HF FOODS GROUP INC. The following discussion and analysis provides information about our business, the results of operations, financial condition, liquidity and capital resources ofHF Foods Group Inc. This information is intended to facilitate the understanding and assessment of significant changes and trends related to our results of operations and financial condition. This discussion and analysis should be read in conjunction with the consolidated financial statements and the accompanying notes presented elsewhere in this Annual Report on Form 10-K. During 2022, the Company identified certain errors impacting the financial statements, including disclosures, for the years endedDecember 31, 2020 and 2019 and each interim quarterly period for 2021, 2020 and 2019 related to the identification of and accounting for operating and finance leases, the incorrect identification and disclosure of certain related party relationships including the identification of VIEs, the timing of revenue recognition for rental income received from a related party, the accounting for the self-insurance liability for automobile insurance beginning in 2020, classification errors in the financial statements, and an error in the calculation of earnings per share. In addition, certain errors were identified based on the factual findings of the Special Investigation Committee such as unrecorded executive compensation to the Company's major shareholder and former Chief Executive Officer, Mr.Zhou Min Ni ("Mr. Ni"), and related party disclosures. These errors have been restated in the consolidated financial statements as ofDecember 31, 2020 and for the years endedDecember 31, 2020 and 2019 in Note 1 - Organization, Business Description and Restatement of Previously Issued Consolidated Financial Statements to the consolidated financial statements in this Annual Report on Form 10-K and should be read in conjunction with the discussions of 2019 items and year-to-year comparisons between 2020 and 2019 that are not included in this Annual Report on Form 10-K can be found in "Part II - Item 7 - Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the year endedDecember 31, 2020 , as filed with theSEC onMarch 16, 2021 .
Independent Investigation Update
In
In response to the allegations in the analyst report, the Company's Board of
Directors appointed a Special Investigation Committee of Independent Directors
(the "Special Investigation Committee") to conduct an independent investigation
with the assistance of independent legal counsel. As a result of the
investigation, the SIC determined certain factual findings. Management evaluated
the factual findings determined by the SIC, and analyzed them to determine their
impact on the historical consolidated financial statements, including
disclosures, of the Company. The following is a summary of the findings and the
Company's analysis of how those findings impact the historical consolidated
financial statements:
•Feilong Trading, Inc. ("Feilong") Note Receivable - On September 30, 2018 , the
Company entered into a line of credit promissory note agreement with Feilong.
The note was later amended in November 2018 whereby Feilong could borrow up to
$4,000,000 . These notes followed previous lines of credit granted to Feilong
before the Company was an issuer. The outstanding balance of the note receivable
at December 31, 2018 was $3,803,826 . In or around October 2019 , the Company's
major shareholder and former Chief Executive Officer, Mr. Ni agreed to
personally guarantee the repayment of the note receivable. The Company
previously stated that Feilong was a supplier to the Company. As previously
disclosed, Mr. Ni purchased the outstanding balance in exchange for a certain
number of his shares of common stock of the Company, and as a result at December
31, 2019 , the outstanding balance from Feilong was $0 . The SIC determined that
1) Feilong was not a supplier to the Company, 2) there is no evidence that funds
from the line of credit were provided to Feilong, 3) the notes receivable were
not in the ordinary course of business and may not have been fully realizable
from Feilong, and 4) the notes receivable appears to have benefited Mr. Ni
because the funds may have been used to pay off other debts for which Mr. Ni was
responsible. It was not disclosed that the Feilong funds were used to satisfy
Mr. Ni's debts. The investigation did not conclude that Feilong was a related
party. The Company considered the factual findings as presented to the SIC and
the impact such findings had on its historical accounting. While it was
determined that the historical disclosures were inaccurate or incomplete the
Company concluded there would be no change necessary to previous accounting.
Although it was determined that the Feilong note might not have been fully
realizable from Feilong, the Company considered the existence of Mr. Ni's
guarantee to support the realizability of the note receivable, which was
ultimately realized in 2019 when Mr. Ni purchased the note receivable in
exchange for certain of his shares of common stock in the Company.
