UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM ~~10‑Q~~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 ~~March 31, 2019~~
	June 30, 2019
	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~~001-37540

HOSTESS BRANDS, INC.

(Exact name of registrant as specified in its charter)



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

~~(816)~~ (816) 701‑4600

Registrant’s telephone number, including area code

Securities registered pursuant to Section 12(b) of the Act:



Title of each Class	Ticker Symbol	Name of each exchange on which registered
Class A Common Stock, Par Value of $0.0001 per share	TWNK	The Nasdaq Stock Market LLC
Warrants, each exercisable for a half share of Class A Common Stock	TWNKW	The Nasdaq Stock Market LLC

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. Yesx☒ No o☐

Indicate by check mark whether the registrant has submitted electronically, every Interactive Data File required to be submitted 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). Yesx☒ 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 filerx	☒	Accelerated filer o	☐	Non‑accelerated filero	☐	Smaller reporting company o	☐	Emerging growth company o	☐

☐ 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



~~Title of each Class~~	~~Ticker Symbol~~	~~Name of each exchange on which registered~~
~~Class A Common Stock, Par Value of $0.0001 per share~~	~~TWNK~~	~~NASDAQ Capital Market~~
~~Warrants, each exercisable for a half share of Class A Common Stock~~	~~TWNKW~~	~~NASDAQ Capital Market~~

☒

Shares of Class A common stock outstanding - ~~101,301,842~~109,323,871 shares at ~~May 8,~~August 6, 2019

Shares of Class B common stock outstanding - ~~28,999,784~~20,999,784 shares at ~~May 8,~~August 6, 2019

HOSTESS BRANDS, INC.

FORM 10-Q

For the Quarter Ended ~~March 31,~~June 30, 2019

INDEX



		Page
PART I - Financial Information
Item 1.	Consolidated Financial Statements
	Consolidated Balance Sheets (Unaudited)	4
	Consolidated Statements of Operations (Unaudited)	5
	Consolidated Statements of Comprehensive Income (Unaudited)	6
	Consolidated Statements of Stockholders’ Equity (Unaudited)	7
	Consolidated Statements of Cash Flows (Unaudited)	8
	Notes to Consolidated Financial Statements (Unaudited)	9
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	1718
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	2023
Item 4.	Controls and Procedures	2123
PART II - Other Information
Item 1.	Legal Proceedings	2123
Item 1A.	Risk Factors	2124
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	2124
Item 3.	Default Upon Senior Securities	2124
Item 4.	Mine Safety Disclosures	2124
Item 5.	Other Information	2224
Item 6.	Exhibits	2325

Cautionary Note Regarding Forward Looking Statements

This Quarterly Report on Form 10-Q 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 under “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018, 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.

HOSTESS BRANDS, INC.

CONSOLIDATED BALANCE SHEETS

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


	March 31,		December 31,		June 30,			December 31,
ASSETS	2019		2018		2019			2018

Current assets:
Cash and cash equivalents	$	160,483	$	146,377	$	189,284		$	146,377
Accounts receivable, net	129,231		105,679		128,187			105,679
Inventories	43,158		38,580		42,893			38,580
Prepaids and other current assets	5,695		8,806		10,285			8,806
Total current assets	338,567		299,442		370,649			299,442
Property and equipment, net	221,636		220,349		223,751			220,349
Intangible assets, net	1,895,231		1,901,215		1,889,221			1,901,215
Goodwill	575,645		575,645		574,645			575,645
Other assets, net	12,761		14,062		10,713			14,062
Total assets	$	3,043,840	$	3,010,713	$	3,068,979		$	3,010,713

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities:
Long-term debt and lease obligations payable within one year	$	13,243	$	11,268	$	13,206		$	11,268
Tax receivable agreement payments payable within one year	3,700		4,400		7,700			4,400
Accounts payable	74,648		65,288		72,161			65,288
Customer trade allowances	44,114		42,010		50,765			42,010
Accrued expenses and other current liabilities	18,950		18,137		23,100			18,137
Total current liabilities	154,655		141,103		166,932			141,103
Long-term debt and lease obligations	974,440		976,736		972,118			976,736
Tax receivable agreement	63,145		64,663		85,820			64,663
Deferred tax liability	275,238		277,954		273,575			277,954
Other long term liabilities					107			—
Total liabilities	1,467,478		1,460,456		1,498,552			1,460,456

Commitments and Contingencies (Note 10)
Commitments and Contingencies (Note 11)

Class A common stock, $0.0001 par value, 200,000,000 shares authorized,100,046,442 and 100,046,392 shares issued and outstanding at March 31, 2019 and December 31, 2018, respectively	10		10
Class B common stock, $0.0001 par value, 50,000,000 shares authorized, 30,255,184 shares issued and outstanding at March 31, 2019 and December 31, 2018	3		3
Class A common stock, $0.0001 par value, 200,000,000 shares authorized,109,323,871 and 100,046,392 shares issued and outstanding at June 30, 2019 and December 31, 2018, respectively					11			10
Class B common stock, $0.0001 par value, 50,000,000 shares authorized, 20,999,784 and 30,255,184 shares issued and outstanding at June 30, 2019 and December 31, 2018, respectively					2			3
Additional paid in capital	927,570		925,902		1,022,529			925,902
Accumulated other comprehensive income	1,307		2,523
Accumulated other comprehensive income (loss)					(190		)	2,523
Retained earnings	292,491		271,365		303,974			271,365
Stockholders’ equity	1,221,381		1,199,803		1,326,326			1,199,803
Non-controlling interest	354,981		350,454		244,101			350,454
Total liabilities and stockholders’ equity	$	3,043,840	$	3,010,713	$	3,068,979		$	3,010,713

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						Three Months Ended					Six Months Ended
	March 31, 2019			March 31, 2018			June 30, 2019		June 30, 2018			June 30, 2019		June 30, 2018

Net revenue	$	222,738		$	208,743		$	241,060	$	215,849		$	463,798	$	424,592
Cost of goods sold	147,550			137,502			157,610		148,992			305,160		286,494
Gross profit	75,188			71,241			83,450		66,857			158,638		138,098
Operating costs and expenses:
Advertising and marketing	8,863			8,870			10,696		8,938			19,559		17,808
Selling expense	8,520			7,387			8,310		7,751			16,830		15,139
General and administrative	17,471			14,562			19,276		11,185			36,747		25,746
Amortization of customer relationships	5,985			5,994			6,009		5,994			11,994		11,989
Other operating expense (income)	(1,761		)	1,556			2,278		(1,660		)	517		(104		)
Total operating costs and expenses	39,078			38,369			46,569		32,208			85,647		70,578
Operating income	36,110			32,872			36,881		34,649			72,991		67,520
Other expense (income):
Interest expense, net	10,236			9,340			10,302		9,749			20,538		19,089
Gain on buyout of tax receivable agreement	—			(12,372		)	—		—			—		(12,372		)
Other expense	440			83			846		86			1,286		169
Total other expense (income)	10,676			(2,949		)
Total other expense							11,148		9,835			21,824		6,886
Income before income taxes	25,434			35,821			25,733		24,814			51,167		60,634
Income tax expense (benefit)	(1,178		)	6,519
Income tax expense							9,064		194			7,886		6,712
Net income	26,612			29,302			16,669		24,620			43,281		53,922
Less: Net income attributable to the non-controlling interest	5,486			5,461			5,186		5,337			10,672		10,799
Net income attributable to Class A stockholders	$	21,126		$	23,841		$	11,483	$	19,283		$	32,609	$	43,123

