Rocky Mountain Chocolate Factory, Inc. - FORM 10-Q

Attached files

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EX-32.2 - EXHIBIT 32.2 - Rocky Mountain Chocolate Factory, Inc.	ex32-2.htm
EX-32.1 - EXHIBIT 32.1 - Rocky Mountain Chocolate Factory, Inc.	ex32-1.htm
EX-31.2 - EXHIBIT 31.2 - Rocky Mountain Chocolate Factory, Inc.	ex31-2.htm
EX-31.1 - EXHIBIT 31.1 - Rocky Mountain Chocolate Factory, Inc.	ex31-1.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

X	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended May 31, 2016

__	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ________to________

Commission file number: 001-36865

Rocky Mountain Chocolate Factory, Inc.

(Exact name of registrant as specified in its charter)

Delaware

47-1535633

(State or other jurisdiction of

Incorporation or organization)

(I.R.S. Employer Identification No.)

265 Turner Drive, Durango, CO 81303

(Address of principal executive offices, including zip code)

(970) 259-0554

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes X No ___

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer ____	Accelerated filer ____

Non-accelerated filer ____	Smaller reporting company X

(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ____ No X

On June 30, 2016, the registrant had outstanding 5,807,288 shares of its common stock, $.001 par value.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

FORM 10-Q

TABLE OF CONTENTS

PART I.	FINANCIAL INFORMATION		3

ITEM 1.		FINANCIAL STATEMENTS	3

CONSOLIDATED STATEMENTS OF INCOME			3

CONSOLIDATED BALANCE SHEETS			4

CONSOLIDATED STATEMENTS OF CASH FLOWS			5

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS			6

ITEM 2.		MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	14

ITEM 3.		QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	19

ITEM 4.		CONTROLS AND PROCEDURES	20

PART II.	OTHER INFORMATION		20

ITEM 1.		LEGAL PROCEEDINGS	20

ITEM 1A.		RISK FACTORS	21

ITEM 2.		UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS	21

ITEM 3.		DEFAULTS UPON SENIOR SECURITIES	21

ITEM 4.		MINE SAFETY DISCLOSURES	21

ITEM 5.		OTHER INFORMATION	21

ITEM 6.		EXHIBITS	22

SIGNATURE			23

PART I.

FINANCIAL INFORMATION

Item 1.

Financial Statements

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

	Three Months Ended May 31,
	2016			2015
Revenues
Sales	$	7,024,334		$	7,736,163
Franchise and royalty fees		2,351,865			2,627,859
Total revenues		9,376,199			10,364,022

Costs and Expenses
Cost of sales, exclusive of depreciation and amortization expense of $102,473 and $101,890, respectively		4,699,456			5,163,890
Franchise costs		547,713			603,974
Sales and marketing		654,129			635,591
General and administrative		1,240,058			1,328,880
Retail operating		666,949			855,926
Depreciation and amortization		325,224			364,850
Restructuring and acquisition related charges		60,000			-

Total costs and expenses		8,193,529			8,953,111

Income from Operations		1,182,670			1,410,911

Other Income (Expense)
Interest expense		(47,779	)		(58,890	)
Interest income		11,697			13,638
Other Income (Expense), net		(36,082	)		(45,252	)

Income Before Income Taxes		1,146,588			1,365,659

Income Tax Provision		414,754			432,300

Consolidated Net Income	$	731,834		$	933,359
Less: Net income attributable to non-controlling interest		-			170,400
Net Income attributable to RMCF	$	731,834		$	762,959

Basic Earnings per Common Share	$	.13		$	.13
Diluted Earnings per Common Share	$	.12		$	.12

Weighted Average Common Shares Outstanding - Basic		5,835,515			5,979,559
Dilutive Effect of Stock Options and Restricted Stock Units		181,742			235,431
Weighted Average Common Shares Outstanding - Diluted		6,017,257			6,214,990

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

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

	May 31,			February 29,
	2016			2016
	(unaudited)
Assets
Current Assets
Cash and cash equivalents	$	6,102,152		$	6,194,948
Accounts receivable, less allowance for doubtful accounts of $597,614 and $595,471, respectively		3,066,125			3,799,691
Notes receivable, current portion		322,541			317,248
Inventories, less reserve for obsolete inventory of $293,656 and $261,346, respectively		4,940,126			4,840,108
Other		356,289			286,859
Total current assets		14,787,233			15,438,854

Property and Equipment, Net		6,389,603			6,010,303

Other Assets
Notes receivable, less current portion and valuation allowance of $74,979 and $75,000, respectively		512,501			530,446
Goodwill, net		1,046,944			1,046,944
Franchise rights, net		5,075,610			5,153,363
Intangible assets, net		665,069			419,042
Deferred income taxes		1,440,736			1,421,655
Other		260,900			295,118
Total other assets		9,001,760			8,866,568
Total Assets	$	30,178,596		$	30,315,725

Liabilities and Stockholders’ Equity
Current Liabilities
Current maturities of long term debt	$	1,265,648		$	1,254,007
Accounts payable		1,723,471			1,663,245
Accrued salaries and wages		761,062			683,863
Other accrued expenses		3,261,051			3,200,898
Dividend payable		699,009			700,728
Deferred income		424,290			502,950

Total current liabilities		8,134,531			8,005,691

Long-Term Debt, Less Current Maturities		3,509,831			3,831,126

Commitments and Contingencies

Stockholders’ Equity
Preferred stock, $.001 par value; 250,000 authorized; 0 shares issued and outstanding
Series A Junior Participating Preferred Stock, authorized 50,000 shares		-			-
Undesignated series, authorized 200,000 shares		-			-
Common stock, $.001 par value, 46,000,000 shares authorized, 5,841,396 and 5,839,396 issued, and 5,826,974 and 5,839,396 outstanding, respectively		5,841			5,839
Additional paid-in capital		5,507,962			5,340,190
Retained earnings		13,165,704			13,132,879
Treasury stock, 14,422 shares and 0 shares, at cost		(145,273	)		-
Total stockholders’ equity		18,534,234			18,478,908
Total Liabilities and Stockholders’ Equity	$	30,178,596		$	30,315,725

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

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

	Three Months Ended May 31,
	2016			2015
Cash Flows From Operating Activities
Net income	$	731,834		$	933,359
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		325,224			364,850
Provision for loss on accounts and notes receivable		29,400			36,000
Provision for obsolete inventory		21,826			10,856
Loss (gain) on sale of property and equipment		(3,012	)		64,521
Expense recorded for stock based compensation		167,774			321,033
Deferred income taxes		(19,081	)		(95,184	)
Changes in operating assets and liabilities:
Accounts receivable		714,221			766,824
Inventories		(179,845	)		1,111,144
Other current assets		(69,846	)		(91,868	)
Accounts payable		118,227			(369,023	)
Accrued liabilities		137,352			442,415
Deferred income		(78,660	)		(129,681	)
Net cash provided by operating activities		1,895,414			3,365,246

Cash Flows From Investing Activities
Addition to notes receivable		(36,000	)		-
Proceeds received on notes receivable		80,652			89,204
Proceeds from sale or distribution of assets		2,000			-
Purchase of intangible assets		(272,956	)		(8,204	)
Purchases of property and equipment		(634,426	)		(192,182	)
Other		28,175			1,838
Net cash used in investing activities		(832,555	)		(109,344	)

Cash Flows From Financing Activities
Payments on long-term debt		(309,654	)		(298,939	)
Repurchase of common stock		(145,273	)		(1,034,359	)
Tax benefit of stock awards		-			9,859
Dividends paid		(700,728	)		(721,536	)
Net cash used in financing activities		(1,155,655	)		(2,044,975	)

Net Increase (Decrease) in Cash and Cash Equivalents		(92,796	)		1,210,927

Cash and Cash Equivalents, Beginning of Period		6,194,948			7,157,371

Cash and Cash Equivalents, End of Period	$	6,102,152		$	8,368,298

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

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 – NATURE OF OPERATIONS AND BASIS OF PRESENTATION

Nature of Operations

The accompanying consolidated financial statements include the accounts of Rocky Mountain Chocolate Factory, Inc., a Delaware corporation, its wholly-owned subsidiaries, Rocky Mountain Chocolate Factory, Inc. (a Colorado corporation), Aspen Leaf Yogurt, LLC (“ALY”) (a Colorado limited liability company), and U-Swirl International, Inc. (“U-Swirl”) (a Nevada corporation), and its 39%-owned subsidiary, U-Swirl, Inc. (“SWRL”) of which Rocky Mountain Chocolate Factory, Inc. had financial control until February 29, 2016 (collectively, the “Company”). All intercompany balances and transactions have been eliminated in consolidation.

