TOFUTTI BRANDS INC - Quarter Report: 2012 June (Form 10-Q)

the condition of the general economy and the industry as a whole. We write off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the bad debt expense account. We do not accrue interest on accounts receivable past due.

Inventory. Inventory is stated at lower of cost or market determined by first in first out (FIFO) method. Inventories in excess of future demand are written down and charged to the provision for inventories. At the point of which loss is recognized, a new, lower cost basis for that inventory is established and subsequent changes in facts and circumstances do not result in the restoration or increase in the newly established cost basis.

Income Taxes. The carrying value of deferred tax assets assumes that we will be able to generate sufficient future taxable income to realize the deferred tax assets based on estimates and assumptions. If these estimates and assumptions change in the future, we may be required to record a valuation allowance against deferred tax assets which could result in additional income tax expense. We will recognize a tax benefit in the financial statements for an uncertain tax position only if management’s assessment is that the position is “more likely than not” (i.e., a likelihood greater than 50 percent) to be allowed by the tax jurisdiction based solely on the technical merits of the position. The term “tax position” refers to a position in a previously filed tax return or a position expected to be taken in a future tax return that is reflected in measuring current or deferred income tax assets and liabilities for financial reporting purposes. Our federal and state tax returns are open to examination for the years 2008 through 2011.

Results of Operations

Thirteen Weeks Ended June 30, 2012 Compared with Thirteen Weeks Ended July 2, 2011

Net sales for the thirteen weeks ended June 30, 2012 were $3,699,000, a decrease of $751,000, or 17%, from the sales level realized for the thirteen weeks ended July 2, 2011. Sales continue to be impacted by the decision of Trader Joe’s, formerly our largest customer, to discontinue stocking branded goods in mid-2011. During the second quarter of 2012, there were no sales to Trader Joe’s as compared to $656,000 in sales in the second quarter of 2011. In addition, sales were negatively impacted due to our discontinuing marginally profitable products. We believe that our sales will improve during the remainder of fiscal 2012 due to the introduction of new products and price increases instituted in the first and second quarters of the year, which began to go into effect in the second quarter and which will continue to go into effect in the third quarter of this year. These price increases will range from 5% to 10%, depending on the product category.

Our gross profit in the thirteen week period ended June 30, 2012 decreased by $98,000 to $1,133,000. Our gross profit percentage for the thirteen week period ending June 30, 2012 was 31% compared to 28% for the period ending July 2, 2011. The decrease in gross profit was due to the decrease in sales, while the increase in gross profit percentage was due to the positive effect of price increases put into effect in the second quarter coupled with our ongoing program to eliminate marginally profitable products. Freight out expense, a significant part of our cost of sales, increased to $274,000 for the thirteen weeks ended June 30, 2012 compared with $267,000 for the thirteen weeks ended July 2, 2011. This increase was the result of increases in fuel costs, which in turn increased our freight rates, resulting in our freight out expense as a percentage of sales increasing to 7% of sales during the thirteen weeks ended June 30, 2012 compared to 6% of sales during the thirteen weeks ended July 2, 2011.

Selling and warehouse expenses increased to $422,000 for the thirteen weeks ended June 30, 2012 compared with $364,000 for the thirteen weeks ended July 2, 2011. This increase was due primarily to a $57,000 increase in outside warehouse expense, a $22,000 increase in meeting and convention expense, a $14,000 increase in commissions expense and a $8,000 increase in messenger expense, which were offset by a decrease in payroll expense of $43,000. The increase in outside warehouse expense is the result of

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the increase in inventory due to the buildup of inventory for the summer selling season and the buildup of inventory of new products that are being introduced during the third quarter.

Marketing expenses increased by $137,000 to $193,000 for the thirteen weeks ended June 30, 2012 compared with $56,000 for the thirteen weeks ended July 2, 2011 due principally to a $27,000 increase in advertising expense, a $49,000 increase in promotion expense, a $49,000 increase in public relations expense, and an $11,000 increase in artwork and design expense.

