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BREW > SEC Filings for BREW > Form 10-Q on 8-May-2013All Recent SEC Filings

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Form 10-Q for CRAFT BREW ALLIANCE, INC.


8-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

This quarterly report on Form 10-Q includes forward-looking statements. Generally, the words "believe," "expect," "intend," "estimate," "anticipate," "project," "will," "may," "plan" and similar expressions or their negatives identify forward-looking statements, which generally are not historical in nature. These statements are based upon assumptions and projections that we believe are reasonable, but are by their nature inherently uncertain. Many possible events or factors could affect the Company's future financial results and performance, and could cause actual results or performance to differ materially from those expressed, including those risks and uncertainties described in Part I, Item 1A. "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2012 ("2012 Annual Report"), and those described from time to time in our future reports filed with the Securities and Exchange Commission (the "SEC"). Caution should be taken not to place undue reliance on these forward-looking statements, which speak only as of the date of this quarterly report.

The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes thereto included herein, as well as the audited Consolidated Financial Statements and Notes and Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our 2012 Annual Report. The discussion and analysis includes period-to-period comparisons of our financial results. Although period-to-period comparisons may be helpful in understanding our financial results, we believe that they should not be relied upon as an accurate indicator of future performance.


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Overview

Craft Brew Alliance is an independent craft brewer formed by the union of four unique and pioneering craft beer brands:

Redhook Ale Brewery founded by Gordon Bowker and Paul Shipman in 1981 in Seattle, Washington;

Widmer Brothers Brewing founded by brothers Kurt and Rob Widmer in 1984 in Portland, Oregon;

Kona Brewing Co. founded by father and son team Cameron Healy and Spoon Khalsa in 1994 in Kona, Hawaii; and

Omission Beer internally developed by our brewing team in 2012 in Portland, Oregon.

Since our formation, we have focused our business activities on satisfying consumers through the brewing, marketing and selling of high-quality craft beers in the United States. Today, as an independent craft brewer, we possess several distinct advantages, unique in the craft beer category. These advantages derive from the combination of our innovative quality craft beers; the strength of our distinct, authentic brand portfolio; our seamless national distribution and national sales and marketing reach; our financial capabilities as a public company; our owned brew pubs; and our bi-coastal breweries.

We proudly brew our craft beers in four company-owned breweries including three mainland breweries located in Portsmouth, New Hampshire; Portland, Oregon; and the Seattle suburb of Woodinville, Washington; and one Hawaii brewery located in Kailua-Kona, Hawaii. We also own and operate a small pilot brewery, primarily used for small batch production and innovative brews, at the Rose Quarter sports arena in Portland, Oregon.

We distribute our beers to retailers through independent wholesalers that are aligned with the Anheuser-Busch, LLC ("A-B") network. These sales are made pursuant to a Master Distributor Agreement (the "A-B Distributor Agreement") with A-B. Our agreement with A-B initially allowed us to establish relationships nationwide with these wholesalers. As a result of this distribution arrangement, we believe that, under alcohol beverage laws in a majority of states, these wholesalers own the exclusive right to distribute our beers in their respective markets if the A-B Distributor Agreement expires or is terminated. Redhook and Widmer Brothers beers are distributed in all 50 states and Kona beers are distributed in 36 states. Omission Beer recently became available nationally and we continue to expand into new markets in both the U.S. and internationally. Separate from our A-B wholesalers, we maintain an independent sales and marketing organization with resources across the key functions of brand management, field marketing, field sales, and national retail sales.

We operate in two segments: Beer Related operations and Pubs. Beer Related operations include the brewing and sale of craft beers from our five breweries, both domestically and internationally. Pubs operations primarily include our five pubs, four of which are located adjacent to our Beer Related operations, other merchandise sales, and sales of our beers directly to customers.