The Company is an international franchisor, confectionery manufacturer and retail operator. Founded in 1981, the Company is headquartered in Durango, Colorado and manufactures an extensive line of premium chocolate candies and other confectionery products. U-Swirl franchises and operates soft-serve frozen yogurt cafés. The Company also sells its candy in selected locations outside of its system of retail stores and licenses the use of its brand with certain consumer products.

Effective March 1, 2015, the Company was reorganized to create a holding company structure. The operating subsidiary with the same name, Rocky Mountain Chocolate Factory, Inc., a Colorado corporation (“RMCF”), which was previously the public company, became a wholly-owned subsidiary of a newly formed entity, Rocky Mountain Chocolate Factory, Inc., a Delaware corporation (“Newco”), and all of the outstanding shares of common stock of RMCF, par value $0.03 per share, were exchanged on a one-for-one basis for shares of common stock, par value $0.001, of Newco. The new holding company began trading on March 2, 2015 on the NASDAQ Global Market under the symbol “RMCF”, which was the same symbol used by RMCF prior to the holding company reorganization.

In January 2013, through our wholly-owned subsidiaries, including Aspen Leaf Yogurt, LLC (“ALY”), the Company entered into two agreements to sell all of the assets of its ALY frozen yogurt stores, along with its interest in the self-serve frozen yogurt franchises and retail units branded as “Yogurtini” which the Company also acquired in January 2013, to SWRL, in exchange for a 60% controlling equity interest in SWRL, which was subsequently diluted down to 39% as of May 31, 2016 following various issuances of common stock of SWRL. At that time, U-Swirl International, Inc. was a wholly-owned subsidiary of SWRL, and was the operating subsidiary for all of SWRL’s operations. Upon completion of these transactions, we ceased to directly operate any Company-owned Aspen Leaf Yogurt locations or sell and support frozen yogurt franchise locations, which was being supported by SWRL. As of May 31, 2016, the Company held a 39% interest in SWRL. The SWRL Board of Directors is composed solely of Board members also serving the Rocky Mountain Chocolate Factory, Inc. Board of Directors.

In fiscal year (“FY”) 2014, SWRL acquired the franchise rights and certain other assets of self-serve frozen yogurt concepts under the names “CherryBerry,” “Yogli Mogli Frozen Yogurt” and “Fuzzy Peach Frozen Yogurt.” In connection with these acquisitions, the Company entered into a credit facility with Wells Fargo, N.A. used to finance the acquisitions of SWRL, and in turn, the Company entered into a loan and security agreement with SWRL to cover the purchase price and other costs associated with the acquisitions (the “SWRL Loan Agreement”). Borrowings under the SWRL Loan Agreement were secured by all of the assets of SWRL, including all of the outstanding stock of its wholly-owned subsidiary, U-Swirl International, Inc. Under the SWRL Loan Agreement, SWRL was subject to various financial covenants. SWRL was not compliant with the financial covenants during the year ended February 29, 2016 and the loan matured on January 16, 2016 without payment in full by SWRL. Upon the occurrence and during the continuance of an event of default, the Company was entitled to charge interest on all amounts due under the SWRL Loan Agreement at the default rate of 15% per annum, accelerate payment of all amounts due under the SWRL Loan Agreement, and foreclose on all or any portion of the security interest. As a result of the defaults, the Company issued a demand for payment of all obligations under the SWRL Loan Agreement. SWRL was unable to repay the obligations under the SWRL Loan Agreement, and as a result, the Company foreclosed on all of the outstanding stock of U-Swirl International, Inc. as of February 29, 2016 in full satisfaction of the amounts owed under the SWRL Loan Agreement. This resulted in U-Swirl International, Inc. becoming a wholly-owned subsidiary of the Company as of February 29, 2016 and concurrently the Company ceased to have financial control of SWRL as of February 29, 2016. As of February 29, 2016, SWRL had no operating assets. During FY 2016, SWRL acquired the franchise rights of “Let’s Yo!”.

U-Swirl operates self-serve frozen yogurt cafés under the names “U-Swirl,” “Yogurtini,” “CherryBerry,” “Josie’s Frozen Yogurt,” “Yogli Mogli Frozen Yogurt,” “Fuzzy Peach Frozen Yogurt,” “Let’s Yo!” and “Aspen Leaf Yogurt”.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

The Company’s revenues are currently derived from three principal sources: sales to franchisees and others of chocolates and other confectionery products manufactured by the Company; the collection of initial franchise fees and royalties from franchisees’ sales of both confectionary products and frozen yogurt; and sales at Company-owned stores of chocolates, frozen yogurt, and other confectionery products. The following table summarizes the number of stores operating under the Rocky Mountain Chocolate Factory brand and frozen yogurt cafés at May 31, 2016:

	Sold, Not Yet Open		Open		Total
Rocky Mountain Chocolate Factory
Company-owned stores		-		3		3
Franchise stores – Domestic stores and kiosks		3		193		196
International License Stores		-		86		86
Cold Stone Creamery – co-branded		5		77		82
U-Swirl Stores (Including all associated brands)
Company-owned stores		-		5		5
Company-owned stores – co-branded		-		3		3
Franchise stores – Domestic stores		*		179		179
Franchise stores – Domestic – co-branded		*		18		18
International License Stores		-		8		8
Total		8		572		580

*U-Swirl cafés and the brands franchised by U-Swirl have historically utilized a development area sales model. The result is that many areas are under development and the rights to open cafés within the development areas have been established, but there is no assurance that any individual development area will result in a determinable number of café openings.

Basis of Presentation

The accompanying consolidated financial statements have been prepared by the Company, without audit, and reflect all adjustments which are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented. The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial reporting and Securities and Exchange Commission regulations. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. Certain amounts previously presented for prior periods have been reclassified to conform to the current presentation. The reclassifications had no effect on net income, working capital or equity previously reported. In the opinion of management, the consolidated financial statements reflect all adjustments (of a normal and recurring nature) which are necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods presented. The results of operations for the three months ended May 31, 2016 are not necessarily indicative of the results to be expected for the entire fiscal year.

These consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended February 29, 2016.

Subsequent Events

Management evaluated all activity of the Company through the issue date of the financial statements and concluded that no subsequent events have occurred that would require recognition or disclosure in the financial statements.

New Accounting Pronouncements

In July 2015, FASB issued ASU 2015-11, Inventory (Topic 330), Simplifying the Measurement of Inventory, which changes the measurement principle for inventory from the lower of cost or market to the lower of cost and net realizable value. ASU 2015-11 defines net realizable value as estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. The adoption of this guidance during the first quarter of fiscal year 2017 and prior fiscal year reclassifications did not have a material impact on the Company's consolidated financial statements.

In April 2015, FASB issued ASU No. 2015-03, Interest-Imputation of Interest (Subtopic 835-30), Simplifying the Presentation of Debt Issuance Costs. ASU 2015-03 requires that debt issuance costs be presented in the balance sheet as a direct deduction from the carrying amount of debt liability, consistent with debt discounts or premiums. The recognition and measurement guidance for debt issuance costs would not be affected by the amendment. The adoption of this guidance during the first quarter of fiscal year 2017 and prior fiscal year reclassifications did not have a material impact on the Company's consolidated financial statements.

