LFCR

Business Context and Reporting Period

Company: Landec Corporation (filing as Landec Corporation, formerly associated with Lifecore Biomedical, Inc. via acquisition).
Filing Type: Form 10-K Annual Report.
Period Ended: May 29, 2011.
Overview: Landec designs, develops, and sells polymer products for food, agriculture, and medical devices. Following the acquisition of Lifecore Biomedical, Inc. in April 2010, the Company operates four core segments: Food Products Technology (Apio), Food Export (Cal-Ex), Hyaluronan-based Biomaterials (Lifecore), and Technology Licensing.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 16% to $276.7 million, driven primarily by the full-year inclusion of the Lifecore acquisition (Hyaluronan segment) which contributed $32.5 million in revenue compared to $1.5 million in the prior year.
• Segment Performance:
  • Food Products Technology: Revenues remained flat at $175.7 million. Gross profit declined 16% due to a $5.0 million negative impact from weather-related produce shortages in California.
  • Food Export: Revenues increased 12% to $61.7 million due to higher export volumes, though gross margin compressed to 6.3% from 7.1% due to product mix changes.
  • Technology Licensing: Revenues were flat at $6.9 million. The segment recorded a $4.8 million goodwill impairment charge due to uncertainty regarding the Monsanto license agreement.
• Operating Expenses: Total operating expenses increased 50% to $38.7 million. This includes a 113% increase in R&D expenses (driven by Lifecore integration and new product development) and a 39% increase in SG&A expenses.
• Goodwill Impairment: The Company wrote off $4.8 million of goodwill associated with the Technology Licensing reporting unit.

Guidance, Outlook, Risks, and Unusual Items

• Outlook: Management believes cash from operations and existing cash reserves are sufficient to finance requirements for the next 12 months. The Company anticipates continued significant R&D expenditures to maintain competitive positioning.
• Unusual Items:
  • Weather Impact: Cold and wet weather in California reduced gross profit by approximately $5.0 million in the Food Products Technology segment.
  • Goodwill Write-off: A $4.8 million non-cash charge was recorded for the Technology Licensing segment due to the uncertainty of the Monsanto purchase option and projected unprofitability of Landec Ag absent the relationship.
• Risks:
  • Customer Concentration: Top five customers accounted for 44% of revenues; Costco Wholesale Corp. alone accounted for 16%.
  • Supply Chain: Dependence on single-source suppliers for raw materials and vulnerability to weather conditions affecting produce supply.
  • Regulatory: Significant reliance on FDA approvals for medical device products (Lifecore) and potential regulatory changes for food packaging.
  • Debt Covenants: The Company is subject to restrictive covenants on its $20 million credit facility related to the Lifecore acquisition, including minimum net income and quick ratio requirements.

Investor Verification Checklist

• Weather Sensitivity: Verify the extent of ongoing weather impacts on the Apio produce sourcing and potential future margin compression.
• Monsanto Agreement: Monitor the status of the Monsanto license agreement and the December 2011 decision point regarding the purchase option or termination fee.
• Debt Compliance: Confirm continued compliance with the Wells Fargo credit facility covenants, specifically the minimum net income requirements for the Lifecore subsidiary.
• Customer Concentration: Assess the risk associated with the top customer (Costco) representing 16% of total revenue.
• Lifecore Integration: Evaluate the performance of the Hyaluronan segment against the earn-out targets (up to $10 million contingent consideration) for calendar years 2011 and 2012.