Karat Packaging Inc.

Good day, and welcome to the Carrot Packaging Second Quarter 2026 Financial Results Conference Call. All participants will be in a listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on a touch-tone phone. to withdraw your question, please press star then two. Please note this event is being recorded. I would now like to turn the conference over to Roger Pondell. Please go ahead.

Good afternoon, everyone, and welcome to Cured Packaging's 2026 second quarter conference call. I'm Roger Pondell with Pondell Wilkinson, Cured Packaging's investor relations firm. It will be my pleasure momentarily to introduce the company's Chief Executive Officer, Alan Yu, and its Chief Financial Officer, Jian Guo. Before I turn the call over to Alan, I want to remind our listeners that today's call may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to numerous conditions, many of which are beyond the company's control, including those set forth in the Risk Factor section of the company's most recent Form 10-K as filed with the Securities and Exchange Commission, and copies of which are available on the SEC's website at www.sec.gov, along with other company filings made with the SEC from time to time. Actual results could differ materially from these forward-looking statements, and Quire Packaging undertakes no obligation to update any forward-looking statements, except as required by law. Please also note that during this call, we will be discussing adjusted EBITDA, adjusted EBITDA margin, adjusted diluted earnings per share, and free cash flow, which are non-GAAP financial measures as defined by SEC Regulation G. A reconciliation of the most directly comparable GAAP measures to the non-GAAP financial measures is included in today's press release, which is now posted on the company's website. And with that, I will turn the call over to CEO Alan Yu. Alan?

Thank you, Roger. Good afternoon, everyone. We deliver record quarterly net sales of more than $136 million, reflecting the strength of our customers' demand and accelerated momentum in our online business growth. During the quarter, our sales pipeline expanded, adding four new chain accounts, which further broadened our market reach and created additional opportunities for future revenue growth. We continue to experience encouraging momentum across our business, highlighted by the strong performance of our online channel, where net sales increased 23.6% year-over-year. Our eco-friendly product portfolio also continued to gain traction. benefiting from the continued expansion of SKUs and growth in the paperback categories. As a result, eco-friendly products represented 33.8% of total sales during the quarter, compared with 31.8% in the prior year period. Our results also benefited from IEPA tariff refunds, which refers higher tariff costs absorbed in the prior periods. and further contributed to the strong reported profitability. While we were pleased to capture this benefit in the quarter, our focus remains on the fundamental drivers of the business and sustaining strong long-term financial performances. To support our long-term growth strategy, we are currently finalizing a lease for a 47,000 square foot warehouse for a new distribution center in Orlando, Florida. which we expect to be operational by the third quarter of this year. The new facility is expected to enhance CARA's ability to better service customers throughout the Southeast, improve fulfillment capability for our growing e-commerce business, reduce delivery time, and provide additional infrastructure to support future growth. At the same time, we remain focused on driving operational excellence. We are continuing to execute initiatives designed to enhance efficiency across the organizations while carefully managing costs, aiming to support sustainable profitability and position the company for continued success. During this quarter, we achieved gross margin of 56.6%, including the benefit from the IEPA tariff refund of 1,890 basis points. This far higher product costs and ocean freight rates The performance underscores the strength of our sourcing capabilities. Our sourcing diversification initiative continues to deliver tangible benefits, strengthening carrier competitive advantage through reliable product availability and cost competitiveness. In the second quarter, domestic purchase increased to nearly 20% of total sourcing, while importing from Taiwan represented 46%, China represented 11%, and sourcing from Indonesia, Singapore and South America represented an aggregate of 12%. Overall, we are pleased with the progress we are making with the expanding sales pipeline, new customer wins, strong e-commerce growth and a continued focus on the operational discipline. We believe Carrot is well positioned to advance profitability and long-term growth. I will now turn the call over to Jian Guo, our Chief Financial Officer, to discuss the company financial results in greater detail. Jian?

