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BNNY > SEC Filings for BNNY > Form 10-K on 14-Jun-2013All Recent SEC Filings

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Form 10-K for ANNIE'S, INC.


14-Jun-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward-looking statements as a result of various factors, including those set forth in "Risk Factors" and "Forward-Looking Statements." The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements included elsewhere in this Form 10-K, as well as the information presented under "Selected Financial Data."

Overview

Annie's, Inc. is a natural and organic food company with a widely recognized brand, offering consumers great-tasting products in large packaged foods categories. We sell premium products made from high-quality ingredients at affordable prices. We have the #1 natural and organic market position in four product lines: macaroni and cheese, snack crackers, fruit snacks and graham crackers.

Our loyal and growing consumer following has enabled us to migrate from our natural and organic roots to a brand sold across the mainstream grocery, mass merchandiser and natural retailer channels. We offer over 135 products and are present in over 26,500 retail locations in the United States and Canada.

Our net sales are derived primarily from the sale of meals, snacks, dressings, condiments and other products under the Annie's Homegrown and Annie's Naturals brand names. We have experienced strong growth, driven by our meals and snacks categories, resulting from our focus on supporting our best-selling items and the introduction of new products in these categories. We have reduced our offerings in our dressings and condiments lines and discontinued our cereal product line in the fourth quarter of fiscal 2012, as a result our net sales in that category have been flat in the most recent fiscal year.

Gross profit is net of cost of sales, which consists of the costs of ingredients in the manufacture of products, contract manufacturing fees, inventory write-off, packaging costs and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by contract manufacturing fees and packaging costs.

Our selling, general and administrative expenses consist primarily of marketing and advertising expenses, freight and warehousing, wages, related payroll and employee benefit expenses, stock-based compensation, commissions to outside sales representatives, legal and professional fees, travel expenses, other facility related costs, such as rent and depreciation, and consulting expenses. The primary components of our marketing and advertising expenses include trade advertising, samples, consumer events, sales data, consumer research and search engine and digital advertising.

Voluntary Product Recall

We first began shipping organic frozen pizza in January 2012 and made with organic frozen pizza first shipped during second quarter of fiscal 2013. In January 2013, we announced a voluntary product recall of our certified organic and made with organic pizza products. The voluntary product recall was a result of our contract manufacturer for pizza crusts identifying small metal fragments in the pizza dough during a manufacturing run and in some finished pizza crusts made on the same day. We immediately halted production and began investigating the issue. Soon thereafter, we determined that the small metal fragments originated at the third-party flour mill from where we source our pizza flour. We then initiated a recall of all lots of pizza product manufactured with this supplier's flour from our first purchase from the supplier in May 2012.

Direct costs of the voluntary product recall include customer and consumer returns, costs associated with returned product, costs incurred by our contract manufacturers, incremental costs associated with short-term sourcing of replacement flour, destruction charges and inventory write-off, retailer margin and customer fees and incentives. We also incurred administrative costs such as legal expenses, accounting fees and public relations expenses.


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As a result of the voluntary product recall, we recorded charges that negatively impacted our net sales and net income by $1.1 million and $1.4 million, respectively, for the fiscal year ended March 31, 2013, including the impact of $0.4 million recovered, as of May 31, 2013, from the insurance related to customer returns. The recorded charges are estimated and based on information available to us when we recorded the charges. We have recovered a portion of the recall-related costs from our product recall insurance and expect to recover additional amounts from our insurance or the third-party flour mill. Recoveries are recorded to offset the charges once recovery is probable. We expect the effects of the voluntary product recall to continue to be reflected in our financial statements over the next few quarters.

During the fourth quarter of fiscal 2013, we restarted the production of our certified organic and made with organic pizza products using flour from an alternative supplier with which we have a long-standing relationship and began shipping replacement product into distributors and retailers in February 2013 in order to replenish retail shelves and inventories. As of April 2013, we have regained a significant portion of our pre-recall distribution but have not fully returned to our pre-recall distribution level.

