior~~these assets to expand our ~~market~~product portfolio and to gain previously outsourced manufacturing capabilities for our existing product ~~offerings in the “In-Store Bakery” section of retailers.~~

~~Seasonality~~

Sweet baked goods revenues tend to be moderately seasonal, with declines during the early winter period, which we believe are attributable to altered consumption patterns during the holiday season. We expect this trend to continue and continue to be applicable to our business. We strive to mitigate the seasonality by running certain targeted promotional campaigns.

~~Unaudited Statement of Operations~~

Historical and Pro Forma*

(Successor)
Historicalⁱ (Predecessor)
Pro Forma
(In thousands, except per share data)
Three Months
Ended September 30, 2017
%
of Net Revenues
Three Months
Ended September 30, 2016

Pro Forma
Adjustments

Three Months
Ended September 30, 2016
%
of Net Revenues
Net revenue $ 192,250
100.0 % $ 196,197
$ —

$ 196,197
100.0 %
Cost of goods sold 113,885
59.2
113,618
(185 ) ii 113,433
57.8
Gross profit 78,365
40.8
82,579
185

82,764
42.2

Operating costs and expenses:
Advertising and marketing 8,871
4.6
10,381
—

10,381
5.3
Selling expense 7,606
4.0
8,271
—

8,271
4.2
General and administrative 14,494
7.5
10,784
(346 ) ii 10,438
5.3
Amortization of customer relationships 5,994
3.1
156
5,938
iii 6,094
3.1
Impairment of property and equipment 1,003
0.5
—
—

—
—
Business combination transaction costs —
—
4,049
(4,049 ) iv —
—
Related party expenses 92
—
1,058
—

1,058
0.5
Tax receivable agreement liability remeasurement 1,589
0.8
—
—
—
—
Recall and other costs (recoveries) —
—
(3,787 ) —
(3,787 ) (1.9 )
Total operating costs and expenses 39,649
20.5
30,912
1,543
32,455
16.5
Operating income 38,716
20.1
51,667
(1,358 ) 50,309
25.7
Other expense:
Interest expense, net 9,966
5.2
18,004
(4,623 ) v 13,381
6.8
Loss on modification of debt 2,122
1.1
—
—
—
—
—
—
Other expense 182
0.1
173
—

173
0.1
Total other expense 12,270
6.4
18,177
(4,623 ) 13,554
6.9
Income before income taxes 26,446
13.7
33,490
3,265
36,755
18.7
Income tax expense (benefit) 10,316
5.4
(23 ) 10,496
vi 10,473
5.3
Net income 16,130
8.3
33,513
(7,231 ) 26,282
13.4
Less: Net income attributable to the non-controlling interest 6,581
3.4
2,329
6,852
vii 9,181
4.7
Net income attributable to Class A shareholders $ 9,549
4.9 % $ 31,184
$ (14,083 ) $ 17,101
8.7 %

Earnings per Class A share:
Basic $ 0.10
$ 0.18

Diluted $ 0.09
$ 0.18

Weighted-average shares outstanding:

Basic 99,557,183
97,589,217
viii 97,589,217

Diluted 105,418,566
97,589,217
viii 97,589,217

*For convenience, we have included this supplemental pro forma information for the three months ended September 30, 2016 that gives effect to the Business Combination as if such information had been consummated on January 1, 2016.

~~The unaudited pro forma statements~~portfolio. Our consolidated statement of operations ~~for~~includes the three months ended September 30, 2016 presents our consolidated results of operations giving pro forma effect to the Business Combination as if it had occurred as of January 1, 2016. The pro forma adjustments are based on available information and upon assumptions that our management believes are reasonable in order to reflect, on a pro forma basis, the impactoperation of these ~~transactions on the historical financial information of our Predecessor and Successor entities, as applicable.~~

~~The Business Combination was accounted for using the acquisition method of accounting. The estimated fair values of the acquired~~ assets and assumed liabilities as of the Closing Date, which are based on the consideration paid and our estimates and assumptions, are reflected herein. The total purchase price to acquire Hostess Holdings has been allocated to the assets acquired and assumed liabilities of Hostess Holdings, based upon preliminary estimated fair values at the Closing Date. We utilized third-party valuation specialists to assist our management in determining the fair values of the acquired assets and liabilities assumed.

The unaudited pro forma financial information contains a variety of adjustments, assumptions and estimates, is subject to numerous other uncertainties and the assumptions and adjustments as described in the accompanying notes hereto and should not be relied upon as being indicative of our results of operations had the Business Combination occurred on Januaryfrom February 1, 2016. The unaudited pro forma financial information also does not project our results of operations for any future period or date. The acquisition of Superior Cake Products, Inc. (“Superior”) occurred in May 2016. The unaudited pro forma consolidated financial information for the three and nine months ended September2018 through June 30, ~~2016 does not include the results of the Superior acquisition and its related operations prior to the acquisition.~~2018. We evaluated the impact of the ~~Superior~~Aryzta acquisition on ~~the Company’s~~our financial statements and concluded that the impact was not significant and did not ~~separately warrant~~require the inclusion of pro forma financial results assuming the acquisition ~~of Superior~~had occurred on January 1, ~~2016~~2017.

Tax Receivable Agreement Buyout

On January 26, 2018, we entered into a transaction to terminate all future payments payable under ~~SEC rules and regulations or under GAAP. The pro forma adjustments give effect~~the Tax Receivable Agreement to the ~~items identified~~Apollo Funds in exchange for a cash payment of $34.0 million, which was recognized as a financing outflow on the consolidated statement of cash flow. This transaction did not affect the portion of the rights under the Tax Receivable Agreement payable to Metropoulos Entities. We recognized a $12.4 million gain in the ~~pro forma table above in connection with~~non-operating section of our consolidated statement of operations, which represented the ~~Business Combination.~~


i.	The amounts in these columns represent our Hostess Holdings historical results of operations for the period reflected. Certain amounts previously reported within the 2016 Hostess Holdings quarterly financial statements have been reclassified to conform with the current financial statement presentation.


~~ii.~~	~~Represents the adjustment to depreciation expense associated with the allocation of purchase price to property and equipment.~~


~~iii.~~	~~Represents additional amortization expense associated with the fair value recognized for customer relationships in connection with the Business Combination.~~


~~iv.~~	~~This adjustment consists primarily of legal and professional fees and other costs associated with the Business Combination.~~


v.	~~Represents the reduction in interest expense due to the repayment of Hostess Holdings debt pursuant to the terms of the Business Combination.~~


~~vi.~~	~~Represents the effective income tax rate of 28.5%, giving effect to the non-controlling interest, a partnership for income tax purposes.~~


~~vii.~~	Represents the elimination of historical income attributable to the non-controlling interest and attributes a portion of the pro forma income to the non-controlling interest created in the Business Combination. Income is allocated to the non-controlling interest based on its pro rata share of the total equity of Hostess Holdings.


~~viii.~~	Represents the basic and diluted weighted average number of Class A shares that would have been outstanding had the Business Combination occurred on January 1, 2016. The outstanding warrants were determined not to be dilutive.

difference between the $46.4 million carrying value of the portion of the Tax Receivable Agreement liability which was terminated and the $34.0 cash payment.

Operating Results



	Three Months Ended						Six Months Ended
(In thousands, except shares and per share data)	June 30, 2018			June 30, 2017			June 30, 2018			June 30, 2017
Net revenue	$	215,849		$	203,178		$	424,592		$	387,716
Gross profit	66,857			88,444			138,098			167,740
As a % of net revenue	31.0		%	43.5		%	32.5		%	43.3		%
Operating costs and expenses	32,208			38,652			70,578			73,225
Operating income	34,649			49,792			67,520			94,515
As a % of net revenue	16.1		%	24.5		%	15.9		%	24.4		%
Other expense (income)	9,835			10,274			6,886			20,818
Income tax expense	194			11,311			6,712			21,291
Net income	24,620			28,207			53,922			52,406
Net income attributable to Class A shareholders	$	19,283		$	18,830		$	43,123		$	34,662

Earnings per Class A share:
Basic	$	0.19		$	0.19		$	0.43		$	0.35
Diluted	$	0.18		$	0.18		$	0.41		$	0.33

Reconciliation of Adjusted EBITDA

Adjusted EBITDA is a non-GAAP financial measure commonly used in our industry and should not be construed as an alternative to net income as an indicator of operating performance or as an alternative to cash flow provided by operating activities as a measure of liquidity (each as determined in accordance with GAAP). This measure may not be comparable to similarly titled measures reported by other companies. We have included ~~these measures~~this measure because we believe ~~they provide~~it provides management and investors with additional information to measure our performance and liquidity, estimate our value and evaluate our ability to service debt.

We define adjusted EBITDA as net income adjusted to exclude (i) interest expense, net, (ii) depreciation and amortization, (iii) income taxes and (iv) as further adjusted to eliminate the impact of certain items that we do not consider indicative of our ongoing operating performance. These further adjustments are itemized below. You are encouraged to evaluate these adjustments and the reasons we consider them appropriate for supplemental analysis. In evaluating adjusted EBITDA, you should be aware that in the future we may incur expenses that are the same as or similar to some of the adjustments set forth below. Our presentation of adjusted EBITDA should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items.

