ITEM 1A. RISK FACTORS
Our business, operations and financial condition are subject to various risks and uncertainties. The following discussion of risk factors should be read in conjunction with the Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) section and the consolidated financial statements and related notes. In addition to the factors affecting our specific operating segments identified in connection with the descriptions of these segments and the financial results of the operations of these operating segments elsewhere in this report, the most significant factors affecting our operations include the following:
Risks Related to Our Business and Structure
The global outbreak of the novel coronavirus, or COVID-19, caused severe disruptions in the U.S. and global economies and has impacted, and may continue to adversely impact our performance and results of operations.
In 2020, the global outbreak of COVID-19 spread to every country and every state in the United States. The World Health Organization designated COVID-19 as a pandemic, and numerous countries, including the United States, declared national emergencies with respect to COVID-19. While vaccines have been approved and are slowly being deployed, the global impact of the outbreak continues to adversely impact many industries and different geographies continue to be impacted by the effects of public health restrictions in various ways. The International Monetary Fund estimates that the global economy may not return to pre-pandemic levels until the end of 2021 or early 2022 depending on the roll-out and effectiveness of the vaccine.
The Company’s operations and business has been negatively affected and could be materially and adversely affected by the COVID-19 pandemic and related weak, or weakening of, economic or other conditions. The significance of the impact on the Company’s operations is not yet certain and depends on numerous evolving factors that the Company may not be able to accurately predict or effectively respond to.
Some of our niche industrial businesses have been materially impacted by the effects of COVID-19 and the pandemic has resulted, and may continue to result in, material reductions in value in certain instances. If the disruptions caused by the pandemic continue, the businesses of these portfolio companies could suffer materially, which would decrease the value of the subsidiary business and potentially harm our reputation. In addition, travel restrictions, the closure of non-essential businesses or shelter-in-place/stay-at-home orders may make it more difficult and costly for our investment teams to conduct due diligence and consummate acquisitions. Relatedly, costly litigation could increase in connection with merger and acquisition transactions, as parties to such transactions explore ways to avoid transactions by the assertion of claims of force majeure, material adverse change in the condition of target investments, and/or fraudulent misrepresentation. COVID-19 also continues to present a significant threat to our employees’ well-being and morale. Our key employees or executive officers may become sick or otherwise unable to perform their duties for an extended period of time and we may experience a potential loss of productivity, and extended period of remote working by our employees may introduce operational risks, including technology availability and heightened cybersecurity risk.
These and other factors relating to or arising from the outbreak could have a material adverse effect on the Company’s business, results of operations, and cash flows.Even after COVID-19 has subsided, we may continue to experience materially adverse impacts to our business as a result of the virus's global economic impact and any economic impact that has occurred or may occur in the future.
In addition to the foregoing, COVID-19 has exacerbated and may continue to exacerbate, many of the other risks described in this Annual Report on Form 10-K.
Our future success is dependent on the employees of our Manager and the management teams of our businesses, the loss of any of whom could materially adversely affect our financial condition, business and results of operations.
Our future success depends, to a significant extent, on the continued services of the employees of our Manager, most of whom have worked together for a number of years. Our Manager does not have an employment agreement with our Chief Executive Officer and, in any event, employment agreements may not prevent our Manager’s employees from leaving or from competing with us in the future.
The future success of our businesses also depends on their respective management teams because we operate our businesses on a stand-alone basis, primarily relying on existing management teams for management of their day-to-day operations. Consequently, their operational success, as well as the success of our internal growth
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strategy, will be dependent on the continued efforts of the management teams of the businesses. The loss of services of one or more members of our management team or the management team at one of our businesses could materially adversely affect our financial condition, business and results of operations.
We face risks with respect to the evaluation and management of future platform or add-on acquisitions.
A component of our strategy is to continue to acquire additional platform subsidiaries, as well as add-on businesses for our existing businesses. Generally, because such acquisition targets are held privately, we may experience difficulty in evaluating potential target businesses as the information concerning these businesses is not publicly available. In addition, we and our subsidiary companies may have difficulty effectively managing or integrating acquisitions. We may experience greater than expected costs or difficulties relating to such acquisition, in which case, we might not achieve the anticipated returns from any particular acquisition, which may have a material adverse effect on our financial condition, business and results of operations.
We may not be able to successfully fund future acquisitions of new businesses due to the lack of availability of debt or equity financing at the Company level on acceptable terms, which could impede the implementation of our acquisition strategy and materially adversely impact our financial condition, business and results of operations.
In order to make future acquisitions, we intend to raise capital primarily through debt financing at the Company level, additional equity offerings, the sale of stock or assets of our businesses, and by offering equity in the Trust or our businesses to the sellers of target businesses or by undertaking a combination of any of the above. Since the timing and size of acquisitions cannot be readily predicted, we may need to be able to obtain funding on short notice to benefit fully from attractive acquisition opportunities. Such funding may not be available on acceptable terms. In addition, the level of our indebtedness may impact our ability to borrow at the Company level. Another source of capital for us may be the sale of additional shares, subject to market conditions and investor demand for the shares at prices that we consider to be in the interests of our shareholders. These risks may materially adversely affect our ability to pursue our acquisition strategy successfully and materially adversely affect our financial condition, business and results of operations.
The Company’s board of directors has full authority and discretion over the distributions of the Company, other than the profit allocation, and it may decide to reduce or eliminate distributions at any time, which may materially adversely affect the market price for our shares.
The Company’s board of directors has full authority and discretion to determine whether or not a distribution by the Company should be declared and paid to the Trust and in turn to our shareholders, as well as the amount and timing of any distribution. In addition, the management fee and profit allocation will be payment obligations of the Company and, as a result, will be paid, along with other Company obligations, prior to the payment of distributions to our shareholders. The Company’s board of directors may, based on their review of our financial condition and results of operations and pending acquisitions or our future tax structure, determine to reduce or eliminate distributions, which may have a material adverse effect on the market price of our shares.
We rely entirely on receipts from our businesses to make distributions to our shareholders.
The Trust’s sole asset is its interest in the Company, which holds controlling interests in our businesses. Therefore, we are dependent upon the ability of our businesses to generate earnings and cash flow and distribute them to us in the form of interest and principal payments on indebtedness and, from time to time, dividends on equity to enable us, first, to satisfy our financial obligations and second to make distributions to our shareholders. This ability may be subject to limitations under laws of the jurisdictions in which they are incorporated or organized. If, as a consequence of these various restrictions, we are unable to generate sufficient receipts from our businesses, we may not be able to declare, or may have to delay or cancel payment of, distributions to our shareholders.
We do not own 100% of our businesses. While we receive cash payments from our businesses which are in the form of interest payments, debt repayment and dividends, if any dividends were to be paid by our businesses, they would be shared pro rata with the minority shareholders of our businesses and the amounts of dividends made to minority shareholders would not be available to us for any purpose, including Company debt service or distributions to our shareholders. Any proceeds from the sale of a business will be allocated among us and the non-controlling shareholders of the business that is sold.
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The Company’s board of directors has the power to change the terms of our shares in its sole discretion in ways with which you may disagree.
As an owner of our shares, you may disagree with changes made to the terms of our shares, and you may disagree with the Company’s board of directors’ decision that the changes made to the terms of the shares are not materially adverse to you as a shareholder or that they do not alter the characterization of the Trust. Your recourse, if you disagree, will be limited because our Trust Agreement gives broad authority and discretion to our board of directors. In addition, we may change the nature of the shares to be issued to raise additional equity and remain a fixed-investment trust for tax purposes.
Certain provisions of the LLC Agreement of the Company and the Trust Agreement make it difficult for third parties to acquire control of the Trust and the Company and could deprive you of the opportunity to obtain a takeover premium for your shares.
The amended and restated LLC Agreement of the Company, which we refer to as the LLC Agreement, and the amended and restated Trust Agreement of the Trust, which we refer to as the Trust Agreement, contain a number of provisions that could make it more difficult for a third party to acquire, or may discourage a third party from acquiring, control of the Trust and the Company. These provisions include, among others:
•restrictions on the Company’s ability to enter into certain transactions with our major shareholders, with the exception of our Manager, modeled on the limitation contained in Section 203 of the Delaware General Corporation Law, or DGCL;
•allowing only the Company’s board of directors to fill newly created directorships, for those directors who are elected by our shareholders, and allowing only our Manager, as holder of a portion of the Allocation Interests, to fill vacancies with respect to the class of directors appointed by our Manager;
•requiring that directors elected by our shareholders be removed, with or without cause, only by a vote of 85% of our shareholders;
•requiring advance notice for nominations of candidates for election to the Company’s board of directors or for proposing matters that can be acted upon by our shareholders at a shareholders’ meeting;
•having a substantial number of additional authorized but unissued shares that may be issued without shareholder action;
•providing the Company’s board of directors with certain authority to amend the LLC Agreement and the Trust Agreement, subject to certain voting and consent rights of the holders of trust interests and Allocation Interests;
•providing for a staggered board of directors of the Company, the effect of which could be to deter a proxy contest for control of the Company’s board of directors or a hostile takeover; and
•limitations regarding calling special meetings and written consents of our shareholders.
These provisions, as well as other provisions in the LLC Agreement and Trust Agreement may delay, defer or prevent a transaction or a change in control that might otherwise result in you obtaining a takeover premium for your shares.
We may have conflicts of interest with the noncontrolling shareholders of our businesses.
The boards of directors of our respective businesses have fiduciary duties to all their shareholders, including the Company and noncontrolling shareholders. As a result, they may make decisions that are in the best interests of their shareholders generally, but which are not necessarily in the best interest of the Company or our shareholders. In dealings with the Company, the directors of our businesses may have conflicts of interest and decisions may have to be made without the participation of directors appointed by the Company, and such decisions may be different from those that we would make.
Our financing arrangements expose us to additional risks associated with leverage and inhibits our operating flexibility and reduces cash flow available for distributions to our shareholders.
At December 31, 2020, we had approximately $907 million of consolidated debt outstanding. This level of consolidated debt could have important consequences, such as (i) limiting our ability to obtain additional financing to fund our potential growth; (ii) increasing the cost of future borrowings; (iii) limiting our ability to use operating cash flow in our other areas of our business because of cash requirements to service our debt; and (iv) increasing our vulnerability to adverse economic conditions. Our financing arrangements subject the Company to certain customary affirmative and restrictive covenants. If we violate any of these covenants, our lender may accelerate the maturity of any debt outstanding under our 2018 Credit Facility. Our ability to meet our debt service obligations may
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be affected by events beyond our control and will depend primarily upon cash produced by our businesses. Any failure to comply with the terms of our indebtedness could materially adversely affect us.
Changes in interest rates could materially adversely affect us.
Our 2018 Credit Facility bears interest at floating rates which will generally change as interest rates change. We bear the risk that the rates we are charged by our lender will increase faster than the earnings and cash flow of our businesses, which could reduce profitability, adversely affect our ability to service our debt, cause us to breach covenants contained in our 2018 Revolving Credit Facility and reduce cash flow available for distribution, any of which could materially adversely affect us.
We may engage in a business transaction with one or more target businesses that have relationships with our officers, our directors, our Manager or CGI, which may create potential conflicts of interest.
We may decide to acquire one or more businesses with which our officers, our directors, our Manager or CGI have a relationship. Potential conflicts of interest may exist with respect to a particular acquisition, and, as a result, the terms of the acquisition of a target business may not be as advantageous to our shareholders as it would have been absent any conflicts of interest.
CGI may exercise significant influence over the Company.
CGI, through a wholly-owned subsidiary, owns approximately 8.4 million or approximately 13.0% of our common shares and may have significant influence over the election of directors in the future.
If, in the future, we cease to control and operate our businesses, we may be deemed to be an investment company under the Investment Company Act of 1940, as amended.
Under the terms of the LLC Agreement, we have the latitude to make investments in businesses that we will not operate or control. If we make significant investments in businesses that we do not operate or control or cease to operate and control our businesses, we may be deemed to be an investment company under the Investment Company Act of 1940, as amended, or the Investment Company Act. If we were deemed to be an investment company, we would either have to register as an investment company under the Investment Company Act, obtain exemptive relief from the SEC or modify our investments or organizational structure or our contract rights to fall outside the definition of an investment company. Registering as an investment company could, among other things, cause us to lose our status as an exempt publicly traded partnership for federal income tax purposes, materially adversely affect our financial condition, business and results of operations, materially limit our ability to borrow funds or engage in other transactions involving leverage and require us to add directors who are independent of us or our Manager and otherwise will subject us to additional regulation that will be costly and time-consuming.
Certain of our businesses are dependent on a limited number of customers to derive a large portion of their revenue, and the loss of one of these customers may adversely affect the financial condition, business and results of operations of these businesses.
Our Liberty, Marucci, Velocity, Foam and Sterno businesses derive a significant amount of revenue from a concentrated number of retailers, distributors or manufacturers.Any negative change involving these retailers, distributors or manufacturers, including industry consolidation, store closings, reduction in purchasing levels or bankruptcies, could negatively impact the sales of these businesses and may have a material adverse effect on the results of operations, financial condition and cash flows of these businesses.
Our businesses do not have and may not have long-term contracts with their customers and clients and the loss of customers and clients could materially adversely affect their financial condition, business and results of operations.
Our businesses are and may be, based primarily upon individual orders and sales with their customers and clients. Our businesses historically have not entered into long-term supply contracts with their customers and clients. As such, their customers and clients could cease using their services or buying their products from them at any time and for any reason. The fact that they do not enter into long-term contracts with their customers and clients means that they have no recourse in the event a customer or client no longer wants to use their services or purchase products from them. If a significant number of their customers or clients elect not to use their services or purchase their products, it could materially adversely affect their financial condition, business and results of operations.
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Risks Related to the Preferred Shares
Distributions on the Series A Preferred Shares are discretionary and non-cumulative.