•Promissory Notes to Related Parties - As disclosed in the previously filed
financial statements, the Company had previously made loans to certain entities
that were owned by Mr. Ni or his family members. At December 31, 2018 , the total
related party notes receivable balance was $8,540,949 which was due from Enson
Seafood , GA, Inc. , NSG
28
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International, Inc. and Revolution Automotive, LLC . The notes receivable were
personally guaranteed by Mr. Ni . As disclosed in the 2019 financial statements,
Mr. Ni purchased the outstanding balance of these notes receivable in exchange
for a certain number of his shares of common stock of the Company, and as a
result, at December 31 2019 , the outstanding balance of the notes receivable was
$0 . The SIC determined that the loans were not in the ordinary course of
business and may not have been fully realizable from the counterparties. The
Company considered the SIC's factual findings and determined no adjustments were
needed to its prior accounting as there was no conclusive evidence that the
related party notes receivable were not enforceable with the counterparties.
Although it was determined that the related party notes receivable might not
have been fully realizable from the counterparties, the Company considered the
existence of Mr. Ni's guarantee to support the realizability of the notes
receivable, which was ultimately realized in 2019 when Mr. Ni purchased the
notes receivable in exchange for certain of his shares of common stock of the
Company.
•Members of the Ni family received undisclosed compensation from transactions with related parties which was excluded from previously filed proxy statements.
•Revolution Industry was determined to be a variable interest entity ("VIE").
•Certain advances to
•The Company had previously disclosed in its 2019 proxy filing that the Board of Directors had analyzed the prices paid to related parties as well as the level of service, reliability, delivery terms, and historical performance, and concluded such prices and terms were substantially equivalent to, or more advantageous than, prices and terms the Company would receive from third parties. The SIC determined that such an analysis did not occur. This finding does not appear to have resulted in errors to the historical financial statements. Amounts recorded in the historical financial statements were recorded based on the amount transacted with the related parties. •Monies owed to the Company's related party call center were diverted to other persons, entities, orZhou Min Ni . The SIC did not identify that the call center was paid amounts substantially different than the contractual terms, but concluded that payments for such services may have been diverted to other parties. The Company determined that the amounts recorded in the previously filed financial statements as expense was not inaccurate, and therefore, there were no adjustments needed to the historical financial statements. In addition to the independent investigation, theSecurities and Exchange Commission ("SEC") initiated a formal, non-public investigation of the Company, and theSEC informally requested, and later issued a subpoena for, documents and other information. The subpoena relates to but is not necessarily limited to the matters identified in the Class Actions. The Special Investigation Committee and the Company are cooperating with theSEC . The SEC Investigation is still ongoing. As with anySEC investigation, there is also the possibility of potential fines and penalties. At this time, however, there has not been any demand made by theSEC nor is it possible to estimate the amount of any such fines and penalties, should they occur. See Note 18 - Commitments and Contingencies to the consolidated financial statements in this Annual Report on Form 10-K for additional information.
Overview
We market and distribute Asian specialty food products, fresh produce, frozen and dry food, and non-food products primarily to Asian restaurants and other foodservice customers throughoutthe United States . HF Group was formed through a merger between two complementary market leaders,HF Foods Group Inc. andB&R Global . 29 -------------------------------------------------------------------------------- OnDecember 30, 2021 , HF Group acquired a leading seafood supplier, theGreat Wall Group , resulting in the addition of 3 distribution centers, located inIllinois andTexas (the "Great Wall Acquisition"). See Note 7 - Acquisitions to the consolidated financial statements in this Annual Report on Form 10-K for additional information regarding the Great Wall Acquisition.
