Company Quick10K Filing
Quick10K
Craft Brew Alliance
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$16.75 19 $325
10-Q 2018-09-30 Quarter: 2018-09-30
10-Q 2018-06-30 Quarter: 2018-06-30
10-Q 2018-03-31 Quarter: 2018-03-31
10-K 2017-12-31 Annual: 2017-12-31
10-Q 2017-09-30 Quarter: 2017-09-30
10-Q 2017-06-30 Quarter: 2017-06-30
10-Q 2017-03-31 Quarter: 2017-03-31
10-K 2016-12-31 Annual: 2016-12-31
10-Q 2016-09-30 Quarter: 2016-09-30
10-Q 2016-06-30 Quarter: 2016-06-30
10-Q 2016-03-31 Quarter: 2016-03-31
10-K 2015-12-31 Annual: 2015-12-31
8-K 2019-02-04 Officers
8-K 2018-12-28 Officers
8-K 2018-12-21 Officers
8-K 2018-10-10 Enter Agreement, M&A, Off-BS Arrangement, Regulation FD, Exhibits
8-K 2018-06-16 Officers, Regulation FD, Exhibits
8-K 2018-06-13 Officers
8-K 2018-05-29 Officers
8-K 2018-05-16 Shareholder Vote
8-K 2018-02-01 Officers
8-K 2018-01-12 M&A, Regulation FD, Exhibits
PEP PepsiCo
ABEV Ambev
KDP Keurig Dr Pepper
FIZZ National Beverage
SAM Boston Beer
COT Cott
COKE Coca Cola Bottling
MGPI MGP Ingredients
REED Reed's
EAST Eastside Distilling
BREW 2018-09-30
Part I - Financial Information
Item 1. Financial Statements
Note 1. Basis of Presentation
Note 2. Recent Accounting Pronouncements
Note 3. Cash, Cash Equivalents and Restricted Cash
Note 4. Inventories
Note 5. Related Party Transactions
Note 6. Derivative Financial Instruments
Note 7. Fair Value Measurements
Note 8. Revenue Recognition
Note 9. Segment Results and Concentrations
Note 10. Significant Stock-Based Plan Activity and Stock-Based Compensation
Note 11. Earnings per Share
Note 12. Commitments and Contingencies
Note 13. Termination of Pabst Agreements
Note 14. Assets Held for Sale and Sale of Woodinville, Washington Brewery
Note 15. Subsequent Events
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II - Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 6. Exhibits
EX-31.1 cba-20180930xex311.htm
EX-31.2 cba-20180930xex312.htm
EX-32.1 cba-20180930xex321.htm
EX-99.1 cba-20180930xex991.htm

Craft Brew Alliance Earnings 2018-09-30

BREW 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 a2018093010-q.htm 10-Q 09-30-2018 Document
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For The Quarterly Period Ended September 30, 2018
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______________ to ______________
 
Commission File Number 0-26542
CRAFT BREW ALLIANCE, INC.
(Exact name of registrant as specified in its charter) 
Washington
 
91-1141254
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)

929 North Russell Street
Portland, Oregon  97227
(Address of principal executive offices)

(503) 331-7270
(Registrant’s telephone number, including Area Code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐
Accelerated filer ☒
Non-accelerated filer ☐ 
Smaller reporting company ☐
Emerging growth company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ☐ No ☒

The number of shares of the registrant’s common stock outstanding as of November 1, 2018 was 19,381,762.
 



CRAFT BREW ALLIANCE, INC.
INDEX TO FORM 10-Q
 
PART I - FINANCIAL INFORMATION
Page
 
 
 
Item 1.
Financial Statements
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II ‑ OTHER INFORMATION
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
Item 6.
 
 
 

1


PART I - FINANCIAL INFORMATION

Item 1. Financial Statements
 
CRAFT BREW ALLIANCE, INC.
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Dollars in thousands, except per share amounts)
 
 
September 30,
2018
 
December 31,
2017
Assets
 
 
 
Current assets:
 
 
 
Cash, cash equivalents and restricted cash
$
12,156

 
$
579

Accounts receivable, net
28,460

 
27,784

Inventory, net
17,271

 
13,844

Assets held for sale

 
22,946

Other current assets
1,275

 
4,335

Total current assets
59,162

 
69,488

Property, equipment and leasehold improvements, net
104,225

 
106,283

Goodwill
12,917

 
12,917

Intangible, equity method investment and other assets, net
20,244

 
20,949

Total assets
$
196,548

 
$
209,637

Liabilities and Shareholders' Equity
 

 
 

Current liabilities:
 

 
 

Accounts payable
$
18,899

 
$
14,338

Accrued salaries, wages and payroll taxes
4,749

 
5,877

Refundable deposits
4,029

 
4,816

Deferred revenue
5,335

 
3,385

Other accrued expenses
2,415

 
2,368

Current portion of long-term debt and capital lease obligations
816

 
699

Total current liabilities
36,243

 
31,483

Long-term debt and capital lease obligations, net of current portion
9,763

 
32,599

Deferred income tax liability, net
12,271

 
12,886

Other liabilities
1,639

 
1,878

Total liabilities
59,916

 
78,846

Commitments and contingencies (Note 12)


 


Common shareholders' equity:
 

 
 

Common stock, $0.005 par value. Authorized 50,000,000 shares; issued and outstanding 19,381,762 and 19,309,829
97

 
96

Additional paid-in capital
143,589

 
142,196

Accumulated other comprehensive income (loss)
3

 
(164
)
Accumulated deficit
(7,057
)
 
(11,337
)
Total common shareholders' equity
136,632

 
130,791

Total liabilities and common shareholders' equity
$
196,548

 
$
209,637

 
The accompanying notes are an integral part of these financial statements.


2


CRAFT BREW ALLIANCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands, except per share amounts)

 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Sales
$
55,639

 
$
60,040

 
$
170,977

 
$
171,010

Less excise taxes
2,750

 
3,402

 
8,778

 
9,520

Net sales
52,889

 
56,638

 
162,199

 
161,490

Cost of sales
36,190

 
37,254

 
108,302

 
111,108

Gross profit
16,699

 
19,384

 
53,897

 
50,382

Selling, general and administrative expenses
16,712

 
16,328

 
47,317

 
47,357

Operating income (loss)
(13
)
 
3,056

 
6,580

 
3,025

Interest expense
(107
)
 
(179
)
 
(348
)
 
(533
)
Other income (expense), net
(13
)
 
(59
)
 
42

 
(46
)
Income (loss) before income taxes
(133
)
 
2,818

 
6,274

 
2,446

Income tax provision (benefit)
(194
)
 
1,067

 
1,600

 
758

Net income
$
61

 
$
1,751

 
$
4,674

 
$
1,688

Basic and diluted net income per share
$

 
$
0.09

 
$
0.24

 
$
0.09

Shares used in basic per share calculations
19,370

 
19,296

 
19,338

 
19,278

Shares used in diluted per share calculations
19,545

 
19,443

 
19,525

 
19,401

 
The accompanying notes are an integral part of these financial statements.


3


CRAFT BREW ALLIANCE, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(In thousands)
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Net income
$
61

 
$
1,751

 
$
4,674

 
$
1,688

Unrealized gain on derivative hedge transactions, net of tax
38

 
15

 
167

 
63

Comprehensive income
$
99

 
$
1,766

 
$
4,841

 
$
1,751

 
The accompanying notes are an integral part of these financial statements.


4


CRAFT BREW ALLIANCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
 
Nine Months Ended September 30,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net income
$
4,674

 
$
1,688

Adjustments to reconcile net income to net cash provided by operating activities:
 

 
 

Depreciation and amortization
7,985

 
7,904

(Gain) loss on sale or disposal of Property, equipment and leasehold improvements
(549
)
 
164

Deferred income taxes
(673
)
 
(168
)
Stock-based compensation
1,058

 
945

Other
206

 
906

Changes in operating assets and liabilities:
 

 
 

Accounts receivable, net
(676
)
 
(4,886
)
Inventories
(2,905
)
 
1,371

Other current assets
2,360

 
1,124

Accounts payable and other accrued expenses
6,872

 
13,096

Accrued salaries, wages and payroll taxes
(1,128
)
 
1,203

Refundable deposits
(560
)
 
(884
)
Net cash provided by operating activities
16,664

 
22,463

 
 
 
 
Cash flows from investing activities:
 

 
 

Expenditures for Property, equipment and leasehold improvements
(6,216
)
 
(16,170
)
Proceeds from sale of Property, equipment and leasehold improvements
22,998

 
95

Investment in Wynwood

 
(2,101
)
Restricted cash from sale of Property, equipment and leasehold improvements
515

 

Net cash provided by (used in) investing activities
17,297

 
(18,176
)
 
 
 
 
Cash flows from financing activities:
 

 
 

Principal payments on debt and capital lease obligations
(520
)
 
(483
)
Net repayments under revolving line of credit
(22,199
)
 
(3,922
)
Proceeds from issuances of common stock
427

 
98

Tax payments related to stock-based awards
(92
)
 
(17
)
Net cash used in financing activities
(22,384
)
 
(4,324
)
Increase (decrease) in Cash, cash equivalents and restricted cash
11,577

 
(37
)
 
 
 
 
Cash, cash equivalents and restricted cash:
 

 
 

Beginning of period
579

 
442

End of period
$
12,156

 
$
405

Supplemental disclosure of cash flow information:
 

 
 

Cash paid for interest
$
396

 
$
540

Cash paid for income taxes, net
450

 
216

Supplemental disclosure of non-cash information:
 

 
 

Purchases of Property, equipment and leasehold improvements with capital leases
$

 
$
400

Purchases of Property, equipment and leasehold improvements included in Accounts payable at end of period
205

 
285

The accompanying notes are an integral part of these financial statements.

