Management's discussion and analysis of financial condition and results of
operations ("MD&A") should be read together with the MD&A presented in the
Annual Report on Form 10-K for the year ended March 31, 2022 (the "Annual
Report"), and the unaudited condensed consolidated financial statements and
accompanying notes included in Part I, Item 1 of this Quarterly Report on Form
10-Q (this "Quarterly Report"), which include additional information about our
accounting policies, practices and the transactions underlying our financial
results.
Overview and Business Trends
We are a multi-brand beauty company that offers inclusive, accessible, clean and
cruelty-free cosmetics and skincare products. Our mission is to make the best of
beauty accessible to every eye, lip, face and skin concern.
We believe our ability to offer 100% cruelty-free, clean, top-quality products at affordable prices with broad appeal is our differentiator in the beauty industry. The combination of our value proposition, innovation engine, ability to attract and engage consumers, and the ability of a world-class team to execute with speed will enable us to successfully navigate the rapidly changing landscape of the beauty industry. believe.
Our family of brands includese.l.f. Cosmetics , e.l.f. SKIN, Well People and Keys Soulcare. Our brands are available online and across leading beauty, mass-market, and clean-beauty specialty retailers. We have strong relationships with our retail partners such as Walmart, Target, Ulta Beauty and other leading retailers that have enabled us to expand distribution both domestically and internationally.
Disruption in global supply chains
Since the start of the COVID-19 pandemic there has been disruption to the global supply chain, including manufacturing and transportation delays due to port closures and congestion, labor and container shortages, and shipment delays. As a result, we have experienced higher transportation costs. In response to these higher costs, we increased prices on a portion of our products inMarch 2022 to help mitigate the impact on our business. Further increases in transportation or other costs could have an unfavorable impact on our results. Additionally, delays or further disruption to the global supply chain could cause lost sales due to out of stocks or unfavorably impact our ability to service consumer demand.
seasonality
Our results of operations are subject to seasonal fluctuations, with net sales
in the third and fourth fiscal quarters typically being higher than in the first
and second fiscal quarters. The higher net sales in our third and fourth fiscal
quarters are largely attributable to the increased levels of purchasing by
retailers for the holiday season and customer shelf reset activities,
respectively. Lower inventory builds from our retailers in preparation for the
holiday season or shifts in customer shelf reset activity could have a
disproportionate effect on our results of operations for the entire fiscal year.
To support anticipated higher sales during the third and fourth fiscal quarters,
we make investments in working capital to ensure inventory levels can support
demand. Fluctuations throughout the year are also driven by the timing of
product restocking or rearrangement by our major retail customers as well as
expansion into new retail customers. Because a limited number of our retail
customers account for a large percentage of our net sales, a change in the order
pattern of one or more of our large retail customers could cause a significant
fluctuation of our quarterly results or impact our liquidity.
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Investment performance
The following table presents our Consolidated Income Statement data in dollars and as a percentage of net sales for the periods presented.
Three months ended December 31, Nine months ended December 31,
(in thousands) 2022 2021 2022 2021
Net sales $ 146,537 $ 98,118 $ 391,487 $ 287,020
Cost of sales 47,812 33,777 130,217 102,788
Gross profit 98,725 64,341 261,270 184,232
Selling, general and administrative expenses 75,434 55,384 201,172 156,580
Restructuring (income) expense - (14) - 68
Operating income 23,291 8,971 60,098 27,584
Other income and expenses, net 730 (146) (2,195) (954)
Interest expense, net (463) (570) (1,912) (1,912)
Loss on extinguishment of debt (176) - (176) (460)
Income before provision for income taxes 23,382 8,255 55,815 24,258
Income tax provision (4,277) (2,041) (10,531) (4,044)
Net income $ 19,105 $ 6,214 $ 45,284 $ 20,214
Comprehensive income $ 19,105 $ 6,214 $ 45,284 $ 20,214
Three months ended December 31, Nine months ended December 31,
(percentage of net sales) 2022 2021 2022 2021
Net sales 100 % 100 % 100 % 100 %