Earnings per Class A share:
Basic	$	0.21		$	0.24		$	0.11	$	0.19		$	0.32	$	0.43
Diluted	$	0.21		$	0.23		$	0.10	$	0.18		$	0.31	$	0.41
Weighted-average shares outstanding:
Basic	100,085,141			99,895,075			105,072,322		99,939,642			102,618,951		99,916,161
Diluted	100,777,609			105,041,015			109,509,195		104,773,094			105,338,010		104,911,474

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited, amounts in thousands)


	Three Months Ended						Three Months Ended						Six Months Ended
	March 31, 2019			March 31, 2018			June 30, 2019			June 30, 2018			June 30, 2019			June 30, 2018

Net income	$	26,612		$	29,302		$	16,669		$	24,620		$	43,281		$	53,922
Other comprehensive income (loss):
Unrealized gain (loss) on interest rate swap contract designated as a cash flow hedge	(2,165		)	3,739			(3,006		)	1,383			(5,171		)	5,121
Tax benefit (expense)	447			(787		)	636			(292		)	1,083			(1,079		)
Comprehensive income	24,894			32,254			14,299			25,711			39,193			57,964
Less: Comprehensive income attributed to non-controlling interest	4,984			6,331			4,605			5,664			9,589			11,989
Comprehensive income attributed to Class A stockholders	$	19,910		$	25,923		$	9,694		$	20,047		$	29,604		$	45,975

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

(Unaudited, amounts in thousands except share data)


	Class A Voting Common Stock			Class B Voting Common Stock				Additional Paid-in Capital			Accumulated Other Comprehensive Income			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 (Loss)			Retained Earnings		Total Stockholders’ Equity			Non-controlling Interest
	Shares	Amount		Shares		Amount																Shares	Amount		Shares		Amount
Balance–December 31, 2017	99,791,245	$	10	30,319,564		$	3	$	920,723		$	1,318		$	208,279	$	1,130,333		$	342,240		99,791,245	$	10	30,319,564		$	3		$	920,723		$	1,318		$	208,279	$	1,130,333		$	342,240
Comprehensive income	—	—		—		—		—			2,082			23,841		25,923			6,331			—	—		—		—			—			2,082			23,841		25,923			6,331
Share-based compensation, including income taxes of $98	59,989	—		—		—		1,721			—			—		1,721			—			59,989	—		—		—			1,721			—			—		1,721			—
Adoption of new accounting standards, net of income taxes of $83	—	—		—		—		—			7			191		198			85			—	—		—		—			—			7			191		198			85
Exchanges	64,380	—		(64,380	)	—		1,033			—			—		1,033			(1,033		)	64,380	—		(64,380	)	—			1,033			—			—		1,033			(1,033		)
Distributions	—	—		—		—		—			—			—		—			(4,153		)	—	—		—		—			—			—			—		—			(4,153		)
Payment of taxes for employee stock awards	—	—		—		—		(407		)	—			—		(407		)	—			—	—		—		—			(407		)	—			—		(407		)	—
Tax receivable agreement arising from exchanges, net of income taxes of $50	—	—		—		—		(350		)	—			—		(350		)	—			—	—		—		—			(350		)	—			—		(350		)	—
Balance–March 31, 2018	99,915,614	$	10	30,255,184		$	3	$	922,720		$	3,407		$	232,311	$	1,158,451		$	343,470		99,915,614	10		30,255,184		3			922,720			3,407			232,311		1,158,451			343,470
Comprehensive income																						—	—		—		—			—			770			19,282		20,052			5,658
Share-based compensation, net of income taxes of $189																						3,889	—		—		—			811			—			—		811			—
Distributions																						—	—		—		—			—			—			—		—			(5,310		)
Payment of taxes for employee stock awards																						—	—		—		—			(29		)	—			—		(29		)	—
Balance-June 30, 2018																						99,919,503	$	10	30,255,184		$	3		$	923,502		$	4,177		$	251,593	$	1,179,285		$	343,818


Balance–December 31, 2018	100,046,392	$	10	30,255,184		$	3	$	925,902		$	2,523		$	271,365	$	1,199,803		$	350,454		100,046,392	$	10	30,255,184		$	3		$	925,902		$	2,523		$	271,365	$	1,199,803		$	350,454
Comprehensive income (loss)	—	—		—		—		—			(1,216		)	21,126		19,910			4,984			—	—		—		—			—			(1,216		)	21,126		19,910			4,984
Share-based compensation, net of income taxes of $613	—	—		—		—		1,668			—			—		1,668			—			—	—		—		—			1,668			—			—		1,668			—
Distributions	—	—		—		—		—			—			—		—			(457		)	—	—		—		—			—			—			—		—			(457		)
Exercise of public warrants	50	—		—		—		—			—			—		—			—			50	—		—		—			—			—			—		—			—
Balance–March 31, 2019	100,046,442	$	10	30,255,184		$	3	$	927,570		$	1,307		$	292,491	$	1,221,381		$	354,981		100,046,442	10		30,255,184		3			927,570			1,307			292,491		1,221,381			354,981
Comprehensive income (loss)																						—	—		—		—			—			(1,789		)	11,483		9,694			4,605
Share-based compensation, net of income taxes of $563																						20,241	—		—		—			1,936			—			—		1,936			—
Distributions																						—	—		—		—			—			—			—		—			(4,459		)
Exercise of employee stock options																						1,788	—		—		—			23			—			—		23			—
Payment of taxes for employee stock awards																						—	—		—		—			(124		)	—			—		(124		)	—
Exchanges																						9,255,400	1		(9,255,400	)	(1		)	110,734			292			—		111,026			(111,026		)
Tax receivable agreement arising from exchanges, net of income taxes of $10,109																						—	—		—		—			(17,610		)	—			—		(17,610		)	—
Balance-June 30, 2019																						109,323,871	$	11	20,999,784		$	2		$	1,022,529		$	(190	)	$	303,974	$	1,326,326		$	244,101

See accompanying notes to the unaudited consolidated financial statements.