Subsequent to
Including the Sealand Acquisition, we have grown our distribution network to 18 distribution centers servicing over 46 states and covering approximately 95% of the contiguousUnited States with a fleet of close to 400 refrigerated vehicles. Capitalizing on our deep understanding of the Chinese culture, with over 1,000 employees and subcontractors and supported by two call centers inChina , we have become a trusted partner serving over 15,000 Asian restaurants, providing sales and service support to customers who mainly converse in Mandarin or other Chinese dialects. We are dedicated to serving the vast array of Asian and Chinese restaurants in need of high-quality and specialized food ingredients at competitive prices. COVID-19 Impact The impact of the COVID-19 pandemic had an adverse effect on our business, financial condition and operational results in 2020. All states across the country issued some form of stay-at-home orders, shutdowns, voluntary containment measures, and social distancing. The operations of our restaurant customers were also severely disrupted due to the "cliff-like" decline in consumer demand for food away from home. The government mandates forced many of our restaurant customers to temporarily close or convert to take-out or delivery-only operations. As a result, there was a significant decline in net revenue beginning from the last two weeks ofMarch 2020 throughSeptember 2020 , negatively impacting our overall financial results in 2020. Since the third quarter of 2020, we've experienced a quarter-on-quarter recovery in net revenue. The impact of COVID-19 seen in 2020 has generally subsided. Our net revenue for 2021 strongly recovered to 96% of pre-COVID-19 pandemic levels. Based on current sales volumes and adjusted cost structures, we continue to generate positive operating cash flow on a weekly basis and do not have immediate liquidity concerns. We remain optimistic on the long-term prospects for our business although we may continue to face intermittent government restrictions on our restaurant customers' business operations. As a market leader in servicing the Asian/Chinese restaurant sector, we are well-positioned for long-term success. The fragmented nature of the Asian/Chinese foodservice industry and the current environment creates opportunities for a company that has the necessary expertise and a comprehensive cultural understanding of this unique customer base. We believe we are differentiated from our competitors given our extensive footprint, strong vendor and customer relationships, and value-added service offerings, all of which have allowed and will continue to allow us to better serve our customers in these unprecedented conditions.
How to
In assessing our performance, we consider a variety of performance and financial measures, including principal growth in net revenue, gross profit, distribution, selling and administrative expenses, as well as certain non-GAAP financial measures, including EBITDA and Adjusted EBITDA. The key measures that we use to evaluate the performance of our business are set forth below:
Net Revenue
Net revenue is equal to gross sales minus sales returns, sales incentives that we offer to our customers, such as rebates and discounts that are offsets to gross sales; and certain other adjustments. Our net revenue is driven by changes in number of customers and average customer order amount, product inflation that is reflected in the pricing of our products and mix of products sold.
Gross Profit
Gross profit is equal to net revenue minus cost of revenue. Cost of revenue primarily includes inventory costs (net of supplier consideration), inbound freight, customs clearance fees and other miscellaneous expenses. Cost of revenue generally changes as we incur higher or lower costs from suppliers and as the customer and product mix changes.
30
--------------------------------------------------------------------------------Distribution, Selling and Administrative Expenses
Distribution, selling and administrative expenses consist primarily of salaries, stock-based compensation and benefits for employees and contract laborers, trucking and fuel expenses, utilities, maintenance and repair expenses, insurance expenses, depreciation and amortization expenses, selling and marketing expenses, professional fees and other operating expenses.
EBITDA and Adjusted EBITDA
Discussion of our results includes certain non-GAAP financial measures, including EBITDA and Adjusted EBITDA, that we believe provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing our financial performance with other companies in the same industry, many of which present similar non-GAAP financial measures to investors. We present EBITDA and Adjusted EBITDA in order to provide supplemental information that we consider relevant for the readers of our consolidated financial statements included elsewhere in this report, and such information is not meant to replace or supersede GAAP measures. Management uses EBITDA to measure operating performance, defined as net income before interest expense, interest income, income taxes, and depreciation and amortization. In addition, management uses Adjusted EBITDA, defined as net income before interest expense, interest income, income taxes, and depreciation and amortization, further adjusted to exclude certain unusual, non-cash, or non-recurring expenses. Management believes that Adjusted EBITDA is less susceptible to variances in actual performance resulting from non-recurring expenses, and other non-cash charges and is more reflective of other factors that affect our operating performance. The definition of EBITDA and Adjusted EBITDA may not be the same as similarly titled measures used by other companies in the industry. EBITDA and Adjusted EBITDA are not defined under GAAP and are subject to important limitations as analytical tools and should not be considered in isolation or as substitutes for analysis of HF Group's results as reported under GAAP. For example, Adjusted EBITDA:
•excludes certain tax payments that may represent a reduction in cash available;
•does not reflect any cash capital expenditure requirements for the assets being depreciated and amortized that may have to be replaced in the future;
•does not reflect changes in, or cash requirements for, our working capital needs; and
•does not reflect the significant interest expense, or the cash requirements, necessary to service our debt.
For additional information on EBITDA and Adjusted EBITDA, see the section entitled "EBITDA and Adjusted EBITDA" below.