Cost of sales 33 % 34 % 33 % 36 %
Gross margin 67 % 66 % 67 % 64 %
Selling, general and administrative expenses 51 % 56 % 51 % 55 %
Restructuring (income) expense - % - % - % - %
Operating income 16 % 9 % 15 % 10 %
Other income and expenses, net - % - % (1) % - %
Interest expense, net - % (1) % - % (1) %
Loss on extinguishment of debt - % - % - % - %
Income before provision for income taxes 16 % 8 % 14 % 8 %
Income tax provision (3) % (2) % (3) % (1) %
Net income 13 % 6 % 12 % 7 %
Comprehensive income 13 % 6 % 12 % 7 %
Ended 3-month comparison
Net sales Net sales increased$48.4 million , or 49%, to$146.5 million for the three months endedDecember 31, 2022 , from$98.1 million for the three months endedDecember 31, 2021 . The increase was driven by strength across both our retailer and e-commerce channels. Net sales increased$42.3 million , or 49%, in our retailer channels and$6.1 million , or 54%, in our e-commerce channels. From a price and volume perspective, a higher volume of units sold drove$26.9 million of the increase in net sales and a higher average item price within retailer and e-commerce orders drove the remaining$21.5 million increase in net sales as compared to the three months endedDecember 31, 2021 . 21 --------------------------------------------------------------------------------
gross profit
Gross profit increased$34.4 million , or 53%, to$98.7 million for the three months endedDecember 31, 2022 , compared to$64.3 million for the three months endedDecember 31, 2021 . Higher average item price and mix accounted for approximately$16.7 million of the increase to gross profit, with the remaining$17.7 million driven by volume. Gross margin increased to 67% from 66% when compared to the three months endedDecember 31, 2021 . The increase in gross margin rate was primarily driven by price increases, cost savings and product mix, partially offset by inventory adjustments and costs related to space gains and Spring shelf resets in the three months endedDecember 31, 2022 .
Selling, general and administrative expenses
Selling, general and administrative expenses ("SG&A") were $75.4 million for the
three months ended December 31, 2022 , an increase of $20.1 million , or 36%, from
$55.4 million for the three months ended December 31, 2021 . SG&A expenses as a
percentage of net sales decreased to 51% for the three months ended December 31,
2022 from 56% for the three months ended December 31, 2021 . The $20.1 million
increase was primarily related to an increase in marketing and digital spend of
$10.5 million , increased compensation and benefits of $5.3 million , increased
operations costs of $2.6 million , and increased retail fixturing and visual
merchandising costs of $2.2 million .
Other income and expenses, net
Other income and expenses, net totaled$0.7 million of income for the three months endedDecember 31, 2022 , as compared to other expenses of$0.1 million for the three months endedDecember 31, 2021 . The year-over-year variance was primarily related to foreign exchange rate movements, impacting receivables, driving an unrealized gain in the quarter.
Interest expense, net
Interest expense, net decreased$0.1 million , or 19%, to$0.5 million for the three months endedDecember 31, 2022 , as compared to$0.6 million for the three months endedDecember 31, 2021 . This decrease was mainly due to increased interest earned on our cash balances and a lower average loan balance, more than offsetting higher interest rates.
Income tax provision
The provision for income taxes was$4.3 million , or an effective rate of 18.3%, for the three months endedDecember 31, 2022 , as compared to a provision of$2.0 million , or an effective rate of 24.6%, for the three months endedDecember 31, 2021 . The change in the provision for income taxes was primarily driven by an increase in income before taxes of$15.1 million , partially offset by an increase in discrete tax benefit of$2.4 million , primarily related to stock-based compensation.
Comparison of the closed 9 months
Net sales Net sales increased$104.5 million , or 36%, to$391.5 million for the nine months endedDecember 31, 2022 , compared to$287.0 million for the nine months endedDecember 31, 2021 . The increase was driven primarily by strength in both our retailer and e-commerce channels. Net sales increased$90.5 million , or 35%, in our retailer channels and increased$14.0 million , or 47%, in our e-commerce channels. From a price and volume perspective, a higher volume of units sold drove$43.8 million of the increase in net sales and a higher average item price within retailer and e-commerce orders drove the remaining$60.6 million in net sales as compared to the nine months endedDecember 31, 2021 .
