Freshpet, Inc. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017; unaudited consolidated results. Freshpet manufactures and markets fresh pet food through retail channels, including its branded refrigerated displays. It reported 17,357 Freshpet Fridge locations at quarter-end, up 9.9% from a year earlier.
Financial performance
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net sales | $40.0 million | $33.0 million | $74.5 million | $64.5 million |
| Gross profit | $18.2 million | $14.9 million | $34.0 million | $29.8 million |
| Gross margin | 45.5% | 45.2% | 45.6% | 46.2% |
| Operating loss | $(1.8) million | $(3.0) million | $(4.6) million | $(4.6) million |
| Net loss | $(2.7) million | $(3.2) million | $(5.5) million | $(5.0) million |
| Loss per share, diluted | $(0.08) | $(0.10) | $(0.16) | $(0.15) |
| Adjusted EBITDA (non-GAAP) | $3.2 million | $3.5 million | $5.1 million | $5.9 million |
Q2 sales increased 21%, led by Grocery, Mass and Club refrigerated products; Pet Specialty, Natural and Other also grew, while Baked product sales declined. First-half sales increased 16%, principally from Grocery, Mass and Club, partly offset by lower Pet Specialty and Baked sales. Q2 gross margin improved 30 basis points, while first-half margin fell 60 basis points, in part reflecting higher depreciation from the Freshpet Kitchens expansion. Adjusted EBITDA is a company-defined non-GAAP measure and should not be viewed as a substitute for GAAP results or cash flow.
SG&A rose 12% in both Q2 and the first half, including higher media spending and incremental operating costs. As a share of sales, reported SG&A decreased year over year in both periods. First-half net loss increased 10%, with increased media and warrant revaluation expense partly offset by sales growth.
Cash flow, liquidity and debt
- First-half operating cash flow was a use of $0.1 million, compared with $3.4 million provided in 2016. Working-capital movements, including growth in receivables and inventory, were significant factors.
- Investing cash outflow was $7.2 million, primarily capital expenditures for the Kitchens facility, refrigerators and other capital needs; this was below the $18.0 million outflow in first-half 2016.
- Financing activities provided $4.0 million, including $2.0 million of borrowings and $3.5 million from option exercises, partly offset by $1.5 million of debt repayments.
- Cash declined from $3.9 million at year-end 2016 to $0.7 million at June 30, 2017. Working capital was approximately $0.5 million. The company reported $7.5 million outstanding under its credit facilities, $28.0 million of availability, and compliance with all loan covenants.
- Credit facilities bear variable interest rates and are secured by substantially all company assets. Management said available cash, expected operating cash flow and planned borrowing capacity should fund foreseeable needs, but cautioned that funding depends on revenue, cash generation and cost and working-capital management.
Outlook, risks and other notable matters
- No specific revenue, earnings or margin guidance is provided. Management expects continued growth from increased refrigerator penetration and sales velocity, and is investing in marketing through its “Feed the Growth” initiative. It expects near-term SG&A as a percentage of sales not to change significantly.
- The company says increased use of the Kitchens expansion could help leverage fixed costs over time. Input costs, particularly commodities, may pressure margins; management says it may respond through pricing or cost controls.
- Other expenses included warrant fair-value remeasurement expense of approximately $0.5 million in Q2 and $0.4 million in the first half, primarily associated with an increase in the stock price. The company also reported a net loss on foreign-currency forward contracts of less than $0.1 million for the first half.
- A securities lawsuit against the company and certain executives and directors seeks investor damages. The company disputes the allegations and intends to defend the case; it cannot estimate a reasonably possible loss range. Ordinary-course claims are also disclosed.
- Approximately 1% of first-half revenue was recognized in the United Kingdom. A 100-basis-point interest-rate change would affect annual interest expense by approximately $0.1 million, according to the filing.
- The company reported effective disclosure controls and no material changes in internal control during the period. It expects to adopt the new revenue standard in fiscal 2018 and is assessing the lease standard, which it expects to put on the balance sheet upon adoption.
Most important facts for investors to verify
- Whether sales and refrigerator-location growth translate into sustained operating improvement, particularly as marketing spending rises.
- Cash consumption, working-capital needs and planned capital expenditures relative to $0.7 million cash and available credit; confirm the borrowing availability and covenant headroom.
- Underlying margin trends, including Kitchens depreciation, production utilization, commodity costs and the distinction between GAAP and adjusted measures.
- Developments in the securities litigation and any resulting financial exposure; the filing provides no estimable loss range.
- Warrant valuation effects, variable-rate debt exposure and the company’s ability to generate sufficient operating cash flow without additional financing.