Quarterly Report for Quarter Ending May 31, 2025 (Form 10-Q)

Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of financial condition and results of operations is qualified by reference and should be read in conjunction with the consolidated financial statements and the notes included in Item 1 of Part I of this Quarterly Report and the audited consolidated financial statements and notes, and Management's Discussion and Analysis of Financial Condition and Results of Operations, contained in our Annual Report on 10-K, filed with the SEC on June 20, 2025, for the fiscal year ended February 28, 2025.

Cautionary Note Regarding Forward-Looking Statements

In addition to historical information, the following discussion contains certain forward-looking information. See "Cautionary Note Regarding Forward-Looking Statements" in this Quarterly Report for certain information concerning forward-looking statements.

Overview

Rocky Mountain Chocolate Factory, Inc., a Delaware corporation, and its subsidiaries (including its operating subsidiary with the same name, Rocky Mountain Chocolate Factory, Inc., a Colorado corporation) ("RMCF") (referred to as the "Company," "we," "us," or "our") is an international franchisor, confectionery producer and retail operator. Founded in 1981, we are headquartered in Durango, Colorado and produce an extensive line of premium chocolate products and other confectionery products. Our revenues and profitability are derived principally from our franchised/licensed system of retail stores that feature chocolate and other confectionery products including gourmet caramel apples. We also sell our confectionery products in select locations outside of our system of retail stores and license the use of our brand with certain consumer products. As of May 31, 2025, there were 2 Company-owned, 114 licensee-owned and 139 franchised Rocky Mountain Chocolate Factory stores operating in 34 states and the Philippines.

In the fiscal year ended February 28, 2025, the Company entered into a credit agreement (the "Credit Agreement") with RMC Credit Facility, LLC ("RMC"). Pursuant to the Credit Agreement, the Company received an advance in the principal amount of $6.0 million, which advance is evidenced by a promissory note (the "Note"). The Note will mature on September 30, 2027 (the "Maturity Date"), and interest will accrue at a rate of 12% per annum and is payable monthly in arrears. All outstanding principal and interest will be due on the Maturity Date. RMC is a special purpose investment entity affiliated with Steven L. Craig, one of the members of the Company's board of directors.

Current Trends Affecting Our Business and Outlook

As a result of recent macroeconomic inflationary trends and disruptions to the global supply chain, we have experienced and expect to continue experiencing higher raw material, labor, and freight costs. We have experienced labor and logistics challenges, which have contributed to lower factory, retail and e-commerce sales. In addition, we could experience additional lost sale opportunities if our products are not available for purchase as a result of continued disruptions in our supply chain relating to an inability to obtain raw materials or packaging, or if we or our franchisees experience delays in stocking our products.

We are subject to seasonal fluctuations in sales because of key holidays and the location of our franchisees, which have traditionally been located in high traffic areas such as resorts or tourist locations, and the nature of the products we sell, which are seasonal. Historically, the strongest sales of our products have occurred during key holidays and summer vacation seasons. Additionally, quarterly results have been, and in the future are likely to be, affected by the timing of new store openings and the sales of new franchise locations. Because of the seasonality of our business and the impact of new store openings and sales of new franchises, results for any quarter are not necessarily indicative of results that may be achieved in other quarters or for a full fiscal year.

The most important factors in continued growth in our earnings are our ability to increase the sales of premium chocolate products produced in our Durango production facility, and the support of our franchisees in increasing the frequency of customer visits and the average value of each customer transaction, along with ongoing e-commerce revenue growth, and new franchise store growth.

Our ability to successfully achieve expansion of our franchise systems depends on many factors not within our control including the availability of suitable sites for new store locations and the availability of qualified franchisees to support our expansion plans.

Efforts to increase same store pounds purchased from our production facility by franchised stores and to increase total Durango production depend on many factors, including new store openings, effective e-commerce initiatives, industry competition, the receptivity of our franchise system to our product introductions and promotional programs.

Results of Continuing Operations

Three Months Ended May 31, 2025 Compared To the Three Months Ended May 31, 2024

Results Summary

Basic loss per share decreased from a loss of $(0.26) per share for the three months ended May 31, 2024 to a loss of $(0.04) per share for the three months ended May 31, 2025. Revenues decreased by 0.5% for the three months ended May 31, 2024 compared to the three months ended May 31, 2025. Operating loss was $1.6 million for the three months ended May 31, 2024 compared to an operating loss of $0.1 million for the three months ended May 31, 2025. Net loss decreased from a loss of $1.7 million for the three months ended May 31, 2024 to a net loss of $0.3 million for the three months ended May 31, 2025.

REVENUES

Durango Product and Retail Sales

The decrease in total sales of 10.6%, or $0.6 million, for the three months ended May 31, 2025 compared to the three months ended May 31, 2024 was primarily due to the non-renewal of an unprofitable contract with a specialty market customer.

We continue to rationalize product offerings to improve production efficiencies, while adding new products we believe can generate high sales volumes and gross profit margins at or above our average level for bulk and packaged items. We continue to focus on our marketing efforts to increase total pounds purchased by franchise locations.