In November 2015, FASB issued ASU 2015-17, Balance Sheet Classification of Deferred Taxes, which eliminates the current requirement to present deferred tax liabilities and assets as current and noncurrent in a classified balance sheet. Instead, entities will be required to classify all deferred tax assets and liabilities as noncurrent. This ASU will be effective for the Company beginning in its first quarter of fiscal year 2018 and early adoption is permitted. We have adopted ASU 2015-17 as of February 29, 2016 and have reported deferred tax assets and liabilities as noncurrent on the balance sheet. The prospective adoption of this guidance in the fiscal fourth quarter of 2016 did not materially affect the Company’s financial position, results of operations or cash flows. Prior periods were not retrospectively adjusted.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 2 - EARNINGS PER SHARE

Basic earnings per share is calculated using the weighted-average number of common shares outstanding. Diluted earnings per share reflects the potential dilution that could occur from common shares issuable through stock options and restricted stock units. For the three months ended May 31, 2016 and 2015, 0 and 12,936 stock options were excluded, respectively, from the computation of earnings per share because their effect would have been anti-dilutive. Restricted stock units become dilutive within the period granted and remain dilutive until the units vest and are issued as common stock.

NOTE 3 – INVENTORIES

The Company held the following inventory at May 31, 2016 and February 29, 2016:

	May 31, 2016			February 29, 2016
Ingredients and supplies	$	2,923,230		$	2,868,157
Finished candy		2,223,478			2,138,952
U-Swirl food and packaging		87,074			94,345
Reserve for slow moving inventory		(293,656	)		(261,346	)
Total inventories	$	4,940,126		$	4,840,108

NOTE 4 - PROPERTY AND EQUIPMENT, NET

Property and equipment at May 31, 2016 and February 29, 2016 consists of the following:

	May 31, 2016			February 29, 2016
Land	$	513,618		$	513,618
Building		4,792,001			4,784,272
Machinery and equipment		10,537,132			9,987,906
Furniture and fixtures		1,206,792			1,169,475
Leasehold improvements		1,867,757			1,862,603
Transportation equipment		438,601			438,601
Asset impairment		(568,803	)		(568,803	)
		18,787,098			18,187,672

Less accumulated depreciation		(12,397,495	)		(12,177,369	)
Property and equipment, net	$	6,389,603		$	6,010,303

NOTE 5 - STOCKHOLDERS’ EQUITY

Cash Dividend

The Company paid a quarterly cash dividend of $0.12 per common share on March 11, 2016 to stockholders of record on February 26, 2016. The Company paid a quarterly cash dividend of $0.12 per share of common stock on June 17, 2016 to stockholders of record on June 7, 2016.

Future declaration of dividends will depend on, among other things, the Company's results of operations, capital requirements, financial condition and on such other factors as the Company's Board of Directors may in its discretion consider relevant and in the best long-term interest of the Company’s stockholders.

Stock Repurchases

On July 15, 2014, the Company publicly announced a plan to repurchase up to $3.0 million of its common stock in the open market or in private transactions, whenever deemed appropriate by management. On January 13, 2015, the Company announced a plan to purchase up to an additional $2,058,000 of its common stock under the repurchase plan, and on May 21, 2015, the Company announced a further increase to the repurchase plan by authorizing the purchase of up to an additional $2,090,000 of its common stock under the repurchase plan. During the three months ended May 31, 2016, the Company repurchased 14,422 shares under the repurchase plan at an average price of $10.07 per share. As of May 31, 2016, approximately $844,000 remains available under the repurchase plan for further stock repurchases.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

Stock-Based Compensation

At May 31, 2016, the Company had stock-based compensation plans for employees and non-employee directors that authorized the granting of stock awards, including stock options and restricted stock units.

The Company recognized $167,774 of stock-based compensation expense during the three months ended May 31, 2016 compared with $321,033 during the three months ended May 31, 2015. Compensation costs related to stock-based compensation are generally amortized over the vesting period.

The following table summarizes stock option transactions for common stock during the three months ended May 31, 2016 and 2015:

	Three Months Ended
	May 31,
	2016			2015
Outstanding stock options as of February 28 or 29:		12,936			12,936
Granted		-			-
Exercised		-			-
Cancelled/forfeited		(12,936	)		-
Outstanding stock options as of May 31:		-			12,936

Weighted average exercise price		n/a		$	14.70
Weighted average remaining contractual term (in years)		n/a			0.80

The following table summarizes non-vested restricted stock unit transactions for common stock during the three months ended May 31, 2016 and 2015:

	Three Months Ended
	May 31,
	2016		2015
Outstanding non-vested restricted stock units as of February 28 or 29:		181,742		237,641
Granted		-		-
Vested		-		(7,820	)
Cancelled/forfeited		-		-
Outstanding non-vested restricted stock units as of May 31:		181,742		229,821

Weighted average grant date fair value	$	12.22	$	12.22
Weighted average remaining vesting period (in years)		2.97		3.96

The Company issued 2,000 fully vested, unrestricted shares of stock to non-employee directors during the three months ended May 31, 2016 compared to 4,000 shares issued during the three months ended May 31, 2015. In connection with these non-employee director stock issuances, the Company recognized $20,420 and $61,040 of stock-based compensation expense during the three months ended May 31, 2016 and 2015, respectively.

During the three months ended May 31, 2016, the Company recognized $147,354 of stock-based compensation expense related to non-vested, non-forfeited restricted stock unit grants. The restricted stock units generally vest between 17% and 20% annually over a period of five to six years. Total unrecognized stock-based compensation expense of non-vested, non-forfeited restricted stock units, as of May 31, 2016, was $1,717,111, which is expected to be recognized over the weighted average period of 2.97 years.

The Company did not recognize any stock-based compensation expense attributable to SWRL during the three months ended May 31, 2016 compared with $99,500 recognized during the three months ended May 31, 2015.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 6 – SUPPLEMENTAL CASH FLOW INFORMATION

	Three Months Ended
	May 31,
	2016		2015
Cash paid (received) for:
Interest, net	$	35,045	$	46,797
Income taxes		217,123		39,745
Non-Cash Operating Activities
Accrued Inventory		240,031		205,335
Non-Cash Financing Activities
Dividend payable	$	699,009	$	713,838
Sale of assets and inventory to buyers for notes receivable:
Long-lived assets	$	30,989		-

NOTE 7 - OPERATING SEGMENTS

The Company classifies its business interests into five reportable segments: Franchising, Manufacturing, Retail Stores, U-Swirl operations and Other. The accounting policies of the segments are the same as those described in the summary of significant accounting policies in Note 1 to the Company’s financial statements included in the Company’s Annual Report on Form 10-K for the year ended February 29, 2016. The Company evaluates performance and allocates resources based on operating contribution, which excludes unallocated corporate general and administrative costs and income tax expense or benefit. The Company’s reportable segments are strategic businesses that utilize common merchandising, distribution, and marketing functions, as well as common information systems and corporate administration. All inter-segment sales prices are market based. Each segment is managed separately because of the differences in required infrastructure and the difference in products and services:

Three Months Ended May 31, 2016	Franchising			Manufacturing			Retail			U-Swirl		Other			Total
Total revenues	$	1,548,035		$	6,052,743		$	305,576		$	1,762,835	$	-		$	9,669,189
Intersegment revenues		(1,361	)		(291,629	)		-			-		-			(292,990	)
Revenue from external customers		1,546,674			5,761,114			305,576			1,762,835		-			9,376,199
Segment profit (loss)		670,628			1,233,006			(14,666	)		467,779		(1,210,159	)		1,146,588
Total assets		1,355,195			11,504,386			1,008,708			10,673,169		5,637,138			30,178,596
Capital expenditures		9,126			477,121			22			24,344		123,813			634,426
Total depreciation & amortization	$	13,656		$	106,278		$	3,348		$	165,965	$	35,977		$	325,224

