Company Quick10K Filing
Turning Point Brands
Price24.58 EPS2
Shares20 P/E16
MCap493 P/FCF25
Net Debt212 EBIT38
TEV705 TEV/EBIT19
TTM 2019-09-30, in MM, except price, ratios
10-Q 2020-03-31 Filed 2020-04-28
10-K 2019-12-31 Filed 2020-03-12
10-Q 2019-09-30 Filed 2019-11-04
10-Q 2019-06-30 Filed 2019-08-01
10-Q 2019-03-31 Filed 2019-05-01
10-K 2018-12-31 Filed 2019-03-07
10-Q 2018-09-30 Filed 2018-11-07
10-Q 2018-06-30 Filed 2018-08-08
10-Q 2018-03-31 Filed 2018-05-09
10-K 2017-12-31 Filed 2018-03-08
10-Q 2017-09-30 Filed 2017-11-09
10-Q 2017-06-30 Filed 2017-08-10
10-Q 2017-03-31 Filed 2017-05-11
10-K 2016-12-31 Filed 2017-03-13
10-Q 2016-09-30 Filed 2016-11-10
10-Q 2016-06-30 Filed 2016-08-11
10-Q 2016-03-31 Filed 2016-06-15
8-K 2020-06-10
8-K 2020-04-28
8-K 2020-04-28
8-K 2020-04-07
8-K 2020-02-26
8-K 2019-11-13
8-K 2019-11-01
8-K 2019-09-20
8-K 2019-07-31
8-K 2019-07-25
8-K 2019-07-24
8-K 2019-05-01
8-K 2019-05-01
8-K 2019-03-05
8-K 2018-11-26
8-K 2018-09-26
8-K 2018-09-05
8-K 2018-08-08
8-K 2018-05-09
8-K 2018-05-08
8-K 2018-05-02
8-K 2018-03-13
8-K 2018-03-07

TPB 10Q Quarterly Report

Part I - Financial Information
Item 1. Financial Statements
Note 1. Organizations and Basis of Presentation
Note 2. Summary of Significant Accounting Policies
Note 3. Acquisitions
Note 4. Derivative Instruments
Note 5. Fair Value of Financial Instruments
Note 6. Inventories
Note 7. Other Current Assets
Note 8. Property, Plant, and Equipment
Note 9. Other Assets
Note 10. Accrued Liabilities
Note 11. Notes Payable and Long - Term Debt
Note 12. Leases
Note 13. Income Taxes
Note 14. Pension and Postretirement Benefit Plans
Note 15. Share Incentive Plans
Note 16. Contingencies
Note 17. Income per Share
Note 18. Segment Information
Note 19. Dividends and Share Repurchase
Note 20. 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 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
EX-10.1 ex10_1.htm
EX-31.1 ex31_1.htm
EX-31.2 ex31_2.htm
EX-31.3 ex31_3.htm
EX-32.1 ex32_1.htm

Turning Point Brands Earnings 2020-03-31

Balance SheetIncome StatementCash Flow
0.50.40.30.20.10.02015201620182020
Assets, Equity
0.10.10.10.00.00.02015201620182020
Rev, G Profit, Net Income
0.10.10.0-0.0-0.1-0.12015201620182020
Ops, Inv, Fin

10-Q 1 form10q.htm 10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2020
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: 001-37763
 
TURNING POINT BRANDS, INC.
(Exact name of registrant as specified in its charter)

Delaware
 
20-0709285
(State or other jurisdiction of Incorporation or organization)
 
(I.R.S. Employer Identification No.)
     
5201 Interchange Way, Louisville, KY
 
40229
(Address of principal executive offices)
 
(Zip Code)

(502) 778-4421
(Registrant’s telephone number, including area code)
 Former name, former address and former fiscal year, if changed since last report: not applicable

Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $0.01 par value
TPB
New York Stock Exchange

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, 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
 
☐ (Do not check if a smaller reporting company)
 
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   ☑

At April 20, 2020, there were 19,556,158 shares outstanding of the registrant’s voting common stock, par value $0.01 per share.



TURNING POINT BRANDS, INC.
TABLE OF CONTENTS
     
Page No.
PART I—FINANCIAL INFORMATION
 
   
 
ITEM 1
Financial Statements (Unaudited)
 
       
   
5
       
   
6
       
   
7
       
   
8
       
   
9
       
   
10
       
 
ITEM 2
29
   


 
ITEM 3
37
       
 
ITEM 4
38
       
PART II—OTHER INFORMATION
 
   
 
ITEM 1
39
       
 
ITEM 1A
39
       
 
ITEM 2
39
       
 
ITEM 3
39
       
 
ITEM 4
39
       
 
ITEM 5
40
     
 
ITEM 6
40
       
   
41

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the federal securities laws. Forward-looking statements may generally be identified by the use of words such as “anticipate,” “believe,” “expect,” “intend,” “plan,” and “will” or, in each case, their negative, or other variations or comparable terminology. These forward-looking statements include all matters that are not historical facts. By their nature, forward-looking statements involve risks and uncertainties because they relate to events, and depend on circumstances, that may or may not occur in the future. As a result, actual events may differ materially from those expressed in, or suggested by, the forward-looking statements. Any forward-looking statement made by Turning Point Brands, Inc. (“TPB”), in this Quarterly Report on Form 10-Q speaks only as of the date hereof. New risks and uncertainties come up from time to time, and it is impossible for TPB to predict these events or how they may affect it. TPB has no obligation, and does not intend, to update any forward-looking statements after the date hereof, except as required by federal securities laws. Factors that could cause these differences include, but are not limited to:


declining sales of tobacco products, and expected continuing decline of sales, in the tobacco industry overall;

our dependence on a small number of third-party suppliers and producers;

the possibility that we will be unable to identify or contract with new suppliers or producers in the event of a supply or product disruption;

our business may be damaged by events outside of our suppliers’ control, such as the impact of epidemics (e.g., coronavirus), political upheavals, or natural disasters;

the possibility that our licenses to use certain brands or trademarks will be terminated, challenged or restricted;

failure to maintain consumer brand recognition and loyalty of our customers;

substantial and increasing U.S. regulation;

regulation of our products by the FDA, which has broad regulatory powers;

our products are subject to developing and unpredictable regulation, for example, current court action moving forward certain substantial Pre Market Tobacco Application obligations;

some of our products contain nicotine which is considered to be a highly addictive substance;

uncertainty related to the regulation and taxation of our NewGen products;

possible significant increases in federal, state and local municipal tobacco- and vapor-related taxes;

possible increasing international control and regulation;

our reliance on relationships with several large retailers and national chains for distribution of our products;

our amount of indebtedness;

the terms of our credit facilities, which may restrict our current and future operations;

intense competition and our ability to compete effectively;

uncertainty and continued evolution of markets containing our NewGen products;

significant product liability litigation;

the scientific community’s lack of information regarding the long-term health effects of certain substances contained in some of our products;

requirement to maintain compliance with master settlement agreement escrow account;

competition from illicit sources;

our reliance on information technology;

security and privacy breaches;

contamination of our tobacco supply or products;

infringement on our intellectual property;

third-party claims that we infringe on their intellectual property;

failure to manage our growth;

failure to successfully integrate our acquisitions or otherwise be unable to benefit from pursuing acquisitions;

fluctuations in our results;

exchange rate fluctuations;

adverse U.S. and global economic conditions;

sensitivity of end-customers to increased sales taxes and economic conditions;

failure to comply with certain regulations;

departure of key management personnel or our inability to attract and retain talent;

imposition of significant tariffs on imports into the U.S.; 

reduced disclosure requirements applicable to emerging growth companies may make our common stock less attractive to investors, potentially decreasing our stock price;


failure to maintain our status as an emerging growth company before the five-year maximum time period a company may retain such status;

our principal stockholders will be able to exert significant influence over matters submitted to our stockholders and may take certain actions to prevent takeovers;

our certificate of incorporation and bylaws, as well as Delaware law and certain regulations, could discourage or prohibit acquisition bids or merger proposals, which may adversely affect the market price of our common stock;

our certificate of incorporation limits the ownership of our common stock by individuals and entities that are Restricted Investors. These restrictions may affect the liquidity of our common stock and may result in Restricted Investors being required to sell or redeem their shares at a loss or relinquish their voting, dividend and distribution rights;

future sales of our common stock in the public market could reduce our stock price, and any additional capital raised by us through the sale of equity or convertible securities may dilute your ownership in us;

we may issue preferred stock whose terms could adversely affect the voting power or value of our common stock; and

our status as a “controlled company” could make our common stock less attractive to some investors or otherwise harm our stock price.

PART I—FINANCIAL INFORMATION
 
Item 1. Financial Statements
 
Turning Point Brands, Inc.
Consolidated Balance Sheets
(dollars in thousands except share data)

ASSETS
 
(unaudited)
March 31,
2020
   
December 31,
2019
 
Current assets:
           
Cash
 
$
99,406
   
$
95,250
 
Accounts receivable, net of allowances of $256 in 2020 and $280 in 2019
   
4,310
     
6,906
 
Inventories
   
69,195
     
70,979
 
Other current assets
   
18,868
     
16,115
 
Total current assets
   
191,779
     
189,250
 
Property, plant, and equipment, net
   
13,404
     
13,816
 
Right of use assets
   
13,036
     
12,130
 
Deferred financing costs, net
   
860
     
890
 
Goodwill
   
154,282
     
154,282
 
Other intangible assets, net
   
33,044
     
33,469
 
Master Settlement Agreement (MSA) escrow deposits
   
32,074
     
32,074
 
Other assets
   
10,841
     
10,673
 
Total assets
 
$
449,320
   
$
446,584
 
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
Current liabilities:
               
Accounts payable
 
$
17,348
   
$
14,126
 
Accrued liabilities
   
28,754
     
26,520
 
Current portion of long-term debt
   
12,000
     
15,240
 
Revolving credit facility
   
-
     
-
 
Total current liabilities
   
58,102
     
55,886
 
Notes payable and long-term debt
   
267,977
     
268,951
 
Deferred income taxes
   
1,495
     
1,572
 
Lease liabilities
   
11,673
     
11,067
 
Other long-term liabilities
   
4,762
     
2,523
 
Total liabilities
   
344,009
     
339,999
 
                 
Commitments and contingencies
               
                 
Stockholders’ equity:
               
Preferred stock; $0.01 par value; authorized shares 40,000,000; issued and outstanding shares -0-
   
-
     
-
 
Common stock, voting, $0.01 par value; authorized shares, 190,000,000; 19,723,080 issued shares, 19,588,950 outstanding shares at March 31, 2020, and 19,680,673 issued and outstanding shares at December 31, 2019
    197
      197
 
Common stock, nonvoting, $0.01 par value; authorized shares, 10,000,000; issued and outstanding shares -0-
   
-
     
-
 
Additional paid-in capital
   
126,151
     
125,469
 
Cost of repurchased common stock (134,130 shares at March 31, 2020 and 0 shares at December 31, 2019)
   
(2,627
)
   
-
 
Accumulated other comprehensive loss
   
(5,379
)
   
(3,773
)
Accumulated deficit
   
(13,031
)
   
(15,308
)
Total stockholders’ equity
   
105,311
     
106,585
 
Total liabilities and stockholders’ equity
 
$
449,320
   
$
446,584
 

The accompanying notes are an integral part of the consolidated financial statements.