Adjusted EBITDA has ~~important~~ limitations as an analytical tool, and you should not consider it in isolation, or as a substitute for analysis of our results as reported under GAAP. For example, adjusted EBITDA:

does not reflect our capital expenditures, future requirements for capital expenditures or contractual commitments;

does not reflect changes in, or cash requirements for, our working capital needs;

does not reflect the significant interest expenses, or the cash requirements necessary to service interest or principal payments, on our debt;

~~does not reflect any cash requirements for the assets being depreciated and amortized that may have to be replaced in the future;~~ and

does not reflect payments related to income taxes, the ~~tax receivable agreement~~Tax Receivable Agreement or distributions to the non-controlling interest to reimburse its tax liability.

Our presentation of adjusted EBITDA does not exclude the normal annual cash payments associated with our employment arrangements with Mr. Metropoulos as the Chief Executive Officer and/or Executive Chairman. These payments were $0.1 million and $0.2 million for the three and nine months ended September 30, 2017, and $1.1 million and $3.4 million for the three and nine months ended September 30, 2016, respectively. Following completion of the Business Combination, these cash expenses will be approximately $0.3 million annually.

																		Reconciliation of Adjusted EBITDA (Unaudited)
								Three Months Ended					Six Months Ended
(In thousands)		Three Months Ended September 30, 2017		Pro Forma Three Months Ended September 30, 2016				June 30, 2018			June 30, 2017		June 30, 2018			June 30, 2017

Net income		$	16,130	$	26,282			$	24,620		$	28,207	$	53,922		$	52,406
Plus non-GAAP adjustments:
Non-GAAP adjustments:
Income tax provision		10,316		10,473				194			11,311		6,712			21,291
Interest expense, net		9,966		13,381				9,749			10,035		19,089			19,865
Depreciation and amortization		9,722		9,103				10,557			9,588		20,648			18,854
Share-based compensation	i.	3,630		—				1,098			3,839		2,721			4,360
Tax receivable agreement liability remeasurement	ii.	1,589		—
Recall and other	iii.	—		(3,787		)
Other expense	iv.	182		173
Loss on debt modification	v.	2,122		—
Tax Receivable Agreement remeasurement and gain on buyout								(1,752		)	—		(14,124		)	—
Impairment of property and equipment	vi.	1,003		—				—			—		1,417			—
Tax Reform bonuses								602			—		1,585			—
Chicago bakery acquisition and integration costs								1,817			—		1,864			—
Other							i.	712			239		796			953
Adjusted EBITDA		$	54,660	$	55,625			$	47,597		$	63,219	$	94,630		$	117,729


i.	For the three and six months ended ~~September~~June 30, ~~2017, the Company recognized expense related to stock compensation awarded under the Hostess Brands, Inc. 2016 Equity Incentive Plan.~~


~~ii.~~	2018, other expenses included transaction and other non-operating professional fees. For the three and six months ended ~~September~~June 30, 2017, ~~the Company~~other expense primarily included professional fees incurred ~~a loss on the remeasurement of the tax receivable agreement due to a change in a state tax law.~~


~~iii.~~	~~For the pro forma three months ended September 30, 2016, the Company recovered costs previously incurred in the second quarter of 2016~~ related to the ~~voluntary recall~~secondary public offering of ~~product containing undeclared peanut residue attributed to one of the Company’s suppliers.~~

~~iv.~~

~~During the three months ended September 30, 2017, the Company incurred professional fees related to~~common stock and the registration of certain privately held ~~securities. During the pro forma three months ended September 30, 2016, the Company incurred professional fees attributable~~warrants offset by a gain recognized related to the ~~pursuit~~modification of ~~a potential acquisition that has since been abandoned, and other special projects.~~our long-term debt.


v.	~~During the three months ended September 30, 2017, previously capitalized debt issuance costs were expensed.~~


~~vi.~~	During the three months ended September 30, 2017, the Company transitioned the production of one of its products to a third party and recognized an impairment loss resulting from the idling of the related production equipment.

Results of Operations

Net Revenue

Net revenue of $192.3 million decreased 2.0%, or $3.9 million, compared to historical and pro forma net revenue of $196.2 million for the third quarter of 2016. The third quarter 2017 growth in net revenue from current year new product initiatives of $17.0 million, particularly Chocolate Cake Twinkies®, White Fudge Ding Dongs® and Golden Cupcakes was offset primarily by a decrease in net revenue from 2016 product innovations of $14.0 million, the impact of a co-manufacturer's production challenges of approximately $3.2 million and a decrease of revenue from discontinued items of $2.2 million. Net revenue for the quarter was also impacted by point of sale and shipment disruptions from hurricanes Harvey and Irma.

~~Cost of Goods Sold and Gross Profit~~

~~Cost of goods sold~~ for the three months ended ~~September~~June 30, ~~2017 of $113.9~~2018, increased 6.2%, or $12.7 million, ~~represents an~~ ~~increase of$0.3 million~~ ~~or 0.2% from the historical costs of goods sold of $113.6 million for~~compared to the three months ended ~~September~~June 30, ~~2016 and an increase of $0.5 million or 0.4% from the pro forma costs of goods sold of $113.4 million for the three months ended September 30, 2016~~.2017. The ~~increase in thethree months ended September 30, 2017~~ ~~from both historical and pro forma three months ended September 30, 2016 is primarily attributed to additional cost of transportation due to the tightening of shipping capacity and an increase~~Chicago Bakery, which we acquired in the ~~percentage~~first quarter of ~~orders on a refrigerated class~~2018 to expand our breakfast product portfolio and manufacturing capabilities, contributed $20.8 million of ~~transportation.~~

~~Gross profit~~net revenue which was ~~$78.4 million for the three months ended September 30, 2017, a decrease~~partially offset by reduced Hostess® branded display volume and corresponding retail inventory reduction at one of ~~$4.2 million, or 5.1%, compared~~our largest retail partners. We continued to historical gross profit of $82.6 million for the three months ended September 30, 2016 and a decrease of $4.4 million, or 5.3% compared to pro forma gross profit of $82.8 million for the three months ended September 30, 2016. The decreasegain market share in the three months ended September 30, 2017 from both historical and pro forma three months ended September 30, 2016 was primarily attributed to the tightening of shipping capacity and an increase in the percentage of orders on a refrigerated class of transportation, which caused a 120 basis point increase in the cost of transportation as a percentage of revenue. ~~In addition, there was a shift in product mix due to growth in multi-pack and club-pack sales.~~

Gross margin was 40.8% for the three months ended September 30, 2017, compared to historical gross margin of 42.1% for the three months ended September 30, 2016 and pro forma gross margin of 42.2% for the three months ended September 30, 2016. The decrease in margin for the three months ended September 30, 2017 from both historical and pro forma gross margin for the three months ended September 30, 2016 is ~~primarily due to additional transportation costs and a shift in product mix.~~

~~Gross profit for~~ the Sweet Baked Goods ~~segment~~(“SBG”) category with strong growth in sub-brands including Donettes® and Hostess Bakery Petites®. We gained 42 basis points of market share during the 13 weeks ended June 30, 2018 through strong performance in the convenience, food and club channels which contributed to our overall point of sale growth of 2.4% for the ~~three months ended September 30, 2017 was $73.0 million, or 42.0%~~Hostess brand ahead of ~~net revenue, compared to gross profit of $76.8 million or 44.0% of net~~the total SBG category.

Net revenue for the ~~historical three~~six months ended ~~September~~June 30, ~~2016. Gross margin decreased due~~2018, increased 9.5% or $36.9 million, compared to the ~~tightening~~six months ended June 30, 2017. The Chicago Bakery contributed $35.4 million of ~~shipping capacity and an~~net revenue. The remaining increase ~~in the percentage of orders on a refrigerated class of transportation, which caused a 120 basis point increase in the cost of transportation as a percentage of revenue. In addition, there~~ was ~~a shift in product mix~~ due to growth ~~in multi-pack~~from current and ~~club-pack sales.~~prior year product innovations partially offset by reduced Hostess® branded display volume and corresponding retail inventory reduction at one of our largest retail partners. For the 26 weeks ended June 30, 2018, we gained 77 basis points of market share and 4.3% of point of sale growth.

Gross Profit

Gross profit ~~for the Other segment for the three months ended September 30, 2017~~ was ~~$5.4 million, or 28.9% of net revenue, compared to historical gross profit of $5.8 million, or 26.7%~~31.0% of net revenue for the three months ended ~~September~~June 30, ~~2016. The increase in margin was attributed~~2018, compared to ~~efficiencies in In-Store Bakery operations.~~

~~Operating Costs and Expenses~~

~~Advertising and Marketing~~

~~Advertising and marketing expenses~~43.5% for the three months ended ~~September~~June 30, ~~2017~~2017. The decline was primarily attributed to a combination of ~~$8.9 million represents~~the shift in mix of revenue to include Chicago non-Hostess® branded products, which are currently unprofitable, and the continued efforts to transform the recently acquired Chicago Bakery which collectively resulted in 709 basis points lower margin. Over the short term, we continue to invest in converting the operations and processes to be more streamlined and efficient. We believe these investments will provide the solid infrastructure necessary to deliver profitable future growth in the breakfast subcategory. Also contributing to the lower gross profit were higher transportation costs and other inflationary pressures, which resulted in a 447 basis point decrease in gross margin and lower overhead absorption due to decreased production volume.