Business Segments

We have determined that we operate as one segment: the marketing and distribution of natural and organic food products. Our chief executive officer is considered to be our chief operating decision maker. He reviews our operating results on an aggregate basis for purposes of allocating resources and evaluating financial performance.

Trends and Other Factors Affecting Our Business

Net Sales

The following trends in our business have driven top-line growth over the past three years:

our increased penetration of the mainstream grocery and mass merchandiser channels;

our improved placement in the mainstream grocery channel;

our continued innovation, including adding new flavors and sizes to existing lines and introducing new product lines; and

greater consumer demand for natural and organic food products and increasing awareness of the Annie's brand and our offerings.

Over the past three years, we have significantly increased both the number of retail locations where our products can be found and the number of our products found in individual stores. From time to time, we review our product lines to remove items not meeting our sales or profitability expectations and to make room for new products. We expect that increasing penetration of the mainstream grocery and mass merchandiser channels, combined with greater brand awareness, new product introductions and line extensions and favorable consumer trends, will continue to fuel our sales growth in all channels.

We offer a variety of sales and promotion incentives to our customers and to consumers, such as price discounts, consumer coupons, volume rebates, cooperative marketing programs, slotting fees and in-store displays. Our net sales are periodically influenced by the efficiency of trade promotions and the introduction and discontinuance of sales and promotion incentives. We anticipate that promotional activities will continue to impact our net sales and that changes in such activities will continue to impact period-over-period results.

Gross Profit

Over the past three years, despite increasing volatility in commodity prices, our gross margin has benefited each year from a combination of commodity management practices, productivity improvements, cost reductions in our supply chain and price increases.


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We purchase finished products from our contract manufacturers. With an industry-wide commodity cost escalation starting in fiscal 2008, we became more directly involved in the sourcing of the ingredients for our products. This allowed us to consolidate ingredient sourcing across contract manufacturers in order to negotiate more favorable pricing on ingredients and, in some cases, to lock in ingredient pricing for typically six to twelve months through non-cancelable purchase commitments, directly or through contract manufacturers. We have increased the percentage of our cost of sales represented by these contracted ingredients from an estimated 5% in fiscal 2008 to approximately 31% in fiscal 2013. These efforts mitigated the impact of volatile and increasing commodity costs on our business. We plan to continue to expand our portfolio of contracted ingredients and negotiate pricing agreement for future purchases to allow us sufficient time to respond to changes in our ingredient costs over time.

Over the past three years, we have invested significant time and energy to improve gross margins and achieve permanent cost reductions and productivity improvements in our supply chain. These efficiency projects have focused on selecting more cost-effective contract manufacturers, negotiating lower tolling fees, consolidating in-bound freight, leveraging warehouse expense and reducing ingredient and packaging costs through increased volume buys, contract consolidation, direct purchasing and price negotiation. To further drive these initiatives, we plan to selectively invest capital for the purchase of equipment to be used by certain of our contract manufacturers to drive down costs, improve throughput and improve product quality. In fiscal 2013, we invested approximately $1.3 million in manufacturing equipment, which is located at the facilities of our contract manufacturers and remains our property.

Our gross margins have also benefited from the impact of price increases taken over the past three years. We typically effect new pricing to our customers annually or semi-annually. We consider many factors when evaluating pricing action, including cost of sales increases, competitive pricing strategy, elasticity and the price-value equation to our consumers. We have historically been able to execute price increases to cover higher ingredient costs. We believe this is due to our strong brand loyalty and our perceived value relative to competitive products.

Our new product introductions tend to have a lower margin than our established products due to the small initial production run sizes, and if our new product introductions accelerate or reflect a larger percentage of our net sales, this could negatively impact our gross margin.

Selling, General and Administrative Expenses

We have made significant investments in headcount and infrastructure over the past three years which have resulted in higher selling, general and administrative expenses. In addition, we have incurred higher general and administrative expenses related to operating as a public company. Selling, general and administrative expenses as a percentage of net sales have benefited slightly over the past three years from lower freight and warehousing costs and selling expenses. Marketing expenses have remained relatively flat as a percentage of net sales but are expected to increase in the future as we invest to support new product releases and drive greater brand awareness, attract new customers and increase household penetration.