Turning Point Brands, Inc.
Consolidated Statements of Income
(dollars in thousands except share data)
(unaudited)

   
Three Months Ended March 31,
 
   
2020
   
2019
 
             
Net sales
 
$
90,689
   
$
91,628
 
Cost of sales
   
49,258
     
51,164
 
Gross profit
   
41,431
     
40,464
 
Selling, general, and administrative expenses
   
32,394
     
28,429
 
Operating income
   
9,037
     
12,035
 
Interest expense, net
   
4,994
     
3,856
 
Investment income
   
(91
)
   
(144
)
Net periodic income, excluding service cost
   
(87
)
   
(11
)
Income before income taxes
   
4,221
     
8,334
 
Income tax expense
   
946
     
1,774
 
Consolidated net income
   
3,275
     
6,560
 
                 
Basic income per common share:
               
Consolidated net income
 
$
0.17
   
$
0.34
 
Diluted income per common share:
               
Consolidated net income
 
$
0.16
   
$
0.33
 
Weighted average common shares outstanding:
               
Basic
   
19,689,446
     
19,559,596
 
Diluted
   
20,106,800
     
20,045,964
 

The accompanying notes are an integral part of the consolidated financial statements.
 
Turning Point Brands, Inc.
Consolidated Statements of Comprehensive Income
(dollars in thousands)
(unaudited)

   
Three Months Ended
March 31,
 
   
2020
   
2019
 
Consolidated net income
 
$
3,275
   
$
6,560
 
                 
Other comprehensive income (loss), net of tax
               
Amortization of unrealized pension and postretirement gain (loss), net of tax of $2 in 2020 and $1 in 2019
   
9
     
(4
)
Unrealized gain on investments, net of tax of $0 in 2020 and $93 in 2019
   
-
     
402
 
Unrealized loss on interest rate swaps, net of tax of $624 in 2020 and $182 in 2019
   
(1,615
)
   
(476
)
     
(1,606
)
   
(78
)
                 
Consolidated comprehensive income
 
$
1,669
   
$
6,482
 

The accompanying notes are an integral part of the consolidated financial statements

Turning Point Brands, Inc.
Consolidated Statements of Cash Flows
(dollars in thousands)
(unaudited)
 
   
Three Months Ended March 31,
 
   
2020
   
2019
 
Cash flows from operating activities:
           
Consolidated net income
 
$
3,275
   
$
6,560
 
Adjustments to reconcile net income to net cash provided by operating activities:
               
Loss on sale of property, plant, and equipment
   
-
     
23
 
Depreciation expense
   
851
     
531
 
Amortization of other intangible assets
   
425
     
359
 
Amortization of debt discount and deferred financing costs
   
2,237
     
237
 
Deferred income taxes
   
545
     
(29
)
Stock compensation expense
   
455
     
466
 
Noncash lease expense
   
13
     
-
 
Changes in operating assets and liabilities:
               
Accounts receivable
   
2,596
     
(1,726
)
Inventories
   
1,784
     
366
 
Other current assets
   
(2,420
)
   
2,984
 
Other assets
   
(130
)
   
(427
)
Accounts payable
   
3,210
     
8,229
 
Accrued postretirement liabilities
   
(27
)
   
(9
)
Accrued liabilities and other
   
1,913
     
(3,539
)
Net cash provided by operating activities
 
$
14,727
   
$
14,025
 
                 
Cash flows from investing activities:
               
Capital expenditures
 
$
(877
)
 
$
(886
)
Restricted cash, MSA escrow deposits
   
-
     
1,702
 
Net cash provided by (used in) investing activities
 
$
(877
)
 
$
816
 
                 
Cash flows from financing activities:
               
Payments of 2018 first lien term loan
 
$
(2,000
)
 
$
(2,000
)
Payments of 2018 revolving credit facility
   
-
     
(12,000
)
Payment of IVG note
   
(4,240
)
   
-
 
Payment of dividends
   
(886
)
   
(880
)
Payments of financing costs
   
(168
)
   
-
 
Exercise of options
   
227
     
187
 
Redemption of options
   
-
     
(12
)
Common stock repurchased
   
(2,627
)
   
-
 
Net cash used in financing activities
 
$
(9,694
)
 
$
(14,705
)
                 
Net increase in cash
 
$
4,156
   
$
136
 
                 
Cash, beginning of period:
               
Unrestricted
   
95,250
     
3,306
 
Restricted
   
32,074
     
2,361
 
Total cash at beginning of period
   
127,324
     
5,667
 
                 
Cash, end of period:
               
Unrestricted
   
99,406
     
1,741
 
Restricted
   
32,074
     
4,062
 
Total cash at end of period
 
$
131,480
   
$
5,803
 
                 
Supplemental schedule of noncash financing activities:
               
Accrued expenses incurred for financing costs
 
$
13
   
$
-
 
Dividends declared not paid
 
$
998
   
$
887
 
 
The accompanying notes are an integral part of the consolidated financial statements

Turning Point Brands, Inc., and Subsidiaries
Consolidated Statements of Change in Stockholders’ Deficit
for the years ended December 31, 2019, 2018, and 2017
(dollars in thousands)

   
Voting
Shares
   
Common
Stock,
Voting
   
Additional
Paid-In
Capital
   
Cost of
Repurchased
Common Stock
   
Accumulated
Other
Comprehensive
Loss
   
Accumulated
Deficit
   
Total
 
                                           
Beginning balance January 1, 2020
   
19,680,673
   
$
197
   
$
125,469
   
$
-
   
$
(3,773
)
 
$
(15,308
)
 
$
106,585
 
                                                         
Unrecognized pension and postretirement cost adjustment, net of tax of $2
   
-
     
-
     
-
     
-
     
9
     
-
     
9
 
Unrealized loss on interest rate swaps, net of tax of $624
   
-
     
-
     
-
     
-
     
(1,615
)
   
-
     
(1,615
)
Stock compensation expense
   
-
     
-
     
455
     
-
     
-
     
-
     
455
 
Exercise of options
   
42,407
     
-
     
227
     
-
     
-
     
-
     
227
 
Cost of repurchased common stock
   
(134,130
)
   
-
     
-
     
(2,627
)
   
-
     
-
     
(2,627
)
Dividends
   
-
     
-
     
-
     
-
     
-
     
(998
)
   
(998
)
Net income
   
-
     
-
     
-
     
-
     
-
     
3,275
     
3,275
 
Ending balance March 31, 2020
   
19,588,950
   
$
197
   
$
126,151
   
$
(2,627
)
 
$
(5,379
)
 
$
(13,031
)
 
$
105,311
 
                                                         
Beginning balance January 1, 2019
   
19,553,857
   
$
196
   
$
110,466
   
$
-
   
$
(2,536
)
 
$
(25,503
)
 
$
82,623
 
                                                         
Unrecognized pension and postretirement cost adjustment, net of tax of $1
   
-
     
-
     
-
     
-
     
(4
)
   
-
     
(4
)
Unrealized loss on MSA investments, net of tax of $93
   
-
     
-
     
-
     
-
     
402
     
-
     
402
 
Unrealized loss on interest rate swaps, net of tax of $182
   
-
     
-
     
-
     
-
     
(476
)
   
-
     
(476
)
Stock compensation expense
   
-
     
-
     
449
     
-
     
-
     
-
     
449
 
Restricted stock forfeitures
   
(47
)
   
-
     
(1
)
   
-
     
-
     
-
     
(1
)
Exercise of options
   
22,588
     
-
     
187
     
-
     
-
     
-
     
187
 
Redemption of options
   
-
     
-
     
(12
)
   
-
     
-
     
-
     
(12
)
Dividends
   
-
     
-
     
-
     
-
     
-
     
(887
)
   
(887
)
Net income
   
-
     
-
     
-
     
-
     
-
     
6,560
     
6,560
 
Ending balance March 31, 2019
   
19,576,398
   
$
196
   
$
111,089
   
$
-
   
$
(2,614
)
 
$
(19,830
)
 
$
88,841
 

The accompanying notes are an integral part of the consolidated financial statements

Turning Point Brands, Inc.
Notes to Consolidated Financial Statements
(dollars in thousands, except where designated and per share data)

Note 1. Organizations and Basis of Presentation

Organizations

Turning Point Brands, Inc. (the “Company”), is a holding company which owns North Atlantic Trading Company, Inc. (“NATC”) and its subsidiaries, Turning Point Brands, LLC (“TPLLC”), and its subsidiaries, and Turning Point Brands (Canada), Inc. (“TPBC”). Except where the context indicates otherwise, references to the Company include the Company; NATC and its subsidiaries National Tobacco Company, L.P. (“NTC”), National Tobacco Finance, LLC (“NTFLLC”), North Atlantic Operating Company, Inc. (“NAOC”), North Atlantic Cigarette Company, Inc. (“NACC”), and RBJ Sales, Inc. (“RBJ”); TPLLC and its subsidiaries Intrepid Brands, LLC (“Intrepid”), TPB Beast, LLC (“VaporBeast”), TPB Shark, LLC, and its subsidiaries (collectively, “Vapor Shark”), TPB International, LLC and its subsidiaries (collectively, “IVG”), Nu-X Ventures LLC (“Nu-X”), Nu-Tech Holdings LLC (“Nu-Tech”), and South Beach Holdings, LLC (“South Beach”); and TPBC.

Basis of Presentation

The accompanying unaudited interim, consolidated financial statements have been prepared in accordance with the accounting practices described in the Company’s audited, consolidated financial statements as of and for the year ended December 31, 2019. In the opinion of management, the unaudited, interim, consolidated financial statements included herein contain all adjustments necessary to present fairly the financial position, results of operations, and cash flows of the Company for the periods indicated. Such adjustments, other than nonrecurring adjustments separately disclosed, are of a normal and recurring nature. The operating results for interim periods are not necessarily indicative of results to be expected for a full year or future interim periods. The unaudited, interim, consolidated financial statements should be read in conjunction with the Company’s audited, consolidated financial statements and accompanying notes as of and for the year ended December 31, 2019. The accompanying interim, consolidated financial statements are presented in accordance with the rules and regulations of the Securities and Exchange Commission and, accordingly, do not include all the disclosures required by generally accepted accounting principles in the United States (“GAAP”) with respect to annual financial statements.