Financial Review
Highlights for 2021 included:
•Net revenue: Net revenue was$796.9 million in 2021, compared to$566.8 million in 2020, an increase of$230.1 million , or 40.6%. This increase was primarily attributable to the strong recovery of restaurant demand from the COVID-19 pandemic. •Gross profit: Gross profit was$151.5 million in 2021 compared to$100.7 million in 2020, an increase of$50.8 million , or 50.4%. The increase was mainly due to strong sales growth in 2021 and improved gross profit margin from 17.8% in 2020 to 19.0% in 2021. •Distribution, selling and administrative expenses ("DSA expenses"): DSA expenses increased by$15.7 million , or 14.7%, mainly due to an increase in sales related cost, driven by net revenue growth. DSA expenses as a percentage of net revenue decreased from 18.8% in 2020 to 15.3% in 2021, which represented cost savings from improved operational efficiencies. •Net income attributable toHF Foods Group Inc. : Net income was$22.1 million in 2021 compared to a net loss of$343.5 million in 2020, primarily due to a goodwill impairment loss of$338.2 million in 2020 and our significant business recovery to pre-COVID-19 pandemic levels in 2021. 31 -------------------------------------------------------------------------------- •Great Wall Acquisition: OnDecember 30, 2021 , we acquired substantially all of the operating assets of theGreat Wall Group's seafood and restaurant products sales, marketing, and distribution businesses for an aggregate purchase price of$43.7 million in stock and cash, as well as$24.3 million of acquired saleable inventory and additional vehicles for approximately$0.2 million , for total consideration of$68.2 million . This acquisition extended our territory to include the Midwest and Southwest markets and expanded our product portfolio. •Inventory: Inventory as ofDecember 31, 2021 was$102.7 million , compared to$58.5 million as ofDecember 31, 2020 , an increase of$44.2 million , or 75.4%, We kept higher inventory levels as ofDecember 31, 2021 mainly due to an expectation of continued sales growth as our business continues to recover from the impact of the COVID-19 pandemic, and we also acquired$24.3 million of inventory related to the Great Wall Acquisition.
Results of Operations
The following table sets forth a summary of our consolidated results of
operations for the years ended
Year Ended December 31, Change
(In thousands) 2021 2020 Amount %
(As Restated)
Net revenue $ 796,884 $ 566,832 $ 230,052 40.6%
Cost of revenue 645,372 466,085 179,287 38.5%
Gross profit 151,512 100,747 50,765 50.4%
Distribution, selling and administrative
expenses 122,030 106,355 15,675 14.7%
Goodwill impairment loss - 338,191 (338,191) NM
Income (loss) from operations 29,482 (343,799) 373,281 NM
Interest expense (4,091) (4,321) 230 (5.3)%
Other income 508 1,096 (588) (53.6)%
Change in fair value of interest rate swap
contracts 1,425 (920) 2,345 NM
Income (loss) before income tax provision 27,324 (347,944) 375,268 NM
Provision (benefit) for income taxes 4,503 (4,725) 9,228 NM
Net income (loss) and comprehensive income
(loss) 22,821 (343,219) 366,040 NM
Less: net income attributable to
noncontrolling interests 676 293 383 130.4%
Net income (loss) and comprehensive income
(loss) attributable to HF Foods Group Inc. $ 22,145 $ (343,512) $ 365,657 NM
______________________
NM - Not meaningful
32
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The following table sets forth the components of our consolidated results of
operations expressed as a percentage of net revenue for the periods indicated:
Year Ended December 31,
2021 2020
(As Restated)
Net revenue 100.0 % 100.0 %
Cost of revenue 81.0 % 82.2 %
Gross profit 19.0 % 17.8 %
Distribution, selling and administrative expenses 15.3 % 18.8 %
Goodwill impairment loss - % 59.7 %
Income (loss) from operations 3.7 % (60.7) %
Interest expense (0.6) % (0.8) %
Other income, net 0.1 % 0.2 %
Change in fair value of interest rate swap contracts 0.2 % (0.2) %
Income (loss) before income tax provision 3.4 % (61.5) %
Provision (benefit) for income taxes 0.5 % (0.8) %
Net income (loss) 2.9 % (60.7) %
Less: net income attributable to noncontrolling interests 0.1 % 0.1 %
Net income (loss) and comprehensive income (loss) attributable
to HF Foods Group Inc. 2.8 % (60.8) %
Net Revenue
Net revenue for the year ended December 31, 2021 increased by $230.1 million or
40.6% compared to the same period in 2020. The increase was primarily due to the
easing of COVID-19 related restrictions in 2021 that resulted in more dine-in
business for our customers and the increase in overall foot traffic to
restaurants.