Gross profit was 32.5% of ~~14.5% over~~net revenue for the ~~historical~~six months ended June 30, 2018, compared to 43.3% for the six months ended June 30, 2017. The decline was primarily attributed to a combination of the shift in mix of revenue to include Chicago non-Hostess® branded products, which are currently unprofitable, and ~~pro forma advertising~~the continued efforts to transform the recently acquired Chicago Bakery which collectively resulted in 630 basis points lower margin. Also contributing to lower gross profit were higher transportation costs and ~~marketing expenses~~other inflationary pressures, which resulted in a 353 basis point decrease in gross margin as well as bonuses paid to hourly employees as a result of ~~$10.4 million~~the projected benefits of Tax Reform and lower overhead absorption due to decreased production volume.

Operating Expenses

Operating costs for the three months ended ~~September~~June 30, ~~2016~~2018 decreased 16.6% from the three months ended June 30, 2017. The decrease was attributed to lower corporate incentive arrangements as well as a ~~result~~$1.8 million gain on the remeasurement of the Tax Receivable Agreement resulting from a change in our estimated state tax rate based upon adjustments to our state apportionment factors.

Operating costs for the six months ended June 30, 2018 decreased 3.6% from the six months ended June 30, 2017. The decrease was attributed to lower ~~packaging design costs~~corporate incentive arrangements and ~~reduced permanent wire~~professional fees along with the $1.8 million gain on the remeasurement of the Tax Receivable Agreement partially offset by an impairment loss of $1.4 million related to the planned disposition of certain production equipment before the end of its useful life and increased display rack deployment in support of revenue growth.

Other Expense

For the three months ended June 30, 2018 and June 30, 2017, other expense primarily consisted of $10.1 million and $10.0 million, respectively, of interest expense related to our Third First Lien Term Loan.

For the six months ended June 30, 2018 and June 30, 2017, interest expense related to our Third First Lien Term Loan was $19.6 million and $19.8 million, respectively. Also, during the ~~quarter.~~six months ended June 30, 2018, we recognized a $12.4 million gain related to the buy-out of the tax receivable agreement.

~~Selling Expense~~

~~Selling expense of $7.6 million, or 4.0% of revenue~~Income Taxes

Our effective tax rate was 0.8% for the three months ended ~~September~~June 30, ~~2017 was comparable~~2018 compared to ~~$8.3 million, or 4.2% of revenue on a historical and pro forma basis~~28.6% for the three months ended ~~September~~June 30, ~~2016.~~

~~General and Administrative~~

General and administrative expenses for the three months ended September 30, 2017 of $14.5 million represent an increase of $3.7 million or 34.4% over historical general and administrative expenses of $10.8 million for the three months ended September 30, 2016 and an increase of $4.1 million or 38.9% over the pro forma general and administrative expenses of $10.4 million for the three months ended September 30, 2016.2017. The ~~increase of the third quarter 2017 expenses over both the historical and pro forma third quarter 2016 expenses is~~decrease in our effective tax rate was primarily attributed to ~~increased non-cash share-based compensation~~a discrete tax benefit of ~~$3.6 million.~~

~~Amortization of Customer Relationships~~

~~Amortization of customer relationships was $6.0~~$5.0 million for the three months ended September 30, 2017, compared to historical customer relationships amortization of $0.2 million for the three months ended September 30, 2016 and pro forma customer relationships amortization of $6.1 million for the three months ended September 30, 2016. For the third quarter 2016 on a historical basis, amortization expense was based on the valuation of customer relationships acquired from Old Hostess in 2013. The amortization expense for the three months ended September 30, 2017 and the three months ended September 30, 2016 on a pro forma basis reflects the new valuation of the customer relationships acquired through the Business Combination.

~~Impairment of Property and Equipment~~

During the three months ended September 30, 2017, we idled a production line in our Columbus, Georgia facility and transitioned the production to a third party. We recognized an impairment loss of $1.0 million.

~~Related Party Expenses~~

Related party expenses were $0.1 million for the three months ended September 30, 2017 compared to historical and pro forma expenses of $1.1 million for the three months ended September 30, 2016. These expenses represent payments made to Mr. Metropoulos under the terms of his employment arrangements. Following the Business Combination, the expenses associated with Mr. Metropoulos’s employment arrangement are estimated to be $0.3 million annually.

~~Tax Receivable Agreement Liability Remeasurement~~

~~For the three months ended September 30, 2017, we recorded a loss of $1.6 million due to an adjustment to the tax receivable agreement~~ resulting from a change in aour estimated state tax ~~law.~~rate based upon adjustments to our state apportionment factors. The lower federal statutory rate enacted by Tax Reform also decreased our effective tax rate.

~~Recall and Other Costs~~

~~During~~Our effective tax rate was 11.1% for the ~~three~~six months ended ~~September~~June 30, ~~2016, we recovered approximately $4.0 million of previously recognized costs when it was determined that expenses incurred~~2018 compared to ~~recall 710,000 cases of snack cakes and donuts~~28.9% for ~~undeclared peanut residue in certain lots of flour would be reimbursed by our flour supplier, Graincraft.~~

~~Operating Income~~

the six months ended June 30, 2017. The ~~25.1%~~ decrease in ~~operating income from a historical basis~~our effective tax rate was primarily attributed to the lower federal statutory rate enacted by Tax Reform, the tax impact of ~~$51.7 million for~~ the ~~three months ended September 30, 2016 to $38.7 million for~~gain on the ~~three months ended September 30, 2017 is primarily from~~buyout of the ~~increase in additional customer~~ ~~relationship amortization~~Tax Receivable Agreement, as well as ~~share-based compensation, which is included within general and administrative expenses. The decrease was also attributed to lower gross profit due to a~~the change in ~~product mix and lower overall revenues.~~

~~Interest Expense, net~~

Our interest expense decreased 44.6% from $18.0 million for the historical three months ended September 30, 2016 to $10.0 million for the three months ended September 30, 2017 primarily from the refinancing of our Second Lien Term Loan in November 2016 and amendment of our First Lien Term Loan in May 2017. In both cases, the effective interest rate on our outstanding debt was decreased. Additionally, $217 million of principal was repaid as part of the Business Combination. This was offset by the additional interest expense related to our interest rate swap contract, which was effective in May 2017. Excluding expense associated with the principal repayment, interest expense for the three months ended September 30, 2017 decreased 25.5% from pro forma interest expense of $13.4 million for the three months ended September 30, 2016, as a result of the lower effective interest rate offset by the interest rate swap settlement.

~~Loss on Modification of debt~~

During the three months ended September 30, 2017, we expensed $2.1 million of previously capitalized debt financing charges, which are offset by a slight gain in the prior period. See Note 1-Summary of Significant Accounting Policies to the consolidated financial statements included in Part 1, Item 1 of this Quarterly Report on Form 10-Q.

~~Other Expense~~

For the three months ended September 30, 2017, we recorded other expenses of $0.2 million which primarily consisted of professional fees related to the registration of certain privately held securities.

~~Income Taxes~~

~~The income tax expense of $10.3 million for the three months ended September 30, 2017 includes an adjustment to our deferred tax liability of approximately $2.2 million caused by a change to a~~estimated state tax rate. The remaining tax expense of $8.1 million represents an effective tax rate of 30.7%, giving effect to the non-controlling interest, a partnership for income tax purposes. Historical income tax benefit for the three months ended September 30, 2016 was less than $0.1 million as the Company was a partnership for income taxes prior to the Business Combination, with the exception of the loss attributed to Superior, which is taxed as a corporation. The increase from pro forma tax expense of $10.5 million for the three months ended September 30, 2016 is due to a change in state tax law offset by a decrease in pretax income before income taxes.apportionment.

Adjusted EBITDA

Adjusted EBITDA for the three months ended ~~September~~June 30, ~~2017,~~2018 was ~~$54.7 million, a decrease of $1.0~~$47.6 million, or ~~(1.7)%,~~22.1% of net revenue compared to ~~pro forma adjusted EBITDA~~$63.2 million, or 31.1% of ~~$55.6 million~~net revenue for the three months ended ~~September~~June 30, ~~2016. As a percentage~~2017. The decrease in adjusted EBITDA was primarily attributed to losses generated by the Chicago Bakery as well as higher transportation costs and other inflationary pressures. The decrease in adjusted EBITDA was also impacted by reduced Hostess® branded display and inventory volume at one of our largest retail partners.