5


CRAFT BREW ALLIANCE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1. Basis of Presentation

The accompanying consolidated financial statements and related notes should be read in conjunction with the consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2017 (“2017 Annual Report”). These consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States ("U.S. GAAP") have been condensed or omitted pursuant to such rules and regulations. These consolidated financial statements are unaudited but, in the opinion of management, reflect all material adjustments necessary to present fairly our consolidated financial position, results of operations and cash flows for the periods presented. All such adjustments were of a normal, recurring nature. The results of operations for such interim periods are not necessarily indicative of the results of operations for the full year.

Reclassifications
Certain reclassifications have been made to the prior year's data to conform to the current year's presentation. None of the changes affect our previously reported consolidated Net sales, Gross profit, Operating income (loss), Net income or Basic or diluted net income per share.

Note 2. Recent Accounting Pronouncements

ASU 2018-15
In August 2018, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2018-15, "Intangibles—Goodwill and Other—Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract." ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. ASU 2018-15 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2019, with early adoption permitted. We are still evaluating the effect of the adoption of ASU 2018-15.

ASU 2018-13
In August 2018, the FASB issued ASU 2018-13, "Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement." ASU 2018-13 removes, modifies and adds certain disclosure requirements on fair value measurements. ASU 2018-13 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2019, with early adoption permitted. We are still evaluating the effect of the adoption of ASU 2018-13.
 
ASU 2018-02
In February 2018, the FASB issued ASU 2018-02, "Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income." ASU 2018-02 allows entities to reclassify accumulated other comprehensive income to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act (the “Act”). This update is effective for interim and annual reporting periods beginning after December 15, 2018, with early adoption permitted. The update should be applied either in the period of adoption or retrospectively to each period (or periods) in which the effect of the income tax rate change resulting from the Act is recognized. The early adoption of ASU 2018-02 on January 1, 2018 did not have a material effect on our financial position, results of operations or cash flows.

ASU 2017-12
In August 2017, the FASB issued ASU 2017-12, "Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities." ASU 2017-12 refines and expands hedge accounting for both financial and commodity risks. Its provisions create more transparency around how economic results are presented, both on the face of the financial statements and in the footnotes. It also makes certain targeted improvements to simplify the application of hedge accounting guidance. ASU 2017-12 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2018, on a prospective basis. We do not expect the adoption of ASU 2017-12 to have a material effect on our financial position, results of operations or cash flows.


6


ASU 2017-09
In May 2017, the FASB issued ASU 2017-09, "Compensation - Stock Compensation (Topic 718) - Scope of Modification Accounting." ASU 2017-09 provides clarity and is expected to reduce both diversity in practice and the cost and complexity when accounting for a change to the terms of a stock-based award. ASU 2017-09 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2017, on a prospective basis. The adoption of ASU 2017-09 on January 1, 2018 did not have a material effect on our financial position, results of operations or cash flows.

ASU 2017-04
In January 2017, the FASB issued ASU 2017-04, "Intangibles - Goodwill and Other (Topic 350) - Simplifying the Test for Goodwill Impairment." ASU 2017-04 simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. An entity should perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount, and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit's fair value, if applicable. The loss recognized should not exceed the total amount of goodwill allocated to the reporting unit. The same impairment test also applies to any reporting unit with a zero or negative carrying amount. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. ASU 2017-04 is effective for fiscal years, including interim periods within those fiscal years, beginning after December 15, 2019, on a prospective basis. Early adoption is permitted for interim or annual goodwill impairment tests performed after January 1, 2017. We do not expect the adoption of ASU 2017-04 to have a material effect on our financial position, results of operations or cash flows.

ASU 2016-18
In August 2016, the FASB issued ASU 2016-18, "Statement of Cash Flows (Topic 230) - Restricted Cash." ASU 2016-18 reduces the diversity in practice in the classification and the presentation of restricted cash within an entity's statement of cash flows. ASU 2016-18 is effective for annual periods beginning after December 15, 2017, and interim periods within those annual periods, with early adoption permitted. The adoption of ASU 2016-18 on January 1, 2018 did not have a material effect on our financial position, results of operations or cash flows.

ASU 2016-15
In August 2016, the FASB issued ASU 2016-15, "Statement of Cash Flows (Topic 230) - Classification of Certain Cash Receipts and Cash Payments." ASU 2016-15 addresses eight specific cash flow issues and how they should be reported on the statement of cash flows. ASU 2016-15 is effective for annual periods beginning after December 15, 2017, and interim periods within those annual periods, with early adoption permitted. The adoption of ASU 2016-15 on January 1, 2018 did not have a material effect on our financial position, results of operations or cash flows.

ASU 2016-13
In June 2016, the FASB issued ASU 2016-13, "Financial Instruments - Credit Losses (Topic 326)." ASU 2016-13 addresses accounting for credit losses for assets that are not measured at fair value through net income on a recurring basis. ASU 2016-13 is effective for annual periods beginning after December 15, 2019, and interim periods within those annual periods, with early adoption permitted for fiscal years beginning after December 15, 2018. We do not expect the adoption of ASU 2016-13 to have a material effect on our financial position, results of operations or cash flows.

ASU 2016-02, ASU2018-10 and ASU 2018-11
In February 2016, the FASB issued ASU 2016-02, "Leases." ASU 2016-02 increases transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and requires disclosing key information about leasing arrangements. ASU 2016-02 is effective for annual periods beginning after December 15, 2018, and interim periods within those annual periods. We are currently evaluating the potential impact of the adoption of ASU 2016-02 on our consolidated financial statements. We currently expect the adoption of this standard to result in a material increase to the assets and liabilities on our consolidated balance sheets.

In July 2018, the FASB issued ASU 2018-10, "Codification Improvements to Topic 842, Leases." ASU 2018-10 provides narrow amendments that clarify how to apply certain aspects of the guidance in ASU 2016-02. ASU 2018-10 is effective for annual periods beginning after December 15, 2018, and interim periods within those annual periods. We are still evaluating the effect of the adoption of ASU 2018-10.

In July 2018, the FASB issued ASU 2018-11, "Leases (Topic 842): Targeted Improvements." ASU 2018-11 provides an optional transition method, that allows entities to initially apply the new leases standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. ASU 2018-11 is effective for annual periods beginning after December 15, 2018, and interim periods within those annual periods. We are still evaluating the effect of the adoption of ASU 2018-11.


7


ASU 2016-01
In January 2016, the FASB issued ASU 2016-01, “Financial Instruments - Overall (Subtopic 825-10).” ASU 2016-01 enhances the reporting model for financial instruments to provide users of financial statements with more decision-useful information by addressing certain aspects of recognition, measurement, presentation and disclosure of financial instruments. The amendments simplify certain requirements and also reduce diversity in current practice for other requirements. ASU 2016-01 is effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The adoption of ASU 2016-01 on January 1, 2018 did not have a material effect on our financial position, results of operations or cash flows.

ASU 2014-09, ASU 2016-10 and ASU 2016-12
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers (Topic 606).” ASU 2014-09, as amended, affects any entity using U.S. GAAP that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). ASU 2014-09, as amended, is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017.

In April 2016, the FASB issued ASU 2016-10, "Revenue from Contracts with Customers (Topic 606) - Identifying Performance Obligations and Licensing." ASU 2016-10 clarifies aspects of Topic 606 related to identifying performance obligations and the licensing implementation guidance, while retaining the related core principles for those areas. The effective date and transition requirements for ASU 2016-10 are the same as the effective date and transition requirements in ASU 2014-09.

In May 2016, the FASB issued ASU 2016-12, "Revenue from Contracts with Customers (Topic 606) - Narrow-Scope Improvements and Practical Expedients." ASU 2016-12 clarifies aspects of Topic 606 related to the guidance on assessing collectibility, presentation of sales taxes, non-cash consideration, and completed contracts and contract modifications. The effective date and transition requirements for ASU 2016-12 are the same as the effective date and transition requirements in ASU 2014-09.

The standards permit either the retrospective or the modified retrospective (cumulative effect) transition method. On January 1, 2018, we adopted the new accounting standard Accounting Standards Codification ("ASC") 606, "Revenue from Contracts with Customers" and all the related amendments to all contracts using the modified retrospective method. We recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of accumulated deficit. We expect the impact of the adoption of the new standard to be immaterial to our net income on an ongoing basis.

See also Note 8.