Certain prior year amounts have been reclassified to conform to the current year’s presentation. The changes did not have an impact on the Company’s consolidated financial position, results of operations, or cash flows in any of the periods presented.

Note 2. Summary of Significant Accounting Policies

Consolidation

The consolidated financial statements include the accounts of the Company and its subsidiaries, all of which are wholly-owned. All significant intercompany transactions have been eliminated.

Revenue Recognition

The Company recognizes revenues in accordance with Accounting Standards Update (“ASU”) 2014-09, Revenue from Contracts with Customers (Topic 606), which includes excise taxes and shipping and handling charges billed to customers, net of cash discounts for prompt payment, sales returns and incentives, upon delivery of goods to the customer – at which time the Company’s performance obligation is satisfied - at an amount that the Company expects to be entitled to in exchange for those goods in accordance with the five-step analysis outlined in Topic 606: (i) identify the contract with the customer, (ii) identify the performance obligations in the contract, (iii) determine the transaction price, (iv) allocate the transaction price to the performance obligations, and (v) recognize revenue when (or as) performance obligations are satisfied. The Company excludes from the transaction price, sales taxes and value-added taxes imposed at the time of sale (which do not include excise taxes on smokeless tobacco, cigars or vaping products billed to customers).

The Company records an allowance for sales returns, based principally on historical volume and return rates, which is included in accrued liabilities on the consolidated balance sheets. The Company records sales incentives, which consist of consumer incentives and trade promotion activities, as a reduction in revenues (a portion of which is based on amounts estimated as being due to wholesalers, retailers and consumers at the end of the period) based principally on historical volume and utilization rates. Expected payments for sales incentives are included in accrued liabilities on the consolidated balance sheets.

A further requirement of ASU 2014-09 is for entities to disaggregate revenue recognized from contracts with customers into categories that depict how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors. Company management views business performance through segments that closely resemble the performance of major product lines. Thus, the primary and most useful disaggregation of the Company’s contract revenue for decision making purposes is the disaggregation by segment which can be found in Note 18 of Notes to Consolidated Financial Statements. An additional disaggregation of contract revenue by sales channel can be found within Note 18 as well.

Shipping Costs

The Company records shipping costs incurred as a component of selling, general, and administrative expenses. Shipping costs incurred were approximately $5.3 million and $4.3 million for the three months ending March 31, 2020 and 2019, respectively.

Fair Value

GAAP establishes a framework for measuring fair value. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1) and the lowest priority to unobservable inputs (level 3).

The three levels of the fair value hierarchy under GAAP are described below:


Level 1 – Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets at the measurement date.

Level 2 – Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in inactive markets, inputs other than quoted prices that are observable for the asset or liability, and inputs that are derived principally from or corroborated by observable market data by correlation or other means.

Level 3 – Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

Derivative Instruments

Foreign Currency Forward Contracts: The Company enters into foreign currency forward contracts to hedge a portion of its exposure to changes in foreign currency exchange rates on inventory purchase commitments. The Company accounts for its forward contracts under the provisions of ASC 815, Derivatives and Hedging. Under the Company’s policy, the Company may hedge up to 100% of its anticipated purchases of inventory in the denominated invoice currency over a forward period not to exceed twelve months. The Company may also, from time to time, hedge up to ninety percent of its non-inventory purchases in the denominated invoice currency. Forward contracts that qualify as hedges are adjusted to their fair value through other comprehensive income as determined by market prices on the measurement date, except any hedge ineffectiveness which is recognized currently in income. Gains and losses on these forward contracts are transferred from other comprehensive income into net income as the related inventories are received. Changes in fair value of any contracts that do not qualify for hedge accounting or are not designated as hedges are recognized currently in income.

Interest Rate Swap Agreements: The Company enters into interest rate swap contracts to manage interest rate risk and reduce the volatility of future cash flows. The Company accounts for its interest rate swap contracts under the provisions of ASC 815, Derivatives and Hedging. Swap contracts that qualify as hedges are adjusted to their fair value through other comprehensive income as determined by market prices on the measurement date, except any hedge ineffectiveness which is recognized currently in income. Gains and losses on these swap contracts are transferred from other comprehensive income into net income upon settlement of the derivative position or at maturity of the interest rate swap contract. Changes in fair value of any contracts that do not qualify for hedge accounting or are not designated as hedges are recognized currently in income.

Risks and Uncertainties

Manufacturers and sellers of tobacco products are subject to regulation at the federal, state, and local levels. Such regulations include, among others, labeling requirements, limitations on advertising, and prohibition of sales to minors. The tobacco industry is likely to continue to be heavily regulated. There can be no assurance as to the ultimate content, timing, or effect of any regulation of tobacco products by any federal, state, or local legislative or regulatory body, nor can there be any assurance that any such legislation or regulation would not have a material adverse effect on the Company’s financial position, results of operations, or cash flows. Recently, several state governors have reacted to perceived issues around nicotine vapor products by unilaterally, without regard to the legislative process, proclaiming bans on vapor products, particularly those that are flavored.  Many of these executive actions have been challenged and temporarily restrained, but no assurance can be given that such state or local flavor bans will not be enacted or ultimately upheld. Indeed, in a number of states, targeted flavor bans, particularly with regard to vapor products, have been enacted legislatively. Depending on the number and location of such bans, that legislation or regulation could have a material adverse effect on the Company’s financial position, results of operations or cash flows.  Food and Drug Administration (“FDA”) continues to consider various restrictive regulations around our products, including targeted flavor bans; however, the details, timing, and ultimate implementation of such measures remain unclear.
 
The tobacco industry has experienced, and is experiencing, significant product liability litigation. Most tobacco liability lawsuits have been brought against manufacturers and sellers of cigarettes for injuries allegedly caused by smoking or exposure to smoke. However, several lawsuits have been brought against manufacturers and sellers of smokeless products for injuries to health allegedly caused by use of smokeless products. Typically, such claims assert that use of smokeless products is addictive and causes oral cancer. Additionally, several lawsuits have been brought against manufacturers and distributors of NewGen products due to malfunctioning devices. There can be no assurance the Company will not sustain losses in connection with such lawsuits and that such losses will not have a material adverse effect on the Company’s financial position, results of operations, or cash flows.
 
Master Settlement Agreement (MSA):  Pursuant to the Master Settlement Agreement (the “MSA”) entered into in November 1998 by most states (represented by their attorneys general acting through the National Association of Attorneys General) and subsequent states’ statutes, a “cigarette manufacturer” (which is defined to include a manufacturer of make-your-own (“MYO”) cigarette tobacco) has the option of either becoming a signatory to the MSA or opening, funding, and maintaining an escrow account to have funds available for certain potential tobacco-related liabilities with sub-accounts on behalf of each settling state. Such companies are entitled to direct the investment of the escrowed funds and withdraw any appreciation, but cannot withdraw the principal for twenty-five years from the year of each annual deposit, except to withdraw funds deposited pursuant to an individual state’s escrow statute to pay a final judgement to that state’s plaintiffs in the event of such a final judgement against the Company.  The Company chose to open and fund an escrow account as its method of compliance. It is the Company’s policy to record amounts on deposit in the escrow account for prior years as a non-current asset. Each year’s annual obligation is required to be deposited in the escrow account by April 15 of the following year. In addition to the annual deposit, many states have elected to require quarterly deposits for the previous quarter’s sales. As of March 31, 2020, the Company had on deposit approximately $32.1 million, the fair value of which was approximately $32.1 million. At December 31, 2019, the Company had on deposit approximately $32.1 million, the fair value of which was approximately $32.1 million. Effective in the third quarter of 2017, the Company no longer sells any product covered under the MSA. Thus, absent a change in legislation, the Company will no longer be required to make deposits to the MSA escrow account.

The Company has chosen to invest a portion of the MSA escrow, from time to time, in U.S. Government securities including TIPS, Treasury Notes, and Treasury Bonds. These investments are classified as available-for-sale and carried at fair value. Realized losses are prohibited under the MSA; any investment in an unrealized loss position will be held until the value is recovered, or until maturity. All monies at March 31, 2020 and December 31, 2019 were held in money market savings accounts.

The following shows the amount of deposits by sales year for the MSA escrow account:

   
Deposits as of
 
Sales
Year
 
March 31,
2020
   
December 31,
2019
 
             
1999
 
$
211
   
$
211
 
2000
   
1,017
     
1,017
 
2001
   
1,673
     
1,673
 
2002
   
2,271
     
2,271
 
2003
   
4,249
     
4,249
 
2004
   
3,714
     
3,714
 
2005
   
4,553
     
4,553
 
2006
   
3,847
     
3,847
 
2007
   
4,167
     
4,167
 
2008
   
3,364
     
3,364
 
2009
   
1,619
     
1,619
 
2010
   
406
     
406
 
2011
   
193
     
193
 
2012
   
199
     
199
 
2013
   
173
     
173
 
2014
   
143
     
143
 
2015
   
101
     
101
 
2016
   
91
     
91
 
2017
   
83
     
83
 
                 
Total
 
$
32,074
   
$
32,074
 

Food and Drug Administration: On June 22, 2009, the Family Smoking Prevention and Tobacco Control Act (“TCA”) authorized the FDA to immediately regulate the manufacturing, sale, and marketing of four categories of tobacco products – cigarettes, cigarette tobacco, roll-your-own tobacco, and smokeless tobacco.

Under the TCA, tobacco product user fees are assessed on six classes of regulated tobacco products. The user fees are computed using a methodology similar to the methodology used by the U.S Department of Agriculture to compute the Tobacco Transition Payment Program (“TTPP,” also known as the “Tobacco Buyout”) assessment. First, the total, annual, congressionally established user fee assessment is allocated among the various classes of tobacco products using the federal excise tax weighted market share of tobacco products subject to regulation. Then, the assessment for each class of tobacco products is divided among individual manufacturers and importers.
 
In August 2016, the FDA’s regulatory authority under the TCA was extended to all tobacco products not previously covered, including: (i) certain NewGen products (such as electronic cigarettes, vaporizers and e-liquids) and their components or parts (such as tanks, coils and batteries); (ii) cigars and their components or parts (such as cigar tobacco); (iii) pipe tobacco; (iv) hookah products; and (v) any other tobacco product “newly deemed” by the FDA. These “deeming regulations” apply to all products made or derived from tobacco intended for human consumption, but excluding accessories of tobacco products (such as lighters). Accordingly, the FDA has since regulated our pipe tobacco, cigar, and cigar wrap products as well as our vapor products containing tobacco-derived nicotine and products intended or reasonably expected to be used to consume such e-liquids.
 