Adjusted EBITDA for the six months ended June 30, 2018 was $94.6 million, or 22.3% of net revenues compared to $117.7 million, or 30.4% of net revenue for the six months ended June 30, 2017. The decrease in adjusted EBITDA was ~~28.4% for~~primarily attributed to the ~~three months ended September 30, 2017, compared to pro forma~~losses generated by the Chicago Bakery and higher transportation costs and other inflationary pressures The decrease in adjusted EBITDA was also impacted by reduced Hostess® branded display and inventory volume at one of ~~28.4%~~our largest retail partners as well as bonuses paid to hourly employees as a result of ~~net revenues for~~ the ~~three months ended September 30, 2016.~~projected benefits of Tax Reform.

Segments

We have two reportable segments: ~~“Sweet~~Sweet Baked ~~Goods”~~Goods and ~~“Other.”~~In-Store Bakery. Sweet Baked Goods consists of sweet baked goods that are sold under the Hostess® and Dolly Madison® ~~brands. Other consists of~~brands, Hostess® branded bread and buns, ~~which we launched in April 2015,~~and frozen ~~retail (which~~retail. The In-Store Bakery segment consists of ~~deep-fried Twinkies®, launched in August 2016)~~products, including Superior on Main® and ~~“In-Store Bakery,” or “ISB” (which consists of Superior, which we purchased in May 2016, and manufactures and distributes eclairs, madeleines, brownies, and iced cookies in~~Hostess® branded products sold through the ~~ISB~~in-store bakery section of ~~retailers),~~grocery and ~~licensing.~~club stores.

We evaluate performance and allocate resources based on net revenue and gross profit. Information regarding the operations of these reportable segments is as follows:


	Unaudited Segment Financial Data				Unaudited Segment Financial Data
(In thousands)	Three Months Ended September 30, 2017		Three Months Ended September 30, 2016		Three Months Ended June 30, 2018		Three Months Ended June 30, 2017		Six Months Ended June 30, 2018		Six Months Ended June 30, 2017
	(Successor)		(Predecessor)
Net revenue:
Sweet Baked Goods	$	173,552	$	174,473	$	204,237	$	191,695	$	403,529	$	366,488
Other	18,698		21,724
In-Store Bakery					11,612		11,483		21,063		21,228
Net revenue	$	192,250	$	196,197	$	215,849	$	203,178	$	424,592	$	387,716

Gross profit:
Sweet Baked Goods	$	72,965	$	76,777	$	64,359	$	85,486	$	133,797	$	162,268
Other	5,400		5,802
In-Store Bakery					2,498		2,958		4,301		5,472
Gross profit	$	78,365	$	82,579	$	66,857	$	88,444	$	138,098	$	167,740

Capital expenditures (1):
Sweet Baked Goods	$	9,109	$	9,312
Other	205		161
Capital expenditures	$	9,314	$	9,473

Sweet Baked Goods net revenue for the three months ended June 30, 2018 increased $12.5 million, or 6.5% from the three months ended June 30, 2017. The operations of the Chicago Bakery contributed $20.8 million of net revenue. The revenue increase was partially offset by reduced Hostess® branded display volume and corresponding retail inventory reduction at one of our largest retail partners.


~~(1)~~	Capital expenditures consists of purchases of property and equipment and acquisition and development of software assets paid in cash or acquired through accounts payable during the three months ended September 30, 2017 (Successor) and 2016 (Predecessor).

~~We have~~Sweet Baked Goods net revenue for the six months ended June 30, 2018 increased $37.0 million, or 10.1% from the six months ended June 30, 2017. The Chicago Bakery contributed $35.4 million of the increase in net revenue. The remaining increase was driven primarily by continued growth from current and prior year product innovations partially offset by reduced Hostess® branded display volume and corresponding retail inventory reduction at one ~~customer that accounted for 10% or more~~ of our ~~net revenues. The percentage~~largest retail partners.

Sweet Baked Goods gross profit for the three months ended June 30, 2018 was 31.5% of net revenue, ~~from this customer is presented below by segment:~~

Unaudited Segment Data
Three Months Ended
(% of Consolidated Net Revenues)
September 30, 2017
September 30, 2016
Sweet Baked Goods 18.8 %
18.1 %
Other 0.9 %
3.1 %
Total 19.7 %
21.2 %

~~Unaudited Statement~~compared to 44.6% of ~~Operations~~

Historical and Pro Forma*

(Successor)
Historicalⁱ (Predecessor)
Pro forma
(In thousands, except per share data)
Nine Months
Ended September 30, 2017
%
of Net Revenues
Nine Months
Ended September 30, 2016

Pro Forma
Adjustments

Nine Months
Ended September 30, 2016
%
of Net Revenues
Net revenue $ 579,967
100.0 % $ 548,757
—
$ 548,757
100.0 %
Cost of goods sold 333,861
57.6
309,427
315
ii 309,742
56.4
Gross profit 246,106
42.4
239,330
(315 ) 239,015
43.6

Operating costs and expenses:
Advertising and marketing 24,304
4.2
27,529
—
27,529
5.0
Selling expense 24,418
4.2
23,175
—
23,175
4.2
General and administrative 43,416
7.5
32,015
(653 ) ii 31,362
5.7
Amortization of customer relationships 17,860
3.1
468
17,950
iii 18,418
3.4
Impairment of property and equipment 1,003
0.2
7,267
—
7,267
1.3
Business combination transaction costs —
—
7,065
(6,490 ) iv 575
0.1
Related party expenses 284
—
3,431
—
3,431
0.6
Tax receivable agreement liability remeasurement 1,589
0.3
—
—
—
—
Recall and other costs (recoveries) —
—
473
—
473
0.1
Total operating costs and expenses 112,874
19.5
101,423
10,807
112,230
20.4
Operating income 133,232
22.9
137,907
(11,122 ) 126,785
23.1
Other expense:
Interest expense, net 29,831
5.1
53,746
(13,871 ) v 39,875
7.3
Loss on debt modification 1,948
0.3
—
—
—
—
Other expense 1,309
0.2
2,344
—
2,344
0.4
Total other expense 33,088
5.6
56,090
(13,871 ) 42,219
7.7
Income before income taxes 100,144
17.3
81,817
2,749
84,566
15.4
Income tax expense 31,608
5.4
294
23,804
vi 24,098
4.4
Net income 68,536
11.8
81,523
(21,055 ) 60,468
11.0
Less: Net income attributable to the non-controlling interest 24,325
4.2
4,110
16,954
vii 21,064
3.8
Net income attributable to Class A shareholders $ 44,211
7.6 % $ 77,413
(38,009 ) $ 39,404
7.2 %

Earnings per Class A share:
Basic $ 0.45
$ 0.40

Diluted $ 0.42
$ 0.40

Weighted-average shares outstanding:
Basic 98,920,808
97,589,217
viii 97,589,217

Diluted 105,840,673
97,589,217
viii 97,589,217

* For convenience, we have included this supplemental pro forma information for the nine months ended September 30, 2016 that gives effect to the Business Combination as if such information had been consummated on January 1, 2016.

The unaudited pro forma statements of operations for the nine months ended September 30, 2016 presents our consolidated results of operations giving pro forma effect to the Business Combination as if it had occurred as of January 1, 2016. The pro forma adjustments are based on available information and upon assumptions that our management believes are reasonable in order to reflect, on a pro forma basis, the impact of these transactions on the historical financial information of our Predecessor and Successor entities, as applicable.

The Business Combination was accounted for using the acquisition method of accounting. The estimated fair values of the acquired assets and assumed liabilities as of the Closing Date, which are based on the consideration paid and our estimates and assumptions, are reflected herein. The total purchase price to acquire Hostess Holdings has been allocated to the assets acquired and assumed liabilities of Hostess Holdings, based upon preliminary estimated fair values at the Closing Date. We utilized third-party valuation specialists to assist our management in determining the fair values of the acquired assets and liabilities assumed.

The unaudited pro forma financial information contains a variety of adjustments, assumptions and estimates, is subject to numerous other uncertainties and the assumptions and adjustments as described in the accompanying notes hereto and should not be relied upon as being indicative of our results of operations had the Business Combination occurred on January 1, 2016. The unaudited pro forma financial information also does not project our results of operations for any future period or date. The acquisition of Superior occurred in May 2016. The unaudited pro forma consolidated financial informationnet revenue for the three ~~and nine~~ months ended ~~September~~June 30, 2016 does not include the results of the Superior acquisition and its related operations prior to the acquisition. We evaluated the impact of the Superior acquisition on the Company’s financial statements and concluded that the impact2017. The decline was not significant and did not separately warrant the inclusion of pro forma financial results assuming the acquisition of Superior on January 1, 2016 under SEC rules and regulations or under GAAP. The pro forma adjustments give effect to the items identified in the pro forma table above in connection with the Business Combination.


i.	The amounts in these columns represent our Hostess Holdings historical results of operations for the period reflected. Certain amounts previously reported within the 2016 Hostess Holdings quarterly financial statements have been reclassified to conform with the current financial statement presentation.


