BETTER CHOICE COMPANY INC. Overview and Outlook
Better Choice Company is a holistic pet wellness company providing high quality raw Cannabidiol ("CBD") infused and non-CBD infused food, treats, and supplements in addition to dental care products and accessories for pets and their human parents. Our products are formulated and manufactured using only high-quality ingredients manufactured, tested and packaged to our specifications. OnFebruary 2, 2019 andFebruary 28, 2019 , respectively,Better Choice Company entered into definitive agreements to acquire through stock exchange agreements, approximately 93% of the outstanding limited liability company interest ofTruPet LLC and all of the outstanding shares ofBona Vida, Inc. , an emerging hemp-based CBD platform focused on developing a portfolio of brand and product verticals within the animal health and wellness space. OnMay 6, 2019 ,Better Choice Company consummated the stock exchange transactions wherebyTruPet LLC andBona Vida, Inc. became wholly owned subsidiaries ofBetter Choice Company . For accounting and financial reporting purposes, the transaction has been treated as a reverse acquisition whereby TruPet is considered the acquiror ofBetter Choice Company andBona Vida, Inc. Thus, the historical financial information of the registrant is that of TruPet even though the legal registrant remainsBetter Choice Company . TruPet was founded in 2013 and has a track record of increasing its sales and customer base since that time. TruPet has contributed to and has benefited from the positive trend toward feeding pets a healthy, natural diet. We pride ourselves on our customer service and ability to communicate and educate our customers. During 2017 and 2018, we increased marketing investments to acquire new customers while also maintaining our relationship with our current customers. During 2017, we launched theTruDog Love Club ("TLC"), a loyalty program that provides our customers with unique benefits including discounted prices, subscription shipments of replenishable products, free or reduced shipping, and other benefits not available to non-TLC members. The program has expanded and now has two tiers of loyalty club members. Tier 1 awards customers with six points per dollar spent and tier 2,TLC , awards customers with twelve points per dollar spent and provides opportunities to earn points at a higher rate. The number of loyalty members has grown to approximately 28,000 club members since its inception. Approximately 76% of DTC sales during the nine-month period endedSeptember 30, 2019 and approximately 81% of DTC sales during the three-month period endedSeptember 30, 2019 were from returning customers includingTLC club members. In order to obtain customers, we invest in advertising on social media sites and offer products to first time buyers at significant discounts. Our goal is to blend different acquisition channels as efficiently as possible in our advertising so that we obtain the most customers for the least amount of spend while maintaining our target growth rates. We are currently evaluating various long-term metrics for customer acquisition to determine the optimum mix of customer acquisition spend. During 2018, we experienced two separate recalls of our products as a result of the detection of salmonella. Since that time, we and our third-party manufacturing partners have increased testing of each product batch to avoid any additional recalls. While we do not believe we lost customers because of the recalls, we did incur additional shipping and customer service expenses to alleviate and avoid additional backlogs in product shipments caused by the recalls. We allowed products to be shipped from the manufacturing plants to the warehouse using truckloads not at full capacity, or LTL, which is more expensive than limiting our shipments to full-capacity truckloads. We also shipped customer orders in several shipments, rather than waiting to fulfill entire orders as certain products were backlogged due to the recall. To address the additional strain on our customer service function, we also expanded the number and hours of our customer service representatives to help guide our customers through the recall process, resulting in an increase to our customer service costs. Fiscal Year End OnMay 21, 2019 , the Board approved a change fiscal year fromAugust 31 to December 31 to align with TruPet fiscal year end. The fiscal year change for the Company is effective with our 2019 fiscal year, which beginsJanuary 1, 2019 and endsDecember 31, 2019 . 35
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Components of Our Results of Operations
We sell non-CBD and CBD infused product for pets, including private branded freeze dried and dehydrated raw foods, supplements, dental care products for dogs, and treats and accessories for dogs, cats, and pet parents. We sell our products through our online portal directly to our consumers and through online retailers and pet specialty retail stores. Our products are sold under the TruDog, RawGo, TruCat, OraPup and Bona Vida brands. Net sales include revenue derived from the sale of our products and related shipping fees offset by promotional discounts, refunds and loyalty points earned. We offer a variety of promotions and incentives to our customers including daily discounts, multi-bag purchase discounts and coupon codes for initial purchases. Historically, our net sales have been driven by our distribution of our products through our direct to consumer channel. However, sales through the wholesale channel have become a more important component of our growth in net sales and gross profit. Key factors that affect our future sales growth include: our new product introduction in both the non-CBD and CBD markets, our expansion into wholesale and other specialty channels, entry into the market of competitors in the CBD industry and international expansion. We recognize revenue to depict the transfer of promised goods to the customer in an amount that reflects the consideration to which the Company expects to be entitled in exchange for those goods. Revenue is recognized at the time the order is shipped to the DTC customers and the majority of wholesale customers, as this is when control transfers, with the exception of the Company's largest customer due to specific FOB designation shipping terms We record a revenue reserve based on past return rates to account for customer returns.