Three Months Ended May 31, 2015	Franchising			Manufacturing			Retail			U-Swirl		Other			Total
Total revenues	$	1,550,441		$	6,622,368		$	380,658		$	2,109,797	$	-		$	10,663,264
Intersegment revenues		(1,423	)		(297,819	)		-			-		-			(299,242	)
Revenue from external customers		1,549,018			6,324,549			380,658			2,109,797		-			10,364,022
Segment profit (loss)		756,913			1,399,604			(41,030	)		264,416		(1,014,244	)		1,365,659
Total assets		1,224,822			10,471,309			1,095,173			12,948,323		7,552,528			33,292,155
Capital expenditures		-			146,071			-			16,198		29,913			192,182
Total depreciation & amortization	$	10,287		$	102,516		$	5,896		$	203,177	$	42,974		$	364,850

Revenue from one customer of the Company’s Manufacturing segment represented approximately $1.4 million of the Company’s revenues from external customers during the three months ended May 31, 2016 compared to $2.0 million during the three months ended May 31, 2015.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 8 – GOODWILL AND INTANGIBLE ASSETS

Intangible assets at May 31, 2016 and February 29, 2016 consist of the following:

				May 31, 2016				February 29, 2016

	Amortization Period (years)			Gross Carrying Value		Accumulated Amortization		Gross Carrying Value		Accumulated Amortization
Intangible assets subject to amortization
Store design		10		$	220,778	$	210,027	$	220,778	$	209,653
Packaging licenses	3	-	5		120,830		120,830		120,830		120,830
Packaging design		10			430,973		430,973		430,973		430,973
Trademark/Non-competition agreements	5	-	20		715,340		61,022		459,340		51,423
Franchise Rights		20			5,931,137		855,527		5,914,181		760,818
Total				$	7,419,058	$	1,678,379	$	7,146,102	$	1,573,697
Intangible assets not subject to amortization
Franchising segment-
Company stores goodwill				$	1,099,328	$	267,020	$	1,099,328	$	267,020
Franchising goodwill					295,000		197,682		295,000		197,682
Manufacturing segment-Goodwill					295,000		197,682		295,000		197,682
Trademark					20,000		-		20,000		-
Total					1,709,328		662,384		1,709,328		662,384

Total intangible assets				$	9,128,386	$	2,340,763	$	8,855,430	$	2,236,081

Effective March 1, 2002, under Accounting Standards Codification Topic 350, all goodwill with indefinite lives is no longer subject to amortization. Accumulated amortization related to intangible assets not subject to amortization is a result of amortization expense related to indefinite life goodwill incurred prior to March 1, 2002.

Amortization expense related to intangible assets totaled $104,683 and $93,150 during the three months ended May 31, 2016 and 2015, respectively.

At May 31, 2016, annual amortization of intangible assets, based upon our existing intangible assets and current useful lives, is estimated to be the following:

2017	$	321,408
2018		443,214
2019		449,644
2020		436,487
2021		424,778
Thereafter		3,665,148
Total	$	5,740,679

NOTE 9 – OTHER ACCRUED LIABILITIES

Other accrued expenses consisted of the following as of:

	May 31, 2016		February 29, 2016
Gift card liabilities	$	2,749,052	$	2,835,943
Other accrued expenses		511,999		364,955
Total other accrued expenses	$	3,261,051	$	3,200,898

NOTE 10 – RELATED PARTY TRANSACTIONS

Our President and Chief Executive Officer has members of his immediate family with ownership interests in retail marketing businesses. These businesses have, on occasion, provided services to the Company and may provide services in the future. For the three months ended May 31, 2016, the Company paid $10,432 and no amount was recorded to accounts payable that related to these businesses. Transactions with these businesses have been immaterial to our results of operations.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 11 – RESTRUCTURING AND ACQUISITION RELATED CHARGES

Restructuring and acquisition charges incurred were comprised of lease settlement costs of $60,000 for the three months ended May 31, 2016, relating to the closure of an Aspen Leaf Yogurt company-owned location.

The Company did not record any restructuring charges in the three months ended May 31, 2015.

NOTE 12 - CONTINGENCIES

The Company is party to various legal proceedings arising in the ordinary course of business from time to time. Management believes that the resolution of these matters will not have a significant adverse effect on the Company’s financial position, results of operations or cash flows.

In January 2014, SWRL entered into an Asset Purchase Agreement (the “CherryBerry Purchase Agreement”) with CherryBerry Enterprises LLC, CherryBerry Corporate LLC, CherryBerry LLC, and their respective owners (collectively, the “CherryBerry Selling Parties”), pursuant to which SWRL acquired the franchise rights of frozen yogurt stores branded as “CherryBerry” (the “CherryBerry Acquisition”). As a part of the consideration for the CherryBerry Acquisition, SWRL agreed to issue an aggregate of 4,000,000 shares of SWRL common stock (the “CB Shares”) to the CherryBerry Selling Parties, which were subject to a one-year lock-up agreement. The CB Shares were issued to the CherryBerry Selling Parties in February 2015. Pursuant to the terms of the CherryBerry Purchase Agreement, following expiration of the lock-up period, if any of the CherryBerry Selling Parties desired to sell their CB Shares, they must first offer such shares to SWRL and RMCF prior to any sale of the CB Shares on the open market. If the proceeds from the sale of any of the CB Shares is less than $0.50 per share and the CherryBerry Selling Parties comply with other terms of the CherryBerry Purchase Agreement, SWRL agreed to pay a shortfall payment equal to the difference of the sale price of the CB Shares and $0.50 per share, multiplied by the number of shares sold by the CherryBerry Selling Parties. If SWRL was required to pay the shortfall payment at February 29, 2016, the shortfall payment would approximate $1,800,000. SWRL determined the likelihood of incurring the liability to be less than probable and has not recorded a contingent liability at February 29, 2016. In July and August 2015, the CherryBerry Selling Parties submitted to SWRL several requests for payment of approximately $205,000 of shortfall payments based on the sale of a portion of the CB Shares.

In August 2015, SWRL filed a lawsuit against the CherryBerry Selling Parties, a former officer and director of SWRL and unknown other parties, in the District Court for La Plata County, Colorado, alleging wrongful actions on their part to cause the price of SWRL’s common stock to decline and thereafter making an improper demand for the shortfall payment described above, and certain other actions in violation of various provisions of the CherryBerry Purchase Agreement. SWRL sought unspecified damages, attorney’s fees, other costs, and a determination that the shortfall payment arrangement is void. In September 2015, the CherryBerry Selling Parties filed an answer and counterclaim to the lawsuit in the U.S. District Court for the District of Colorado, and moved the lawsuit to federal court in the U.S. District Court for the District of Colorado (the “Colorado District Court”). In addition, the CherryBerry Entities added RMCF to the lawsuit through a third-party complaint. The complaint alleged that SWRL materially breached the CherryBerry Purchase Agreement by not paying the shortfall payment, that SWRL is the alter ego of RMCF and RMCF is liable for any obligations of SWRL, and that the SWRL Loan Agreement should be recharacterized as equity. The CherryBerry Entities sought payment in full of the shortfall payment under the CherryBerry Purchase Agreement, declaratory judgements that SWRL is the alter ego of RMCF and the SWRL Loan Agreement should be recharacterized as equity, and interest, attorney’s fees, costs and other equitable relief.