~~ii.~~	~~Represents the adjustment to depreciation expense associated with the allocation of purchase price to property and equipment.~~


~~iii.~~	~~Represents additional amortization expense associated with the fair value recognized for customer relationships in connection with the Business Combination.~~


~~iv.~~	~~This adjustment consists primarily of legal and professional fees and other costs associated with the Business Combination.~~


v.	~~Represents the reduction in interest expense due to the repayment of Hostess Holdings debt pursuant to the terms of the Business Combination.~~


~~vi.~~	~~Represents the effective income tax rate of 28.5%, giving effect to the non-controlling interest, a partnership for income tax purposes.~~


~~vii.~~	Represents the elimination of historical income attributable to the non-controlling interest and attributes a portion of the pro forma income to the non-controlling interest created in the Business Combination. Income is allocated to the non-controlling interest based on its pro rata share of the total equity of Hostess Holdings.


~~viii.~~	Represents the basic and diluted weighted average number of Class A shares that would have been outstanding had the Business Combination occurred on January 1, 2016. The outstanding warrants were determined not to be dilutive.

~~Reconciliation of Adjusted EBITDA~~

Adjusted EBITDA is a non-GAAP financial measure commonly used in our industry and should not be construed as an alternative to net income as an indicator of operating performance or as an alternative to cash flow provided by operating activities as a measure of liquidity (each as determined in accordance with GAAP). This measure may not be comparable to similarly titled measures reported by other companies. We have included these measures because we believe they provide management and investors with additional information to measure our performance and liquidity, estimate our value and evaluate our ability to service debt.

Adjusted EBITDA has important limitations as an analytical tool, and you should not consider it in isolation, or as a substitute for analysis of our results as reported under GAAP. For example, adjusted EBITDA:

~~does not reflect our capital expenditures, future requirements for capital expenditures or contractual commitments;~~

~~does not reflect changes in, or cash requirements for, our working capital needs;~~

~~does not reflect the significant interest expenses, or the cash requirements necessary to service interest or principal payments, on our debt;~~

~~does not reflect any cash requirements for the assets being depreciated and amortized that may have to be replaced in the future; and~~

~~does not reflect payments related to income taxes, the tax receivable agreement or distributions to the non-controlling interest to reimburse its tax liability.~~

Reconciliation of Adjusted EBITDA
(Unaudited)

(In thousands) Nine Months
Ended September 30,
2017 Pro Forma
Nine Months
Ended September 30,
2016

Net income $ 68,536
$ 60,468
Plus non-GAAP adjustments:
Income tax provision 31,608
24,098
Interest expense, net 29,831
39,875
Depreciation and amortization 28,576
27,352
Share-based compensation i. 7,990
—
Tax receivable agreement liability remeasurement ii. 1,589
—
Recall and other iii. —
473
Other expense iv. 1,309
2,342
Loss on debt modification v. 1,948
—
Impairment of property and equipment vi. 1,003
7,267
Business combination transaction costs vii. —
575
Adjusted EBITDA $ 172,390
$ 162,450


i.	~~For the nine months ended September 30, 2017, the Company recognized expense related to stock compensation awarded under the Hostess Brands, Inc. 2016 Equity Incentive Plan.~~


~~ii.~~	~~For the nine months ended September 30, 2017, the Company incurred a loss on the remeasurement of the tax receivable agreement due to a change in state tax law.~~


~~iii.~~	For the nine months ended September 30, 2016, we incurred a loss on a sale/abandonment of property and bakery shutdown costs, primarily due to utilities, insurance, taxes and maintenance expenses related to the Schiller Park, Illinois bakery.

~~iv.~~

For the nine months ended September 30, 2017, other expense primarily included professional fees incurred related to the secondary public offering of common stock and the registration of certain privately held warrants. For the pro forma nine months ended September 30, 2016, other expense primarily consisted of professional fees attributed to the pursuit of a potential acquisition that has since been abandoned, and other special projects.


v.	~~During the nine months ended September 30, 2017, previously capitalized debt issuance costs were expensed.~~

~~vi.~~

During the nine months ended September 30, 2017, the Company transitioned the production of one of its products to a third party and recognized an impairment loss resulting from the idling of the related production equipment. During the pro forma nine months ended September 30, 2016, the Company closed multiple production lines in Indianapolis, Indiana bakery and transitioned production to other facilities resulting in an impairment loss.


~~vii.~~	~~For the pro forma nine months ended September 30, 2016, business combination transaction costs consisted of professional and legal costs for the acquisition of Superior.~~

~~Net Revenue~~

Net revenue was $580.0 million, an increase of $31.2 million, or 5.7%, compared to historical and pro forma net revenue of $548.8 million for the nine months ended September 30, 2016. The increase was primarily due to 2017 new product initiatives along with white space opportunities growth led by In-Store Bakery (which contributed $15.0 million due to the acquisition of Superior and In-Store Bakery product innovation), and other developing sales channels. These amounts were partially offset by lower prior year innovation revenue and discontinued items.

~~Cost of Goods Sold and Gross Profit~~

Cost of goods sold for the nine months ended September 30, 2017 of $333.9 million represents an increase of $24.4 million or 7.9% from the historical costs of goods sold of $309.4 million for the nine months ended September 30, 2016 and an increase of $24.1 million or 7.8% from the pro forma costs of goods sold of $309.7 million for the nine months ended September 30, 2016. The increase in the nine months ended September 30, 2017 from both historical and pro forma nine months ended September 30, 2016 is primarily attributed to the ~~increase in revenue.~~currently unprofitable products and higher costs resulting from the integration of the Chicago Bakery and higher transportation costs and other inflationary pressures.

~~Gross~~Sweet Baked Goods gross profit ~~was $246.1 million~~ for the ~~nine~~six months ended ~~September~~June 30, ~~2017, an increase~~2018 was 33.2% of ~~$6.8 million, or 2.8%,~~net revenue for the six months ended June 30, 2018, compared to ~~historical gross profit~~44.3% of ~~$239.3 million~~net revenue for the ~~nine~~six months ended ~~September~~June 30, ~~2016 and an increase of $7.1 million, or 3.0% compared to pro forma~~2017. The decrease in gross profit of $239.0 million for the nine months ended September 30, 2016. The increase in the nine months ended September 30, 2017 from both historical and pro forma nine months ended September 30, 2016 ismargin was primarily attributed to the ~~increase in revenue.~~currently unprofitable products and higher costs resulting from the integration of the Chicago Bakery, higher transportation costs and other inflationary pressures and bonuses paid to hourly employees as a result of the projected benefits of newly enacted tax legislation.

~~Gross margin was 42.4%~~In-Store Bakery net revenue for the ~~nine~~three months ended ~~September~~June 30, ~~2017,~~2018 increased 1.1% from the three months ended June 30, 2017. In-Store Bakery gross profit for the three months ended June 30, 2018 was 21.5% of net revenue compared to ~~historical gross margin of 43.6%~~25.8% for the ~~nine~~three months ended ~~September~~June 30, ~~2016 and pro forma gross margin of 43.6% for the nine months ended September 30, 2016.~~2017. The decrease in ~~margin for the nine months ended September 30, 2017 from both historical and pro forma~~ gross ~~margin for the nine months ended September 30, 2016 is primarily due~~profit was attributed to a shift in product ~~mix to include the Company’s~~ and channel mix. Gross margin was further affected by higher transportation costs.

In-Store Bakery ~~operations and growth in multi-pack and club-pack product sales as a percentage of total revenue. In addition, the cost of transportation as a percentage of~~ net revenue ~~increased 60 basis points due to tightening of shipping capacity and an increase in~~for the ~~percentage of orders on a refrigerated class of transportation.~~

~~Gross~~six months ended June 30, 2018 decreased 0.8% from the six months ended June 30, 2017. In-Store Bakery gross profit for the ~~Sweet Baked Goods segment for the nine~~six months ended ~~September~~June 30, ~~2017~~2018 was ~~$230.2 million, or 43.9%~~20.4% of net revenue compared to ~~gross profit of $227.3 million or 44.7% of net revenue~~25.8% for the ~~historical nine~~six months ended ~~September~~June 30, 2016. Gross margin decreased due to larger growth in our multi-pack and club-pack product sales as a percentage of total sales growth. In addition, the cost of transportation as a percentage of revenue increased by approximately 60 basis points due to tightening of shipping capacity and an increase in the percentage of orders on a refrigerated class of transportation.

Gross profit for the Other segment for the nine months ended September 30, 2017 was $15.9 million, or 28.8% of net revenue, compared to historical gross profit of $12.0 million, or 29.7% of net revenue for the nine months ended September 30, 2016.2017. The decrease in ~~margin~~revenue and gross profit was attributed to ~~In-Store Bakery sales.~~

~~Operating Costs~~a shift in product and ~~Expenses~~

~~Advertising and Marketing~~

Advertising and marketing expenses for the nine months ended September 30, 2017 of $24.3 million represents a decrease of 11.7% over the historical and pro forma advertising and marketing expenses of $27.5 million for the nine months ended September 30, 2016, as a result of lower packaging designchannel mix. Gross margin was further affected by higher transportation costs and ~~reduced permanent display deployment during the year.~~

~~Selling Expense~~

~~Selling expense of $24.4 million, or 4.2% of revenue for the~~ ~~nine months ended September 30, 2017~~ ~~was comparable~~other inflationary pressures and bonuses paid to ~~$23.2 million, or 4.2% of revenue on a historical and pro forma basis for the~~ ~~nine months ended September 30, 2016~~ ~~due to the addition of In-Store Bakery operations and an adjustment to our bad debt expense.~~

~~General and Administrative~~

General and administrative expenses for the nine months ended September 30, 2017 of $43.4 million represents an increase of $11.4 million or 35.6% over historical general and administrative expense of $32.0 million for the nine months ended September 30, 2016 and ~~an increase of$12.1 million~~ or 38.6% over the pro forma general and administrative expenses of $31.4 million for the nine months ended September 30, 2016. The increase of the 2017 expenses over both the historical and pro forma 2016 expenses is attributed to increased non-cash share-based compensation of $8.0 million and increased professional fees related to public company compliance of $2.6 million.