Thank you, Alan. I'll begin with a summary of our second quarter performance, followed by an update on our guidance. Net sales for the 2026 second quarter increased to $136.3 million, up 9.9% from $124.0 million in the prior year quarter. The increase primarily reflected $13.1 million in volume growth and product mix and a $.4 million favorable impact from pricing, partially offset by a decrease of $1.1 million in shipping and logistics revenue. Sales to chain accounts and distributors, our biggest sales channel, were up by 9.0% in the 2026 second quarter. Online sales, as Alan discussed earlier, rose 23.6% over the prior year quarter, and sales to the retail channel declined 23.4% from the 2025 second quarter, primarily from the decrease in shipping and logistics revenue. Cost of goods sold for the 2026 second quarter including the benefit of $25.8 million from AEPA tariff refunds decreased 21.0% to $59.1 million from $74.9 million in the prior year quarter. This benefit was partially offset by higher product costs of $6.9 million and increased import costs of $3.5 million, including an 8.9% increase in average container rates and a 4.3% increase in the number of containers imported versus the prior year quarter. Gross profit for the 2026 second quarter increased to $77.2 million from $49.1 million in the prior year quarter. Gross margin increased to 56.6% in the second quarter of 2026 from 39.6% a year ago, reflecting that 1,890 basis point contribution from AIPA tariff refunds. Product costs represented 49.2% of net sales up from 48.5% in the three-year quarter, while import costs increased to 11.1% of net sales from 9.5% primarily freight and import related expenses. Operating expenses in the 2026 second quarter increased to $39.6 million from $32.6 million last year. The increase was primarily driven by higher shipping and transportation costs of $3.1 million, along with increases in online platforms of $0.6 million and marketing expenses of $0.5 million. We also incurred higher costs of $1.1 million in salaries and benefits, while bed debt expense and warehouse expenses increased by $0.6 million and $0.4 million, respectively. Additionally, the second quarter included a $0.1 million loss on the disposal of machinery compared with a $0.3 million gain recognized in the prior year quarter from routine asset disposals. Operating income in the 2026 second quarter increased 127.2% to $37.6 million from $16.6 million in the prior year quarter. Other income net for the 2026 second quarter was $1.4 million compared to other expenses net of $2.0 million in the prior year quarter. The year-over-year improvement was primarily driven by significantly lower foreign currency transaction losses, which were $0.1 million in the current quarter compared with $2.9 million in the same period last year. In addition, interest income increased by $0.5 million, reflecting $0.9 million of interest income associated with IEPA tariff refund, partially offset by a $0.4 million decline in interest income earned on investments in certificates of deposit. Net income for the 2026 second quarter increased 168.3%, to $29.6 million from $11.1 million for the prior year quarter. Net income margin was 21.8% in the 2026 second quarter, reflecting the benefit from AEPA tariff refunds of 1,480 basis points versus 8.9% last year. Net income attributable to Carrot for the 2026 second quarter was $29.3 million, or $1.46 per diluted share, reflecting the benefit from AEPA tariff refunds of $1 per diluted share, compared with $10.9 million, or $0.54 per diluted share, in the prior year quarter. Adjusted EBITDA for the 2026 second quarter rose to $41.6 million, reflecting the benefit from AEPA tariff refunds of $25.8 million from $17.7 million for the prior year quarter. Adjusted EBITDA margin was 30.5%, reflecting the benefit from AEPA tariff refunds of 1,890 basis points compared with 14.3% for the 2025 second quarter. Adjusted diluted earnings per common share increased to $1.48 for the 2026 second quarter, reflecting the benefit from AEPA tariff refunds of $1 per diluted share from 57 cents per share in a comparable prior year period. As of June 30, 2026, we had working capital of $110.8 million and $42 million in financial liquidity, with another $15.7 million in short-term investments. During the second quarter, we generated operating cash flow of $33.2 million and free cash flow of $31.8 million, both of which reflected the benefit from IEPA tariff refunds received of $25.2 million during the second quarter of 2026. We paid out a regular quarterly dividend of 45 cents per share to shareholders on May 28, 2026. During the second quarter, we repurchased 73,510 shares of our common stock for a total of $2 million under our share repurchase program. As of June 30th, approximately $10 million remained available under the program. On August 4th, 2026, our board of directors approved an increase of regular quarterly dividend to 47 cents per share, payable on August 28th, 2026, to stockholders of record as of August 21, 2026. Now, let me provide an update to our guidance. For the 2026 third quarter, we expect net sales to grow in the low double-digit range from the prior year quarter. We expect growth margin for the 2026 third quarter to be within 35% to 37% and adjusted EBITDA margin to be within 9% to 11%, both including insignificant IEPA tariff refunds anticipated during the quarter. For full year 2026, we expect net sales to grow in the low double-digit range over the prior year. With more clarity around the IEPA tariff refunds process, We now expect growth margin for the full year 2026 to be in the low 40% and adjusted EBITDA margin to be approximately mid-teens, both including AEPA tariff refunds recorded during the first half of 2026. As Alan mentioned earlier, we are experiencing what we believe is accelerated growth in our sales pipeline, reflecting current strong market position and ongoing initiatives to gain market share. Looking ahead, we expect to continue driving top-line growth, sustaining healthy growth moments through our diverse stock strategy and reduced tariffs. We're also confident that the actions we're taking to manage operating costs will further improve operating leverage and Drive Sustainable Profitability. Alan and I now will be happy to answer your questions and I'll turn the call back to the operator.

