Ladies and gentlemen, thank you for standing by. Hello, and welcome to Karat Packaging’s Third Quarter of 2026 Financial Results Conference Call. All lines have been placed on mute to prevent any background noise. Now, I would like to turn the call over to Roger Pondel of Investor Relations. Please go ahead.
Thank you, operator. Good afternoon, everyone, and welcome to Karat Packaging’s 2026 third quarter conference call. I am Roger Pondel with PondelWilkinson, Karat Packaging’s investor relations firm. It will be my pleasure momentarily to introduce the company’s Chief Executive Officer, Alan Yu, and his 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 Karat Packaging undertakes no obligation to update any forward-looking statements except as required by law. Please also note that during today’s 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. With that, it is my pleasure to turn the call over to CEO Alan Yu. Alan?
Thank you, Roger. Good afternoon, everyone. We delivered solid top-line growth in the third quarter, with net sales increasing more than 8% to about $135 million. We experienced continued strong momentum in our e-commerce business, where online sales grew nearly 38% compared with the prior year quarter. While increased import costs, higher domestic shipping costs, and elevated resin prices pressured margins and contributed to the result below our expectation, we remain encouraged by the resilience of demand across our business. We continue success in new account wins and the strength in our pipeline. We are confident in our long-term growth prospect. In October, we began shipping select products to the four new chain accounts that we secured in the second quarter.
Notably, we expanded these relationships during the third quarter, winning additional business across multiple product lines such as paper bags, bagasse trays, and others, with shipment expected to begin in early 2027. Building on these wins, we recently secured four additional chain accounts, further expanding our distribution footprint. We believe these new relationships underscore the appeal of our broad product offering, flexibility, and outstanding service, as well as our reliability as a value supplier. These new business wins support our continued focus on deepening Karat's market penetration on the East Coast and Midwest. Sales on the East Coast grew 19% year-over-year, while Midwest sales increased 22% compared to the prior year quarter. Beyond these new accounts, we are testing phases with other large chains across different product categories. We are also building inventory to prepare the shipments in the first and second quarter of 2027.
Our new 47,000 sq ft distribution center in Orlando, Florida is expected to be fully operational in November 2026 to serve customers throughout the Southeast. The facility is expected to strengthen fulfillment capabilities for our growing e-commerce business, help reduce delivery time, and provide additional infrastructure to support future growth. To address elevated oil prices and ongoing cost pressures, we continue to realign and optimize Karat's global supply chain and diversify sourcing for regions with more favorable freight conditions and freight costs, including Indonesia, Malaysia, and South America. We have also implemented price increases on select items this month, and we expect to implement additional price increases early next year to help offset higher costs. Aggregated purchases from Indonesia, South America, and Malaysia increased to 19.4% of total sourcing, while sourcing from Taiwan, China, and the U.S. accounted for 39.1%, 14.4%, and 16.7% respectively of total purchases.
We believe our expanded distribution capacities, together with our supply chain and pricing initiatives, along with the continued strength of our online channel and new chain account wins, will position Karat to accelerate revenue growth and improve operating performances and profitabilities in the quarters ahead. I will now turn the call over to Jian Guo, our Chief Financial Officer, to discuss the company's financial results in greater detail. Jian?
Thank you, Alan. I will begin with a summary of our Q3 performance, followed by an update on our guidance. Net sales for the 2026 third quarter increased to $134.7 million, up 8.2% from $124.5 million in the prior year quarter. The increase primarily reflected $10.7 million in volume growth and product mix, and a $0.4 million favorable impact from pricing, partially offset by a decrease of $0.8 million in shipping and logistics revenue. Alan mentioned earlier, online sales rose 37.7% in the third quarter of 2026 compared with the prior year quarter. Sales to chains and distributors, our largest sales channel, increased 3.9% year-over-year, and retail channel sales declined 18.4% from the third quarter of 2025, primarily due to lower logistics service revenue.
Cost of goods sold for the 2026 third quarter increased 9.8% to $89.6 million from $81.6 million in the prior year quarter. This increase was primarily driven by higher product costs of $7.2 million due to higher sales volume and resin prices, as well as higher import costs. Ocean freight costs increased $2.4 million, including a 17.0% increase in average container rates and an 11.7% increase in the number of containers imported versus the prior year quarter, partially offset by a decrease in duty and tariff costs of $1.1 million compared with the prior year quarter. Gross margin for the 2026 third quarter increased 5.2% to $45.1 million from $42.9 million in the prior year quarter. Gross margin was 33.5% in the 2026 third quarter compared with 34.5% in the prior year quarter.
