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TRUETT-HURST, INC. - 10-K - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Consolidated Financial Statements and the related notes included elsewhere in this Annual Report on Form 10-K. In addition to historical consolidated financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions as described under the "Forward-Looking Statements" section that appears earlier in this Annual Report on Form 10-K. Our actual results could differ materially from those anticipated by these forward-looking statements as a result of many factors, including those discussed under Item 1A, "Risk Factors," and elsewhere in this Annual Report on Form 10-K. The fiscal 2014 results referred to in these audited consolidated financial statements include the results of Truett-Hurst, Inc. ("THI") and its subsidiaries: H.D.D. LLC ("LLC") and its consolidated subsidiary, The Wine Spies, LLC ("Wine Spies") (collectively, "we," "Truett-Hurst," "our," "us," or "the Company"). THI consolidates the financial results of the LLC and its consolidated subsidiary, and records a non-controlling 24 -------------------------------------------------------------------------------- TABLE OF CONTENTS interest for the economic interest in the LLC and its consolidated subsidiary. Non-controlling interest represents the portion of equity ownership in subsidiaries that are not attributable to THI. THI's fiscal 2013 period is from June 26, 2013 to June 30, 2013 due to the completion of the Company's initial public offering ("IPO") on June 25, 2013. Unless the context suggests otherwise, references in this report to THI refer (1) prior to the June 2013 IPO of THI and related transactions, to the LLC and its consolidated subsidiary and (2) after our IPO and related formation transactions, to THI and its consolidated subsidiaries. Unless the context suggests otherwise, references in this report to "Truett-Hurst," the "Company," "we," "us" and "our" refer (1) prior to the June 2013 initial public offering ("IPO") of Truett-Hurst Inc. and related transactions, to the LLC and (2) after our IPO and related transactions, to Truett-Hurst Inc. Quantities or results referred to as "to date" or "as of this date" mean as of or to June 30, 2014, unless otherwise specifically noted. References to "FY" or "fiscal year" refer to our fiscal year ending on June 30th of the designated year. For example, "FY13" and "fiscal year 2013" each refer to the fiscal year ended June 30, 2013 and "FY14" and "fiscal year 2014" each refer to the fiscal year ended June 30, 2014. This Annual Report on Form 10-K references certain trademarks and registered trademarks of ours and products or service names of other companies mentioned in this Annual Report on Form 10-K may be trademarks or registered trademarks of their respective owners. Overview We produce and sell premium, super-premium, ultra-premium and luxury wines. The wine we make generally comes from grapes grown on our estate vineyards or purchased from California based growers. In addition we purchase semi-finished bulk wine under contract and opportunistically on the spot market. On a more limited basis we also purchase finished goods from both foreign and domestic producers. We are headquartered in Sonoma County, California with tasting rooms in the Dry Creek and Russian River valleys. Our wines include Pinot Noir, Chardonnay, Sauvignon Blanc, Zinfandel, Syrah, Merlot, and Cabernet Sauvignon and are sold across a number of price points via three distinct distribution channels: three-tier, direct to consumer and internet. Our business model is a combination of direct to consumer sales, traditional three-tier brand sales and retail exclusive brand sales. We own, design and develop our brands, including those developed and sold on a retailer exclusive basis. Our brands are differentiated and marketed through innovative packaging and label designs. Wine sales in the three-tier channel are sold to distributors with programs available to the broad market (domestic and international markets) or to specific retailers on an exclusive basis. Our traditional three-tier distribution business consists of sales of Truett-Hurst, VML, Healdsburg Ranches and Bradford Mountain branded wines. Through our retailer exclusive brand model we collaboratively work with our retail partners to develop innovative brands which resonate with their customers and increase consumer store traffic and grow sales. Our retail exclusive model allows us to own the brands we create, which we believe differentiates us from the traditional private label model, and allows us the option of expanding the brands into national and international broad markets, thereby further building our brand equity. Our direct to consumer channel consists of sales through our tasting rooms, wine clubs and via the internet. Formation Transactions On June 19, 2013, the limited liability company agreement of the LLC was amended and restated to, among other things, modify its capital structure by replacing the different classes of interests previously held by our then-existing owners with a single new class of units that we refer to as "LLC Units." We and our then-existing owners also entered into an exchange agreement under which (subject to the terms of the exchange agreement) they have the right to exchange their LLC Units for shares of our Class A common stock on a one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends and reclassifications. At June 30, 2014, there were 3.2 million LLC Units held by parties other than THI which upon exercise of the right to exchange would exchange for Class A common stock on a one-for-one basis. During FY14, certain members converted 0.9 million LLC units into Class A common stock. Our existing insiders at June 30, 2014, control 55% of the voting power of our outstanding Class A common stock and 100% of the voting power of our outstanding Class B common stock. Prior to conversion of their LLC Units, each holder 25 -------------------------------------------------------------------------------- TABLE OF CONTENTS of LLC Units holds a single share of our Class B common stock. Accordingly, our LLC owners have the ability to elect all of the members of our board of directors, and thereby control our management and affairs. In connection with our IPO, one share of Class B common stock was distributed to each existing holder of LLC Units, each of which provides its owner with no economic rights but entitles the holder, without regard to the number of shares of Class B common stock held by such holder, to one vote on matters presented to our stockholders for each LLC Unit held by such holder. Holders of our Class A common stock and Class B common stock vote together as a single class on all matters presented to our stockholders for their vote or approval, except as otherwise required by applicable law. Exchange Agreement Prior to the completion of the IPO, we entered into an exchange agreement with the existing owners of the LLC, several of whom are directors and/or officers. Under the exchange agreement, each existing owner (and certain permitted transferees thereof) may (subject to the terms of the exchange agreement), exchange their LLC Units for shares of Class A common stock of the Company on a one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends and reclassifications, or for cash, at our election. As a holder exchanges their LLC Units, our interest in the LLC will be correspondingly increased. At June 30, 2014, certain members exchanged 0.9 million LLC units, on a one-for-one basis, for shares of Class A common stock of the Company, under the exchange