To support our growth, we continue to increase headcount, particularly in the sales, marketing and innovation departments. This increased headcount will drive higher payroll and employee-related expenses as well as higher stock-based compensation expense. We also continue to invest in product development to support innovation and fuel sales growth and in information technology to increase productivity. We expect our selling, general and administrative expenses to continue to increase in absolute dollars as we incur increased costs related to the growth of our business and our operation as a public company. We expect selling, general and administrative expenses as a percentage of net sales to decrease slightly over time as sales increase and we lap investments made to support our growth.


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Inflation

Inflationary factors, such as increases in the cost of sales and selling, general and administrative expenses, may adversely affect our operating results. Although we do not believe that inflation has had a material impact on our financial position or results of operations to date, a high rate of inflation in the future may have an adverse effect on our ability to maintain current levels of gross margin and selling, general and administrative expenses as a percentage of net sales if the selling prices of our products do not increase with these increased costs.

Results of Operations

The following table sets forth items included in our consolidated statements of operations in dollars and as a percentage of net sales for the periods presented:

                                           Fiscal Year ended March 31,                      % of Net Sales
                                       2013           2012           2011          2013          2012          2011
                                                          (in thousands, except for percentages)
Net sales                            $ 169,977      $ 141,304      $ 117,616        100.0 %       100.0 %       100.0 %
Cost of sales                          104,566         85,877         71,804         61.5 %        60.8 %        61.0 %

Gross profit                            65,411         55,427         45,812         38.5 %        39.2 %        39.0 %
Operating expenses:
Selling, general and
administrative expenses                 45,461         36,195         30,674         26.7 %        25.6 %        26.1 %
Advisory agreement termination fee          -           1,300             -            -            0.9 %          -

Total operating expenses                45,461         37,495         30,674         26.7 %        26.5 %        26.1 %

Income from operations                  19,950         17,932         15,138         11.7 %        12.7 %        12.9 %
Interest expense                          (168 )         (161 )         (885 )       (0.1 )%       (0.1 )%       (0.8 )%
Other income (expense), net                 87         (1,594 )          155          0.1 %        (1.1 )%        0.1 %

Income before provision for
(benefit from) income taxes             19,869         16,177         14,408         11.7 %        11.4 %        12.3 %
Provision for (benefit from)
income taxes                             8,318          6,588         (5,747 )        4.9 %         4.7 %        (4.9 )%

Net income                           $  11,551      $   9,589      $  20,155          6.8 %         6.8 %        17.1 %

The following table sets forth net sales by product category in dollars and as a percentage of net sales:

                                              Fiscal Year ended March 31,                % of Net Sales
                                           2013          2012          2011        2013       2012       2011
                                                        (in thousands, except for percentages)
Product Categories:
Meals                                    $  79,270     $  60,624     $  49,168        47 %       43 %       42 %
Snacks                                      66,844        56,789        44,687        39 %       40 %       38 %
Dressings, condiments and other             23,863        23,891        23,761        14 %       17 %       20 %

Total                                    $ 169,977     $ 141,304     $ 117,616       100 %      100 %      100 %

Our discussion of our results of operations in this Annual Report on Form 10-K includes certain adjusted net sales, gross profit and gross margin figures that exclude the impact of our voluntary product recall of pizza products announced in January 2013. These figures are non-GAAP financial measures. We calculate these non-GAAP figures by eliminating the impact of our voluntary product recall, which we do not consider indicative of our ongoing operations. We believe these non-GAAP figures provide additional information to facilitate the comparison of our past and present financial results and better visibility into our normal operating results by isolating the effects of the voluntary product recall. These non-GAAP financial measures should not be considered in isolation or as alternatives to GAAP financial measures and investors should not rely on any single financial measure to evaluate our business.