HOSTESS BRANDS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, amounts in thousands)


			Three Months Ended								Six Months Ended
			March 31, 2019			March 31, 2018					June 30, 2019			June 30, 2018
Operating activities	Operating activities								Operating activities
	Net income		$	26,612		$	29,302		Net income		$	43,281		$	53,922
	Depreciation and amortization		10,878			10,091			Depreciation and amortization		21,939			20,648
	Impairment of property and equipment		—			1,417			Impairment of property, goodwill and intangibles		1,005			1,417
	Debt premium amortization		(228		)	(271		)	Debt premium amortization		(536		)	(541		)
	Tax receivable agreement remeasurement and gain on buyout		(1,761		)	(12,372		)	Tax receivable agreement remeasurement and gain on buyout		(483		)	(14,124		)
	Share-based compensation		2,281			1,623			Share-based compensation		4,780			2,721
	Deferred taxes		(2,882		)	4,786			Deferred taxes		5,637			4,994
	Change in operating assets and liabilities, net of acquisitions:								Change in operating assets and liabilities, net of acquisitions:
		Accounts receivable	(23,552		)	(11,437		)		Accounts receivable	(22,508		)	(8,458		)
		Inventories	(4,578		)	2,006				Inventories	(4,313		)	3,558
		Prepaids and other current assets	2,917			2,055				Prepaids and other current assets	(1,661		)	(1,643		)
		Accounts payable and accrued expenses	16,594			11,560				Accounts payable and accrued expenses	18,168			17,187
		Customer trade allowances	2,104			(438		)		Customer trade allowances	8,755			1,501
	Net cash provided by operating activities		28,385			38,322			Net cash provided by operating activities		74,064			81,182

Investing activities	Investing activities								Investing activities
	Purchases of property and equipment		(9,493		)	(8,019		)	Purchases of property and equipment		(15,398		)	(19,836		)
	Acquisition of business		—			(23,910		)	Acquisition of business, net of cash		—			(23,910		)
	Acquisition and development of software assets		(1,342		)	(558		)	Acquisition and development of software assets		(2,907		)	(1,591		)
	Net cash used in investing activities		(10,835		)	(32,487		)	Net cash used in investing activities		(18,305		)	(45,337		)

Financing activities	Financing activities								Financing activities
	Repayments of long-term debt and lease obligations		(2,530		)	(2,526		)	Repayments of long-term debt and lease obligations		(5,056		)	(5,051		)
	Distributions to non-controlling interest		(457		)	(4,153		)	Distributions to non-controlling interest		(4,916		)	(9,463		)
	Tax payments related to issuance of shares to employees		—			(407		)	Tax payments related to issuance of shares to employees		(124		)	(407		)
	Payments on tax receivable agreement		(457		)	(34,000		)	Cash received from exercise of options		23			—
	Net cash used in financing activities		(3,444		)	(41,086		)	Payments on tax receivable agreement		(2,779		)	(41,353		)
									Net cash used in financing activities		(12,852		)	(56,274		)
Net increase (decrease) in cash and cash equivalents	Net increase (decrease) in cash and cash equivalents		14,106			(35,251		)	Net increase (decrease) in cash and cash equivalents		42,907			(20,429		)
Cash and cash equivalents at beginning of period	Cash and cash equivalents at beginning of period		146,377			135,701			Cash and cash equivalents at beginning of period		146,377			135,701
Cash and cash equivalents at end of period	Cash and cash equivalents at end of period		$	160,483		$	100,450		Cash and cash equivalents at end of period		$	189,284		$	115,272


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	$	11,087		$	9,942	Interest	$	22,472	$	20,358
	Net taxes paid (refunded)	$	(10	)	$	507	Net taxes paid	$	1,815	$	3,959
Supplemental disclosure of non-cash investing:	Supplemental disclosure of non-cash investing:						Supplemental disclosure of non-cash investing:
	Accrued capital expenditures	$	1,436		$	642	Accrued capital expenditures	$	1,527	$	1,388

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 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 Holdings, L.P. (“Hostess Holdings”), a direct subsidiary of Hostess Brands, Inc. Hostess Brands, Inc. holds 100% of the general partnership interest in Hostess Holdings and a majority of the limited partnership interests therein and consolidates Hostess Holdings in the Company’s consolidated financial statements. The remaining limited partnership interests in Hostess Holdings are held by the holders of the outstanding shares of Class B common stock of Hostess Brands, Inc. These limited partnership interests in Hostess Holdings are reflected in the consolidated financial statements as a non-controlling interest.

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, and 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, 2018.

The Company has two reportable segments: Sweet Baked Goods and In-Store Bakery.

Adoption of New Accounting Standards

On January 1, 2019, the Company adopted Accounting Standards Update (“ASU”) No. 2016-02, Leases, along with the related ASUs 2018-01, 2018-10 and 2018-11 (collectively, “Topic 842”). Topic 842 ~~is intended to improve financial reporting of leasing transactions and~~ 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. To adopt this standard, the Company utilized a modified retrospective transition method. Under this approach, the results for reporting periods beginning January 1, 2019 are presented under Topic 842. Prior period amounts are not adjusted and continueto be reported in accordance with the historic accounting standards. There was no cumulative effect of applying Topic 842 to the opening balance of retained earnings. The Company has elected to apply the practical expedients under Topic 842 which allow entities to not reassess the lease classification for expired or existing leases and to not reassess if expired or existing contracts contain leases under the Topic 842 definition. The Company has also elected to use hindsight when determining the lease term of existing leases. As a result of the adoption, on January 1, 2019, the Company recognized right of use assets of $8.2 million, offset by associated accumulated amortization of $5.2 million and corresponding lease liabilities of $3.0 million. The recognition of leases subsequent to the adoption of Topic 842 is further described in the Leases section of this footnote.

~~HOSTESS BRANDS, INC.~~

~~NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS~~

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). All intercompany balances and transactions have been eliminated in consolidation.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

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, valuation of expected future payments under the tax receivable agreement, and reserves for trade and promotional allowances. Actual results could differ from these estimates.

Accounts Receivable

Accounts receivable represents amounts invoiced to customers for performance obligations which have been satisfied. As of ~~March 31,~~June 30, 2019 and December 31, 2018, the Company’s accounts receivable were ~~$129.2~~$128.2 million and $105.7 million, respectively, which have been reduced by an allowance for damages occurring during shipment, quality claims and doubtful accounts in the amount of ~~$3.3~~$2.8 million and $2.6 million, respectively. In addition, there were customer trade allowances of ~~$44.1~~$50.8 million and $42.0 million as of ~~March 31,~~June 30, 2019 and December 31, 2018, respectively, in current liabilities in the consolidated balance sheets.

Inventories

Inventories are stated at the lower of cost or 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)	June 30, 2019		December 31, 2018

Ingredients and packaging	$	19,862	$	18,865
Finished goods	20,331		16,446
Inventory in transit to customers	2,700		3,269
	$	42,893	$	38,580

(In thousands) March 31,
2019 December 31,
2018

Ingredients and packaging $ 18,064
$ 18,865
Finished goods 21,428
16,446
Inventory in transit to customers 3,666
3,269
$ 43,158
$ 38,580

Impairment of Property and Equipment

For the ~~three~~six months ended ~~March 31,~~June 30, 2018, the Company recorded an impairment loss of $1.4 million related to the ~~planned~~planned disposition of certain production equipment before the end of its useful life. This loss is included in other operating expenses on the consolidated statement of operations. The measurement of this loss was based on Level 3 inputs within the fair value measurement hierarchy.