agreement. Tax Receivable Agreement Prior to the completion of the IPO, we entered into a tax receivable agreement ("TRA") with the LLC members. The agreement provides for the payment from time to time by us, as "corporate taxpayer," to holders of LLC Units of 90% of the amount of the benefits, if any, that the corporate taxpayer is deemed to realize as a result of (i) increases in tax basis resulting from the exchange of LLC Units and (ii) certain other tax benefits related to us entering into the agreement, including tax benefits attributable to payments under the agreement. These payment obligations are obligations of the corporate taxpayer and not of the LLC. For purposes of the agreement, the benefit deemed realized by the corporate taxpayer will be computed by comparing the actual income tax liability of the corporate taxpayer (calculated with certain assumptions) to the amount of such taxes that the corporate taxpayer would have been required to pay had there been no increase to the tax basis of the assets of the LLC as a result of the exchanges, and had the corporate taxpayer not entered into the agreement. The term of the agreement will continue until all such tax benefits have been utilized or expired, unless the corporate taxpayer exercises its right to terminate the agreement for an amount based on the agreed payments remaining to be made under the agreement or the corporate taxpayer breaches any of its material obligations under the agreement in which case all obligations will generally be accelerated and due as if the corporate taxpayer had exercised its right to terminate the agreement. We will be required to pay the counterparties to the tax receivable agreement for certain tax benefits we may claim arising in connection with current exchanges, future purchases or exchanges of LLC Units and related transactions, and the amounts we may pay could be significant. H.D.D. LLC intends to make an election under Section 754 of the Internal Revenue Code (the "Code") effective for each taxable year in which an exchange of LLC Units for shares of Class A common stock as described above occurs, which may result in an adjustment to the tax basis of the assets of H.D.D. LLC at the time of an exchange of LLC Units. As a result of these exchanges, Truett-Hurst Inc. will become entitled to a proportionate share of the existing tax basis of the assets of H.D.D. LLC. In addition, the purchase of Holdings Units and subsequent exchanges are expected to result in increases in the tax basis of the assets of H.D.D. LLC that otherwise would not have been available. Both this proportionate share and these increases in tax basis may reduce the amount of tax that Truett-Hurst Inc. would otherwise be required to pay in the future. These increases in tax basis may also decrease gains (or increase losses) on future dispositions of certain capital assets to the extent tax basis is allocated to those capital assets. We recorded deferred tax assets of $3.0 million related to the exchange of 0.9 million LLC units for an equal amount of THI Class A common stock. We recorded a $2.9 million long-term liability due to LLC unit holders who converted their units to shares which represents 90% of the estimated tax benefits and 26 -------------------------------------------------------------------------------- TABLE OF CONTENTS $0.3 million for the difference in the recorded deferred tax asset and computed TRA liability and recorded as an adjustment to equity. Additionally, we recorded a valuation allowance on our deferred tax assets for $3.0 million as it was determined that it was more likely than not that the tax benefits would not be realized which resulted in corresponding adjustments to the TRA liability and equity as mentioned above. Initial Public Offering Our IPO closed on June 25, 2013 and pursuant to the IPO, we offered and sold 2.7 million shares of Class A common stock and acquired an equivalent number of LLC Units of the LLC. We received gross IPO proceeds of approximately $16.2 million and used approximately $15.1 million of the IPO proceeds to purchase 2.7 million newly-issued LLC Units from the LLC. We caused the LLC to use approximately $1.6 million of the $15.1 million IPO net proceeds from the sale of such newly-issued LLC Units to repay outstanding indebtedness and related IPO expenses. In addition, we paid approximately $1.1 million to the Placement Agent. Subsequent to the IPO and the formation transactions described above, we consolidated the financial results of the LLC and its subsidiaries and reflected the ownership interest of the other members of the LLC as a non-controlling interest in our consolidated financial statements beginning June 30, 2013. Recent Trends Wine Industry Per MarketLine, the global wine industry is on track to record approximately $292 billion in revenues in 2014, with the top wine-producing countries accounting for over 80% of the world's supply, and the top four accounting for approximately 55% of all wine worldwide. The Wine Market Council states, in terms of volume, the U.S. has approximately 100 million wine drinkers, which is driving a market of greater than $36 billion in sales and 370 million cases, as of 2013, up 2.7% and 5% respectively from 2012, including both domestic and imported wine. Additional trends within the wine industry, include (Unified Wine Symposium and ACNielsen): • The estimated value of 2013 wine shipments is $36 billion, a 5% increase from 2012. This makes the U.S. the largest wine market in terms of revenues; • An increase in global wine consumption, with premium wines growing faster than value-priced wines; • Wine sales have been growing at a rate of 2 to 3% per year in the U.S. market for the past 21 years, and • Of the 330 million people in the U.S., 100 million now drink wine. • Retail outlets increased by 62,000 locations over the last five years, up 12% to 550,000 outlets • Most popular varietals were: chardonnay, with 20% share of sales; cabernet sauvignon, 13%; merlot, 9%; red blends or sweet red wines, 9%, pinot grigio, 9%; followed by moscato, 6%; white zinfandel, 5%; pinot noir, 4%; and sauvignon blanc, 4% • U.S. wine exports, 90 percent from California, reached $1.55 billion in winery revenues in 2013, an increase of 16.4% compared with 2012 • The European Union was the top destination for U.S. wine exports, accounting for $617 million, up 31% compared to the previous year; followed by Canada, $454 million, up 12% The California 2013 vintage grape harvest totaled 4.7 million tons which was up 7% from the 2012 harvest (USDA, National Agriculture Service 2013 Final Grape Crush Report). The 2012 harvest was approximately 13% higher than the 2011. The 2012 and 2013 harvests are expected to align domestic supply and demand particularly in light of the smaller harvests of 2010 and 2011. Our strategy has been to utilize our knowledge, expertise and competitive positioning to deliver innovative products to the wine market. We face evolving trends in the wine industry that can provide opportunities as well as potential risks, including: 27 -------------------------------------------------------------------------------- TABLE OF CONTENTS • Market ripe for disruption: With increased direct-to-consumer wine distribution wine drinkers are exploring new brands and products. Tourism and winery visits drive the majority of a winery's repeat sales and wine clubs, but retailers are also stepping up their game. According to ACNielsen, there are now 522,000 nationwide retail outlets for wine, beer and spirits. Citing companies that have started carrying wine like Walgreens and 7-Eleven, ACNielsen notes that there are now more chains