freshpet (NASDAQ:FRPT) manufactures and sells pet food for dog owners. They are trying to take advantage of the “humanization of pets”. The company goes to market through grocery stores, discount clubs, specialty pet stores and online. Freshpet has one premium valuation, a host of strong competitors and no apparent gap. Brave investors should short the stock at the current valuation of ~70X 2023 adj. EBITDA.
Freshpet went public in 2014 and has since grown revenue from $87M in FY14 to $595M in FY22. To meet this growth, Freshpet spent $861 million in capital from 2014 to 2022. To fund equity capital, they have consistently tapped the capital markets. In the year 2022, Freshpet issued $350 million in equity at $81 per share. The company also made a convertible debt offering, raising $391 million in 2023. Based on how this was structured, it creates a dilutive overhead at $120 per share. Most of the money raised appears to have been spent on manufacturing plants and display refrigerators, as well as advertising. A significant portion of this revenue growth came from price increases. In the second quarter 2023 conference call transcript management stated, “we have now received price increases that reach a cumulative impact of approximately 27% over the past 18 months.” In 3st quarter of 2023, pricing was responsible for 7.5% of the 32.6% increase in revenue the company achieved. Freshpet has achieved strong revenue growth by pouring money into capital, spending on advertising and raising prices for consumers.
At the end of 2022, Freshpet’s management outlined their long-term “Fresh Future” plan. That includes more than tripling revenue to $1.8 billion and achieving adjusted EBITDA margins of 18% in 2027. For reference, 2022 results were $595 million in revenue and $20 million in additions. EBITDA.
This can be difficult to achieve for a number of reasons. The first is that the consumer’s patience for price increases has weakened. As of May 2023, popular dog food brands had prices already raised 45.5% by 2020. As such, it appears that volume will need to drive revenue growth. It will be difficult for volume to bring in income when there is no benefit to feeding your dog fresh food. In fact, calorie density matters more than Freshpet’s marketing claims. According to Dr. Lindsey Bullen, “In terms of being nutritionally superior, fresh pet food diets are not.” So an expensive product that serves no purpose and has a lot of competition will triple revenue while simultaneously increasing adj. EBITDA margin from 3.2% in 2022 to 18% with minimal price increases. That’s an incredibly high bar.
Even if you accept that the company can pull back on these forecasts, you’re paying a high price for 2027 results. If the company has $1.8 billion in revenue and 18% adj. EBITDA margins that will result in adj. EBITDA of $324 million. At an EV of $4.35 billion, you’re paying an Enterprise/adj. EBITDA multiple of 13.4x to EBITDA 2027. Let’s compare this to other pet-related companies.
PetIQ (PETQ) manufactures and distributes pet products such as flea and tick control, medications and heartworm preventatives. They also offer veterinary services. The company reported earnings for the third quarter of 2023 and increased their revenue. EBITDA is forecast at $99M – $103M for 2023. With an enterprise value of $844M, this company does not need financing and trades at a multiple of 8.4x EV/EBITDA. This is 2023 EBITDA, not hypothetical 2027 EBITDA.
Petco Health and Wellness (WOOF) is a company that provides veterinary care, grooming, insurance, pet food and pet supplies. It expects adjusted EBITDA of ~400 million in 2023. Its current enterprise value is $3.6 billion. You can buy stock in Petco at ~9x 2023 EBITDA. This is 2023 EBITDA, not hypothetical 2027 EBITDA.
Will Freshpet be able to reach its 2027 targets? Since selling pet food is a commodity business, let’s examine the competition. Freshpet’s plan is to justify the premium price by convincing potential buyers that Freshpet is better for pet health. This is not true. Another problem is that they are not the only company doing this field. Two competitors that are also trying to reach health-conscious consumers are Farmer’s Dog and Buffalo Blue. Let’s review Google Trends to see which brands are doing a better job of generating awareness.
It is not clear what happened to the Farmer’s Dog in November. What is clear is that Freshpet is not at the top of the consumer’s mind when it comes to healthy pet food, despite spending countless millions on television advertising.
Let’s review the top sellers on Amazon to see where Freshpet fits. Keep in mind, I don’t have a dog so I’ve never bought dog food on Amazon and therefore shouldn’t have biased results.
Freshpet is not ranked high in the featured brands menu:
Below is a sponsored ad for Purina, none of the top ten results are Freshpet products.
Let’s compare Similarweb’s publicly available data to see if Freshpet is successfully building a brand that can justify premium pricing. Here’s Freshpet Healthy Dog Food and Cat Food, fresh from the Fridge line.
Here are the rankings of The Farmer’s Dog.
Additionally, here is a chart of social media subscribers/followers in the thousands for Freshpet and The Farmer’s Dog as of 1/24/24.
While Freshpet has a lead on YouTube that seems to be because The Farmer’s Dog has prioritized social media, where they have almost 10x the followers on Instagram and well over 10x the followers on TikTok.
Whether you look at Amazon results, Similarweb data, social media data, or Google trends, it doesn’t seem like Freshpet’s brand is resonating with potential customers.
There are several main dangers to the short thesis.
1. Short interest is already quite high at 13.6% of shares outstanding. If the company announces good news, these short managers will have to cover and the ensuing buying pressure will force the stock price up.
2. Acquisition. The company has tens of thousands of placements in major grocery stores. That real estate is worth something and could result in an acquisition by a major consumer goods company, regardless of the specifics of the business.
3. Price increases. It’s possible that the extremely affluent group of consumers will buy Freshpet’s marketing completely and pay any price for their dog food. If the company can raise prices another 25%+ in the next 18 months, it will make achieving its goals more achievable.
Freshpet is a product that has no nutritional benefit for dogs, in my opinion. It sells at a premium price and hasn’t built the brand necessary to legitimize customers paying that much. The firm’s stock is selling at a ridiculous premium to possibly unattainable forecasts for 2027. Investors should be happy to short the stock at current value ~ 70x 2023. Price EBITDA.