gross profit
Gross profit increased$77.0 million , or 42%, to$261.3 million for the nine months endedDecember 31, 2022 , compared to$184.2 million for the nine months endedDecember 31, 2021 . Higher average item price and mix accounted for approximately$48.9 million of the increase to gross profit, with the remaining$28.1 million driven by volume. Gross margin increased to 67% from 64% when compared to the nine months endedDecember 31, 2021 . The increase in gross margin rate in the nine months endedDecember 31, 2022 was primarily driven by price increases, cost savings and product mix, partially offset by inventory adjustments and higher transportation costs. 22 --------------------------------------------------------------------------------
Selling, general and administrative expenses
SG&A expenses were$201.2 million for the nine months endedDecember 31, 2022 , an increase of$44.6 million , or 28%, from$156.6 million for the nine months endedDecember 31, 2021 . SG&A expenses as a percentage of net sales decreased to 51% for the nine months endedDecember 31, 2022 from 55% for the nine months endedDecember 31, 2021 . The$44.6 million increase was primarily related to an increase in marketing and digital spend of$18.4 million , increased compensation and benefits of$17.0 million , increased operations costs of$4.7 million , and increased retail fixturing and visual merchandising costs of$2.6 million .
Other income and expenses, net
Other expense, net totaled$2.2 million for the nine months endedDecember 31, 2022 , as compared to other expense of$1.0 million for the nine months endedDecember 31, 2021 . The year-over-year variance was primarily related to unfavorable foreign exchange rate movements, impacting cash and receivables, driving an unrealized loss in the period.
Interest expense, net
Interest expense, net was$1.9 million for the nine months endedDecember 31, 2022 , as compared to$1.9 million for the nine months endedDecember 31, 2021 . The impact was flat to the last year mainly due to increased interest earned on our cash balances and a lower average loan balance, offsetting higher interest rates. Income tax provision The provision for income taxes was$10.5 million , or an effective rate of 18.9% for the nine months endedDecember 31, 2022 , as compared to a provision of$4.0 million , or an effective rate of 16.7% for the nine months endedDecember 31, 2021 . The change in the provision for income taxes was primarily driven by an increase in income before taxes of$31.6 million , partially offset by an increase in discrete tax benefit of$3.2 million , primarily related to stock-based compensation.
Financial position, liquidity and capital resources
overview
As ofDecember 31, 2022 , we had$87.0 million of cash and cash equivalents. In addition, as ofDecember 31, 2022 , we had borrowing capacity of$100.0 million under our Amended Revolving Credit Facility. Our primary cash needs are for working capital, fixturing, retail product displays and digital investment. Cash needs typically vary depending on strategic initiatives selected for the fiscal year, including investments in infrastructure, digital capabilities and expansion within or to additional retailer store locations. We expect to fund ongoing cash needs from existing cash and cash equivalents, cash generated from operations and, if necessary, draws on our Amended Revolving Credit Facility. Our primary working capital requirements are for product and product-related costs, compensation and benefits, distribution costs, advertising and marketing. Fluctuations in working capital are primarily driven by the timing of when a retailer rearranges or restocks its products, expansion of space within our existing retailer base and the general seasonality of our business. As ofDecember 31, 2022 , we had working capital, excluding cash, of$88.3 million , compared to$84.7 million as ofMarch 31, 2022 . Working capital, excluding cash and debt, was$94.0 million and$90.4 million as ofDecember 31, 2022 andMarch 31, 2022 , respectively. 23 -------------------------------------------------------------------------------- We believe that our operating cash flow, existing cash and cash equivalents and available financing under the Amended Revolving Credit Facility will be adequate to meet our planned operating, investing and financing needs for the next twelve months. If necessary, we can borrow funds under our Amended Revolving Credit Facility to finance our liquidity requirements, subject to customary borrowing conditions. To the extent additional funds are necessary to meet our long-term liquidity needs as we continue to execute our business strategy, we anticipate that they will be obtained through the incurrence of additional indebtedness, additional equity financings or a combination of these potential sources of funds; however, such financing may not be available on favorable terms, or at all. Our ability to meet our operating, investing and financing needs depends to a significant extent on our future financial performance, which will be subject in part to general economic, competitive, financial, regulatory and other factors that are beyond our control, including those described elsewhere in Part II, Item 1A "Risk factors." In addition to these general economic and industry factors, the principal factors in determining whether our cash flows will be sufficient to meet our liquidity requirements will be based on our ability to provide innovative products to our customers, manage production and our supply chain. Cash flows Nine months ended December 31, (in thousands) 2022 2021 Net cash provided by (used in): Operating activities$ 69,001 $ 7,826 Investing activities (1,647) (4,596) Financing activities (23,686) (28,109) Net increase (decrease) in cash:$ 43,668 $
(24,879)
Cash flow from operating activities
For the nine months endedDecember 31, 2022 , net cash provided by operating activities was$69.0 million . This included net income as adjusted for depreciation, amortization and other non-cash items of$82.2 million and an increase in operating assets and liabilities as shown on the statement of cash flows of$13.2 million . The increase in operating assets and liabilities was primarily driven by a$15.2 million increase of prepaid expense and other assets, a$20.6 million increase in accounts receivable and a$3.3 million decrease related to other liabilities. This was partially offset by a$22.6 million increase in accounts payable and accrued expenses and a$3.2 million decrease in inventory.