than independent shops selling wine. In order to compete for this growing profit pool, food and grocery retailers have turned to retail exclusive brand label programs as a way of gaining margin, customer loyalty, category growth and differentiation. • Retailer focus on innovation: In an increasingly fast moving and competitive marketplace, innovation in packaging continues to play a key role in new product development and branding in the wine sector. Packaging needs to adapt to a more complex picture of how consumption needs vary by product category and positioning. More specific product positioning by finished goods manufacturers and retailers in many cases means more specifically tailored packaging - creating opportunities for the industry. Our retail exclusive label model is aligned with retailers' initiatives of delivering innovative and unique brands that minimize negative environmental impact. • Retail exclusive brand label model growth: According to ACNielsen data, the retail exclusive label unit and dollar share reached 23.4% of the private label market for the 52-week period ending November 23, 2013. Wine shipments to the U.S. from all production sources, grew 3% to 375.2 million cases with an estimated retail value of $36.3 billion. This represents 21 consecutive years of volume growth. The U.S. has been the largest wine consuming nation in the world since 2010. California's 215 million cases shipped within the U.S. represent a 57% share of the U.S. wine market. Our retail exclusive label model is positioned to fill the increased demand by retailers. • Rapid growth of internet retailing: The global online wine market, estimated to be approximately $5 billion, is experiencing growth of more than 30 percent each year. The industry has flourished over the past five years, as consumers have increased their reliance on online shopping and e-commerce in general. More Americans are purchasing goods and services online, as it offers convenience by allowing them to browse from the comfort of their home. We believe our Wine Spies platform is poised to take advantage this growing trend. • Significant direct to consumer sales growth: Per the Wine Industry Metrics for March 2014, a thriving U.S. wine industry reflected a 20% monthly gain in direct-to-consumer sales. This monthly increase also raised the 12-month growth rate to 10% from 7% in February. Off-premise sales grew 5% for the month and stayed on a steady 12-month track of 7% growth. Our direct to consumer sales represented 18% and 19% of our total net sales for the fiscal years ended June 30, 2014 and 2013, respectively. We anticipate our net sales will increase as our existing brands and concepts continue to gain acceptance in the marketplace and through our scheduled introduction of new brands and packaging. We expect cost of goods sold to continue to increase as sales increase. Operating expenses will increase as we generate and sustain increased revenue to achieve and maintain future profitability. In addition, we will continue to incur additional expenses related to various financial reporting, legal, corporate governance and other expenses as a result of being a publicly-traded company. Reporting Segments Our primary reporting segments are identified by each distribution channel. During FY14, we sold approximately 0.3 million cases of wine, generating $22.1 million in net sales as compared to 0.2 million cases of wine, generating $17.2 million net sales, in FY13. For details, see "Net Sales" and Note 15, "Significant Customer Information, Segment Reporting and Geographic Information," to the Management's Discussion and Analysis of Financial Condition and Results of Operations and Notes to the Consolidated Financial Statements included in this Annual Report on Form 10-K. 28 -------------------------------------------------------------------------------- TABLE OF CONTENTS Results of Operations Factors Affecting Our Operating Results Our net sales are affected by advertising, discounts and promotions, merchandising, packaging and in the wholesale segment, the availability of wall display space at our retailer customers, all of which have a significant impact on consumers' buying decisions. Continued growth of our net sales and profits will depend, substantially, on the continued popularity of our new and existing brands, our ability to effectively manage our sales by channel, and our ability to maintain sufficient product supply to meet expected growth in demand. Fiscal 2014 compared to Fiscal 2013 Net Sales Net sales include sales from each distribution channel. The following table compares net sales by distribution channel: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) Increase % Distribution Channel 2014 2013 (Decrease) Change Wholesale $ 15,808 $ 12,427 $ 3,381 27 % Direct to consumer 4,038 3,193 845 26 % Internet 2,211 1,542 669 43 % Total net sales $ 22,057 $ 17,162 $ 4,895 29 % Net sales increased 29% from FY13 to FY14. Wholesale net sales increased compared to the prior-year period due to increased case sales of existing brands and introduction of new brands: California Square and PaperBoy. Direct to consumer net sales increased compared to the prior-year period and was attributable to increased wine club memberships and increased tasting room traffic. Internet net sales increased compared to the prior-year period and was attributable to increased website traffic, internet marketing and sales mix with higher priced, limited production wines. In addition, internet net sales had twelve-months of operations compared to only ten months in FY13 (acquired August 2012). During FY14, international sales were 8% of our wholesale net sales compared to the prior-year period of 2%. We record sales discounts and depletion allowances as a reduction of sales. For FY14 and FY13, sales discounts and depletion allowances totaled $1.7 million and $1.4 million, respectively. We anticipate an increase in sales discounts and depletion allowances in the upcoming fiscal year due to product positioning and increased wholesale sales and expansion of distributor base. Cost of Sales Costs of sales includes costs associated with direct and indirect grape growing costs, external grape, bulk wine and finished goods purchases, packaging materials, direct and indirect winemaking production costs. No further costs are allocated to inventory once the product is bottled and ready for sale. The following table compares cost of sales by distribution channel: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) Increase % Distribution Channel 2014 2013 (Decrease) Change Wholesale $ 11,668 $ 9,280 $ 2,388 26 % Direct to consumer 1,565 1,356 209 15 % Internet 1,395 860 535 62 % Total cost of sales $ 14,628 $ 11,496 $ 3,132 27 % Wholesale and direct to consumer sales cost of sales increased compared to the same prior-year period and was attributable to the sales mix, volume, increased tasting room traffic and a $.08 million inventory write-down to market. Internet cost of sales increase was due to its sale mix and a full twelve months of operations compared to only ten months in FY13 (acquired August 2012). 