Cost of Goods Sold and Gross Profit
Our products are manufactured to our specifications by contracted manufacturing
plants. We design our packaging in-house for manufacture by third parties.
Packaging is shipped directly to contracted manufacturing plants. We directly
source the hemp derived CBD oils used in our products from select suppliers to
ensure product quality and traceability of the ingredient. CBD oils are shipped
to our warehouse and forwarded to our contracted manufacturing partners as
needed for production. Our contract manufacturers procure the raw food
ingredients, manufacture, test and package our products. Cost of goods sold
consists primarily of the cost of product obtained from the contract
manufacturing plants, packaging materials and CBD oils directly sourced by the
Company, and freight for shipping product from our contract manufacturing plants
to our warehouse. We review inventory on hand periodically to identify damages,
slow moving inventory, and/or aged inventory. Based on the analysis, we record
inventories on the lower of cost and net realizable value, with any reduction in
value expensed as cost of goods sold.
We calculate gross profit as net sales, including any shipping revenue collected
from our customers, less cost of goods sold. Our gross profit has been and, we
expect, will continue to be affected by a variety of factors, primarily product
sales mix, volumes sold, discounts offered to our club members, discounts
offered to newly acquired and recurring customers, the cost of our manufactured
products, and the cost of freight from the manufacturer to our warehouse.
Changes in cost of goods sold and gross profit may be driven by the volume and
price of our sales, including the extent of discounts offered, variations in the
cost of CBD and the price we pay for our manufactured products and variations in
our freight costs.
Operating Expenses
General and administrative expenses include management and office personnel
compensation and bonuses, share-based compensation, corporate level information
technology related costs, rent, travel, professional service fees, costs related
to merchant credit card fees, shipping costs, insurance, product development
costs and general corporate expenses. We expect general and administrative
expenses to continue to increase in absolute dollars as we expand our commercial
infrastructure to both drive and support our planned growth in revenue and
support the additional costs associated with being a public company.
Sales and marketing expenses include costs related to compensation for sales
personnel, other costs related to the selling platform, as well as marketing,
including paid media and content creation expenses. Marketing expenses consist
primarily of Facebook and other media ads, other advertising and marketing
costs, all geared towards acquiring new customers and building brand awareness.
We expect selling expense to continue to grow as we actively acquire new online
customers and begin to build our wholesales channel.
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Customer service and warehousing costs include the cost of our customer service department, including our in-house call center, and costs associated with warehouse operations, including but not limited to payroll, rent, and warehouse management systems. Interest Expense Interest expense originates from debt incurred under a under a revolving credit agreement entered into inMay 2019 , and under our note payable to a priorTruPet LLC member, corporate credit cards, our line of credit agreement and other debt in place prior to the Acquisitions.
Income Taxes
Our income tax provision consists of an estimate of federal and state income taxes based on enacted federal and state tax rates, as adjusted for allowable credits, deductions and uncertain tax positions. During the three and nine-month periods endedSeptember 30, 2019 andSeptember 30, 2018 , we did not record income tax expense. TruPet was a limited liability company until theMay 6, 2019 acquisitions. Subsequent to the consummation of the Acquisitions, the Company, as a corporation, is required to provide for income taxes.