Distributions on the Series A Preferred Shares are discretionary and non-cumulative. Holders of the Series A Preferred Shares will only receive distributions of the Series A Preferred Shares when, as and if declared by the board of directors of the Company. Consequently, if the board of directors of the Company does not authorize and declare a distribution for a distribution period, holders of the Series A Preferred Shares would not be entitled to receive any distribution for such distribution period, and such unpaid distribution will not be payable in such distribution period or in later distribution periods. We will have no obligation to pay distributions for a distribution period if the board of directors of the Company does not declare such distribution before the scheduled record date for such period, whether or not distributions are declared or paid for any subsequent distribution period with respect to the Series A Preferred Shares, or any other preferred shares we may issue or our common shares. This may result in holders of the Series A Preferred Shares not receiving the full amount of distributions that they expect to receive, or any distributions, and may make it more difficult to resell Series A Preferred Shares or to do so at a price that the holder finds attractive.
The board of directors of the Company may, in its sole discretion, determine to suspend distributions on the Series A Preferred Shares, which may have a material adverse effect on the market price of the Series A Preferred Shares. There can be no assurances that our operations will generate sufficient cash flows to enable us to pay distributions on the Series A Preferred Shares. Our financial and operating performance is subject to prevailing economic and industry conditions and to financial, business and other factors, some of which are beyond our control.
The Series A, Series B and Series C Preferred Shares are equity securities and are subordinated to our existing and future indebtedness.
The Series A, Series B and Series C Preferred Shares are our equity interests and do not constitute indebtedness. This means that the Series A, Series B and Series C Preferred Shares rank junior to all of our indebtedness and to other non-equity claims on us and our assets available to satisfy claims on us, including claims in our liquidation. In addition, the rights allocated to the Company’s allocation interests may reduce the amount available for distribution by the trust upon its liquidation, dissolution or winding up. Further, the Series A, Series B and Series C Preferred Shares place no restrictions on our business or operations or on our ability to incur indebtedness or engage in any transactions, subject only to the limited voting rights.
Risks Relating to Our Manager
Our Chief Executive Officer, directors, Manager and management team may allocate some of their time to other businesses, thereby causing conflicts of interest in their determination as to how much time to devote to our affairs, which may materially adversely affect our operations.
Only our Chief Financial Officer, Mr. Ryan Faulkingham, devotes substantially all of his time to our affairs. Our Chief Executive Officer, directors, Manager and members of our management team may engage in other business activities. This may result in a conflict of interest in allocating their time between our operations and our management and operations of other businesses. Their other business endeavors may be related to CGI, which will continue to own several businesses that were managed by our management team prior to our initial public offering, or affiliates of CGI as well as other parties. Conflicts of interest that arise over the allocation of time may not always be resolved in our favor and may materially adversely affect our operations. See Part III, Item 13. "Certain Relationships and Related Transactions, and Director Independence" for the potential conflicts of interest of which you should be aware.
Our Manager and its affiliates, including members of our management team, may engage in activities that compete with us or our businesses.
Neither our management team nor our Manager is expressly prohibited from investing in or managing other entities, including those that are in the same or similar line of business as our businesses. In this regard, the Management Services Agreement and the obligation to provide management services will not create a mutually exclusive relationship between our Manager and its affiliates, on the one hand, and the Company, on the other.
Our Manager need not present an acquisition or disposition opportunity to us if our Manager determines on its own that such acquisition or disposition opportunity does not meet the Company’s acquisition or disposition criteria.
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Our Manager will review any acquisition or disposition opportunity presented to the Manager to determine if it satisfies the Company’s acquisition or disposition criteria, as established by the Company’s board of directors from time to time. If our Manager determines, in its sole discretion, that an opportunity fits our criteria, our Manager will refer the opportunity to the Company’s board of directors for its authorization and approval prior to the consummation thereof; opportunities that our Manager determines do not fit our criteria do not need to be presented to the Company’s board of directors for consideration. If such an opportunity is ultimately profitable, we will have not participated in such opportunity. Upon a determination by the Company’s board of directors not to promptly pursue an opportunity presented to it by our Manager in whole or in part, our Manager will be unrestricted in its ability to pursue such opportunity, or any part that we do not promptly pursue, on its own or refer such opportunity to other entities, including its affiliates.
We cannot remove our Manager solely for poor performance, which could limit our ability to improve our performance and could materially adversely affect the market price of our shares.
Under the terms of the Management Services Agreement, our Manager cannot be removed as a result of under-performance. Instead, the Company’s board of directors can only remove our Manager in certain limited circumstances or upon a vote by the majority of the Company’s board of directors and the majority of our shareholders to terminate the Management Services Agreement. This limitation could materially adversely affect the market price of our shares.
Our Manager can resign on 180 days’ notice and we may not be able to find a suitable replacement within that time, resulting in a disruption in our operations that could materially adversely affect our financial condition, business and results of operations as well as the market price of our shares.
Our Manager has the right, under the management services agreement, to resign at any time on 180 days’ written notice, whether we have found a replacement or not. If our Manager resigns, we may not be able to contract with a new manager or hire internal management with similar expertise and ability to provide the same or equivalent services on acceptable terms within 90 days, or at all, in which case our operations are likely to experience a disruption, our financial condition, business and results of operations as well as our ability to pay distributions are likely to be adversely affected and the market price of our shares may decline. In addition, the coordination of our internal management, acquisition activities and supervision of our businesses is likely to suffer if we are unable to identify and reach an agreement with a single institution or group of executives having the expertise possessed by our Manager and its affiliates. Even if we are able to retain comparable management, whether internal or external, the integration of such management and their lack of familiarity with our businesses may result in additional costs and time delays that could materially adversely affect our financial condition, business and results of operations.
We must pay our Manager the management fee regardless of our performance.
Our Manager is entitled to receive a management fee that is based on our adjusted consolidated net assets, as defined in the management services agreement, regardless of the performance of our businesses. The calculation of the management fee is unrelated to the Company’s net income. As a result, the management fee may incentivize our Manager to increase the amount of our assets. For example, the acquisition of additional assets or the incurrence of third party debt could be prioritized rather than increasing the performance of our businesses.
We cannot determine the amount of the management fee that will be paid over time with any certainty.
The management fee paid to CGM for the year ended December 31, 2020 was $34.7 million. The management fee is calculated by reference to the Company’s adjusted net assets, which will be impacted by the acquisition or disposition of businesses, which can be significantly influenced by our Manager, as well as the performance of our businesses and other businesses we may acquire in the future. Changes in adjusted net assets and in the resulting management fee could be significant, resulting in a material adverse effect on the Company’s results of operations. In addition, if the performance of the Company declines, assuming adjusted net assets remains the same, management fees will increase as a percentage of the Company’s net income.
We cannot determine the amount of profit allocation that will be paid over time with any certainty.
We cannot determine the amount of profit allocation that will be paid over time with any certainty. Such determination would be dependent on the potential sale proceeds received for any of our businesses and the performance of the Company and its businesses over a multi-year period of time, among other factors that cannot be predicted with certainty at this time. Such factors may have a significant impact on the amount of any profit allocation to be paid. Likewise, such determination would be dependent on whether certain hurdles were surpassed
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giving rise to a payment of profit allocation. Any amounts paid in respect of the profit allocation are unrelated to the management fee earned for performance of services under the management services agreement.
The fees to be paid to our Manager pursuant to the Management Services Agreement, the offsetting Management Services Agreements and integration services agreements and the profit allocation to be paid to certain persons who are employees and partners of our Manager, as holders of the Allocation Interests, pursuant to the LLC Agreement may significantly reduce the amount of cash available for distribution to our shareholders.
Under the Management Services Agreement, the Company will be obligated to pay a management fee to and, subject to certain conditions, reimburse the costs and out-of-pocket expenses of our Manager incurred on behalf of the Company in connection with the provision of services to the Company. Similarly, our businesses will be obligated to pay fees to and reimburse the costs and expenses of our Manager pursuant to any offsetting Management Services Agreements entered into between our Manager and one of our businesses, or any integration services agreements to which such businesses are a party. In addition, Sostratus LLC, as holder of the Allocation Interests, will be entitled to receive profit allocations. While it is difficult to quantify with any certainty the actual amount of any such payments in the future, we do expect that such amounts could be substantial. See the section entitled Part 3, Item 13. “Certain Relationships and Related Transactions, and Director Independence” for more information about these payment obligations of the Company. The management fee and profit allocation will be payment obligations of the Company and, as a result, will be paid, along with other Company obligations, prior to the payment of distributions to shareholders. As a result, the payment of these amounts may significantly reduce the amount of cash flow available for distribution to our shareholders.
Our Manager’s influence on conducting our operations, including on our conducting of transactions, gives it the ability to increase its fees, which may reduce the amount of cash flow available for distribution to our shareholders.
Under the terms of the Management Services Agreement, our Manager is paid a management fee calculated as a percentage of the Company’s adjusted net assets for certain items and is unrelated to net income or any other performance base or measure. Our Manager controls and may advise us to consummate transactions, incur third party debt or conduct our operations in a manner that, in our Manager’s reasonable discretion, are necessary to the future growth of our businesses and are in the best interests of our shareholders. These transactions, however, may increase the amount of fees paid to our Manager. Our Manager’s ability to increase its fees, through the influence it has over our operations, may increase the compensation paid by our Manager. Our Manager’s ability to influence the management fee paid to it by us could reduce the amount of cash flow available for distribution to our shareholders.
Fees paid by the Company and our businesses pursuant to integration services agreements do not offset fees payable under the Management Services Agreement and will be in addition to the management fee payable by the Company under the Management Services Agreement.
The Management Services Agreement provides that our businesses may enter into integration services agreements with our Manager pursuant to which our businesses will pay fees to our Manager for services provided by our Manager relating to the integration of a business’s financial reporting, computer systems and decision making and management processes into our operations following an acquisition of such business. See Part III, Item 13. “Certain Relationships and Related Transactions, and Director Independence” for more information about these agreements. Unlike fees paid under the offsetting Management Services Agreements, fees that are paid pursuant to such integration services agreements will not reduce the management fee payable by the Company. Therefore, such fees will be in excess of the management fee payable by the Company.
The fees to be paid to our Manager pursuant to these integration service agreements will be paid prior to any principal, interest or dividend payments to be paid to the Company by our businesses, which will reduce the amount of cash flow available for distributions to shareholders.
Our profit allocation may induce our Manager to make suboptimal decisions regarding our operations.
Sostratus LLC, as holder of our Allocation Interests, will receive a profit allocation based on ongoing cash flows and capital gains in excess of a hurdle rate. Certain persons who are employees and partners of our Manager are owners of Sostratus LLC. In this respect, a calculation and payment of profit allocation may be triggered upon the sale of one of our businesses. As a result, our Manager may be incentivized to recommend the sale of one or more of our businesses to the Company’s board of directors at a time that may not be optimal for our shareholders.
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The obligations to pay the management fee and profit allocation may cause the Company to liquidate assets or incur debt.
If we do not have sufficient liquid assets to pay the management fee and profit allocation when such payments are due, we may be required to liquidate assets or incur debt in order to make such payments. This circumstance could materially adversely affect our liquidity and ability to make distributions to our shareholders.
Risks Related to Advanced Circuits
Advanced Circuits’ customers operate in industries that experience rapid technological change resulting in short product life cycles and as a result, if the product life cycles of its customers slow materially, and research and development expenditures are reduced, its financial condition, business and results of operations will be materially adversely affected.
Advanced Circuits’ customers compete in markets that are characterized by rapidly changing technology, evolving industry standards and continuous improvement in products and services. These conditions frequently result in short product life cycles. As professionals operating in research and development departments represent the majority of Advanced Circuits’ net sales, the rapid development of electronic products is a key driver of Advanced Circuits’ sales and operating performance. Any decline in the development and introduction of new electronic products could slow the demand for Advanced Circuits’ services and could have a material adverse effect on its financial condition, business and results of operations.
Risks Related to Arnold
Changes in the cost and availability of certain rare earth minerals and magnets could materially harm Arnold’s business, financial condition and results of operations.
Arnold manufactures precision magnetic assemblies and high-performance rare earth magnets including Samarium Cobalt magnets. Arnold is especially susceptible to changes in the price and availability of certain rare earth materials. The price of these materials has fluctuated significantly in recent years and we believe price fluctuations are likely to occur in the future. Arnold’s need to maintain a continuing supply of rare earth materials makes it difficult to resist price increases and surcharges imposed by its suppliers. Arnold’s ability to pass increases in costs for such materials through to its customers by increasing the selling prices of its products is an important factor in Arnold’s business. We cannot guarantee that Arnold will be able to maintain an appropriate differential at all times. If costs for rare earth materials increase, and if Arnold is unable to pass along, or is delayed in passing along, those increases to its customers, Arnold will experience reduced profitability. Rare earth minerals and magnets are available from a limited number of suppliers, primarily in China. Political and civil instability and unexpected adverse changes in laws or regulatory requirements, including with respect to export duties, quotas or embargoes, may affect the market price and availability of rare earth materials, particularly from China. If a substantial interruption should occur in the supply of rare earth materials, Arnold may not be able to obtain other sources of supply in a timely fashion, at a reasonable price or as would be necessary to satisfy its requirements. Accordingly, a change in the supply of, or price for, rare earth minerals and magnets could materially harm Arnold’s business, financial condition and results of operations.
Arnold's operations and the prior operations of predecessor companies expose it to the risk of material environmental liabilities, which could have a negative effect on its financial condition or results of operations.
Arnold may be subject to potential liabilities related to the remediation of environmental hazards and to claims of personal injuries or property damages that may be caused by hazardous substance releases and exposures, mainly because of past operations and the operations of predecessor companies. We continue to incur remedial response and voluntary clean-up costs for site contamination, even though we are indemnified for such costs, and are a party to lawsuits and claims associated with environmental and safety matters, including past production of products containing hazardous materials. Arnold also may become party to various legal proceedings relating to alleged impacts from pollutants released into the environment. Various federal, state, local and foreign governments regulate the discharge of materials into the environment and can impose substantial fines and criminal sanctions for violations. In addition, changes in laws, regulations and enforcement of policies, the discovery of previously unknown contamination or information related to individual sites, the establishment of stricter state or federal toxicity standards with respect to certain contaminants, or the imposition of new clean-up requirements or remedial techniques could require Arnold to incur additional costs in the future that would have a negative effect on its financial condition or results of operations.
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Risks Related to Sterno
Sterno's products operate at high temperatures and use flammable fuels, each of which could subject our business to product liability claims.
