Freshpet, Inc. — Q3 2014 Form 10-Q
Business context and reporting period. Freshpet manufactures and markets refrigerated natural pet food in the U.S. and Canada. This unaudited filing covers the three and nine months ended September 30, 2014, compared with the same 2013 periods. The results are pre-IPO; Freshpet completed its IPO on November 13, 2014.
Financial performance and position
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Net sales | $22.52m | $16.70m | $62.26m | $45.43m |
| Gross profit / margin | $10.87m / 48% | $7.28m / 44% | $30.24m / 49% | $20.77m / 46% |
| Operating loss | $(1.34)m | $(4.18)m | $(6.97)m | $(10.54)m |
| Net loss | $(9.48)m | $(6.50)m | $(20.89)m | $(16.47)m |
| Net loss attributable to common stockholders | $(12.38)m | $(8.65)m | $(30.64)m | $(22.76)m |
| Net loss per common share, basic and diluted | $(1.19) | $(0.83) | $(2.94) | $(2.19) |
- Q3 sales grew 35%; nine-month sales grew 37%. Store locations carrying Freshpet products increased 26%, from 10,269 to 12,970. Both Grocery and Mass and Pet Specialty, Natural and Other sales increased.
- Operating performance improved: gross margin expanded and operating losses narrowed. Management attributed this to sales growth and lower manufacturing costs per pound after the Bethlehem facility opened, partly offset by higher depreciation and selling, general and administrative costs.
- Net losses nevertheless widened, primarily reflecting the increase in fair-value expense on stockholder debt guarantees: $6.82m in Q3 and $10.46m for nine months. Preferred dividends and accretion further increased losses attributable to common stockholders.
- Nine-month cash used in operations was $3.48m, versus $8.70m in 2013; cash used in investing was $13.25m versus $22.03m, primarily for capital expenditures. Financing provided $16.05m, including $9.5m of additional borrowings and $6.6m from Series C preferred stock. Cash at September 30 was $1.76m.
- At September 30, total assets were $75.26m, total liabilities $118.74m, and stockholders’ deficit $160.97m. Current assets were $14.68m and current liabilities $14.28m; reported working capital was $0.40m. Debt totaled $85.65m, including $84.5m of revolving borrowings. A further $17.60m liability reflected accrued fees on the debt guarantee.
Material changes, outlook and risks
- On November 13, after the quarter, the company completed an IPO of 11,979,167 shares at $15 per share, raising approximately $164.1m net. It redeemed Series B preferred stock for $35m and repaid existing debt and accrued interest. The filing says $90m of IPO proceeds were used to repay indebtedness.
- Also on November 13, Freshpet entered new senior secured facilities: an $18m five-year term loan (drawn at closing), a $10m three-year revolver, and a $12m capex commitment. The revolver may be increased to $20m subject to conditions. These post-quarter transactions materially changed the company’s financing and liquidity position.
- Management said cash, expected operating cash flow and planned borrowing capacity should fund requirements for the foreseeable future, but cautioned that this depends on achieving revenue and cash-flow expectations and managing costs and working capital. No specific revenue or earnings guidance was provided.
- Management expected economies of scale to improve gross margins and reduce SG&A as a share of sales. It also expected $1.5m–$2.0m in annual incremental public-company costs after the IPO. The company extended the estimated useful life of refrigeration equipment from six to nine years, reducing depreciation by an estimated $1.8m in 2014 and $2.0m in 2015.
- Key risks include continuing losses and cash needs, manufacturing capacity and growth execution, variable-rate debt, commodity-price volatility, customer and supplier concentration, and reliance on a growing refrigerated distribution network. Three vendors supplied approximately 52% of raw materials in the first nine months of 2014; two vendors supplied approximately 82% of treats finished goods. The company reported compliance with its existing debt covenants at September 30.
- Q3 MD&A contains an apparent inconsistency in its net-loss-margin comparison: the financial statements imply approximately 42% of sales in 2014 versus 39% in 2013, while one narrative sentence states the reverse. The filing reports no material change in previously disclosed risk factors and no material pending legal proceedings.
Important facts for investors to verify
- Post-IPO cash, net debt, remaining borrowing availability, and the final allocation of IPO proceeds after debt repayment and the Series B redemption.
- Whether revenue growth and store expansion translate into sustained positive operating cash flow and profitability, including the effect of post-IPO public-company costs.
- The continuing effect of guarantee fees, preferred-stock-related obligations, and the conversion or repayment of securities in the IPO transactions.
- Customer, supplier, commodity-cost, and manufacturing-capacity exposures, plus compliance with covenants under the new credit facilities.
- The correct Q3 net-loss-margin comparison, given the inconsistency between the MD&A narrative and the reported financial results.