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Fiscal Year Ended March 31, 2013 Compared to Fiscal Year Ended March 31, 2012

Net Sales



                                            Fiscal Year Ended March 31,                   Change
                                             2013                  2012               $             %
                                                     (in thousands, except for percentages)
Meals                                   $       79,270        $       60,624       $ 18,646         30.8 %
Snacks                                          66,844                56,789         10,055         17.7 %
Dressings, condiments and other                 23,863                23,891            (28 )       (0.1 )%

Net sales                               $      169,977        $      141,304       $ 28,673         20.3 %

Net sales increased $28.7 million, or 20.3%, to $170.0 million in fiscal 2013 compared to $141.3 million in fiscal 2012. Net sales for fiscal 2013 included a $1.1 million reduction, net of recovery from insurance of $0.4 million, as of May 31, 2013, due to voluntary recall of our certified organic and made with organic pizza products. The net sales increase was primarily driven by volume with approximately 300 basis points of growth driven by higher average selling prices. Distribution gains and our mainline placement initiative contributed to the volume increase, primarily impacting mainstream grocery and mass merchandiser channels.

The increase in net sales reflects an $18.6 million and a $10.1 million increase in net sales of meals and snacks, respectively. The increase in meals was predominantly driven by strong growth in natural macaroni and cheese products. The increase in snacks was primarily due to growth in our fruit snacks, mixed snacks, grahams, crackers and snack mix product lines. The dressings, condiments and other category remained flat in fiscal 2013, reflecting high single digit growth in dressings offset by the discontinuance of our cereal line in fiscal 2012.

Excluding the impact of our voluntary product recall, our net sales would have increased $29.8 million, or 21.1%, to $171.1 million during fiscal 2013 compared to $141.3 million during fiscal 2012.

Gross Profit



                            Fiscal Year Ended March 31,                Change
                              2013                 2012             $           %
                                   (in thousands, except for percentages)
        Cost of sales    $      104,566        $     85,877      $ 18,689       21.8 %

        Gross profit     $       65,411        $     55,427      $  9,984       18.0 %

        Gross margin %             38.5 %              39.2 %

Gross profit increased $10.0 million, or 18.0%, to $65.4 million in fiscal 2013 from $55.4 million in fiscal 2012. The increase in gross profit was primarily driven by increase in net sales, partially offset by the negative impact of the product recall.

Gross margin decreased 0.7 percentage points to 38.5% in fiscal 2013 from 39.2% in fiscal 2012. The decrease in gross margin is primarily attributable to a $1.1 million reduction in net sales and a $1.1 million increase in cost of sales associated with our January 2013 voluntary product recall. The estimated costs associated with the voluntary product recall included a finished goods inventory write-off of $0.5 million, and raw material and work-in-process charges and associated production costs incurred by our contract manufacturers of $0.6 million.

Excluding the impact of the voluntary product recall, our gross profit would have increased $12.2 million, or 21.9%, to $67.6 million for fiscal 2013 from $55.4 million for fiscal 2012 and gross margin would have increased 0.3 percentage points to 39.5% from 39.2% during fiscal 2013 compared to fiscal 2012 due to higher average selling prices and the cumulative benefit of various cost reduction initiatives, which were partially offset by higher commodity costs.


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Operating Expenses



                                             Fiscal Year Ended March 31,                   Change
                                              2013                  2012               $             %
                                                      (in thousands, except for percentages)
Operating expenses:
Selling, general and administrative
expenses                                 $       45,461        $       36,195       $  9,266         25.6 %
Advisory agreement termination fee                   -                  1,300         (1,300 )         nm

Total operating expenses                 $       45,461        $       37,495       $  7,966         21.2 %

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased $9.3 million, or 25.6%, to $45.5 million in fiscal 2013, from $36.2 million in fiscal 2012. This increase was due primarily to an increase in payroll expense resulting from increased headcount to support our growth and operations as a public company. Additionally, public company-related expenses impacted selling, general and administrative expenses during fiscal 2013 compared with fiscal 2012. Further, during fiscal 2013, we incurred $1.2 million for legal, accounting and printing costs and various other fees associated with the registration and sale of common stock sold by certain stockholders, including Solera, in connection with two secondary public offerings. We did not receive any proceeds from the sale of shares by the selling stockholders in these secondary public offerings. Selling, general and administrative expenses during fiscal 2013 also included $0.2 million administrative costs associated with the voluntary product recall. As a percentage of net sales, selling, general and administrative expenses increased 1.1 percentage points to 26.7% in fiscal 2013 from 25.6% in fiscal 2012.