~~HOSTESS BRANDS, INC.~~

~~NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS~~

Software Costs

Included in “Other assets, net” in the consolidated balance sheets is capitalized software in the amount of ~~$9.3~~$10.2 million and $8.5 million at ~~March 31,~~June 30, 2019 and December 31, 2018, 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 $0.7 million ~~for the three months ended March 31, 2019, compared to $0.7~~and $1.4 million for the three and six months ended ~~March 31, 2018.~~June 30, 2019, respectively, compared to $0.8 million and $1.4 million for the three and six months ended June 30, 2018, respectively.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Concentrations

The Company has one customer (together with its affiliates) 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				Six Months Ended
(% of Consolidated Net Revenues)	June 30, 2019		June 30, 2018		June 30, 2019		June 30, 2018

Sweet Baked Goods	23.3	%	18.4	%	23.5	%	18.1	%
In-Store Bakery	0.4	%	0.6	%	0.4	%	0.6	%
Total	23.7	%	19.0	%	23.9	%	18.7	%

Three Months Ended
(% of Consolidated Net Revenues) March 31,
2019 March 31,
2018

Sweet Baked Goods 23.5 % 21.3 %
In-Store Bakery 0.6 % 0.6 %
Total 24.1 % 21.9 %

Leases

Subsequent to its adoption of Topic 842, the Company recognizes a right of use asset and corresponding lease liability on the consolidated balance sheet for all lease transactions with terms of more than 12 months. Agreements are determined to contain a lease if they convey the use and control of an underlying physical asset. Based on the nature of the lease transaction, leases are either classified as financing or operating. Under both classifications, the right of use asset and liability are initially valued based on the present value of the future minimum lease payments using an effective borrowing rate at the inception of the lease. The Company determined the effective borrowing rate based on its expected incremental borrowing rate on collateralized debt. At ~~March 31,~~June 30, 2019, the weighted average effective borrowing rates for outstanding financing and operating leases were 6.8% and 4.7%, respectively.

Under a financing lease, interest expense related to the lease liability is recognized over the lease term using an effective interest rate method and right of use assets are amortized straight-line over the term of the lease. Under an operating lease, minimum lease payments are expensed straight-line over the lease term, lease liabilities are amortized using an effective interest rate method and right of use assets are reduced based on the excess of the sum of the straight-line lease expense and the reduction of the lease liability over the actual lease payments. At ~~March 31,~~June 30, 2019, the average remaining terms on both financing leases and operating leases were approximately one year.

Variable lease payments, such as taxes and insurance, are expensed as incurred. Expenses related to leases with original terms less than 12 months (short-term leases) are expensed as incurred. For all ~~agreements~~leases related to distribution, bakery and corporate facilities, the Company has elected not to separate non-lease components from lease components.

~~HOSTESS BRANDS, INC.~~

~~NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS~~

The table below shows the composition of lease expenses for the period subsequent to the adoption of Topic 842:



	Three Months Ended		Six Months Ended
(In thousands)	June 30, 2019		June 30, 2019
Amortization of right of use asset, financing lease	$	56	$	100
Interest, financing lease	5		12
Operating lease expense	616		1,257
Short-term lease expense	282		682
Variable lease expense	189		377
	$	1,148	$	2,428

(In thousands)
Three Months
Ended March 31,
2019
Amortization of right of use asset, financing lease $ 44
Interest, financing lease 7
Operating lease expense 641
Short-term lease expense 400
Variable lease expense 188
$ 1,280

At ~~March 31,~~June 30, 2019, right of use assets related to both operating and financing leases are included in property and equipment, net on the consolidated balance sheet (see Note 2 Property and Equipment). As of ~~March 31,~~June 30, 2019, lease liabilities for both operating and financing leases are included in the current and non-current portions of long-term debt and lease obligations on the consolidated balance sheet (see Note 6 Debt and Lease Obligations).

In April 2019, the Company entered into a 6.5 year lease, with the option to renew for two additional five-year periods, for a distribution facility in Kansas. The lease term will commence upon completion of construction of the facility, which is expected to occur by the first quarter of 2020. During the initial lease term, average annual minimum lease payments are expected to be $2.3 million.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

2. Property and Equipment

Property and equipment consists of the following:



(In thousands)	June 30, 2019			December 31, 2018

Land and buildings	$	43,552		$	47,418
Right of use assets, operating	9,082			—
Right of use assets, financing	1,568			—
Machinery and equipment	205,859			194,830
Construction in progress	6,426			6,059
	266,487			248,307
Less accumulated depreciation and amortization	(42,736		)	(27,958		)
	$	223,751		$	220,349

(In thousands)
March 31,
2019

December 31,
2018

Land and buildings $ 42,698
$ 47,418
Right of use assets, financing 1,570
—
Right of use assets, operating 8,155
—
Machinery and equipment 203,320
194,830
Construction in progress 3,794
6,059
259,537
248,307
Less accumulated depreciation and amortization (37,901 ) (27,958 )
$ 221,636
$ 220,349

Depreciation and amortization expense was ~~$4.2~~$4.3 million and $8.6 million for the three and six months ended ~~March 31,~~June 30, 2019, compared to ~~$3.4~~$3.8 million and $7.2 million for the three and six months ended ~~March 31,~~June 30, 2018.

3. Segment Reporting

The Company has two reportable segments: Sweet Baked Goods and In-Store Bakery. The Company’s Sweet Baked Goods segment consists of fresh and frozen baked goods and bread products that are sold under the Hostess®, Dolly Madison®, Cloverhill® and Big Texas® brands. The In-Store Bakery segment consists primarily of Superior on Main® branded and private label products sold through the in-store bakery section of grocery and club stores.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

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


	Three Months Ended				Three Months Ended				Six Months Ended
(In thousands)	March 31, 2019		March 31, 2018		June 30, 2019		June 30, 2018		June 30, 2019		June 30, 2018

Net revenue:
Sweet Baked Goods	$	212,879	$	199,293	$	229,273	$	204,237	$	442,151	$	403,529
In-Store Bakery	9,859		9,450		11,787		11,612		21,647		21,063
Net revenue	$	222,738	$	208,743	$	241,060	$	215,849	$	463,798	$	424,592

Depreciation and amortization:
Sweet Baked Goods	$	10,180	$	9,394	$	10,380	$	9,857	$	20,562	$	19,251
In-Store Bakery	698		697		680		700		1,377		1,397
Depreciation and amortization	$	10,878	$	10,091	$	11,060	$	10,557	$	21,939	$	20,648

Gross profit:
Sweet Baked Goods	$	73,145	$	69,438	$	80,925	$	64,359	$	154,069	$	133,797
In-Store Bakery	2,043		1,803		2,525		2,498		4,569		4,301
Gross profit	$	75,188	$	71,241	$	83,450	$	66,857	$	158,638	$	138,098

Capital expenditures (1):
Sweet Baked Goods	$	4,262	$	9,165	$	7,516	$	13,432	$	11,778	$	22,598
In-Store Bakery	152		54		28		164		180		217
Capital expenditures	$	4,414	$	9,219	$	7,544	$	13,596	$	11,958	$	22,815

(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 March 31, 2019 and 2018.~~payable. From December 31, 2018 to ~~March 31,~~June 30, 2019, capital expenditures in accounts payable decreased by $6.4 million. From December 31, 2017 to ~~March 31,~~June 30, 2018 capital expenditures in accounts payable increased by ~~$0.6~~$1.4 million.