29 -------------------------------------------------------------------------------- TABLE OF CONTENTS Gross Profit/Gross Profit Margin The following tables compare gross profit and gross profit margins by channel: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) Increase % Distribution Channel 2014 2013 (Decrease) Change Wholesale $ 4,140 $ 3,147 $ 993 32 % Direct to consumer 2,473 1,837 636 35 % Internet 816 682 134 20 % Total gross profit $ 7,429 $ 5,666 $ 1,763 31 % [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) Gross margin percent of net Increase % sales 2014 2013 (Decrease) Change Wholesale 26.2 % 25.3 % 0.9 % 3.6 % Direct 61.2 % 57.5 % 3.7 % 6.4 % Internet 36.9 % 44.2 % -7.3 % -16.5 % Overall gross margin perecent of net sales 33.7 % 33.0 % Wholesale and direct to consumer gross profit margins increased compared to the same prior-year period and was attributable to sales mix, volume, reduced discounting, and selected price increases associated with certain vintage transitions. The internet gross profit margin decreased as we continued to emphasize higher priced limited production wines which support higher growth rates but lower gross margin percentages. Sales and Marketing Sales and marketing expenses consist primarily of non-production personnel costs, advertising and other marketing promotions. Advertising costs are expensed as incurred. For FY14 and FY13, advertising expense totaled approximately $0.2 million and $0.06 million, respectively. Sales and marketing expenses for the FY14 and FY13 periods are as follows: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) % 2014 2013 Increase (Decrease) Change Sales and marketing $ 5,012 $ 3,592 $ 1,420 40 % Percentage of net sales 22.7 % 20.9 % Sales and marketing expense increased in FY14 compared to the same prior-year period and was attributable to our continued expansion of our brand related programming and promotions, increased headcount and related expenses, and marketing expenses associated with increased sales. We report the amounts billed to our customers for shipping and handling as sales, and we report the costs we incur for shipping and handling as a sales and marketing expense. For FY14 and FY13, shipping costs were $0.8 million and $0.6 million, respectively. General and administrative General and administrative expenses include the costs associated with our administrative staff and other expenses related to our non-manufacturing functions. General and administrative expenses for the FY14 and FY13 periods are as follows: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Fiscal Years Ended June 30, (in thousands, except percentages) % 2014 2013 Increase (Decrease) Change General and administrative $ 3,169 $ 2,115 $ 1,054 50 % Percentage of net sales 14.4 % 12.3 % 30 -------------------------------------------------------------------------------- TABLE OF CONTENTS General and administrative expense increased during FY14 compared to the same prior-year periods and was attributable to the continued expansion of our infrastructure including increased headcount and related expenses, professional fees, costs of a public company and office facility lease. Loss on Deposit On March 5, 2014, a paper bottle supplier entered into administration in the United Kingdom ("U.K."), a process similar to the U.S. bankruptcy process. As a result of the administrative filing, we recorded a one-time provision for loss on deposit of approximately $0.5 million relating to amounts previously paid in advance and for estimated legal costs for filing a U.K. administrative claim. Our policy is to include direct costs associated with the provision. We are unable at this time to predict the legal outcome of our claim and believe it is unlikely that any amount will be recovered. For additional information see "Supply Contract" and "Note 8 - Commitments and Contingencies" to the Consolidated Financial Statements included in this Annual Report on Form 10-K. Interest Expense Interest expense for FY14 was $0.2 million from $0.4 million for the same prior-year period. The decrease in interest expense is due primarily to a change in lenders during fiscal 2013 enabling us to borrow funds at a lower interest rate in compared to the same prior-year period. LIQUIDITY AND CAPITAL RESOURCES General Our primary sources of available cash are from operations, the revolving loan portion of our credit facility, equipment financing and equity offerings. Our primary cash needs are to fund working capital requirements, including costs associated with the development, release and sale of new brands, and capital expenditures for barrels and other equipment to facilitate increased production, repay our indebtedness (interest and principal payments) and operating expenses. Working capital requirements for our wholesale and direct to consumer segments is supported by grapes (grown or purchased), semi-finished bulk wine (purchased under contract or on the spot market), and on a limited basis finished goods procured from international and domestic sources. The actual wine programs and segments in which the grapes and bulk wine procured will be used are not known until our winemaker has completed the winemaking, blending and oak aging production process. It is not possible to accurately assign inventory costs to each segment because the bottled inventory may be sold in multiple segments. [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] As of Fiscal Years ended June 30, 2014 to 2013 (in thousands, except percentages) 2014 2013 Inc (Dec) % Working capital $ 15,296 $ 16,443 $ (1,147 ) (7 )% Cash and cash equivalents $ 5,567 $ 11,367 $ (5,800 ) (51 )% Borrowings under our credit facilities are at the London Interbank Offered Rate ("LIBOR"), plus a credit spread. Borrowings under the equipment line of credit are converted to term notes, annually. For information regarding the loans and loan guarantees see below "Indebtedness" and "Security Agreements and Limited Guarantees" and "Note 8 - Commitments and Contingencies" to the Consolidated Financial Statements included in this Annual Report on Form 10-K. The availability is subject to our compliance with certain contractual financial and non-financial covenants. The terms of our credit facility require, among other things, compliance with certain financial covenants, including, without limitation, a minimum current assets to current liabilities ratio (measured quarterly), debt to effective tangible net worth ratio (measured quarterly) and debt service coverage ratio (measured annually). As of June 30, 2014, we advised the bank that we may fail to be in compliance with a debt service coverage ratio. In order to avoid a failure to comply with that covenant, in advance of any default, the bank provided a waiver of compliance. For additional information related to our bank loans, see Part II, Item 8, Note 8, "Commitments and Contingencies," to the Consolidated Financial Statements included in this Annual Report on Form 10-K. 31 -------------------------------------------------------------------------------- TABLE OF CONTENTS Working capital decreased $1.1 million for FY14 from $16.4 million for the comparable prior-year period. The decrease in working capital was attributable to the utilizing the cash received in the IPO to fund operations and offset by an increase in inventories. Cash decreased by $5.8 million for FY14 from $11.4 million at the end of FY13. We may purchase barrels and or equipment in the next twelve months. We have experienced no material trends or changes in the type or cost of our capital resources. We believe that our cash position and availability under our senior secured credit facility and equipment line of credit will be adequate to finance working capital needs and planned capital expenditures for at least the next twelve months. We may, however, require additional liquidity as we continue to execute our business strategy. We anticipate that, to the extent that we require additional liquidity, it will be funded through the incurrence of indebtedness, additional equity financings or a combination of these potential sources of liquidity, although no assurance can be given that such forms of capital will be