On January 13, 2016, the CherryBerry Entities dismissed without prejudice their counterclaim and third-party complaint from the Colorado District Court, and thereafter on January 13, 2016, the CherryBerry Entities refiled the exact claims (the “Oklahoma Action”) in the United States District Court for the Northern District of Oklahoma (the “Oklahoma Court”). Also on January 13, 2016, RMCF filed a lawsuit against the CherryBerry Entities in the Colorado District Court seeking a declaratory judgment that it is not the alter ego of SWRL and that the SWRL Loan Agreement should not be re-characterized as equity (the “Colorado Action”). On that same date, SWRL filed a complaint against the CherryBerry Selling Parties asserting the same claims as it had asserted previously. RMCF filed a motion to dismiss for lack of jurisdiction and improper venue and in the alternative a motion to transfer venue in response to the Oklahoma Action, and the CherryBerry Selling Parties subsequently filed a motion to dismiss the Colorado Action. In April 2016, the Colorado District Court granted in part the CherryBerry Selling Parties’ motion and administratively closed the case. In addition, in April 2016, the Oklahoma Court denied RMCF’s motion (and SWRL’s similar motion). On April 8, 2016, the CherryBerry Entities moved to add RMCF as a defendant on the alter ego and re-characterization claims in the Oklahoma Action. On May 9, 2016, the Oklahoma Court granted that application and we intend to file an answer or other responses to the action. We intend to vigorously assert and defend our rights in this lawsuit.

ROCKY MOUNTAIN CHOCOLATE FACTORY, INC. AND SUBSIDIARIES

NOTES TO INTERIM (UNAUDITED) CONSOLIDATED FINANCIAL STATEMENTS

NOTE 13 – NOTE PAYABLE

The Company’s long-term debt is comprised of a promissory note, the proceeds of which were loaned to U-Swirl and used to finance U-Swirl’s business acquisitions (unpaid balance as of May 31, 2016, $4.8 million).

As of May 31, 2016 and February 29, 2016, notes payable consisted of the following:

	May 31, 2016			February 29, 2016

Promissory note	$	4,775,479		$	5,085,133
Less: current maturities		(1,265,648	)		(1,254,007	)
Long-term obligations	$	3,509,831		$	3,831,126

The following table summarizes annual maturities of our notes payable as of May 31, 2016:

	Amount
2017	$	943,782
2018		1,302,503
2019		1,352,897
2020		1,176,297
Total minimum payments		4,775,479
Less: current maturities		(1,265,648	)

Long-term obligations	$	3,509,831

Item 2.

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

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q (“Quarterly Report”) includes statements of our expectations, intentions, plans and beliefs that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 and are intended to come within the safe harbor protection provided by those sections. These forward-looking statements involve various risks and uncertainties. The nature of our operations and the environment in which we operate subject us to changing economic, competitive, regulatory and technological conditions, risks and uncertainties. The statements, other than statements of historical fact, included in this Quarterly Report are forward-looking statements. Many of the forward-looking statements contained in this document may be identified by the use of forward-looking words such as "will," "intend," "believe," "expect," "anticipate," "should," "plan," "estimate," "potential," or similar expressions. Factors which could cause results to differ include, but are not limited to: changes in the confectionery business environment, seasonality, consumer interest in our products, general economic conditions, the success of our frozen yogurt business, receptiveness of our products internationally, consumer and retail trends, costs and availability of raw materials, competition, the success of our co-branding strategy, the success of international expansion efforts and the effect of government regulations. Government regulations which we and our franchisees either are or may be subject to and which could cause results to differ from forward-looking statements include, but are not limited to: local, state and federal laws regarding health, sanitation, safety, building and fire codes, franchising, employment, manufacturing, packaging and distribution of food products and motor carriers. For a detailed discussion of the risks and uncertainties that may cause our actual results to differ from the forward-looking statements contained herein, please see the “Risk Factors” contained in Item 1A. of our Annual Report on Form 10-K for the fiscal year ended February 29, 2016. These forward-looking statements apply only as of the date of this Quarterly Report. As such they should not be unduly relied upon for more current circumstances. Except as required by law, we undertake no obligation to release publicly any revisions to these forward-looking statements that might reflect events or circumstances occurring after the date of this Quarterly Report or those that might reflect the occurrence of unanticipated events.

Unless otherwise specified, the “Company,” “we,” “us” or “our” refers to Rocky Mountain Chocolate Factory, Inc, a Delaware corporation, and its consolidated subsidiaries.

Overview

Rocky Mountain Chocolate Factory, Inc., a Delaware corporation, and its subsidiaries (including its operating subsidiary with the same name, Rocky Mountain Chocolate Factory, Inc., a Colorado corporation) (collectively, the “Company,” “we,” “us,” or “our”) is an international franchisor, confectionery manufacturer and retail operator. Founded in 1981, we are headquartered in Durango, Colorado and manufacture an extensive line of premium chocolate candies and other confectionery products. Our subsidiary, U-Swirl International, Inc. (“U-Swirl”), franchises and operates soft-serve frozen yogurt stores. Our revenues and profitability are derived principally from our franchised/license system of retail stores that feature chocolate, frozen yogurt and other confectionary products. We also sell our candy in selected locations outside of our system of retail stores and license the use of our brand with certain consumer products. As of March 31, 2016, there were three Company-owned, 96 licensee-owned and 272 franchised Rocky Mountain Chocolate Factory stores operating in 40 states, Canada, Japan, South Korea, the Philippines, the Kingdom of Saudi Arabia and the United Arab Emirates. As of March 31, 2016, U-Swirl operated 8 Company-owned stores and 210 franchised stores located in 38 states, Canada, Turkey and the United Arab Emirates. U-Swirl operates self-serve frozen yogurt cafes under the names “U-Swirl,” “Yogurtini,” “CherryBerry,” “Josie’s Frozen Yogurt,” “Yogli Mogli Frozen Yogurt,” “Fuzzy Peach Frozen Yogurt,” “Let’s Yo!” and “Aspen Leaf Yogurt”.

Effective March 1, 2015, we reorganized to create a holding company structure. Our operating subsidiary with the same name, Rocky Mountain Chocolate Factory, Inc., a Colorado corporation (“RMCF”), which was previously the public company, became a wholly-owned subsidiary of a newly formed entity, Rocky Mountain Chocolate Factory, Inc., a Delaware corporation (“Newco”), and all of the outstanding shares of common stock of RMCF were exchanged on a one-for-one basis for shares of common stock of Newco. Our new holding company began trading on March 2, 2015 on the NASDAQ Global Market under the symbol “RMCF”, which was the same symbol used by RMCF prior to the holding company reorganization.

In January 2013, through our wholly-owned subsidiaries, including Aspen Leaf Yogurt, LLC (“ALY”), we entered into two agreements to sell all of the assets of our ALY frozen yogurt stores, along with our interest in the self-serve frozen yogurt franchises and retail units branded as “Yogurtini” which we also acquired in January 2013, to U-Swirl, Inc., a publicly traded company (OTCQB: SWRL) (“SWRL”), in exchange for a 60% controlling equity interest in SWRL, which was subsequently diluted down to 39% as of February 29, 2016 following various issuances of common stock of SWRL. At that time, U-Swirl International, Inc. was a wholly-owned subsidiary of SWRL, and was the operating subsidiary for all of SWRL’s operations. Upon completion of these transactions, we ceased to directly operate any Company-owned Aspen Leaf Yogurt locations or sell and support frozen yogurt franchise locations, which was being supported by SWRL.