Total assets by reportable segment are as follows:



(In thousands)	June 30, 2019		December 31, 2018

Total segment assets:
Sweet Baked Goods	$	2,981,878	$	2,924,333
In-Store Bakery	87,101		86,380
Total segment assets	$	3,068,979	$	3,010,713

(In thousands) March 31,
2019 December 31,
2018

Total segment assets:
Sweet Baked Goods $ 2,957,355
$ 2,924,333
In-Store Bakery 86,485
86,380
Total segment assets $ 3,043,840
$ 3,010,713

At October 1, 2018, the estimated fair value of the In-Store Bakery reporting unit was less than its carrying value and the Company recognized an impairment charge to In-Store Bakery’s goodwill. Changes in certain significant assumptions could have a significant impact on the estimated fair value, and therefore, a future impairment or additional impairments could result for a portion of goodwill, long-lived assets or intangible assets. The measurement of the impairment charge was based on Level 3 inputs within the fair value measurement hierarchy. Management identified no events through March 31, 2019 which would require the Company to reassess the fair value of either reporting unit.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

4. Goodwill and Intangible Assets

During the three months ended June 30, 2019, the Company recognized an impairment charge of $1.0 million in other operating expense on the consolidated statement of operations related to the In-Store Bakery reporting unit. This charge reflects a change in certain market assumptions since the last time the reporting unit was valued in the fourth quarter of 2018 (Level 1 input). Goodwill activity is presented below by reportable segment:



(In thousands)	Sweet Baked Goods		In Store Bakery			Total

Balance as of December 31, 2018	$	535,853	$	39,792		$	575,645
Impairment	—		(1,000		)	(1,000		)
Balance as of June 30, 2019	$	535,853	$	38,792		$	574,645

Intangible assets consist of the following:



(In thousands)	June 30, 2019			December 31, 2018

Intangible assets with indefinite lives (Trademarks and Trade Names)	$	1,410,497		$	1,410,497
Intangible assets with definite lives (Customer Relationships)	543,148			543,120
Less accumulated amortization (Customer Relationships)	(63,824		)	(51,802		)
Less accumulated impairment charges (Trademarks and Trade Names)	(600		)	(600		)
Intangible assets, net	$	1,889,221		$	1,901,215

(In thousands)
March 31,
2019

December 31,
2018

Intangible assets with indefinite lives (Trademarks and Trade Names) $ 1,410,497
$ 1,410,497
Intangible assets with definite lives (Customer Relationships) 543,149
543,120
Less accumulated amortization (Customer Relationships) (57,815 ) (51,802 )
Less accumulated impairment charges (Trademarks and Trade Names) (600 ) (600 )
Intangible assets, net $ 1,895,231
$ 1,901,215

Amortization expense was $6.0 million ~~for the three months ended March 31, 2019~~ and ~~$6.0~~$12.0 million for the three and six months ended ~~March 31, 2018.~~June 30, 2019, respectively and $6.0 million and $12.0 million for the three and six months ended June 30, 2018, respectively. The unamortized portion of customer relationships will be expensed over their remaining useful lives, from 18 to 23 years. The weighted-average amortization period as of ~~March 31,~~June 30, 2019 for customer relationships was ~~20.3~~20.0 years.

5. Accrued Expenses and Other Current Liabilities

Included in accrued expenses and other current liabilities are the following:



(In thousands)	June 30, 2019		December 31, 2018

Payroll, vacation and other compensation	$	6,969	$	6,104
Incentive compensation	6,539		3,261
Accrued interest	4,974		4,849
Workers compensation reserve	2,743		1,866
Self-insurance reserves	1,772		1,646
Current income taxes payable	103		411
	$	23,100	$	18,137

(In thousands)
March 31,
2019

December 31,
2018

Incentive compensation $ 5,155
$ 3,261
Accrued interest 4,983
4,849
Payroll, vacation and other compensation 4,374
6,104
Workers compensation reserve 2,252
1,866
Self-insurance reserves 1,718
1,646
Current income taxes payable 468
411
$ 18,950
$ 18,137

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

6.Debt and Lease Obligations

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



(In thousands)	June 30, 2019			December 31, 2018
Third Term Loan (4.8% as of June 30, 2019)
Principal	$	978,856		$	983,825
Unamortized debt premium and issuance costs	3,242			3,778
Total Third Term Loan	982,098			987,603
Financing lease obligations	314			401
Operating lease obligations	2,912			—
Total debt and lease obligations	985,324			988,004
Less: Current portion of long term debt and lease obligations	(13,206		)	(11,268		)
Long-term portion	$	972,118		$	976,736

(In thousands)
March 31,
2019
December 31,
2018
Third Term Loan (4.9% as of March 31, 2019)
Principal $ 981,340
$ 983,825
Unamortized debt premium and issuance costs 3,510
3,778
Total Third Term Loan 984,850
987,603
Financing lease obligations 359
401
Operating lease obligations 2,474
—
Total debt and lease obligations 987,683
988,004
Less: Current portion of long term debt and lease obligations (13,243 ) (11,268 )
Long-term portion 974,440
976,736

~~At March 31, 2019, minimum debt repayments under the Third Term Loan are due as follows:~~

(In thousands)
Remainder of 2019 $ 7,453
2020 9,938
2021 9,938
2022 954,011

7.Interest Rate Swap

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 ~~March 31,~~June 30, 2019 and June 30, 2018, the notional amount is $300 million and $400 million, ~~compared to the notional amount of $500 million as of March 31, 2018.~~respectively. 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 ~~March 31,~~June 30, 2019, the effective interest rate on the long-term debt hedged by this contract was 4.03%.

As of ~~March 31,~~June 30, 2019 ~~and~~the fair value of the interest rate swap contract of $0.1 million is reported within other long Term liabilities on the consolidated balance sheet. As of December 31, 2018 the fair value of the interest rate swap contract of ~~$2.9 million and~~ $5.1 million ~~respectively,~~ was reported within ~~“Other~~other assets, ~~net”~~net on the consolidated balance ~~sheet. The~~sheet.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 observable market interest rate curves (Level 2).

8.Earnings per Share

Basic earnings per share is calculated by dividing net income attributable to the Company’s Class A stockholders for the period by the weighted average number of shares of Class A common stock outstanding for the period excluding non-vested restricted stock awards. In computing 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, restricted stock units and stock options.

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Below are basic and diluted net income per share:


	Three Months Ended				Three Months Ended				Six Months Ended
	March 31, 2019		March 31, 2018		June 30, 2019		June 30, 2018		June 30, 2019		June 30, 2018
Numerator:
Net income attributable to Class A stockholders (in thousands)	$	21,126	$	23,841	$	11,483	$	19,283	$	32,609	$	43,123
Denominator:
Weighted-average Class A shares outstanding - basic	100,085,141		99,895,075		105,072,322		99,939,642		102,618,951		99,916,161
Dilutive effect of warrants	421,297		5,048,437		4,002,135		4,668,452		2,363,537		4,856,923
Dilutive effect of restricted stock units	271,171		97,503		434,738		165,000		355,522		138,390
Weighted-average shares outstanding - diluted	100,777,609		105,041,015		109,509,195		104,773,094		105,338,010		104,911,474

Net income per Class A share - basic	$	0.21	$	0.24	$	0.11	$	0.19	$	0.32	$	0.43

Net income per Class A share - diluted	$	0.21	$	0.23	$	0.10	$	0.18	$	0.31	$	0.41

For the three and six months ended ~~March 31,~~June 30, 2019 and 2018, 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.

Weighted average Class A shares outstanding reflect the exchange of 9.3 million Class B shares for Class A shares during the three months ended June 30, 2019.