Sterno products expose it to potential product liability claims typical of fuel based heating products. The fuels Sterno uses in its products are flammable and may be toxic if ingested. Although Sterno products have comprehensive labeling and it follows government and third party based standards and protocols, it cannot guarantee there will not be accidents due to misuse or otherwise. Accidents involving Sterno products may have an adverse effect on its reputation and reduce demand for its products. In addition, Sterno may be held responsible for damages beyond its insurance coverage and there can be no guarantee that it will be able to procure adequate insurance coverage in the future.
Risks Related to Taxation
Our shareholders will be subject to tax on their share of the Company’s taxable income, which taxes or taxable income could exceed the cash distributions they receive from the Trust.
Under our current structure, for so long as the Company or the Trust (if it is treated as a tax partnership) would not be required to register as an investment company under the Investment Company Act of 1940 and at least 90% of our gross income for each taxable year constitutes ‘‘qualifying income’’ within the meaning of Section 7704(d) of the Internal Revenue Code of 1986, as amended (the ‘‘Code’’), on a continuing basis, we will be treated, for U.S. federal income tax purposes, as a partnership and not as an association or a publicly traded partnership taxable as a corporation. In that case our shareholders will be subject to U.S. federal income tax and, possibly, state, local and foreign income tax, on their share of the Company’s taxable income, which taxes or taxable income could exceed the cash distributions they receive from the Trust. There is, accordingly, a risk that our shareholders may not receive cash distributions equal to that portion of our taxable income or sufficient in amount even to satisfy their personal tax liability that results from that income. This may result from gains on the sale or exchange of stock or debt of subsidiaries that will be allocated to shareholders who hold (or are deemed to hold) shares on the day such gains were realized if there is no corresponding distribution of the proceeds from such sales, or where a shareholder disposes of shares after an allocation of gain but before proceeds (if any) are distributed by the Company. Shareholders may also realize income in excess of distributions due to the Company’s use of cash from operations or sales proceeds for uses other than to make distributions to shareholders, including funding acquisitions, satisfying short- and long-term working capital needs of our businesses, or satisfying known or unknown liabilities. In addition, certain financial covenants with the Company’s lenders may limit or prohibit the distribution of cash to shareholders. The Company’s board of directors is also free to change the Company’s distribution policy. The Company is under no obligation to make distributions to shareholders equal to or in excess of their portion of our taxable income or sufficient in amount even to satisfy the tax liability that results from that income.
All of the Company’s income could be subject to an entity-level tax in the United States, which could result in a material reduction in cash flow available for distribution to holders of shares of the Trust and thus could result in a substantial reduction in the value of the shares.
Under our current structure, we do not expect the Company to be characterized as a corporation so long as it would not be required to register as an investment company under the Investment Company Act of 1940 and 90% or more of its gross income for each taxable year constitutes “qualifying income.” The Company expects to receive more than 90% of its gross income each year from dividends, interest and gains on sales of stock or debt instruments, including principally from or with respect to stock or debt of corporations in which the Company holds a majority interest. The Company intends to treat all such dividends, interest and gains as “qualifying income.”
If the Company fails to satisfy this “qualifying income” exception, the Company will be treated as a corporation for U.S. federal (and certain state and local) income tax purposes, and would be required to pay income tax at regular corporate rates on its income. Taxation of the Company as a corporation could result in a material reduction in distributions to our shareholders and after-tax return.
A shareholder may recognize a greater taxable gain (or a smaller tax loss) on a disposition of shares than expected because of the treatment of debt under the partnership tax accounting rules.
We may incur debt for a variety of reasons, including for acquisitions as well as other purposes. Under partnership tax accounting principles (which apply to the Company), debt of the Company generally will be allocable to our shareholders, who will realize the benefit of including their allocable share of the debt in the tax basis of their
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investment in shares. At the time a shareholder later sells shares, the selling shareholder’s amount realized on the sale will include not only the sales price of the shares but also the shareholder’s portion of the Company’s debt allocable to his shares (which is treated as proceeds from the sale of those shares). Depending on the nature of the Company’s activities after having incurred the debt, and the utilization of the borrowed funds, a later sale of shares could result in a larger taxable gain (or a smaller tax loss) than anticipated.
Our structure involves complex provisions of U.S. federal income tax law for which no clear precedent or authority may be available. Our structure also is subject to potential legislative, judicial or administrative change and differing interpretations, possibly on a retroactive basis.
The U.S. federal income tax treatment of holders of the Shares depends in some instances on determinations of fact and interpretations of complex provisions of U.S. federal income tax law for which no clear precedent or authority may be available. You should be aware that the U.S. federal income tax rules are constantly under review by persons involved in the legislative process, the IRS, and the U.S. Treasury Department, frequently resulting in revised interpretations of established concepts, statutory changes, revisions to regulations and other modifications and interpretations. The IRS pays close attention to the proper application of tax laws to partnerships. The present U.S. federal income tax treatment of an investment in the Shares may be modified by administrative, legislative or judicial interpretation at any time, and any such action may affect investments and commitments previously made. For example, changes to the U.S. federal tax laws and interpretations thereof could make it more difficult or impossible to meet the qualifying income exception for us to be treated as a partnership for U.S. federal income tax purposes that is not taxable as a corporation, affect or cause us to change our investments and commitments, affect the tax considerations of an investment in us and adversely affect an investment in our Shares. Our organizational documents and agreements permit the Board of Directors to modify our operating agreement from time to time, without the consent of the holders of Shares, in order to address certain changes in U.S. federal income tax regulations, legislation or interpretation. In some circumstances, such revisions could have a material adverse impact on some or all of the holders of our Shares. Moreover, we will apply certain assumptions and conventions in an attempt to comply with applicable rules and to report income, gain, deduction, loss and credit to holders in a manner that reflects such holders’ beneficial ownership of partnership items, taking into account variation in ownership interests during each taxable year because of trading activity. However, these assumptions and conventions may not be in compliance with all aspects of applicable tax requirements. It is possible that the IRS will assert successfully that the conventions and assumptions used by us do not satisfy the technical requirements of the Code and/or Treasury regulations and could require that items of income, gain, deductions, loss or credit, including interest deductions, be adjusted, reallocated, or disallowed, in a manner that adversely affects holders of the Shares.
If we elect to treat the Trust as a corporation for U.S. federal income tax purposes or state tax purposes, the impact on the value of our common shares is uncertain.
The value of your investment may depend in part on our treatment as a partnership for U.S. federal income tax purposes. We may determine it is prudent to change our structure, and we may be treated as a corporation for U.S. federal income tax purposes in the future. If we were treated as a corporation for U.S. federal income tax purposes, (i) we would become subject to corporate income tax, currently at the recently reduced rate of 21% and (ii) distributions to shareholders would be taxable as dividends for U.S. federal income tax purposes to the extent of our earnings and profits. While our effective tax rate would likely increase and the amount of distributions to our shareholders would likely decrease as a result of our election to be treated as a corporation for U.S. federal income tax purposes, it is possible that the value of our common shares may go up as a result of our common shares becoming available to a more diverse investor base and being included on certain stock market indices and in certain sector groupings.
Risks Related to Velocity Outdoor
Velocity’s products are subject to product safety and liability lawsuits, which could materially adversely affect its financial condition, business and results of operations.
As a manufacturer of recreational airguns and archery products, Velocity is involved in various litigation matters that occur in the ordinary course of business. Although Velocity provides information regarding safety procedures and warnings with all of its product packaging, not all users of its products will observe all proper safety practices. Failure to observe proper safety practices may result in injuries that give rise to product liability and personal injury claims and lawsuits, as well as claims for breach of contract, loss of profits and consequential damages.
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If any unresolved lawsuits or claims are determined adversely, they could have a material adverse effect on Velocity, its financial condition, business and results of operations. As more of Velocity’s products are sold to and used by its consumers, the likelihood of product liability claims being made against it increases. In addition, the running of statutes of limitations in the United States for personal injuries to minor children may be suspended during the child’s legal minority. Therefore, it is possible that accidents resulting in injuries to minors may not give rise to lawsuits until a number of years later.
While Velocity maintains product liability insurance to insure against potential claims, there is a risk such insurance may not be sufficient to cover all liabilities incurred in connection with such claims and the financial consequences of these claims and lawsuits will have a material adverse effect on its business, financial condition, liquidity and results of operations.
General Risk Factors
We could be negatively impacted by cybersecurity attacks.
We, and our businesses, use a variety of information technology systems in the ordinary course of business, which are potentially vulnerable to unauthorized access, computer viruses and cybersecurity attacks, including cybersecurity attacks to our information technology infrastructure and attempts by others to gain access to our propriety or sensitive information, and ranging from individual attempts to advanced persistent threats. The procedures and controls we use to monitor these threats and mitigate our exposure may not be sufficient to prevent cybersecurity incidents. The results of these incidents could include misstated financial data, theft of trade secrets or other intellectual property, liability for disclosure of confidential customer, supplier or employee information, increased costs arising from the implementation of additional security protective measures, litigation and reputational damage, which could materially adversely affect our financial condition, business and results of operations. Any remedial costs or other liabilities related to cybersecurity incidents may not be fully insured or indemnified by other means.
Impairment of our goodwill, indefinite-lived intangible assets or other long-lived assets could result in significant charges that would adversely impact our future operating results.
A significant portion of our long-term assets are comprised of intangible assets, including goodwill and indefinite lived intangible assets recorded as a result of past acquisitions. We assess the potential impairment of goodwill and indefinite lived intangible assets on an annual basis, as well as whenever events or changes in circumstances indicate that the carrying value may not be recoverable. If our analysis indicates that an individual asset’s carrying value exceeds its fair market value, we will record a loss equal to the excess of the individual asset’s carrying value over its fair value. The impairment testing steps require significant amounts of judgment and subjectivity.
Factors that could trigger impairment include the following:
•significant under performance relative to historical or projected future operating results;
•significant changes in the manner of or use of the acquired assets or the strategy for our overall business;
•significant negative industry or economic trends;
•significant decline in our stock price for a sustained period;
•changes in our organization or management reporting structure could result in additional reporting units, which may require alternative methods of estimating fair values or greater desegregation or aggregation in our analysis by reporting unit; and
•a decline in our market capitalization below net book value.
As of December 31, 2020, we had identified indefinite lived intangible assets with a carrying value in our financial statements of $60.0 million, and goodwill of $766.0 million.
Our businesses are subject to unplanned business interruptions which may adversely affect our performance.
Operational interruptions and unplanned events at one or more of our production facilities, such as explosions, fires, inclement weather, natural disasters, accidents, transportation interruptions and supply could cause substantial losses in our production capacity. Furthermore, because customers may be dependent on planned deliveries from us, customers that have to reschedule their own operations due to our delivery delays may be able to pursue financial claims against us, and we may incur costs to correct such problems in addition to any liability resulting from such claims. Such interruptions may also harm our reputation among actual and potential customers, potentially
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resulting in a loss of business. To the extent these losses are not covered by insurance, our financial position, results of operations and cash flows may be adversely affected by such events.
We could be adversely affected if we experience shortages of components from our suppliers or if disruptions in the supply chain lead to parts shortages for our customers.
A portion of our annual cost of sales is driven by the purchase of goods. We select our suppliers based on total value (including price, delivery and quality), taking into consideration their production capacities and financial condition, and we expect that they will be able to support our needs. However, there is no assurance that adverse financial conditions, including bankruptcies of our suppliers, reduced levels of production, natural disasters or other problems experienced by our suppliers will not result in shortages or delays in their supply of components to us. For example, the recent emergence of a novel strain of coronavirus in the city of Wuhan and the Hubei province of China has resulted in certain emergency measures to combat the spread of the virus, including extension of the Lunar New Year holidays, implementation of travel bans and closure of factories and businesses. Any significant production disruption could have a material impact on our operations, operating results and financial condition. If we were to experience a significant or prolonged shortage of critical components from our suppliers, we may be unable to meet our production schedules for some of our key products and to ship such products to our customers in a timely fashion, which would adversely affect our sales, profitability and customer relations.
Our businesses rely and may rely on their intellectual property and licenses to use others’ intellectual property, for competitive advantage. If our businesses are unable to protect their intellectual property, are unable to obtain or retain licenses to use other’s intellectual property, or if they infringe upon or are alleged to have infringed upon others’ intellectual property, it could have a material adverse effect on their financial condition, business and results of operations.
Each business's success depends in part on their, or licenses to use others’, brand names, proprietary technology and manufacturing techniques. These businesses rely on a combination of patents, trademarks, copyrights, trade secrets, confidentiality procedures and contractual provisions to protect their intellectual property rights. The steps they have taken to protect their intellectual property rights may not prevent third parties from using their intellectual property and other proprietary information without their authorization or independently developing intellectual property and other proprietary information that is similar. In addition, the laws of foreign countries may not protect our businesses’ intellectual property rights effectively or to the same extent as the laws of the United States.
Stopping unauthorized use of their proprietary information and intellectual property, and defending claims that they have made unauthorized use of others’ proprietary information or intellectual property, may be difficult, time-consuming and costly. The use of their intellectual property and other proprietary information by others, and the use by others of their intellectual property and proprietary information, could reduce or eliminate any competitive advantage they have developed, cause them to lose sales or otherwise harm their business.
Our businesses may become involved in legal proceedings and claims in the future either to protect their intellectual property or to defend allegations that they have infringed upon others’ intellectual property rights. These claims and any resulting litigation could subject them to significant liability for damages and invalidate their property rights. In addition, these lawsuits, regardless of their merits, could be time consuming and expensive to resolve and could divert management’s time and attention. The costs associated with any of these actions could be substantial and could have a material adverse effect on their financial condition, business and results of operations.
Our businesses could experience fluctuations in the costs and availability of raw materials, components or whole goods which could result in significant disruptions to supply chains, production disruptions and increased costs for our businesses.
Our businesses require access to various raw materials, components and whole goods to manufacture and distribute products. Changes in the availability and price of raw materials, components and whole goods, which can fluctuate significantly as a result of economic volatility, regulatory instability or change in import tariffs or trade agreements, can significantly increase the costs of production and distribution, which could have a material negative effect on the profitability of the businesses.