Royalties, Marketing Fees and Franchise Fees

Royalty and marketing fees increased $0.6 million during the three months ended May 31, 2025 compared to the three months ended May 31, 2024. Franchisees pay higher royalties on sales revenue generated from products made in the store than on sale revenue generated on products purchased from the Company. Sales of store made product increased in the current period. The decrease in franchise fee revenue of $34 thousand during the three months ended May 31, 2025 compared to the three months ended May 31, 2024 was primarily the result of fewer store openings.

COSTS AND EXPENSES

Non-GAAP Measures

In addition to the results provided in accordance with GAAP, we provide certain non-GAAP measures, which present results on an adjusted basis. These are supplemental measures of performance that are not required by or presented in accordance with GAAP. Adjusted gross margin is a non-GAAP measure. Adjusted gross margin is equal to the sum of our total gross margin plus depreciation and amortization calculated in accordance with GAAP. We believe adjusted gross margin is helpful in understanding our past performance as a supplement to gross margin, and other performance measures calculated in conformity with GAAP. We believe that adjusted gross margin is useful to investors because they provide a measure of operating performance and our ability to generate cash that is unaffected by non-cash accounting measures. Additionally, we use adjusted gross margin rather than gross margin to make incremental pricing decisions. Adjusted gross margin has limitations as analytical tools because they exclude the impact of depreciation and amortization expense and you should not consider it in isolation or as a substitute for any measure reported under GAAP. Our use of capital assets makes depreciation and amortization expense a necessary element of our costs and our ability to generate income. Due to these limitations, we use adjusted gross margin as measures of performance only in conjunction with GAAP measures of performance such as gross margin.

Cost of Sales and Gross Margin

Total gross margin percentage increased to 6.9% for the three months ended May 31, 2025 compared to a gross margin of (5.8)% during the three months ended May 31, 2024, due primarily to the cancellation of certain unprofitable contracts. The Company also adjusted sales prices as of March 1, 2025 to achieve targeted margins.

Franchise Costs

The increase in franchise costs for the three months ended May 31, 2025 compared to the three months ended May 31, 2024 was due primarily to costs incurred to create a support framework for our franchise network. As a percentage of total royalty and marketing fees and franchise fee revenue, franchise costs decreased to 36.0% for the three months ended May 31, 2025 from 48.0% for the three months ended May 31, 2024. This decrease as a percentage of royalty, marketing and franchise fees is primarily a result of the increase in royalty fees. As a percentage of total revenue, franchise costs increased to 9.3% during the three months ended May 31, 2025, compared to 8.4% during the three months ended May 31, 2024.

Sales and Marketing

The decrease in sales and marketing costs during the three months ended May 31, 2025 compared to the three months ended May 31, 2024 was due primarily to cost cutting measures as we re-evaluate our marketing strategies. As a percentage of total revenues, sales and marketing expenses decreased to 3.2% during the three months ended May 31, 2025, compared to 6.7% during the three months ended May 31, 2024.

General and Administrative

The decrease in general and administrative costs during the three months ended May 31, 2025 compared to the three months ended May 31, 2024, was due primarily to various cost cutting measures. As a percentage of total revenues, general and administrative expenses decreased to 15.7% during the three months ended May 31, 2025, compared to 19.3% during the three months ended May 31, 2024.

Retail Operating Expenses

Retail operating expenses increased 3.5% during the three months ended May 31, 2025 compared to the three months ended May 31, 2024. This increase is primarily the result of inflation. As a percentage of total revenues, retail operating expenses increased to 3.2% during the three months ended May 31, 2025 compared to 3.1% during the three months ended May 31, 2024.

Depreciation and Amortization

Depreciation and amortization, exclusive of depreciation and amortization included in cost of sales, was $118 thousand during the three months ended May 31, 2025, an increase of 181.0% from $42 thousand during the three months ended May 31, 2024. Depreciation and amortization included in cost of sales increased 16.3% during the three months ended May 31, 2025 compared to the three months ended May 31, 2024. This increase was the result of investments in computer software and production equipment.

Other Income (Expense)

Other expense was $179 thousand during the three months ended May 31, 2025, compared to other expense of $28 thousand during the three months ended May 31, 2024. This represents interest income of $9 thousand for the three months ended May 31, 2025 compared to $7 thousand for the three months ended May 31, 2024, and interest expense of $188 thousand for the three months ended May 31, 2025 compared to $35 thousand during for the three months ended May 31, 2024.

Liquidity and Capital Resources

As of May 31, 2025, working capital was $2.2 million compared with $2.4 million as of February 28, 2025. The decrease in working capital was due primarily to the collection of accounts receivable to fund the purchase of property and equipment. Expected future cash requirements include lease liabilities, purchase obligations, and capital expenditures to support the expected future growth of the business. Our Credit Agreement does not require repayment until maturity in September 2027.

Cash and cash equivalent balances increased from $0.7 million as of February 28, 2025 to $0.9 million as of May 31, 2025 primarily as a result of cash provided by operating activities. Our current ratio was 1.36 to 1.0 on May 31, 2025 compared to 1.34 to 1.0 on February 28, 2025. We monitor current and anticipated future levels of cash and cash equivalents in relation to anticipated operating, financing and investing requirements.

