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Author: DCWD40 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 598  
Subject: Looking through the Q2 report... Date: 5/5/2012 5:53 AM
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There are a number of interesting comments:

Approximately 290 basis points due to the combination of under-utilization of our current manufacturing base as a result of lower-than-expected K-Cup® pack demand and the resulting efforts to reduce K-Cup® pack inventories which together, increased average labor and overhead costs per K-Cup® pack.

Underutilization of the "manufacturing base" once again raises the question why the company is spending so much money on capital expenses. The company's lower target for FY 2012 capital spending range is $525 million (which, after two quarters, is probably mostly spent). That works out to spending of $3.38 per share for what? The brewers are getting competition so more brewer capacity is not needed. Demand for K-cups isn't hitting target so it too isn't a driving force. The reason the spending will continue is probably because the company has already signed the contracts for the work...

If any capital spending can be delayed, it should be used to reduce the company's $441.2 million in debt. It is time to turn this company from a massive growth story to a cash cow -- and quickly.

GAAP operating margin of 16.9% of net sales in the second quarter of fiscal year 2012 decreased from 18.5% in the prior year period as a result of the lower gross margin.

If the company would stop spending money to grow like a weed and try to wring the last cent out of every dollar taken in, margins might be much higher than this company anticipates. Those margins, on strong sales growth in the 25% range, could produce results that would make today's stock price a bargain.

...a $141.6 million, or 66% increase in finished goods inventory with approximately 54% of the increase due to Keurig®brewers on hand.

Brewer sales for the entire second quarter were $140.2 million. Having three months of inventory, and spending dollars building more manufacturing capacity, just doesn't make sense. GMCR needs a turn-around artist to come in and run this company for the shareholders benefit.

Fiscal year 2012 non-GAAP earnings per diluted share in a range of $2.40 to $2.50 per diluted share, excluding any acquisition-related transaction expenses; legal and accounting expenses related to the SEC inquiry and the Company’s pending litigation; amortization of identifiable intangibles related to the Company’s acquisitions; and any gain from the sale of the Filterfresh business.

Q3 and Q4 are expected to produce a little less than two-times the profit of the first two quarters. This doesn't make sense. The highest brewer sales, but the lowest profit margin part of the business, peaks around Christmas (Q1). So, if K-cup growth compounds based on brewers in use, and the K-cups are like the razor blade model, then profitability should rise each quarter because the installed base increases every quarter. There is Harvard case study material here. When gravity is said to not work (K-cups are not the driver of profits), that just can't ever be true.

It would help if the company showed operating profit by revenue source. But, it doesn't and this is why this company needs a new executive team.

Also, anyone care to guess why, if there are three months of brewers in stock, why the company should have the expense of building any? I know, the new Vue is better. But, they should be milking inventory to be building up Q3 results. Correct? When your stock is tanking because people don't understand the model, you do everything you can to surprise to the upside. You get your house in order. At least that is what an executive team would do if they wanted to make money and gain respect.

From the conference call:

We also had lower than anticipated portion pack sales in the quarter. We think that the unseasonably warm weather experienced in many parts of the U.S. adversely affected sales of our seasonal beverages such as hot cocoa and hot apple cider. While our sales of seasonal varieties were up over last year, they were not up to the extent we anticipated.

Since the company doesn't break out sales by product category, its hard to know what hot cocoa and hot apple cider sales were in colder 2011 compared to warmer 2012. My guess is the numbers doesn't bolster the argument that people didn't want hot drinks.

Did it get cold this winter? Yes! Even with March eight degrees warmer than last year, it was still cold every morning and every night in the North. If people wanted cocoa to warm up, they still would have done that.

http://seekingalpha.com/article/553721-green-mountain-coffee...

...due to a higher write down of finished product and anticipated obsolescence of raw material inventory due to lower than anticipated sales of seasonal and certain coffee products.

Raw material not being used makes so little sense. If they are building inventory of lower volume product, which then sells poorly, there is probably an on-line Apollo College course in materials management that someone could take. While you do not want finished goods to go bad because of shelf life problems, having any raw materials go bad isn't the kind of problem you expect from a company that was telling shareholders at Christmas time that they could meet demand in certain products.

Despite the lower portion pack and to a lesser degree, brewer sales in the quarter, we were pleased to have demonstrated good expense control and to have delivered $132.7 million in free cash flow in the quarter.

The free cash flow is nice but I'd hardly say that expense control is demonstrated by that fact...

Consequently at the end of our second quarter portion pack forward inventory of approximately six weeks is in line with our expectations.

Why is this so good? It just means that finished goods is aging on the shelf for weeks before it goes to customers. If I was buying K-cups, I'd like to have the coffee that has been sitting on the shelf the shortest amount of time. Think about it...

Heading into mom’s, dad’s and grad’s gift giving season, however, we’re not concerned with brewer inventory levels.

Sad. That is cash sitting on the shelf. There is really a need for some materials and inventory management classes at this company. What is the CFO thinking? I really do not understand...

If you remember we noted for our portion packs for April we had three main drivers of exceptionally strong growth in Q3 of last year.

First they say that there are 10.8 million to 12.2 million more brewers in homes this year than last. Then they want shareholders to believe that K-cup sales are going to have a tough comparison because Q3 last year was so strong. Houston, we have a problem!!! This really doesn't add up.

And then the coffee costs, we have locked in our coffee cost into Q1 of next year, and I think we’ve had some moderation in the cost but primarily in the fourth quarter.

More great news. Coffee prices, which have been falling for 8 months, are locked in into next year. Look at the chart:

http://finviz.com/futures_charts.ashx?t=KC

About the Vue brewer:

I think we always do have to keep in mind that it’s a very premium priced brewer for this year priced at $249.00 and that in and of itself is probably why we won’t see the type of huge brewer sale that you might see at a more lower price point. That’s why it would not be material to this year.

Just what the company needed. A high priced, low volume product! I'd love the see the pay-back details on this capital expenditure.

And I think from an earnings standpoint we believe we’ll be growing our non-GAAP EPS at approximately the same rate as sales for the year.

Once again the razor blade model isn't working. As the number of installed brewers increases, profitability should increase faster than revenue because the high-margin K-cups are being ramped-up to be loaded into those brewers.

I can’t comment on the stock price. We are running this business for the long term.

Underutilized capacity isn't a result of long-term planning. It is indicative of not meeting long-term goals. So is tossing out raw materials. The message and the results don't match.

I would say we’re not losing control, but I would say it’s gotten even increasingly more difficult and I would point to a few factors.

They are losing control of inventory. Capital spending looks way too high. Manufacturing capacity is underutilized.

I own this stock because the K-cup has revolutionized the home coffee market. What concerns me is that the company talks about its mass scale yet doesn't seem to know how to master it.

For now, I will wait and see what happens. To sell now begs the question of what Q3 will bring. If the razor blade model works, the free cash flow from the continued rise in K-cup sales should surprise the executives -- or the business model is broken in a way that isn't being disclosed.

Just one guy's opinion...

W.D.
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