Following is a summary of our financial results:

                                                                      Number of
         Three Months Ended                             Net            Barrels
             March 31,           Net Sales         Income (Loss)         Sold
                2013          $  36.6 million     $ (1.8) million        155,700
                2012          $ 38.5  million     $  0.7  million        169,900


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Results of Operations

The following table sets forth, for the periods indicated, certain information
from our Consolidated Statements of Operations expressed as a percentage of net
sales(1):

                                                    Three Months Ended March 31,
                                                     2013                  2012
  Sales                                                  107.6 %               108.1 %
  Less excise tax                                          7.6                   8.1
  Net sales                                              100.0                 100.0
  Cost of sales                                           75.6                  69.6
  Gross profit                                            24.4                  30.4
  Selling, general and administrative expenses            32.1                  26.9
  Operating income (loss)                                 (7.7 )                 3.5
  Interest expense                                        (0.4 )                (0.4 )
  Interest and other income (expense), net                (0.1 )                   -
  Income (loss) before income taxes                       (8.2 )                 3.0
  Income tax provision (benefit)                          (3.3 )                 1.2
  Net income (loss)                                       (4.8 )%                1.8 %

(1) Percentages may not add due to rounding.

Segment Information
Net sales, gross profit and gross margin information by segment was as follows
(dollars in thousands):

                   Three Months Ended March 31,
                  Beer
2013            Related          Pubs        Total
Net sales      $   31,250       $ 5,359     $ 36,609
Gross profit   $    8,326       $   617     $  8,943
Gross margin         26.6 %        11.5 %       24.4 %



2012
Net sales      $ 33,113     $ 5,386     $ 38,499
Gross profit   $ 10,914     $   793     $ 11,707
Gross margin       33.0 %      14.7 %       30.4 %

Sales by Category
The following tables set forth a comparison of sales by category (dollars in
thousands):

                                              Three Months Ended March 31,          Dollar
Sales by Category                               2013                 2012           Change        % Change
A-B and A-B related                        $       31,862       $       33,153     $  (1,291 )         (3.9 )%
Contract brewing and beer related(1)                2,160                3,073          (913 )        (29.7 )%
Excise taxes                                       (2,772 )             (3,113 )         341          (11.0 )%
Net beer related sales                             31,250               33,113        (1,863 )         (5.6 )%
Pubs(2)                                             5,359                5,386           (27 )         (0.5 )%
Net sales                                  $       36,609       $       38,499     $  (1,890 )         (4.9 )%

(1) Beer related includes international beer sales.

(2) Pubs sales include sales of promotional merchandise and sales of beer directly to customers.


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Shipments by Category
Shipments by category were as follows (in barrels):

            Three Months                  2013           2012                                %             Change in
          Ended March 31,              Shipments      Shipments       Barrel Change       Change         Depletions(1)
A-B and A-B related                       144,800        150,300              (5,500 )        (3.7 )%                 5 %
Contract brewing and beer related(2)        8,500         17,200              (8,700 )       (50.6 )%
Pubs                                        2,400          2,400                   -             -
Total                                     155,700        169,900             (14,200 )        (8.4 )%

(1) Change in depletions reflects the year-over-year change in barrel volume sales of beer by wholesalers to retailers.

(2) Contract brewing and beer related includes international shipments of our beers.

The decrease in sales to A-B and A-B related in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to lower shipments. The lower shipments are a result of optimizing our supply chain processes, including brewing, to more closely align with the seasonality of our beer sales.

The decrease in contract brewing and beer related sales in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to a $1.4 million decrease in contract brewing sales to FSB as a result of the mutually-agreed upon termination of our contract brewing agreement with FSB effective September 1, 2012. Pursuant to this agreement, we phased out production of FSB branded beers by the end of November 2012 utilizing remaining inventory on-hand. In consideration, FSB is paying us $70,000 per month through September 2013.