~~Amortization of Customer Relationships~~

Amortization of customer relationships was $17.9 million for the nine months ended September 30, 2017, compared to historical customer relationships amortization of $0.5 million for the nine months ended September 30, 2016 and pro forma customer relationships amortization of $18.4 million for the nine months ended September 30, 2016. For the third quarter 2016 on a historical basis, amortization expense was based on the valuation of customer relationships acquired from Old Hostess in 2013. The amortization expense for the nine months ended September 30, 2017 and the nine months ended September 30, 2016 on a pro forma basis reflects the new valuation of the customer relationships acquired through the Business Combination.

~~Impairment of Property and Equipment~~

During the nine months ended September 30, 2017, we idled a production line in our Columbus, Georgia facility and transitioned the production to a third party. We recognized an impairment loss of $1.0 million.

For the nine months ended September 30, 2016 on a historical and pro forma basis, we recorded an impairment loss of $7.3 million resulting from the closure of multiple production lines at the Indianapolis, Indiana bakery and the transition of those production lines to other facilities. There was no such activity for the the nine months ended September 30, 2017.

~~Tax Receivable Agreement Liability Remeasurement~~

~~For the nine months ended September 30, 2017, we recognized a loss of $1.6 million related to a remeasurement of the tax receivable agreement due to a change in state tax law.~~

~~Recall and Other Costs~~

For the nine months ended September 30, 2016, other costs, on both a historical and pro forma basis, are attributed to utilities, insurance, taxes, and maintenance expenses related to the closure of our Schiller Park, Illinois bakery.

~~Related Party Expenses~~

Related party expenses were $0.3 million for the nine months ended September 30, 2017 compared to historical and pro forma expenses of $3.4 million for the nine months ended September 30, 2016. These expenses represent payments made to Mr. Metropoulos under the terms of his employment arrangements. Following the Business Combination, the expenses associated with Mr. Metropoulos’s employment arrangement are estimated to be $0.3 million annually.

~~Operating Income~~

The 3.4% decrease in operating income from historical operating income of $137.9 million for the nine months ended September 30, 2016 to $133.2 million for the nine months ended September 30, 2017 attributed to additional depreciation and amortization and stock-based compensation in 2017 offset by an increase in sales. ~~When considering the additional depreciation and amortization expense resulting from the Business Combination, operating income for the nine months ended September 30, 2017~~ ~~increased$6.4 million~~ ~~or 5.0% compared to pro forma operating income for the nine months ended September 30, 2016.~~

~~Interest Expense, net~~

Our interest expense decreased 44.5% from $53.7 million for the historical nine months ended September 30, 2016 to $29.8 million for the nine months ended September 30, 2017 primarily from the refinancing of our Second Lien Term Loan in November 2016 and the amendment of our First Lien Term Loan in May 2017. In both cases, our effective interest rate on outstanding debt was decreased. Additionally, $217 million of principal was repaid as part of the Business Combination. This was offset by the additional interest expense related to our interest rate swap, which was effective in May 2017. Excluding expense associated with the principal repayment, interest expense for the nine months ended September 30, 2017 decreased 25.1% from pro forma interest expense of $39.9 million for the nine months ended September 30, 2016,hourly employees as a result of the ~~lower effective interest rate offset by the interest rate swap settlement.~~

~~Loss on Modification~~projected benefits of ~~Debt~~

During the nine months ended September 30, 2017, we expensed $2.1 million of previously capitalized debt financing charges. See Note 1-“Summary of Significant Accounting Policies” to the consolidated financial statements included in Part 1, Item 1 of this Quarterly Report on Form 10-Q.

~~Other Expense~~

For the nine months ended September 30, 2017, we recorded other expenses of $1.3 million which primarily consisted of legal and professional fees related to a secondary public offering of common stock which was completed in April 2017 and the registration of certain privately held warrants which was completed in June 2017. For the nine months ended September 30, 2016, historical and pro forma other expense of $2.3 million was attributed to professional fees incurred in the pursuit of a potential acquisition that was subsequently abandoned, and other special projects.

~~Income Taxes~~

~~The income~~newly enacted tax expense of $31.6 million for the nine months ended September 30, 2017 includes an adjustment to our deferred tax liability of approximately $2.2 million caused by a change to a state tax rate. The remaining tax expense of $29.4 million represents an effective tax rate of 29.4% giving effect to the non-controlling interest, a partnership for income tax purposes. There was no historical income tax expense until the acquisition of Superior in May 2016, as the Company was a partnership for income tax purposes prior to the Business Combination.

~~Adjusted EBITDA~~

Adjusted EBITDA was $172.4 million for the nine months ended September 30, 2017, an increase of $9.9 million, or 6.1%, compared to pro forma adjusted EBITDA of $162.5 million for the nine months ended September 30, 2016. As a percentage of net revenue, adjusted EBITDA was 29.7% for the first nine months of 2017, which was comparable to pro forma adjusted EBITDA of 29.6% of net revenues in the same period last year.

~~Segments~~

We have two reportable segments: “Sweet Baked Goods” and “Other”. Sweet Baked Goods consists of sweet baked goods that are sold under the Hostess® and Dolly Madison® brands. Other consists of Hostess® branded bread and buns, which we launched in April 2015, frozen retail (which consists of deep-fried Twinkies®, launched in August 2016) and “In-Store Bakery,” or “ISB” (which consists of Superior, which we purchased in May 2016, and manufactures and distributes eclairs, madeleines, brownies, and iced cookies in the ISB section of retailers), and licensing.

~~We evaluate performance and allocate resources based on net revenue and gross profit. Information regarding the operations of these reportable segments is as follows:~~

Unaudited Segment Financial Data
(In thousands) Nine Months
Ended September 30,
2017 Nine Months
Ended September 30,
2016

(Successor) (Predecessor)
Net revenue:

Sweet Baked Goods $ 524,731
$ 508,288

Other 55,236
40,469

Net revenue $ 579,967
$ 548,757

Gross profit:
Sweet Baked Goods $ 230,217
$ 227,322

Other 15,889
12,008

Gross profit $ 246,106
$ 239,330

Capital expenditures (1):

Sweet Baked Goods $ 24,772
$ 25,701

Other
643
211

Capital expenditures $ 25,415
$ 25,912


~~(1)~~	Capital expenditures consists of purchases of property and equipment and acquisition and development of software assets paid in cash or acquired through accounts payable during the nine months ended September 30, 2017 (Successor) and 2016 (Predecessor).

~~The Company has one customer that accounted for 10% or more of the Company’s total net revenue. The percentage of total net revenues for this customer is presented below by segment:~~

Unaudited Segment Data
Nine Months Ended
(% of Consolidated Net Revenues)
September 30, 2017 September 30, 2016
(Successor) (Predecessor)
Sweet Baked Goods 18.9 % 20.3 %
Other 0.8 % 1.5 %
Total 19.7 % 21.8 %

legislation.

Liquidity and Capital Resources

Our primary sources of liquidity are from ~~the~~ cash on ~~the balance sheet,~~hand, future cash flow generated from operations, and availability under our revolving credit agreement (“Revolver”). We believe that cash flows from operations and the current cash and cash equivalents on the balance sheet will be sufficient to satisfy the anticipated cash requirements associated with our existing operations for at least the next 12 months. Our ability to generate sufficient cash from our operating activities depends on our future performance, which is subject to general economic, political, financial, competitive and other factors beyond our control. In addition, our future capital expenditures and other cash requirements could be higher than we currently expect as a result of various factors, including any expansion of our business that we undertake, including acquisitions. We consider all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents.

We had working capital, excluding cash, as of ~~September~~June 30, ~~2017~~2018 and December 31, ~~2016~~2017 of ~~$30.3~~$24.3 million and ~~$20.6~~$15.5 million, respectively. We have the ability to borrow under our Revolver to meet obligations as they come due. As of ~~September~~June 30, ~~2017,~~2018, we had approximately ~~$96.1~~$96.9 million available for borrowing, net of letters of credit, under our Revolver.

Cash Flows from Operating Activities

Cash flows provided by operating activities for the ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor)~~2018 were ~~$117.8~~$81.2 million and for the ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor)~~2017 were ~~$89.5~~$67.8 million. The increase in cash ~~flows~~flows provided by operating activities ~~between the two periods is due~~was primarily attributed to ~~an increase in income before taxes and~~ the timing of vendor payments ~~processed through accounts payable offset by higher inventory~~ and ~~prepaid expense balances.~~customer receipts as well as lower income tax payments.