Research and development costs, which consist principally of salary expenses and laboratory costs, increased to $185,000 for the thirteen weeks ended June 30, 2012 compared to $134,000 for the thirteen weeks ended July 2, 2011. This increase was primarily due to an increase in lab costs and supplies of $21,000, an increase in equipment repairs of $11,000, and an increase in payroll expense of $22,000. The increase in lab costs and supplies is due to the introduction of new products, while the increase in payroll expense is due to the addition of new personnel.

General and administrative expenses decreased to $498,000 for the thirteen weeks ended June 30, 2012 compared with $538,000 for the thirteen weeks ended July 2, 2011, due primarily to decreases in payroll expense of $71,000 and professional fees and outside services expense of $18,000, which were partially offset by increases in data processing and related supplies expense of $22,000 and insurance expense of $11,000.

There was no provision for bonuses in the thirteen weeks ended June 30, 2012 as compared to a provision of $125,000 in the thirteen weeks ended July 2, 2011, resulting in the significant decrease in overall payroll expense during the thirteen weeks ended June 30, 2012.

We recorded an income tax benefit of $67,000 in the thirteen weeks ended June 30, 2012 compared to income tax expense of $56,000 in the thirteen weeks ended July 2, 2011 due to an operating loss in the 2012 period compared to an operating profit in the 2011 period. The imputed effective tax rate of 41% in the 2012 period increased slightly compared to 40% in the 2011 period.

Twenty-Six Weeks Ended June 30, 2012 Compared with Twenty-Six Weeks Ended July 2, 2011

Net sales for the twenty-six weeks ended June 30, 2012 were $6,989,000, a decrease of $1,466,000, or 17%, from the sales level realized for the twenty-six weeks ended July 2, 2011. Sales continue to be impacted by the decision of Trader Joe’s, formerly our largest customer, to discontinue stocking branded goods in mid-2011. During the first twenty-six weeks of 2012, there were no sales to Trader Joe’s as compared to $1,420,000 in sales in the first twenty-six weeks of 2011. In addition, sales were negatively impacted due to our discontinuing marginally profitable products. We believe that our sales will improve during the remainder of fiscal 2012 due to the introduction of new products and price increases instituted in the first and second quarters of the year, which began to go into effect in the second quarter and which will continue to go into effect in the third quarter of this year. These price increases will range from 5% to 10%, depending on the product category.

Our gross profit in the period ended June 30, 2012 decreased by $368,000, or 16%, to $1,946,000 due to the lower level of sales in the 2012 period. Our gross profit percentage for the twenty-six week period ending June 30, 2012 was 28% compared to 27% for the period ending July 2, 2011. Freight out expense, part of our cost of sales, increased slightly by $19,000, or 4%, to $515,000 for the twenty-six weeks ended June 30, 2012 compared with $496,000 for the twenty-six weeks ended July 2, 2011. The impact of the higher cost of freight was offset by the reduction in freight volume in 2012. We expect freight out expense to continue at a higher level in 2012 due to the increased cost of oil, which will also negatively impact our packaging costs.

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Selling and warehouse expenses increased by 9% to $807,000 for the twenty-six week period ended June 30, 2012 compared with $738,000 for the comparable period in 2011. This increase is due primarily to increases in commission expense of $28,000, meetings and conventions expense of $26,000, outside warehouse rental expense of $64,000, and messenger expense of $15,000. These increases were partially offset by a decrease in payroll expense of $73,000. The increase in outside warehouse expense is the result of the increase in inventory due to the buildup of inventory for the summer selling season and the buildup of inventory of new products that are being introduced during the third quarter.

Marketing expenses increased by $133,000 to $326,000 in the twenty-six week period ended June 30, 2012 from $193,000 in the twenty-six weeks ended July 2, 2011, due principally to a $10,000 increase in advertising expenses, a $16,000 increase in artwork and plate expense, a $35,000 increase in promotion expense and a $72,000 increase in public relations expense. The increases in marketing expenses were a result of our introduction of new products.