Pubs sales was unchanged in the three-month period ended March 31, 2013 compared to the same period of 2012. This was a result of our Kona Pubs in Hawaii experiencing increased sales as a result of higher guest counts in the three-month period ended March 31, 2013 compared to the same period of 2012, offset by lower sales at our Redhook Pub in Woodinville, Washington as a result of a temporary closure for a full remodel of that location. The Redhook Pub in Woodinville, Washington is expected to re-open by the end of May 2013.

The decrease in excise taxes in the three-month period ended March 31, 2013 compared to the same period of 2012 was due to the decrease in shipments.

Shipments by Brand
The following table sets forth a comparison of shipments by brand (in barrels):

 Three Months        2013           2012          Increase          %          Change in
Ended March 31,   Shipments      Shipments       (Decrease)      Change        Depletions
Kona                  51,800         48,400            3,400         7.0 %              23 %
Widmer Brothers       51,400         60,500           (9,100 )     (15.0 )%             (9 )%
Redhook               45,000         44,400              600         1.4 %               6 %
Total(1)             148,200        153,300           (5,100 )      (3.3 )%              5 %

(1) Total shipments by brand include international shipments and exclude shipments produced under our contract brewing arrangements.

The increase in our Kona brand shipments in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to the introduction of our Big Wave Golden Ale, previously available only in Hawaii, on the mainland during the third quarter of 2012, as well as expansion into certain Midwest states at the beginning of 2013.


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The decrease in our Widmer Brothers brand shipments in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to sales declines for our Hefeweizen beer, which is experiencing pressure from large, multi-national wheat beer competitors, particularly in draft in California. The decreases were partially offset by the increase in shipments of our Omission brand family, which is included in the Widmer Brothers shipments.

The increase in our Redhook brand shipments in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily the result of launching our new Audible Ale, a craft beer developed in partnership with Dan Patrick, at the Super Bowl in February 2013.

For each of the brand families discussed above, shipments lagged depletions as a result of optimizing our supply chain processes, including brewing, to more closely align with the seasonality of our beer sales, as noted above.

Shipments by Package
The following table sets forth a comparison of our shipments by package,
excluding private label shipments produced under our contract brewing
arrangements (in barrels):

         Three Months                2013                            2012
        Ended March 31,   Shipments       % of Total      Shipments       % of Total
        Draft                 47,300             31.9 %       53,600             35.0 %
        Packaged             100,900             68.1 %       99,700             65.0 %
        Total                148,200            100.0 %      153,300            100.0 %

The shift in package mix from draft to packaged in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily the result of the increase in volumes on our Kona packaged beer and lower volumes on our Hefeweizen draft beer. On-premise draft beer sales are also pressured by increased competition across the industry as a result of both the entry of large, multi-national brewers into the craft beer segment and the significant increase in small, local breweries nationally.

Cost of Sales
Cost of sales includes purchased raw materials, direct labor, overhead and
shipping costs.

Information regarding cost of sales was as follows (dollars in thousands):

                  Three Months Ended March 31,          Dollar
                    2013                 2012           Change      % Change
Beer Related   $       22,924       $       22,199     $    725           3.3 %
Pubs                    4,742                4,593          149           3.2 %
Total          $       27,666       $       26,792     $    874           3.3 %

The increase in Beer Related cost of sales in the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to low capacity utilization in the current quarter. During the quarter, we brewed significantly less beer than last year which resulted in lower overhead absorption. The lower brewing volume was a result of optimizing our supply chain processes to more closely align with the seasonality of our beer sales. The cost increase was also driven by the mix shift from draft to packaged product as the per barrel equivalent cost of packaged is more than draft and higher distribution costs. These increases were partially offset by the decrease in shipments discussed above.

Pubs cost of sales in the three-month period ended March 31, 2013 compared to the same period of 2012 increased slightly primarily due to increases across various categories, including labor, food, merchandise, rent and administrative costs.


