Hydrofarm Q3 Results: Major Drop in Net Sales

Hydrofarm Holdings Group, Inc. (Nasdaq: HYFM), announced financial results for its third quarter ended September 30, 2022.

Hydrofarm Q3 2022 Highlights vs. Prior Year Period:

• Their net sales reached USD 74.2M compared to USD 123.8M
• Gross profit reached USD 5.9M compared to USD 30.0M
• They incurred a net loss of USD 23.5M or USD (0.52) per diluted share, compared to a net income of USD 17.3 million, or USD 0.37 per diluted share. Net loss in the third quarter of 2022 included USD 5.5 million in inventory and accounts receivable reserves and related charges due primarily to challenging industry conditions.
• The USD 5.5 million of inventory and accounts receivable reserves and related charges recorded during the third quarter were not treated as an adjustment.
• Generated net cash from operating activities of USD 8.2 million and positive Free Cash Flow of USD 5.6 million.

Reaffirming Full Year 2022 Outlook:

• Net sales of approximately USD 330 million to USD 347 million.
• Adjusted EBITDA⁽¹⁾⁽³⁾ of approximately USD (25) million to USD (16) million, which reflects USD 19 million of inventory and accounts receivable reserves and related charges recorded during the nine months year-to-date.

Bill Toler, Chairman and Chief Executive Officer of Hydrofarm, said, “While our third quarter results were below last year due to the persistent and well-acknowledged industry recession, our underlying performance was generally in-line with our internal expectations. Moreover, our strong cash flow from operating activities exceeded our expectations as we generated positive Free Cash Flow⁽¹⁾ for the second quarter in a row. Together, these results demonstrate our ability to navigate the challenging operating environment while the broader industry finds its way through supply/demand imbalances, and as such, we are reaffirming our full-year 2022 outlook ranges for net sales and Adjusted EBITDA.”

Toler added, “Despite a COVID overhang and uneven state legislative rollouts, we continue to see overall volume increases through dispensaries according to Headset data and we believe we have reasons to remain confident in the long-term health of our business. The combination of our consumable-driven portfolio, as well as a more diverse customer and geographic base of our peat and IGE sales as a result of our 2021 acquisitions, have provided us with a more tempered organic sales decline compared to industry peers. Moreover, our strong balance sheet, disciplined approach to working capital, and cost-saving actions through the year should allow us to take advantage of market share opportunities as the industry rebounds and further consolidates.”

Hydrofarm Q3 2022 Financial Results

Net sales in the third quarter of 2022 decreased to $74.2 million compared to $123.8 million in the third quarter of 2021, driven by a 42.6% decrease in volume of products sold, partially offset by a 2.7% increase in price and mix of products sold, and a 0.2% decline from unfavorable foreign exchange rates. The decrease in product volumes was primarily related to an agricultural oversupply.

Gross profit decreased to $5.9 million, or 7.9% of sales, during the third quarter of 2022 compared to $30.0 million, or 24.2% of sales in the prior year. Adjusted Gross Profit⁽¹⁾⁽²⁾ was $7.8 million or 10.5% of net sales, compared to $33.0 million or 26.6% in the third quarter of 2021. Adjusted gross profit margin⁽¹⁾⁽²⁾ was negatively impacted by the $4.4 million inventory reserves and related charges. We also experienced higher freight and labor costs as a percentage of net sales, partially offset by pricing actions and a higher proportion of proprietary brand sales.

Selling, general and administrative (“SG&A”) expense was $26.2 million in the third quarter of 2022, or 35.3% of net sales, compared to $32.4 million in the third quarter of 2021, or 26.2% of net sales. The decrease in SG&A expense was primarily related to an $8.2 million reduction in acquisition expenses, partially offset by higher depreciation, depletion and amortization expenses of $3.1 million. Adjusted SG&A⁽¹⁾⁽²⁾ decreased to $16.8 million or 22.7% of net sales in the third quarter of 2022, compared to $16.9 million or 13.6% of net sales in the prior year period. The year-over-year change in Adjusted SG&A⁽¹⁾⁽²⁾ primarily relates to a decrease in marketing expenses, partially offset by an increase in insurance expense. Notably, Adjusted SG&A⁽¹⁾⁽²⁾ in the third quarter of 2022 was also negatively impacted by higher than anticipated accounts receivable reserves.

Net loss was $(23.5) million, $(0.52) per diluted share, or (31.7)% of net sales, in the third quarter of 2022, compared to a net income of $17.3 million, or $0.37 per diluted share, or 13.9% of net sales, in the third quarter of 2021. Net loss for the third quarter of 2022 included $5.5 million of inventory and accounts receivable reserves and related charges. Adjusted Net Loss⁽¹⁾⁽²⁾ was $(15.0) million, or $(0.33) per diluted share, in the third quarter of 2022, compared to Adjusted Net Income⁽¹⁾⁽²⁾ of $31.8 million, or $0.69 per diluted share, in the third quarter of 2021.

Adjusted EBITDA⁽¹⁾⁽²⁾ was $(9.0) million, or (12.2)% of net sales, for the third quarter of 2022, compared to $16.1 million, or 13.0% of net sales, in the third quarter of 2021. The decrease in Adjusted EBITDA⁽¹⁾⁽²⁾ was primarily related to lower net sales, lower adjusted gross profit margin, and $5.5 million of inventory and accounts receivable reserves and related charges.

Balance Sheet and Liquidity

As of September 30, 2022, the Company had $16.5 million in cash and an aggregate principal amount of debt outstanding of $126.3 million which consisted of approximately $124.1 million in principal balance on its Term Loan and approximately $2.2 million in finance leases and other debt. The Company maintained a zero balance on its revolving credit facility across the quarter and at quarter end had approximately $62 million of undrawn available borrowing capacity. During the third quarter, the Company paid $15.3 million in contingent consideration payments relating to an earn-out on the 2021 Aurora acquisition, and as a result, the Company has no further contingent payments due for any of its 2021 acquisitions. The Company generated net cash from operating activities of $8.2 million and $15.5 million, respectively, and positive Free Cash Flow⁽¹⁾ of $5.6 million and $8.4 million, respectively, in the three and nine months ended September 30, 2022, largely from cost-saving actions described in prior periods and continued favorable working capital management. The Company was in compliance with all debt covenants as of September 30, 2022.

Full Year 2022 Outlook

The Company is reiterating its full year 2022 outlook:

• Net sales of approximately $330 million to $347 million, which assumes that similar sales levels in recent months continue over the remaining months in the fiscal year, combined with some further reduction due to holiday shortened months in the fourth quarter.
• Adjusted EBITDA⁽¹⁾ of $(25) million to $(16) million, which assumes no further material increase in the $19 million of inventory and accounts receivable reserves and related charges recorded during the nine months year-to-date.

The Company’s 2022 outlook includes the following updated assumptions:

• Capital expenditures of approximately $8 million to $9 million; and
• An estimated tax expense between $0 and $2 million for the full year, excluding the large discrete tax benefit of approximately $12 million recognized in the nine months ended September 30, 2022.

With respect to projected fiscal year 2022 Adjusted EBITDA, a quantitative reconciliation to Net Loss is not available without unreasonable effort due to the variability, complexity and low visibility with respect to certain items, including, but not limited to, impairment, certain potential future acquisition expenses, and the potential tax implications of these estimated expenses, all of which are excluded from Adjusted EBITDA. The Company expects the variability of these items to have a potentially unpredictable, and potentially significant, impact on its future GAAP financial results.

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