In fiscal year (“FY”) 2014, SWRL acquired the franchise rights and certain other assets of self-serve frozen yogurt concepts under the names “CherryBerry,” “Yogli Mogli Frozen Yogurt” and “Fuzzy Peach Frozen Yogurt.” In connection with these acquisitions, the Company entered into a credit facility with Wells Fargo, N.A. used to finance the acquisitions of SWRL, and in turn, the Company entered into a loan and security agreement with SWRL to cover the purchase price and other costs associated with the acquisitions (the “SWRL Loan Agreement”). Borrowings under the SWRL Loan Agreement were secured by all of the assets of SWRL, including all of the outstanding stock of its wholly-owned subsidiary, U-Swirl International, Inc. Under the SWRL Loan Agreement, SWRL was subject to various financial covenants. SWRL was not compliant with the financial covenants during the year ended February 29, 2016 and the loan matured on January 16, 2016 without payment in full by SWRL. Upon the occurrence and during the continuance of an event of default, we were entitled to charge interest on all amounts due under the SWRL Loan Agreement at the default rate of 15% per annum, accelerate payment of all amounts due under the SWRL Loan Agreement, and foreclose on all or any portion of the security interest. As a result of the defaults, we issued a demand for payment of all obligations under the SWRL Loan Agreement. SWRL was unable to repay the obligations under the SWRL Loan Agreement, and as a result, we foreclosed on all of the outstanding stock of U-Swirl International, Inc. as of February 29, 2016 in full satisfaction of the amounts owed under the SWRL Loan Agreement. This resulted in U-Swirl International, Inc. becoming a wholly-owned subsidiary of the Company as of February 29, 2016 and concurrently the Company ceased to have financial control of SWRL as of February 29, 2016. As of February 29, 2016, SWRL had no operating assets. During FY 2016, SWRL acquired the franchise rights of “Let’s Yo!”.

Results of Operations

Three Months Ended May 31, 2016 Compared to the Three Months Ended May 31, 2015

Basic earnings per share was unchanged at $.13 per share during the three months ended May 31, 2015 and the three months ended May 31, 2016. Revenues decreased 9.5% during the three months ended May 31, 2016 compared to the three months ended May 31, 2015. This decrease in revenues was due primarily to a decrease in factory sales, franchise fees, retail sales and royalty and marketing fees. Operating income decreased 16.2% from $1.41 million for the three months ended May 31, 2015 to $1.18 million for the three months ended May 31, 2016. Net income decreased 4.1% from $763,000 in the three months ended May 31, 2015 to $732,000 in the three months ended May 31, 2016. The decrease in operating income and net income was due primarily to lower revenue in the three months ended May 31, 2016 compared to the three months ended May 31, 2015.

Revenues	Three Months Ended
	May 31,				$			%
($’s in thousands)	2016		2015		Change			Change
Factory sales	$	5,761.1	$	6,324.5	$	(563.4	)		(8.9%	)
Retail sales		1,263.2		1,411.6		(148.4	)		(10.5%	)
Franchise fees		105.5		270.6		(165.1	)		(61.0%	)
Royalty and marketing fees		2,246.4		2,357.3		(110.9	)		(4.7%	)
Total	$	9,376.2	$	10,364.0	$	(987.8	)		(9.5%	)

Factory Sales

The decrease in factory sales for the three months ended May 31, 2016 versus the three months ended May 31, 2015 was primarily due to a 20.4% decrease in shipments of product to customers outside our network of franchised retail stores and a 2.1% decrease in shipments of product to our network of franchised and licensed retail stores. During the three months ended May 31, 2016, the average number of domestic Rocky Mountain Chocolate Factory franchised stores in operation decreased 3.5% and same-store pounds purchased by our network of franchise and license stores decreased 5.8%.

Retail Sales

The decrease in retail sales was primarily due to changes in retail units in operation resulting from the sale of certain Company-owned locations and the closure of a certain underperforming Company-owned location. Same store sales at all Company-owned stores and cafés increased 1.5% in the three months ended May 31, 2016 compared to the three months ended May 31, 2015. Same-store sales at U-Swirl cafés increased 2.1% in the three months ended May 31, 2016 compared to the three months ended May 31, 2015.

Royalties, Marketing Fees and Franchise Fees

The decrease in royalties and marketing fees from the three months ended May 31, 2015 to the three months ended May 31, 2016 resulted from an 11.5% decrease in franchise units. The average number of total franchise stores in operation decreased from 444 in the three months ended May 31, 2015 to 393 during the three months ended May 31, 2016. This decrease is the result of domestic store closures exceeding domestic store openings. Same store sales at total franchise stores and cafés in operation increased 0.3% during the three months ended May 31, 2016 compared to the three months ended May 31, 2015. Franchise fee revenues decreased as a result of the license fees associated with the license agreements for the development and franchising of CherryBerry stores in the Canadian province of Ontario being recognized in the three months ended May 31, 2015 and no international license fees being recognized in the three months ended May 31, 2016.

Costs and Expenses	Three Months Ended
	May 31,				$			%
($’s in thousands)	2016		2015		Change			Change

Cost of sales – factory adjusted	$	4,279.5	$	4,708.4	$	(428.9	)		(9.1%	)
Cost of sales - retail		420.0		455.5		(35.5	)		(7.8%	)
Franchise costs		547.7		604.0		(56.3	)		(9.3%	)
Sales and marketing		654.1		635.6		18.5			2.9	%
General and administrative		1,240.1		1,328.9		(88.8	)		(6.7%	)
Retail operating		666.9		855.9		(189.0	)		(22.1%	)
Total	$	7,808.3	$	8,588.3	$	(780.0	)		(9.1%	)

Adjusted Gross Margin	Three Months Ended
	May 31,				$			%
($’s in thousands)	2016		2015		Change			Change

Factory adjusted gross margin	$	1,481.6	$	1,616.1	$	(134.5	)		(8.3%	)
Retail		843.2		956.1		(112.9	)		(11.8%	)
Total	$	2,324.8	$	2,572.2	$	(247.4	)		(9.6%	)

Adjusted Gross Margin	Three Months Ended
	May 31,						%			%
	2016			2015			Change			Change
(Percent)
Factory adjusted gross margin		25.7	%		25.6	%		0.1	%		0.4	%
Retail		66.8	%		67.7	%		(0.9%	)		(1.3%	)
Total		33.1	%		33.2	%		(0.1%	)		(0.3%	)

Adjusted gross margin and factory adjusted gross margin are non-GAAP measures. Adjusted gross margin is equal to the sum of our factory adjusted gross margin plus our retail gross margin calculated in accordance with GAAP. Factory adjusted gross margin is equal to factory gross margin minus depreciation and amortization expense. We believe adjusted gross margin and factory adjusted gross margin are helpful in understanding our past performance as a supplement to gross margin, factory gross margin and other performance measures calculated in conformity with GAAP. We believe that adjusted gross margin and factory adjusted gross margin are useful to investors because they provide a measure of operating performance and our ability to generate cash that is unaffected by non-cash accounting measures. Additionally, we use adjusted gross margin and factory adjusted gross margin rather than gross margin and factory gross margin to make incremental pricing decisions. Adjusted gross margin and factory adjusted gross margin have limitations as analytical tools because they exclude the impact of depreciation and amortization expense and you should not consider it in isolation or as a substitute for any measure reported under GAAP. Our use of capital assets makes depreciation and amortization expense a necessary element of our costs and our ability to generate income. Due to these limitations, we use adjusted gross margin and factory adjusted gross margin as measures of performance only in conjunction with GAAP measures of performance such as gross margin and factory gross margin. The following table provides a reconciliation of factory adjusted gross margin to factory gross margin, the most comparable performance measure under GAAP:

	Three Months Ended
	May 31,						$			%
($’s in thousands)	2016			2015			Change			Change

Factory adjusted gross margin	$	1,481.6		$	1,616.1		$	(134.5	)		(8.3%	)
Less: depreciation and amortization		102.5			101.9		$	.6			0.6	%
Factory GAAP gross margin	$	1,379.1		$	1,514.2		$	(135.1	)		(8.9%	)

(Percent)
Factory GAAP gross margin		23.9	%		23.9	%		0.0	%		0.0	%

Cost of Sales

Factory margins increased 10 basis points in the three months ended May 31, 2016 compared to the three months ended May 31, 2015 due primarily to lower costs of certain materials mostly offset by increased costs of labor and overhead in the three months ended May 31, 2016 compared to the three months ended May 31, 2015. Company-owned store margins declined 90 basis in the three months ended May 31, 2016 compared to the same period in the prior year.