9. 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 Company’s effective tax rate was a benefit of 4.6% and an expense of 18.2% in the first quarters of 2019 and 2018, respectively. The effective tax rates were lower than the statutory rate of 21% in both periods due primarily to changes in the estimated state tax rate during 2019 and buyout of the tax receivable agreement during 2018. During the three months ended March 31, 2019, the effective tax rate was impacted by the remeasurement of deferred tax balances arising from the update to state apportionment factors that occurred in connection with the planned relocation of the Company’s primary distribution center from Illinois to Kansas, which resulted in a discrete tax benefit of $6.0 million. The Company’s estimated annual effective tax rate is ~~20.6%~~21.8% prior to taking into account any discrete items.

~~Also~~ The effective tax rate was 35.2% and 0.8% in the second quarters of 2019 and 2018, respectively. The Company recognized a discrete tax expense of $2.8 million as compared to a ~~result~~discrete tax benefit of $5.0 million recognized in the ~~change~~prior year period resulting from revaluing deferred tax balances based on changes in estimated state ~~rates during~~apportionment factors and tax rates.

10. Tax Receivable Agreement

The following table summarizes activity related to the Tax Receivable Agreement for the six months ended June 30, 2019:



(In thousands)
Balance December 31, 2018	$	69,063
Exchange of Class B units for Class A shares	27,719
Remeasurement due to change in estimated tax rate	(483		)
Payments	(2,779		)
Balance June 30, 2019	$	93,520

HOSTESS BRANDS, INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

As of June 30, 2019 the future expected payments under the tax receivable agreement are as follows:



2019	$	1,400
2020	7,500
2021	5,100
2022	5,100
2023	5,200
Thereafter	69,220

11. Commitments and Contingencies

During the three months ended ~~March 31,~~June 30, 2019, the Company entered into a ~~$1.7 million gain on~~6.5 year lease, with the ~~remeasurement~~option to renew for two additional five-year periods, for a distribution facility in Kansas. The lease term will commence upon completion of construction of the ~~Tax Receivable Agreement was recognized within other operating income on~~facility, which is expected to occur by the ~~consolidated statement~~first quarter of ~~operations.~~2020. During the initial lease term, average annual minimum lease payments are expected to be $2.3 million.

During the three months ended June 30, 2019, the Company entered into an agreement to purchase an office building in Kansas that will house the Company’s corporate offices for $6.4 million. The sale closed in the third quarter of 2019.

~~10. Commitments~~During the three months ended June 30, 2019, the Company entered into a 9 year lease for space to house its new hub for marketing and ~~Contingencies~~category management in Chicago, IL. The lease term is expected to commence in the fourth quarter of 2019. Average annual minimum lease payments are expected to be $0.3 million.

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, potential liabilities are reassessed and the estimates revised, if necessary. Any 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.

12. Subsequent Events

In July 2019, the Company entered into an agreement to sell its In-Store Bakery operations to a third party for a cash payment of approximately $65.0 million, subject to certain post-closing adjustments, which approximates the Company’s carrying value of the business being sold. The Company purchased the In-Store Bakery operations in 2016 for approximately $51.0 million. The transaction is subject to customary closing conditions and is expected to close in the third quarter of 2019.

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, 2018. 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 operating in two reportable segments: Sweet Baked Goods (“SBG”) and In-Store Bakery. Our direct-to-warehouse (“DTW”) product distribution system allows us to deliver to our customers’ warehouses. Our customers in turn distribute to the retail stores.

Hostess® is the second leading brand by market share within the SBG category, according to Nielsen U.S. total universe. For the 13-week period ended ~~March 23,~~June 29, 2019, our branded SBG products (which include Hostess®, Dolly Madison®, Cloverhill® and Big Texas®) market share was ~~18.2%~~19.0% per Nielsen’s U.S. SBG category data.

Factors Impacting Recent Results

Acquisition

On February 1, 2018, we acquired certain U.S. breakfast assets of Aryzta, LLC (Aryzta), which primarily included a bakery facility, inventory, and the Big Texas® and Cloverhill® brand names (collectively known as the “Cloverhill Business”). We acquired these assets to expand our product portfolio and to gain previously outsourced manufacturing capabilities for our existing product portfolio. Our consolidated statement of operations includes the operation of these assets from February 1, 2018 through ~~March 31,~~June 30, 2019.

Subsequent Events

During the third quarter of 2019, in response to a routine regulatory preventive controls inspection, we have temporarily shut down a few of our production lines within our Columbus, Georgia bakery to improve our operating standards and perform maintenance. We have moved a significant portion of production to other bakeries while the updates are being performed. Although subject to various uncertainties, we currently estimate this will reduce our net revenue growth in the third quarter by $5.0 to $10.0 million. In addition, we expect to incur one-time maintenance and improvement costs of $3.0 to $4.0 million.

Operating Results


	Three Months Ended						Three Months Ended						Six Months Ended
(In thousands, except per share data)	March 31, 2019			March 31, 2018			June 30, 2019			June 30, 2018			June 30, 2019			June 30, 2018
Net revenue	$	222,738		$	208,743		$	241,060		$	215,849		$	463,798		$	424,592
Gross profit	75,188			71,241			83,450			66,857			158,638			138,098
As a % of net revenue	33.8		%	34.1		%	34.6		%	31.0		%	34.2		%	32.5		%
Operating costs and expenses	$	39,078		$	38,369		$	46,569		$	32,208		$	85,647		$	70,578
Operating income	36,110			32,872			36,881			34,649			72,991			67,520
As a % of net revenue	16.2		%	15.7		%	15.3		%	16.1		%	15.7		%	15.9		%
Other expense (income)	$	10,676		$	(2,949	)	$	11,148		$	9,835		$	21,824		$	6,886
Income tax expense (benefit)	(1,178		)	6,519			9,064			194			7,886			6,712
Net income	26,612			29,302			16,669			24,620			43,281			53,922
Net income attributable to Class A stockholders	$	21,126		$	23,841		11,483			19,283			32,609			43,123

Earnings per Class A share:
Basic	$	0.21		$	0.24		$	0.11		$	0.19		$	0.32		$	0.43
Diluted	$	0.21		$	0.23		$	0.10		$	0.18		$	0.31		$	0.41

Results of Operations

Net Revenue

Net revenue for the three months ended ~~March 31,~~June 30, 2019 increased ~~6.7%~~11.7%, or ~~$14.0~~$25.2 million, compared to the three months ended ~~March 31,~~June 30, 2018. The net revenue growth was primarily from increased sales of Hostess® branded products driven by higher volume of both core products as well as new Hostess® branded breakfast products, as distribution and merchandising support improved in multiple channels. Dolly Madison® branded products also provided substantial revenue growth as the Company has benefited from customer relationships of the Cloverhill business. Net revenue also benefited from increased pricing implemented in the fourth quarter of 2018.

Net revenue for the six months ended June 30, 2019 increased 9.2%, or $39.2 million, compared to the six months ended June 30, 2018. The increase was driven by ~~additional~~ sales volume in both our Hostess® and Dolly Madison® products and new breakfast products across multiple channels, ~~led by strong growth in the~~including club ~~channel resulting from various factors including core Hostess-branded product growth, expansion of value brands~~ and the addition of breakfast items supported by the acquisition of the Cloverhill Business in February 2018. With the additional month of operations in 2019, the Cloverhill Business contributed $6.8 million of incremental net revenue to the quarter. Revenue growth was also driven by price increases which were executed at the end of 2018.convenience.