available to us, or available to us on terms which are acceptable, at such time. Cash Flows A summary of cash flows from operating, investing and financing activities for the periods indicated are shown in the following table: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] As of June 30, 2014 to 2013 (in thousands, except percentage) 2014 2013 Change Net cash provided by (used in) operating activities $ (6,916 ) $ (5,733 ) $ (1,183 ) Net cash provided by (used in) investing activities $ (754 ) $ (1,201 ) $ 447 Net cash provided by (used in) financing activities $ 1,870 $ 18,134 $ (16,264 ) Operating Activities Net cash used in operating activities increased $1.2 million for FY14 compared to the same prior-year end period. The significant changes in cash flows used in operating activities is attributable to the net loss, increase in bulk wine deposit and decrease in accounts payable and accrued expenses offset by a reduction in accounts receivable, inventories and other current assets. Management believes cash flows from operations, available cash balances and short-term borrowings will be sufficient to fund the Company's future operating liquidity needs for the next twelve months. Cash flows used in operating activities increased $3.4 million to $5.7 million for FY13, from cash used in operating activities of $2.3 million for the comparable prior-year period. The significant changes in cash flows used in operating activities is attributable to a $0.6 million decrease in income, a $3.6 million increase in inventories (to meet actual and projected increases in sales), offset by $1.2 million increase in accounts payable and accrued expenses (attributable to the increase in sales), an increase in accounts receivable of $1.2 million (attributable to the increase in sales), increase in bulk wine deposits of $0.7 million (product received and converted to inventory) and offset by non-cash items of $0.6 million. Investing Activities Net cash used in investing activities decreased $0.4 million for FY14 compared to the same prior-year end period. The significant changes in cash flows used in investing activities is attributable to a decrease in property and equipment purchases and investment in Wine Spies offset by an increase in intangibles and other assets. Cash flows used in investing activities increased $0.9 million to $1.2 million for FY13, from $0.3 million for the comparable prior-year period. The changes in cash flows used in investing activities is due primarily to $0.3 million investment in The Wine Spies and a net $0.6 million increase in the acquisition of property and equipment and intangibles. Financing Activities Net cash provided by financing activities decreased $16.3 million for FY14 compared to the same prior-year end period. The significant changes in cash flows provided by financing activities is attributable to the IPO during FY13 and decreased borrowings and related proceeds and the IPO proceeds during FY13. We utilize our line of credit and equipment line of credit to fund our operations and equipment purchases. 32 -------------------------------------------------------------------------------- TABLE OF CONTENTS Cash flows provided by financing activities increased $15.6 million to $18.1 million for FY13, from $2.5 million for the comparable prior-year period. The significant changes in cash flows provided by financing activities is due primarily to $13.6 million in net IPO proceeds, $5.4 million in net proceeds from the line of credit, a $2.5 reduction in members contributions for members warrant and net change in factor debt of $1.7 million. Contractual Obligations and Commitments Financing Agreements Indebtedness Our primary sources of indebtedness are loans provided by our bank (as described below). For information regarding the loan guarantees see below "Security Agreements and Limited Guarantees" below and Part II, Item 8, Note 8, "Commitments and Contingencies," to the Consolidated Financial Statements included in this Annual Report on Form 10-K. Bank Loans. • $9.0 million Line of Credit Note: Our line of credit expires on July 31, 2015 and the aggregate principal balance outstanding bears interest at 1.75% above LIBOR. • $0.5 million Equipment Purchase Line of Credit Note: We received an equipment purchase line of credit note which matures on July 31, 2015. The aggregate principal balance outstanding bears interest at 2.25% above the floating One-Month LIBOR Rate. • $0.1 million Foreign Exchange Note: We received a foreign exchange note in the principal amount of $0.1 million from the bank due on or before July 31, 2015 that carries a 10% credit percentage and permits us to enter into any spot or forward transaction to purchase from or sell to the bank a foreign currency of an agreed amount. The bank loan contains usual and customary covenants, including, without limitation: • limitation on incurring senior indebtedness; • limitation on making loans and advances; • limitation on investments, acquisitions, and capital expenditures; • limitation on liens, mergers and sales of assets; and • limitations on new activities of the Company. In addition, the bank loan contains negative and financial covenants, including, without limitation, a minimum current assets to current liabilities ratio (measured quarterly), debt to effective tangible net worth ratio (measured quarterly) and debt service coverage ratio (measured annually). Covenant Breaches In March 2013, in connection with the bank issuance of a waiver for the financial covenants, we amended and restated a member warrant to allow for the immediate exercise of the warrant for a 3% member interest. The original common stock warrant, issued in May 2012, was for 20% of the contributed members' equity interest equal to $0.5 million. The obligation was satisfied with the exercise of the warrant in March 2013 for $0.5 million. Additionally, $0.7 million in related party obligations was subordinated and $0.4 million of newly issued, convertible, subordinated debt was received from four of our members. The debt bears interest at 10% per annum, with interest and principal due before March 1, 2014. Upon completion of the IPO on June 25, 2013, all amounts were released from subordination and paid in full. As of June 30, 2014, we advised the bank that we may fail to be in compliance with a debt service coverage ratio. In order to avoid a failure to comply with that covenant, in advance of any default, the bank provided a waiver of compliance. For additional information related to our bank loans, see Part II, Item 8, Note 8, "Commitments and Contingencies," to the Consolidated Financial Statements included in this Annual Report on Form 10-K. 33 -------------------------------------------------------------------------------- TABLE OF CONTENTS Security Agreements and Limited Guaranties In connection with our entry into the Bank of the West Loan on July 16, 2012, certain of our executive officers, as well as certain trusts and other entities under their respective control, entered into guarantee agreements as described below. Limited Guaranty - Hurst Trust: On July 16, 2012, the Hurst Trust, a member of the LLC, and Phillip L. Hurst, director and CEO of the LLC and Truett-Hurst, Inc. and a co-trustee of the Hurst Trust, entered into a Limited Guaranty pursuant to which the Hurst Trust and Mr. Hurst, together, guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of the Hurst Trust and Mr. Hurst, as guarantor, is limited to 42% of the sum of all obligations due to Bank of the West, plus the costs, expenses and interest associated with the collection of amounts recoverable under this guarantee. Limited Guaranty - Hambrecht Trust: On July 16, 2012, the Hambrecht Trust and William R. Hambrecht, a former director of the LLC and Truett-Hurst, Inc. and trustee of the Hambrecht Trust, entered into a Limited Guaranty pursuant to which the Hambrecht Trust and Mr. Hambrecht, together, guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of the Hambrecht Trust and Mr. Hambrecht, as guarantor, is limited to 35% of the sum of all obligations due to Bank of the West, plus the costs, expenses and interest associated with the collection of amounts recoverable under this guarantee. On September 30, 2013, Mr. Hambrecht notified the Company that he would not stand for re-election and his director's term expired November 20, 2013. Limited Guaranty - Dolan 2005 Trust: On July 16, 2012, the Dolan 2005 Trust, a member of the LLC, and Heath E. Dolan, a director of the LLC and Truett-Hurst, Inc. and a co-trustee of the Dolan 2005 Trust, entered into a Limited Guaranty pursuant to which the Dolan 2005 Trust and Mr. Dolan, together, guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of the Dolan 2005 Trust and Mr. Dolan, as guarantor, is limited to 26% of the sum of all obligations due to Bank of the West, plus the costs, expenses and interest associated with the collection of amounts recoverable under this guarantee. Limited Guaranty - Dolan 2003 Trust: On July 16, 2012, the Dolan 2003 Trust, a member of the LLC, and Paul E. Dolan, III, a director of the LLC and Truett-Hurst, Inc. and trustee of the Dolan 2003 Trust, entered into a Limited Guaranty pursuant to which the Dolan 2003 Trust and Mr. Dolan, together, guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of the Dolan 2003 Trust and Mr. Dolan, as guarantor, is limited to 26% of the sum of all obligations due to Bank of the West, plus the costs, expenses and interest associated with the collection of amounts recoverable under this guarantee. Limited Guaranty - Carroll-Obremskey Trust: On July 16, 2012, the Carroll-Obremskey Trust, a member of the LLC, and Daniel A. Carroll, a director of the LLC and Truett-Hurst, Inc. and a co-trustee of the Carroll-Obremskey Trust, entered into a Limited Guaranty pursuant to which the Carroll-Obremskey Trust and Mr. Carroll, together, guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of the Carroll-Obremskey Trust and Mr. Carroll, as guarantor, is limited to 26% of the sum of all obligations due to Bank of the West, plus the costs, expenses and interest associated with the collection of amounts recoverable under this guarantee. Unlimited Guaranty - Hambrecht Wine Group: On July 16, 2012, the Hambrecht Wine Group, entered into an Unlimited Guaranty pursuant to which Hambrecht Wine Group guarantees the full payment to Bank of the West of all sums presently due and owing and all sums which shall in the future become due and owing to Bank of the West from us. The liability of Hambrecht Wine Group, as guarantor, is unlimited. On September 30, 2013, Mr. Hambrecht notified the Company that he would not stand for re-election and his director's term expired November 20, 2013. 34 -------------------------------------------------------------------------------- TABLE OF CONTENTS Concentration of Credit Risk and Off-Balance Sheet Arrangements Financial instruments that potentially subject us to concentrations of credit risk consist primarily of cash and accounts receivables. We maintain our accounts for cash principally at one major bank in the United States. Historically, our cash balances have been minimum due to our sweep arrangement with the line of credit. We have not experienced any losses on our deposits of our cash. Although we try to limit the amount of credit exposure with our major bank, we do in the normal course of business maintain cash balances in excess of federally insured limits. Our accounts receivable consists primarily of trade receivables from customers. We review accounts receivable regularly and make estimates for allowance for doubtful accounts when there is doubt as to the collectability of individual balances. We believe our accounts receivable credit risk exposure is limited and we have not experienced significant write-downs in its accounts receivable balances. Off-Balance Sheet Arrangements We do not have off-balance sheet risks related to foreign exchange contracts, option contracts or other foreign hedging arrangements. Leases and Commitments We lease a winery, tasting room facility, office space and certain office equipment. We enter into short and long-term contracts to supply a portion of our future grapes and bulk wine inventory requirements with third parties and related party growers. The following table presents future minimum inventory commitments as of June 30, 2014: [[Image Removed]] [[Image Removed]] [[Image Removed]] [[Image Removed]] Third Related Years ending June 30: Parties Parties Total (in thousands) 2015 $ 5,320 $ 421 $ 5,741 2016 3,974 - 3,974 2017 575 - 575 Total $ 9,869 $ 421 $ 10,290 Supply Contract On February 26, 2013, we executed a supply of goods agreement for our paper wine bottle. The term of the agreement was seven years and the minimum purchase commitment for the first two years was $0.8 million for each year. At March 5, 2014, the supplier entered into administration in the United Kingdom ("U.K."), a process similar to the U.S. bankruptcy process and subsequently terminated the supply contract. As a result of the administrative filing, we recorded a one-time provision for loss on deposit of approximately $0.5 million relating to amounts previously paid in advance and for estimated legal costs to file a U.K. administrative claim. Our policy is to include direct costs associated with the provision. We believe the financial impact is isolated to the third quarter of fiscal 2014. On February 18, 2014, we entered into a two-year supply agreement (with three, one-year renewal options) with a U.S supplier and we believe the supply relationship will provide the volume to meet our PaperBoy sales goals. At June 30, 2014, total future purchase commitments for finished goods (including paper bottles) total approximately $7.7 million and are expected to be fulfilled during fiscal 2015 to 2017. Effects of Inflation and Changing Prices Our results of operations and financial condition have not been significantly affected by inflation and changing prices. We intend to pass along rising costs through increased selling prices, subject to normal competitive conditions. There can be no assurances, however, that we will be able to pass along rising costs through increased selling prices. In addition, we continue to identify on-going cost savings initiatives. Critical Accounting Policies and Estimates Preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of the assets and liabilities and disclosure of 35 -------------------------------------------------------------------------------- TABLE OF CONTENTS contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates are subjective in nature and involve judgments that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at fiscal year-end and the reported amounts of revenues and expenses during the fiscal year. Significant estimates include inventory valuation, equity-based compensation, contingencies, income tax and deferred tax asset and liability valuation and fair value measurements for goodwill and other long-lived assets used in our initial recording and evaluation of impairment for such assets. We base our estimates on historical experience and on various other assumptions that management believes are reasonable under the given circumstances. These estimates could be materially different under different conditions and