Wednesday, August 1 2012

The information contained herein reflects the views of LongShortTrader (“LST”) as of the date of publication. These views are subject to change without notice at any time subsequent to the date of issue. LST has an economic interest in the price movement of the securities discussed in this presentation, but LST’s economic interest is subject to change without notice. All information provided in this presentation is for informational purposes only and should not be deemed as investment advice or a recommendation to purchase or sell any specific security. While the information presented herein is believed to be reliable, no representation or warranty is made concerning the accuracy of any data presented. In addition, there can be no guarantee that any projection, forecast or opinion in this presentation will be realized. All trade names, trademarks, service marks, and logos herein are the property of their respective owners who retain all proprietary rights over their use. This presentation is confidential and may not be reproduced without prior written permission from LST.

Green Mountain Coffee Roasters (“GMCR”) is reporting earnings later today (Wednesday, August 1, 2012) after 4 PM EST and hosting a conference call at 5:00 PM EST. LST believes GMCR’s 2011 Q2 and Q3 net sales numbers are mathematically unusual, and that understanding why they might be so will matter very much today, and in the coming quarters. GMCR shareholders would be wise to pay close attention.

GMCR’s Reported Q2 and Q3 2011 Net Sales Figures Defile the “Sanctity of Math1” LST examined GMCR’s past quarterly numbers and found the Q2 and Q3 2011 net sales numbers make no sense, relative to GMCR’s own business history, well-observed seasonal trends, etc. In fact, these top-line numbers most resemble the funny numbers of US-listed Chinese stocks that LST analyzed in 2010 and 2011. They seem to defile the “Sanctity of Math.” LST noticed the following after looking through quarterly revenue between 1993-2012. (see the tables2 below):  GMCR’s Fiscal Q1 is always its strongest quarter, based on quarter over quarter revenue growth. (In fact the Company stated the following in its most recent 10K: “Historically, we have experienced increased sales of our Keurig Single-Cup Brewing systems in our 1st fiscal quarter due to the holiday season.”) Q2 and Q3 revenue declined relative to Q1 every year, EXCEPT Fiscal Year 2011. GMCR’s Q2 and Q3 2011 revenue actually grew quarter over quarter. Said differently, the Q1 sales number is greater than Q2’s & Q3’s, in any given year except ‘11. This feat is all the more abnormal, considering Q1 2011 net sales were at an all-time high.
GMCR Quarter over Quarter % Growth Q1 Q2 1993 --33.8% 1994 76.4% -32.4% 1995 79.5% -37.5% 1996 38.0% -33.1% 1997 52.2% -50.0% 1998 47.4% -24.5% 1999 50.4% -28.0% 2000 60.8% -26.2% 2001 44.9% -26.4% 2002 58.0% -28.9% 2003 69.0% -28.0% 2004 57.4% -28.2% 2005 58.6% -26.5% 2006 75.4% -26.8% 2007 24.6% -0.6% 2008 35.9% -4.4% 2009 42.4% -1.1% 2010 59.8% -6.7% 2011 53.9% 12.8% 2012 62.7% -23.6% GMCR Net Sales by Quarter (in $1,000s) Q4* Q1 Q2 Q3 1993 -5,008 3,316 3,591 1994 3,736 6,590 4,456 4,945 1995 6,091 10,932 6,832 7,459 1996 8,801 12,144 8,119 8,617 1997 9,467 14,412 7,209 9,772 1998 11,515 16,977 12,826 12,675 1999 13,347 20,068 14,452 14,973 2000 15,388 24,742 18,259 19,668 2001 21,332 30,905 22,741 21,447 2002 20,483 32,357 23,013 22,989 2003 21,641 36,567 26,311 26,344 2004 27,505 43,285 31,058 31,347 2005 31,754 50,357 36,993 37,782 2006 36,404 63,867 46,779 47,802 2007 66,875 83,341 82,877 82,418 2008 93,015 126,445 120,877 118,120 2009 134,835 192,027 189,931 188,212 2010 215,965 345,152 321,953 316,583 2011 373,087 574,148 647,658 717,210 2012 711,883 1,158,216 TBD 885,052 *Q4 of the prior fiscal year.