Note 3. Cash, Cash Equivalents and Restricted Cash

We maintain cash balances with financial institutions that may exceed federally insured limits. We consider all highly liquid investments with an original maturity of three months or less to be cash equivalents. As of September 30, 2018 and December 31, 2017, we did not have any cash equivalents.

As part of our cash management system, we use a controlled disbursement account to fund cash distribution checks presented for payment by the holder. Checks issued but not yet presented to banks may result in overdraft balances for accounting purposes. As of September 30, 2018 and December 31, 2017, there were no bank overdrafts. Changes in bank overdrafts from period to period are reported in the Consolidated Statements of Cash Flows as a component of operating activities within Accounts payable and Other accrued expenses.

Cash and cash equivalents that are restricted as to withdrawal or use under terms of certain contractual agreements are recorded in Cash, cash equivalents and restricted cash on our Consolidated Balance Sheets. Restricted cash of $0.5 million at September 30, 2018 represents funds held in an escrow account from the sale of our Woodinville brewery related to a lien; we expect that the lien will be resolved in our favor and the restriction will be removed. We did not have any restricted cash at December 31, 2017.

Note 4. Inventories

Inventories are stated at the lower of standard cost or net realizable value.

We regularly review our inventories for the presence of obsolete product attributed to age, seasonality and quality. If our review indicates a reduction in utility below the product’s carrying value, we reduce the product to a new cost basis. We record the cost of inventory for which we estimate we have more than a twelve-month supply as a component of Intangible, equity method investment and other assets, net on our Consolidated Balance Sheets.

8



Inventories consisted of the following (in thousands):
 
September 30,
2018
 
December 31,
2017
Raw materials
$
7,801

 
$
4,290

Work in process
2,803

 
1,960

Finished goods
4,354

 
5,009

Packaging materials
960

 
956

Promotional merchandise
831

 
1,161

Brewpub food, beverages and supplies
522

 
468

 
$
17,271

 
$
13,844


Work in process is beer held in fermentation tanks prior to the filtration and packaging process.

Note 5. Related Party Transactions

As of September 30, 2018 and December 31, 2017, Anheuser-Busch, LLC ("A-B") owned approximately 31.3% and 31.4%, respectively, of our outstanding common stock.

Transactions with A-B, Ambev and Anheuser-Busch Worldwide Investments, LLC (“ABWI”)
In December 2015, we partnered with Ambev, the Brazilian subsidiary of Anheuser-Busch InBev SA, to distribute Kona beers into Brazil. In August 2016, we also entered into an International Distribution Agreement with ABWI, an affiliate of A-B, pursuant to which ABWI distributes our malt beverage products in jurisdictions outside the United States, subject to the terms and conditions of our prior agreement with our other international distributor, CraftCan Travel LLC, and certain other limitations.

Contract Brewing Arrangement with Anheuser-Busch Companies, LLC ("ABC")
On January 30, 2018, we entered into a Contract Brewing Agreement (the “Brewing Agreement”) with ABC, an affiliate of A-B, pursuant to which we brew, package, and palletize certain malt beverage products of A-B's craft breweries at our Portland, Oregon, and Portsmouth, New Hampshire, breweries as selected by ABC. Under the terms of the Brewing Agreement, ABC pays us a per barrel fee that varies based on the annual volume of the specified product brewed by us, plus (a) our actual incremental costs of brewing the product and (b) certain capital costs and costs of graphics and labeling that we incur in connection with the brewed products.

The Brewing Agreement will expire on December 31, 2018, unless the arrangement is extended at the mutual agreement of the parties. The Brewing Agreement contains specified termination rights, including, among other things, the right of either party to terminate the Brewing Agreement if (i) the other party fails to perform any material obligation under the Brewing Agreement or any other agreement between the parties, subject to certain cure rights, or (ii) the Master Distributor Agreement is terminated.

Transactions with A-B, Ambev, ABWI and ABC consisted of the following (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Gross sales to A-B and Ambev
$
41,737

 
$
46,147

 
$
129,588

 
$
127,932

International distribution fee earned from ABWI
850

 
850

 
2,550

 
2,550

International distribution fee from ABWI, recorded in Deferred revenue
650

 
400

 
1,950

 
1,200

Contract Brewing fee earned from ABC
821

 

 
1,679

 

Margin fee paid to A-B, classified as a reduction of Sales
601

 
649

 
1,806

 
1,806

Inventory management and other fees paid to A-B, classified in Cost of sales
97

 
97

 
287

 
289

Media and other reimbursement from A-B, classified as a reduction of Selling, general and administrative expenses
192

 
221

 
192

 
295



9


Amounts due to or from A-B and ABWI were as follows (in thousands):
 
September 30,
2018
 
December 31,
2017
Amounts due from A-B related to beer sales pursuant to the A-B distributor agreement
$
15,667

 
$
15,663

Amounts due from ABWI and A-B related to international distribution fee
4,500

 
5,000

Refundable deposits due to A-B
(2,483
)
 
(1,619
)
Amounts due to A-B for services rendered
(9,109
)
 
(4,836
)
Net amount due from A-B and ABWI
$
8,575

 
$
14,208




Transactions with Wynwood Brewing Co. ("Wynwood")
As of September 30, 2018 and December 31, 2017, we owned a 24.5% interest in Wynwood. The carrying value of our investment was $2.0 million as of September 30, 2018.

Transactions with Wynwood consisted of the following (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Master distributor fee earned
$
3

 
$
3

 
$
22

 
$
3

Royalty fee paid

 
31

 

 
31

Brewery representative reimbursement, classified as a reduction of Selling, general and administrative expenses

 
42

 

 
42

Share of loss, classified as a component of Other income (expense), net
22

 
37

 
44

 
37

Refund of investment, classified as a reduction in the carrying value of the equity method investment

 

 
23

 


Amounts due to or from Wynwood were as follows (in thousands):
 
September 30,
2018
 
December 31,
2017
Amounts receivable related to raw materials and alternating proprietorship fees
$
277

 
$
148

Amounts receivable related to Brewery representative reimbursements

 
32

Amounts due related to purchases of beer pursuant to the distributor agreement
(206
)
 
(116
)
Amounts due related to Royalty fees

 
(4
)
Net amount receivable
$
71

 
$
60


Operating Leases
We lease our headquarters office space, restaurant and storage facilities located in Portland, land and certain equipment from two limited liability companies, both of whose members include our former Board Chair, who is also a significant shareholder, and his brother, who continues to be employed by us. Lease payments to these lessors were as follows (in thousands) and are included in the Rent expense under all operating leases above:
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
2018
 
2017
 
2018
 
2017
$
41

 
$
26

 
$
123

 
$
87


10



We hold lease and sublease obligations for certain office space and the land underlying the brewery and pub location in Kona, Hawaii, with a company whose owners include a shareholder who owns more than 5% of our common stock. The sublease contracts expire on various dates through 2020, with an extension at our option for two five-year periods. Lease payments to this lessor were as follows (in thousands) and are included in the Rent expense under all operating leases above:
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
2018
 
2017
 
2018
 
2017
$
145

 
$
143

 
$
435

 
$
431


Note 6. Derivative Financial Instruments

Interest Rate Swap Contracts
Our risk management objectives are to ensure that business and financial exposures to risk that have been identified and measured are minimized using the most effective and efficient methods to reduce, transfer and, when possible, eliminate such exposures. Operating decisions contemplate associated risks and management strives to structure proposed transactions to avoid or reduce risk whenever possible.

We have assessed our vulnerability to certain business and financial risks, including interest rate risk associated with our variable-rate long-term debt. To mitigate this risk, effective January 23, 2014, we entered into an interest rate swap contract with Bank of America, N.A. (“BofA”) for 75% of the Term Loan balance, to hedge the variability of interest payments associated with our variable-rate borrowings under our Term Loan with BofA. The Term Loan contract and the interest rate swap terminate on September 30, 2023. The Term Loan contract had a total notional value of $6.7 million as of September 30, 2018. Through this swap agreement, we pay interest at a fixed rate of 2.86% and receive interest at a floating-rate of the one-month LIBOR, which was 2.18% at September 30, 2018.

Effective January 4, 2016, we entered into a $9.1 million notional amount interest rate swap contract with BofA, which was set to expire January 1, 2019, to hedge the variability of interest payments associated with our variable-rate borrowings on our line of credit. The notional amount fluctuated based on a predefined schedule based on our anticipated borrowings. This swap agreement was terminated effective January 18, 2018 as we paid off our line of credit, and we received interest of $27,000.

Since the interest rate swaps hedge the variability of interest payments on variable rate debt with similar terms, they qualify for cash flow hedge accounting treatment.

As of September 30, 2018, unrealized net gains of $4,000 were recorded in Accumulated other comprehensive income (loss) as a result of these hedges. The effective portion of the gain or loss on the derivatives is reclassified into Interest expense in the same period during which we record Interest expense associated with the related debt. There was no hedge ineffectiveness during the first nine months of 2018 or 2017.

