Second Cup Reports Second Quarter Results and Details of Strategic Initiatives for Growth

MISSISSAUGA, ON, Aug. 2, 2019 /CNW/ - The Second Cup Ltd. ("Second Cup" or the "Company") (TSX: SCU) today reported financial results for the second quarter ended June 29, 2019.

Highlights

• Adjusted EBITDA was $617,000 in the quarter compared with $559,000 last year.
• Adjusted Net Loss was $134,000 or $0.01 per share compared with Adjusted Net Income of $186,000 or $0.01 per share in the prior year.
• Same store sales were flat (0%) compared with -0.9% in Q1 2019.
• Steven Pelton was appointed President & CEO who has prioritized three key strategies to build shareholder value:
• Strategic Acquisitions
• Retail Cannabis Opportunities
• Growth of Second Cup Through Non-Traditional channels

Second Quarter 2019

EBITDA, after adjusting for non-recurring items, was $617,000 in the quarter compared with $559,000 last year.  Net Loss was $134,000 or $0.01 per share after adjusting for non-recurring items and the non-cash loss due to a reduction in value of the National Access Cannabis (NAC) warrants offset by the amortized income related to the NAC alliance. 

Efforts to protect Second Cup brand standards resulted in more corporate cafés than originally planned, negatively impacting the quarter.  The Company is focused on delivering an elevated experience across the network and franchising corporate locations to strong operators who can best deliver on the desired brand experience.  Steven Pelton, who assumed the role of President & CEO of Second Cup in June, said, "The insights I have gained over the past two months have confirmed my belief in the growth potential of our business.  My focus is to build shareholder value through three key strategies that are already underway – strategic acquisitions, further pursuit of retail cannabis opportunities and accelerating Second Cup's brand growth primarily through development in non-traditional channels."

The Company has previously disclosed that it is pursuing strategic initiatives to enhance shareholder value.  With a healthy balance sheet and capital to invest, Second Cup is actively engaged in potential acquisitions of coffee and food brands that are strategically and culturally aligned with the Second Cup business.

Second Cup has taken a more active role in the process of procuring the license to operate cannabis retail stores in two of its locations in Calgary.  Concurrently, the Company will more aggressively pursue new retail cannabis opportunities in future rounds of licensing in the Ontario region where the brand has its largest footprint. 

Expanding the network is key to Second Cup's growth and non-traditional locations have historically been some of the strongest performers including education, healthcare, and transportation centres.  Second Cup's position as the largest Canadian-owned, national specialty coffee brand makes it particularly attractive to these institutions.  Market tests in new non-traditional venues are underway and greater focus will be placed on expanding this channel.

Effective August 1, 2019, Melinda Lee will be assisting management with strategic acquisitions under a consulting arrangement and as a result is stepping down as Audit Committee Chairman and committee member.  Also effective August 1, 2019, Paul W. Phelan has resigned from the Board of Directors.  Simultaneously, Stephen Kelley has succeeded Mr. Phelan as a member of the Board and has assumed the role of Chairman of the Audit Committee.

About Second Cup Coffee Co.™
Founded in 1975, The Second Cup Ltd. is a Canadian specialty coffee retailer operating franchised and company-owned cafes across Canada. For more information, please visit www.secondcup.com or find the Company on Facebook and Twitter.

FINANCIAL HIGHLIGHTS

The following table sets out selected IFRS and certain non-GAAP financial measures of the Company and should be read in conjunction with the Unaudited Condensed Interim Financial Statements of the Company for the 13 weeks and 26 weeks ended June 30, 2019 and June 29, 2018.

ADOPTION OF NEW ACCOUNTING PRONOUNCEMENTS

In January 2016, the International Accounting Standards Board ("IASB") issued IFRS 16 Leases ("IFRS 16").  IFRS 16 sets out the principles for the recognition, measurement, presentation and disclosure of leases for both parties to a contract, the customer ("lessee") and the supplier ("lessor"). This replaces IAS 17, Leases, and related interpretations.  IFRS 16 provides revised guidance on identifying a lease and for separating lease and non-lease components of a contract.  IFRS 16 introduces a single accounting model for all leases and requires a lessee to recognize (i) right-of-use assets and lease liabilities for leases with terms of more than 12 months, unless the underlying asset is of low value; and (ii) depreciation of lease assets separately from interest on lease liabilities on the consolidated statements of operations and comprehensive income (loss).