Franchise Costs

The decrease in franchise costs in the three months ended May 31, 2016 compared to the three months ended May 31, 2015 is due primarily to lower franchise costs associated with supporting U-Swirl franchise units. As a percentage of total royalty and marketing fees and franchise fee revenue, franchise costs increased to 23.3% in the three months ended May 31, 2016 from 23.0% in the three months ended May 31, 2015. This increase as a percentage of royalty, marketing and franchise fees is primarily a result of lower franchise costs more than offset by lower franchise and royalty revenues.

Sales and Marketing

The increase in sales and marketing costs for the three months ended May 31, 2016 compared to the three months ended May 31, 2015 is primarily due to higher marketing related compensation associated with additional sales staff partially offset by lower marketing-related costs associated with U-Swirl franchise locations.

General and Administrative

The decrease in general and administrative costs for the three months ended May 31, 2016 compared to the three months ended May 31, 2015 is due primarily to the foreclosure of U-Swirl in the prior year and the associated focus on reduction of duplicative general and administrative costs. For the three months ended May 31, 2016, approximately $164,000 of U-Swirl general and administrative costs were consolidated within our results, compared with $403,000 in the three months ended May 31, 2015. As a percentage of total revenues, general and administrative expenses increased to 13.2% in the three months ended May 31, 2016 compared to 12.8% in the three months ended May 31, 2015.

Retail Operating Expenses

The decrease in retail operating expenses for the three months ended May 31, 2016 compared to the three months ended May 31, 2015 was due primarily to changes in units in operation, resulting from the sale of certain Company-owned units and the closure of certain underperforming Company-owned units. Retail operating expenses, as a percentage of retail sales, decreased from 60.6% in the three months ended May 31, 2015 to 52.8% in the three months ended May 31, 2016.

Depreciation and Amortization

Depreciation and amortization of $325,000 in the three months ended May 31, 2016 decreased 10.9% from $365,000 incurred in the three months ended May 31, 2015. This decrease was the result of fewer Company-owned store assets.

Other Income

Net interest expense was $36,100 in the three months ended May 31, 2016 compared to net interest expense of $45,300 realized in the three months ended May 31, 2015. This change was the result of less interest expense incurred on lower average outstanding promissory note balances.

Income Tax Expense

Our effective income tax rate for the three months ended May 31, 2016 was 36.2%, compared to 31.7% for the three months ended May 31, 2015. The increase of 4.5% is primarily due to the tax consequences of a change in the controlling interest in U-Swirl and foreclosure upon the stock of U-Swirl International, Inc. For the three months ended May 31, 2015, the financial statements presented represent the consolidated statements of two separate consolidated groups for income tax purposes. RMCF has filed income tax returns consolidating the results of Rocky Mountain Chocolate Factory and its wholly-owned subsidiary, Aspen Leaf Yogurt, LLC. U-Swirl Inc. has filed a separate consolidated income tax return for the results of U-Swirl, Inc. and its wholly owned subsidiary, U-Swirl International, Inc. RMCF and SWRL have filed separate income tax returns because RMCF owned only 39% of SWRL. Beginning on March 1, 2016, the results of U-Swirl, International, Inc. will be included in RMCF’s consolidated income tax return, and on the same date, will be removed from U-Swirl, Inc.’s consolidated tax return. This is a result of the foreclosure of RMCF on the outstanding stock of U-Swirl International, Inc. in satisfaction of debt between RMCF and SWRL. The consolidated tax return for RMCF for future periods will include all operating results of U-Swirl International, Inc. U-Swirl, Inc. will file separate income tax returns in future periods. However, there are no remaining operating assets held by U-Swirl, Inc.

U-Swirl has significant net operating loss carryovers. In accordance with section 382 of the Internal Revenue Code, deductibility of U-Swirl’s U.S. net operating loss carryovers may be subject to annual limitation in the event of a change in control. We have performed a preliminary evaluation as to whether a change in control has taken place, and have concluded that there was a change of control with respect to the net operating losses of U-Swirl when the Company acquired a 60% ownership interest in January 2013.

Liquidity and Capital Resources

As of May 31, 2016, working capital was $6.7 million, compared with $7.4 million as of February 29, 2016, a decrease of $700,000. The decrease in working capital was primarily due to positive operating results more than offset by the payment of dividends and repurchases of common stock.

Cash and cash equivalent balances decreased $100,000 from $6.2 million as of February 29, 2016 to $6.1 million as of May 31, 2016 as a result of cash flow generated by operating activities more than offset by the payment of dividends, the purchases of property and equipment and repurchases of common stock. Our current ratio was 1.8 to 1 at May 31, 2016 compared to 1.9 to 1 at February 29, 2016. We monitor current and anticipated future levels of cash and cash equivalents in relation to anticipated operating, financing and investing requirements.

For the three months ended May 31, 2016, we had net income of $731,834. Operating activities provided cash of $1,895,414, with the principal adjustment to reconcile the net income to net cash provided by operating activities being a change in accounts receivable of $728,721 and depreciation and amortization of $325,224. During the comparable 2015 period, we had net income of $933,359, and operating activities provided cash of $3,365,246. The principal adjustment to reconcile the net income to net cash provided by operating activities was the change in inventories of $1,111,144 and the change in accounts receivable of $766,824.

For the three months ended May 31, 2016, investing activities used cash of $832,555, primarily due to the purchases of property, equipment, goodwill and other intangible assets of $907,382. In comparison, investing activities used cash of $109,344 during the three months ended May 31, 2015 primarily due to the purchase of property, equipment, goodwill and other intangible assets of $200,386.

Financing activities used cash of $1,155,655 for the three months ended May 31, 2016 and used cash of $2,044,975 during the prior year period. This was primarily due to a decrease in cash used to repurchase common stock during the three months ended May 31, 2016.

The Company has a $5 million credit line, of which $5 million was available (subject to certain borrowing base limitations) as of May 31, 2016, secured by substantially all of the Company’s assets except retail store assets. Additionally, the line of credit is subject to various financial ratio and leverage covenants. At May 31, 2016, the Company was in compliance with all such covenants. The credit line is subject to renewal in September 2017.

The Company’s long-term debt is comprised of a promissory note used to finance business acquisitions of SWRL (unpaid balance as of May 31, 2016, $4.8 million). The note allowed the Company to borrow up to a maximum of $7.0 million to finance business acquisitions and bears interest at a fixed annual rate of 3.75%. Additionally, the promissory note is subject to various financial ratio and leverage covenants. As of May 31, 2016, we were in compliance with all such covenants.

As discussed above, in FY 2014, SWRL acquired the franchise rights and certain other assets of self-serve frozen yogurt concepts under the names “CherryBerry,” “Yogli Mogli Frozen Yogurt” and “Fuzzy Peach Frozen Yogurt.” In connection with these acquisitions, the Company entered into a credit facility with Wells Fargo Bank, N.A. used to finance the acquisitions of SWRL, and in turn, the Company entered into the SWRL Loan Agreement with SWRL. Borrowings under the SWRL Loan Agreement were secured by all of the assets of SWRL, including all of the outstanding stock of its wholly-owned subsidiary, U-Swirl International, Inc. Under the SWRL Loan Agreement, SWRL was subject to various financial covenants. SWRL was not compliant with the financial covenants during the year ended February 29, 2016 and the loan matured on January 16, 2016 without payment in full by SWRL. Upon the occurrence and during the continuance of an event of default, we were entitled to charge interest on all amounts due under the SWRL Loan Agreement at the default rate of 15% per annum, accelerate payment of all amounts due under the SWRL Loan Agreement, and foreclose on all or any portion of the security interest. As a result of the defaults, we issued a demand for payment of all obligations under the SWRL Loan Agreement. SWRL was unable to repay the obligations under the SWRL Loan Agreement, and as a result, we foreclosed on all of the outstanding stock of U-Swirl as of February 29, 2016 in full satisfaction of the amounts owed under the SWRL Loan Agreement. This resulted in U-Swirl becoming a wholly-owned subsidiary of the Company as of February 29, 2016, and concurrently the Company ceased to have financial control of SWRL as of February 29, 2016. As of February 29, 2016, SWRL had no operating assets.