The fair value of our derivative instruments are recorded as a component of Other liabilities on our consolidated balance sheets was as follows (in thousands):
 
September 30,
2018
 
December 31,
2017
Fair value of interest rate swaps - asset (liability)
$
4

 
$
(221
)
 

11


The effect of our interest rate swap contracts that were accounted for as a derivative instrument on our Consolidated Statements of Operations was as follows (in thousands):
Derivatives in Cash Flow Hedging Relationships
 
Amount of Gain
Recognized in Accumulated OCI (Effective Portion)
 
Location of Loss Reclassified
from Accumulated OCI into
Income (Effective Portion)
 
Amount of Loss Reclassified from Accumulated OCI into
Income (Effective Portion)
Three Months Ended
September 30,
 
 
 
 
 
 
2018
 
$
52

 
Interest expense
 
$
13

2017
 
$
24

 
Interest expense
 
$
30

 
 
 
 
 
 
 
Nine Months Ended
September 30,
 
 
 
 
 
 
2018
 
$
225

 
Interest expense
 
$
52

2017
 
$
101

 
Interest expense
 
$
123


See also Note 7.

Note 7. Fair Value Measurements

Factors used in determining the fair value of our financial assets and liabilities are summarized into three broad categories:

Level 1 – quoted prices in active markets for identical securities as of the reporting date;
Level 2 – other significant directly or indirectly observable inputs, including quoted prices for similar securities, interest rates, prepayment speeds and credit risk; and
Level 3 – significant inputs that are generally less observable than objective sources, including our own assumptions in determining fair value.

The factors or methodology used for valuing securities are not necessarily an indication of the risk associated with investing in those securities.

The following table summarizes assets and (liabilities) measured at fair value on a recurring basis (in thousands):
Fair Value at September 30, 2018
 
Level 1
 
Level 2
 
Level 3
 
Total
Interest rate swap
 
$

 
$
4

 
$

 
$
4

 
 
 
 
 
 
 
 
 
Fair Value at December 31, 2017
 
 

 
 

 
 

 
 

Interest rate swaps
 
$

 
$
(221
)
 
$

 
$
(221
)

The fair value of our interest rate swaps was based on quarterly statements from the issuing bank. There were no changes to our valuation techniques during the nine months ended September 30, 2018.

We believe the carrying amounts of Cash, cash equivalents and restricted cash, Accounts receivable, Other current assets, Accounts payable, Accrued salaries, wages and payroll taxes, and Other accrued expenses are a reasonable approximation of the fair value of those financial instruments because of the nature of the underlying transactions and the short-term maturities involved.

We had fixed-rate debt outstanding as follows (in thousands):
 
September 30,
2018
 
December 31,
2017
Fixed-rate debt on Consolidated Balance Sheets
$
1,648

 
$
1,855

Estimated fair value of fixed-rate debt
1,671

 
1,915


We calculate the estimated fair value of our fixed-rate debt using a discounted cash flow methodology. Using estimated current interest rates based on a similar risk profile and duration (Level 2), the fixed cash flows are discounted and summed to compute the fair value of the debt.


12


Note 8. Revenue Recognition

On January 1, 2018, we adopted the Accounting Standards Codification ("ASC") 606, "Revenue from Contracts with Customers" and all the related amendments (the "new revenue standard") for all of our revenue contracts, using the modified retrospective method. We recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of Accumulated deficit. The adoption of ASC 606 did not have a material impact on our consolidated financial statements as of January 1, 2018 or for the three and nine-month periods ended September 30, 2018.

The adjustments to our Consolidated Balance Sheets upon adoption of ASC 606, effective January 1, 2018 were as follows (in thousands):
 
 
Balance at
December 31, 2017
 
Adjustments due to
ASC 606
 
Balance at
January 1, 2018
Assets:
 
 
 
 
 
 
Other current assets
 
$
4,335

 
$
(237
)
 
$
4,098

Intangible, equity method investment and other assets, net
 
20,949

 
(157
)
 
20,792

 
 
 
 
 
 
 
Common shareholders' equity:
 
 
 
 
 
 
Accumulated deficit
 
$
(11,337
)
 
$
(394
)
 
$
(11,731
)

In accordance with the new revenue standard requirements, the disclosure of the impact of adoption on our Consolidated Balance Sheets and Consolidated Statements of Operations was as follows (in thousands):
 
 
September 30, 2018
 
 
As Reported
 
Balance without
Adoption of ASC 606
 
Effect of Change
Higher (Lower)
Consolidated Balance Sheets
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
Other current assets
 
$
1,275

 
$
1,492

 
$
(217
)
Intangible, equity method investment and other assets, net
 
20,244

 
20,244

 

 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
Deferred income tax liability, net
 
12,271

 
12,316

 
(45
)
 
 
 
 
 
 
 
Common shareholders' equity:
 
 
 
 
 
 
Accumulated deficit
 
$
(7,057
)
 
$
(7,319
)
 
$
(262
)

 
 
Three Months Ended September 30, 2018
 
Nine Months Ended September 30, 2018
 
 
As Reported
 
Balance without
Adoption of ASC 606
 
Effect of Change
Higher (Lower)
 
As Reported
 
Balance without
Adoption of ASC 606
 
Effect of Change
Higher (Lower)
Consolidated Statements of Operations
 
 
 
 
 
 
 
 
 
 
 
 
Selling, general and administrative expenses
 
$
16,712

 
$
16,771

 
$
(59
)
 
$
47,317

 
$
47,495

 
$
(178
)
Income tax provision (benefit)
 
(194
)
 
(209
)
 
15

 
1,600

 
1,555

 
45

Net income
 
61

 
19

 
42

 
4,674

 
4,546

 
128



13


The following table disaggregates our Sales by major source (in thousands):
 
 
Three Months Ended September 30, 2018
 
Nine Months Ended September 30, 2018
 
 
Beer Related1
 
Brewpubs
 
Total
 
Beer Related1
 
Brewpubs
 
Total
Product sold through distributor agreements2
 
$
45,326

 
$

 
$
45,326

 
$
139,141

 
$

 
$
139,141

Alternating proprietorship and contract brewing fees
 
2,863

 

 
2,863

 
8,748

 

 
8,748

International distribution fees
 
850

 

 
850

 
2,550

 

 
2,550

Brewpubs3
 

 
6,166

 
6,166

 

 
18,278

 
18,278

Other4
 
434

 

 
434

 
2,260

 

 
2,260

 
 
$
49,473

 
$
6,166

 
$
55,639

 
$
152,699

 
$
18,278

 
$
170,977


(1)
Beer Related sales include sales to A-B subsidiaries including Ambev, ABWI and ABC. Sales to wholesalers through the A-B distributor agreement in the three and nine-month periods ended September 30, 2018 represented 76.9% and 77.2% of our Sales, respectively.
(2)
Product sold through distributor agreements included domestic and international sales of owned and non-owned brands pursuant to terms in our distributor agreements.
(3)
Brewpub sales include sales of promotional merchandise and sales of beer directly to customers.
(4)
Other sales include sales of beer related merchandise, hops, spent grain and an export manager fee.
 
Revenue is recognized when obligations under the terms of a contract with our customers are satisfied; generally this occurs when the product arrives at distribution centers or when the wholesaler takes possession. Revenue is measured as the amount of consideration we expect to receive in exchange for transferring goods. We consider customer purchase orders, which in some cases are governed by a master agreement, to be the contracts with a customer. For each contract related to the production of beer, we consider the promise to transfer products, each of which is distinct, to be the identified performance obligation. The transaction price for each performance obligation is specifically identified within the contract with our customer and represents the fair standalone selling price. Discounts are recognized as a reduction to Sales at the time we recognize the revenue. We generally do not grant return privileges, except in limited and specific circumstances.

A performance obligation is a promise in a contract to transfer a distinct good or service to the customer, and is the unit of accounting pursuant to ASC 606. In contracts with multiple performance obligations, we identify each performance obligation and evaluate whether the performance obligation is distinct within the context of the contract at contract inception. Performance obligations that are not distinct at contract inception are combined.
 
We entered into an International Distribution Agreement ("IDA") with A-B for the rights to serve as our exclusive distributor in international territories defined by the IDA for a 10-year period. The IDA represents a single international license to all territories defined in the IDA. Revenue is recognized on a straight-line basis over the 10-year term of the agreement. In accordance with ASC 606, we evaluate the factors used in our estimates of variable consideration to be received under contracts on a quarterly basis. We estimate variable consideration as the most likely amount to which we expect to be entitled. We have evaluated, on a quarterly basis, the qualitative factors, including current market conditions and our relationship with A-B, and we consider receiving $34.0 million over the 10-year term of the IDA the most likely outcome under the IDA. We believe that the possibility of a significant reversal of cumulative revenue recognized from this agreement under this conclusion is remote. Under the IDA, A-B has the right to issue purchase orders to distribute product in international territories defined by the IDA. Each purchase order placed under the IDA is a distinct performance obligation. The transaction price for each performance obligation is a sales-based royalty, which is recognized as revenue in accordance with the sales-based royalty exception. Accordingly, royalty revenue is recognized as the variability associated with the royalty is resolved, which is upon A-B's subsequent sale of our product.