The decrease was primarily driven by higher product costs, which represented 50.6% of net sales compared with 48.9% in the prior year quarter. The increase in product cost was partially offset by a lower depreciation expense to 1.0% as a percentage of net sales from 1.3% in the prior year quarter. Operating expenses in the 2026 third quarter increased 17.2% to $40.3 million from $34.3 million last year. The increase primarily reflected higher shipping and transportation costs of $2.8 million, mainly due to the increase in online shipping costs of two fees of $0.9 million and online marketing expenses of $0.7 million. Additionally, salaries and benefits increased $0.9 million, warehouse expenses increased $0.4 million, and stock-based compensation expense increased $0.4 million. Operating income in the 2026 third quarter was $4.9 million compared with $8.6 million in the prior year quarter.
Other income net for the 2026 third quarter was approximately $1.0 million compared with $1.3 million in the prior year quarter. The decrease was primarily due to a $0.5 million decline in the gain on foreign currency transactions. Net income for the 2026 third quarter was $4.7 million compared with $7.6 million for the prior year quarter. Net income margin was 3.5% in the 2026 third quarter compared with 6.1% for the prior year quarter. Net income attributable to Karat for the 2026 third quarter was $4.4 million, or $0.22 per diluted share, compared with $7.3 million, or $0.36 per diluted share in the prior year quarter. Adjusted EBITDA for the 2026 third quarter was $8.9 million compared with $13.1 million for the prior year quarter.
Adjusted EBITDA margin was 6.6% of net sales for the 2026 third quarter compared with 10.5% for the prior year quarter. Adjusted diluted earnings per common share was $0.24 for the 2026 third quarter compared with $0.37 per share in the prior year quarter. As of September 30th, 2026, we had working capital of $87.0 million and $37.0 million in financial liquidity, with another $10.0 million in short-term investments. During the third quarter, we generated operating cash flow of $9.7 million and free cash flow of $9.1 million. We paid a regular quarterly dividend of $0.47 per share to shareholders on August 28th, 2026. Additionally, Global Wells, our consolidated variable interest entity, fully repaid the remaining balance of $11.2 million on one of its term loans that matured on September 30th, 2026, further reducing our consolidated leverage ratio going forward.
During the third quarter of 2026, the company did not repurchase any of its common stock under its previously announced share repurchase program. For the first three quarters of 2026, the company repurchased a total of $2.0 million of its common stock. As of September 30, 2026, approximately $10.0 million remained available for future repurchases under the program. On November 3, 2026, our board of directors approved a regular quarterly dividend of $0.47 per share payable on or about November 27, 2026, to stockholders of record as of November 19, 2026. Alan Yu outlined the initiatives that we are implementing to support our long-term growth and enhance profitability in the quarters ahead while navigating significant pressure from resin prices and oil prices. Against this backdrop, I will provide an update to our guidance.
For the 2026 fourth quarter, we expect net sales to grow by 9%-11% from the prior year quarter. We expect gross margin for the 2026 fourth quarter to be within 33%-35% and adjusted EBITDA margin to be in the high single digits. For the full year of 2026, we expect net sales to grow by 9%-11% over the prior year. We expect gross margin for the full year 2026 to be between 39% and 41% and adjusted EBITDA margin to be in the mid-teens. Both margin expectations include IEEPA tariff refunds recorded during the first half of 2026. Alan Yu and I now will be happy to answer your questions, and I will turn the call back to the operator.
Thank you. Quick reminder before we start the Q&A. If you would like to ask a question, please press star and number 1 on your telephone keypad to raise your hand and enter the queue. If you would like to withdraw your question, simply press star one again. We would like to advise that you pick up your handset when asking for optimal sound quality, and if you are muted locally, please remember to unmute your device. We will take our first question from Ryan Meyers from Lake Street Capital Markets. Please go ahead.
Hey, guys. Hey, guys. Thanks for taking my question. First one for me, can you just walk us through what you saw on the revenue side of the business during the quarter and where the delta was for the growth rate, where it actually came in at versus where you guys had guided to?
Sure. For the third quarter, we missed it for revenue by $2.5 million. Fundamentally, one thing is we expected some of the chain accounts to start pulling the orders. They have been delaying for testing purposes, so they will be pushed forward into the fourth quarter. That is why we are looking at guiding the fourth quarter to be in the 9%-11%, because they were supposed to take in the third quarter, they moved toward in the fourth quarter. At the same time, we have been adding additional new chain account that has signed up to start in the first quarter of 2027. So we will be ramping up inventory in the fourth quarter for them to start taking in the first quarter.