Our businesses are and may be subject to federal, state and foreign environmental laws and regulations that expose them to potential financial liability. Complying with applicable environmental laws requires significant resources, and if our businesses fail to comply, they could be subject to substantial liability.
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Some of the facilities and operations of our businesses are and may be subject to a variety of federal, state and foreign environmental laws and regulations including laws and regulations pertaining to the handling, storage and transportation of raw materials, products and wastes, which require and will continue to require significant expenditures to remain in compliance with such laws and regulations currently in place and in the future. Compliance with current and future environmental laws is a major consideration for our businesses as any material violations of these laws can lead to substantial liability, revocations of discharge permits, fines or penalties. Because some of our businesses use hazardous materials and generate hazardous wastes in their operations, they may be subject to potential financial liability for costs associated with the investigation and remediation of their own sites, or sites at which they have arranged for the disposal of hazardous wastes, if such sites become contaminated. Even if they fully comply with applicable environmental laws and are not directly at fault for the contamination, our businesses may still be liable. Our businesses may also be held liable for damages caused by environmental and other conditions that existed prior to our acquisition the assets, business or operations involved, whether or not such damages are subject to indemnification from a prior owner. Costs associated with these risks could have a material adverse effect on our financial condition, business and results of operations.
Defects in the products provided by our companies could result in financial or other damages to their customers, which could result in reduced demand for our companies’ products and/or liability claims against our companies.
As manufacturers and distributors of consumer products, certain of our companies are subject to various laws, rules and regulations, which may empower governmental agencies and authorities to exclude from the market products that are found to be unsafe or hazardous. Under certain circumstances, a governmental authority could require our companies to repurchase or recall one or more of their products. Additionally, laws regulating certain consumer products exist in some cities and states, as well as in other countries in which they sell their products, where more restrictive laws and regulations exist or may be adopted in the future. Any repurchase or recall of such products could be costly and could damage the reputation of our companies. If any of our companies were required to remove, or voluntarily remove, their products from the market, their reputation may be tarnished and they may have large quantities of finished products that they cannot sell. Additionally, our companies may be subject to regulatory actions that could harm their reputations, adversely impact the values of their brands and/or increase the cost of production.
Our companies also face exposure to product liability claims in the event that one of their products is alleged to have resulted in property damage, bodily injury or other adverse effects. Defects in products could result in customer dissatisfaction or a reduction in, or cancellation of, future purchases or liability claims against our companies. If these defects occur frequently, our reputation may be impaired permanently. Defects in products could also result in financial or other damages to customers, for which our companies may be asked or required to compensate their customers, in the form of substantial monetary judgments or otherwise. While our companies take the steps deemed necessary to comply with all laws and regulations, there can be no assurance that rapidly changing safety standards will not render unsaleable products that complied with previously-applicable safety standards. As a result, these types of claims could have a material adverse effect on our businesses, results of operations and financial condition.
Our businesses are subject to certain risks associated with their foreign operations or business they conduct in foreign jurisdictions.
Some of our businesses have and may have operations or conduct business outside the United States. Certain risks are inherent in operating or conducting business in foreign jurisdictions, including exposure to local economic conditions; difficulties in enforcing agreements and collecting receivables through certain foreign legal systems; longer payment cycles for foreign customers; adverse currency exchange controls; exposure to risks associated with changes in foreign exchange rates; potential adverse changes in political environments; withholding taxes and restrictions on the withdrawal of foreign investments and earnings; export and import restrictions; difficulties in enforcing intellectual property rights; and required compliance with a variety of foreign laws and regulations. These risks individually and collectively have the potential to negatively impact our financial condition, business and results of operations.
ITEM 1B. UNRESOLVED STAFF COMMENTS
NONE
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ITEM 2. PROPERTIES
The following is a summary as of December 31, 2020 of the physical properties owned or leased by our businesses that we consider materially important to those businesses.
5.11
5.11 is headquartered in Irvine, California and leases offices and warehouse space in locations worldwide. The summary below outlines 5.11's primary leased offices and warehouse space.
Location Square Feet Use
Mexico City, Mexico 4,628 Office
Bankstown, Australia 10,387 Office
Malmo, Sweden 6,049 Office
Kowloon Bay, Hong Kong 17,759 Office
In addition, at December 31, 2020, 5.11 leased space for 75 retail stores, ranging in size from 3,250 square feet to 10,000 square feet.
BOA
BOA is headquartered in Denver, Colorado and leases offices and warehouse space in locations worldwide. The summary below outlines BOA's primary leased offices and warehouse space.
Location Square Feet Use
Mondsee, Austria 12,000 Office
Seoul, South Korea 2,700 Office
Chiba, Japan 2,500 Office
Hong Kong, China 20,000 Office/Warehouse
Shenzhen, China 6,000 Office
Ergobaby
Ergobaby is headquartered in Los Angeles, California and has four other office locations worldwide. The summary below outlines Ergobaby's primary property locations. All locations are leased.
Location Square Feet
Ergobaby - Corporate Los Angeles, CA 16,378
Ergobaby Europe Hamburg, Germany 4,520
Tula Bialystok, Poland 9,688
Liberty Safe
Liberty Safe is headquartered in Payson, Utah. Liberty leases office and warehouse facilities in Payson, Utah, where it is headquartered. The corporate headquarters and manufacturing facility are located in a 312,000 square foot building.
Marucci Sports
Marucci is headquartered in Baton Rouge, Louisiana. The summary below outlines Marucci's primary leased office and manufacturing space.
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Location Square Feet Use
Baton Rouge, LA 73,900 Office/Distribution Center
King of Prussia, PA 22,500 Manufacturing
Punxsutawney, PA 15,000 Manufacturing
Winnfield, PA 14,330 Manufacturing
Lafayette, LA 12,192 Retail Store
Advanced Circuits
Advanced Circuits is headquartered in Aurora, Colorado. Advanced Circuits' operations are located in an 114,000 square foot building in Aurora, Colorado, a 48,000 square foot building in Chandler, Arizona, and a 50,000 square foot building in Maple Grove, Minnesota. These facilities are leased and comprise both the factory and office space.
Arnold
Arnold is headquartered in Rochester, New York and has nine manufacturing facilities. The summary below outlines Arnold’s property locations. Arnold owns the Ogallala, Nebraska location and the other locations are leased. The summary below outlines Arnold's primary property locations.
Location Square Feet Use
Marengo, IL 94,220 Office/Warehouse
Marietta, OH 81,000 Office/Warehouse
Marengo, IL 55,200 Office/Warehouse
Norfolk, NE 109,000 Office/Warehouse
Rochester, NY 73,000 Office/Warehouse
Ogallala, NE 25,000 Office/Warehouse
Guangdong Province, China 154,210 Office/Warehouse
Sheffield, England 25,000 Office/Warehouse
Lupfig, Switzerland 52,937 Office/Warehouse
Foam Fabricators
Foam Fabricators is headquartered in Scottsdale, Arizona and operates 14 molding and fabricating facilities across North America.
Location Square Feet Leased or Owned
Anderson, South Carolina 133,250 Leased
Compton, California 44,000 Leased
Erie, Pennsylvania 199,962 Leased
Fort Madison, Iowa 80,000 Leased
Jackson, Tennessee 55,000 Leased
Jefferson, Georgia 60,000 Leased
Modesto, California 79,000 Leased
El Dorado Springs, Missouri 38,000 Owned
New Albany, Indiana 65,000 Owned
Bloomsburg, Pennsylvania 54,000 Owned
Tijuana, Mexico 60,000 Leased
Queretaro, Mexico 100,000 Leased
Scottsdale, Arizona 7,000 Leased
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Sterno
Sterno is headquartered in Corona, California. Sterno owns manufacturing and production facilities in Memphis, Tennessee and Texarkana, Texas. All other properties are leased. The summary below outlines Sterno's primary property locations.
Location Square Feet Use
Corona, CA 12,330 Corporate Office
Memphis, TN 168,316 Manufacturing
Texarkana, TX 476,000 Manufacturing
Delta, Canada 45,000 Warehouse
Vancouver, Canada 50,372 Office
Vancouver, Canada 33,711 Warehouse
Provo, UT 171,361 Office/Warehouse
Spanish Fork, UT 313,719 Warehouse
Velocity Outdoor
Velocity Outdoor is headquartered in Bloomfield, New York. Velocity owns a 225,000 square foot manufacturing facility in Bloomfield, New York that also holds their corporate offices, and leases a 144,000 square foot finished goods warehouse in Farmington, New York. Velocity's Ravin subsidiary operates an 80,000 square foot manufacturing facility in Superior, Wisconsin.
Corporate
Our corporate offices are located in Westport, Connecticut and Irvine, California, where we utilize space provided by our Manager.
We believe that our properties and the terms of their leases at each of our businesses are sufficient to meet our present needs and we do not anticipate any difficulty in securing additional space, as needed, on acceptable terms.
ITEM 3. LEGAL PROCEEDINGS
In the normal course of business, we are involved in various claims and legal proceedings. While the ultimate resolution of these matters has yet to be determined, we do not believe that their outcome will have a material adverse effect on our financial position or results of operations.
Arnold
Our Arnold subsidiary, was named as co-defendant, together with 300 West LLC (“300 West”), in a suit filed in the Twenty-Second Judicial Circuit, McHenry County, Illinois, Chancery Division (Case No. 13CH1046) in 2013 by the State of Illinois (the “Marengo Litigation”). Arnold leases a site in Marengo, McHenry County, Illinois (the “Site”) from 300 West. Since 2008, Arnold and 300 West have been a part of the Illinois Remediation Program with respect to the Site. In the Marengo Litigation, the plaintiff claimed that 300 West and Arnold discharged Chlorinated VOCs into the groundwater on-Site, which has since migrated off-Site into private drinking wells. The plaintiff has sought injunctive relief and civil penalties. Any damages incurred by Arnold in connection with the Marengo Litigation are subject to indemnification pursuant to the Stock Purchase Agreement, among SPS Technologies, LLC (“SPS”), SPS Technologies Limited (“SPS Ltd.”), Precision Castparts Corp. (collectively with SPS and SPS Ltd., the “SPS Entities”), Arnold and Audax Private Equity Fund, L.P., dated December 20, 2004, and prior consents to indemnification given by the SPS Entities. Arnold has cooperated with the governmental agencies in the Marengo Litigation investigations and proceedings. CODI does not believe that the outcome of the Marengo Litigation will have a material adverse effect on its financial position or results of operations.
ITEM 4. MINE SAFETY DISCLOSURES
Not Applicable.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information
Our common shares of Trust stock has traded on the New York Stock Exchange (the “NYSE”) under the symbol “CODI”.
Common Stock Holders
On December 31, 2020 there were 15 registered holders of our common stock. The number of registered holders includes banks and brokers who act as nominees, each of whom may represent more than one shareholder.
COMPARATIVE PERFORMANCE OF SHARES OF TRUST COMMON STOCK
The performance graph shown below compares the change in cumulative total shareholder return on common shares of Trust stock with the NYSE Composite Index and the NYSE Financial Sector Index for the previous five years, through the year ended December 31, 2020. The graph sets the beginning value of common shares of Trust stock and the indices at $100, and assumes that all quarterly dividends were reinvested at the time of payment. This graph does not forecast future performance of common shares of Trust stock.
Year ended December 31,
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Distributions
For the years 2020, 2019 and 2018, we declared and paid quarterly cash distributions of $0.36 per share to holders of record of our common shares. The Company’s board of directors has full authority and discretion to determine whether or not a distribution by the Company should be declared and paid to the Trust and in turn to our shareholders, as well as the amount and timing of any distribution. The Company’s board of directors may, based on their review of our financial condition and results of operations and any future changes to our tax structure, determine to modify future distributions.
Recent Sales of Unregistered Securities
On April 18, 2018, the Company consummated the issuance and sale of $400 million aggregate principal amount of its Senior Notes offered pursuant to a private offering to qualified institutional buyers in accordance with Rule 144A under the Securities Act, and to non-U.S. persons under Regulation S under the Securities Act. We used the net proceeds from the sale of the Senior Notes to repay debt under our credit facilities in connection with the concurrent refinancing transaction related to the 2018 Credit Facility. The Senior Notes were issued pursuant to the Indenture. The Senior Notes bear interest at the rate of 8.000% per annum and will mature on May 1, 2026.Interest on the Senior Notes is payable in cash on May 1st and November 1st of each year, beginning on November 1, 2018. On May 7, 2020, the Company consummated the issuance and sale of $200 million aggregate principal amount of its Additional Notes. The Additional Notes have identical terms as the Senior Notes, except that the Additional Notes were issued (i) at a price of 101.000% of the principal amount plus accrued and unpaid interest from May 1, 2020 up to, but excluding, May 7, 2020 (whereas, the Senior Notes were issued at 100.000% of the principal amount), and (ii) on a different issue date. The proceeds from the Additional Notes were used to pay down the amount outstanding on the Company's 2018 Revolving Credit Facility. The Senior Notes and Additional Notes are general senior unsecured obligations of the Company and are not guaranteed by our subsidiaries.
Purchases of Equity Securities by Issuer and Affiliated Purchasers
None.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected historical and other data of the Company and should be read in conjunction with the more detailed consolidated financial statements included elsewhere in this Annual Report. Selected financial data below includes the results of operations, cash flow and balance sheet data of the Company for the years ended December 31, 2020, 2019, 2018, 2017, and 2016.
The operating results of Manitoba Harvest and Clean Earth in 2016, 2017, 2018 and 2019 are presented as discontinued operations in the table below and are not included in continuing operations. The operating results for Tridien in 2016 are reflected as discontinued operations in the table below and are not included in continuing operations. Data included below only includes activity in our operating subsidiaries from their respective dates of acquisition.
Year ended December 31,
Statements of Operations Data:
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Year ended December 31,
Basic and fully diluted income (loss) per share attributable to Holdings:
Cash distribution declared per common share $ 1.44 $ 1.44 $ 1.44 $ 1.44 $ 1.44
Cash Flow Data:
Balance Sheet Data:
(1) Includes the effect of material business acquisitions as follows:
•The year ended December 31, 2020 includes the operating results of Marucci Sports, acquired on April 20, 2020 and BOA acquired on October 16, 2020.