In cases where all conditions to a sale are not met at the time of sale, revenue recognition is deferred until all conditions are met. As of January 1, 2018, Deferred revenue on our Consolidated Balance Sheets included $3.4 million related to the IDA. As of September 30, 2018, we earned the right to receive an additional $4.5 million pursuant to the IDA, of which we have recognized $2.6 million as Sales, resulting in Deferred revenue of $5.3 million at September 30, 2018. We will earn the right to receive an additional $1.5 million in the fourth quarter of 2018 and we expect to earn the right to receive an additional $20.0 million in 2019. We expect to recognize an additional $0.9 million of Deferred revenue as Sales in the remainder of 2018, $3.2 million in 2019, and $22.7 million thereafter.


14


Note 9. Segment Results and Concentrations

Our chief operating decision maker monitors Net sales and gross margins of our Beer Related operations and our Brewpubs operations. Beer Related operations include the brewing operations and related domestic and international beer and cider sales of our Kona, Widmer Brothers, Redhook and Omission beer brands and Square Mile cider brand. Brewpubs operations primarily include our brewpubs, some of which are located adjacent to our Beer Related operations. We do not track operating results beyond the gross margin level or our assets on a segment level.

Net sales, Gross profit and gross margin information by segment was as follows (dollars in thousands):
 
 
Three Months Ended September 30,
2018
 
Beer
Related
 
Brewpubs
 
Total
Net sales
 
$
46,723

 
$
6,166

 
$
52,889

Gross profit
 
$
16,261

 
$
438

 
$
16,699

Gross margin
 
34.8
%
 
7.1
%
 
31.6
%
 
 
 
 
 
 
 
2017
 
 

 
 

 
 

Net sales
 
$
49,073

 
$
7,565

 
$
56,638

Gross profit
 
$
18,679

 
$
705

 
$
19,384

Gross margin
 
38.1
%
 
9.3
%
 
34.2
%
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
2018
 
Beer
Related
 
Brewpubs
 
Total
Net sales
 
$
143,921

 
$
18,278

 
$
162,199

Gross profit
 
$
52,913

 
$
984

 
$
53,897

Gross margin
 
36.8
%
 
5.4
%
 
33.2
%
 
 
 
 
 
 
 
2017
 
 

 
 

 
 

Net sales
 
$
140,359

 
$
21,131

 
$
161,490

Gross profit
 
$
48,569

 
$
1,813

 
$
50,382

Gross margin
 
34.6
%
 
8.6
%
 
31.2
%
 
The segments use many of the same assets. For internal reporting purposes, we do not allocate assets by segment and, therefore, no asset by segment information is provided to our chief operating decision maker.

In preparing this financial information, certain expenses were allocated between the segments based on management estimates, while others were based on specific factors such as headcount. These factors can have a significant impact on the amount of Gross profit for each segment. While we believe we have applied a reasonable methodology, assignment of other reasonable cost allocations to each segment could result in materially different segment Gross profit.

Sales to wholesalers through the A-B distributor agreement represented the following percentage of our Sales:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
2018
 
2017
 
2018
 
2017
76.9
%
 
77.2
%
 
77.2
%
 
75.2
%
 
Receivables from A-B and ABWI represented the following percentage of our Accounts receivable balance:
 
September 30,
2018
 
December 31,
2017
70.9
%
 
74.4
%


15


Note 10. Significant Stock-Based Plan Activity and Stock-Based Compensation

Stock-Based Compensation
Stock-based compensation expense was recognized in our Consolidated Statements of Operations as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Cost of sales
$
42

 
$
50

 
$
108

 
$
86

Selling, general and administrative expense
329

 
341

 
950

 
859

Total stock-based compensation expense
$
371

 
$
391

 
$
1,058

 
$
945


At September 30, 2018, we had total unrecognized stock-based compensation expense of $2.0 million, which will be recognized over the weighted average remaining vesting period of 1.8 years.
 
Note 11. Earnings Per Share

The reconciliation between the number of shares used for the basic and diluted per share calculations, as well as other related information, is as follows (in thousands):
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Weighted average common shares used for basic EPS
19,370

 
19,296

 
19,338

 
19,278

Dilutive effect of stock-based awards
175

 
147

 
187

 
123

Shares used for diluted EPS
19,545

 
19,443

 
19,525

 
19,401

 
 
 
 
 


 


Stock-based awards not included in diluted per share calculations as they would be antidilutive

 

 

 


Note 12. Commitments and Contingencies

General
We are subject to various claims and pending or threatened lawsuits in the normal course of business. Although we do not anticipate that the resolution of legal proceedings arising in the normal course of business or the proceeding described below will have a material adverse effect on our financial position, results of operations or cash flows, we cannot predict this with certainty.

Legal
On February 28, 2017 and March 6, 2017, respectively, two lawsuits, Sara Cilloni and Simone Zimmer v. Craft Brew Alliance, Inc., and Theodore Broomfield v. Kona Brewing Co. LLC, Kona Brew Enterprises, LLP, Kona Brewery LLC, and Craft Brew Alliance, Inc., were filed in the United States District Court for the Northern Division of California. On April 7, 2017, the two lawsuits were consolidated into a single complaint under the Broomfield case. The lawsuit alleges that the defendants misled customers regarding the state in which Kona Brewing Company beers are manufactured. On April 28, 2017, we filed a motion to dismiss the complaint, which was granted in part and denied in part on September 1, 2017. On September 26, 2018, the court granted Plaintiffs’ motion for class certification, forming a class of persons within the state of California who purchased certain Kona Brewing Company products within the relevant statute of limitations period. Our motion for reconsideration was denied on October 16, 2018. A trial date has been set for August of 2020. We have not recorded any liabilities with respect to the claims.

16


Note 13. Termination of Pabst Agreements

Termination of Agreements with Pabst
Effective May 1, 2017, we reached an agreement with Pabst Brewing Company, LLC, and Pabst Northwest Brewing Company, LLC (collectively, "Pabst") to terminate the brewing agreements that provided for brewing selected brands owned by Pabst at our brewery in Woodinville, Washington, through December 31, 2018. In conjunction with the termination of the brewing arrangements, Pabst's option to purchase the Woodinville brewery and adjacent pub pursuant to the Option and Agreement of Purchase and Sale dated as of January 8, 2016 (the "Option Agreement”) was also terminated. Pabst agreed to pay us $2.7 million in connection with the termination of the brewing agreements and Option Agreement. This payment is in addition to the $1.6 million of contract brewing volume shortfall fees for the 2016 calendar year recognized in the fourth quarter of 2016 and $1.7 million related to remaining volume shortfalls for the 2016 - 2017 contract year ended March 31, 2017, recognized in the first quarter of 2017. All payments had been received from Pabst by the end of the second quarter of 2017.

See Note 14 for a discussion of the classification of the assets related to our Woodinville brewery as assets held for sale.

Note 14. Assets Held for Sale and Sale of Woodinville, Washington Brewery

Assets held for sale at December 31, 2017 represented the assets related to our Woodinville, Washington Brewery, which was designated as held for sale on May 1, 2017. At the end of 2017, a $493,000 impairment charge was recorded, as a component of Selling, general and administrative expenses in our Consolidated Statements of Operations, related to the sale of our Woodinville brewery, which was sold on January 12, 2018 to assignees of Sound Commercial Investment Holdings, LLC, for a total purchase price of $24.5 million (the "Sale Transaction").

The assets that were sold included the real property, equipment, fixtures, mechanical systems, and certain personal property used in our operation of the brewery and adjacent brewpub. We paid real estate brokerage commissions totaling $0.6 million from the sale proceeds and recorded a gain of $0.5 million during the quarter ended March 31, 2018 related to the Sale Transaction, which was recorded as a component of Selling, general and administrative expenses in our Consolidated Statements of Operations.

In contemplation of the sale of certain brewing and bottling equipment included in the Sale Transaction, $0.5 million of the total purchase price was placed in escrow following the closing. If the purchaser of the equipment had sold it for less than $3.5 million, the shortfall would have been paid to the purchaser up to the amount held in escrow, with the balance, if any, paid to us. The Woodinville brewing and bottling equipment was sold for more than $3.5 million in the first quarter of 2018 and, accordingly, the $0.5 million in escrow was remitted to us.

Note 15. Subsequent Events

Amendment to Credit Agreement
On October 10, 2018, we executed a First Amendment (the "Amendment") to our Amended and Restated Credit Agreement with Bank of America, N.A. dated November 30, 2015 (as amended, the "Credit Agreement"). The Credit Agreement provides for a term loan and a revolving line of credit. The primary changes effected by the Amendment were to increase the maximum amount available under the line of credit from $40.0 million to $45.0 million and to extend the maturity date of the line of credit from November 30, 2020 to September 30, 2023, which is also the maturity date of the term loan. The maximum amount of the line of credit is subject to loan commitment reductions in the amount of $750,000 each quarter beginning March 31, 2020. The Amendment also increased the limit on the total amount of investments that we may make in other craft brewers from $5.0 million to $10.0 million.