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Q3 8.3% 11.0% 9.2% 6.1% 35.6% -1.2% 3.6% 7.7% -5.7% -0.1% 0.1% 0.9% 2.1% 2.2% -0.6% -2.3% -0.9% -1.7% 10.7% TBD

LongShortTrader believes this abnormality is very important… so much so, that here are two graphs to convey the same point: GMCR Quarter over Quarter Net Sales for 2007-2012 WITHOUT 2011’s Numbers…

Notes:      GMCR’s Fiscal Q1 = Prior Years’ Calendar Q4 (i.e. GMCR Fiscal Q1 is for the period ending in December). The above graphical analysis ‘unit normalizes’ the prior years’ fiscal Q4 to equal $1.00. This is done to showcase the seasonal dynamics as the year progresses. Unsurprisingly, GMCR’s Fiscal Q1 tends to be very strong (since it captures the holiday/winter season), as the growth from the prior year’s Q4 has been significant every year. 2012 has been notable (so far) because the Q1 to Q2 quarter over quarter percentage decline of 23.6% is steeper than any of the declines experienced in recent years (2007-2012). Having said that, Q2’s percentage decline is within historical norms if we take a look at the years preceding 2007.

GMCR Quarter over Quarter Revenue for 2007-2012 WITH 2011’s Numbers…

Notes (continued):     The only difference between the graph above and the one in the prior page is that the one shown above includes 2011 net sales. 2012 looks like the exact mirror opposite of what happened in 2011 (so far). The graph above would probably excite people like Harry Markopolos & Alex Dalmady3. 2011 is odd not just relative to 2007-2012, but relative to GMCR’s ENTIRE HISTORY (see below)

2011’s Net Sales – Counterfactual Analysis Let’s suppose there is something odd about GMCR’s Q2 and Q3 2011 net sales numbers. How do we quantify this? LST thinks assuming 0% growth from Q1 2011 to Q2 2011, and Q2 2011 to Q3 2011 is a good way to go, because historically growth would always go negative at some point between Q1 & Q3 of any fiscal year:

Q1 - Q3 2011 Reported Net Sales vs. Counterfactual 0% Growth Case Q1 Q2 Q3 574,148 647,658 717,210 2011 - as Reported 574,148 574,148 574,148 2011 - 0% Growth $ VARIANCE 0 73,510 143,062 ACTUAL % Growth 12.8% 10.7% 2011 FLAT SCENARIO % Growth 0.0% 0.0%
The cumulative variance is over $200 million. LST wonders how much of this difference is readily explainable…and how much is not. Either way, this is a conservative estimate.

Greenlight Capital Also Found GMCR’s Q2 and Q3 2011 Numbers Odd LST is not the first to find the Q2 and Q3 2011 revenue numbers highly anomalous: Greenlight Capital brought attention to both the Q2 and Q3 numbers last fall, in their GAAP-uccino presentation. What’s especially disturbing is that Greenlight’s approach differed from LST’s. Here’s a summary4: Greenlight on GMCR’s Q2 2011 Financials:  GMCR sold 1.3 million brewers, which exceeded market expectations by about 300,000 brewers. This was the same quarter where the former MBlock worker described the 500,000 brewers that were not to be inventoried. GMCR’s operating expenses as a percentage of sales fell in Q2 2011 even though GMCR added Van Houtte’s high cost structure business. When asked about this discrepancy, GMCR’s CFO refused to disclose Van Houtte’s operating expenses. “It turns out they just spend less than we thought.”