•The year ended December 31, 2018 includes the operating results of Foam Fabricators, acquired on February 15, 2018, and Rimports, acquired by our Sterno subsidiary on February 26, 2018.
•The year ended December 31, 2017 includes the operating results of Velocity Outdoor, acquired on June 2, 2017.
•The year ended December 31, 2016 includes the operating results of 5.11, acquired on August 31, 2016.
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Item 7 contains forward-looking statements. Forward-looking statements in this Annual Report on Form 10-K are subject to a number of risks and uncertainties, some of which are beyond our control. Our actual results, performance, prospects or opportunities could differ materially from those expressed in or implied by the forward-looking statements. Additional risks of which we are not currently aware or which we currently deem immaterial could also cause our actual results to differ, including those discussed in the sections entitled “Forward-Looking Statements” and “Risk Factors” included elsewhere in this Annual Report.
Overview
Compass Diversified Holdings, a Delaware statutory trust, was incorporated in Delaware on November 18, 2005. Compass Group Diversified Holdings LLC, a Delaware limited liability Company, was also formed on November 18, 2005. In accordance with the Trust Agreement, the Trust is sole owner of 100% of the Trust Interests (as defined in the LLC Agreement) of the Company and, pursuant to the LLC Agreement, the Company has outstanding the identical number of Trust Interests as the number of outstanding shares of the Trust. Sostratus LLC owns all of our Allocation Interests. The Company is the operating entity with a board of directors and other corporate governance responsibilities, similar to that of a Delaware corporation.
The Trust and the Company were formed to acquire and manage a group of small and middle-market businesses headquartered in North America. We characterize small and middle market businesses as those that generate annual cash flows of up to $75 million. We focus on companies of this size because we believe that these companies are more able to achieve growth rates above those of their relevant industries and are also frequently more amenable to efforts to improve earnings and cash flow.
In pursuing new acquisitions, we seek businesses with the following characteristics:
•North American base of operations;
•stable and growing earnings and cash flow;
•maintains a significant market share in defensible industry niche (i.e., has a “reason to exist”);
•solid and proven management team with meaningful incentives;
•low technological and/or product obsolescence risk; and
•a diversified customer and supplier base.
Our management team’s strategy for our subsidiaries involves:
◦utilizing structured incentive compensation programs tailored to each business in order to attract, recruit and retain talented managers to operate our businesses;
◦regularly monitoring financial and operational performance, instilling consistent financial discipline, and supporting management in the development and implementation of information systems to effectively achieve these goals;
◦assisting management in their analysis and pursuit of prudent organic cash flow growth strategies (both revenue and cost related);
◦identifying and working with management to execute attractive external growth and acquisition opportunities; and
•forming strong subsidiary level boards of directors, including independent directors, to supplement management in their development and implementation of strategic goals and objectives.
Based on the experience of our management team and its ability to identify and negotiate acquisitions, we believe we are well positioned to acquire additional attractive businesses. Our management team has a large network of approximately 2,000 deal intermediaries to whom it actively markets and who we expect to expose us to potential acquisitions. Through this network, as well as our management team’s active proprietary transaction sourcing efforts, we typically have a substantial pipeline of potential acquisition targets. In consummating transactions, our management team has, in the past, been able to successfully navigate complex situations surrounding acquisitions, including corporate spin-offs, transitions of family-owned businesses, management buy-outs and reorganizations. We believe the flexibility, creativity, experience and expertise of our management team in structuring transactions
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provides us with a strategic advantage by allowing us to consider non-traditional and complex transactions tailored to fit a specific acquisition target.
In addition, because we intend to fund acquisitions through the utilization of our 2018 Revolving Credit Facility, we do not expect to be subject to delays in or conditions by closing acquisitions that would be typically associated with transaction specific financing, as is typically the case in such acquisitions. We believe this advantage is a powerful one and is highly unusual in the marketplace for acquisitions in which we operate.
Initial public offering and Company formation
On May 16, 2006, we completed our initial public offering of 13,500,000 shares of the Trust (the “IPO”). Subsequent to the IPO the Company’s board of directors engaged our Manager to externally manage the day-to-day operations and affairs of the Company, oversee the management and operations of the businesses and to perform those services customarily performed by executive officers of a public company.
From May 16, 2006 through December 31, 2020, we purchased twenty-one businesses (each of our businesses is treated as a separate operating segment) and disposed of ten businesses. The tables below reflect summarized information relating to our acquisitions and dispositions from the date of our IPO through December 31, 2020 (in thousands):
Acquisitions
Ownership Interest - December 31, 2020
Business Acquisition Date CODI Purchase Price Primary Diluted
(1)The total purchase price for CBS Holdings includes the acquisition of Staffmark Investment LLC in January 2008 for a purchase price of $128.6 million. The Company renamed its CBS Personnel business Staffmark subsequent to the acquisition.
(2) Velocity Outdoor (formerly "Crosman Corp.") was purchased by the Company in May 2006 and subsequently sold in January 2007. We reacquired Velocity Outdoor in June 2017.
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(3)The total purchase price does not reflect add-on acquisitions made by our businesses subsequent to their purchase by CODI unless indicated.
(4) FOX completed an IPO of its common stock in August 2013 in which we sold a 22% interest in FOX, reducing our ownership interest to 53%.9. In July 2014, FOX completed a secondary offering in which we sold a 12% interest in FOX, reducing our ownership interest to 41% and resulting in the deconsolidation of FOX from our financial results. We subsequently sold our remaining shares of FOX and now hold no ownership interest in FOX. We recognized total net proceeds from the sale of our FOX shares of approximately $465.1 million.
(5) The total purchase price of Sterno includes the acquisition of Rimports in February 2018 for a purchase price of $154.4 million.
Dispositions
(1) CODI portion of the net proceeds from disposition includes debt and equity proceeds and reflects the accounting for the redemption of the sold business's minority shareholders and transaction expenses.
(2) Gain (loss) recognized on sale of our businesses is calculated by deducting our total invested capital from the net sale proceeds received.
(3) Sale price of Manitoba Harvest was C$370 million. Translation to USD is as of the date of sale.
* We made loans to and purchased a controlling interest in FOX on January 4, 2008, for approximately $80.4 million. In August 2013, FOX completed an initial public offering of its common stock. As a result of the initial public offering, our ownership interest in FOX was reduced to approximately 53.9%. No gain was reflected as a result of the sale of our FOX shares in the initial public offering because our majority classification of FOX did not change. FOX used a portion of their net proceeds received from the sale of their shares as well as proceeds from a new external FOX credit facility to repay $61.5 million in outstanding indebtedness to us under their existing credit facility with us. In July 2014, through a secondary offering, our ownership in FOX was lowered from approximately 54% to approximately 41%, and as a result we deconsolidated FOX as of July 10, 2014. In March and August 2016, through two more secondary offerings and a share repurchase by FOX, our ownership in the outstanding common stock of FOX was further lowered to approximately 23% as of September 30, 2016. In November 2016, through another secondary offering, our ownership in the outstanding common stock of FOX was further lowered to approximately 14%. On March 13, 2017, FOX closed on a secondary public offering of 5,108,718 shares of FOX common stock held by CODI, which represented CODI's remaining investment in FOX. We recognized total net proceeds from the sales of our FOX shares of approximately $465.1 million, plus proceeds from the repayment of the FOX credit facility of $61.5 million upon completion of their initial public offering, and a total gain of $428.7 million.
We are dependent on the earnings of, and cash receipts from, the businesses that we own in order to meet our corporate overhead and management fee expenses and to pay distributions. The earnings and distributions of our businesses are generally lowest in the first quarter, and strongest in the third and fourth quarter, of each fiscal year. These earnings and distributions, net of any non-controlling interest in these businesses, are available to:
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•meet capital expenditure requirements, management fees and corporate overhead charges;
•fund distributions from the businesses to the Company; and
•be distributed by the Trust to shareholders.
2020 Highlights and Recent Events
Sale of Trust Common Shares
In May 2020, the Company completed an offering of 5,000,000 Trust common shares at a public offering price of $17.60 per share. The net proceeds to the Company, after deducting the underwriter's discount and offering costs, totaled approximately $83.9 million.
Issuance of Senior Notes
On May 7, 2020, the Company consummated the issuance and sale of $200 million aggregate principal amount of its 8.000% Senior Notes due 2026 (the "Additional Notes"). The proceeds from the Additional Notes were used to pay down the amount outstanding on the Company's 2018 Revolving Credit Facility.
Acquisition of Marucci Sports, LLC
On March 6, 2020, the Company, through a wholly-owned subsidiary, Wheelhouse Holdings Inc., a Delaware Corporation (“Marucci Buyer”), entered into an Agreement and Plan of Merger with Marucci Sports, LLC, a Delaware limited liability company (“Marucci”), Wheelhouse Holdings Merger Sub LLC, a Delaware limited liability company and a wholly-owned Subsidiary of Marucci Buyer, and, Wheelhouse 2020 LLC, a Delaware limited liability company (in its capacity as the representative of the unit holders and option holders of Marucci), pursuant to which Wheelhouse Holdings Merger Sub LLC was to be merged with and into Marucci (the “Transaction”) such that the separate existence of Wheelhouse Holdings Merger Sub LLC would cease, and Marucci would survive the Transaction as a subsidiary of Marucci Buyer. Headquartered in Baton Rouge, Louisiana, Marucci is a leading manufacturer and distributor of baseball and softball equipment. Founded in 2009, Marucci has a product portfolio that includes wood and metal bats, apparel and accessories, batting and fielding gloves and bags and protective gear.
The Transaction was completed on April 20, 2020 for a total purchase price of approximately $200 million in cash, subject to certain adjustments based on matters such as the working capital and indebtedness balances at the time of the closing. The Company funded the purchase price using funds drawn on its 2018 Revolving Credit Facility in March 2020. The Company's initial equity ownership in Marucci was approximately 92%, as certain existing stakeholders in Marucci invested in the transaction alongside the Company.
Acquisition of Boa Technology Inc.
On October 16, 2020, the Company, through its newly formed acquisition subsidiaries, BOA Holdings Inc., a Delaware corporation (“BOA Holdings”) and BOA Parent Inc., a Delaware corporation (“BOA Buyer”) and a wholly-owned subsidiary of BOA Holdings, acquired BOA Technology Inc. ("BOA"), and its subsidiaries pursuant to an Agreement and Plan of Merger (the “Agreement and Plan of Merger”) by and among Buyer, Reel Holding Corp., a Delaware corporation (“Reel”) and the sole stockholder of BOA Technology, Inc., BOA Merger Sub Inc., a Delaware corporation and a wholly-owned subsidiary of BOA Buyer (“Merger Sub”) and Shareholder Representative Services LLC (in its capacity as the representative of the stockholders of Reel) entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Reel Holding Corp., a Delaware corporation (“BOA”) and the sole stockholder of BOA Technology, Inc., BOA Merger Sub Inc., a Delaware corporation and a wholly-owned subsidiary of BOA Buyer (“Merger Sub”), and Shareholder Representative Services LLC (in its capacity as the representative of the stockholders of BOA). Pursuant to the Merger Agreement, Merger Sub was merged with and into BOA (the “Merger”) such that the separate existence of Merger Sub ceased, and BOA survived the Merger as a wholly-owned subsidiary of BOA Buyer. BOA, creators of the award-winning BOA® Fit System featured in performance footwear, action sports, outdoor and medical products worldwide, was founded in 2001 and is headquartered in Denver, Colorado. The total purchase price for the acquisition of BOA was $454 million (excluding working capital and certain other adjustments upon closing, and transaction costs). The Company funded the acquisition with cash on hand and a $300 million draw on its 2018 Revolving Credit Facility. The Company's initial equity ownership in BOA is approximately 82%, as certain existing stockholders in BOA invested in the transaction alongside the Company.
Common shares - For the 2020 fiscal year we declared distributions to our common shareholders totaling $1.44 per share.
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Preferred shares - For the 2020 fiscal year we declared distributions to our preferred shareholders totaling $1.8125 per share on our Series A Preferred Shares and $1.96875 on our Series B Preferred Shares and $1.96875 on our Series C Preferred Shares. We also declared a distribution to our preferred shareholders of $0.38281 per share on our Series C Preferred Shares.
2021 Outlook and Significant Trends
Impact of COVID-19 on Our Operations, Financial Condition, Liquidity and Results of Operations
In March 2020, the World Health Organization categorized COVID-19 as a pandemic. COVID-19 continues to spread throughout the United States and other countries across the world, and the duration, severity and ultimate impact on our business are currently unknown. The COVID-19 pandemic led to governments around the world implementing increasingly stringent measures to help control the spread of the virus, including quarantines, “shelter-in-place” and “stay-at-home” orders, travel restrictions, business curtailments, particularly retail operations and non-essential businesses, school closures, and other measures. In addition, governments and central banks in several parts of the world enacted fiscal and monetary stimulus measures to counteract the impacts of COVID-19. The public health situation, global response measures and corresponding impacts on various markets remain fluid and uncertain. We continue to closely monitor the impact of the COVID-19 pandemic on all aspects of our business, including how it is impacting our customers, employees, supply chains, and distribution networks. We experienced and expect to continue to experience reductions in customer demand in certain of our niche industrial end-markets. We expect that the government measures taken to address the spread of the virus, the reduced operational status of some of our suppliers, the reductions in production at certain facilities, and the decrease in foot traffic at many brick and mortar retail businesses will continue to impact our operations during 2021 while the roll out of the COVID-19 vaccine occurs. Vaccines effective in combating COVID-19 were approved by health agencies in various countries in which we operate, however initial quantities of vaccines are limited and vaccine distributions are being allocated first to those members of individual populations believed most susceptible to severe effects from COVID-19. Full administration of the COVID-19 vaccines is unlikely to occur in most jurisdictions until mid- to late-2021. The timing and shape of the COVID-19 recovery as well as the impact and extent of potential resurgences is not presently known. These and other uncertainties with respect to COVID-19 could result in changes to our current expectations in addition to a number of adverse impacts to our business.
During 2020, we worked with management at each of our businesses to reduce our controllable costs, including short-term actions to reduce labor costs, eliminating non-essential travel and reducing discretionary spending, while implementing various measures to ensure that we could continue operating during the COVID-19 pandemic. The health of our team and various stakeholders is our highest priority, and we have taken multiple steps to provide support and a safe work environment. Additionally, our businesses proactively managed working capital and we reduced our capital spending plan for the year, without deferring many key strategic ongoing initiatives.