9 months ended
Cash used in investment activities
For the nine months endedDecember 31, 2022 , net cash used in investing activities was$1.6 million . The change was primarily driven by a decrease in capital expenditures related to machinery, equipment and software during the nine months endedDecember 31, 2022 , as compared to net cash used in investing activities of$4.6 million during the nine months endedDecember 31, 2021 .
Cash used in financing activities
9 months ended
9 months ended
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Debt description
modified credit agreement
upon
The Amended Credit Agreement has a five year term and consists of (i) a$100 million revolving credit facility (the "Amended Revolving Credit Facility") and (ii) a$100 million term loan facility (the "Amended Term Loan Facility"). All amounts under the Amended Revolving Credit Facility are available for draw until the maturity date onApril 30, 2026 . The Amended Revolving Credit Facility is collateralized by substantially all of our assets and requires payment of an unused fee ranging from 0.10% to 0.30% (based on our consolidated total net leverage ratio (as defined in the Amended Credit Agreement)) times the average daily amount of unutilized commitments under the Amended Revolving Credit Facility. The Amended Revolving Credit Facility also provides for sub-facilities in the form of a$7 million letter of credit and a$5 million swing line loan; however, all amounts under the Amended Revolving Credit Facility cannot exceed$100 million . The unused balance of the Amended Revolving Credit Facility as ofDecember 31, 2022 was$100.0 million . Both the Amended Revolving Credit Facility and the Amended Term Loan Facility bear interest, at borrowers' option, at either (i) a rate per annum equal to an adjusted LIBOR rate determined by reference to the cost of funds forthe United States dollar deposits for the applicable interest period (subject to a minimum floor of 0%) plus an applicable margin ranging from 1.25% to 2.125% based on our consolidated total net leverage ratio or (ii) a floating base rate plus an applicable margin ranging from 0.25% to 1.125% based on our consolidated total net leverage ratio. The interest rate as ofDecember 31, 2022 for the Amended Term Loan Facility was approximately 6.0%. The Amended Credit Agreement contains a number of covenants that, among other things, restrict our ability to (subject to certain exceptions) pay dividends and distributions or repurchase our capital stock, incur additional indebtedness, create liens on assets, engage in mergers or consolidations and sell or otherwise dispose of assets. The Amended Credit Agreement also includes reporting, financial and maintenance covenants that require us to, among other things, comply with certain consolidated total net leverage ratios and consolidated fixed charge coverage ratios. As ofDecember 31, 2022 , we were in compliance with all financial covenants under the Amended Credit Agreement.
Contractual Obligations and Commitments
There have been no material changes to our contractual obligations and commitments contained in our annual report.
Off-balance sheet arrangements
We are not party to any off-balance sheet arrangements.
Critical Accounting Policies and Estimates
The MD&A is based upon our condensed consolidated financial statements, which have been prepared in accordance withU.S. generally accepted accounting principles. The preparation of these condensed consolidated financial statements required the use of estimates and judgments that affect the reported amounts of our assets, liabilities, revenues and expenses. Management bases estimates on historical experience and other assumptions it believes to be reasonable under the circumstances and evaluates these estimates on an on-going basis. Actual results may differ from these estimates. There have been no significant changes to the critical accounting policies and estimates included in the Annual Report.
Recent financial reports
Our most recent financial statements are disclosed in Note 2 to our Condensed Consolidated Financial Statements.
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