During the three months ended May 31, 2025, we had a consolidated net loss of $0.3 million. Operating activities provided cash of $0.4 million, with the principal adjustments to reconcile net income to net cash provided by operating activities being depreciation and amortization of $0.3 million and stock-based compensation of $0.1 million. During the three months ended May 31, 2024, we had a consolidated net loss of $1.7 million. Operating activities used cash of $2.2 million, with the principal adjustments to reconcile net income to net cash used in operating activities being depreciation and amortization of $0.2 million, loss on disposal of property and equipment of $0.1 million, and stock compensation expense of $40 thousand.

During the three months ended May 31, 2025, investing activities used cash of $177 thousand, primarily due to the purchase of property and equipment of $0.2 million. In comparison, investing activities used cash of $38 thousand during the three months ended May 31, 2024, primarily due to purchases of property and equipment of $0.4 million, offset by proceeds from the sale of assets of $0.4 million and proceeds received on notes receivable of $21 thousand.

There were no cash flows from financing activities during the three months ended May 31, 2025 compared to $0.8 million cash flows from financing activities during the three months ended May 31, 2024. The Company drew down $0.8 million on its revolving line of credit during the three months ended May 31, 2024.

The conditions above raise substantial doubt regarding our ability to continue as a going concern for a period of at least one year after the date of issuance of these financial statements. In addition, our independent registered public accounting firm, in their report on the Company's February 28, 2025, audited financial statements, raised substantial doubt about the Company's ability to continue as a going concern.

Credit Agreement

On September 30, 2024, we entered into the Credit Agreement with RMC. Pursuant to the Credit Agreement, we received an advance in the principal amount of $6.0 million, which advance is evidenced by the Note. The Note will mature on the Maturity Date, and interest will accrue at a rate of 12% per annum and is payable monthly in arrears. All outstanding principal and interest will be due on the Maturity Date. The Credit Agreement is collateralized by our Durango real estate property and the related inventory and property, plant and equipment located on that property, as well as our accounts receivable and cash accounts. As of May 31, 2025, $6.0 million was outstanding on the Credit Agreement.

The Credit Agreement contains customary events of default, including nonpayment of principal and interest when due, failure to comply with covenants, and a change of control of the Company, as well as customary affirmative and negative covenants, including, without limitation, certain reporting obligations and certain limitations on liens, encumbrances, and indebtedness. The Credit Agreement also limits our capital expenditures to $3.5 million per year and contains two financial covenants measured quarterly: a maximum ratio of total liabilities to total net worth and a minimum current ratio.

The Company was not in compliance with the maximum liabilities to tangible net worth covenant of 2.0:1.0 as of May 31, 2025. We have received a waiver from the Lender as of the date of issuance of these financial statements and are in compliance with all other aspects of the Credit Agreement.

We will continue to explore additional means of strengthening our liquidity position and ensuring compliance with our debt financing covenants, which may include the obtaining of waivers from our lenders.

Significant Accounting Policies

The preparation of consolidated financial statements and related disclosures in conformity with GAAP and the Company's discussion and analysis of its financial condition and operating results require the Company's management to make judgments, assumptions and estimates that affect the amounts reported. Note 1, "Nature of Operations and Summary of Significant Accounting Policies" of the Notes to the Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report and in the Notes to Consolidated Financial Statements in Part II, Item 8 in our Annual Report on Form 10-K for the fiscal year ended February 28, 2025 describe the significant accounting policies and methods used in the preparation of the Company's consolidated financial statements. There have been no material changes to the Company's significant accounting policies disclosed in our Annual Report on Form 10-K for the fiscal year ended February 28, 2025.

Off Balance Sheet Arrangements

As of May 31, 2025, except for the purchase obligations as described below, we had no material off-balance sheet arrangements or obligations.

As of May 31, 2025, we had purchase obligations of approximately $2.6 million. These purchase obligations primarily consist of contractual obligations for future purchases of commodities for use in our manufacturing.

Impact of Inflation

Inflationary factors such as increases in the costs of raw materials and labor directly affect the Company's operations. Most of the Company's leases provide for cost-of-living adjustments and require it to pay taxes, insurance and maintenance expenses, all of which are subject to inflation. Additionally, the Company's future lease cost for new facilities may include potentially escalating costs of real estate and construction. There is no assurance that the Company will be able to pass on increased costs to its customers.

Depreciation expense is based on the historical cost to the Company of its fixed assets and is therefore potentially less than it would be if it were based on the current replacement cost. While property and equipment acquired in prior years will ultimately have to be replaced at higher prices, it is expected that replacement will be a gradual process over many years.

Seasonality

We are subject to seasonal fluctuations in sales, which cause fluctuations in quarterly results of operations. Historically, the strongest sales of our products have occurred during key holidays and the summer vacation season. In addition, quarterly results have been, and in the future are likely to be, affected by the timing of new store openings and the sales of new franchise locations. Because of the seasonality of our business and the impact of new store openings and sales of new franchises, results for any quarter are not necessarily indicative of results that may be achieved in other quarters or for a full fiscal year.