Advisory Agreement Termination Fee

In fiscal 2012, we incurred a one-time fee of $1.3 million to Solera in connection with the termination of its advisory services agreement with us.

Income from Operations



                                             Fiscal Year Ended March 31,                    Change
                                             2013                   2012                $            %
                                                      (in thousands, except for percentages)
Income from operations                   $      19,950          $      17,932        $ 2,018         11.3 %

Income from operations as a
percentage of net sales                           11.7 %                 12.7 %

As a result of the factors above, income from operations increased $2.0 million, or 11.3%, to $20.0 million in fiscal 2013 from $18.0 million in fiscal 2012. Income from operations as a percentage of net sales decreased 1.0 percentage points to 11.7% in fiscal 2013, from 12.7% in fiscal 2012.

Interest Expense

Fiscal Year Ended March 31, Change
2013 2012 $ %
(in thousands, except for percentages)

Interest expense $ (168 ) $ (161 ) $ (7 ) 4.3 %

Interest expense during fiscal 2013 primarily related to non-cash imputed interest expense related to the financing of product formulas acquired in fiscal 2012. Interest expense during fiscal 2012 consisted of expense related to borrowings under our revolving line of credit.


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Other Income (Expense), Net

Fiscal Year Ended March 31, Change
2013 2012 $ %
(in thousands, except for percentages)

Other income (expense), net $ 87 $ (1,594 ) $ 1,681 nm

Other income (expense), net during fiscal 2013 primarily reflects royalty income. Other income (expense), net during fiscal 2012 primarily reflects a non-recurring, non-cash charge of $1.7 million related to the increase in the fair value of our convertible preferred stock warrant liability partially offset by royalty income.

Provision for Income Taxes

Fiscal Year Ended March 31, Change
2013 2012 $ %
(in thousands, except for percentages)

Provision for income taxes $ 8,318 $ 6,588 $ 1,730 26.3 %

Effective tax rate 41.9 % 40.7 %

Our provision for income taxes was $8.3 million in fiscal 2013 compared to $6.6 million in fiscal 2012. Our effective tax rate for fiscal 2013 was 41.9% compared to 40.7% for fiscal 2012. The higher tax rate in fiscal 2013 reflects a permanent tax difference resulting from $1.2 million in secondary offerings costs incurred in fiscal 2013.

Net Income

Fiscal Year Ended March 31, Change
2013 2012 $ %
(in thousands, except for percentages)

Net income $ 11,551 $ 9,589 $ 1,962 20.5 %

As a result of the factors above, net income increased $2.0 million, or 20.5%, to $11.6 million in fiscal 2013 from $9.6 million in fiscal 2012.

Fiscal Year Ended March 31, 2012 Compared to Fiscal Year Ended March 31, 2011

Net Sales



                                             Fiscal Year Ended March 31,                 Change
                                              2012                 2011              $            %
                                                    (in thousands, except for percentages)
Meals                                    $       60,624       $       49,168      $ 11,456        23.3 %
Snacks                                           56,789               44,687        12,102        27.1 %
Dressings, condiments and other                  23,891               23,761           130         0.5 %

Net sales                                $      141,304       $      117,616      $ 23,688        20.1 %

Net sales increased $23.7 million, or 20.1%, to $141.3 million in fiscal 2012 compared to $117.6 million in fiscal 2011. This increase primarily reflects a $12.1 million and an $11.5 million increase in net sales of snacks and meals, respectively. The increase in meals was driven by strong growth in the macaroni . . .

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