assumptions. Additionally, the actual amounts could differ from the estimates made. Management periodically evaluates estimates used in the preparation of our financial statements for continued reasonableness. We prospectively apply appropriate adjustments, if any, to our estimates based upon our periodic evaluation. Our critical accounting policies include: Liquidity and Capital Resources The terms of our credit facility require, among other things, compliance with certain financial covenants, including, without limitation, a minimum current assets to current liabilities ratio (measured quarterly), debt to effective tangible net worth ratio (measured quarterly) and debt service coverage ratio (measured annually). As of June 30, 2014, we advised the bank that we may fail to be in compliance with a debt service coverage ratio. In order to avoid a failure to comply with that covenant, in advance of any default, the bank provided a waiver of compliance. For additional information related to our bank loans, see Part II, Item 8, Note 8, "Commitments and Contingencies," to the Consolidated Financial Statements included in this Annual Report on Form 10-K. Accounts Receivable Accounts receivable consists primarily of trade receivables from customers. We review accounts receivable regularly and make estimates for allowance for doubtful accounts when there is doubt as to the collectability of individual balances. In evaluating the collectability of individual receivable balances, we consider many factors, including the age of the balance, the customer's historical payment history, its current credit worthiness, and current economic trends. Bad debts are written off after all collection efforts have ceased. We generally do not require collateral from our customers. We do not accrue interest on past-due amounts. An allowance for doubtful accounts was not recorded for FY14 and FY13, as bad debts have historically been negligible. Inventories Inventories consist primarily of bulk and bottled wine, capitalized cultural costs, merchandise and purchased grapes valued at the lower of cost or market using the first-in, first-out or specific identification method. In accordance with general wine industry practice, bulk and bottled wine inventories are included in current assets, although a portion of such inventories may be aged for a period longer than one year. Costs related to growing grapes on our vineyard are reflected in inventories as capitalized cultural costs. Upon completion of the harvest, these costs are included in bulk wine. Costs associated with winemaking and the production of wine are reflected in inventories as bulk wine until the wine has been bottled and is available for sale. We assess the valuation of our inventories and reduce the carrying value of those inventories that are obsolete or in excess of our forecasted usage to its estimated net realizable value. We estimate the net realizable value of such inventories based on analyses and assumptions including, but not limited to, historical usage, future demand and market requirements. Reductions to the carrying value of inventories are recorded in cost of product sold. If the future demand for our products is less favorable than our forecasts, then the value of the inventories may be required to be reduced, which could result in material additional expense and may have a material adverse impact on our financial statements. Property and Equipment Property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is calculated on a straight-line basis over the useful lives of the asset, principally twenty to forty years for 36 -------------------------------------------------------------------------------- TABLE OF CONTENTS building and improvements, five years for machinery and equipment, seven to fifteen years for vineyard development, ten to twenty years for vineyard equipment, five to ten years for furniture and fixtures, the shorter of estimated useful life or lease term, generally five years for leasehold improvements and five years for vehicles. Costs incurred in developing vineyards are capitalized and depreciation commences when the related vineyard becomes commercially productive. Expenditures for major renewals and betterments that extend the useful lives of property and equipment are capitalized. Expenditures for maintenance and repairs are charged to expense as incurred. Gains and losses from disposition of property and equipment are included as a component of income (loss) from operations. Impairment of Long-lived Assets We review our long-lived assets for impairment, whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted cash flows expected to be generated by the asset. If the carrying amount of an asset exceeds its estimated undiscounted cash flows, an impairment loss is recognized to the extent that the carrying value of the asset exceeds its fair value. There were no events occurring for FY14 and FY13 which required an assessment of impairment of long live assets. Goodwill and Intangible Assets We review our goodwill and indefinite lived intangible assets annually for impairment, or sooner, if events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We use April 1 as our annual impairment test measurement date. As of June 30, 2014, we have goodwill from the purchase of Wine Spies, in August 2012. Indefinite lived intangible assets consist primarily of trademarks. Intangible assets determined to have a finite life are amortized over their estimated useful lives, principally four years for the customer lists and non-compete agreement, five years for proprietary technology and ten years for the trademark. Patents will be amortized over their estimated legal lives. There were no impairments of goodwill, indefinite lived intangible or finite lived intangible assets during FY14 and FY13, respectively. Other Assets Other assets are amortized over their estimated useful lives, principally five years for label design costs, ten years for loan fees, ten years for lease costs - related party, and five years for website design costs. Label designs are evaluated for impairment in accordance with our policy on impairment of long lived assets. Revenue Recognition We recognize wine sales when the product is shipped and title passes to the customer. Our standard terms are 'FOB' shipping point, with no customer acceptance provisions. The cost of price promotions and discounts are treated as reductions of sales. No products are sold on consignment. Credit sales are recorded as trade accounts receivable and no collateral is required. Net sales from items sold through our retail locations are recognized at the time of sale. Sales Discounts and Depletion Allowances We record sales discounts and depletion allowances as a reduction of sales at the time of sale. For FY14 and FY13, sales discounts and depletion allowances totaled $1.7 million and $1.4 million, respectively. Cost of Sales Cost of sales includes costs associated with grape growing, external grape, bulk wine and finished goods purchases, packaging materials, winemaking and production costs, vineyard and production administrative support and overhead costs, purchasing and receiving costs and certain warehousing costs. No further costs are allocated to inventory once the product is bottled and available for sale. Expense Allocation The LLC Operating Agreement provides that substantially all expenses incurred by or attributable to our company (such as expenses incurred in connection with the IPO), income tax expenses and payments on indebtedness are borne by the LLC. 37 -------------------------------------------------------------------------------- TABLE OF CONTENTS Sales and