Gross Profit

Gross profit was ~~33.8%~~34.6% of net revenue for the three months ended ~~March 31,~~June 30, 2019, compared to ~~34.1%~~31.0% for the three months ended ~~March 31,~~June 30, 2018. ~~Increased volume and~~The increase was attributable to pricing actions ~~were~~and increases in sales volume, partially offset by the impact of inflationary pressures on ingredient, labor and packaging costs. The Company has also benefited from continued efficiencies gained in the Cloverhill Business.

Gross profit was 34.2% of net revenue for the six months ended June 30, 2019 compared to 32.5% for the six months ended June 30, 2018. The increase was primarily attributable to increased sales volume, pricing actions and operating efficiencies, partially offset by inflationary pressures inon input and transportation ~~and other input~~ costs. ~~Additionally, efficiency initiatives across multiple bakeries have helped to offset sales growth in lower margin products.~~

Operating Costs and Expenses

Operating costs and expenses for the three months ended ~~March 31,~~June 30, 2019 increased by ~~1.8%~~44.7% from $32.2 million to ~~$39.1~~$46.6 million ~~from $38.4 million for~~compared to the three months ended ~~March 31,~~June 30, 2018. ~~The increase is~~These costs increased due to higher incentive compensation and ~~recruiting~~additional corporate expenses were incurred starting in the second quarter in connection with the relocation of our primary distribution facility as well as category sales and marketing functions. Also contributing to the higher costs was a nonrecurring payment under the Company's long-term incentive plan in the second quarter triggered by the secondary offering of Hostess stock by one of the Company's legacy shareholders. Additionally, there was a $1.3 million loss on the remeasurement of the tax receivable agreement obligation in the current period as compared to a $1.8 million gain on remeasurement in the prior year period driven by changes in estimated future state rates.

Operating costs and ~~broker fees due~~expenses for the six months ended June 30, 2019 increased by 21.4% from 70.6 million to ~~increased revenue. Additionally,~~$85.6 million compared to the six months ended June 30, 2018. In addition to the factors mentioned above, during the first quarter of 2019 ~~the Company~~we recognized a ~~$1.7 million~~ gain on the remeasurement of the tax receivable agreement ~~within other operating income. During the first quarter~~ of ~~2018, the Company recognized a $1.4~~$1.8 million ~~impairment charge within other operating expenses.~~due to state apportionment changes.

Other Expense

Other expense for the three months ended ~~March 31,~~June 30, 2019 was ~~$10.7~~$11.1 million compared to other ~~income~~expense of ~~$2.9~~$9.8 million for the three months ended ~~March 31, 2018. The increase~~June 30, 2018, in each case consisting primarily of interest expense. Interest expense ~~is driven by~~on our Third Term Loan was $11.1 million and $10.1 million for the ~~$12.4~~three months ended June 30, 2019 and June 30, 2018, respectively.

Other expense for the six months ended June 30, 2019 was $21.8 million compared to other expense of $6.9 million for the six months ended June 30, 2018, consisting of interest expense for each period and the gain on ~~the~~ buyout of a portion of the tax receivable agreement in the six months ended June 30, 2018. Interest expense on our Third Term ~~loan~~Loan was ~~$11.1~~$22.1 million and ~~$9.7~~$19.6 million for the ~~three~~six months ended ~~March 31,~~June 30, 2019 and ~~March 31,~~June 30, 2018, respectively.

Income Taxes

Our effective tax rate was ~~a benefit~~an expense of ~~4.6%~~35.2% for the three months ended ~~March 31,~~June 30, 2019 compared to an expense of ~~18.2%~~0.8% for the three months ended ~~March 31,~~June 30, 2018. ~~The current~~During the three months ended June 30, 2019, the Company recorded a discrete tax expense of $2.8 million as compared to a discrete tax benefit of $5.0 million recognized in the prior year ~~effective tax rate was impacted by~~period related to the remeasurement of deferred tax balances ~~driven by~~arising from changes in its estimated state apportionment factors and rates.

Our effective tax rate was an expense of 15.4% for the ~~planned relocation~~six months ended June 30, 2019 compared to an expense of ~~our primary distribution center from Illinois to Kansas, which resulted in~~11.1% for the six months ended June 30, 2018. During the six months ended June 30, 2019, the Company recorded a discrete tax benefit of ~~$6.0 million. The planned relocation also resulted~~$3.1 million as compared to a discrete tax benefit of $5.0 million recognized in ~~a benefit from~~ the ~~$1.7 million~~prior year period related to the remeasurement of ~~the~~deferred tax ~~receivable agreement as reflected~~balances arising from changes in ~~other operating income on the consolidated statement of operations.~~its estimated state apportionment factors and rates. Our prior year effective tax ~~rate~~ was also impacted by the $12.4 million gain on the buyout of a portion of the tax receivable agreement.

Segments

We have two reportable segments: Sweet Baked Goods and In-Store Bakery. Sweet Baked Goods consists of fresh and frozen baked goods and bread products that are sold under the Hostess®, Dolly Madison®, Cloverhill® and Big Texas® brands. The In-Store Bakery segment consists of products, including Superior on Main® branded and private label products sold through the in-store bakery section of grocery and 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	Three Months Ended				Three Months Ended				Six Months Ended
(In thousands)	March 31, 2019		March 31, 2018		June 30, 2019		June 30, 2018		June 30, 2019		June 30, 2018

Net revenue:
Sweet Baked Goods	$	212,879	$	199,293	$	229,273	$	204,237	$	442,151	$	403,529
In-Store Bakery	9,859		9,450		11,787		11,612		21,647		21,063
Net revenue	$	222,738	$	208,743	$	241,060	$	215,849	$	463,798	$	424,592

Gross profit:
Sweet Baked Goods	$	73,145	$	69,438	$	80,925	$	64,359	$	154,069	$	133,797
In-Store Bakery	2,043		1,803		2,525		2,498		4,569		4,301
Gross profit	$	75,188	$	71,241	$	83,450	$	66,857	$	158,638	$	138,098

Sweet Baked Goods net revenue for the three months ended ~~March 31,~~June 30, 2019 ~~increased $13.6~~grew $25.0 million, or ~~6.8%~~12.3%, from the three months ended ~~March 31, 2018. The increase was~~June 30, 2018, driven by additional volume ~~primarily in the club channel,~~ as well as price increases.

Sweet Baked Goods net revenue for the six months ended June 30, 2019 increased $38.6 million, or 9.6%, from the six months ended June 30, 2018. The increase in net revenue was primarily attributable to pricing actions and increases in sales volume.

Sweet Baked Goods gross profit for the three months ended ~~March 31,~~June 30, 2019 was ~~$73.1~~$80.9 million, or ~~34.4%~~35.3% of net revenue, compared to ~~$69.4~~$64.4 million, or ~~34.8%~~31.5% of net revenue, for the three months ended ~~March 31,~~June 30, 2018. The increase in gross profit was primarily the result of increased net revenue and operational efficiencies.