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Capacity utilization is calculated by dividing total shipments by the approximate working capacity and was as follows:

Three Months Ended March 31, 2013 2012 Capacity utilization 57.9 % 75.5 %

During 2012, we increased the combined capacity of our production breweries from approximately 900,000 barrels per year to approximately 1,075,000 barrels per year.

Gross Profit
Information regarding gross profit was as follows (dollars in thousands):

                  Three Months Ended March 31,          Dollar
                   2013                 2012            Change       % Change
Beer Related   $       8,326       $        10,914     $ (2,588 )        (23.7 )%
Pubs                     617                   793         (176 )        (22.2 )%
Total          $       8,943       $        11,707     $ (2,764 )        (23.6 )%

Gross profit as a percentage of net sales, or gross margin, was as follows:

Three Months Ended March 31,

                    2013                   2012
Beer Related             26.6 %                 33.0 %
Pubs                     11.5 %                 14.7 %
Overall                  24.4 %                 30.4 %

The decrease in gross profit in the three-month period ended March 31, 2013 compared to the same period of 2012 was due to the decrease in shipment volumes discussed above, as well as a decline in our overall gross margin rates. The decline in the Beer Related gross margin rate was primarily due to lower capacity utilization contributing to lower overhead absorption. The decline in the Pubs gross margin rate was primarily due to flat Pubs sales combined with the slight increase in material and labor costs.

Selling, General and Administrative Expenses Selling, general and administrative expenses ("SG&A") include compensation and related expenses for our sales and marketing activities, management, legal and other professional and administrative support functions.

Information regarding SG&A was as follows (dollars in thousands):

                         Three Months Ended March 31,         Dollar
                           2013                 2012          Change       % Change
                      $       11,760       $       10,373     $ 1,387           13.4 %
As a % of net sales             32.1 %               26.9 %

The increase in SG&A for the three-month period ended March 31, 2013 compared to the same period of 2012 was primarily due to an increase in: (a) employee related costs, which includes severance due to a reorganization in our commercial operations group and additional staffing; (b) professional fees, which includes additional costs related to international sales; and (c) media and other promotional activities, which includes advertising and sponsorships. SG&A increased as a percentage of net sales in the three-month period ended March 31, 2013 compared to the same period of 2012 primarily due to changes in the year-over-year timing of expenditures.


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Interest Expense
Information regarding interest expense was as follows (dollars in thousands):

                  Three Months Ended March 31,          Dollar
                   2013                  2012           Change       % Change
Three Months   $         156         $         166     $    (10 )         (6.0 )%



                              Three Months Ended March 31,
                                2013                 2012
Average debt outstanding   $       13,000       $       13,700
Average interest rate                1.91 %               2.03 %

The decrease in interest expense in the three-month period ended March 31, 2013 compared to the same period of 2012 was due to lower average outstanding borrowings and lower average interest rates.

Income Tax Provision
Our effective income tax rate was 40.8% for the first three months of 2013 and 40.5% in the first three months of 2012. The effective income tax rates reflect the impact of non-deductible expenses, primarily state and local taxes, meals and entertainment expenses and tax credits.

Liquidity and Capital Resources

We have required capital primarily for the construction and development of our production breweries, to support our expansion and growth plans and to fund our working capital needs. Historically, we have financed our capital requirements through cash flows from operations, bank borrowings and the sale of common and preferred stock. We anticipate meeting our obligations for the twelve months beginning April 1, 2013 primarily from cash flows generated from operations. In addition, we may borrow under our line of credit facility as the need arises. Capital resources available to us at March 31, 2013 included $1.7 million of Cash and $22 million available under our line of credit facility.

We had $1.9 million of working capital and our debt as a percentage of total capitalization (total debt and common shareholders' equity) was 10.8% at March 31, 2013.

