Tandy Leather Factory(TLF) - 2019 Q3 - Quarterly Report

Explanatory Note Tandy Leather Factory, Inc. files this Form 10-Q to update SEC filings, presenting restated financials due to material misstatements and ongoing internal control remediation efforts - This Form 10-Q updates SEC reporting, including restated financial statements for multiple prior periods and the audited balance sheet for December 31, 2018[11] - Previously issued financial statements for 2016-2018 and interim periods in 2017-2019 were deemed unreliable due to material misstatements[12] - The restatement corrects errors in inventory valuation (FIFO), cost capitalization, expense classification, inventory reserves, sales returns, gift cards, lease accounting (Topic 842), and income taxes[13] - The company is actively remediating internal control failures that led to financial misstatements[14] PART I. FINANCIAL INFORMATION Financial Statements Unaudited Q3 2019 financials show total assets increased to $80.4 million from $76.8 million (restated 2018), a net loss of $1.7 million for the quarter, and $7.9 million positive operating cash flow for the nine months Consolidated Balance Sheet Highlights (Unaudited) | Account | Sep 30, 2019 ($) | Dec 31, 2018 (Restated) ($) | | :--- | :--- | :--- | | Total Current Assets | $49,474,266 | $59,816,578 | | Inventory | $23,761,063 | $33,302,549 | | Cash | $13,345,643 | $24,070,351 | | Operating lease assets | $14,769,812 | - | | Total Assets | $80,354,743 | $76,781,327 | | Total Current Liabilities | $10,093,802 | $8,075,418 | | Operating lease liabilities | $15,317,421 | - | | Long-term debt | - | $8,448,502 | | Total Stockholders' Equity | $56,889,821 | $58,286,396 | Consolidated Statements of Comprehensive Income (Loss) (Unaudited) | Metric | Q3 2019 ($) | Q3 2018 (Restated) ($) | Nine Months 2019 ($) | Nine Months 2018 (Restated) ($) | | :--- | :--- | :--- | :--- | :--- | | Net Sales | $16,310,887 | $18,878,263 | $54,449,024 | $58,566,063 | | Gross Profit | $8,848,648 | $11,895,883 | $30,463,764 | $36,818,435 | | Income (Loss) from Operations | ($2,404,433) | $899,894 | ($1,438,794) | $4,536,137 | | Net Income (Loss) | ($1,718,452) | $608,701 | ($1,074,308) | $3,283,100 | | Basic EPS | ($0.19) | $0.07 | ($0.12) | $0.36 | Consolidated Statements of Cash Flows (Unaudited, Nine Months Ended Sep 30) | Cash Flow Activity | 2019 ($) | 2018 (Restated) ($) | | :--- | :--- | :--- | | Net cash provided by (used in) operating activities | $7,919,733 | ($4,650) | | Net cash used in investing activities | ($9,076,327) | ($869,961) | | Net cash used in financing activities | ($9,703,217) | ($12,299) | | Net decrease in cash | ($10,724,708) | ($1,267,885) | Notes to Consolidated Financial Statements These notes detail the company's accounting policies, extensive financial restatement, and operational updates, covering debt, taxes, stock compensation, legal matters, leases, and subsequent events Note 1: Basis of Presentation and Significant Accounting Policies This note outlines Tandy Leather's retail business, Nasdaq delisting, and key accounting policies including revenue recognition, FIFO inventory valuation, and Topic 842 lease accounting adoption - The company operates 116 retail stores (104 in the U.S., 11 in Canada, 1 in Spain) and four websites as of September 30, 2019[29][30] - The company's stock was delisted from Nasdaq on February 9, 2021, due to delinquent SEC filings and now trades on the OTC market under 'TLFA'[31] - Effective January 1, 2019, the company adopted Topic 842, recognizing $17.6 million in operating lease assets and $18.1 million in lease liabilities[81][83] Disaggregated Revenue by Geography (Nine Months Ended Sep 30) | Region | 2019 ($) | 2018 (Restated) ($) | | :--- | :--- | :--- | | United States | $47,746,719 | $50,925,942 | | Canada | $4,573,173 | $4,926,527 | | All other countries | $2,129,132 | $2,713,594 | | Total Net Sales | $54,449,024 | $58,566,063 | Note 2: Restatement of Previously Issued Consolidated Financial Statements This note details the comprehensive restatement of financial statements from 2017 through Q1 2019, correcting material misstatements in inventory, cost capitalization, sales returns, lease accounting, and income taxes - The company restated financial statements for years 2017-2018 and interim periods in 2018-2019 due to material misstatements identified during an investigation[88][89] - Major misstatement areas included non-FIFO inventory valuation, incorrect freight and handling cost capitalization, insufficient inventory reserves, improper sales returns and gift card accounting, lease accounting errors, and income tax errors[91] Impact of Restatement on Q3 2018 Net Income | Item | As Reported ($) | Adjustments ($) | As Restated ($) | | :--- | :--- | :--- | :--- | | Net Sales | $18,887,099 | ($8,836) | $18,878,263 | | Gross Profit | $11,846,833 | $49,050 | $11,895,883 | | Income from Operations | $315,444 | $584,450 | $899,894 | | Net Income (Loss) | ($121,534) | $730,235 | $608,701 | Impact of Restatement on Balance Sheet as of Dec 31, 2018 | Account | As Reported ($) | Adjustments ($) | As Restated ($) | | :--- | :--- | :--- | :--- | | Inventory | $33,867,276 | ($564,727) | $33,302,549 | | Total Assets | $76,140,134 | $641,193 | $76,781,327 | | Retained Earnings | $65,716,761 | ($1,240,383) | $64,476,378 | | Total Stockholders' Equity | $59,460,304 | ($1,173,908) | $58,286,396 | Note 3: Notes Payable and Long-Term Debt This note details the cancellation of the company's credit facilities by BOKF in April 2020 due to delinquent SEC filings, the payoff of $9.0 million in debt in Q1 2019, and the absence of outstanding long-term debt - On April 2, 2020, BOKF cancelled the company's credit facilities due to delinquent SEC filings[115] - A $9.0 million outstanding balance on a share repurchase line of credit as of December 31, 2018, was fully paid off in Q1 2019[117] - As of September 30, 2019, the company had no outstanding long-term debt[120] Note 4: Income Tax The company's effective tax rate was 26.6% for the three and nine months ended September 30, 2019, with an anticipated cash tax benefit from the CARES Act's NOL carryback provisions - The effective tax rate was 26.6% for the three and nine months ended September 30, 2019, compared to a restated 29.2% for the same periods in 2018[121] - The company anticipates a cash tax benefit from the NOL carryback provisions of the CARES Act[122] Note 5: Stock-Based Compensation The company issues RSUs under its 2013 plan, with $0.6 million in stock-based compensation expense for the nine months ended September 30, 2019, and $3.0 million in unrecognized cost for service-based awards - Stock-based compensation expense was $0.6 million for the nine months ended September 30, 2019, compared to $0.1 million for the same period in 2018[126] - As of September 30, 2019, $3.0 million in unrecognized compensation cost for non-vested service-based awards is expected to be recognized through 2023[129] - The company has not recorded compensation expense for performance-based RSUs, as achieving performance conditions is not probable[127] Note 6: Earnings Per Share This note details EPS calculations, showing a net loss for Q3 and nine months ended September 30, 2019, resulting in diluted EPS of ($0.19) and ($0.12) respectively, a decline from 2018 Earnings Per Share (EPS) Calculation | Period | Net Income (Loss) ($) | Diluted Shares | Diluted EPS ($) | | :--- | :--- | :--- | :--- | | Q3 2019 | ($1,718,452) | 8,932,246 | ($0.19) | | Q3 2018 (Restated) | $608,701 | 9,160,022 | $0.07 | | Nine Months 2019 | ($1,074,308) | 8,957,578 | ($0.12) | | Nine Months 2018 (Restated) | $3,283,100 | 9,201,577 | $0.36 | Note 7: Commitments and Contingencies The company faces contingencies including a withdrawn class-action lawsuit, Nasdaq delisting, and an ongoing SEC investigation into historical accounting practices, with a $0.2 million penalty accrued - A stockholder class action lawsuit related to the restatement was withdrawn in April 2020[134] - The company's common stock was delisted from Nasdaq on February 9, 2021, due to non-compliance with filing requirements, with intent to reapply after becoming current[135] - The SEC is investigating the company's historical accounting, with a $0.2 million penalty accrued based on an agreement in principle[136] Note 8: Leases Following Topic 842 adoption, the company recognized $15.3 million in total lease liabilities and $14.8 million in operating lease assets as of September 30, 2019, with total lease cost of $3.8 million for the nine months Lease Balances as of September 30, 2019 | Account | Classification | Amount ($) | | :--- | :--- | :--- | | Operating lease assets | Non-current | $14,769,812 | | Operating lease liabilities | Current | $3,918,757 | | Operating lease liabilities | Non-current | $11,398,664 | | Total lease liabilities | | $15,317,421 | Lease Costs (Nine Months Ended September 30, 2019) | Cost Type | Amount ($) | | :--- | :--- | | Operating lease cost | $3,120,156 | | Variable lease cost | $685,527 | | Total lease cost | $3,805,683 | - As of September 30, 2019, the weighted average remaining lease term was 6.1 years, and the weighted average discount rate was 4.1%[143] Note 9: Subsequent Events This note details significant subsequent events, primarily the COVID-19 pandemic's impact, including store closures, furloughs, an expected $1.1 million asset impairment charge, and a new $5 million share repurchase program - In response to COVID-19, the company temporarily closed all stores by April 2, 2020, furloughed 406 employees, and cut corporate salaries[145][146][147] - The company permanently closed eight stores in Q2 2020 and centralized e-commerce fulfillment to its Fort Worth distribution center[149][151] - A new $5 million share repurchase program was approved