We will now begin the question and answer session. To ask a question, you may press star then 1 on your touch tone phone. If you are using a speaker phone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. The first question today comes from Michael Francis with William Blair. Please go ahead.

Hi, Alan, Jian. Good quarter. This is Mike on for Ryan here. I want to start on the SG&A. That seemed to be the big surprise for us in the quarter to the downside. You mentioned you have some actions that you're taking to improve that. Can you talk a bit more about A, what surprised you there, and then B, what you're doing to offset some of the higher costs?

Yeah, sure. Let me start and then Alan, please feel free to add some additional colors there. So in terms of the SG&A, I know you mentioned some surprises. I think really the way that we think about it is just consistent with the trend that we are observing with the micro environment, right? Just the biggest item that we are focusing on for the for the third quarter as far as the cost management is really the shipping cost. So shipping cost, a lot of the orders that we ship out to the customers, we utilize the third-party carriers. We partner with our third-party carriers. So that's an area that we're focusing on in the third quarter to try to manage the cost, just to give you a high-level idea. The second quarter, in terms of the offline shipping costs in total, we incurred about $6.1 million on a year-over-year basis. That's a sequential $1.4 million increase right there. So that's one area that in the third quarter, really we're focusing on utilizing our internal fleet to try to minimize, to get more efficiency out of the offline shipping cost to the customers by, as I mentioned, utilizing the internal fleet. We're delivering orders, local orders to our local customers with our own employees, and we're also performing the inter- warehouse inventory transfers with some of our internal fleet as well. So that's the biggest area. Another area is we are continuing to try to get savings on the online order as well, online order delivery cost. The shipping cost is one area that we talked about previously on the call is we have a service agreement with one of the carriers. So that's one area that we're were continuing to focus on in terms of realizing cost savings there. So that's the biggest kind of in terms of the offline and online shipping costs really. I think it's probably fairly consistent with some of the other companies just as we approach, as we're thinking about the overall higher oil, the gas price there. One other area that we're focusing on in the third quarter is our salary and benefit expenses. That's really to utilize our labor force more efficiently. So those are the two biggest areas I would call out.

I want to add a little bit of color to that, what Jian just mentioned. Giving an example, second quarter was the highest fuel cost that we've ever seen in the past year due to the crisis in the of Middle East. And in the third quarter, we are actually seeing the cost coming down in the third quarter already. Like, for instance, we were paying $5.40 per gallon of diesel gas. In the third quarter, we're looking at around four-something, 25% discount on the diesel gas alone. On the carrier fuel surcharge, also we're seeing a declining rate from the second quarter to the third quarter. So this is where we're seeing more of a decline in not only the ocean freight declines and also as well as the shipping, all because of oil prices. Everyone knows that the second quarter oil price was the highest ever. But it started to drop in July. So we'll see if it continues to drop. Or even at this point, it is still lower than the second quarter.

Yeah, and that's not surprising. I figured that was the case. And then to the pause of your online sales are continuing to trend quite well. What drove the strength there? And then across the categories, should we expect the similar growth trajectory in the second half that we saw in the first?