Gross Profit
Gross profit for the year endedDecember 31, 2021 increased by$50.8 million or 50.4%, compared to the same period in 2020, Overall gross margin improved to 19.0% for the year endedDecember 31, 2021 from 17.8% for the year endedDecember 31, 2020 . An increase in sales contributed 79% of total increase in gross profit and an improvement in gross profit margin represented 21% of total increase in gross profit. The improvement in gross profit margin was primarily due to the favorable inventory allocation from supplier partners and timing of inventory purchasing.
Distribution, Selling and Administrative Expenses
Distribution, selling and administrative expenses for the year endedDecember 31, 2021 increased by$15.7 million , or 14.7%, to$122.0 million , compared to$106.4 million for the year endedDecember 31, 2020 . Of the distribution, selling and administrative expenses increase,$17.2 million , primarily came from payroll and related labor costs, as more workers were, and will continue to be, required to handle the increasing sales demand, and$4.3 million was in delivery related cost primarily driven by increasing fuel prices and revenue growth. Distribution, selling and administrative expenses as a percentage of net revenue improved from 18.8% in 2020 to 15.3% in 2021 primarily due to better cost control measures and higher net revenue.
Goodwill Impairment Loss
Goodwill impairment loss was$338.2 million for the year endedDecember 31, 2020 primarily due to the negative impact of the COVID-19 pandemic on sales. No goodwill impairment loss was recorded for year endedDecember 31, 2021 , as our business returned to pre-COVID-19 pandemic levels. See Note 8 -Goodwill and Acquired Intangible Assets to the consolidated financial statements in this Annual Report on Form 10-K for additional information. 33 --------------------------------------------------------------------------------
Interest Expense and Bank Charges
Interest expense for the year endedDecember 31, 2021 increased by$0.2 million or 5.3%, compared to the year endedDecember 31, 2020 , primarily due to increased interest expense related to finance leases, partially offset by lower utilization of our line of credit, a reduction of our real estate term loan and a decrease in interest due to the lower interest-rate environment. Our average daily line of credit balance decreased by$17.9 million , or 52.0%, to$16.5 million in 2021 from$34.4 million in 2020, and our average daily real estate term loan balance decreased by$2.1 million , or 2.9%, to$71.2 million in 2021 from$73.3 million in 2020. Additionally, average floating interest rates for the year endedDecember 31, 2021 decreased by approximately 0.52%, compared to the same period in 2020, which further contributed to lower interest expense.
Income Tax Provision (Benefit)
Income tax provision was
Net Income (Loss) Attributable to Our Shareholders
Net income attributable to our shareholders was$22.1 million for the year endedDecember 31, 2021 , versus a net loss attributable to our shareholders of$343.5 million for the year endedDecember 31, 2020 . The positive trend is attributed to increased consumer demand for dine-in/take out meals as COVID-19 restrictions eased in 2021, thereby prompting restaurants to replenish products at a more frequent rate. In addition, the year endedDecember 31, 2020 included the goodwill impairment loss discussed above.