Research and development costs, which consist principally of salary expenses and laboratory costs, increased to $353,000 for the twenty-six weeks ended June 30, 2012 compared to $284,000 for the twenty-six weeks ended July 2, 2011, due principally to an increase in payroll expense of $26,000, lab costs and supplies of $25,000 and equipment repairs of $14,000. The increase in lab costs and supplies is due to the introduction of new products, while the increase in payroll expense is due to the addition of new personnel.

General and administrative expenses decreased to $966,000 for the twenty-six week period ended June 30, 2012 compared with $1,071,000 for the twenty-six week period ended July 2, 2011 due primarily to decreases in outside fees and professional fee expense of $18,000 and payroll expense of $179,000, which were partially offset by increases in IT expense of $50,000, insurance expense of $11,000, building maintenance and repairs expense of $5,000, supplies expense of $5,000, and auto expense of $10,000.

There was no provision for bonuses in the twenty-six weeks ended June 30, 2012 as compared to a provision of $250,000 in the twenty-six weeks ended July 2, 2011, resulting in the significant decrease in overall payroll expense during the twenty-six weeks ended June 30, 2012.

We recorded an income tax benefit of $197,000 in the twenty-six week period ended June 30, 2012 compared to income tax expense of $11,000 in the twenty-six week period ended July 2, 2011 due to the operating loss in the 2012 period. The imputed effective tax rate was 39% in both the 2012 and 2011 periods.

Liquidity and Capital Resources

As of June 30, 2012, we had approximately $0.3 million in cash and cash equivalents and our working capital was approximately $4.1 million, compared with approximately $1.6 million in cash and cash equivalents and working capital of $4.4 million at December 31, 2011.

The following table summarizes our cash flows for the periods presented:

		Twenty-Six Weeks ended June 30, 2012			Twenty-Six Weeks ended July 2, 2011
Net cash (used in) operating activities		$	(1,292,000	)	$	(608,000	)
Net cash (used in) financing activities			(17,000	)		—
Net (decrease) in cash and cash equivalents		$	(1,309,000	)	$	(608,000	)

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The net cash used in operating activities was the result of a $309,000 net loss in the period, an $817,000 increase in inventory, an increase in refundable and deferred taxes of $105,000, an increase in prepaid expenses of $64,000 and an increase in accounts receivable of $36,000, offset in part by an increase in accounts payable and accrued expenses of $36,000. Net cash used in financing activities was used in connection with the repurchase of shares of our common stock under our share repurchase program. As a result of the foregoing our cash and cash equivalents for the twenty-six weeks ended June 30, 2012 decreased by $1.3 million. We believe that we will be able to fund our operations during the next twelve months from our working capital and from cash generated from operations.

Our Board of Directors first instituted a share repurchase program in September 2000 which, after several amendments, has to date authorized the repurchase of 2,200,000 shares of our common stock at prevailing market prices. While we may purchase an additional 360,000 shares of common stock based on such authorization, we did not purchase any shares of our common stock from the first quarter of fiscal 2009 until December 2011. During December 2011, we repurchased 14,492 shares at a cost of $24,115. We repurchased an additional 8,480 shares in January and February 2012 at a cost of $14,000. Cumulatively, from the beginning of our share repurchase program, we have purchased 1,829,000 shares at a cost of $5,318,000.

Inflation and Seasonality

We do not believe that our operating results have been materially affected by inflation during the preceding two years. There can be no assurance, however, that our operating results will not be affected by inflation in the future. Our business is subject to minimal seasonal variations with slightly increased sales historically in the second and third quarters of the fiscal year. We expect to continue to experience slightly higher sales in the second and third quarters, and slightly lower sales in the fourth and first quarters, as a result of reduced sales of nondairy frozen desserts during those periods.

Off-balance Sheet Arrangements

None.