Marketing Expense Sales and marketing expenses consist primarily of non-manufacturing personnel, advertising and other marketing promotions. Advertising costs are expensed as incurred. For FY14 and FY13, advertising expense totaled approximately $0.2 million and $0.06 million, respectively. General and Administrative Expenses General and administrative expenses include the costs associated with our administrative staff and other expenses related to our non-manufacturing functions. Shipping and Handling Fees and Costs We report the amounts billed to our customers for shipping and handling as sales, and we report the costs we incur for shipping and handling as a sales and marketing expense. Our gross margins may not be comparable to other companies in the same industry as other companies may include shipping and handling costs as a cost of sales. For FY14 and FY13, shipping costs were $0.8 million and $0.6 million, respectively. Income Taxes and Deferred Tax Asset Valuation The LLC is treated as a partnership under the Internal Revenue Code of 1986, as amended (the "Code"). The members separately account for their pro-rata share of income, deductions, losses, and credits. Therefore, no provision is made for the LLC's share of net income (loss) in the consolidated financial statements for liabilities for federal, state, or local income taxes which liabilities are the responsibility of the individual members. The LLC is subject to entity level taxation in the state of California. As a result, the accompanying consolidated statements of income include tax expense related to this state. Subsequent to June 26 2013, Truett-Hurst, Inc. became subject to US federal, state, and local taxes with respect to its allocable share of any taxable income of H.D.D. LLC and will be taxed at the prevailing corporate rates. The provision for income taxes is calculated using the asset and liability method of accounting. Under this method, deferred tax assets and liabilities are recognized based on the future tax consequences attributable to differences between the financial statement carrying amount of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using the tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. In assessing net deferred tax assets, management considers whether it is more likely than not that some or all of the deferred tax assets will not be realized. The net deferred tax asset is evaluated at the end of each year considering all available positive and negative evidence, including reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies, and results of recent operations. When we do not believe the realization of a deferred tax asset is likely, we record a valuation allowance. During the fiscal year, we recorded a valuation allowance on its deferred tax assets for $3.0 million as it was determined that it was more likely than not that the tax benefits would not be realized. We did not have any deferred tax assets in the comparable prior-year period and as such no valuation allowance was recorded. We are subject to income taxes in the U.S. and state jurisdictions. Significant judgment is required in evaluating our uncertain tax positions and determining its provision for income taxes. Accounting for income tax uncertainties requires a two-step approach to recognize and measure uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than fifty percent likely of being realized upon settlement. We adjust the reserves in light of changing facts and circumstances, such as the closing of a tax audit or the refinement of an estimate. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made. The provision for income taxes includes the impact of reserve provisions as well as related interest and penalties. As of June 30, 2014, there are no material uncertain tax positions and we expect no major changes in the next 12 months. We file income tax returns in the U.S. federal and the state jurisdiction of California. For Truett-Hurst, Inc., US federal and state tax returns associated with fiscal year ended 2013 are currently open to examination. US federal and state tax returns for H.D.D. LLC associated with calendars years ended 2010 - 2013 are currently open to examination. 38 -------------------------------------------------------------------------------- TABLE OF CONTENTS Stock-Based Compensation Stock-based compensation is recognized in accordance with Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") Topic 718 - Compensation - Stock Compensation ("ASC Topic 718"). ASC Topic 718 requires the measurement of compensation for stock-based awards based on the estimated fair values at the grant date for equity classified awards and the recognition of the related compensation expense over the appropriate vesting period. Under ASC Topic 718, compensation expense is based, among other things, on (i) the classification of an award, (ii) assumptions relating to fair value measurement such as the value of the stock of Truett-Hurst and its volatility, the expected term of the award and forfeiture rates, and (iii) whether performance criteria, if any, have been met. We use both internal and external data to assess compensation expense. Changes in these estimates could significantly impact stock based compensation expense in the future. The expected term of the option is based upon the contractual term, expected employee exercise and expected post-vesting employment termination behavior. We account for equity instruments issued to non-employees in accordance with FASB ASC Topic 505-50, Equity Based Payments to Non-Employees. Equity instruments issued to non-employees are recorded at their fair value on the measurement date and are subject to periodic market adjustments as the underlying equity instruments vest. Recently Issued Accounting Pronouncements In July 2013, the Financial Accounting Standard Board ("FASB") issued ASU 2013-11, "Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carry Forward, a Similar Tax Loss, or a Tax Credit Carry Forward Exists." The updated guidance requires an entity to net its unrecognized tax benefits against the deferred tax assets for all same jurisdiction net operating loss carry forwards, a similar tax loss, or tax credit carry forwards. A gross presentation will be required only if such carry forwards are not available or would not be used by the entity to settle any additional income taxes resulting from disallowance of the uncertain tax provision. The guidance is effective for interim and annual periods beginning after December 15, 2013 on either a prospective or retrospective basis with early adoption permitted. We do not believe the adoption of this update will have a material impact on our financial position, results of operations or cash flow, and the disclosure requirements for our consolidated financial statements. We are an "emerging growth company," as defined in the Jumpstart Our Business Startups Act, enacted on April 5, 2012 ("JOBS Act"). The JOBS Act also provides that an "emerging growth company" can utilize the extended transition period provided in Section 7(a)(2)(B) of the Securities Act of 1933, as amended (the "Securities Act") for complying with new or revised accounting standards. However, we choose to "opt out" of such extended transition period, and, as a result, we will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for companies that are not "emerging growth companies." We have reviewed all recently issued, but not yet effective, accounting pronouncements and we do not believe the future adoption of any such pronouncements may be expected to cause a material impact on our financial condition or the results of our operations. |