EBITDA and Adjusted EBITDA
The following table reconciles EBITDA and Adjusted EBITDA to the most directly
comparable GAAP measure:
Year Ended December 31, Change
(In thousands) 2021 2020 Amount %
(As Restated)
Net income (loss) $ 22,821 $ (343,219) $ 366,040 NM
Interest expense 4,091 4,321 (230) (5.3)%
Income tax provision (benefit) 4,503 (4,725) 9,228 NM
Depreciation and amortization 19,126 18,923 203 1.1%
EBITDA 50,541 (324,700) 375,241 (115.6)%
Change in fair value of interest rate swap
contracts (1,425) 920 (2,345) (254.9)%
Goodwill impairment charges - 338,191 (338,191) NM
Stock-based compensation expense 635 - 635 NM
Acquisition and integration costs 1,090 47 1,043 NM
Adjusted EBITDA $ 50,841 $ 14,458 $ 36,383 251.6%
Adjusted EBITDA margin 6.4 % 2.6 %
____________________
NM - Not meaningful
Adjusted EBITDA was
34
--------------------------------------------------------------------------------Liquidity and Capital Resources
As ofDecember 31, 2021 , we had cash of approximately$14.8 million , checks issued not presented for payment of$17.8 million and access to approximately$44.7 million in additional funds through our$100.0 million line of credit, subject to a borrowing base calculation. We have funded working capital and other capital requirements primarily by cash flow from operations and bank loans. Cash is required to pay purchase costs for inventory, salaries, fuel and trucking expenses, selling expenses, rental expenses, income taxes, other operating expenses and to service debts. Based on current sales volume, which has been increasing steadily quarter-on-quarter since the outbreak of COVID-19 in the first half of 2020, we believe that our cash flow generated from operations is sufficient to meet our normal working capital needs for at least the next twelve months. However, our ability to repay our current obligations will depend on the future realization of our current assets. Management has considered the historical experience, the economy, the trends in the foodservice distribution industry to determine the expected collectability of accounts receivable and the realization of inventories as ofDecember 31, 2021 . OnDecember 30, 2021 , the Company entered into the Consent, Waiver, Joinder and Amendment No. 3 to the Second Amended Credit Agreement with JPMorgan, as Administrative Agent, and certain lender parties thereto, includingComerica Bank (see Note 10 - Line of Credit to the consolidated financial statements in this Annual Report on Form 10-K). Subsequent toDecember 31, 2021 , onMarch 31, 2022 , we amended the Credit Agreement with J.P. Morgan extending our line of credit for five years. The amendment provided for a$100.0 million asset-secured revolving credit facility with a 1-month SOFR plus a credit adjustment of 0.1% plus 1.375% per annum, as well as an increase to our mortgage-secured term loan from$69.0 million to$115.0 million . In April of 2022, the$46.0 million increase to the mortgage-secured term loan was used to pay down our$100.0 million line of credit. We also received a waiver throughJanuary 31, 2023 associated with the timing of our filing of our 2021 audited financial statements. See Note 10 - Line of Credit to the consolidated financial statements in this Annual Report on Form 10-K. OnApril 29, 2022 , we completed the Sealand Acquisition for cash consideration of$20.0 million plus approximately$14.4 million of inventory. We financed the Sealand Acquisition through our$100.0 million line of credit. During the three months endedJune 30, 2022 , we sold a warehouse to a related party for approximately$7.2 million and used a portion of the proceeds to pay the outstanding balance of our$4.5 million loan withFirst Horizon Bank . We also paid the remaining$4.5 million of our related party promissory note payable. Based on the above considerations, management believes we have sufficient funds to meet our working capital requirements and debt obligations in the next twelve months. However, there are a number of factors that could potentially arise which might result in shortfalls in anticipated cash flow, such as the demand for our products, economic conditions, government intervention in response to a potential resurgence of COVID-19, competitive pricing in the foodservice distribution industry, and our bank and suppliers being able to provide continued support. If the future cash flow from operations and other capital resources is insufficient to fund our liquidity needs, we may have to resort to reducing or delaying our expected acquisition plans, liquidating assets, obtaining additional debt or equity capital, or refinancing all or a portion of our debt. As ofDecember 31, 2021 , aside from the lease guarantee liability disclosed in Note 12 - Leases to the consolidated financial statements in this Annual Report on Form 10-K, we have no off balance sheet arrangements that currently have or are reasonably likely to have a material effect on our consolidated financial position, changes in financial condition, results of operations, liquidity, capital expenditures or capital resources. The following table summarizes cash flow data for the years endedDecember 31, 2021 and 2020: Years Ended December 31, Change (In thousands) 2021 2020 Amount % (As Restated)
Net cash provided by operating activities
(61.7)%
Net cash used in investing activities (41,082) (94,411) 53,329 (56.5)%
Net cash provided by financing activities 28,784 43,761 (14,977) (34.2)%
Net increase (decrease) in cash and cash
equivalents $ 5,211 $ (4,957) $ 10,168 NM
____________________
NM - Not meaningful
35--------------------------------------------------------------------------------
Operating Activities
Net cash provided by operating activities consists primarily of net income adjusted for non-cash items, including depreciation and amortization, changes in deferred income taxes and others, and includes the effect of working capital changes. Net cash provided by operating activities decreased by$28.2 million , or 61.7%, as a result of changes in working capital items primarily due to two factors: (a) Accounts receivable balance as ofDecember 31, 2020 was significantly lower as the business pivoted to lower sales volume on open credit terms and higher sales volume for Cash on Delivery in response to the heightened risk from the COVID-19 pandemic and (b) Inventory level as ofDecember 31, 2020 was significantly lower due to lower demand in 2020, whereas our inventory level as ofDecember 31, 2021 increased sharply as a direct result of increasing sales volume and the need for normal inventory level build up during the period.
