Business Context and Reporting Period
The filing is Landec Corporation’s Form 10-Q for the fiscal quarter ended August 31, 2014. The provided metadata identifies Lifecore Biomedical, Inc., but the filing registrant is Landec Corporation, which owns Apio, Inc. and Lifecore Biomedical, Inc. Landec operates Food Products Technology, Food Export, and HA-based Biomaterials businesses. The quarter contained 14 weeks versus 13 weeks in the prior comparable quarter, which affects year-over-year comparisons.
Key Financial Metrics
| Metric | Q1 FY2015 | Prior comparable quarter | Change |
|---|---|---|---|
| Revenue | $133.6 million | $109.5 million | 22% |
| Gross profit | $14.2 million | $12.5 million | 13% |
| Gross margin | 10.6% | 11.4% | Down approximately 80 basis points |
| Operating income | $3.5 million | $2.0 million | 79% |
| Operating margin | 2.6% | 1.8% | Improved |
| Net income attributable to common stockholders | $2.4 million | $4.8 million | Down 50% |
| Diluted earnings per share | $0.09 | $0.18 | Down $0.09 |
| Cash flow from operations | $3.9 million | $4.5 million | Down 13% |
Net income declined despite higher revenue and operating income primarily because prior-year other income included a $5.4 million increase in the fair value of the Windset investment, compared with $0.2 million in the current quarter. The effective tax rate increased to 36% from 34%.
- Food Products Technology revenue increased 26% to $100.1 million; gross profit increased 33% to $11.9 million.
- Food Export revenue increased 24% to $26.6 million, while gross profit declined 2% to $1.2 million. Gross margin decreased to 4.5% from 5.6%.
- HA-based Biomaterials revenue declined 21% to $6.8 million; gross profit declined 56% to $1.0 million.
- Cash and cash equivalents were $8.5 million at August 31, 2014, compared with $14.2 million at May 25, 2014.
- Total debt was $40.0 million, including $7.0 million current debt, compared with $34.4 million at May 25, 2014.
- Total current assets were $89.3 million versus $53.4 million of current liabilities, implying current assets of approximately 1.7 times current liabilities.
- Capital expenditures were $4.1 million. Investing cash use also included an $11.0 million additional investment in Windset.
- Windset was carried at a $50.8 million Level 3 fair value, up from $39.6 million at May 25, 2014. The increase included the $11.0 million purchase and a $0.2 million fair-value gain.
Material Changes Versus the Prior Comparable Period
- Apio Food Products Technology benefited from a 28% increase in unit volume, expanded product offerings, favorable mix, and the extra week in the quarter.
- Food Export growth reflected a 9% increase in unit volume and favorable mix toward higher-priced products, but sourcing costs reduced margin.
- Lifecore results weakened because fermentation revenue for ophthalmic products fell 75% following reduced shipments to a major customer. That customer advised that fiscal 2015 orders would be approximately 50% below fiscal 2014 levels.
- Operating income benefited from a $677,000 reversal of accrued long-term incentive compensation after management concluded that the three-year operating-income target was unlikely to be achieved.
- Apio amended its GE Capital revolving facility, increasing capacity from $25 million to $40 million, reducing pricing to LIBOR plus 1.75%, and extending the term to July 2019. Availability was $27.5 million at quarter-end, with no borrowings outstanding.
- Apio borrowed $7.1 million under a new equipment loan at a fixed rate of 3.68% and used $4.1 million for capital expenditures.
- The company did not repurchase shares during the quarter and reported no unregistered equity sales.
Guidance, Outlook, Risks and Unusual Items
Management did not provide specific revenue, earnings, or margin guidance in the filing. Management stated that existing cash, operating cash flow, and available marketable securities are expected to fund operating and capital requirements for at least the next twelve months.
- Results may fluctuate because of seasonality in Apio’s food business and customer ordering patterns at Lifecore.
- The quarter’s 14-week duration is not recurring annually and may overstate reported growth relative to a normal 13-week quarter.
- Lifecore faces material customer concentration and reduced orders from a major ophthalmic customer.
- The top five customers represented 46% of revenue; Costco and Wal-Mart represented 20% and 11%, respectively.
- The Windset valuation is a Level 3 estimate based on discounted cash flows and unobservable assumptions. Management disclosed that a 10% increase in discount rates would reduce estimated value by approximately $1.8 million, while a 10% increase in revenue growth rates would increase value by approximately $4.0 million.
- Debt agreements contain collateral and financial covenants. Apio and Lifecore were in compliance with all financial covenants at quarter-end.
- The company had an interest-rate swap liability with a fair value of $20,000, expiring April 30, 2015.
- Unrecognized tax benefits were approximately $1.1 million. Management did not expect a significant change in the following twelve months.
- The filing reported no legal proceedings, no significant changes to previously disclosed risk factors, and effective disclosure controls.
Important Facts for Investors to Verify
- Confirm that the intended subject is Landec Corporation rather than Lifecore Biomedical, Inc., because the filing registrant is Landec.
- Assess the sustainability of Apio’s revenue growth after adjusting for the one-time extra week and determine whether higher-margin new products continue to improve mix.
- Monitor Lifecore’s recovery prospects and the effect of the major customer’s stated 50% order reduction.
- Reconcile the decline in net income with operating improvement by separately evaluating Windset fair-value gains and other non-operating items.
- Review the $50.8 million Level 3 Windset valuation, including its revenue growth, expense growth, tax, and discount-rate assumptions.
- Evaluate liquidity after the $11.0 million Windset investment, $4.1 million of capital expenditures, and increase in debt.
- Track customer concentration, covenant compliance, debt maturities, and the availability under Apio’s and Lifecore’s revolving facilities.