Under the deeming regulations, the FDA has responsibility for conducting premarket review of “new tobacco products”—defined as those products not commercially marketed in the United States as of February 15, 2007. There are three pathways for obtaining premarket authorization, including submission of a premarket tobacco product application (“PMTA”).
 
When the FDA initially issued the deeming regulations, it recognized that many products in the deemed categories that were already on the market qualified as “new tobacco products” and lacked a marketing order. In August 2017, the FDA issued an authorization until specified deadlines had passed.  Under the August 2017 Guidance, compliance dates vary depending upon the type of application submitted, but all newly-deemed products require an application no later than August 8, 2021, for “combustible” products (e.g. cigar and pipe), and August 8, 2022, for “non-combustible” products (e.g. vapor products) with the exception of “grandfathered” products (products in commerce as of February 15, 2007) which are already authorized.

On March 27, 2018, several public health organizations filed a lawsuit (the “Maryland Lawsuit”) challenging the August 2017 Guidance. The plaintiffs asserted, among other arguments, that the modification to the deeming regulations included in the August 2017 Guidance conflicts with the TCA and exceeds FDA’s statutory authority. The plaintiffs also expressed concern that the August 2017 Guidance allows vapor products to remain marketed for a significant period of time without required premarket review.
 
The court found in favor of the plaintiffs in May 2019 and vacated the August 2017 Guidance. On July 12, 2019, the court issued its remedy order (the “Remedy Order”). Specifically, the court ordered that: (1) for all deemed new tobacco products, marketers must file applications within 10 months of the Remedy Order to continue marketing such products; (2) such a product may remain on the market pending FDA review of a timely filed application for a period not to exceed one year from the date of the application’s submission; (3) in its discretion, the FDA may enforce the premarket review requirements against such products for which marketers do not file applications within 10 months; and (4) the FDA will have the ability to exempt deemed new tobacco products from these application submission requirements for good cause, on a case-by-case basis.  On October 24, 2019, FDA filed a Notice of Appeal from the Remedy Order and other actions adverse to FDA. The court-ordered modification to the compliance policy remains subject to change as a result of potential appeals or litigation brought or pending in other venues.
 
In January 2020, the FDA indicated it intended to maintain this deadline irrespective of the outcome of the pending appeal in the Maryland Lawsuit. On March 30, 2020, however, citing the impacts of the worldwide COVID-19 pandemic on both FDA and industry, FDA requested a modification to the Remedy Order that would extend the May 12, 2020, deadline for filing premarket applications by 120 days to September 9, 2020. After several procedural steps, the Remedy Order was modified on April 22, 2020, to reflect the new deadline, and since then, FDA has stated it will update relevant Guidance documents to reflect this new timeline.
 
On September 11, 2019, President Donald Trump and the Department of Health and Human Services Secretary, Alex Azar, indicated FDA would adopt a regulatory policy restricting all flavors in vapor products. In January 2020, FDA issued a Guidance document (the “January 2020 Guidance”) that stated it would be prioritizing enforcement of several categories of electronic nicotine delivery systems (“ENDS”) products: (1) flavored, cartridge-based ENDS products (other than tobacco- or menthol-flavored ENDS products); (2) ENDS products for which the manufacturer has failed to take (or is failing to take) adequate measures to prevent minors’ access; (3) ENDS products targeted to minors or whose marketing is likely to promote the use of ENDS by minors; and (4) ENDS products offered for sale after the May 12, 2020, premarket application deadline for which the manufacturer has not submitted a premarket application. The policy outlined several factors the agency would consider in its enforcement of flavored cigars going forward but did not drastically restrict those products as it had considered in its March 2019 Guidance proposal. The FDA’s policy on these and other regulated products may change or expand over time in ways not yet known and may significantly impact our products or our PMTA filings. For example, as noted above, the FDA recently acted to modify the deadline for premarket applications from May 12, 2020, to September 9, 2020.
 
As a result of the implementation of the modified Remedy Order, we would not be permitted to continue marketing our existing line of vapor products that the FDA regulates as tobacco products past September 9, 2020, unless we file an application for each such product by that date.  We expect to be able to make appropriate PMTA applications by the deadlines and to supplement and complete the applications within FDA’s discretionary timeline. A successful PMTA must demonstrate that the subject product is “appropriate for the protection of public health,” taking into account the effect of the marketing of the product on all sub-populations.  On September 25, 2019, FDA published a proposed rule outlining certain required elements of PMTA filings. This rule is not yet final, and its requirements may shift before being finalized. We believe we have products that meet the requisite standard and that we will be able to efficiently produce satisfactory PMTA filings. However, there is no assurance that the FDA’s guidance or ultimate regulation will not change, the Remedy Order will not be further altered or that unforeseen circumstances will not arise that prevent us from filing applications or otherwise increase the amount of time and money we are required to spend to successfully file all necessary PMTAs. Even if we successfully file all of our PMTAs in a timely manner, no assurance can be given that the applications will ultimately be successful. Given the shorter time frame mandated by the Remedy Order, which if not amended or successfully appealed, may result in the prioritization of meeting requisite deadlines by selecting high priority SKUs in our inventory position, and future revenues may be adversely impacted.
 
In addition, we currently distribute many third-party manufactured vapor products for which we will be completely dependent on the manufacturer complying with the premarket filing requirements. There can be no assurances that some products that we currently distribute will be able to be sold to end consumers after September 2020. While we will take measures to pursue regulatory compliance for our own privately-branded or proprietary vape products that compete with these third-party products, there is no assurance that such proprietary products would be as successful in the marketplace or can fully displace third-party products that are currently being distributed by us, which could adversely affect our results of operations and liquidity.

Recent Accounting Pronouncements Adopted

In June 2016, the Financial Accounting Standards Board (“FASB”) issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. ASU 2016-13 is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. This ASU applies to financial assets measured at amortized cost, including loans, held-to-maturity debt securities, net investments in leases, and trade accounts receivable as well as certain off-balance sheet credit exposures, such as loan commitments. The ASU replaced the previous incurred loss impairment methodology with a methodology to reflect current expected credit losses (“CECL”) and requires consideration of a broader range of reasonable and supportable information to explain credit loss estimates. The guidance was adopted using a modified retrospective transition method through a cumulative-effect adjustment to retained earnings/(deficit) in the period of adoption. The ASU was effective for the Company beginning in the first quarter of 2020. The ASU did not have an impact to the Company’s financial statements and related disclosures.

In August 2018, the FASB issued 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 in a cloud computing arrangement service contract with the requirements for capitalizing implementation costs incurred for an internal-use software license. The guidance is effective for interim and annual periods beginning after December 15, 2019, with early adoption permitted. The Company adopted ASU 2018-15 effective January 1, 2020. The ASU did not have an impact to the Company’s financial statements and related disclosures.
 
Recent Accounting Pronouncements Not Yet Adopted
 
In December 2019, the FASB issued ASU 2019-12 to simplify the accounting in ASC 740, Income Taxes. This guidance removes certain exceptions related to the approach for intra-period tax allocation, the methodology for calculating income taxes in an interim period, and the recognition of deferred tax liabilities for outside basis differences. This guidance also clarifies and simplifies other areas of ASC 740. This ASU will be effective beginning in the first quarter of the Company’s fiscal year 2021. Early adoption is permitted. Certain amendments in this update must be applied on a prospective basis, certain amendments must be applied on a retrospective basis, and certain amendments must be applied on a modified retrospective basis through a cumulative-effect adjustment to retained earnings/(deficit) in the period of adoption. The Company is currently evaluating the impact this ASU will have on the financial statements and related disclosures, as well as the timing of adoption.
 
Note 3. Acquisitions
 
Solace Technologies

In July 2019, the Company purchased the assets of E-Vape 12, Inc and Solace Technologies LLC (“Solace”) for $9.4 million in total consideration, comprised of $7.7 million in cash, $1.1 million earn-out fair value, and $0.5 million holdback for 18 months, which was adjusted by $0.2 million for a working capital deficiency. The earn-out consists of 44,295 shares of the Company’s common stock to be issued to the former owners upon the achievement of certain annual milestones. Immediately following the acquisition, 88,582 performance based restricted stock units with a fair value of $4.62 million were issued to former owners who became employees. See Note 15, “Share Incentive Plans”, for further details. Solace is an innovative product development company that has grown from the creator of one of the leading vape juice brands in the industry into a leader of alternative ingredients product development. The Company intends to incorporate Solace’s innovative products as well as the legacy vapor products into our Nu-X development engine. As of March 31, 2020, the Company had not completed the accounting for the acquisition. The following purchase price and goodwill and other intangibles are based on the excess of the acquisition price over the estimated fair value of the tangible assets acquired and are based on management’s preliminary estimates:


Total consideration transferred
 
$
9,405
 
Adjustments to consideration transferred:
       
Cash acquired
   
(45
)
Working capital
   
(235
)
Adjusted consideration transferred
   
9,125
 
Assets acquired:
       
Working capital (primarily AR and inventory)
   
1,132
 
Fixed assets and Other long term assets
   
414
 
Intangible assets
   
1,352
 
Other liabilities
   
(209
)
Net assets acquired
 
$
2,689
 
         
Goodwill
 
$
6,436
 

The goodwill of $6.4 million consists of the synergies and scale expected from combining the operations and is currently deductible for tax purposes.

Note 4. Derivative Instruments

Foreign Currency

The Company’s policy is to manage the risks associated with foreign exchange rate movements. The policy allows hedging up to 100% of its anticipated purchases of inventory over a forward period that will not exceed 12 rolling and consecutive months. The Company may, from time to time, hedge currency for non-inventory purchases, e.g., production equipment, not to exceed 90% of the purchase price. The Company did not execute any forward contracts during the three months ended March 31, 2020 and 2019.

Interest Rate Swaps

The Company’s policy is to manage interest rate risk by reducing the volatility of future cash flows associated with debt instruments bearing interest at variable rates. In March 2018, the Company executed various interest rate swap agreements for a notional amount of $70 million with an expiration of December 2022. The swap agreements fix LIBOR at 2.755%. The swap agreements met the hedge accounting requirements; thus, any change in fair value is recorded to other comprehensive income. The Company uses the Shortcut Method to account for the swap agreements. The Shortcut Method assumes the hedge to be perfectly effective; thus, there is no ineffectiveness to be recorded in earnings. The swap agreements’ fair values at March 31, 2020, and December 31, 2019, resulted in a liability of $4.8 million and $2.5 million, respectively, included in other long-term liabilities.

Note 5. Fair Value of Financial Instruments

The estimated fair value amounts have been determined by the Company using the methods and assumptions described below. However, considerable judgment is required to interpret market data to develop estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.

Cash and Cash Equivalents

Cash and cash equivalents are, by definition, short-term. Thus, the carrying amount is a reasonable estimate of fair value.

Accounts Receivable

The fair value of accounts receivable approximates their carrying value due to their short-term nature.