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Greenlight on GMCR’s Q3 2011 Financials:      Reported revenue was $100 million higher than GMCR’s guidance of $602 - $617 million, given on May 3, 2011, and $108 million higher than consensus estimates. $70 million, or 11%, higher than Q2 2011, despite seasonality. Actual vs. Predicted K-cup unit sales surprised by 27%, or 4x more than in the 6 prior quarters. Dramatic change in attachment rate in Q3 2011. Suddenly turned +11%, even though prior 10 quarters’ attachment rates were negative. Greenlight’s field research shows that GMCR and MBlock are potentially engaged in a variety of shenanigans that appear designed to mislead auditors and to inflate financial results.

GMCR Key Events Between Q1-Q3 2011 At this point, it seems natural to entertain the question “why”. Why might the Q2 and Q3 reported numbers look odd? What purpose could this possibly serve? How would this benefit the Company, insiders, its enablers, certain hot money funds, etc? Rather than answer the question directly, LST will point to a few key events: 1. GMCR had just completed its Van Houtte Acquisition taking on a debt load exceeding $1 billion (they tripled their debt load). It barely had any cash. The Company had no means of paying down its debt, let alone growing. Something had to be done. 2. GMCR’s lenders/creditors (who also were promoters of the stock and likely beneficiaries of GMCR’s mergers & acquisition and equity capital raising activities) now faced the risk that GMCR would face liquidity and eventual bankruptcy risk, as they just lent to a negative cash flow business. It was in the lenders/creditors interest – perhaps even survival – for GMCR to reduce debt. 3. Certain hot money funds were sitting on huge marked-to-market gains, due to their perfectlytimed bets leading up to the Starbucks partnership announcement in March 2011 (the stock gapped up nearly 50%). 4. Immediately after releasing their anomalous Q2 2011 numbers, GMCR issued 10.1 million shares in a stock offering, raising $689 million on May 11, 2011. This move helped the Company reduce debt and stave off a liquidity crunch.5 5. Certain stockholders sold an aggregate 410,456 shares in this offering, including Robert Stiller, Larry Blanford, and William Davis (Stiller’s friend and Audit Committee member).

Closing Thoughts If you examine the inventory, receivables, and cost of sales trends in 2011 along with the odd revenue dynamics discussed in this report…the implications for future periods (i.e. this quarter and coming quarters) ’aint pretty. Imagine what were to happen if instead of reporting gravity defying surprises to the upside as it did in 2011, ugly surprises to the downside of equal magnitude. Guidance for today’s earnings:   Net sales in the range of $861 million to $897 million or growth of 20% to 25% from $717.2 million in third quarter fiscal 2011 Non-GAAP EPS of $0.48 to $0.53 per diluted share

The top-line guidance implies flat quarter over quarter revenue growth. That seems reasonable, even seems a bit of a low-ball number, if you think Q3 2011’s $717.2 million net sales number looks fine. If, on the other hand, you think LST and/or Greenlight is onto something, and the Q2 and Q3 2011 numbers look odd…

A rising tide lifts all boats. It's not until the tide goes out that you realize who's swimming naked. – Warren Buffett

END NOTES 1. Some things he takes very seriously, including what he calls the “sanctity of math.” On that afternoon it was being defiled in his eyes by the claims of China Sky One Medical Inc. – from “Texas Short Seller Fights China Fraud In $20 Billion U.S. Shares” Bloomberg News 2. The net sales data were provided by Thomson Reuters. 3. Harry Markopolos said that he knew within five minutes that Bernie Madoff's numbers didn't add up. It took him another four hours to prove that they could have only been obtained through fraud. Alex Dalmady claimed that Stanford International Bank, a large offshore operation run by Texas billionaire Sir Allen Stanford, is an $8 billion fraud, with suspiciously steady year-on-year returns, a la Bernie Madoff. 4. From Greenlight Capital’s GAAP-uccino presented at the Value Investing Congress on October 17, 2011. 5. Based on cash balance vs. cash flow found in SEC filings.

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