Freshpet, Inc. — Q2 2015 Form 10-Q
Business and period: Freshpet manufactures and markets refrigerated natural pet food and treats in the U.S. and Canada. This unaudited filing covers the quarter and six months ended June 30, 2015, compared with the same 2014 periods.
Financial performance
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net sales | $28.4m | $20.4m | $55.4m | $39.7m |
| Gross profit / margin | $13.7m / 48% | $10.1m / 49% | $26.9m / 49% | $19.4m / 49% |
| SG&A | $15.7m | $13.4m | $31.5m | $25.0m |
| Operating loss | $(2.0)m | $(3.3)m | $(4.6)m | $(5.6)m |
| Net loss | $(2.2)m | $(6.3)m | $(4.8)m | $(11.4)m |
| Operating cash flow | Not reported quarterly | Not reported quarterly | $2.1m | $(4.4)m |
- Q2 sales rose 39% year over year; excluding Freshpet Baked test sales of $1.0m, management reported growth of 34%. Six-month sales rose 39%; Baked contributed $1.5m, with growth excluding it reported as 36%.
- Grocery, mass and club generated 76% of sales; Pet Specialty, Natural and Other generated 24%. Freshpet Fridges totaled 14,354 stores, up 14% from a year earlier.
- Q2 gross margin declined about 120 basis points. Management attributed pressure partly to stronger-than-expected initial sales of newer products, which carried lower margins. Six-month gross margin was roughly flat.
- SG&A increased in dollars but declined as a share of sales: 55% versus 66% in Q2, and 57% versus 63% for the six-month period. Increases included share-based compensation, freight, public-company costs, refrigerator repairs and secondary-offering expenses.
- Adjusted EBITDA, a non-GAAP measure, was $2.8m in Q2 and $4.8m for six months, versus $(0.4)m and $0.4m, respectively. The measure excludes specified costs and is not a substitute for GAAP results or cash flow.
Financial position and liquidity
- At June 30, cash and cash equivalents were $16.0m, short-term investments $7.5m, and working capital $28.0m, down from $41.2m at year-end 2014. Total assets were $112.9m; stockholders’ equity was $102.5m.
- No debt was outstanding; $40m was available under credit facilities, and the company reported compliance with covenants. The facilities are secured by substantially all assets and carry variable interest rates if drawn.
- Six-month investing cash outflow was $22.5m, including $7.5m invested in certificates of deposit, $5.0m for adjacent land and a building, and manufacturing, refrigerator and other capital spending. Cash declined by $20.2m from year-end.
- Six-month operating cash flow turned positive at $2.1m, compared with a $4.4m use in 2014. The filing cites noncash items, including $3.7m of share-based compensation and $3.6m of depreciation and amortization, as important to the reconciliation from net loss.
Changes, outlook and risks
- Freshpet began expanding its Bethlehem manufacturing facility. It expects to spend approximately $30m–$32m on the capacity expansion during 2015–2016; $5.3m was recorded in the first half of 2015. Management expects at least a 130% increase in facility production capacity and anticipates improved margins as production scales.
- The company acquired adjacent property for $5.0m; the previous owner may occupy it through no later than April 1, 2016. Freshpet Baked, a non-refrigerated product, was being tested at a select group of retailers after initial results prompted expansion of the test.
- On May 5, 2015, selling stockholders sold 6.1m shares in a secondary offering for approximately $131m gross. Freshpet received no proceeds and incurred approximately $0.6m in related fees.
- Net losses improved year over year partly because 2014 included debt-guarantee fees and higher interest expense, and because preferred-stock dividends affected 2014 loss attributable to common stockholders. Per-share comparisons are also affected by the IPO-related change in share count.
- Management said available liquidity, expected operating cash flow and borrowing capacity should fund foreseeable needs, but cautioned that growth, cash generation, capital requirements and access to financing remain uncertain. Risks cited include manufacturing capacity and expansion execution, customer loss, product safety or regulatory issues, marketing effectiveness, input-cost volatility, and dependence on major customers and suppliers.
- One distributor accounted for 22% of Q2 sales; one customer represented 10%. Three vendors supplied about 97% of treat finished goods in Q2. These concentrations could expose the business to disruption.
- Management reported effective disclosure controls and no material change in internal control over financial reporting. Ordinary-course legal claims were disclosed, but no material pending proceeding was identified; no material risk-factor changes from the 2014 Form 10-K were reported.
Important facts for investors to verify
- Whether sales growth and Freshpet Fridge expansion continue, and how much growth is attributable to the Freshpet Baked test.
- Whether the capacity project stays within the stated budget and schedule, and whether the expected capacity increase and margin improvements materialize.
- Cash use, operating cash generation, and remaining liquidity as planned capital spending proceeds; confirm the terms and availability of the $40m facilities.
- Margin trends and the effects of product mix, ingredient costs, freight, and scale efficiencies.
- Customer and supplier concentration, product/regulatory exposure, and the consequences of any disruption to manufacturing or distribution.
- The filing’s MD&A contains apparent transcription inconsistencies in descriptions of facility amounts; the financial statements and debt note state a $10m revolver plus $30m capex commitment, with no debt outstanding at June 30, 2015.