Under IFRS 16, lessor accounting for operating and finance leases will remain substantially unchanged. IFRS 16 is effective for annual periods beginning on or after January 1, 2019, with earlier application permitted for entities that apply IFRS 15. The guidance allows for either a full retrospective or modified retrospective transition method. The Company has selected to apply the modified retrospective transition method. Further, the Company has selected to apply the practical expedients to (i) grandfather the assessment of which transactions are leases; (ii) recognition exemption of short-term leases; and (iii) recognition exemption leases of low-value items.

From December 30, 2018, leases are recognized as a right-of-use asset and a corresponding liability at the date at which the leased asset is available for use by the Company. Each lease payment is allocated between the liability and finance cost. The finance cost is charged to profit or loss over the lease period so as to produce a constant periodic rate of interest on the remaining balance of the liability for each period. The right-of-use asset is depreciated over the shorter of the asset's useful life and the lease term on a straight-line basis. Assets and liabilities arising from a lease are initially measured on a present value basis.

The financial statements reflect the application of IFRS 16 beginning in 2019, while the financial statements for prior periods were prepared under the guidance of the previous standard.

Second Quarter

System sales of cafés
System sales of cafés for the 13 weeks ended June 29, 2019 were $34,377 compared to $36,213 for the 13 weeks ended June 30, 2018 representing a decrease of $1,836 or -5.1%.  The decrease in system wide sales is primarily due to the reduction in café count.

Same café sales
During the Quarter, there was no change to same café sales, compared to a decline of 1.0% in the same Quarter of 2018.  The average ticket increased by 4.4%, offsetting a similar decline in the number of transactions.

Analysis of revenue
Total revenue for the Quarter was $6,507 (2018 - $6,353), an increase of $154, consisting of Company-owned café and product sales, royalty revenue, advertising fund contributions, fees and other revenue.

Company-owned cafés and product sales for the Quarter were $2,746 (2018 - $1,967), an increase of $779.  The increase in revenue is primarily due to the increased Company-owned café count from 20 last year to 28 this Quarter.

Franchise revenue was $3,761 for the Quarter (2018 - $4,386), a decrease of $624.  The decrease in franchise revenue in the Quarter is primarily due to lower franchise café count – 224 this Quarter compared with 255 last year.

Operating costs and expenses
Operating costs and expenses include the costs of Company-owned cafés and product sales, franchise-related expenses, general and administrative expenses, loss on disposal of assets, and depreciation and amortization.

Total operating costs and expenses for the Quarter were $7,145 (2018 - $6,140), an increase of $1,005.

Company-owned cafés and product related expenses for the Quarter were $2,601 (2018 - $2,075), an increase of $526. The increase in costs is due to the increase in store count of Company-owned cafés, offset by a decrease in rent expense as a result of a change in accounting for leases IFRS 16. 

Franchise related expenses for the Quarter were $1,879 in the Quarter (2018 - $2,384), a decrease of $505.  The decrease in franchise related expenses in the Quarter is mainly due to a reduction in remuneration, lower advertising fund expenses and lower bad debts.

General and administrative expenses were $1,790 for the Quarter (2018 - $1,354), an increase of $436, mainly due to management transition costs and professional fees offset by a decrease in rent expense as a result of a change in accounting for leases IFRS 16.

A loss on disposal of assets of $20 was recognized in the Quarter (2018 – loss of $3). Gain and loss on disposal of assets are related to the franchising of company-owned cafes to franchise partners.

Depreciation and amortization expense was $855 (2018 - $324), an increase of $531.  Total amortization of right-of-use assets was $547 in the Quarter under IFRS 16.  Prior to the adoption, payments made under real estate leases for base rent were charged to rent expense.

EBITDA
EBITDA for the Quarter was $218 (2018 - $537), a decrease of $319, mainly as a result of higher loss attributed to Company-owned cafés and management transition costs, offset by a change in the accounting for operating leases in accordance with IFRS 16.  Adjusted for management transition costs and other, EBITDA was $617 (2018 - $559).

Other income and expenses
Other expenses for the Quarter was $259, composed of a decrease in the fair value of NAC warrants of $695 offset by recognized income from the NAC strategic alliance of $436.