Cash Flows from Investing Activities

~~Cash~~Cash flows used in investing activities for the ~~nine~~six months ended ~~September~~June 30, 2018 and 2017 ~~(Successor) and 2016 (Predecessor)~~ were ~~$24.4~~$45.3 million and ~~$71.7~~$15.9 million, respectively. Cash outflows from investing activities ~~decreased from 2016~~increased in 2018 due to the acquisition of ~~Superior~~the Chicago Bakery, as well as an increase in ~~2016.~~capital expenditures.

Our property and equipment capital expenditures primarily consisted of strategic growth initiatives ~~maintenance~~ and productivity improvements. ~~We expect that our cash~~Cash outflows for ~~capital~~the purchase of property and equipment for the six months ended June 30, 2018 increased from the same period last year due to additional expenditures ~~will be approximately $5.0 million~~ to ~~$15.0 million during~~support a new cake line in our Columbus, Georgia bakery and investments in the ~~remainder~~operations of ~~2017.~~the Chicago Bakery.

Cash Flows from Financing Activities

Cash flows used in financing activities were ~~$19.1~~$56.3 million for the ~~nine~~six months ended ~~September~~June 30, ~~2017 (Successor)~~2018 and ~~$18.1~~$12.5 million for the ~~nine~~six months ended ~~September~~June 30, ~~2016 (Predecessor). In both periods, financing activities were~~2017. The increase is primarily ~~attributed~~due to ~~scheduled principal payments on long term debt and~~the $34.0 million payment to buy out a portion of the Tax Receivable Agreement, as well as a payment to the remaining counterparty of $7.4 million related to 2017 cash tax savings. We also paid distributions to ~~partners/~~the non-controlling interest, ~~in respect of their~~a partnership for income tax ~~liability.~~purposes, to cover income tax payments.

Long-Term Debt

We had no outstanding borrowings under our Revolver as of ~~September~~June 30, ~~2017.~~2018.

As of ~~September~~June 30, ~~2017, $993.8~~2018, $988.8 million aggregate principal amount of the ~~Second Amended~~Third First Lien Term Loan and ~~$3.9~~$3.1 million aggregate principal amount of letters of credit, reducing the amount available under the Revolver, were outstanding. ~~See Note 14 -- “Commitments and Contingencies” to the consolidated financial statements in Part 1, Item 1 of this Quarterly Report on Form 10-Q for information regarding the letters of credits.~~

As of ~~September~~June 30, ~~2017,~~2018, the Company was in compliance with the covenants under the ~~Second Amended~~Third First Lien Term Loan and the Revolver.

~~Commitments~~Contractual Obligations and ~~Contingencies~~Commitments

AsWith the exception of ~~September 30, 2017,~~ the ~~Company has commitments and contingencies for tax receivable arrangements, debt, operating leases, and advance purchase commitments. Refer to~~Tax Receivable Agreement (as discussed in Note ~~14--“Commitments and Contingencies”~~11 to the consolidated financial statements, ~~included~~“Tax Receivable Agreement”), there were no material changes, outside the ordinary course of business, in ~~Part I, Item 1~~our outstanding contractual obligations from those disclosed within “Management’s Discussion and Analysis of ~~this Quarterly~~Financial Condition and Results of Operations” in our Annual Report on Form ~~10-Q.~~

Contractual Commitments as of September 30, 2017 Total Committed Commitments within 1 year Commitments beyond 1 year
(In thousands)
Tax receivable agreement $ 175,487
$ —
$ 175,487
Second Amended First Term Loan 993,763
9,963
983,800
Interest payments on Term Loan 180,924
36,928
143,996
Distribution Center (Shorewood, IL) 2,656
1,763
893
Corporate office lease (Kansas City, MO) 426
243
183
Corporate office lease (Dallas, TX) 6
6
—
Superior capital lease 683
200
483
Ingredient procurement 82,400
69,200
13,200
Packaging procurement 44,300
39,100
5,200
$ 1,480,645
$ 157,403
$ 1,323,242

~~Tax receivable agreement~~

~~The tax receivable agreement entered into in connection with the Business Combination (the “Tax Receivable Agreement”) generally provides~~10-K for the payment by the Company to the Legacy Hostess Equityholders of 85% of the net cash savings, if any, in U.S. federal, state and local income tax that the Company actually realizes (or is deemed to realize in certain circumstances) in periods after the closing of the Business Combination (which periods may extend, unless the Tax Receivable Agreement is terminated early in accordance with its terms, for more than 15 years following any exchange of Class B units of Hostess Holdings for shares of the Company’s Class A common stock or the cash equivalent thereof) as a result of (i) certain increases in tax basis resulting from the Business Combination; (ii) certain tax attributes of Hostess Holdings and its subsidiaries existing prior to the Business Combination and prior to subsequent exchanges of Class B units; (iii) certain increases in tax basis resulting from exchanges of Class B units; (iv) imputed interest deemed to be paid by the Company as a result of payments it makes under the Tax Receivable Agreement; and (v) certain increases in tax basis resulting from payments the Company makes under the Tax Receivable Agreement. The Company will retain the benefit of the remaining 15% of these cash savings. Certain payments under the Tax Receivable Agreement will be made to Legacy Hostess Equityholders in accordance with specified percentages, regardless of the source of the applicable tax attribute. The most significant estimate utilized by management to calculate the corresponding liability is the Company’s future cash tax savings rates, which are projected based on current tax laws and the Company’s historical and projected future tax profile.

~~During the three months~~year ended September 30, 2017, we recognized approximately $1.6 million of expense to adjust the tax receivable agreement to reflect an increase to the estimated future cash tax savings rate attributed to a state tax law change. We recognized a corresponding loss on the consolidated statement of operations.December 31, 2017.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

We are exposed to interest rate market risk.

Market risk on variable-rate financial instruments

Our ~~Second Amended~~Third First Lien Term Loan and Revolver each bear interest on outstanding borrowings thereunder at variable interest rates. The rate in effect at ~~September~~June 30, ~~2017~~2018 for the outstanding ~~Second Amended~~Third First Lien Term Loan was a LIBOR-based rate of ~~3.74%~~4.23% per annum. At ~~September~~June 30, ~~2017,~~2018, the subsidiary borrower had an aggregate principal balance of ~~$993.8~~$988.8 million outstanding under the ~~Second Amended~~Third First Lien Term ~~Loan.At September~~Loan. At June 30, ~~2017,~~2018, the subsidiary borrower ~~had $96.1~~had $96.9 million available for borrowing, net of letters of credit of ~~$3.9~~$3.1 million, ~~under its~~under our Revolver. Increases in market interest rates would cause interest expense to increase and earnings before income taxes to decrease.

To manage the risk related to our variable rate debt, we have entered into an interest rate swap contract with a counter party to make a series of payments based on a fixed interest rate of 1.78% and receive a series of payments based on the greater of LIBOR or 0.75%. Both the fixed and floating payment streams are based on a notional amount of $500 million at the inception of the contract and will be reduced by $100 million each year of the five year contract.

The change in interest expense and earnings before income taxes resulting from a change in market interest rates would be dependent upon the weighted average outstanding borrowings and the portion of those borrowings that are hedged by our swap contract during the reporting period following an increase in market interest rates. An increase or decrease in applicable interest rates of 1% would result in an increase or decrease in interest payable of approximately ~~$1.3~~$1.5 million and ~~$3.3~~$2.8 million for the three and ~~nine~~six months ended ~~September~~June 30, ~~2017,~~2018, respectively, after accounting for the impact of our swap contract.


Item 4.	Controls and Procedures

E~~valuation of Disclosure Controls and Procedures~~

~~As required by Rule 13a-15(b) under the Exchange Act, we have evaluated, under~~Under the supervision and with the participation of our management, including our ~~principal executive officer~~Chief Executive Officer and ~~principal financial officer,~~our Chief Financial Officer, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) ~~and 15d-15(e)~~) under the Securities and Exchange Act of 1934, as amended (the Exchange Act)) as of June 30, 2018, the end of the ~~three months~~period covered by this ~~Quarterly Report on Form 10-Q.~~report. Based on ~~such~~that evaluation, ~~our principal executive officer~~the Chief Executive Officer and ~~principal financial officer have~~Chief Financial Officer concluded that ~~as of such date,~~ our disclosure controls and procedures were ~~effective. Our disclosure controls and procedures are designed~~effective as of June 30, 2018 to ~~provide reasonable assurance~~ensure that ~~the~~ information required to be disclosed ~~by us~~ in our reports ~~that we file~~filed or submitted under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate, to allow timely decisions regarding required disclosure and is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the ~~SEC.~~Securities and Exchange Commission, and that information relating to the Company is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

~~Changes~~During the three months ended June 30, 2018, there was no change in ~~Internal Control over Financial Reporting~~

~~As of September 30, 2017 we continue to engage in the process of the design and implementation of~~ our internal control over financial reporting (as defined in ~~a manner commensurate with~~Rule 13a-15(f) under the ~~scale of our operations subsequent to the November 4, 2016 Business Combination. We have hired a third-party consultant to assist us with this effort.~~

~~Except as disclosed above related to design and implementation, there were no changes in the Company’s internal control over financial reporting during the nine months ended September 30, 2017~~Exchange Act) that ~~have~~has materially affected, or ~~are~~is reasonably likely to materially affect, ~~the Company’s~~our internal control over financial reporting.