In the past year, a number of trends affected middle market deal flow, with a slow down beginning at the end of the first quarter with the onset of the COVID-19 pandemic, followed by a sustained increase in activity in the second half of the year. The Company closed on two acquisitions in 2020, Marucci Sports in April and BOA in October, as well as an add-on acquisition at Foam Fabricators in July. The ability to source, finance and close these strategic acquisitions reflects the strength of our permanent capital model and the Company's attractive ownership and management attributes to potential sellers of middle market businesses.
Business Outlook
For 2021, the Company anticipates that COVID-19 will continue to have an impact on its results of operations, including a decrease in operating income and Adjusted EBITDA at certain of its niche industrial businesses. These niche industrial businesses will continue to experience operating constraints as their end markets are expected to be more significantly impacted by the pandemic. For example, the Company expects the Sterno Products division of Sterno to continue to be negatively impacted by the pandemic throughout 2021 due to that division's reliance on the food service industry. However, we expect the diversification of our group of businesses, particularly the continued strong performance in our consumer branded businesses, to offset the expected decline in operating results from the COVID-19 pandemic experienced by these niche industrial businesses. We expect that our outdoor consumer branded businesses, particularly, 5.11, Liberty Safe and Velocity Outdoor, and our 2020 acquisitions, Marucci Sports and BOA, will continue to build on trends experienced in the prior year, particularly the increase in consumer participation in outdoor activities.
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During 2019, the Company received an aggregate total of $771.6 million in net cash proceeds as a result of the divestitures of Manitoba Harvest and Clean Earth, as well as $111.0 million from the issuance and sale of Series C Preferred Shares. In May 2020, the Company completed a share offering of five million Trust common shares resulting in net proceeds of $83.9 million and issued an additional $200 million of our 8% Senior Notes. The Company believes that it currently has adequate liquidity and capital resources to meet its existing obligations, including distributions to its shareholders, as, and if, approved by the Board of Directors, over the next twelve months. However, if the Company’s operations are impacted more than expected during 2021 as a result of the COVID-19 pandemic, the Company’s results of operations could be impacted more dramatically than currently anticipated and as a result, the Company’s liquidity and capital resources could be more constrained than expected.
The areas of focus for 2021, which are generally applicable to each of our businesses, include:
•Achieving sales growth through a combination of new product development, increasing distribution, new customer acquisitions and international expansion;
•Taking market share, where possible, in each of our niche market leading companies, generally at the expense of less well capitalized competitors;
•Striving for excellence in supply chain management, manufacturing and technological capabilities;
•Continuing to pursue expense reduction and cost savings in lower margin business lines or in response to lower production volume;
•Continuing to grow through disciplined, strategic acquisitions and rigorous integration processes; and
•Driving free cash flow through increased net income and effective working capital management, enabling continued investment in our businesses, strategic acquisitions, and distributions to our shareholders.
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Results of Operations
The following discussion reflects a comparison of the historical results of operations of our consolidated business for the years ended December 31, 2020, 2019 and 2018, and components of the results of operations as well as those components presented as a percent of net revenues, for each of our businesses on a stand-alone basis.
We acquired BOA in October 2020, Marucci Sports in April 2020, Foam Fabricators in February 2018, and our Sterno business acquired Rimports in February 2018. In the following results of operations, we provide (i) our actual Consolidated Results of Operations for the years ended December 31, 2020, 2019 and 2018, which includes the historical results of operations of each of our businesses (operating segments) from the date of acquisition in accordance with generally accepted accounting principles in the United States ("GAAP" or "US GAAP") and (ii) comparative historical components of the results of operations for each of our businesses on a stand-alone basis (“Results of Operations – Our Businesses”), for each of the years ended December 31, 2020, 2019 and 2018, where all years presented include relevant pro-forma adjustments for pre-acquisition periods and explanations where applicable. For the 2020 acquisitions of Marucci Sports and BOA, the pro forma results of operations have been prepared as if we purchased these businesses on January 1, 2019. For the 2018 acquisitions of Foam Fabricators and Rimports, the pro forma results of operations have been prepared as if we purchased these businesses on January 1, 2018. We believe this presentation enhances the discussion and provides a more meaningful comparison of operating results. The following operating results of our businesses are not necessarily indicative of the results to be expected for a full year, going forward.
All dollar amounts in the financial tables are presented in thousands. References in the financial tables to percentage changes that are not meaningful are denoted by "NM."
Consolidated Results of Operations — Compass Diversified Holdings
Year Ended December 31,
Asset impairment expense — 32,881 —
Loss on sale of securities — (10,193) —
Loss from continuing operations before income taxes 43,991 (26,031) (8,411)
Year ended December 31, 2020 compared to the Year ended December 31, 2019
Net revenues
Net revenues for the year ended December 31, 2020 increased by approximately $110.5 million or 7.6% compared to the corresponding period in 2019. During the year ended December 31, 2020 as compared to the year ended December 31, 2019, we saw notable sales increases at 5.11 ($12.5 million increase), Liberty ($17.0 million increase) and Velocity ($68.2 million increase) as a result of an increased consumer focus on outdoor related brands. Our Foam Fabricators business also saw an increase in net revenues of $8.6 million as a result of an add-
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on acquisition that occurred in July 2020. Our Marucci business, which we acquired in April 2020, had net sales of $43.4 million during our ownership period in 2020, and our BOA business, which we acquired in October 2020, had net sales of $25.3 million during our period of ownership. These increases in net revenue were partially offset by decreases in net revenue in 2020 as compared to 2019 at our other businesses, primarily as a result of the effects of the COVID-19 pandemic, notably Ergobaby ($15.3 million decrease), Arnold ($21.0 million decrease) and Sterno ($25.5 million decrease). Refer to "Results of Operations - Our Businesses" for a more detailed analysis of net revenue by business segment.
We do not generate any revenues apart from those generated by the businesses we own. We may generate interest income on the investment of available funds, but expect such earnings to be minimal. Our investment in our businesses is typically in the form of loans from the Company to such businesses, as well as equity interests in those businesses. Cash flows coming to the Trust and the Company are the result of interest payments on those loans, amortization of those loans and, in some cases, dividends on our equity ownership. However, on a consolidated basis these items will be eliminated.
Cost of revenues
On a consolidated basis, cost of revenues increased approximately $67.2 million during the year ended December 31, 2020, compared to the corresponding period in 2019, primarily as a result of the increase in net revenues. Gross profit as a percentage of net revenues was approximately 36.1% in year ended December 31, 2020 compared to 35.8% in 2019. We recognized $5.9 million in expense related to the amortization of the inventory step-up resulting from our purchase price allocation of Marucci Sports and BOA and Foam Fabricators' acquisition of Polyfoam during the year ended December 31, 2020. Excluding the effect of the amortization of inventory step-up, gross profit as a percentage of net revenues was 36.4%. Refer to "Results of Operations - Our Businesses" for a more detailed analysis of gross profit by business segment.
Selling, general and administrative expense
Consolidated selling, general and administrative expense increased approximately $36.1 million during the year ended December 31, 2020, compared to the corresponding period in 2019. The increase in selling, general and administrative expense primarily relates to the acquisition of Marucci Sports in April 2020 and BOA in October 2020. In addition to the incremental selling, general and administrative expense incurred by these businesses subsequent to their acquisition, we incurred $4.8 million in acquisition costs and $2.1 million in integration related fees from these acquisitions in 2020. Refer to "Results of Operations - Our Businesses" for a more detailed analysis of selling, general and administrative expense by business segment. At the corporate level, general and administrative expense decreased from $14.9 million in 2019 to $14.2 million in 2020, primarily due to decreased travel costs, partially offset by costs associated with an unsuccessful acquisition.
Fees to manager
Pursuant to the Management Services Agreement, we pay CGM a quarterly management fee equal to 0.5% (2.0% annually) of our consolidated adjusted net assets. We accrue for the management fee on a quarterly basis. Concurrent with the September 2019 sale of Clean Earth, CGM agreed to waive the management fee on cash balances held at the Company, commencing with the quarter ended September 30, 2019 and continuing until the quarter during which the Company next borrowed under the 2018 Revolving Credit Facility. In March 2020, as a proactive measure to provide the Company with additional cash liquidity in light of the COVID-19 pandemic, the Company elected to draw down $200 million on our 2018 Revolving Credit Facility. The Company and CGM entered into a waiver agreement whereby CGM agreed to waive the portion of the management fee attributable to the cash balances held at the Company as of March 31, 2020. Additionally, as a result of an expected decline in earnings and cash flows in the second quarter of 2020, CGM agreed to waive 50% of the management fee calculated at June 30, 2020 that was paid in July 2020. Further, for the third quarter of 2020, the Company and CGM entered into a waiver agreement whereby CGM agreed to waive the portion of the management fee attributable to the cash balances held at the Company as of September 30, 2020. The result of these waivers was a decrease in the management fee during the year ended December 31, 2020 as compared to the prior year, despite the addition of the Marucci business in April 2020. CGM has also entered into a waiver of the MSA for a period through December 31, 2021 to receive a 1% annual management fee related to BOA, rather than the 2% called for under the MSA, which reduced the management fee paid for the fourth quarter of 2020.
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Amortization expense
Amortization expense for the year ended December 31, 2020 increased $7.8 million to $61.9 million as compared to the prior year, primarily as a result of the acquisitions of Marucci in April 2020 and BOA in October 2020.
Impairment expense
Velocity Outdoor performed an interim impairment test of their goodwill during the quarter ended September 30, 2019 as a result of operating results below forecasts in the current period as well as a re-forecast of the Velocity business in which planned earnings and revenue fell below the forecasts of prior periods. The impairment test resulted in Velocity Outdoor recording impairment expense of $32.9 million in the prior year ended December 31, 2019.
Interest Expense
We recorded interest expense totaling $45.8 million for the year ended December 31, 2020 compared to $58.2 million for the comparable period in 2019, a decrease of $12.4 million. The decrease in interest expense for the year ended December 31, 2020 reflects the repayment of our 2018 Term Loan during 2019 using a portion of the proceeds from the sale of Clean Earth and proceeds from the issuance of preferred shares, offset by an increase in interest expense related to our issuance of an additional $200 million of our 8.000% Senior Notes in May 2020.
Income Taxes
We had income tax expense of $16.9 million with an effective income tax rate of 38.4% during the year ended December 31, 2020 compared to income tax expense of $14.7 million with an effective income tax rate of 56.6% during the same period in 2019. The effective tax rate for the years ended December 31, 2020 and 2019 includes a loss at our parent company, which is taxed as a partnership. Although we had income from continuing operations before income taxes for the year ended December 31, 2020 as compared to a loss from continuing operations for the year ended December 31, 2019 ($44.0 million income in 2020 compared to a $26.0 million loss in 2019), our income tax provision increased by only $2.2 million in 2020 as compared to 2019. The tax provision reflects the effect of state and local taxes, foreign taxes and the related allocation of income at our subsidiaries, in addition to effect of the losses at our parent company. The effective income tax rate in the prior year also reflects the effect of the impairment expense recognized at Velocity and the utilization of tax credits.
Year ended December 31, 2019 compared to the Year ended December 31, 2018
Net revenues
Net revenues for the year ended December 31, 2019 increased by approximately $92.9 million or 6.8% compared to the corresponding period in 2018. Our acquisitions of Foam Fabricators and Rimports in February 2018 contributed $11.6 million and $33.1 million, respectively, to the increase in revenue, reflecting a full year of ownership compared to the corresponding period in 2018. We also saw notable sales increases at 5.11 ($40.7 million), Liberty ($13.5 million) and Velocity ($16.5 million increase as a result of the Ravin acquisition in September 2018). These increases in revenue were partially offset by a decrease in net sales at our Sterno business exclusive of Rimports ($16.8 million decrease) in 2019 as compared to 2018. Refer to "Results of Operations - Our Businesses" for a more detailed analysis of net revenue by business segment.
We do not generate any revenues apart from those generated by the businesses we own. We may generate interest income on the investment of available funds, but expect such earnings to be minimal. Our investment in our businesses is typically in the form of loans from the Company to such businesses, as well as equity interests in those businesses. Cash flows coming to the Trust and the Company are the result of interest payments on those loans, amortization of those loans and, in some cases, dividends on our equity ownership. However, on a consolidated basis these items will be eliminated.
Cost of revenues
On a consolidated basis, cost of revenues increased approximately $43.3 million during the year December 31, 2019, compared to the corresponding period in 2018. Our acquisitions of Foam Fabricators and Rimports in February 2018 contributed $6.9 million and $20.8 million, respectively, to the increase in cost of revenues, reflecting a full year of ownership compared to the corresponding period in 2018. We also saw notable increases in cost of sales at 5.11 ($9.9 million), Liberty ($12.1 million) and Velocity ($10.3 million) corresponding to the increase in net
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sales noted above. This was partially offset by a decrease in cost of sales at our legacy Sterno business exclusive of Rimports of $16.3 million.
Gross profit as a percentage of net revenues was approximately 35.8% in year ended December 31, 2019 compared to 34.6% in 2018. Refer to "Results of Operations - Our Businesses" for a more detailed analysis of gross profit by business segment.
Selling, general and administrative expense
Consolidated selling, general and administrative expense increased approximately $15.1 million during the year ended December 31, 2019, compared to the corresponding period in 2018. Refer to "Results of Operations - Our Businesses" for a more detailed analysis of selling, general and administrative expense by business segment. At the corporate level, general and administrative expense increased from $14.3 million in 2018 to $14.9 million in 2019, primarily due to transaction costs associated with an unsuccessful acquisition.
Fees to manager
Pursuant to the Management Services Agreement, we pay CGM a quarterly management fee equal to 0.5% (2.0% annually) of our consolidated adjusted net assets. We accrue for the management fee on a quarterly basis. For the year ended December 31, 2019, we incurred approximately $37.0 million in expense for these fees compared to $43.4 million for the corresponding period in 2018. The $6.4 million decrease in the year ended December 31, 2019 is principally due to the sales of Manitoba Harvest in the first quarter of 2019 and Clean earth in the second quarter of 2019. Concurrent with the June 2019 sale of Clean Earth, CGM agree to waive the management fee on cash balances held at the Company, commencing with the quarter ended June 30, 2019 and continuing until the quarter in which the Company next borrows under the 2018 Revolving Credit Facility.