Well, let me add to this online growth. Doing our last quarter earning call, I mentioned that We are our target for this year's online revenue. It's $100 million. As we see July's number, we were looking at the second quarter, we're looking at 24%, 25% I think the online growth year-over-year. Just in July, we're seeing Amazon growth around 49% year-over-year growth just in Amazon. Our overall online sales growth in July, in the month of July, We just finished the number. We're at 37% plus just the online sales growth. So right now I can confidently say that $100 million is on track for this year's revenue goal just for online. Definitely it may be higher, but I'm not sure how much higher. So we're still pushing even more online sales right now. That's where we are.

Okay, that's good to hear. One last one for me. Florida, D.C., coming online, you continue to sort of add capacity there. Do you still think you have any sort of gaps in your current coverage where you could add more D.C.s and sellers, and if so, where?

Well, Orlando, Florida, basically we're finalizing the agreement, and that's going to help because that is our fourth largest online customer base. and we have been shipping from South Carolina and Houston into Orlando. Once we have the Orlando DC ready, our customer can receive their product next day, if not the following day, instead of waiting three to five days. So that would definitely improve our sales number online in just the Southeast area, which is our fourth largest. Now the other area that we're seeing that we might need some support, definitely it would be in the Colorado area, which can support the Utah area. but we're still looking at that because Colorado is, the shipping, anything shipping to Colorado is actually more into Texas. That's what we see. So currently we're shipping to Colorado from Texas into Colorado, which is two to three days for online. And of course, we're definitely looking, we have been looking to the North America area, the Vancouver, Toronto. These are the area we have been trying to figure out how we can get the logistic part of the issues resolved because we do see a very wide open market in that part of the segment, which is North America.

Okay. That's all understood. I'll pass it on. Thank you.

The next question comes from Ryan Myers with Lake Street. Please go ahead.

Hey, guys. Thanks for taking my questions. If we exclude the tariff refund during the quarter, I'm just Curious, how would you characterize just the underlying gross margin and performance of the business? Was it relatively as you expected?

Let me start, and then, Alan, please feel free to add colors on there as well. Hi, Ryan, that's a great question. So as we reported, our gross margin is 56.6% for the quarter. If you do the math, if you include the contribution, our gross margin without the refund, the tariff refund, would have been 37.7%, which I think is still really strong. We're talking about close to 40% gross margin, and I think we talked about the underlying drivers, our sourcing diversification, our sourcing capabilities, and I think we do expect to continue to navigate this environment really well with the pricing dynamics, with the sourcing, the changing kind of the trade landscape. We did provide the guidance for the third quarter gross margin to continue to be in the high 30s, so 35% to 37%. Does that answer your question?

Yeah, Ryan, I want to add something to this. During the second quarter, we did see, like Jian mentioned, a 37.7%. And in the third quarter, we're seeing a stronger U.S. dollar versus other currency in Asia, especially against Taiwan dollars. Last year, if you saw, the second quarter, we had a $2.9 million currency loss due to the currency devaluation of U.S. dollars against Taiwan dollars. and now we're seeing a strong tail wing which is the currency gain. We're seeing one of the highest gain in the third quarter that we're looking at as we stay at the same current level right now. So there's going to be some pretty positive things in the third quarter like the ocean freight. There might be some reduction in ocean freight because we're about to ending the peak season It might not be a lot, but it's definitely going to help. I think everything helps in terms of helping the gross margin. And also we're looking at not only on that part, we're looking at into the savings in terms of operating expense as well.

Got it. That's great to hear. That's awesome. And then lastly, you mentioned in the press release that you guys added four new chain accounts during the quarter. How should we think about the timing and potential contribution from those wins?

We're thinking about the fourth quarter. Okay.

Got it.

So we start to ship the product. Yes, it takes us two to three months to wrap up the inventory and then start the – so we promise the customers fourth quarter we'll start shipping the product.

Okay. Got it. No, that's helpful. Thanks for taking my questions.

Thank you, Ryan.

This concludes our question and answer session. I would like to turn the conference back over to Alan Yu for any closing remarks.

Thank you, Operator, and thank you to everyone for joining us today. CARE is built on a strong business foundation, and we are encouraged by the positive momentum across our business. We remain focused on executing our growth strategy and look forward to keeping you updated on our continued progress. Have a nice day, everyone. Thank you. Bye-bye.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.