2018 Revolving Credit Facility

The fair value of the 2018 Revolving Credit Facility approximates its carrying value as the interest rate fluctuates with changes in market rates.

Long-Term Debt

The Company’s 2018 Credit Facility bears interest at variable rates that fluctuate with market rates, the carrying values of the long-term debt instruments approximate their respective fair values. As of March 31, 2020, the fair value of the 2018 First Lien Term Loan approximated $144.0 million. As of December 31, 2019, the fair value of the 2018 First Lien Term Loan approximated $146.0 million.

The Convertible Senior Notes bear interest at a rate of 2.50% per year and the fair value approximated $141.6 million, with a carrying value of $172.5 million as of March 31, 2020. As of December 31, 2019, the fair value of the Convertible Senior Notes approximated $140.1 million, with a carrying value of $172.5 million.

See Note 11, “Notes Payable and Long-Term Debt”, for further information regarding the Company’s long-term debt.

Interest Rate Swaps

The Company had swap contracts for a total notional amount of $70 million at March 31, 2020 and December 31, 2019. The fair values of the swap contracts are based upon quoted market prices and resulted in a liability of $4.8 million and $2.5 million as of March 31, 2020 and December 31, 2019, respectively.

Note 6. Inventories

The components of inventories are as follows:

   
March 31,
2020
   
December 31,
2019
 
Raw materials and work in process
 
$
6,574
   
$
7,050
 
Leaf tobacco
   
36,900
     
32,763
 
Finished goods - Smokeless products
   
5,907
     
5,680
 
Finished goods - Smoking products
   
11,081
     
13,138
 
Finished goods - NewGen products
   
13,535
     
17,111
 
Other
   
950
     
989
 
Gross Inventory
   
74,947
     
76,731
 
LIFO reserve
   
(5,752
)
   
(5,752
)
Net Inventory
 
$
69,195
   
$
70,979
 
 
The inventory valuation allowance was $19.2 million and $21.5 million as of March 31, 2020, and December 31, 2019, respectively. Inventory reserves increased in the fourth quarter 2019 as a result of additional reserves necessary for products in our NewGen segment primarily from increased regulation.
 
Note 7. Other Current Assets

Other current assets consists of:

   
March 31,
2020
   
December 31,
2019
 
Inventory deposits
 
$
5,616
   
$
4,012
 
Prepaid taxes
   
3,250
     
3,673
 
Other
   
10,002
     
8,430
 
Total
 
$
18,868
   
$
16,115
 

Note 8. Property, Plant, and Equipment

Property, plant, and equipment consists of:

   
March 31,
2020
   
December 31,
2019
 
Land
 
$
22
   
$
22
 
Buildings and improvements
   
2,655
     
2,655
 
Leasehold improvements
   
2,511
     
2,567
 
Machinery and equipment
   
15,087
     
14,516
 
Furniture and fixtures
   
8,307
     
8,502
 
Gross property, plant and equipment
   
28,582
     
28,262
 
Accumulated depreciation
   
(15,178
)
   
(14,446
)
Net property, plant and equipment
 
$
13,404
   
$
13,816
 

Note 9. Other Assets

Other assets consists of:

   
March 31,
2020
   
December 31,
2019
 
Equity investments
 
$
5,421
   
$
5,421
 
Pension assets
   
1,753
     
1,686
 
Other
   
3,667
     
3,566
 
Total
 
$
10,841
   
$
10,673
 

In July 2019, the Company obtained a 30% stake in Canadian distribution entity, ReCreation Marketing (“ReCreation”), for $1.0 million paid at closing. The Company also received options to acquire up to a 50% ownership position in ReCreation.

Note 10. Accrued Liabilities

Accrued liabilities consists of:
   
March 31,
2020
   
December 31,
2019
 
Accrued payroll and related items
 
$
6,144
   
$
5,267
 
Customer returns and allowances
   
5,537
     
6,160
 
Taxes payable
   
1,508
     
705
 
Lease liabilities
   
2,531
     
2,218
 
Accrued interest
   
928
     
1,909
 
Other
   
12,106
     
10,261
 
Total
 
$
28,754
   
$
26,520
 

Note 11. Notes Payable and Long-Term Debt

Notes payable and long-term debt consists of the following in order of preference:

   
March 31,
2020
   
December 31,
2019
 
             
2018 First Lien Term Loan
  $
144,000
    $
146,000
 
Convertible Senior Notes
   
172,500
     
172,500
 
Note payable - IVG
   
-
     
4,240
 
Gross notes payable and long-term debt
   
316,500
     
322,740
 
Less deferred finance charges
   
(6,190
)
   
(6,466
)
Less debt discount
   
(30,333
)
   
(32,083
)
Less current maturities
   
(12,000
)
   
(15,240
)
Net notes payable and long-term debt
 
$
267,977
   
$
268,951
 

2018 Credit Facility

On March 7, 2018, the Company entered into a $250 million credit facility consisting of a $160 million 2018 First Lien Term Loan with Fifth Third Bank, as administrative agent, and other lenders, and a $50 million 2018 Revolving Credit Facility (collectively, the “2018 First Lien Credit Facility”) in addition to a $40 million 2018 Second Lien Term Loan (the “2018 Second Lien Credit Facility,” and, together with the 2018 First Lien Credit Facility, the “2018 Credit Facility”) with Prospect Capital Corporation, as administrative agent, and other lenders. The 2018 Credit Facility contains a $40 million accordion feature.

The 2018 Credit Facility contains customary events of default including payment defaults, breaches of representations and warranties, covenant defaults, cross-defaults to certain other material indebtedness in excess of specified amounts, certain events of bankruptcy and insolvency, certain ERISA events, judgments in excess of specified amounts, and change in control defaults. The 2018 Credit Facility also contains certain negative covenants customary for facilities of these types including covenants that, subject to exceptions described in the 2018 Credit Facility, restrict the ability of the Company and its subsidiary guarantors: (i) to pledge assets, (ii) to incur additional indebtedness, (iii) to pay dividends, (iv) to make distributions, (v) to sell assets, and (vi) to make investments. See Note 19, “Dividends and Share Repurchase”, for further information regarding dividend restrictions.

2018 First Lien Credit Facility: The 2018 First Lien Term Loan and the 2018 Revolving Credit Facility bear interest at LIBOR plus a spread of 2.75% to 3.50% based on the Company’s senior leverage ratio. The 2018 First Lien Term Loan has quarterly required payments of $2.0 million beginning June 30, 2018, increasing to $3.0 million on June 30, 2020, and increasing to $4.0 million on June 30, 2022. The 2018 First Lien Credit Facility has a maturity date of March 7, 2023. The 2018 First Lien Term Loan is secured by a first priority lien on substantially all of the assets of the borrowers and the guarantors thereunder, including a pledge of the Company’s capital stock, other than certain excluded assets (the “Collateral”).  In connection with the Convertible Senior Notes offering, the Company entered into a First Amendment (“the Amendment”) to the First Lien Credit Agreement, with Fifth Third Bank, as administrative agent, and other lenders and certain other lender parties thereto. The Amendment was entered into primarily to permit the Company to issue up to $200 million of convertible senior notes, enter into certain capped call transactions in connection with the issuance of such notes and to use the proceeds from the issuance of the notes to repay amounts outstanding under the 2018 Second Lien Credit Facility and use the remaining proceeds for acquisitions and investments. In connection with the Amendment, fees of $0.7 million were incurred. The 2018 First Lien Credit Facility contains certain financial covenants, which were amended in connection with the Convertible Senior Notes offering in the third quarter 2019. The covenants include maximum senior leverage ratio of 3.00x with step-downs to 2.50x, a maximum total leverage ratio of 5.50x with step-downs to 5.00x, and a minimum fixed charge coverage ratio of 1.20x. In the first quarter of 2020, the financial covenants were amended to permit certain add-backs related to PMTA in the definition of Consolidated EBITDA for the period of October 1, 2019 until September 30, 2020. In connection with the amendment, fees of $0.2 million were incurred. Based on an excess cash covenant for the facility, a principal payment of $4.5 million was due in the second quarter 2019. All parties agreed to waive the payment, resulting in consent fees of $0.1 million. The weighted average interest rate of the 2018 First Lien Term Loan was 3.74% at March 31, 2020. At March 31, 2020, the Company had no borrowings outstanding under the 2018 Revolving Credit Facility. The $50.0 million unused portion of the 2018 Revolving Credit Facility is reduced by letters of credit from Fifth Third Bank totaling $3.7 million, resulting in $46.3 million of availability under the 2018 Revolving Credit Facility at March 31, 2020.

2018 Second Lien Credit Facility: The 2018 Second Lien Credit Facility bore interest at a rate of LIBOR plus 7.00% and had a maturity date of March 7, 2024. The 2018 Second Lien Term Loan was secured by a second priority interest in the Collateral and was guaranteed by the same entities as the 2018 First Lien Term Loan. Based on an excess cash covenant for the facility, a $4.5 million principal payment was made in the second quarter 2019, resulting in a $0.2 million loss on extinguishment of debt. The Company used a portion of the proceeds from the issuance of the Convertible Senior Notes to prepay all outstanding amounts related to the 2018 Second Lien Credit Facility in the third quarter 2019. The principal paid in the third quarter amounted to $35.5 million, and the transaction resulted in a $1.1 million loss on extinguishment of debt.
 
Convertible Senior Notes
 
In July 2019, the Company closed an offering of $172.5 million in aggregate principal amount of our 2.50% Convertible Senior Notes due July 15, 2024 (the “Convertible Senior Notes”). The Convertible Senior Notes bear interest at a rate of 2.50% per year, payable semiannually in arrears on January 15 and July 15 of each year, beginning on January 15, 2020. The Convertible Senior Notes will mature on July 15, 2024, unless earlier repurchased, redeemed or converted. The Convertible Senior Notes are senior unsecured obligations of the Company.
 
The Convertible Senior Notes are convertible into approximately 3,202,808 shares of our voting common stock under certain circumstances prior to maturity at a conversion rate of 18.567 shares per $1,000 principal amount of the Convertible Senior Notes, which represents a conversion price of approximately $53.86 per share, subject to adjustment under certain conditions, but will not be adjusted for any accrued and unpaid interest. Upon conversion, the Company may pay cash, shares of common stock or a combination of cash and stock, as determined by the Company at its discretion. The conditions required to allow the holders to convert their Convertible Senior Notes were not met as of March 31, 2020.
 