Amortization expense
Amortization expense for the year ended December 31, 2019 increased $4.5 million to $54.2 million as compared to the prior year, primarily as a result of the acquisitions of Foam Fabricators and Rimports in February 2018, and Ravin in September 2018.
Impairment expense
Velocity Outdoor performed an interim impairment test of their goodwill during the quarter ended September 30, 2019 as a result of operating results below forecasts in the current period as well as a re-forecast of the Velocity business in which planned earnings and revenue fell below the forecasts of prior periods. The impairment test resulted in Velocity Outdoor recording impairment expense of $32.9 million for the year ended December 31, 2019.
Interest Expense
We recorded interest expense totaling $58.2 million for the year ended December 31, 2019 compared to $55.2 million for the comparable period in 2018, an increase of $3.0 million. The increase in interest expense primarily reflects the interest associated with the issuance of our Senior Notes in April 2018. We recorded $32.0 million in interest expense for the year ended December 31, 2019 and $22.5 million in interest expense for the period from the date of issuance through December 31, 2018 related to the Senior Notes. This increase in interest expense as a result of the full year of interest associated with the Senior Notes was offset by a decrease in the average amount outstanding on our 2018 Revolving Credit Facility, which we paid off in June 2019 and did not draw on again during 2019, and the repayment of our 2018 Term Loan during the latter half of 2019.
Income Taxes
We had income tax expense of $14.7 million with an effective income tax rate of 56.6% during the year ended December 31, 2019 compared to income tax expense of $10.5 million with an effective income tax rate of 124.4% during the same period in 2018. The effective tax rate for the years ended December 31, 2019 and 2018 includes a loss at our parent company, which is taxed as a partnership. Although we had a greater loss from continuing operations before income taxes for the year ended December 31, 2019 as compared to the year ended December 31, 2018 ($26.0 million loss in 2019 and $8.4 million loss in 2018), our income tax provision increased by $4.3 million in 2019 as compared to 2018. This increase in the income tax provision was primarily a result of a decrease in the utilization of tax credits in fiscal year 2019, and the goodwill impairment related to Velocity, a portion of which was nondeductible for tax purposes. In the prior year, the effect of the recapitalization at Sterno and state income taxes as well as the geographic mix of income had a significant impact on our effective tax rate.
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Results of Operations — Our Businesses
We categorize the businesses we own into two separate groups of businesses (i) branded consumer businesses, and (ii) niche industrial businesses. Branded consumer businesses are characterized as those businesses that we believe capitalize on a valuable brand name in their respective market sector. We believe that our branded consumer businesses are leaders in their particular category. Niche industrial businesses are characterized as those businesses that focus on manufacturing and selling particular products or services within a specific market sector. We believe that our niche industrial businesses are leaders in their specific market sector.
Branded Consumer Businesses
5.11
Overview
5.11 is a leading provider of purpose-built technical apparel and gear for law enforcement, firefighters, EMS, and military special operations as well as outdoor and adventure enthusiasts. 5.11 is a brand known for innovation and authenticity, and works directly with end users to create purpose-built apparel, footwear and gear designed to enhance the safety, accuracy, speed and performance of tactical professionals and enthusiasts worldwide. 5.11 operates sales offices and distribution centers globally, and 5.11 products are widely distributed in uniform stores, military exchanges, outdoor retail stores, its own retail stores and on 511tactical.com.
Results of Operations
Year ended December 31,
Year ended December 31, 2020 compared to the Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 were $401.1 million, an increase of $12.5 million, or 3.2%, compared to the same period in 2019. This increase is due primarily to growth in e-commerce and retail sales growth of $30.2 million, or 31.2%, driven by growing demand in direct-to-consumer channels, specifically digital. Retail sales grew largely through twelve new retail store openings since December 2019 (bringing the total store count to seventy-three as of December 31, 2020) as well as the full-year impact of the sixteen stores opened in 2019. The increase in net sales for the year ended December 31, 2020 were further increased by Direct-to-Agency (“DTA”) contracts fulfilled in 2020. The increase in net sales for the year ended December 31, 2020 as compared to the prior year was offset by the effects of the COVID-19 pandemic on store traffic in our wholesale channels and our own retail stores.
Gross profit
Gross profit as a percentage of net sales increased from 49.3% in the year ended December 31, 2019 to 50.4% in the year ended December 31, 2020. Growth in gross margin was driven by channel mix as direct-to-consumer sales, which realize a higher gross margin than wholesale sales, grew versus the prior period. The growth in gross profit for the year ended December 31, 2020 as compared to the year ended December 31, 2019 was partially offset by additional inventory reserves and duty drawback accrual (increase in cost of goods sold) for audited duty drawback claims.
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Selling, general and administrative expense
Selling, general and administrative expenses for the year ended December 31, 2020 increased to $162.4 million or 40.5% of net sales compared to $159.4 million or 41.0% of net sales for the year ended December 31, 2019. The decrease in selling, general and administrative expense as a percentage of net sales was driven by management’s decision to reduce variable expenses, including travel and entertainment, sales and marketing, and payroll as a response to decreased sales from the effects of the COVID-19 pandemic. The decrease was partially offset by an increase in marketing spend to drive demand in the growing direct to consumer channels and by the costs associated with additional retail stores (seventy-three open in 2020 versus sixty-one open in 2019 during the comparable period).
Income from operations
Income from operations for the year ended December 31, 2020 was $30.1 million, an increase of $7.7 million when compared to the same period in 2019, based on the factors described above.
Year ended December 31, 2019 compared to the Year ended December 31, 2018
Net sales
Net sales for the year ended December 31, 2019 were $388.6 million, an increase of $40.7 million, or 11.7%, compared to the same period in 2018. This increase is due primarily to retail and e-commerce sales growth of $39.3 million or 44%, driven by growing demand in direct to consumer channels. Retail sales grew largely due to sixteen new retail store openings since December 2018 (bringing the total store count to sixty-one as of December 31, 2019). The increase in net sales for the year ended December 31, 2019 were further increased by strong sales growth at Beyond of $7.5 million or 52%. Through the Beyond product category, 5.11 offers technical survival outerwear systems engineered for missions in extreme conditions. The increase in net sales for the year ended December 31, 2019 as compared to the prior year was offset by an $2.7 million decrease in consumer wholesale and a $1.4 million decrease in professional sales.
Gross Profit
Gross profit as a percentage of net sales increased from 46.2% in the year ended December 31, 2018 to 49.3% in the year ended December 31, 2019. The prior year cost of sales included a higher level of chargebacks incurred and discretionary discounts granted to customers while working through the backlog associated with challenges experienced while implementing a new Enterprise Resource Planning (ERP) system. Gross profit for the year ended December 31, 2019 was positively impacted by channel mix as direct to consumer sales, which realize higher gross profit than wholesale revenues, grew significantly versus the prior year.
Selling, general and administrative expense
Selling, general and administrative expenses for the year ended December 31, 2019 increased to $159.4 million or 41.0% of net sales compared to $147.1 million or 42.3% of net sales in the same period in 2018. The decrease in selling, general and administrative expense as a percentage of net sales was primarily due to the higher level of expense in the prior year associated with the move into 5.11’s new Manteca warehouse facility. The decrease in selling, general and administrative expense as a percentage of net sales was further impacted by leveraging and controlling travel expenses during fiscal year 2019. The decrease was partially offset by an increase in marketing spend to drive demand in the growing direct to consumer channels as well as performance based bonuses in fiscal year 2019.
Income (loss) from operations
Income from operations for the year ended December 31, 2019 was $22.4 million, an increase of $18.5 million when compared to the same period in 2018, based on the factors described above.
BOA
Overview
BOA Technology, creator of the revolutionary, award-winning, patented BOA Fit System, partners with market-leading brands to make the best gear even better. Delivering fit solutions purpose-built for performance, the BOA Fit System is featured in footwear across snow sports, cycling, hiking/trekking, golf, running, court sports, workwear as
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well as headwear and medical bracing. The system consists of three integral parts: a micro-adjustable dial, high-tensile lightweight laces, and low friction lace guides creating a superior alternative to laces, buckles, Velcro, and other traditional closure mechanisms. Each unique BOA configuration is engineered for fast, effortless, precision fit, and is backed by The BOA Lifetime Guarantee. BOA is headquartered in Denver, Colorado and has offices in Austria, Greater China, South Korea, and Japan.
Results of Operations
In the following results of operations, we provide comparative pro forma results of operations for BOA for the years ended December 31, 2020 and 2019 as if we had acquired the business on January 1, 2019. The results of operations that follow include relevant pro-forma adjustments for pre-acquisition periods and explanations where applicable. The operating results for BOA have been included in the consolidated results of operation from the date of acquisition through December 31, 2020.
Year ended December 31,
(in thousands) (Pro forma) (Pro forma)
Pro forma financial information for BOA for the year ended December 31, 2020 and December 31, 2019 includes pre-acquisition results of operations for the period from January 1, 2020 through October 16, 2020, the acquisition date of BOA, and January 1, 2019 through December 31, 2019, for comparative purposes. The historical results of BOA have been adjusted to reflect the purchase accounting adjustments recorded in connection with the acquisition. Pro forma results of operations include the following pro forma adjustments as if we had acquired BOA January 1, 2019:
•Depreciation expense associated with the increase in depreciable lives of capital assets of $0.1 million for the year ended December 31, 2019.
•Amortization expense associated with the intangible assets recorded in connection with the purchase price allocation for BOA of $11.9 million for the year ended December 31, 2020, and $15.0 million for the year ended December 31, 2019.
•Management fees that would have been payable to the Manager during each period.
Pro Forma Year ended December 31, 2020 compared to the Pro Forma Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 were $106.4 million, an increase of $0.1 million or 0.1% when compared to net sales of $106.3 million for the year ended December 31, 2019.
Gross profit
Gross profit as a percentage of net sales was 59.1% for the year ended December 31, 2020 compared to 58.0% for the same period in 2019. The cost of sales for the year ended December 31, 2020 includes $1.5 million related to the amortization of inventory step-up resulting from the acquisition purchase price allocation. Excluding the effect of the inventory step-up, the gross profit as a percentage of net sales for the year ended December 31, 2020 was 60.5%. The increase in gross profit as a percentage of net sales during the current year is attributable primarily to product mix.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2020 was $40.8 million, an increase of $1.7 million as compared to selling, general and administrative expense of $39.2 million for the year ended December 31, 2019. Selling, general and administrative expense for the year ended December 31, 2020 included $2.5 million in transaction costs related to the acquisition of BOA, and $1.1 million in integration services fees paid to CGM. Excluding these nonrecurring costs, selling, general and administrative expense for the year ended December 31, 2020 was approximately $37.2 million, a decrease of $2.0 million compared to the year ended
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December 31, 2019. This decrease was primarily attributable to a reduction in marketing activity and a reduced level of travel during 2020.
Income from operations
Income from operations was $5.8 million for the year ended December 31, 2020 as compared to $6.3 million in income from operations in the year ended December 31, 2019, a decrease of $0.5 million based on the factors noted above.
Ergobaby
Overview
Ergobaby, headquartered in Los Angeles, California, is a designer, marketer and distributor of wearable baby carriers and accessories, blankets and swaddlers, nursing pillows, strollers, and related products. Ergobaby primarily sells its Ergobaby and Baby Tula branded products through brick-and-mortar retailers, national chain stores, online retailers, its own websites and distributors and derives more than half of its sales from outside of the United States.
Results of Operations
Year ended December 31,
Year ended December 31, 2020 compared to the Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 were $74.7 million, a decrease of $15.3 million or 17.0% compared to the same period in 2019. During the year ended December 31, 2020, international sales were approximately $48.1 million, representing a decrease of $13.9 million over the corresponding period in 2019 primarily as a result of reduced sales volume at Ergobaby's Asia-Pacific and EMEA distributors as a result of the COVID-19 pandemic. Domestic sales were $26.7 million during the year ended December 31, 2020, reflecting a decrease of $1.4 million compared to the corresponding period in 2019. The decrease in domestic sales was driven by the Tula brand, primarily in the specialty account channel.
Gross profit
Gross profit as a percentage of net sales was 66.0% for the year ended December 31, 2020 compared to 63.4% for the same period in 2019. The increase in gross profit as a percentage of net sales was due to the mix of sales channels, mix of products sold, as well as reduced freight costs and warranty expense during the year ended December 31, 2020.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2020 decreased to approximately $36.3 million or 48.6% of net sales compared to $38.9 million or 43.2% of net sales for the same period of 2019. The decrease in selling, general and administrative expense for the year ended December 31, 2020 as compared to the year ended December 31, 2019 is a result of decreases in variable expenses in response to the COVID-19 pandemic and non-recurring expenses in the prior year.
Income from operations
Income from operations for the year ended December 31, 2020 decreased $5.2 million, to $5.2 million, compared to $10.4 million for the same period of 2019, primarily as a result of the factors described above.
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Year ended December 31, 2019 compared to the Year ended December 31, 2018
Net sales
Net sales for the year ended December 31, 2019 were $90.0 million, a decrease of $0.6 million or 0.6% compared to the same period in 2018. During the year ended December 31, 2019, international sales were approximately $62.0 million, representing an increase of $4.0 million over the corresponding period in 2018. Domestic sales were $28.0 million during the year ended December 31, 2019, reflecting a decrease of $4.6 million compared to the corresponding period in 2018. The decrease in domestic sales was primarily the result of declines in both the Ergobaby and Tula brands.
Gross Profit
Gross profit as a percentage of net sales was 63.4% for the year ended December 31, 2019 compared to 65.9% for the same period in 2018. The decrease in gross profit as a percentage of net sales in the year ended December 31, 2019 compared to the year ended December 31, 2018 was due to changes in product mix from higher margin channels to lower margin channels.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2019 decreased to approximately $38.9 million or 43.2% of net sales compared to $40.2 million or 44.4% of net sales for the same period of 2018. The decrease in selling, general and administrative expense for the year ended December 31, 2019 as compared to the year ended December 31, 2018 is due to lower variable expenses related to sales, reduction in headcount, reduction in marketing spend and reduced travel in 2019. This was partially offset by additional legal fees incurred during 2019.