PART II

Item 1. Legal Proceedings

We are involved in lawsuits, claims and proceedings arising in the ordinary course of business. These matters involve personnel and employment issues, personal injury, contract and other proceedings arising in the ordinary course of ~~business, which have not resulted in any material losses to date.~~business. Although we do not expect the outcome of these proceedings to have a material adverse effect on our financial condition or results of operations, litigation is inherently unpredictable. Therefore, we could incur judgments or enter into settlements or claims that could materially impact our results.

The information required to be furnished by us under this Part II, Item 1 (Legal Proceedings) is incorporated by reference to the information contained in Note 14.--Commitments and Contingencies to the consolidated financial statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q.

Item 1A. Risk Factors

Our risk factors are set forth in the “Risk Factors” section of our Annual Report on Form 10-K filed on ~~March 14, 2017. There~~February 28, 2018 (the “Form 10-K”). Except as disclosed below, there have been no material changes to our risk factors since the filing of the Form 10-K.

A portion of our workforce belongs to unions. Failure to successfully negotiate collective bargaining agreements, or strikes or work stoppages could cause our business to suffer.

Approximately 46.3% of our employees, as of June 30, 2018, are covered by collective bargaining agreements and other employees may seek to be covered by collective bargaining agreements. Strikes or work stoppages or other business interruptions could occur if we are unable to renew these agreements on satisfactory terms or enter into new agreements on satisfactory terms, which could impair manufacturing and distribution of our products or result in a loss of sales, which could adversely impact our business, financial condition or operating results. The terms and conditions of existing, renegotiated or new collective bargaining agreements could also increase our costs or otherwise affect our ability to fully implement future operational changes to enhance our efficiency or to adapt to changing business needs or strategy.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Not applicable.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

None.

Item 6. Exhibits



Exhibit No.		Description


10.1		~~HB Key Executive Severance Benefit Plan,~~Employment Agreement, dated ~~as of September~~April 12, ~~2017 (incorporated~~2018, by ~~reference to Exhibit 10.1 to the Company’s Current Report on~~and between Hostess Brands, Inc. and Andrew Callahan

10.2		Toler Consulting Agreement

10.3		2018 Director Restricted Stock Unit Award Agreement Form ~~8-K filed with the SEC on September 18, 2017)~~

31.1		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002

31.2		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002

32.1		Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002

32.2		Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002

101.INS		XBRL Instance Document

101.SCH		XBRL Taxonomy Extension Schema Document

101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF		XBRL Taxonomy Extension Definition Linkbase Document

101.LAB		XBRL Taxonomy Extension Label Linkbase Document

101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

Pursuant to the requirements of Section 13 or 15(d) 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, in Kansas City, Missouri on ~~November 8, 2017.~~August 7, 2018.



HOSTESS BRANDS, INC.

By	/s/ Thomas Peterson
	Thomas Peterson Executive Vice President, Chief Financial Officer



Partners’ Equity (Deficit) Hostess Holdings, LP (Predecessor)
	Class A			Class C			Total Partners’ Equity (Deficit)			Non-controlling Interest
Balance – December 31, 2015	$	(276,084	)	$	(346,046	)	$	(622,130	)	$	(37,991	)
Distributions to partners	(2,439		)	(8,134		)	(10,573		)	(555		)
Unit based compensation	345			344			689			—
Net income	38,707			38,706			77,413			4,110
Balance – September 30, 2016	$	(239,471	)	$	(315,130	)	$	(554,601	)	$	(34,436	)



	Restricted Stock Units		Weighted Average Grant Date Fair Value
Unvested units as of December 31, 2016 (Successor)	—		$	—
Total Granted	1,425,790		15.77
Forfeited	(79,543	)	15.78
Vested	—		—
Unvested as of September 30, 2017 (Successor)	1,346,247		$	15.77



	Shares of Restricted Stock	Weighted Average Grant Date Fair Value
Unvested units as of December 31, 2016 (Successor)	—	$	—
Granted	435,000	15.78
Forfeited	—	—
Vested	—	—
Unvested as of September 30, 2017 (Successor)	435,000	$	15.78



	Number of Options		Weighted Average Remaining Contractual Life (years)	Weighted Average Exercise Price		Weighted Average Grant Date Fair Value
Outstanding as of December 31, 2016 (Successor)	—		—	$	—	$	—
Granted	1,155,788		5.77	15.85		5.03
Exercised	—		—	—		—
Forfeited	(44,371	)	5.75	15.78		5.03
Outstanding as of September 30, 2017 (Successor)	1,111,417		5.77	$	15.85	$	5.03
Exercisable as of September 30, 2017 (Successor)	—		—	—		—



(In thousands)
Remainder of 2017	$	2,491
2018	9,963
2019	9,963
2020	9,963
2021	9,963
2022 and thereafter	951,420



(In thousands)
Balance December 31, 2016 (Successor)	$	165,384
Measurement period adjustment of the Business Combination	(3,016		)
Balance arising from exchanges of Class B units for Class A shares	11,530
Remeasurement due to change in state tax rate	1,589
Balance September 30, 2017 (Successor)	$	175,487



(In millions)	Total Committed		Commitments within 1 year		Commitments beyond 1 year
Ingredients	$	82.4	$	69.2	$	13.2
Packaging	$	44.3	$	39.1	$	5.2



	(Successor)				Historicalⁱ (Predecessor)								Pro Forma
(In thousands, except per share data)	Three Months Ended September 30, 2017		% of Net Revenues		Three Months Ended September 30, 2016				Pro Forma Adjustments				Three Months Ended September 30, 2016				% of Net Revenues
Net revenue	$	192,250	100.0	%	$	196,197			$	—			$	196,197			100.0	%
Cost of goods sold	113,885		59.2		113,618				(185		)	ii	113,433				57.8
Gross profit	78,365		40.8		82,579				185				82,764				42.2

Operating costs and expenses:
Advertising and marketing	8,871		4.6		10,381				—				10,381				5.3
Selling expense	7,606		4.0		8,271				—				8,271				4.2
General and administrative	14,494		7.5		10,784				(346		)	ii	10,438				5.3
Amortization of customer relationships	5,994		3.1		156				5,938			iii	6,094				3.1
Impairment of property and equipment	1,003		0.5		—				—				—				—
Business combination transaction costs	—		—		4,049				(4,049		)	iv	—				—
Related party expenses	92		—		1,058				—				1,058				0.5
Tax receivable agreement liability remeasurement	1,589		0.8		—				—				—				—
Recall and other costs (recoveries)	—		—		(3,787		)		—				(3,787		)		(1.9	)
Total operating costs and expenses	39,649		20.5		30,912				1,543				32,455				16.5
Operating income	38,716		20.1		51,667				(1,358		)		50,309				25.7
Other expense:
Interest expense, net	9,966		5.2		18,004				(4,623		)	v	13,381				6.8
Loss on modification of debt	2,122		1.1		—			—	—				—			—	—
Other expense	182		0.1		173				—				173				0.1
Total other expense	12,270		6.4		18,177				(4,623		)		13,554				6.9
Income before income taxes	26,446		13.7		33,490				3,265				36,755				18.7
Income tax expense (benefit)	10,316		5.4		(23		)		10,496			vi	10,473				5.3
Net income	16,130		8.3		33,513				(7,231		)		26,282				13.4
Less: Net income attributable to the non-controlling interest	6,581		3.4		2,329				6,852			vii	9,181				4.7
Net income attributable to Class A shareholders	$	9,549	4.9	%	$	31,184			$	(14,083	)		$	17,101			8.7	%

Earnings per Class A share:
Basic	$	0.10											$	0.18
Diluted	$	0.09											$	0.18

Weighted-average shares outstanding:
Basic	99,557,183								97,589,217			viii	97,589,217
Diluted	105,418,566								97,589,217			viii	97,589,217



	Unaudited Segment Data
	Three Months Ended
(% of Consolidated Net Revenues)	September 30, 2017		September 30, 2016
Sweet Baked Goods	18.8	%	18.1	%
Other	0.9	%	3.1	%
Total	19.7	%	21.2	%



Reconciliation of Adjusted EBITDA (Unaudited)

(In thousands)		Nine Months Ended September 30, 2017		Pro Forma Nine Months Ended September 30, 2016

Net income		$	68,536	$	60,468
Plus non-GAAP adjustments:
Income tax provision		31,608		24,098
Interest expense, net		29,831		39,875
Depreciation and amortization		28,576		27,352
Share-based compensation	i.	7,990		—
Tax receivable agreement liability remeasurement	ii.	1,589		—
Recall and other	iii.	—		473
Other expense	iv.	1,309		2,342
Loss on debt modification	v.	1,948		—
Impairment of property and equipment	vi.	1,003		7,267
Business combination transaction costs	vii.	—		575
Adjusted EBITDA		$	172,390	$	162,450