Under GAAP, certain convertible debt instruments that may be settled in cash on conversion are required to be separately accounted for as liability and equity components of the instrument in a manner that reflects the issuer’s non-convertible debt borrowing rate. Accordingly, in accounting for the issuance of the Convertible Senior Notes, the Company separated the Convertible Senior Notes into liability and equity components. The carrying amount of the liability component was calculated by measuring the fair value of a similar liability that does not have an associated convertible feature. The carrying amount of the equity component, which is recognized as a debt discount, represents the difference between the proceeds from the issuance of the Convertible Senior Notes and the fair value of the liability component of the Convertible Senior Notes. The excess of the principal amount of the liability component over its carrying amount (“debt discount”), $35.0 million, will be amortized to interest expense using an effective interest rate of 7.5% over the expected life of the Convertible Senior Notes. The equity component is not remeasured as long as it continues to meet the criteria for equity classification. Interest expense includes $1.8 million of amortization for the three months ended March 31, 2020.
 
In accounting for the issuance costs related to the issuance of the Convertible Senior Notes, the Company allocated the total amount incurred to the liability and equity components based on their relative fair values. Debt issuance costs attributable to the liability component are amortized to interest expense using the effective interest method over the expected life of the Convertible Senior Notes, $4.7 million, and the debt issuance costs attributable to the equity component, $1.2 million, are netted with the equity component of stockholders’ equity (deficit).
 
In connection with the Convertible Senior Notes offering, the Company entered into privately negotiated capped call transactions with certain financial institutions. The capped call transactions have a strike price of $53.86 per and a cap price of $82.86 per, and are exercisable when, and if, the Convertible Senior Notes are converted. The Company paid $20.53 million for these capped calls and charged that amount to additional paid-in capital.

Note Payable – IVG

In September 2018, the Company issued a note payable to IVG’s former shareholders (“IVG Note”). The IVG Note was $4.0 million principal with 6.0% interest compounding annually and matured on March 5, 2020. All principal and accrued and unpaid interest under the IVG Note were subject to indemnification obligations of the sellers pursuant to the International Vapor Group Stock Purchase Agreement dated as of September 5, 2018. The carrying amount of the IVG Note, $4.2 million, was deposited into an escrow account pending agreement with the sellers of any indemnification obligations.

Note 12. Leases
 
As of January 1, 2019, the Company adopted ASU 2016-02, Leases (Topic 842). The main impact to the financial statements is the recognition of lease liabilities and right of use assets. The Company’s leases consist primarily of leased property for manufacturing warehouse, head offices and retail space as well as vehicle leases. In general, the Company does not recognize any renewal periods within the lease terms as there are not significant barriers to ending the lease at the initial term. Lease and non-lease components are accounted for as a single lease component.
 
Leases with an initial term of 12 months or less are not recorded on the balance sheet. Lease expense for these leases is recognized on a straight-line basis over the lease term.
 
The components of lease expense consisted of the following:
 
   
Three Months Ended March 31,
 
   
2020
   
2019
 
             
Operating lease cost
           
Cost of sales
 
$
233
   
$
192
 
Selling, general and administrative
   
398
     
555
 
Variable lease cost (1)
   
312
     
245
 
Short-term lease cost
   
83
     
54
 
Sublease income
   
(30
)
   
(30
)
Total
 
$
996
   
$
1,016
 
                 
(1) Variable lease cost includes elements of a contract that do not represent a good or service but for which the lessee is responsible for paying.
 

   
March 31,
2020
   
December 31,
2019
 
Assets:
           
Right of use assets
 
$
13,036
   
$
12,130
 
Total lease assets
 
$
13,036
   
$
12,130
 
                 
                 
Liabilities:
               
Current lease liabilities (2)
 
$
2,531
   
$
2,218
 
Long-term lease liabilities
   
11,673
     
11,067
 
Total lease liabilities
 
$
14,204
   
$
13,285
 
                 
(2) Reported within accrued liabilities on the balance sheet
         
 
   
As of March 31,
 
   
2020
   
2019
 
Weighted-average remaining lease term  - operating leases
 
7.8 years
   
9.0 years
 
Weighted-average discount rate - operating leases
   
5.84
%
   
6.49
%
 
Nearly all the lease contracts for the Company do not provide a readily determinable implicit rate. For these contracts, the Company estimated the incremental borrowing rate based on information available upon adoption of ASU 2016-02. The Company applied a consistent method in periods after the adoption of ASU 2016-02 to estimate the incremental borrowing rate.

As of March 31, 2020, and December 31, 2019, maturities of lease liabilities consisted of the following:

   
March 31,
2020
   
December 31,
2019
 
2020
 
$
2,431
   
$
2,924
 
2021
   
3,174
     
2,730
 
2022
   
2,595
     
2,165
 
2023
   
2,199
     
1,782
 
2024
   
1,063
     
1,028
 
Years thereafter
   
6,297
     
6,297
 
Total lease payments
 
$
17,759
   
$
16,926
 
Less: Imputed interest
   
3,555
     
3,641
 
Present value of lease liabilities
 
$
14,204
   
$
13,285
 
 
During the first quarter, the Company entered into a number of additional operating leases related to vehicles for business use. These changes resulted in additional lease liabilities of $1.6 million as of March 31, 2020.

Note 13. Income Taxes

The Company’s effective income tax rate for the three months ended March 31, 2020, was 22.4% which includes a discrete tax deduction of $0.7 million for the three months ended March 31, 2020, relating to stock option exercises. The Company’s effective income tax rate for the three months ended March 31, 2019, was 21.3%, which includes a discrete tax deduction of $0.9 million for the three months ended March 31, 2019, relating to stock option exercises.

The Company follows the provisions of ASC 740-10-25, which prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. The amount recognized is measured as the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. The Company has determined that the Company did not have any uncertain tax positions requiring recognition under the provisions of ASC 740-10-25. The Company’s policy is to recognize interest and penalties accrued on uncertain tax positions, if any, as part of interest expense. The Company files income tax returns in the U.S. federal jurisdiction and various state jurisdictions. In general, the Company is no longer subject to U.S. federal and state tax examinations for years prior to 2016.

Note 14. Pension and Postretirement Benefit Plans

The Company has a defined benefit pension plan. Benefits for hourly employees were based on a stated benefit per year of service, reduced by amounts earned in a previous plan. Benefits for salaried employees were based on years of service and the employees’ final compensation. The defined benefit pension plan is frozen. The Company’s policy is to make the minimum amount of contributions that can be deducted for federal income taxes. The Company expects to make no contributions to the pension plan in 2020. In October 2019, the Company elected to terminate the defined benefit pension plan, effective December 31, 2019 with final distributions to be made in 2020.

The Company sponsored a defined benefit postretirement plan that covered hourly employees. This plan provides medical and dental benefits. This plan is contributory with retiree contributions adjusted annually. The Company’s policy is to make contributions equal to benefits paid during the year. The Company does not expect to contribute to its postretirement plan in 2020 for the payment of benefits. In October 2019, the Company amended the plan to cease benefits effective June 30, 2020.

The following table provides the components of net periodic pension and postretirement benefit costs and total costs for the plans:

   
Three Months Ended March 31,
 
         
Pension
Benefits
   
Postretirement
Benefits
 
   
2020
   
2019
   
2020
   
2019
 
                         
Service cost
 
$
-
   
$
26
   
$
-
   
$
-
 
Interest cost
   
95
     
130
     
-
     
25
 
Expected return on plan assets
   
(161
)
   
(161
)
   
-
     
-
 
Amortization of (gains) losses
   
36
     
37
     
(57
)
   
(42
)
Net periodic benefit (income) cost
 
$
(30
)
 
$
32
   
$
(57
)
 
$
(17
)

Note 15. Share Incentive Plans

On April 28, 2016, the Board of Directors of the Company adopted the Turning Point Brands, Inc., 2015 Equity Incentive Plan (the “2015 Plan”), pursuant to which awards may be granted to employees, non-employee directors, and consultants. In addition, the 2015 Plan provides for the granting of nonqualified stock options to employees of the Company or any subsidiary of the Company. Pursuant to the 2015 Plan, 1,400,000 shares of the Company’s voting common stock are reserved for issuance as awards to employees, non-employee directors, and consultants as compensation for past or future services or the attainment of certain performance goals. The 2015 Plan is scheduled to terminate on April 27, 2026. The 2015 Plan is administered by a committee (the “Committee”) of the Company’s Board of Directors. The Committee determines the vesting criteria for the awards, with such criteria to be specified in the award agreement. As of March 31, 2020, net of forfeitures, there were 16,159 shares of restricted stock, 440,232 performance-based restricted stock units, and 613,832 options granted under the 2015 Plan. There are 329,777 shares available for grant under the 2015 Plan.

On February 8, 2006, the Board of Directors of the Company adopted the 2006 Equity Incentive Plan (the “2006 Plan”) of North Atlantic Holding Company, Inc., pursuant to which awards may be granted to employees. The 2006 Plan provides for the granting of nonqualified stock options and restricted stock awards to employees. Upon the adoption of the Company’s 2015 Equity Incentive Plan in connection with its IPO, the Company determined no additional grants would be made under the 2006 Plan. However, all awards issued under the 2006 Plan that have not been previously terminated or forfeited remain outstanding and continue unaffected.

There are no shares available for grant under the 2006 Plan. Stock option activity for the 2006 and 2015 Plans is summarized below:

   
Stock
Option
Shares
   
Weighted
Average
Exercise
Price
   
Weighted
Average
Grant Date
Fair Value
 
Outstanding, December 31, 2018
   
659,574
   
$
9.00
   
$
3.34
 
                         
Granted
   
180,780
     
43.89
     
14.34
 
Exercised
   
(129,067
)
   
5.72
     
2.58
 
Forfeited
   
(14,571
)
   
34.55
     
11.10
 
Outstanding, December 31, 2019
   
696,716
     
18.13
     
6.17
 
                         
Granted
   
155,000
     
14.85
     
4.41
 
Exercised
   
(42,407
)
   
5.36
     
2.50
 
Forfeited
   
(406
)
   
34.27
     
11.07
 
Outstanding, March 31, 2020
   
808,903
   
$
18.16
   
$
6.03
 

Under the 2006 and 2015 Plans, the total intrinsic value of options exercised during the three months ended March 31, 2020 and 2019, was $0.9 million, and $0.8 million, respectively.

At March 31, 2020, under the 2006 Plan, the outstanding stock options’ exercise price for 273,247 options is $3.83 per share, all of which are exercisable. The weighted average of the remaining lives of the outstanding stock options with an exercise price of $3.83 is approximately 3.28 years. The Company estimates the expected life of these stock options is ten years from the date of grant. For the $3.83 per share options, the weighted average fair value of options was determined using the Black-Scholes model assuming a ten-year life from grant date, a current share price and exercise price of $3.83, a risk-free interest rate of 3.57%, volatility of 40%, and no assumed dividend yield.  Based on these assumptions, the fair value of these options is approximately $2.17 per share option granted.