In entering into the strategic alliance with NAC, the Company received five million warrants that will expire after five years from the date of issuance.  The Black-Scholes fair value of the warrants received ($2,655) was recorded in deferred income and is being recognized as other income over the life of the agreement which is 18 months.

As of June 29, 2019, the fair value of the warrants was $0.403 versus $0.542 at the end of the prior quarter, resulting in a decrease of $695 to the fair value of the NAC warrants.  The fair value of the NAC warrants will fluctuate in accordance with the trading price of the NAC common shares.

Interest and financing income
Net interest and financing income for the Quarter was $57 compared to interest and financing income of $36 in the same Quarter of 2018.  Interest income from investments was $71 for the Quarter and the Company also recognized interest expense for real estate leases of $14.  The Company became debt-free in the third quarter of 2017.

Net income/loss
The Company's net loss for the Quarter was $616 or $0.03 per share, compared to a net income of $577 or $0.03 per share in 2018.  Adjusted net loss was $134 or $0.01 per share, compared to a net income of $186 or $0.01 per share in 2018.

Year to date

System sales of cafés
System sales of cafés for the 26 weeks ended June 29, 2019 were $68,689 (June 30, 2018 - $72,133), a decrease of $3,444 or 4.8%.  The decrease is primarily due to the reduction in café count.

Same café sales
Year to date same café sales declined by 0.4% compared to a decline of 1.5% in 2018.  The decline this Year is primarily due to reduced transactions.

Analysis of revenue
Year to date total revenue was $12,781 (June 30, 2018 - $11,929), an increase of $852, consisting of Company-owned café and product sales, royalty revenue, Co-op Fund contributions, franchise fees and other revenue. 

Year to date Company-owned cafés and product sales were $5,208 (June 30, 2018 - $3,258), an increase of $1,950. The increase is primarily due to a higher number of Company-owned café this Year compared to 2018.

Year to date franchise revenue was $7,573 (June 30, 2018 - $8,671), a decrease of $1,098.  The decrease in franchise revenue is primarily due to lower franchise café count.

Operating costs and expenses

Operating costs and expenses include the costs of Company-owned cafés and product sales, franchise-related expenses, general and administrative expenses, loss on disposal of assets, and depreciation and amortization.  Year to date total operating costs and expenses were $13,908 (June 30, 2018 - $11,891), an increase of $2,071.

Year to date Company-owned cafés and product related expenses were $5,105 (June 30, 2018 - $3,561), an increase of $1,544. The increase was related to increase in corporate-owned cafes during the period compared to the prior year, offset by a decrease in rent expense as a result of a change in accounting for leases IFRS 16.

Year to date franchise related expenses were $3,930 (June 30, 2018 - $4,853), a decrease of $923. The decrease in franchise related expenses is mainly due to a reduction in remuneration, lower advertising fund expenses and lower bad debts.

Year to date general and administrative expenses were $3,158 (June 28, 2018 - $2,801), an increase of $357.  This increase in expenses is primarily due to management transition costs.

Year to date loss on disposal of assets of $21 was recognized (June 30, 2018 - $3 loss).  Gain and loss on disposal of assets are primarily related to the franchising of Company-owned cafés to franchise partners.

Depreciation and amortization expense was $1,694 (June 30, 2018 - $673), an increase of $1,021. Total amortization of right-of-use assets was $1,093 in the year to date period under IFRS 16.  Prior to the adoption, payments made under real estate leases for base rent were charged to rent expense.

EBITDA
Year to date EBITDA was $567 (June 30, 2018 - $711), a decrease of $144.  The decrease is primarily a result of higher Company-owned café operating loss and management transition costs, offset by a change in the accounting for operating leases in accordance with IFRS 16 and lower bad debts.  Adjusted for management transition costs and other, EBITDA was $966 (2018 - $753).

Other income and expenses
Year to date other income was $1,167 (June 30, 2018 - $533), composed of an increase in the fair value of NAC warrants of $295 and recognized income from the NAC strategic alliance of $872.

As of June 29, 2019, the fair value of the warrants was $0.403 each versus $0.344 at the end of 2018, resulting in an increase in the fair value of the NAC warrants of $295 for the Year.  The change in fair value of the NAC warrants will fluctuate in accordance with the trading price of the NAC common shares.