Results of Operations
Three and Nine Months EndedSeptember 30, 2019 Compared to Three and Nine Months EndedSeptember 30, 2018 Nine Months Ended Three Months Ended $ in 000's 2019 2018 % Change 2019 2018 % Change Net Sales$ 11,567 $ 11,045 5 %$ 3,932 $ 3,981 (1 )% Cost of Goods Sold 7,178 5,786 24 % 3,096 2,457 26 % Gross Profit 4,389 5,259 (17 )% 836 1,524 (45 )% General & Administrative 12,031 4,013 200 % 4,856 1,341 262 % Share-Based Compensation 6,708 - - 2,496 - - Sales & Marketing 8,452 4,061 108 % 2,856 1,242 130 % Customer Service and Warehousing 854 927 (8 )% 303 350 (13 )% Loss from Operations$ (23,656 ) $ (3,742 ) 532 %$ (9,675 ) $ (1,409 ) 587 % Net Sales Net sales increased$0.5 million , or 5%, to$11.6 million for the nine months endedSeptember 30, 2019 compared to$11.0 million for the nine months endedSeptember 30, 2018 . Net sales decreased less than$0.1 million , or 1%, to$3.9 million for the three months endedSeptember 30, 2019 compared to$4.0 million for the three months endedSeptember 30, 2018 . Net sales increased in the nine months endedSeptember 30, 2019 as compared to the nine months endedSeptember 30, 2018 as a result of increased media and acquisition spend and a shift to higher unit priced products. Our TruDog brand shifted away from dental products during the first half of 2019 towards consumable food and topper sales. Dental products were effective for initial customer acquisition but return and retention rates were relatively low. Although food and topper products are not as effective in initial customer conversion as the dental products, food and topper products yield a better lifetime value as retention and repeat rates are higher. Over the nine-month period ended onSeptember 30, 2019 , 76% of our products sold were to repeat customers. 37
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The decrease in net sales in the three months endedSeptember 30, 2019 as compared to the three months endedSeptember 30, 2018 were the result of a more competitive customer acquisition environment where we had to spend more on acquisition costs to achieve the same level of sales. We continue to see high retention rates of returning customers either through our subscription offers or from repeat purchases. During the three-month period endedSeptember 2019 , 81% of sales were to repeat customers. Repeat customers earned and redeemedTLC loyalty points at a higher rate in the period endedSeptember 30, 2019 than in any prior period. By focusing on repeat customers, we can reduce the initial discounting we offer first time customers, effectively raising our average unit revenue. We expect the share of returning sales to continue to grow as we focus our acquisition spend on high value, repeat buyers. Online retail partners sales dropped slightly as we continued to focus on driving traffic to our own sites.