As amended, the Credit Agreement requires us to satisfy the following financial covenants: (i) a Consolidated Leverage Ratio of 3.50 to 1.00 and (ii) a Fixed Charge Coverage Ratio of 1.20 to 1.00. Failure to maintain compliance with these covenants is an event of default and would give BofA the right to declare the entire outstanding loan balance immediately due and payable.


17


Purchase of Intellectual Property of Cisco Brewers, Inc. ("Cisco")
On October 10, 2018, we purchased the intellectual property assets of Cisco, relating to its malt beverage products (the "Products"), including all trademarks, logos, and goodwill, as well as raw materials, finished goods, work in process, packaging materials, specified contract rights, and other assets relating to the manufacture and sale of those Products (the "Purchase Transaction"). We paid $23.0 million in cash (the "Purchase Price"), assumed certain liabilities relating to the acquired assets, and agreed to pay an additional amount as a cash incentive payment based on Product shipments in 2023 in excess of a specified number of barrels. The Purchase Transaction excluded certain assets owned by Cisco, including intellectual property rights associated with its operation of its brewpub in Nantucket and a taproom in Boston, Massachusetts, as well as our brewpub in Portsmouth, New Hampshire, which Cisco began operating in June 2018. Of the Purchase Price, $690,000 was placed in escrow to cover potential liabilities associated with certain third party and direct claims relating to the assets purchased and liabilities assumed in the Purchase Transaction.

We also entered into an agreement permitting Cisco to operate up to three initial brewpubs and any number of “pop-up” locations, royalty-free under a non-exclusive license arrangement, using the intellectual property rights associated with the Products acquired by us in the Purchase Transaction. The license agreement permits Cisco to operate additional brewpubs upon the payment of a $50,000 annual royalty per brewpub.

As of the date of this report, the initial accounting for the Purchase Transaction was incomplete; therefore, we have not disclosed how we accounted for the transaction, including the amounts recognized for the transaction and the line item in the financial statements in which each amount is recognized, the amount of acquisition related costs, amounts recognized as expenses and the line item in the income statement in which each expense is recognized, and the issuance cost not recognized as expense.

Agreement to Acquire Appalachian Mountain Brewery ("AMB")
On October 10, 2018, we entered into an agreement to acquire substantially all the assets of AMB, subject to regulatory approval by the U.S. Alcohol and Tobacco Tax and Trade Bureau and the approval of holders of a majority of the outstanding shares of voting capital stock of AMB.

Increase in Ownership Interest of Wynwood
On October 10, 2018, we increased our ownership interest in Wynwood, which operates a brewery and taproom in Miami, Florida, from 24.5% to 100%. Wynwood is now a wholly owned subsidiary.

Primary Reasons Behind Transactions
We completed the acquisition of Cisco's intellectual property, increased our ownership interest in Wynwood and entered into an agreement to acquire substantially all the assets of AMB to unlock the full potential of each brand. Over the past several years, our partnerships with North Carolina-based AMB, Massachusetts-based Cisco, and Florida-based Wynwood have bolstered our brand portfolio with strong local brands and breweries in key markets, complementing Kona as the anchor of our portfolio strategy. Further, these partners have supported our strategic brewery evolution by leveraging the capability and location of the Portsmouth, New Hampshire brewery to increase production for partner brands as we rebalanced our brewing footprint. We plan to increase marketing spend and resources to fuel each brand's growth and help drive continued innovation and greater levels of support for their local communities.

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 our 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, 2017 (“2017 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 2017 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.

18


Overview

Craft Brew Alliance, Inc. ("CBA") is the seventh largest craft brewing company in the U.S. and a leader in brewing, branding, and bringing to market world-class American craft beers.

CBA’s distinctive portfolio combines the power of dynamic national lifestyle brands with strong regional craft breweries rooted in community. Our national portfolio is led by Kona Brewing Co., one of the largest craft brands in the U.S., and also includes Omission Brewing Co., which is the leader in the gluten-removed beer segment. Our regional portfolio spans some of the country's largest beer states, with Appalachian Mountain Brewery, Cisco Brewers, Redhook Brewery, Square Mile Cider Co., Widmer Brothers Brewing, and Wynwood Brewing Co. We nurture the growth and development of our brands in today’s increasingly competitive beer market through our state-of-the-art brewing and distribution capability, integrated sales and marketing infrastructure, and strong focus on partnerships, local community and sustainability.

CBA was formed in 2008 through the merger of Redhook Brewery and Widmer Brothers Brewing, the two largest craft brewing pioneers in the Northwest at the time. Following a successful strategic brewing and distribution partnership, Kona Brewing Co. joined CBA in 2010. As part of CBA, Kona has expanded its reach across all 50 U.S. states and approximately 30 international markets, while remaining deeply rooted in its home of Hawaii.

As competition in the craft beer market continues to grow and consumers increasingly demand local offerings, CBA has expanded its portfolio of brands and maximized its brewing footprint, initially through strategic partnerships with Appalachian Mountain Brewery ("AMB"), based in Boone, North Carolina; Cisco Brewers ("Cisco"), based in Nantucket, Massachusetts; and Wynwood Brewing Co. ("Wynwood"), based in Miami, Florida. Through these strategic partnerships, we gained local relevance in select beer geographies, while our partner breweries acquired access to our world-class leadership and national brewing and sales infrastructure to grow their brands. In the third quarter of 2017, we acquired a 24.5% ownership interest in Wynwood and acquired the remaining ownership interest in Wynwood in October 2018. Also in October 2018, we purchased the intellectual property assets of Cisco and entered into an agreement to acquire substantially all the assets of AMB. See Note 15 of Notes to Consolidated Financial Statements included in Part I, Item 1 of this Form 10-Q for additional information regarding these transactions.

Publicly traded on NASDAQ under the ticker symbol BREW, Craft Brew Alliance is headquartered in Portland, Oregon and operates breweries and brewpubs across the U.S.

We proudly brew our craft beers in three company-owned breweries located in Portland, Oregon; Portsmouth, New Hampshire; and Kailua-Kona, Hawaii. In 2016, we entered into a contract brewing agreement with A-B Commercial Strategies, LLC (“ABCS”), an affiliate of Anheuser-Busch, LLC (“A-B”), and have been producing some CBA beers at ABCS's brewery in Fort Collins, Colorado since 2017. Additionally, we own and operate three small innovation breweries, which are primarily used for small batch production and experimental, limited-release beers that could potentially scale for larger production; these innovation breweries are located in Portland, Oregon, Seattle, Washington and Portsmouth, New Hampshire.

We distribute our beers to retailers through wholesalers that are aligned with the A-B network. These sales are made pursuant to a Master Distributor Agreement (the “A-B Distributor Agreement”) with A-B, which extends through 2028. As a result of this distribution arrangement, we believe that, under alcohol beverage laws in a majority of states, these wholesalers would own the exclusive right to distribute our beers in their respective markets if the A-B Distributor Agreement expires or is terminated. Our Kona and Omission brands are distributed nationally and internationally, while we focus distribution of our regional brands in their respective home markets. Separate from our A-B wholesalers, we maintain an internal independent sales and marketing organization with resources across the key functions of brand management, field marketing, field sales, and national retail sales.

On January 30, 2018, we entered into a Contract Brewing Agreement (the “Brewing Agreement”) with Anheuser-Busch Companies, LLC ("ABC"), an affiliate of A-B, pursuant to which we brew, package, and palletize certain malt beverage products of A-B's craft breweries at our Portland, Oregon, and Portsmouth, New Hampshire, breweries as selected by ABC. Under the terms of the Brewing Agreement, ABC pays us a per barrel fee that varies based on the annual volume of the specified product brewed by us, plus (a) our actual incremental costs of brewing the product and (b) certain capital costs and costs of graphics and labeling that we incur in connection with the brewed products. This Brewing Agreement will expire on December 31, 2018, unless the arrangement is extended at the mutual agreement of the parties.

We operate in two segments: Beer Related operations and Brewpubs operations. Beer Related operations include the brewing, and domestic and international sales, of craft beers and ciders from our breweries. Brewpubs operations primarily include our five brewpubs, three of which are located adjacent to our Beer Related operations, as well as other merchandise sales, and sales of our beers directly to customers.


19


Following is a summary of our financial results:
Nine Months Ended September 30,
 
Net sales
 
Net income
 
Number of
barrels sold
2018
 
$162.2 million
 
$4.7 million
 
587,400
2017
 
$161.5 million
 
$1.7 million
 
586,300

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
September 30,
 
Nine Months Ended
September 30,
 
2018
 
2017
 
2018
 
2017
Sales
105.2
 %
 
106.0
 %
 
105.4
 %
 
105.9
 %
Less excise taxes
(5.2
)
 
(6.0
)
 
(5.4
)
 
(5.9
)
Net sales
100.0

 
100.0

 
100.0

 
100.0

Cost of sales
68.4

 
65.8

 
66.8

 
68.8

Gross profit
31.6

 
34.2

 
33.2

 
31.2

Selling, general and administrative expenses
31.6

 
28.8

 
29.2

 
29.3

Operating income (loss)

 
5.4

 
4.1

 
1.9

Interest expense
(0.2
)
 
(0.3
)
 
(0.2
)
 
(0.3
)
Other income (expense), net

 
(0.1
)
 

 

Income (loss) before income taxes
(0.3
)
 
5.0

 
3.9

 
1.5

Income tax provision (benefit)
(0.4
)
 
1.9

 
1.0

 
0.5

Net income
0.1
 %
 
3.1
 %
 
2.9
 %
 
1.0
 %

(1)
Percentages may not add due to rounding.