We believe cash flows generated by operating activities and available financing will be sufficient to fund our operations for at least the next twelve months. If necessary, the Company has an available bank line of credit to help meet these requirements.

Off-Balance Sheet Arrangements

As of May 31, 2016, we had no off-balance sheet arrangements or obligations.

Impact of Inflation

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

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

Seasonality

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

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

The Company does not engage in commodity futures trading or hedging activities and does not enter into derivative financial instruments for trading or other speculative purposes. The Company also does not engage in transactions in foreign currencies or in interest rate swap transactions that could expose the Company to market risk. However, the Company is exposed to some commodity price and interest rate risks.

The Company frequently enters into purchase contracts of between six to eighteen months for chocolate and certain nuts. These contracts permit the Company to purchase the specified commodity at a fixed price on an as-needed basis during the term of the contract. Because prices for these products may fluctuate, the Company may benefit if prices rise during the terms of these contracts, but it may be required to pay above-market prices if prices fall and it is unable to renegotiate the terms of the contract. As of May 31, 2016, based on future contractual obligations for chocolate products, we estimate that a 10% increase or decrease in the prices of contracted ingredients would result in a $257,000 favorable or unfavorable price benefit or cost resulting from our commodity purchase contracts.

The Company has a $5 million bank line of credit that bears interest at a variable rate. As of May 31, 2016, no amount was outstanding under the line of credit. We do not believe that we are exposed to any material interest rate risk related to this line of credit.

The Company also entered into a $7.0 million promissory note with interest at a fixed rate of 3.75% annually to finance the previous acquisitions by SWRL. As of May 31, 2016, $4.8 million was outstanding under this promissory note. We do not believe that we are exposed to any material interest rate risk related to this promissory note.

Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

We maintain disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”)) that are designed to ensure that material information relating to us is made known to the officers who certify as to our financial reports and to other members of senior management and the Board of Directors. These disclosure controls and procedures are designed to ensure that information required to be disclosed in our reports that are filed or submitted under the Exchange Act, are recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Management, with the participation of our Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures. Based upon this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective as of May 31, 2016.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during the quarter ended May 31, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II.

OTHER INFORMATION

Item 1.

Legal Proceedings

From time to time, we may become involved in legal proceedings arising in the ordinary course of our business. Except as described below, we are not presently a party to any litigation that we believe to be material and we are not aware of any pending or threatened litigation against us that we believe could have a material adverse effect on our business, operating results, financial condition or cash flows.

In January 2014, SWRL entered into an Asset Purchase Agreement (the “CherryBerry Purchase Agreement”) with CherryBerry Enterprises LLC, CherryBerry Corporate LLC, CherryBerry LLC (collectively, the “CherryBerry Entities”), and their respective owners (together with the CherryBerry Entities, the “CherryBerry Selling Parties”), pursuant to which SWRL acquired the franchise rights of frozen yogurt stores branded as “CherryBerry” (the “CherryBerry Acquisition”). As a part of the consideration for the CherryBerry Acquisition, SWRL agreed to issue an aggregate of 4,000,000 shares of SWRL common stock (the “CB Shares”) to the CherryBerry Selling Parties. Pursuant to the CherryBerry Purchase Agreement, if the proceeds from the sale of any of the CB Shares on the open market was less than $0.50 per share and the CherryBerry Selling Parties complied with other terms of the CherryBerry Purchase Agreement, SWRL agreed to pay a shortfall payment equal to the difference of the sale price of the CB Shares and $0.50 per share, multiplied by the number of shares sold by the CherryBerry Selling Parties. In July and August 2015, the CherryBerry Selling Parties submitted to SWRL several requests for payment of approximately $205,000 of shortfall payments based on the sale of a portion of the CB Shares.

Item 1A.

Risk Factors

In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the factors discussed in Part 1, “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended February 29, 2016. There have been no material changes in our risk factors from those disclosed in our Annual Report on Form 10-K for the fiscal year ended February 29, 2016.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

Issuer Purchases of Equity Securities

Period	Total Number of Shares (or Units) Purchased		Average Price Paid per Share (or Unit)		Total Number of Shares (or Units) Purchased as Part of Publicly Announced Plans or Programs		Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased Under the Plans or Programs (1)
March 1, 2016 to March 31, 2016		4,414	$	10.08		4,414	$	945,205
April 1, 2016 to April 30, 2016		4,700	$	10.05		4,700	$	897,975
May 1, 2016 to May 31, 2016		5,308	$	10.09		5,308	$	844,432
Total		14,422	$	10.07		14,422	$	844,432

(1) On July 15, 2014, the Company publicly announced a plan to repurchase up to $3.0 million of its common stock in the open market or in private transactions, whenever deemed appropriate by management. On January 13, 2015, the Company announced a plan to purchase up to an additional $2,058,000 of its common stock under the repurchase plan, and on May 21, 2015, the Company announced a further increase to the repurchase plan by authorizing the purchase of up to an additional $2,090,000 of its common stock under the repurchase plan. The Company plans to continue the repurchase plan until it has been completed. The number, price, structure and timing of the repurchases, if any, will be at the Company’s sole discretion and future repurchases will be evaluated by the Company depending on market conditions, liquidity needs and other factors. The repurchase authorization does not have an expiration date and does not oblige the Company to acquire any particular amount of its common stock. The Board of Directors may suspend, modify or terminate the repurchase program at any time without prior notice.

Item 3.

Defaults Upon Senior Securities

None.

Item 4.

Mine Safety Disclosures

Not applicable.

Item 5.

Other Information

None.

Item 6.

Exhibits

3.1

Amended and Restated Certificate of Incorporation of Rocky Mountain Chocolate Factory, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.1 to the Current Report on Form 8-K filed on March 2, 2015).

3.2

Certificate of Designations of Series A Junior Participating Preferred Stock, Par Value $0.001 Per Share, of Rocky Mountain Chocolate Factory, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.2 to the Current Report on Form 8-K filed on March 2, 2015).

3.3

Amended and Restated Bylaws of Rocky Mountain Chocolate Factory, Inc., a Delaware corporation (incorporated by reference to Exhibit 3.3 to the Current Report on Form 8-K filed on March 2, 2015).

31.1*

Certification of Chief Executive Officer Filed Pursuant To Section 302 Of The Sarbanes-Oxley Act of 2002.

31.2*

Certification of Chief Financial Officer Filed Pursuant To Section 302 Of The Sarbanes-Oxley Act of 2002.

32.1**

Certification of Chief Executive Officer Furnished Pursuant To Section 906 of The Sarbanes-Oxley Act of 2002.

32.2**

Certification of Chief Financial Officer Furnished Pursuant To Section 906 of The Sarbanes-Oxley Act of 2002.

101.INS *XBRL Instance Document.

101.SCH *XBRL Taxonomy Extension Schema Document.

101.CAL *XBRL Taxonomy Extension Calculation Linkbase Document.

101.DEF *XBRL Taxonomy Extension Definition Linkbase Document.

101.LAB *XBRL Taxonomy Extension Label Linkbase Document.

101.PRE *XBRL Taxonomy Extension Presentation Linkbase Document.

____________________________

* Filed herewith.

** Furnished herewith.

Signature

Pursuant to the requirements 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.

	ROCKY MOUNTAIN CHOCOLATE FACTORY, INC.
		(Registrant)

Date: July 14, 2016		/s/ Bryan J. Merryman
		Bryan J. Merryman, Chief Operating Officer,
		Chief Financial Officer, Treasurer and Director

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