in August 2020, with 500,000 shares repurchased for $1.7 million in January 2021[153][154] Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses the business, the impact of financial restatement and COVID-19, strategic initiatives, and the significant decline in sales and profitability for Q3 and nine months ended September 30, 2019, while highlighting liquidity management Results of Operations The company experienced a significant downturn, with Q3 2019 net sales falling 13.6% to $16.3 million and gross margin dropping to 54.2%, resulting in an operating loss of $2.4 million, attributed to store closures, pricing, and inventory issues Financial Performance: Three Months Ended September 30 | Metric | 2019 ($) | 2018 (Restated) ($) | % Change (%) | | :--- | :--- | :--- | :--- | | Sales | $16,310,887 | $18,878,263 | (13.6%) | | Gross Profit | $8,848,648 | $11,895,883 | (25.6%) | | Gross Margin % | 54.2% | 63.0% | (8.8 pts) | | Income from Operations | ($2,404,433) | $899,894 | (367.2%) | Financial Performance: Nine Months Ended September 30 | Metric | 2019 ($) | 2018 (Restated) ($) | % Change (%) | | :--- | :--- | :--- | :--- | | Sales | $54,449,024 | $58,566,063 | (7.0%) | | Gross Profit | $30,463,764 | $36,818,435 | (17.3%) | | Gross Margin % | 55.9% | 62.9% | (7.0 pts) | | Income from Operations | ($1,438,794) | $4,536,137 | (131.7%) | - The decrease in sales and gross profit was driven by store closures, a new pricing strategy, higher freight costs, increased inventory reserves, and promotions to clear old stock[188][190][200] Capital Resources, Liquidity and Financial Condition The company's liquidity is primarily from operations, with $13.3 million cash as of September 30, 2019, despite credit facility cancellation in April 2020, generating $7.9 million cash from operations for the nine months, largely from inventory reduction - The company's cash balance was $13.3 million as of September 30, 2019; its credit lines were cancelled in April 2020, leaving no outstanding lines of credit[206][207] - For the nine months ended Sep 30, 2019, cash from operations was $7.9 million, driven by a $9.6 million inventory reduction, used to extinguish $9.0 million debt and repurchase $0.7 million stock[218] - The share repurchase program was renewed in August 2020, authorizing up to $5.0 million in repurchases through July 2022[216] Controls and Procedures Management concluded that disclosure controls and procedures were ineffective as of September 30, 2019, due to material weaknesses in internal control over financial reporting, prompting a comprehensive ongoing remediation plan - The CEO and CFO concluded that disclosure controls and procedures were not effective as of September 30, 2019, due to identified material weaknesses[221] - Material weaknesses were identified across all five COSO framework components: control environment, risk oversight, control activities, information processing/communication, and monitoring[224][225][226] - Remediation efforts include hiring new accounting staff, implementing a new ERP system, improving the accounting close process, and documenting processes and risk control matrices[233] - The new ERP system, live September 1, 2020, represents a significant internal control change, aiming to automate processes and improve data accuracy[239] PART II. OTHER INFORMATION Legal Proceedings This section incorporates by reference legal proceedings information from Note 7, including a withdrawn class action lawsuit and an ongoing SEC investigation - Information regarding legal proceedings is incorporated by reference from Note 7, Commitments and Contingencies[241] Risk Factors The company's risk factors are incorporated by reference from its Comprehensive Annual Report on Form 10-K for the fiscal year ended December 31, 2019 - Risk factors are incorporated by reference from the Form 10-K for the year ended December 31, 2019[242] Unregistered Sales of Equity Securities and Use of Proceeds During Q3 2019, the company repurchased 2,037 shares at $5.45 per share, suspending the program in July due to lack of public financial information, with 996,163 shares remaining available Issuer Purchases of Equity Securities (Q3 2019) | Period | Total Shares Purchased | Average Price Paid per Share ($) | | :--- | :--- | :--- | | July 1 – July 31, 2019 | 2,037 | $5.45 | | August 1 – Aug 31, 2019 | — | — | | Sept 1 – Sept 30, 2019 | — | — | - The company suspended its share repurchase program in July 2019 due to the lack of public financial information during the restatement period[245] Exhibits This section lists exhibits filed with the Form 10-Q, including corporate governance documents, debt agreements, stock plans, employment agreements, and CEO/CFO certifications - The report includes numerous exhibits, such as the Certificate of Incorporation, bylaws, debt agreements, restricted stock plans, and CEO/CFO certifications (31.1, 31.2, 32.1)[247][248]