Cost of Goods Sold and Gross Profit
Cost of goods sold increased$1.4 million , or 24%, to$7.2 million for the nine months endedSeptember 30, 2019 compared to$5.8 million for the nine months endedSeptember 30, 2018 . The increase in cost of goods sold was primarily due to a mix shift to food and topper products, which have higher costs than dental products offset by improved conversion costs from our manufacturing partners as we continue to negotiate and expect to see further cost reductions as we rationalize the product offering and gain scale in the remaining products. We also expensed$0.6 million in royalty expenses in the nine-month period ended inSeptember 30, 2019 related to our licensing contract for the Houndog brand fromElvis Presley Enterprises . The cost of hemp derived CBD oils has declined in the market, thus, reducing our ingredient costs. In the nine-month periods ended onSeptember 30, 2019 and 2018, the inventory reserve taken was$0.4 million and$0.1 million , respectively, for slow moving and discontinued items. As a percentage of revenue, cost of goods sold increased to 62% during the nine months endedSeptember 30, 2019 compared to 52% during the nine months endedSeptember 30, 2018 . Cost of goods sold increased$0.6 million , or 26%, to$3.1 million for the three months endedSeptember 30, 2019 compared to$2.5 million for the three months endedSeptember 30, 2018 . During the three-months ended onSeptember 30, 2019 , we continued to negotiate for improved conversion costs from our manufacturing partners and saw the initial benefits of our reduction efforts. We also expensed$0.6 million in royalty expenses in the nine-month period ended inSeptember 30, 2019 related to our licensing contract for the Houndog brand fromElvis Presley Enterprises . The inventory review at the end of the three-month period ended onSeptember 30, 2019 led to an inventory reserve charge of$0.2 million for the quarter as compared to a reserve of less than$0.1 million for the three months endedSeptember 30, 2018 . As a percentage of revenue, cost of goods sold increased to 79% during the three months endedSeptember 30, 2019 compared to 62% during the three months endedSeptember 30, 2018 . During the nine months endedSeptember 30, 2019 , gross profit decreased$0.9 million , or 17%, to$4.4 million compared to$5.3 million during the nine months endedSeptember 30, 2018 . Gross profit margin decreased to 38% from 48% for the nine months endedSeptember 30, 2019 compared to the nine months endedSeptember 30, 2018 . The ongoing shift into food and topper products from the dental products sold in 2018 and through the first half of 2019, the discounting of discontinued products and the Houndog royalty expense reduced the gross profit margin for the nine-month period endedSeptember 30, 2019 . During the three months endedSeptember 30, 2019 , gross profit decreased$0.7 million , or 45%, to$0.8 million compared to$1.5 million for the three months endedSeptember 30, 2018 . Gross profit margin also decreased to 21% from 38% for the three months endedSeptember 30, 2019 compared to the three months endedSeptember 30, 2018 . During the three-months ended onSeptember 30, 2019 , we incurred the Houndog royalty expense of$0.6 million .
Operating Expenses
During the nine months endedSeptember 30, 2019 , general and administrative expenses increased approximately$8.0 million , or 200% to$12.0 million compared to$4.0 million in the nine months endedSeptember 30, 2018 . The increase resulted from the expansion of our corporate staff and the incurrence of professional fees post-acquisitions as we began building the infrastructure to support our status as a public company. We saw higher than normal shipping costs during the nine months endedSeptember 30, 2018 due to a product recall. During this period, we shipped partial orders and replacement product, increasing our shipping expenses. During the three months endedSeptember 30, 2019 , general and administrative expenses increased approximately$3.5 million , or 262%, to$4.9 million compared to$1.3 million in the three months endedSeptember 30, 2018 . The increase resulted from the expansion of our corporate staff and the incurrence of professional fees post-acquisition as we began building the infrastructure to support our status as a public company. In the three months endedSeptember 30, 2019 , we achieved lower unit shipping costs as we gain scale and shipping efficiency. 38
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During the nine months ended
During the three months ended
During the nine months endedSeptember 30, 2019 , sales and marketing expenses, including paid media, increased approximately$4.4 million , or 108%, to$8.5 million from$4.1 million during the nine months ended inSeptember 30, 2018 as a result of increased new customer acquisition efforts. TruPet traditionally invested in Facebook advertisement to drive traffic to the site. We increased spending on Facebook and Google and began to invest in other media outlets to build brand awareness. InAugust 2019 , we tested radio advertisement for our CBD infused pet treats to drive incremental demand for the products. We paused the radio advertising at the end ofSeptember 2019 , as we did not see the expected pickup in CBD sales. During the three months endedSeptember 30, 2019 , sales and marketing expenses, including paid media, increased approximately$1.6 million , or 130%, to$2.9 million from$1.2 million during the three months ended inSeptember 30, 2018 primarily due to a shift in media spending towards Facebook and Google advertisements as well as retargeting lapsed customers. InAugust 2019 , we tested radio advertisement for our CBD infused pet treats to drive incremental demand for the products. We paused the advertising at the end ofSeptember 2019 , as we did not see the expected pickup in CBD sales. During the nine months endedSeptember 30, 2019 , other customer service and warehousing costs decreased$0.1 million , or 8%, to$0.8 million compared to$0.9 million for the nine months endedSeptember 30, 2018 . We rationalized the operations in our warehouse at the end of 2018, reducing the staff and operating costs. The reductions in customer service and warehousing costs during the nine months endedSeptember 30, 2019 were offset by increased costs when we began renovating a new facility nearTampa, Florida to house our warehouse, fulfillment and administrative departments. Rent and associated utilities for this period are reflecting both the rent for the new facility as well as the existing facility. During the three months endedSeptember 30, 2019 , customer service and warehousing costs decreased$0.1 million , or 13%, to$0.3 million compared to$0.4 million for the three months endedSeptember 30, 2018 . We rationalized the operations in our warehouse at the end of 2018, reducing staff and operating costs. The reductions in customer service and warehousing costs during the three months endedSeptember 30, 2019 were offset by increased costs when we began renovating a new facility inTampa, Florida to house our warehouse, fulfillment and administrative departments. Rent and associated utilities for this period are reflecting both the rent for the new facility as well as the existing facility.