Investing Activities
Net cash used in investing activities decreased by
Financing Activities
Net cash provided by financing activities decreased by$15.0 million , or 34.2%, primarily resulting from a$75.6 million term loan obtained in 2020 to acquire 100% equity membership interest in nine subsidiaries of BRGR, partially offset by the net impact of$60.0 million on our line of credit from net repayments of$23.1 million in 2020 to net proceeds of$36.9 million in 2021.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP. These principles require management to make estimates and judgments that affect the reported amounts of assets, liabilities, sales and expenses, cash flow and related disclosure of contingent assets and liabilities. The estimates include, but are not limited to, accounts receivable, impairment of long-lived assets and income taxes. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates. To the extent that there are material differences between these estimates and the actual results, future financial statements will be affected.
We believe that among our significant accounting policies, which are described in Note 2 - Summary of Significant Accounting Policies to the consolidated financial statements in this Annual Report on Form 10-K, the following accounting policies involve a greater degree of judgment and complexity. Accordingly, we believe these are the most critical to fully understand and evaluate our financial condition and results of operations.
Revenue Recognition
We recognize revenue from the sale of products when control of each product passes to the customer and the customer accepts the goods, which occurs at delivery. Sales taxes invoiced to customers and remitted to government authorities are excluded from net sales.
We follow ASC Topic 606 ("ASC 606"), Revenue from Contracts with Customers. We
recognize revenue that represents the transfer of goods and services to
customers in an amount that reflects the consideration to which we expect to be
entitled in such exchange. This requires us to identify contractual performance
obligations and determine whether revenue should be recognized at a point in
time or over time, based on when control of goods and services transfer to a
customer. Our contracts contain performance obligations which are satisfied when
customers have physical possession of each product. Our revenue streams are
recognized at a specific point in time.
For the years ended December 31, 2021 , 2020 and 2019, revenue recognized from
performance obligations related to prior periods was immaterial. Revenue
expected to be recognized in any future periods related to remaining performance
obligations is immaterial.
36
--------------------------------------------------------------------------------Business Combinations
We account for our business combinations using the purchase method of accounting
in accordance with ASC Topic 805 ("ASC 805"), Business Combinations. The
purchase method of accounting requires that the consideration transferred be
allocated to the assets, including separately identifiable assets and
liabilities we acquired, based on their estimated fair values. The consideration
transferred in an acquisition is measured as the aggregate of the fair values at
the date of exchange of the assets given, liabilities incurred, and equity
instruments issued as well as the contingent considerations and all contractual
contingencies as of the acquisition date. Identifiable assets, liabilities and
contingent liabilities acquired or assumed are measured separately at their fair
value as of the acquisition date, irrespective of the extent of any
noncontrolling interests. The excess of (i) the total of cost of acquisition,
fair value of the noncontrolling interests and acquisition date fair value of
any previously held equity interest in the acquiree over, (ii) the fair value of
the identifiable net assets of the acquiree, is recorded as goodwill. If the
cost of acquisition is less than the fair value of the net assets of the
subsidiary acquired, the difference is recognized directly in earnings.
We estimate the fair value of assets acquired and liabilities assumed in a
business combination. While we use our best estimates and assumptions to
accurately value assets acquired and liabilities assumed at the acquisition
date, its estimates are inherently uncertain and subject to refinement.
Significant estimates in valuing certain intangible assets include, but are not
limited to future expected revenues and cash flows, useful lives, discount
rates, and selection of comparable companies. Although we believe the
assumptions and estimates we have made in the past have been reasonable and
appropriate, they are based in part on historical experience and information
obtained from management of the acquired companies and are inherently uncertain.
