High Risk of Covenant Breach Signals Need for Equity Capital Raise; Critical Questions Remain Unaddressed
Prescience Point has published a follow-up report on Boulder Brands’ (Nasdaq: BDBD), consisting of a deep-dive look at the company's Q4'2012 results and management's 2013 guidance. In short, the story does not add up and we expose the red flag components of its missing pieces.
With the stock having fallen 28% since we initiated the company at Strong Sell on February 26th -- despite the company reporting that it, “Delivers 35% Net Sales Growth & 15% Organic Net Sales Growth in the (4th) Quarter,” and “Increases 2013 Outlook” -- we suspect that the market has already seen through most of the charades. Still, many fresh, value-added insights are hidden deep below the surface and we have pulled the puzzle together with our own observations.
We are downgrading our price target from $4.00 to $3.00 on the risks of a convent breach and likelihood of an imminent, highly dilutive equity capital raise.
This email summarizes key points elaborated upon in our complete report, available for download HERE.
Report highlights include:
Most of the major concerns addressed in our initial report have yet to be addressed by management, and as a result we believe the risk profile of Boulder’s equity remains elevated, and not priced-in at Boulder’s current valuation. The gravest concern is the patent expiration in 2015, which is clearly on management’s mind, as illustrated by a dramatic increase in Boulder’s patent defense costs in 2012. Furthermore, concerns about the company’s frequent shifts in revenue recognition, and specifically in sales discounts and allowances, remain unresolved. A recently released comment letter from the SEC also indicates that Boulder’s revenue segments could be on the regulator’s radar. In light of our observation that the segment reorganization is obscuring the growth decline in Earth Balance, we believe the SEC comments have real merit.
We believe the company’s reported cash flow from operations has declined in quality, and that its sources of cash flow indicate it may have presold product at aggressively discounted prices to bolster the appearance of financial solvency, as conveyed by its 2012 financial statements. The majority of the company’s 2012 cash flows came from a sudden and large reversal in the Accrued Expenses and Accounts Payable account; it was also largely bumped due to an increase in Accrued Trade Spend and the mysterious appearance of a Deferred Revenue account (for the first time in the company’s history). We believe that by taking on deferred revenue, the company may have aggressively discounted its products to generate cash and pay down debt in Q4, in an effort to bolster the appearance of financial solvency as conveyed by its year-end financial statements. We believe these clues indicate further troubles lie ahead for Boulder.
Boulder’s guidance for an increase in its CapEx program puts the company right on the verge of violating a debt covenant that limits its CapEx spend, indicating a high likelihood the company will blind-side investors with a dilutive equity raise. In summary, Boulder has guided for 2013 CapEx to be $27 - 29m. It is impossible for the company to spend this amount without delivering on its cash flow guidance, which we believe an outlandish probability. Should it not, we believe it will be in breach of a financial covenant that limits the company’s CapEx spend. The company does not have the resources to deal with an Event of Default, which would likely result in an acceleration of any amounts due. An equity raise would enable the company to pay down a portion of its loan and fully fund its CapEx program; and, a better leverage profile (subsequent to a raise) would allow Boulder to refinance any remaining amount owed to its creditors. A dilutive equity raise appears to be management’s only option should it follow through on its CapEx guidance.
Sell-side analysts are still too bullish, with 2013 earnings estimates that have significant room to drop. It appears that analysts rushed to Boulder’s defense, potentially without even reviewing the company’s annual report. We believe they are more focused on the potential fee pool from a potential equity deal, than on engaging in a deep-dive analysis of Boulder’s financial accounts and looking into any of the potentially crippling risk factors we have identified. However, we applaud several analysts for challenging management on the topic of slotting fees for 2013, which are set to rise considerably, and could pressure Boulder’s ability to convert its incremental revenue boost into hard profits.
Prescience Point downgrades its target price from $4.00 to $3.00. We believe an analysis of the recent quarterly earnings release, conference call, and annual report validates our thesis that there is more to Boulder than meets the eye; the company appears to be experiencing financial struggles as it contends with increasingly saturated product markets and an increasingly price competitive environment. At the current stock price Boulder continues to trade at an unjustified premium to its food producing peers, indicating that investors have yet to price in the multitude of risk factors likely to lead to a future that looks far different than that conveyed by the sell-side pitch. As discussed, we believe management’s ambitious consolidation project and back-half loaded 2013 sales guidance do nothing more than punt future disappoints into the next couple quarters. In the absence of an equity raise, we fear a terminal price target of zero as an increasingly possible outcome.