At March 31, 2020, under the 2015 Plan, the risk-free interest rate is based on the U.S. Treasury rate for the expected life at the time of grant. The expected volatility is based on the average long-term historical volatilities of peer companies. We intend to continue to consistently use the same group of publicly traded peer companies to determine expected volatility until sufficient information regarding volatility of our share price becomes available or until the selected companies are no longer suitable for this purpose. Due to our limited trading history, we are using the simplified method presented by SEC Staff Accounting Bulletin No. 107 to calculate expected holding periods, which represent the periods of time for which options granted are expected to be outstanding. We will continue to use this method until we have sufficient historical exercise experience to give us confidence in the reliability of our calculations. The fair values of these options were determined using the Black-Scholes option pricing model.
 
The following table outlines the assumptions based on the number of options granted under the 2015 Plan.
 

 
February 10,
2017
   
May 17,
2017
   
March 7,
2018
   
March 13,
2018
   
March 20,
2019
   
October 24,
2019
   
March 18,
2020
 
Number of options granted
   
40,000
     
93,819
     
98,100
     
26,000
     
155,780
     
25,000
     
155,000
 
Options outstanding at March 31, 2020
   
28,700
     
66,572
     
86,792
     
26,000
     
147,592
     
25,000
     
155,000
 
Number exercisable at March 31, 2020
   
28,700
     
66,572
     
58,298
     
26,000
     
50,262
     
8,250
     
-
 
Exercise price
 
$
13.00
   
$
15.41
   
$
21.21
   
$
21.49
   
$
47.58
   
$
20.89
   
$
14.85
 
Remaining lives
   
6.87
     
7.13
     
7.94
     
7.96
     
8.98
     
9.57
     
9.97
 
Risk free interest rate
   
1.89
%
   
1.76
%
   
2.65
%
   
2.62
%
   
2.34
%
   
1.58
%
   
0.79
%
Expected volatility
   
27.44
%
   
26.92
%
   
28.76
%
   
28.76
%
   
30.95
%
   
31.93
%
   
35.72
%
Expected life
   
6.000
     
6.000
     
6.000
     
5.495
     
6.000
     
6.000
     
6.000
 
Dividend yield
   
-
     
-
     
0.83
%
   
0.82
%
   
0.42
%
   
0.95
%
   
1.49
%
Fair value at grant date
 
$
3.98
   
$
4.60
   
$
6.37
   
$
6.18
   
$
15.63
   
$
6.27
   
$
4.41
 
 
The Company has recorded compensation expense related to the options based on the provisions of ASC 718 under which the fixed portion of such expense is determined as the fair value of the options on the date of grant and amortized over the vesting period. The Company recorded compensation expense related to the options of approximately $0.2 million and $0.2 million for the three months ended March 31, 2020 and 2019, respectively. Total unrecognized compensation expense related to options at March 31, 2020, is $1.5 million, which will be expensed over 2.14 years.

Performance-Based Restricted Stock Units (“PRSUs”)
 
PRSUs are restricted stock units subject to both performance-based and service-based vesting conditions. The number of common stock shares a recipient will receive upon vesting of a PRSU will be calculated by reference to certain performance metrics related to the Company’s performance over a five-year period. PRSUs will vest on the measurement date, which is no more than 65 days after the performance period (provided the applicable service and performance conditions are satisfied. As of March 31, 2020, there are 440,232 PRSUs outstanding, all of which are unvested. The following table outlines the PRSUs granted and outstanding as of March 31, 2020.

   
March 31,
2017
   
March 7,
2018
   
March 20,
2019
   
March 20,
2019
   
July 19,
2019
   
March 18,
2020
 
Number of PRSUs granted
   
94,000
     
96,000
     
92,500
     
4,901
     
88,582
     
90,000
 
PRSUs outstanding at March 31, 2020
   
83,000
     
93,000
     
85,650
     
-
     
88,582
     
90,000
 
Fair value as of grant date
 
$
15.60
   
$
21.21
   
$
47.58
   
$
47.58
   
$
52.15
   
$
14.85
 
Remaining lives
   
1.75
     
2.75
     
3.75
     
-
     
2.75
     
4.75
 

The Company recorded compensation expense related to the PRSUs of approximately $0.2 million and $0.2 million in the consolidated statements of income for the three months ended March 31, 2020 and 2019, respectively, based on the probability of achieving the performance condition. Total unrecognized compensation expense related to these awards at March 31, 2020, is $9.0 million which will be expensed over the service periods based on the probability of achieving the performance condition.

Note 16. Contingencies

Other major tobacco companies are defendants in product liability claims. In a number of these cases, the amounts of punitive and compensatory damages sought are significant and could have a material adverse effect on our business and results of operations.

The Company is subject to several lawsuits alleging personal injuries resulting from malfunctioning vaporizer devices or consumption of e-liquids and may be subject to claims in the future relating to other NewGen products. The Company is still evaluating these claims and the potential defenses to them.  For example, the Company did not design or manufacture the products at issue; rather, the Company was merely the distributor.  Nonetheless, there can be no assurance that the Company will prevail in these cases, and they could have a material adverse effect on the financial position, results of operations, or cash flows of the Company.

Franchisors are defendants from time to time in the ordinary course of business. In certain of these cases, the amounts of punitive and compensatory damages sought are significant. One of the Company’s subsidiaries is a defendant in a lawsuit brought by a franchisee, which claim has been filed but not yet served. In that case, the franchisee is seeking compensatory and punitive damages and rescission of their franchise agreement, alleging that the Company’s subsidiary failed to make certain disclosures in the Franchise Disclosure Document. The subsidiary is evaluating these claims, the potential defenses to them as well as available counterclaims. The subsidiary believes that termination of the franchise agreement was proper, no damages are due and the franchisee is bound by an arbitration agreement pursuant to the terms of their franchise agreement and the Franchise Disclosure Document (and therefore it was improper to pursue litigation). There can be no assurance that the subsidiary will prevail in this case, and it could have a material adverse effect on the Company’s business and results of operations.

The Company has several subsidiaries engaged in making, distributing, and retailing (online and in bricks-and-mortar) vapor products. As a result of the overall publicity and controversy surrounding the vapor industry generally, many companies have received informational subpoenas from various regulatory bodies and in some jurisdictions regulatory lawsuits have been filed regarding marketing practices and possible underage sales. The Company has subsidiaries that are subject to some information requests. In the acquisition of the vapor businesses, the Company negotiated financial “hold-backs”, which it expects to be able to use to defray expenses associated with the information production and the cost of defending any such lawsuits as well as the  franchisee lawsuit. To the extent that litigation becomes necessary, the Company believes that the subsidiaries have strong factual and legal defenses against claims that it unfairly marketed vapor products.

Note 17. Income Per Share

The following is a reconciliation of the numerators and denominators of the basic and diluted EPS computations of net income:

   
Three Months Ended March 31,
 
   
2020
   
2019
 
   
Income
   
Shares
   
Per
Share
   
Income
   
Shares
   
Per
Share
 
Consolidated net income
 
$
3,275
               
$
6,560
             
                                         
Basic EPS:
                                       
Weighted average
           
19,689,446
   
$
0.17
             
19,559,596
   
$
0.34
 
                                                 
Diluted EPS:
                                               
Effect of dilutive securities:
                                               
Stock options
           
417,354
                     
486,368
         
             
20,106,800
   
$
0.16
             
20,045,964
   
$
0.33
 

For the three months ended March 31, 2020, the effect of the 3,202,808 shares issuable upon conversion of the Convertible Senior Notes were excluded from the diluted net income per share calculation because the Company’s average stock price did not exceed $53.86 during those periods.

Note 18. Segment Information

In accordance with ASC 280, Segment Reporting, the Company has three reportable segments: Smokeless products, Smoking products, and NewGen products. The Smokeless products segment (i) manufactures and markets moist snuff and (ii) contracts for and markets chewing tobacco products. The Smoking products segment (i) markets cigarette papers, tubes, and related products; (ii) markets and distributes finished cigars and MYO cigar wraps; and (iii) processes, packages, markets, and distributes traditional pipe tobaccos. The NewGen products segment (i) markets and distributes e-cigarettes, e-liquids, vaporizers, and certain other products without tobacco and/or nicotine; (ii) markets and distributes a wide assortment of vaping and CBD related products to non-traditional retail outlets via VaporBeast, Vapor Shark, IVG and Solace; and (iii) markets and distributes a wide assortment of vapor and CBD related products to individual consumers via Vapor Shark and VaporFi branded retail outlets in addition to online platforms. Smokeless and Smoking products are distributed primarily through wholesale distributors in the United States while NewGen products are distributed primarily through e-commerce to non-traditional retail outlets and direct to consumers in the United States. The Other segment includes the costs and assets of the Company not assigned to one of the three reportable segments such as intercompany transfers, deferred taxes, deferred financing fees, and investments in subsidiaries.

The accounting policies of these segments are the same as those of the Company. Corporate costs are not directly charged to the three reportable segments in the ordinary course of operations. The Company evaluates the performance of its segments and allocates resources to them based on operating income.

The tables below present financial information about reported segments:

   
Three Months Ended March 31,
 
   
2020
   
2019
 
             
Net sales
           
Smokeless products
 
$
26,495
   
$
22,544
 
Smoking products
   
28,914
     
25,519
 
NewGen products
   
35,280
     
43,565
 
Total
 
$
90,689
   
$
91,628
 
                 
Gross profit
               
Smokeless products
 
$
13,874
   
$
12,073
 
Smoking products
   
16,132
     
13,484
 
NewGen products
   
11,425
     
14,907
 
Total
 
$
41,431
   
$
40,464
 
                 
Operating income (loss)
               
Smokeless products
 
$
9,746
   
$
7,487
 
Smoking products
   
12,417
     
9,946
 
NewGen products
   
477
     
2,838
 
Corporate unallocated (1)
   
(13,603
)
   
(8,236
)
Total
 
$
9,037
   
$
12,035
 
                 
Interest expense, net
   
4,994
     
3,856
 
Investment income
   
(91
)
   
(144
)
Net periodic income, excluding service cost
   
(87
)
   
(11
)
                 
Income before income taxes
 
$
4,221
   
$
8,334
 
                 
Capital expenditures
               
Smokeless products
 
$
860
   
$
577
 
Smoking products
   
-
     
-
 
NewGen products
   
17
     
309
 
Total
 
$
877
   
$
886
 
                 
Depreciation and amortization
               
Smokeless products
 
$
519
   
$
357
 
Smoking products
   
-
     
-
 
NewGen products
   
757
     
533
 
Total
 
$
1,276
   
$
890
 
                 
(1) Includes corporate costs that are not allocated to any of the three reportable segments.
 