During the measurement period, which may be up to one year from the acquisition
date, we may record adjustments to the assets acquired and liabilities assumed
with the corresponding offset to goodwill. On the conclusion of the measurement
period or final determination of the values of assets acquired or liabilities
assumed, whichever comes first, any subsequent adjustments are recorded to our
consolidated statements of operations and comprehensive income (loss).
Goodwill represents the excess of the purchase price over the fair value of net assets acquired in a business combination. We test goodwill for impairment at least annually, as ofDecember 31 , or whenever events or changes in circumstances indicate that goodwill might be impaired. We review the carrying value of goodwill whenever events or changes in circumstances indicate that such carrying values may not be recoverable and annually for goodwill and indefinite lived intangible assets as required by ASC Topic 350, Intangibles -Goodwill and Other. This guidance provides the option to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. If, based on a review of qualitative factors, it is more likely than not that the fair value of a reporting unit is less than its carrying value, we perform a quantitative analysis. If the quantitative analysis indicates the carrying value of a reporting unit exceeds its fair value, we measure any goodwill impairment losses as the amount by which the carrying amount of a reporting unit exceeds its fair value, not to exceed the total amount of goodwill allocated to that reporting unit. No goodwill impairment was recorded for the year endedDecember 31, 2021 . A goodwill impairment loss of$338.2 million was recorded for the year endedDecember 31, 2020 . See Note 8 -Goodwill and Acquired Intangible Assets to the consolidated financial statements in this Annual Report on Form 10-K for additional information.
Impairment of Long-lived Assets
We assess our long-lived assets such as property and equipment and intangible assets subject to amortization for impairment whenever events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Factors which may indicate potential impairment include a significant underperformance related to the historical or projected future operating results or a significant negative industry or economic trend. Recoverability of these assets is measured by comparison of their carrying amounts to future undiscounted cash flows which the assets are expected to generate. If property and equipment and intangible assets are considered to be impaired, the impairment to be recognized equals the amount by which the carrying value of the assets exceeds their fair value. No impairment of long-lived assets was recorded for the years endedDecember 31, 2021 and 2020.
Income taxes
We account for income taxes under the asset and liability method, which requires
the recognition of deferred tax assets and liabilities for the expected future
tax consequences of events that have been included in the financial statements.
Under this method, we determine deferred tax assets and liabilities on the basis
of the differences between the financial statement and tax
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bases of assets and liabilities by using enacted tax rates in effect for the
year in which the differences are expected to reverse. The effect of a change in
tax rates on deferred tax assets and liabilities is recognized in income in the
period that includes the enactment date.
We recognize deferred tax assets to the extent that we believe that these assets
are more likely than not to be realized. In making such a determination, we
consider all available positive and negative evidence, including future
reversals of existing taxable temporary differences, projected future taxable
income, tax-planning strategies, and results of recent operations. As of
December 31, 2021 , we do not have a deferred tax asset valuation allowance.
We record uncertain tax positions in accordance with ASC Topic 740, Income Taxes
on the basis of a two-step process in which (1) we determine whether it is
more-likely-than-not that the tax positions will be sustained on the basis of
the technical merits of the position and (2) for those tax positions that meet
the more-likely-than-not recognition threshold, we recognize the largest amount
of tax benefit that is more than 50 percent likely to be realized upon ultimate
settlement with the related tax authority. See Note 14 - Income Taxes to the
consolidated financial statements in this Annual Report on Form 10-K for
additional information.
Recent Accounting Pronouncements
For a discussion of recent accounting pronouncements, see Note 2 - Summary of Significant Accounting Policies to the consolidated financial statements in this Annual Report on Form 10-K.
Emerging Growth Company Status
We have been an "emerging growth company," as defined in the Jumpstart Our Business Startups Act (the "JOBS Act"), and may at this time take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not emerging growth companies. Section 107 of the JOBS Act provides that an emerging growth company can take advantage of the extended transition period afforded by the JOBS Act for the implementation of new or revised accounting standards. We have elected to use the extended transition period for complying with new or revised accounting standards and as a result of this election, our financial statements may not be comparable to companies that comply with public company effective dates. We took advantage of these exemptions up untilDecember 31, 2022 (the last day of the fiscal year following the fifth anniversary of our IPO). We would cease to be an emerging growth company if we have more than$1.235 billion in annual revenue, we have more than$700.0 million in market value of our stock held by non-affiliates, or we issue more than$1.0 billion of non-convertible debt securities over a three-year period.
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