Income from operations
Income from operations for the year ended December 31, 2019 decreased $1.1 million, to $10.4 million, compared to $11.5 million for the same period of 2018, primarily as a result of the factors described above.
Liberty Safe
Overview
Founded in 1988 and based in Payson, Utah, Liberty Safe is the premier designer, manufacturer and marketer of home and gun safes in North America. From its over 300,000 square foot manufacturing facility, Liberty Safe produces a wide range of home and gun safe models in a broad assortment of sizes, features and styles ranging from an entry level product to good, better and best products. Products are marketed under the Liberty brand, as well as a portfolio of licensed and private label brands, including Cabela’s and John Deere. Liberty Safe’s products are the market share leader and are sold through an independent dealer network ("Dealer sales") in addition to various sporting goods, farm and fleet and home improvement retail outlets ("Non-Dealer sales"). Liberty has the largest independent dealer network in the industry.
Results of Operations
Year ended December 31,
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Year ended December 31, 2020 compared to the Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 increased approximately $17.0 million or 17.6%, to $113.1 million, compared to the corresponding year ended December 31, 2019. Non-Dealer sales were approximately $54.3 million in 2020 compared to $45.8 million in 2019, representing an increase of $8.5 million or 18.6%. The increase in Non-Dealer sales was attributable to a new customer in the Farm and Fleet channel in the latter half of 2019 as well as increased sales at sporting goods retailers during 2020, despite the shutdown of retail stores resulting from stay at home orders issued by local governments. Dealer sales totaled approximately $58.8 million in the year ended December 31, 2020 compared to $50.4 million in the same period in 2019, representing an increase of $8.4 million or 16.7%. The increase in Dealer sales reflects higher demand for safes driven by an expanding addressable customer base, increased knowledge of the benefits of secure valuables storage, increasing civil and political unrest, and more frequent severe weather events. Liberty Safe’s sales backlog was approximately $14.5 million at December 31, 2020 compared to approximately $5.7 million at December 31, 2019.
Gross profit
Gross profit as a percentage of net sales totaled approximately 25.6% in the year ended December 31, 2020 compared to 21.8% in the year ended December 31, 2019. The increase in gross profit as a percentage of sales during the year ended December 31, 2020 compared to the same period in 2019 is primarily attributable to favorable manufacturing variances as a result of increased production volume, customer-specific margin enhancement initiatives, and a decrease in certain material costs in 2020 compared to 2019.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2020 decreased to approximately $11.7 million or 10.3% of net sales compared to $12.0 million or 12.4% of net sales for the same period of 2019. The $0.3 million decrease in selling, general and administrative expense despite the increase in net sales is primarily attributable to decreased advertising expense in 2020 as well as lower variable costs resulting from the increase in sales.
Income from operations
Income from operations increased $8.3 million during the year ended December 31, 2020 to $16.8 million compared to income from operations of $8.5 million during the same period in 2019, principally as a result of the increase in sales and gross profit in 2020, as described above.
Year ended December 31, 2019 compared to the Year ended December 31, 2018
Net sales
Net sales for the year ended December 31, 2019 increased approximately $13.5 million or 16.3%, to $96.2 million, compared to the corresponding period ended December 31, 2018. Non-Dealer sales were approximately $45.8 million in 2019 compared to $32.9 million in 2018, representing an increase of $12.8 million or 38.9%. The increase in Non-Dealer sales was primarily due to the addition of a new customer in the Farm and Fleet channel in the year ended December 31, 2019. Dealer sales totaled approximately $50.4 million in the year ended December 31, 2019 compared to $49.7 million in the same period in 2018, representing an increase of $0.6 million or 1.2%. Liberty Safe’s sales backlog was approximately $5.7 million at December 31, 2019 compared to approximately $6.0 million at December 31, 2018.
Gross Profit
Gross profit as a percentage of net sales totaled approximately 21.8% in the year ended December 31, 2019 compared to 23.8% in the year ended December 31, 2018. The decrease in gross profit as a percentage of sales during the year ended December 31, 2019 compared to the same period in 2018 is attributable primarily to increased raw material costs in the first half of the year as well as changes in freight costs for certain customers in fiscal year 2019 which has decreased margins for these customers.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2019 decreased to approximately $12.0 million or 12.4% of net sales compared to $13.2 million or 15.9% of net sales for the same period of 2018.
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The $1.2 million decrease is primarily attributable to a planned reduction in advertising expense as Liberty refocused its ad spending from national radio and print advertising to digital media, and a reduction in co-op advertising allowances for certain national retailers.
Income from operations
Income from operations increased $2.6 million during the year ended December 31, 2019 to $8.5 million compared to income from operations of $5.9 million during the same period in 2018, principally as a result of the increase in sales and gross profit in 2019, as described above.
Marucci Sports
Overview
Founded in 2009 and headquartered in Baton Rouge, Louisiana, Marucci is a leading designer, manufacturer, and marketer of premium wood and metal baseball bats, fielding gloves, batting gloves, bags, protective gear, sunglasses, on and off-field apparel, and other baseball and softball equipment used by professional and amateur athletes. Marucci also develops and licenses franchises for sports training facilities. Marucci products are available through owned websites, their team sales organization, Big Box Retailers, and third party e-commerce & resellers.
Results of Operations
In the following results of operations, we provide comparative pro forma results of operations for Marucci for the years ended December 31, 2020 and 2019 as if we had acquired the business on January 1, 2019. The results of operations that follows include relevant pro-forma adjustments for pre-acquisition periods and explanations where applicable. The operating results for Marucci have been included in the consolidated results of operation from the date of acquisition through December 31, 2020.
Year ended December 31,
(in thousands) (Pro forma) (Pro forma)
Pro forma financial information for Marucci for the year ended December 31, 2020 and December 31, 2019 includes pre-acquisition results of operations for the period from January 1, 2020 through April 20, 2020, the acquisition date of Marucci, and January 1, 2019 through December 31, 2019, for comparative purposes. The historical results of Marucci have been adjusted to reflect the purchase accounting adjustments recorded in connection with the acquisition. Pro forma results of operations include the following pro forma adjustments as if we had acquired Marucci January 1, 2019:
•Depreciation expense associated with the increase in depreciable lives of capital assets of $0.2 million for the year ended December 31, 2020, and $0.8 million for the year ended December 31, 2019.
•Amortization expense associated with the intangible assets recorded in connection with the purchase price allocation for Marucci of $1.2 million for the year ended December 31, 2020, and $4.1 million for the year ended December 31, 2019.
•Management fees that would have been payable to the Manager during each period.
Pro Forma Year ended December 31, 2020 compared to the Pro Forma Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 were $65.9 million, a decrease of $0.6 million as compared to net sales of $66.5 million for the year ended December 31, 2019. During 2020, Marucci was affected by the economic slowdown resulting from the COVID-19 pandemic with baseball and softball seasons postponed in the spring and early summer throughout much of the United States. Marucci's “brick and mortar” retail partners were forced to close as a result of the pandemic thus Marucci did not receive fill-in orders during this period. As a result, sales of aluminum and wood bats were significantly less in the first and second quarter of 2020 when compared to the same
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period last year. Additionally, Major League Baseball postponed the beginning of their season eliminating the need for wood bats to be purchased for the professional season. During June 2020, Marucci began to see demand pick up as the baseball and softball seasons began and in August 2020, the company launched its CAT9 line of aluminum and composite bats.With the success of this launch, the demand pickup continued through the remainder of 2020.
Gross profit
Gross profit for the year ended December 31, 2020 decreased $2.1 million as compared to the year ended December 31, 2019. Gross profit as a percentage of sales was 51.2% for the year ended December 31, 2020 as compared to 53.9% for the year ended December 31, 2019. The cost of sales for the year ended December 31, 2020 includes $4.3 million related to the amortization of inventory step-up resulting from the acquisition purchase price allocation. Excluding the effect of the inventory step-up, the gross profit as a percentage of net sales for the year ended December 31, 2020 was 57.7%. The increase in gross profit as a percentage of net sales was attributable to an increase in retail sales price of Marucci's aluminum bats, specifically the CAT9, increased e-commerce sales resulting from the closure of retail brick and mortar stores at various times during 2020, and greater operating efficiencies resulting from Marucci's consolidation of its wood mills during the latter part of 2019.
Selling, general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2020 was $30.5 million, or 46.2% of net sales compared to $30.9 million, or 46.5% of net sales for the year ended December 31, 2019. Selling, general and administrative expense for the year ended December 31, 2020 includes $2.0 million in acquisition related costs that were expensed at the close of the Marucci acquisition, and $1.0 million in integration service fees paid to CGM. Excluding the effect of the acquisition costs and integration service fees, selling, general and administrative expense for the year ended December 30, 2020 was $27.5 million, with the decrease in expense attributable to reductions in travel and entertainment as a result of the COVID-19 pandemic, a reduction in royalty fees related to the acquisition in 2019 of a technology used with Marucci's aluminum bats, and a decrease in commission expense due to bringing the Marucci's sales team in-house.
Loss from operations
Loss from operations for the year ended December 31, 2020 was $3.9 million compared to loss from operations of $0.6 million for the same period in 2019, primarily as a result of the factors noted above.
Velocity Outdoor
Overview
Velocity Outdoor is a leading designer, manufacturer, and marketer of airguns, archery products, laser aiming devices and related accessories. Velocity Outdoor offers its products under the highly recognizable Crosman, Benjamin, LaserMax, Ravin and CenterPoint brands that are available through national retail chains, mass merchants, dealer and distributor networks. Airguns historically represent Velocity Outdoor's largest product category. The airgun product category consists of air rifles, air pistols and a range of accessories including targets, holsters and cases. Velocity Outdoor's other primary product categories are archery, with products including CenterPoint and Ravin crossbows, consumables, which includes steel and plastic BBs, lead pellets and CO2 cartridges, lasers for firearms, and airsoft products. In September 2018, Velocity acquired Ravin Crossbows, a manufacturer and innovator of crossbows and accessories. Ravin primarily focuses on the higher-end segment of the crossbow market and has developed significant intellectual property related to the advancement of crossbow technology. The results of Ravin are included in the results of operations from the date of acquisition.
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Results of Operations
Year ended December 31,
Impairment expense $ — — % $ 32,881 22.2 % $ — — %
Year ended December 31, 2020 compared to the Year ended December 31, 2019
Net sales
Net sales for the year ended December 31, 2020 were $216.0 million compared to net sales of $147.8 million for the year ended December 31, 2019, an increase of $68.2 million or 46.1%. The increase in net sales during the year ended December 31, 2020 is due to a significant increase in customer demand that we have experienced in the current year reflecting consumer focus on outdoor branded products, as well as the introduction of several new products during 2020.
Gross profit
Gross profit as a percentage of net sales was 30.9% for the year ended December 31, 2020 as compared to 27.5% in the year December 31, 2019. The increase in gross profit as a percentage of net sales was primarily attributable to product and customer mix.
Selling general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2020 was $32.3 million, or 14.9% of net sales compared to $25.3 million, or 17.1% of net sales, for the year ended December 31, 2019. The increase in selling, general and administrative expense is primarily related to volume driven expenses that correlate to the increase in sales, as well as additional investments in marketing.
Income (loss) from operations
Income from operations for the year ended December 31, 2020 was $24.9 million, an increase of $52.1 million when compared to loss from operations of $27.1 million for the comparable period in 2019. Velocity recognized impairment expense of $32.9 million in 2019 after determining that interim impairment testing was necessary in the prior year. The increase in operating income in the year ended December 31, 2020 reflects the factors noted above, and the effect of the impairment expense on the operating income in 2019.
Year ended December 31, 2019 compared to the Year ended December 31, 2018
Net sales
Net sales for the year ended December 31, 2019 were $147.8 million compared to net sales of $131.3 million for the year ended December 31, 2018, an increase of $16.5 million or 12.6%. The increase in net sales for the year ended December 31, 2019 is primarily due to add-on acquisition of Ravin Crossbows in September 2018, partially offset by sales associated with the non-recurring Junior Reserves Officer Training Corps (JROTC) contract that shipped in the first half of 2018. Ravin had net sales of $43.0 million in the year ended December 31, 2019, representing a full year of ownership, compared to $12.7 million in the year ended December 31, 2018.
Gross Profit
Gross profit as a percentage of net sales was 27.5% for the year ended December 31, 2019 as compared to 26.2% in the year December 31, 2018. Cost of sales for the year ended December 31, 2018 included $2.5 million in expense related to the inventory step-up resulting from the purchase price allocation for Ravin. Excluding the effect of the inventory step-up, gross profit as a percentage of net sales was 28.1% for the year ended December 31, 2018. The decrease in gross profit as a percentage of sales in the year ended December 31, 2019 as compared to
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the year ended December 3, 2018 was primarily due to mix within the archery product line as well as the gross margin impact from the 2018 of the JROTC contract.
Selling general and administrative expense
Selling, general and administrative expense for the year ended December 31, 2019 was $25.3 million, or 17.1% of net sales compared to $22.8 million, or 17.3% of net sales, for the year ended December 31, 2018. The selling, general and administrative expense for the year ended December 31, 2018 included $1.3 million in acquisition costs related to our acquisition of Ravin in September 2018 while fiscal year 2019 had higher expenses associated with the full year impact of the Ravin acquisition, as well as an increase in the fair value of the Ravin earn-out of $2.0 million that was recorded in the fourth quarter of 2019.
Impairment expense
As a result of operating results below forecasts in the current period as well as a re-forecast of the Velocity business in which planned earnings and revenue fell below the forecasts of prior periods, Velocity performed an interim impairment test of their goodwill during the quarter ended September 30, 2019, which resulted in the recording of impairment expense of $32.9 million.
(Loss) income from operations
Loss from operations for the year ended December 31, 2019 was $27.1 million, a decrease of $32.0 million when compared to income from operations of $4.9 million for the comparable period in 2018, primarily as a result of the impairment expense recognized during the third quarter of 2019.
Niche Industrial Businesses
Advanced Circuits
Overview