One of the common practice for the chain account is, even though they committed to buying from us, pull from us, they have to deplete their inventory from their previous vendors. So often that kind of pushes us away in terms of guidance.
Okay, makes sense. Thinking about where gross margin came in at, a little bit below the prior guidance, can you just break out how much of that was driven by the resin costs versus ocean freight versus domestic shipping, and if there was any other factors, and then how we should think about the impacts there in the rest of this year, and then maybe what cost pressures you think could persist into 2027?
I can give a kind of an idea on the ocean freight side first. Ocean freight, our contracted rate is about $2,500 that we signed in the second quarter. That was supposed to start on May 1st. But during the third quarter of the year, because of oil price increase and the Iran war issues, the carrier has been raising their peak season surcharge, adding bunker fees and additional fees, and shorting on the containers that we have to pull additional containers not from the contractor, there is traditional contract. So, our rate have been basically averaging about $4,500-$6,000 a containers. We were expecting about $3,500 based on normal peak season surcharge. Normally, these containers supposed to, the peak season is for a couple months only, and this year, they extended even longer period of time.
Also, carriers then removed peak season and the bunker, it added additional fees, claiming that the Iran war has raised the price of the oil, gas, and delaying the shipment. There's an over-demand. I mean, we're fortunate paying $4,500-$6,000. We're seeing other non-contracted people paying, our competitor have been paying $7,000-$10,000 for the East Coast. For us, we're happy to competitive on the ocean freight compared to other people. Now, looking forward at the going forward, we're seeing that the containers cost did not reduce during the month of October. It kind of slowly dropped a little bit, but we're hearing that the costs should be coming down in the fourth quarter, the last month, December of this year.
As yesterday, we knew that the midterm election was over, and a lot of these carriers are looking to reduce the. Looking like they will reduce the bunker fees and peak season earlier. We're waiting to see when they will start.
Okay, got it. Thank you for taking my question.
Thank you. Our next question comes from the line of George Staphos from Bank of America. Please go ahead.
Hi, everyone. Good evening. Thanks for taking my question. Congratulations on the progress. I guess my first question, Alan, to the extent that you would have a view on this two days after the fact, does the election outcome change what you think the buying preferences might be over the next year, and how are you positioned for it, and do you need to worry at all, or do your customers have to worry at all? Does it mean the likelihood of more fiber versus plastic? How would you have us think about that to the extent that you might have a view? Second question, retail was down 18%. You might have mentioned in your remarks, and I missed it, but what was driving that? The pipeline, you talk about adding the new retail outlets and you having new products.
Help us understand how that might add to your revenue base for 2027.
Sure, George. Now, first to go to your question after the election. Well, with the election, first of all, originally that we were wondering if the Iran war was going to continue because there was threat from the President that after the election, he was going to go all out with the war and bomb Iran, which we would expect the oil price to go even higher. That will basically raise the price of all the resin and cost. We actually, in the third quarter, we did not actually take any step into raising prices to our customer, passing the cost to our customer. We were anticipating the war to end because every time there's a peace talk, I'm sure you heard the peace talk during the third quarter, that it was going to end, it was going to end.
We thought that it was going to end, but it didn't. After the election, it seems like the war's going to end. Right now, but we did not account for the war to be ended a week ago. We actually made a pricing pre-announcement in October. We added a few surcharges to kind of offset some of the costs on delivery. November, we actually announced a price increase, which we started two days ago, a price increase across the board for most of our clients, except for some chain accounts. Some chain accounts, we did add a price increase.
We also, just last Friday, we announced another price increase, a bigger price increase, January 1st of 2027, 3%-13% price increase, because we feel that we can't rely on the fact that the war's going to be over, that the resin cost is going to come down, the cost of the delivery. I mean, one key thing that impacted our margin is online shipping. We use UPS for online shipping. Actually, it was FedEx. We use FedEx for online shipping. They have a few surcharges that go up and down. With the diesel price going up, the fuel surcharge went up as much as 40%.