20


Segment Information
Net sales, Gross profit and Gross margin information by segment was as follows (dollars in thousands):
 
 
Three Months Ended September 30,
2018
 
Beer
Related
 
Brewpubs
 
Total
Net sales
 
$
46,723

 
$
6,166

 
$
52,889

Gross profit
 
$
16,261

 
$
438

 
$
16,699

Gross margin
 
34.8
%
 
7.1
%
 
31.6
%
 
 
 
 
 
 
 
2017
 
 

 
 

 
 

Net sales
 
$
49,073

 
$
7,565

 
$
56,638

Gross profit
 
$
18,679

 
$
705

 
$
19,384

Gross margin
 
38.1
%
 
9.3
%
 
34.2
%
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
2018
 
Beer
Related
 
Brewpubs
 
Total
Net sales
 
$
143,921

 
$
18,278

 
$
162,199

Gross profit
 
$
52,913

 
$
984

 
$
53,897

Gross margin
 
36.8
%
 
5.4
%
 
33.2
%
 
 
 
 
 
 
 
2017
 
 

 
 

 
 

Net sales
 
$
140,359

 
$
21,131

 
$
161,490

Gross profit
 
$
48,569

 
$
1,813

 
$
50,382

Gross margin
 
34.6
%
 
8.6
%
 
31.2
%
 

21


Sales by Category
Sales by category were as follows (dollars in thousands):
 
 
Three Months Ended September 30,
 
Dollar
 
 
Sales by Category
 
2018
 
2017
 
Change
 
% Change
A-B and A-B related(1)
 
$
42,807

 
$
46,348

 
$
(3,541
)
 
(7.6
)%
Contract brewing and beer related(2)
 
6,666

 
6,127

 
539

 
8.8
 %
Excise taxes
 
(2,750
)
 
(3,402
)
 
652

 
(19.2
)%
Net beer related sales
 
46,723

 
49,073

 
(2,350
)
 
(4.8
)%
Brewpubs(3)
 
6,166

 
7,565

 
(1,399
)
 
(18.5
)%
Net sales
 
$
52,889

 
$
56,638

 
$
(3,749
)
 
(6.6
)%
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
Dollar
 
 
Sales by Category
 
2018
 
2017
 
Change
 
% Change
A-B and A-B related(1)
 
$
132,011

 
$
128,676

 
$
3,335

 
2.6
 %
Contract brewing and beer related(2)
 
20,688

 
21,203

 
(515
)
 
(2.4
)%
Excise taxes
 
(8,778
)
 
(9,520
)
 
742

 
(7.8
)%
Net beer related sales
 
143,921

 
140,359

 
3,562

 
2.5
 %
Brewpubs(3)
 
18,278

 
21,131

 
(2,853
)
 
(13.5
)%
Net sales
 
$
162,199

 
$
161,490

 
$
709

 
0.4
 %

(1)
A-B and A-B related includes domestic and international sales of our owned brands sold through A-B and Ambev, as well as non-owned brands sold pursuant to master distribution agreements, fees earned pursuant to the Brewing Agreement with ABC and the international distribution fees earned from ABWI.
(2)
Beer related includes international sales of our beers, and non-owned brands, not sold through A-B or Ambev, as well as fees earned through alternating proprietorship agreements and from contract brewing shortfall fees.
(3)
Brewpubs sales include sales of promotional merchandise and sales of beer directly to customers.

Shipments by Category
Shipments by category were as follows (in barrels):
Three Months Ended September 30,
 
2018 Shipments
 
2017 Shipments
 
Increase
(Decrease)
 
%
Change
 
Change in
Depletions
(1)
A-B and A-B related(2)
 
170,000

 
182,700

 
(12,700
)
 
(7.0
)%
 
(1
)%
Contract brewing and beer related(3)
 
24,000

 
22,700

 
1,300

 
5.7
 %
 
 

Brewpubs
 
1,800

 
2,500

 
(700
)
 
(28.0
)%
 
 

Total
 
195,800

 
207,900

 
(12,100
)
 
(5.8
)%
 
 

 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
2018 Shipments
 
2017 Shipments
 
Increase
(Decrease)
 
%
Change
 
Change in
Depletions
(1)
A-B and A-B related(2)
 
514,800

 
512,000

 
2,800

 
0.5
 %
 
(2
)%
Contract brewing and beer related(3)
 
67,000

 
67,200

 
(200
)
 
(0.3
)%
 
 

Brewpubs
 
5,600

 
7,100

 
(1,500
)
 
(21.1
)%
 
 

Total
 
587,400

 
586,300

 
1,100

 
0.2
 %
 
 


(1)
Change in depletions reflects the year-over-year change in barrel volume sales of beer by wholesalers to retailers.
(2)
A-B and A-B related includes domestic and international shipments of our owned brands distributed through A-B and Ambev, as well as non-owned brands distributed pursuant to master distribution agreements and shipments pursuant to the Brewing Agreement with ABC.
(3)
Beer related includes international shipments of our beers, and non-owned brands, not distributed through A-B or Ambev.




22


The decrease in sales to A-B and A-B related in the three-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to a decrease in shipment volume due to timing of production runs in Fort Collins, partially offset by an increase in average unit pricing. International distribution fees earned were $0.9 million in the three-month periods ended September 30, 2018 and 2017. The increase in sales to A-B and A-B related in the nine-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to increases in average unit pricing and shipment volume. International distribution fees earned were $2.6 million in the nine-month periods ended September 30, 2018 and 2017.

The increase in Contract brewing and beer related sales in the three-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to an increase in international shipments of our beer and an increase in our alternating proprietorship fees, partially offset by a decrease in contract brewing volume. The decrease in Contract brewing and beer related sales in the nine-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to $1.7 million of non-recurring fees earned in the 2017 period from Pabst Northwest Brewing Company ("Pabst") related to a contract brewing volume shortfall and a decrease in contract brewing volume, partially offset by an increase in international shipments of our beer and an increase in our alternating proprietorship fees.

Brewpubs sales decreased in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017, primarily as a result of the closure of our Woodinville brewpub, as well as the conversion of our Portland brewpub into a beer-focused taproom, both at the end of 2017, partially offset by the opening of our newest brewpub, Redhook Brewlab, in Seattle, Washington, in the third quarter of 2017. Sales at our Kona brewpub were adversely affected by the lower tourism resulting from the eruption of the Kilauea volcano and hurricane Lane.

In December 2017, the Tax Cuts and Jobs Act was signed into law; it provides significant excise tax relief to small and regional brewers and small wineries effective January 1, 2018. The new law affects our Excise taxes in the following ways:

Beer: Reduced the federal excise tax to $3.50 per barrel on the first 60,000 barrels for domestic brewers producing fewer than 2 million barrels annually, down from $7.00 per barrel;
Beer: Reduced the federal excise tax to $16.00 per barrel on the first 6 million barrels for all other brewers and all beer importers, down from $18.00 per barrel; and
Cider: While the existing excise tax on hard cider did not change from $0.226 per gallon, the new laws expanded the small producer tax credit for hard cider to $0.062 on the first 30,000 gallons for an effective rate of $0.164 per gallon; the tax credit on the next 100,000 gallons produced is $0.056 for an effective rate of $0.17 per gallon; and producers like us, who produce between 130,000 and 750,000 gallons, receive a $0.033 credit for an effective tax rate of $0.193 per gallon.

Currently, the changes in the Tax Cuts and Jobs Act are set to expire at the end of 2019. However, the Beer Institute, of which we are a member, and other industry groups support extending the relief embodied in the Tax Cuts and Jobs Act and making federal excise tax relief for all brewers and beer importers permanent. Excise taxes may be increased in the future by the federal government or any state government or both. In the past, increases in excise taxes on alcoholic beverages have been considered in connection with various governmental budget-balancing or funding proposals.