Research and Development
We do not invest in non-CBD pet food research, but we do continually review sales of our existing products as well as those of non-CBD competitors to identify possible product extensions. We acquired two CBD related research agreements as part of the acquisition ofBona Vida Inc. We will invest resources into the effectiveness of CBD infused canine pet food to determine if specific strains of CBD are more effective than others in addressing canine health issues. We are also conducting trials with existing products to determine optimal product formulations., We incurred less than$0.1 million of research and development expenses during the three and nine-month periods endedSeptember 30, 2019 and$0 during the three-month and nine month periods endedSeptember 30, 2018 . We expect to continue incur research and development expenses during the remainder of 2019 and in future periods. Research and development costs are included in general and administrative costs.
Interest Expense, Net
During the nine months endedSeptember 30, 2019 , interest expense increased$0.1 million , or 76% to$0.2 million compared to$0.1 million for the nine months endedSeptember 30, 2018 . Interest expense increased primarily due to the refinancing of the Company's line of credit agreement of$6.2 million onMay 6, 2019 versus an interest free shareholder loan for the nine month period endedSeptember 30, 2018 . 39
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During the three months ended
Income Taxes No provision has been made for federal and state income taxes prior to the date of the acquisitions since the proportionate share of TruPet's income or loss was included in the personal tax returns of its members because TruPet was a limited liability company. Subsequent to the acquisitions, the Company, as a corporation is required to provide for income taxes.
The effective tax rate subsequent to the acquisitions 0%. The effective tax rate
differs from the
Loss from Acquisition
Note 2 in the Notes to the Unaudited Consolidated Financial Statements details
the impact of the transaction on
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Liquidity and Capital Resources
Since our founding, we have financed our operations primarily through sales of member units as a limited liability company, sales of shares of Common Stock and warrants, as a corporation, preferred stock, loans and cash flows generated by operations. AtSeptember 30, 2019 , we had cash and cash equivalents of$9.0 million (including restricted cash of$6.2 million ) which represented an increase of$5.1 million fromDecember 31, 2018 . The Company has incurred losses over the last three years and has an accumulated deficit. These operating losses create substantial doubt about the Company's ability to continue as a going concern for a period of twelve months from the date these consolidated financial statements are issued. The consolidated financial statements have been prepared on a going concern basis. In making this assessment, management conducted a comprehensive review of the Company's affairs. We reviewed sales and profitability forecasts for the Company for the next fiscal year including the impact of the acquisition of Halo, Purely forPets, Inc. onDecember 20, 2019 . The Company believes its available cash together with future capital raises and available borrowings, are sufficient to fund planned operations and operate its business for the next 12 months. The Company continues to have access to the public markets for additional funds for operations as well as refinancing of existing loans.
If the Company is unable to raise the necessary funds when needed or achieve planned cost savings, or other strategic objectives are not achieved, the Company may not be able to continue its operations or the Company could be required to modify its operations that could slow future growth. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
The following table presents a summary of our cash flow for the nine-month periods ended:
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