Contractual Obligations

As of June 30, 2012, we did not have any contractual obligations or commercial commitments, including obligations relating to discontinued operations.

Recent Accounting Pronouncements

See Note 3 to the unaudited condensed consolidated financial statements included in Part I, Item 1, Financial Statements, of this Quarterly Report on Form 10-Q.

Item 3.	Quantitative and Qualitative Disclosures About Market Risk

We do not believe that our exposure to market risk related to the effect of changes in interest rates, foreign currency exchange rates, commodity prices and other market risks with regard to instruments entered into for trading or for other purposes is material.

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Item 4.	Controls and Procedures

Evaluation of Disclosure Controls and Procedures. As of June 30, 2012, our company’s chief executive officer and chief financial officer conducted an evaluation regarding the effectiveness of our company’s disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Exchange Act. Based upon the evaluation of these controls and procedures, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were not effective as June 30, 2012.

Disclosure Controls and Internal Controls. As provided in Rule 13a-14 of the General Rules and Regulations under the Securities and Exchange Act of 1934, as amended, Disclosure Controls are defined as meaning controls and procedures that are designed with the objective of insuring that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, designed and reported within the time periods specified by the SEC’s rules and forms. Disclosure Controls include, within the definition under the Exchange Act, and without limitation, controls and procedures to insure that information required to be disclosed by us in our reports is accumulated and communicated to our management, including our chief executive officer and principal financial officer, as appropriate to allow timely decisions regarding disclosure. Internal Controls are procedures which are designed with the objective of providing reasonable assurance that (1) our transactions are properly authorized; (2) our assets are safeguarded against unauthorized or improper use; and (3) our transactions are properly recorded and reported, all to permit the preparation of our financial statements in conformity with generally accepted accounting principles.

Management’s Report on Internal Control Over Financial Reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is a process designed by, or under the supervision of the Chief Executive Officer and Chief Financial Officer and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Management’s evaluation of internal control over financial reporting includes using the COSO framework, an integrated framework for the evaluation of internal controls issued by the Committee of Sponsoring Organizations of the Treadway Commission, to identify the risks and control objectives related to the evaluation of our control environment.

Based on their evaluation under the frameworks described above, our chief executive officer and chief financial officer have concluded that our internal control over financial reporting was ineffective as of June 30, 2012 because of the following material weaknesses in internal controls over financial reporting:

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	•	A lack of sufficient resources and an insufficient level of monitoring and oversight, which may restrict our ability to gather, analyze and report information relative to the financial statements and income tax assertions in a timely manner.
	•	The limited size of the accounting department makes it impracticable to achieve an optimum separation of duties.

We are seeking ways to remediate these weaknesses, which stem from our small workforce, which consisted of twelve employees at June 30, 2012, that will not require us to hire additional personnel.

Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting during the period covered by this report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II - OTHER INFORMATION

Item 1.	Legal Proceedings
We are not a party to any material litigation.
Item 1A.	Risk Factors
There have been no material changes to the Company’s “Risk Factors” set forth in its Annual Report on Form 10-K for the year ended December 31, 2011.
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3.	Default Upon Senior Securities
None.
Item 4.	Removed and Reserved
Item 5.	Other Information
None.
Item 6.	Exhibits
31.1	Certification by Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as amended.
31.2	Certification by Chief Financial Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as amended.
32.1	Certification by Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification by Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS	Instance Document*
101.SCH	Schema Document*
101.CAL	Calculation Linkbase Document*
101.DEF	Definition Linkbase Document*
101.LAB	Labels Linkbase Document*
101.PRE	Presentation Linkbase Document*

*	Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, are deemed not filed for the purposes of Section 18 of the Securities and Exchange Act of 1934, as amended, and otherwise are not subject to liability under those sections.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.

	TOFUTTI BRANDS INC.
	(Registrant)
	/s/ David Mintz
	David Mintz
	President
	/s/ Steven Kass
	Steven Kass
	Chief Accounting and Financial Officer
Date: August 14, 2012

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