We're paying more, the more we sell online, we're paying more, but we can't charge this, pass on this to online customer because a lot of these are they prepay online orders or we actually have a fee to it. With the anticipation now that the war is going to end and the gas prices come down earlier in the fourth quarters, we feel that with our price increase and the decrease in the diesel prices and delivery costs, that is definitely going to help our margin to normalize. We see not our margins deteriorate even further down. I feel that with the election, the midterm election, the result is going to have a favorable effect on the cost of the oil prices. That's one. Second,
with the Democratic Party winning the election, there will be most likely, the states will be pushing more further into compostable, more biodegradable products, eco-friendly items, which we have been gaining traction in terms of the bagasse product, the fiber product, and also the paper product. As I mentioned earlier in our calls, that we have a few additional pipeline. Most of these additional pipeline are related to the fiber product and the paper-related product. Some are plastic cups, but mostly are the fiber products that we wanted to push forward. We feel that in 2027, our fiber paper growth can grow as much as double. That's how we feel for the 2027 year. The margins are actually a little bit higher on the fiber side, because our competitors have been enjoying a higher margin.
As we come in, even though we're being competitive, we're still seeing a better margin than selling the traditional paper plastic cup.
Okay.
Does that answer the two of your questions?
Alan, that's great. I just want to ask just a point of clarification. I think you said your fiber paper sales can double?
Yes
double digit. You expect it would double.
Double
Can you give us rough sizing? Is paper half your portfolio, 5% of your portfolio? Just size it relative to the whole of Karat Packaging.
Right now, currently, basically, we have a revenue in terms of calculating the bagasse sales monthly, it's around $850,000. So it's not a huge. We don't have a big base of the fiber products line. Now, doubling that will be $1.6 million-$1.7 million total in revenue per month, basically looking at that. Our paper shopping bag business, I think Jian might have a better idea in terms of what is our current paper shopping bag in terms of winning additional, because on our pipeline, we're seeing more and more paper companies coming to us for the paper shopping bag, mainly chain account. So when we mention about the four pipeline, five pipeline, these are all national chain accounts that we're converting into the fiber and also paper product. That's why we're seeing, we are more confident in terms of 2027.
Actually, this election is going to be, and also this war, the ending of the war, and also recently, there will be a shortage, a major shortage of the product that I'm seeing just as bad as 2022 right now, for the next couple months.
Got it.
The inventory-wise. Yeah.
Of everything or just the paper?
Everything.
Okay.
Because of the container. One of the way that the shipping company have been able to raise their prices and gouge all these importers is by reducing shipping space. They cancel almost 40% of the shipping coming to North America, so they can create a kind of a shortage and raise their price. Container coming out of Indonesia, most of the importer can get 50% out of the 100%, 550 out of 100 containers they want. Out of Vietnam right now, they can probably get 30 containers out of 100 containers they need. Fortunately, we have been more of the experience in terms of dealing with the situation, so we are getting around 70%-80% what we need for our product. We will at least have product in the warehouse. But we have been seeing shortages. We have been shorting customers.
I mean, we try to fulfill as much as we can, but during the latter part of the third quarter, we have started shorting customers, and the fourth quarter, we are seeing shortages. That is why the price increase is necessary.
Understood. I want to turn it over to the others, to be fair. But just on the last question, just on retail being down 18%, what was driving that? Thanks, Alan.
No problem. Jian, can you answer that question?
Yeah, sure.
I know that online sales is up, but the retail side down 18%, and I wasn't aware of that.
Yeah. Retail, sure, I'll take that question. Hi, George. On the retail side.
Hey, Jian.
The decline was primarily in the logistics services. That is a really small piece of our revenue stream, as we have our own fleet provide logistics services to some of our customers. So almost the entire amount of the decline in the retail channel is logistics sales revenue.
Okay. I will turn it over. Thank you very much.
Sure.
Thank you. Our next question comes from the line of Michael Francis from William Blair. Please go ahead.
Hi, Alan, Jian. Thanks for the questions. This is Mike on for Ryan. I wanted to start with the new chain accounts. Can we get a sense how quickly it takes those to ramp from the first shipment to sort of a full bore?
Some of these chain accounts, they will actually do a regional test and then full-blown. The majority of the chain that we deal with, they would actually start when we have all the inventory available to ship in all of our distribution centers. What we normally do with the chain is, they have, for instance, example, a chain with 500 stores, they need us to ship to eight of their different locations, the DCs. We have to put the product into California, Texas, South Carolina, or Washington. A lot of time, we get our product into California, then we transfer them into Texas and other places. At the same time, we ship directly to overseas into Washington and New Jersey and South Carolina.