Interest and financing costs
Interest income for the year to date period was $141 compared to $41 in the same period in 2018.  Interest income from investments was $159 (2018 - $41) and interest expense related to leases was $18 (2018 – nil).  The Company became debt free in the third quarter of 2017.

Net income/loss
The Company's net income to date was $133 or $0.01 per share, compared to $439 or $0.02 per share in 2018.  Adjusted net loss was $430 or $0.02 per share, compared to a net income of $48 or $nil per share in 2018.

DEFINITIONS AND DISCUSSION ON CERTAIN NON-GAAP FINANCIAL MEASURES

In this MD&A, the Company reports certain non-GAAP financial measures such as system sales of cafés, same café sales, operating income (loss), EBITDA, adjusted EBITDA, adjusted net income (loss) and adjusted net income (loss) per share.  Non-GAAP measures are not defined under IFRS and are not necessarily comparable to similarly titled measures reported by other issuers.

System sales of cafés
System sales of cafés comprise the net revenue reported to Second Cup by franchisees of Second Cup cafés and by Company-owned cafés. This measure is useful in assessing the operating performance of the entire Company network, such as capturing the net change of the overall café network.

Changes in system sales of cafés result from the number of cafés and same café sales (as described below).  The primary factors influencing the number of cafés within the network include the availability of quality locations and the availability of qualified franchisees.

Same café sales
Same café sales represent the percentage change, on average, in sales at cafés operating system-wide that have been open for more than 12 months.  It is one of the key metrics the Company uses to assess its performance as an indicator of appeal to customers.  Two principal factors that affect same café sales are changes in customer count and changes in average transaction size.

Operating income (loss)
Operating income (loss) represents revenue, less cost of goods sold, less operating expenses, and less impairment charges. This measure is not defined under IFRS, although the measure is derived from input figures in accordance with IFRS.  Management views this as an indicator of financial performance that excludes costs pertaining to interest and financing, and income taxes.

EBITDA and adjusted EBITDA
EBITDA represents earnings before interest and financing, income taxes, and depreciation and amortization.  Adjustments to EBITDA are for items that are not necessarily reflective of the Company's underlying operating performance.  As there is no generally accepted method of calculating EBITDA, this measure is not necessarily comparable to similarly titled measures reported by other issuers. EBITDA is presented as management believes it is a useful indicator of the Company's ability to meet debt service and capital expenditure requirements, and evaluate liquidity.  Management interprets trends in EBITDA as an indicator of relative financial performance.  EBITDA should not be considered by an investor as an alternative to net income or cash flows as determined in accordance with IFRS.

Adjusted net income (loss) and adjusted net income (loss) per share
Adjustments to net earnings (loss) and net earnings (loss) per share are for items that are not necessarily reflective of the Company's underlying operating performance. These measures are not defined under IFRS, although the measures are derived from input figures in accordance with IFRS.  Management views these as indicators of financial performance.

Reconciliations of net income (loss) to operating income (loss) and EBITDA, adjusted net income (loss) and adjusted net income (loss) per share are provided below:

Forward-looking information

This news release may contain forward-looking statements (within the meaning of applicable securities laws) relating to the business of the Company and the environment in which it operates. Forward-looking statements are identified by words such as "believe", "anticipate", "expect," "intend", "plan", "will", "may" and other similar expressions. These statements are based on the Company's expectations, estimates, forecasts and projections. The forward-looking statements in this news release are based on certain assumptions, including that the Company will be able to execute its plan, including store growth in traditional and non-traditional channels. They are not guarantees of future performance and involve risks and uncertainties that are difficult to control or predict. A number of factors could cause actual results to differ materially from the results discussed in the forward-looking statements, including, but not limited to, the factors discussed under the heading "Risk Factors" in the Company's annual information form available at www.sedar.com. There can be no assurance that forward-looking statements will prove to be accurate as actual outcomes and results may differ materially from those expressed in these forward-looking statements. Readers, therefore, should not place undue reliance on any such forward-looking statements. Further, a forward-looking statement speaks only as of the date on which such statement is made. The Company undertakes no obligation to publicly update any such statement or to reflect new information or the occurrence of future events or circumstances.

SOURCE The Second Cup Ltd.

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