23


Shipments by Brand
The following table sets forth a comparison of shipments by brand (in barrels):
Three Months Ended September 30,
 
2018 Shipments
 
2017 Shipments
 
Increase
(Decrease)
 
%
Change
 
Change in
Depletions
Kona
 
120,100

 
122,500

 
(2,400
)
 
(2.0
)%
 
9
 %
Widmer Brothers
 
24,600

 
32,900

 
(8,300
)
 
(25.2
)%
 
(22
)%
Redhook
 
16,200

 
24,400

 
(8,200
)
 
(33.6
)%
 
(27
)%
Omission
 
11,400

 
12,600

 
(1,200
)
 
(9.5
)%
 
(4
)%
All other(1)
 
14,500

 
12,800

 
1,700

 
13.3
 %
 
8
 %
Total(2)
 
186,800

 
205,200

 
(18,400
)
 
(9.0
)%
 
(1
)%
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
2018 Shipments
 
2017 Shipments
 
Increase
(Decrease)
 
%
Change
 
Change in
Depletions
Kona
 
360,100

 
335,500

 
24,600

 
7.3
 %
 
7
 %
Widmer Brothers
 
76,800

 
96,100

 
(19,300
)
 
(20.1
)%
 
(20
)%
Redhook
 
55,200

 
71,700

 
(16,500
)
 
(23.0
)%
 
(26
)%
Omission
 
34,500

 
33,900

 
600

 
1.8
 %
 
3
 %
All other(1)
 
39,500

 
35,400

 
4,100

 
11.6
 %
 
13
 %
Total(2)
 
566,100

 
572,600

 
(6,500
)
 
(1.1
)%
 
(2
)%

(1)
All other includes the shipments and depletions from our Square Mile brand family, as well as the previously non-owned Cisco Brewers, AMB and Wynwood brand families, shipped by us pursuant to distribution agreements.
(2)
Total shipments by brand include international shipments and exclude shipments produced under our contract brewing arrangements.

The decrease in our Kona brand shipments in the three-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to a decrease in domestic shipments, primarily led by a decline in the Longboard Lager brand, partially offset by continued demand for Big Wave Golden Ale. In the third quarter of 2017, more Kona beer was produced and shipped out of A-B's Fort Collins brewery than in the third quarter of 2018, primarily due to timing of production runs.

The increase in our Kona brand shipments in the nine-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to increases in domestic and international shipments, primarily led by continued demand for Big Wave Golden Ale and our newest brand, Kanaha Blonde Ale, partially offset by declines in Longboard Lager.

The decreases in our Widmer Brothers brand shipments in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017 were led by decreases in Hefeweizen brand shipments, primarily due to increased competition in the home market of Oregon.

Redhook brand shipments decreased in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017, primarily due to a continued strategic focus on the home market of Washington, led by declines in the Longhammer IPA brand, partially offset by increased demand for our Big Ballard IPA brand.

Omission brand shipments decreased in the three-month period ended September 30, 2018 compared to the same period of 2017, primarily led by declines in the Pale Ale and Lager brands, partially offset by increased demand for our newest brand, Omission Ultimate Light.

Omission brand shipments increased in the nine-month period ended September 30, 2018 compared to the same period of 2017, primarily led by increased demand for our newest brand, Omission Ultimate Light, partially offset by declines in the Pale Ale and Lager brands.

The increases in All other shipments in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017 were primarily due to increases in the shipment volumes related to our distribution agreements with Wynwood and AMB.

24


Shipments by Package
The following table sets forth a comparison of our shipments by package, excluding shipments produced under our contract brewing arrangements (in barrels):
 
 
Three Months Ended September 30,
 
 
2018
 
2017
 
 
Shipments
 
% of Total
 
Shipments
 
% of Total
Draft
 
43,500

 
23.3
%
 
46,700

 
22.8
%
Packaged
 
143,300

 
76.7
%
 
158,500

 
77.2
%
Total
 
186,800

 
100.0
%
 
205,200

 
100.0
%
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
 
2018
 
2017
 
 
Shipments
 
% of Total
 
Shipments
 
% of Total
Draft
 
132,500

 
23.4
%
 
130,900

 
22.9
%
Packaged
 
433,600

 
76.6
%
 
441,700

 
77.1
%
Total
 
566,100

 
100.0
%
 
572,600

 
100.0
%

The package mix was relatively consistent in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017.

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

Information regarding Cost of sales was as follows (dollars in thousands):
 
Three Months Ended September 30,
 
Dollar
 
 
 
2018
 
2017
 
Change
 
% Change
Beer Related
$
30,462

 
$
30,394

 
$
68

 
0.2
 %
Brewpubs
5,728

 
6,860

 
(1,132
)
 
(16.5
)%
Total
$
36,190

 
$
37,254

 
$
(1,064
)
 
(2.9
)%
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
Dollar
 
 
 
2018
 
2017
 
Change
 
% Change
Beer Related
$
91,008

 
$
91,790

 
$
(782
)
 
(0.9
)%
Brewpubs
17,294

 
19,318

 
(2,024
)
 
(10.5
)%
Total
$
108,302

 
$
111,108

 
$
(2,806
)
 
(2.5
)%

The slight increase in Beer Related Cost of sales in the three-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to an increase in brewery costs on a per barrel basis as a result of lower overall utilization and an increase in alternating proprietorship volume, partially offset by a decrease in shipment volume.

The decrease in Beer Related Cost of sales in the nine-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to a decrease in Beer Related Cost of sales on a per barrel basis. The decrease in our Beer Related Cost of sales on a per barrel basis was primarily due to the lower cost of having a portion of our beer produced by A-B in its Fort Collins, Colorado brewery, as well as cost savings associated with removing the Woodinville facility from our brewing footprint and the termination of our contract brewing agreement in Memphis, which had higher costs on a per barrel basis, partially offset by increases in brewery costs due to higher fixed overhead and distribution rates on a per barrel basis and an increase in shipment volume.

The decreases in Brewpubs Cost of sales in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017 were primarily due to closure of the Woodinville brewpub and conversion of the Portland brewpub into a taproom, partially offset by the costs of opening our new brewpub in Seattle, as well as increased sales at our Kona brewpub in the nine-month period.


25


Capacity Utilization
Capacity utilization is calculated by dividing total shipments by approximate working capacity and was as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Capacity Utilization
59
%
 
63
%
 
59
%
 
62
%

In June 2014, we initiated full-scale brewing with our brewing partner in Memphis, Tennessee. This partnership provided us scalable capacity and we had the ability to produce up to 100,000 barrels at this location annually. Production ceased with this brewing partner during the second quarter of 2017. In 2016, we entered into a contract brewing agreement with ABCS with the ability to have up to 300,000 barrels produced annually and, during the second quarter of 2017, production began in their facilities. Our capacity utilization declined in the three-month period ended September 30, 2018 compared to the same period of 2017 due to a decrease in shipment volume. Our capacity utilization declined in the nine-month period ended September 30, 2018 compared to the same period of 2017 due to a larger percentage of our beer being brewed by ABCS as part of our contract brewing relationship and evolving brewery footprint.

As discussed in Notes 13 and 14 of Notes to Consolidated Financial Statements included in Part I, Item 1 of this report, we ceased production at our Woodinville, Washington brewery during the second quarter of 2017, which reduced the capacity of our owned breweries beginning in the third quarter of 2017. As a result, beginning with the third quarter of 2017, our capacity utilization calculation was revised to exclude, from the denominator, the production capacity of our Woodinville, Washington brewery, which we have estimated to be approximately 220,000 barrels per year.

Gross Profit
Information regarding Gross profit was as follows (dollars in thousands):
 
Three Months Ended September 30,
 
Dollar
 
 
 
2018
 
2017
 
Change
 
% Change
Beer Related
$
16,261

 
$
18,679

 
$
(2,418
)
 
(12.9
)%
Brewpubs
438

 
705

 
(267
)
 
(37.9
)%
Total
$
16,699

 
$
19,384

 
$
(2,685
)
 
(13.9
)%
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30,
 
Dollar
 
 
 
2018
 
2017
 
Change
 
% Change
Beer Related
$
52,913

 
$
48,569

 
$
4,344

 
8.9
 %
Brewpubs
984

 
1,813

 
(829
)
 
(45.7
)%
Total
$
53,897

 
$
50,382

 
$
3,515

 
7.0
 %

Gross profit as a percentage of Net sales, or gross margin, was as follows:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Beer Related
34.8
%
 
38.1
%
 
36.8
%
 
34.6
%
Brewpubs
7.1
%
 
9.3
%
 
5.4
%
 
8.6
%
Overall
31.6
%
 
34.2
%
 
33.2
%
 
31.2
%
 
The decrease in Beer Related Gross profit and gross margin in the three-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to a decrease in shipment volume and an increase in brewery costs on a per barrel basis, partially offset by increased unit pricing. Beer Related Gross profit and gross margin were also negatively affected by a change in mix of our shipments from our more profitable owned brands to less profitable alternating proprietorship and contract brewing volume, as well as decreased cross-brewing volume from A-B's Fort Collins brewery.

The increase in Beer Related Gross profit and gross margin in the nine-month period ended September 30, 2018 compared to the same period of 2017 was primarily due to increased unit pricing, as well as the lower costs related to having a portion of our beer produced by A-B in Fort Collins, partially offset by $1.7 million of non-recurring fees earned from Pabst related to a contract

26


brewing volume shortfall in the 2017 nine-month period, and increases in brewery costs and distribution rates on a per barrel basis and an increase in alternating proprietorship volume.

The decreases in Brewpubs Gross profit and gross margin in the three and nine-month periods ended September 30, 2018 compared to the same periods of 2017 were primarily due to the net costs associated with our new brewpub in Seattle and the closure of our Woodinville brewpub, partially offset by the increased sales at our Kona brewpub in the nine-month period.

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
September 30,