To us, it just wraps up. First, we have to tell them we have the inventory, approximately when, and when will they be depleted, the inventory from the previous vendor. Sometimes they are accurate, sometimes they are a little bit off. Sometimes the previous vendor would tell them, hey, they found extra one month of inventory, so they ask us to wait for an extra month. Normally, it will be 90 days to start shipping for the first shipment into the DCs if basically everything is okay.
Okay. On the gross margin side, you gave the drivers, and it seems like the container rates is a big piece, but what were the things that caught you off guard the most there? As we think about 2027, you talked a little bit about what recovers, but what do you think might be the first sign of a recovery if that starts to improve?
The resin costs increased the most. In most years, most cases, resin cost, the raw material costs spike up for a couple months, they come back down. This year, we anticipated, everybody, not just ourself, anticipated the war to be ended quickly, no more than three months. This war has started since March, and basically, it did not end until the day of midterm election. That part of it was the biggest part that caught us off guard, because when we thought that the war end, the oil price would come down sharply, as well as the raw material. That is one thing. Also, with the war going on, the oil prices continue to rise, with the diesel price going beyond $6.50, $7.50 per gallon, our delivery costs went up. Most of major, majority of our contracts are deliver price.
We actually added the cost of the delivery into the product itself. When the oil price is high, we have to absorb that cost. Once we began realize this war is not ending, we finally announced a price increase and fuel surcharge in October 1st, November 1st. That is where we see that we cannot rely on what we are hearing from the government that the war is ending. Basically, we wanted to help our customer to see that if this is going to end, we would not have to raise the price. It was to a point that we had to raise our prices for our customer.
Initially, we raised a nominal number basically on October and a different number in November, but then we just made an announcement that we have to go even higher in January 1st, because now it is not only the oil prices is causing the price to go up, the disruption, the ocean freight is going to cause a disruption in the supply chain throughout, not just us, for every importer, manufacturer that purchase from overseas in Asia is going to see a major supply chain disruption in the upcoming months. We are prepared for it, basically. I am sure that we will be benefiting additional revenue. At the same time, with us raising the prices, our customer is not going to be complaining because he cannot find product out there in the market in the next two months.
Okay. Last one for me. For the chain accounts you are winning, is there a difference in the profitability of those and some of your existing business or sort of your overall business profile?
Well, the chain account likes to have the stability in prices. It is more of a kind of a business relationship that if we can absorb the price cost, but passing the chain price mainly on a yearly basis, unless there is a major issue. In this case, we did kind of tell the chain that, "Hey, the war is more like a force majeure situation." We did increase a nominal increase in the fourth quarter, but latter part of the third quarter starting in some chain, some other chain in the first part of the fourth quarter. Other chains, we made an announcement that first month of the year, January 1st, is when their price increase take place, because we know that now that basically the raw material might not come back down to normalization anytime soon.
The chain understood, because they know they themselves are getting the price increase notice from every vendor out there, from their food supplier, from the distribution center that help them distribute the product to the store, like Sysco and US Foods. Everyone is putting a fuel surcharge, not 5%, but more like 15%-20% fuel surcharge on top of the normal delivery fees. It has become a norm that if you do not raise the price, you are just taking a hit on the margin side. We are taking action in terms of protecting our margin in the fourth quarter and first quarter ongoing.
On that, I just wanted to also add a couple of data points just maybe to help us quantify thinking about really the pressure on the margin side. I know we talked about, Alan talked about the raising price, the ocean freight. Just some additional data point here is- Over the past couple of years, our average product cost as a percentage of total net sales is about 47%. That is an average. Q3 2026, we were at just a little over 50%. Obviously, just the majority of our product cost is our imported finished goods, so very closely correlated to resin price. On the ocean freight, our average is about 11% over the past couple of years. Q3 2026, we were at 14.2. Just wanted to add some data points there.
I know Alan also talked about the price increases that we implemented in Q3, sorry, in Q4, as well as the increases we are planning to implement in Q1 2027 to help offset some of the pressure that we are facing on the margin side.
Okay. Very helpful. I'll pass it on.
Thank you.
Thank you. We have reached the end of the Q&A session. I will now turn the call back over to Alan Yu for closing remarks.
Thank you, operator, and thanks to everyone for joining us today. We're encouraged by the positive sales momentum and geographic expansion. We remain focused on executing our growth strategy and look forward to keeping you updated on our continued progress. Have a nice day.
The meeting is now concluded. Thank you all for joining, and you may now disconnect.