A summary of our cash flow information was as follows (dollars in thousands):

                                                             Three Months Ended
                                                                  March 31,
                                                              2013          2012
   Cash flows (used in) provided by operating activities   $   (1,317 )   $  4,607
   Cash flows used in investing activities                     (1,902 )     (1,769 )
   Cash flows used in financing activities                        (69 )       (148 )
   Increase (decrease) in cash                             $   (3,288 )   $  2,690

Cash used in operating activities of $1.3 million in the first quarter of 2013 resulted from our Net loss of $1.8 million, net non-cash expenses of $1.0 million and changes in our operating assets and liabilities as discussed in more detail below.

Accounts receivable, net, increased $0.4 million to $10.9 million at March 31, 2013 compared to $10.5 million at December 31, 2012. This increase was primarily due to a $0.5 million increase in our receivable from A-B, which totaled $6.8 million at March 31, 2013. Historically, we have not had collection problems related to our accounts receivable.

Inventories increased $2.3 million to $14.0 million at March 31, 2013 compared to $11.7 million at December 31, 2012, primarily to support an expected increase in shipment volume in the quarter ending June 30, 2013.


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Accounts payable increased $3.8 million to $16.1 million at March 31, 2013 compared to $12.3 million at December 31, 2012, primarily due to increased inventory purchases to support our expected increased level of sales.

As of March 31, 2013, we had the following net operating loss carryforwards ("NOLs") and federal credit carry forwards available to offset payment of future income taxes:

federal NOLs of $2.5 million, or $0.8 million tax effected;

state NOLs of $174,000, tax-effected;

federal alternative minimum tax ("AMT") credit carry forwards of $609,000; and

federal insurance contributions act ("FICA") credit carry forwards of $71,000, tax-effected.

We anticipate that we will utilize the remaining NOLs and federal credit carry forwards in the near future and, accordingly, once utilized, we will be required to satisfy all of our income tax obligations with cash.

Capital expenditures of $2.4 million in the first quarter of 2013 were primarily directed to Pubs remodeling and beer production capacity and efficiency improvements. As of March 31, 2013 we had $540,000 of the $2.4 million of expenditures recorded in Accounts payable on our Consolidated Balance Sheets. We anticipate capital expenditures of approximately $11 million to $13 million for all of 2013 primarily for capacity and efficiency improvements, quality initiatives and restaurant and retail.

We have a loan agreement (as amended, the "Loan Agreement") with Bank of America, N.A., which is presently comprised of a $22.0 million revolving line of credit ("Line of Credit"), including provisions for cash borrowings and up to $2.5 million notional amount of letters of credit, and a $11.7 million term loan ("Term Loan"). We may draw upon the Line of Credit for working capital and general corporate purposes. At March 31, 2013, we had no borrowings outstanding under the Line of Credit and we were in compliance with the financial covenants associated with the Loan Agreement.

Critical Accounting Policies and Estimates

Our financial statements are based upon the selection and application of significant accounting policies that require management to make significant estimates and assumptions. Judgments and uncertainties affecting the application of these policies may result in materially different amounts being reported under different conditions or using different assumptions. Our estimates are based upon historical experience, market trends and financial forecasts and projections, and upon various other assumptions that management believes to be reasonable under the circumstances at various points in time. Actual results may differ, potentially significantly, from these estimates.

Our critical accounting policies, as described in our 2012 Annual Report, relate to goodwill, indefinite-lived intangible assets, long-lived assets, refundable deposits on kegs, revenue recognition and deferred taxes. There have been no changes to our critical accounting policies since December 31, 2012.

Seasonality

Our sales generally reflect a degree of seasonality, with the first and fourth quarters historically exhibiting low sales levels compared to the second and third quarters. Accordingly, our results for any particular quarter are not likely to be indicative of the results to be achieved for the full year.


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Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have, or are reasonably likely to have, a material current or future effect on our financial condition, changes in financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources.

Recent Accounting Pronouncements

See Note 2 of Notes to Consolidated Financial Statements included in Part I, Item 1 of this Form 10-Q.

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