   
March 31,
2020
   
December 31,
2019
 
Assets
           
Smokeless products
 
$
128,406
   
$
120,723
 
Smoking products
   
142,850
     
145,831
 
NewGen products
   
86,650
     
90,899
 
Corporate unallocated (1)
   
91,414
     
89,131
 
Total
 
$
449,320
   
$
446,584
 
                 
(1) Includes assets not assigned to the three reportable segments. All goodwill has been allocated to the reportable segments.
 

Revenue Disaggregation—Sales Channel

Revenues of the Smokeless and Smoking segments are primarily comprised of sales made to wholesalers while NewGen sales are made business to business and business to consumer, both online and through our corporate retail stores. NewGen net sales are broken out by sales channel below.

   
NewGen Segment
 
   
Three Months Ended
March 31,
 
   
2020
   
2019
 
             
Business to Business
 
$
25,279
   
$
32,463
 
Business to Consumer - Online
   
8,134
     
8,219
 
Business to Consumer - Corporate store
   
1,793
     
2,799
 
Other
   
74
     
84
 
Total
 
$
35,280
   
$
43,565
 

Net Sales—Domestic vs. Foreign

The following table shows a breakdown of consolidated net sales between domestic and foreign customers.

   
Three Months Ended
March 31,
 
   
2020
   
2019
 
Domestic
 
$
87,568
   
$
88,769
 
Foreign
   
3,121
     
2,859
 
Total
 
$
90,689
   
$
91,628
 
 
Note 19. Dividends and Share Repurchase

The most recent dividend of $0.05 per common share was paid on April 10, 2020, to shareholders of record at the close of business on March 20, 2020.

Dividends are classified as restricted payments within the 2018 Credit Facility. The Company is generally permitted to make restricted payments provided that, at the time of payment, or as a result of payment, the Company is not in default on its debt covenants. Additional restrictions limit the aggregate amount of restricted, quarterly dividends during a fiscal year to the aggregate amount of mandatory and voluntary principal payments made on the priority term loans during the fiscal year.

On February 25, 2020, the Company’s Board of Directors approved a $50.0 million share repurchase authorization, which is intended for opportunistic execution based upon a variety of factors including market dynamics. The authorization is subject to the ongoing discretion of the Board. The total number of shares repurchased for the three months ended was 134,130 shares for a total cost of $2.6 million and an average price per share of $19.59.

Note 20. Subsequent Events
 
Standard Diversified Inc. (“SDI”) Reorganization
 
On April 8, 2020, the Company and SDI announced a definitive agreement under which SDI will be merged into a wholly-owned subsidiary of TPB in a tax-free downstream merger. Under the terms of the agreement, the holders of SDI’s Class A Common Stock and SDI’s Class B Common Stock (collectively, the “SDI Common Stock”) will receive in the aggregate, in return for their SDI Common Stock, TPB Voting Common Stock (“TPB Common Stock”) at a ratio of 0.97 of a share of TPB Common Stock for each share of TPB Common Stock held by SDI at the time of the merger. SDI will divest its assets prior to close such that the net liabilities at closing will not exceed $25,000 and the only assets that it shall retain is the remaining TPB stock holdings. The merger of SDI is subject to customary closing conditions, including approval by holders of a majority of the aggregate voting power of the SDI Common Stock and the receipt of any applicable statutory approvals. The Company expects the transaction to close in the summer of 2020.

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
You should read the following discussion of the historical financial condition and results of operations in conjunction with our historical consolidated financial statements and accompanying notes, which are included elsewhere in this Quarterly Report on Form 10-Q. In addition, this discussion includes forward-looking statements subject to risks and uncertainties that may result in actual results differing from statements we make. See “Cautionary Note Regarding Forward-Looking Statements.” Factors that could cause actual results to differ include those risks and uncertainties discussed in “Risk Factors.”

The following discussion relates to the unaudited financial statements of Turning Point Brands, Inc., included elsewhere in this Quarterly Report on Form 10-Q. In this discussion, unless the context requires otherwise, references to “our Company” “we,” “our,” or “us” refer to Turning Point Brands, Inc., and its consolidated subsidiaries. References to “TPB” refer to Turning Point Brands, Inc., without any of its subsidiaries. We were incorporated in 2004 under the name North Atlantic Holding Company, Inc. On November 4, 2015, we changed our name to Turning Point Brands, Inc. Many of the amounts and percentages in this discussion have been rounded for convenience of presentation.

Organizational Structure

We, Turning Point Brands, Inc., are a holding company which owns North Atlantic Trading Company, Inc. (“NATC”), and its subsidiaries, Turning Point Brands, LLC (“TPLLC”), and its subsidiaries, and Turning Point Brands (Canada) Inc. (“TPBC”).  NATC includes subsidiaries National Tobacco Company, L.P. (“NTC”), National Tobacco Finance, LLC (“NTFLLC”), North Atlantic Operating Company, Inc. (“NAOC”), North Atlantic Cigarette Company, Inc. (“NACC”), and RBJ Sales, Inc. (“RBJ”). TPLLC includes subsidiaries Intrepid Brands, LLC (“Intrepid”), TPB Beast, LLC (“VaporBeast”), TPB Shark, LLC, and its subsidiaries (collectively, “Vapor Shark”), TPB International, LLC and its subsidiaries (collectively, “IVG”), Nu-X Ventures LLC (“Nu-X”), Nu-Tech Holdings LLC (“Nu-Tech”), and South Beach Holdings, LLC (“South Beach”).

Overview

Turning Point Brands, Inc. (the “Company,” “we,” “our,” or “us”) is a leading, independent provider of Other Tobacco Products (“OTP”) and adult consumer alternatives. We estimate the OTP industry generated approximately $11.5 billion of manufacturer revenue in 2019. In contrast to manufactured cigarettes, which have been experiencing declining volumes for decades based on data published by the Alcohol and Tobacco Tax and Trade Bureau (“TTB”), the OTP industry is demonstrating increased consumer appeal with low to mid-single digit consumer unit growth as reported by Management Science Associates, Inc. (“MSAi”), a third-party analytics and information company. We were the 6th largest competitor in terms of total OTP consumer units sold during 2019. We sell a wide range of products across the OTP spectrum; however, we do not sell cigarettes. Our portfolio of brands includes some of the most widely recognized names in the OTP industry, such as Zig-Zag®, Beech-Nut®, Stoker’s®, Trophy®, VaporBeast® and VaporFi®. We currently ship to approximately 900 distributors with an additional 100 secondary, indirect wholesalers in the U.S. that carry and sell our products. We operate in three segments: (i) Smokeless products, (ii) Smoking products, and (iii) NewGen products. Under the leadership of a senior management team with an average of 24 years of experience in the tobacco industry, we have grown and diversified our business through new product launches, category expansions, and acquisitions while concurrently improving operational efficiency.
 
We have identified additional growth opportunities in the emerging alternatives market. In January 2019, we established our subsidiary, Nu-X, a new company and wholly-owned subsidiary dedicated to the development, production and sale of alternative products and acquisitions in related spaces. The creation of Nu-X allows TPB to leverage its expertise in traditional OTP management to alternative products. The TPB management team has over 100 years of experience navigating federal, state and local regulations that are directly applicable to the growing alternatives market. In July 2019, we acquired the assets of Solace Technology (“Solace”). Solace is an innovative product development company which established one of the top e-liquid brands and has since grown into a leader in alternative products. Solace’s legacy and innovation will enhance Nu-X’s strong and nimble development engine. In July 2019, we acquired a 30% stake in ReCreation Marketing (“ReCreation). ReCreation is a specialty marketing and distribution firm focused on building brands in the Canadian smoking, vaping and alternative products categories. The investment will leverage ReCreation’s significant expertise in marketing and distributing tobacco and cannabis products throughout Canada. The investment is part of Nu-X and we plan to make additional investments, partnerships and acquisitions to drive the business of Nu-X. These endeavors will enable us to continue to identify unmet customer needs and provide quality products that we believe will result in genuine customer satisfaction and foster the growth of revenue.

We believe there are meaningful opportunities to grow through acquisitions and joint ventures across all product categories. As of December 31, 2019, our products are available in approximately 185,000 U.S. retail locations which, with the addition of retail stores in Canada, brings our total North American retail presence to an estimated 210,000 points of distribution. Our sales team targets widespread distribution to all traditional retail channels, including convenience stores.

Products

We operate in three segments: Smokeless products, Smoking products and NewGen products. In our Smokeless products segment, we (i) manufacture and market moist snuff and (ii) contract for and market loose leaf chewing tobacco products. In our Smoking products segment, we principally (i) market and distribute cigarette papers, tubes, and related products; and (ii) market and distribute finished cigars and MYO cigar wraps. In our NewGen products segment, we (i) market and distribute CBD, liquid vapor products and certain other products without tobacco and/or nicotine; (ii) distribute a wide assortment of products to non-traditional retail via VaporBeast; and (iii) market and distribute a wide assortment of products to individual consumers via VaporFi B2C online platforms. Our portfolio of brands includes some of the most widely recognized names in the OTP industry such as Stoker’s® in the Smokeless segment, Zig-Zag® in the Smoking segment, and VaporBeast®, VaporFi® and Solace© in the NewGen segment.

Operations

Our core tobacco business (Smokeless and Smoking segments) primarily generates revenues from the sale of our products to wholesale distributors who, in turn, resell the products to retail operations. Our acquisition of VaporBeast in 2016 expanded our revenue streams as we began selling directly to non-traditional retail outlets. Our acquisition of IVG in 2018 enhanced our business-to-consumer revenue stream with the addition of  the Vapor-Fi online platform. Our net sales, which include federal excise taxes, consist of gross sales net of cash discounts, returns, and selling and marketing allowances.

We rely on long-standing relationships with high-quality, established manufacturers to provide the majority of our produced products. More than 80% of our production, as measured by net sales, is outsourced to suppliers. The remaining production consists of our moist snuff tobacco operations located in Dresden, Tennessee, and Louisville, Kentucky and the proprietary e-liquids operations located in Louisville, Kentucky. Our principal operating expenses include the cost of raw materials used to manufacture the limited number of our products which we produce in-house; the cost of finished products, which are generally purchased goods; federal excise taxes; legal expenses; and compensation expenses, including benefits and costs of salaried personnel. Our other principal expenses include interest expense and other expenses.

Key Factors Affecting Our Results of Operations

We consider the following to be the key factors affecting our results of operations:


Our ability to further penetrate markets with our existing products;

Our ability to introduce new products and product lines that complement our core business;

Decreasing interest in some tobacco products among consumers;

Price sensitivity in our end-markets;

Marketing and promotional initiatives, which cause variability in our results;

General economic conditions, including consumer access to disposable income;

Cost and increasing regulation of promotional and advertising activities;

Cost of complying with regulation, including the “deeming regulations”;

Counterfeit and other illegal products in our end-markets;

Currency fluctuations;

Our ability to identify attractive acquisition opportunities in OTP; and