Sweet Baked Goods gross profit for the six months ended June 30, 2019 was $154.1 million, or 34.8% of net revenue compared to $133.8 million, or 33.2% of net revenue, for the six months ended June 30, 2018. The increase was primarily attributed to increased sales volume, pricing actions and operating efficiencies, which were partially offset by ~~higher~~inflationary pressures on input and transportation ~~and other input~~ costs.

In-Store Bakery net revenue for the three months ended ~~March 31,~~June 30, 2019 increased ~~4.3%~~1.5% from the three months ended ~~March 31,~~June 30, 2018. The increase in net revenue was attributable to increased sales volume. Gross profit was ~~$2.0~~$2.5 million, or ~~20.7%~~21.4% of net revenue, compared to gross profit of ~~$1.8~~$2.5 million, or ~~19.1%~~21.5% of net revenue.

In-Store Bakery net revenue for the six months ended June 30, 2019 increased 2.8% from the six months ended June 30, 2018. The increase in net revenue was attributable to increased distribution in the core in-store bakery product lines. Gross profit was $4.6 million, or 21.1% of net revenue, compared to gross profit of $4.3 million, or 20.4% of net revenue. The increase in gross profit was also attributed to increased sales volume.

Liquidity and Capital Resources

Our primary sources of liquidity are from cash on 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 acquisitions 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 ~~March 31,~~June 30, 2019 and December 31, 2018 of ~~$23.4~~$14.4 million and $12.0 million, respectively. We have the ability to borrow under ~~our~~the Revolver to meet obligations as they come due. As of ~~March 31,~~ June 30, 2019, we had approximately $96.1 million available for borrowing, net of letters of credit, under ~~our~~the Revolver.

Cash Flows from Operating Activities

Cash flows provided by operating activities for the ~~three~~six months ended ~~March 31,~~June 30, 2019 were ~~$28.4~~$74.1 million and for the ~~three~~six months ended ~~March 31,~~June 30, 2018 were ~~$38.3~~$81.2 million. The decrease was attributable to the timing of customer receipts partially offset by the timing of vendor payments and payments to customers related to trade programs, as well as higher working capital needs to facilitate higher sales volume.

Cash Flows from Investing Activities

Cash flows used in investing activities for the ~~three~~six months ended ~~March 31,~~June 30, 2019 and 2018 were ~~$10.8~~$18.3 million and ~~$32.5~~$45.3 million, respectively. Cash outflows from investing activities decreased in 2019 due to the acquisition of the Cloverhill Business in 2018.

Cash Flows from Financing Activities

Cash flows used in financing activities were ~~$3.4~~$12.9 million for the ~~three~~six months ended ~~March 31,~~June 30, 2019 and ~~$41.1~~$56.3 million for the ~~three~~six months ended ~~March 31,~~June 30, 2018. The decrease is primarily due to the $34.0 million payment to buy out a portion of the tax receivable agreement in 2018. We also paid distributions to the non-controlling interest, a partnership for income tax purposes, to cover income tax payments in each period.

Long-Term Debt

We had no outstanding borrowings under our Revolver as of ~~March 31,~~June 30, 2019.

As of ~~March 31,~~June 30, 2019, ~~$981.3~~$978.9 million aggregate principal amount of the Third Term Loan was outstanding and ~~$3.9~~letters of credit worth up to $3.6 million aggregate principal amount ~~of letters of credit~~ was available, reducing the amount available under the Revolver. As of ~~March 31,~~June 30, 2019, the Company was in compliance with the covenants under the Third Term Loan and the Revolver.

Contractual Obligations and Commitments

In April 2019, ~~the Company~~we entered into a 6.5 year lease, with the option to renew for two additional five-year periods, for a distribution facility in Kansas. The lease term will commence upon completion of construction of the facility, which is expected to occur by the first quarter of 2020. During the initial lease term, average annual minimum lease payments are expected to be $2.3 million.

In June 2019, we entered into an agreement to purchase an office building in Kansas that will house our corporate headquarters and research and development center for $6.4 million. The sale closed in July 2019.

In June 2019, we entered into an 9 year lease for space to house our new hub for marketing and category management in Chicago, IL. The lease term is expected to commence in the fourth quarter of 2019. Average annual minimum lease payments are expected to be $0.3 million.

Otherwise, there were no material changes, outside the ordinary course of business, in our outstanding contractual obligations from those disclosed within “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2018.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

~~We are exposed to interest rate~~For quantitative and qualitative disclosures about market ~~risk.~~

risk, see Item 7A ‘Quantitative and Qualitative Disclosures About Market ~~risk~~Risk’ of our annual report on ~~variable-rate financial instruments~~

~~Our Third Term Loan and Revolver each bear interest on outstanding borrowings thereunder at variable interest rates. The rate in effect at March 31, 2019~~Form 10-K for the ~~outstanding Third Term Loan was a LIBOR-based rate of 4.9% per annum. At March~~year ended December 31, ~~2019, the subsidiary borrower had an aggregate principal balance of $981.3 million outstanding under the Third Term Loan. At March~~2018. Our exposures to market risk have not changed materially since December 31, 2019, the subsidiary borrower had $96.1 million available for borrowing, net of letters of credit of $3.9 million, under our Revolver. Increases in market interest rates would cause interest expense to increase and earnings before income taxes to decrease.2018.

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. At March 31, 2019, a notional amount of $400 million remained outstanding on the swap 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 $5.8 million for the three months ended March 31, 2019, after accounting for the impact of our swap contract.


Item 4.	Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer and 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)) under the Securities and Exchange Act of 1934, as amended (the Exchange Act)) as of ~~March 31,~~June 30, 2019, the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of ~~March 31,~~June 30, 2019 to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the 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.

~~Except for changes to meet~~During the ~~recognition, measurement and disclosure obligations of Topic 842,~~three months ended June 30, 2019, there ~~were~~was no ~~changes to~~change in our internal control over financial reporting as(as defined in ~~Exchange Act~~ Rule 13a-15(f) ~~during~~under the ~~three months ended March 31, 2019,~~Exchange Act) that has materially affected, or 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. 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.

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 February 27, 2019. There have been no material changes to our risk factors since the filing of the Form 10-K.

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~~		~~Form of Restricted Stock Unit Award Agreement~~

~~10.2~~		~~Form of Performance Unit Award Agreement~~

~~10.3~~		~~Form of Stock Option Award Agreement~~

~~10.4~~		~~Form of Chief Executive Officer Restricted Stock Unit Award Agreement~~

~~10.5~~		~~Form of Chief Executive Officer Performance Unit Award Agreement~~

~~10.6~~		~~Form of Chief Executive Officer Stock Option Award Agreement~~

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 - the instance document does not appear in the interactive data file because its XBRL tags are embedded within the Inline XBRL 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

104		The cover page from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2019, formatted in Inline XBRL

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 ~~May 8,~~August 7, 2019.



HOSTESS BRANDS, INC.

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



(In thousands)	Three Months Ended March 31, 2019
Amortization of right of use asset, financing lease	$	44
Interest, financing lease	7
Operating lease expense	641
Short-term lease expense	400
Variable lease expense	188
	$	1,280



(In thousands)
Remainder of 2019	$	7,453
2020	9,938
2021	9,938
2022	954,011