Boulder Brands (BDBD) announced the $48 million acquisition of EVOL Foods on December 23. The acquisition gives Boulder Brands a broader product range with EVOL's frozen burritos, entrees and quesadillas. The acquisition is relatively small and EVOL will only contribute about 5% of the company's revenue in 2014. However, it has several strategic implications for Boulder Brands. On the positive side, EVOL gives Boulder Brands a more diversified product mix and new avenues for growth. However, questions about the growth prospects of the gluten-free business still linger. I view the acquisition as a positive for Boulder Brands, but I am not yet ready to buy the stock.
Key Points
- Acquisition of EVOL: expansion in frozen
- Strategic implication #1: diversification
- Strategic implication #2: questions about Gluten-Free
- Financial terms: ~30x 2014 EBITDA
- New debt financing
- Caution from Moody's
- Valuation: still high
- Guidance
- Initial market reaction slightly positive
- Challenge for the shorts
Acquisition of EVOL: Expansion In Frozen
EVOL expands Boulder Brands' offering in the frozen foods category with frozen burritos, entrees and quesadillas:
(click to enlarge)
(Source: evolfoods.com/products )
It products target the health and wellness customer with ingredients that are organic, antibiotic-free and hormone-free as well as free of artificial preservatives. However, EVOL is not strictly gluten-free.
EVOL's recent growth has been driven by bowls (entrees) and quesadillas:
(Source: BDBD presentation , December 23, 2013)
Strategic Implication #1: Diversification
Boulder Brands has executed a number of transformative acquisitions through the years.
The company started as a SPAC in 2005 and acquired the Smart Balance business in 2007.
In 2011 and 2012 it expanded into gluten-free with the acquisitions of Glutino ($66 million) and Udi's ($127 million).
The Glutino and Udi's acquisitions provided growth for Boulder Brands and balanced Smart Balance's slowdown. Furthermore, Boulder Brands became a "gluten-free play" after the Glutino and Udi's deals.
The company also acquired Earth Balance (plant-based products) and Level Life (diabetes products), but these businesses seemed secondary to the gluten-free segment.
Now, the acquisition of EVOL takes the company in another direction. EVOL is focused on frozen meals and is not gluten-free.
There have been many skeptics of the gluten-free trend. The EVOL acquisition dilutes the company's focus on gluten-free and helps it diversify its product range:
(click to enlarge)
(Source: BDBD presentation, December 23, 2013)
The bullish way to look at Boulder Brands' strategy evolution is that the company is using its size and infrastructure to expand its product range and become a stronger company. Hain Celestial (HAIN) is the best example of a serial acquiror in the natural/organics space, but other companies are pursuing similar strategies, including WhiteWave (WWAV).
Strategic Implication #2: Questions About Gluten-Free
Despite the merits of diversification, the deal raises some questions, especially about the outlook for gluten-free.
Boulder Brands initially focused on Smart Balance, but pivoted to gluten-free when the Smart Balance growth moderated. The bears have been betting that the gluten-free growth is just a fad and will slow too. The pivot toward gluten-based frozen foods raises questions about the potential for gluten-free.
Management previously suggested that it was looking to diversify beyond gluten-free and the Earth Balance and Level Life deals were already a step in that direction.
The EVOL acquisition may not have anything to do with the prospects of gluten-free, but the questions still linger and it will take time to see how it plays out.
Financial Terms: ~30x 2014 EBITDA
Boulder Brands paid $48 million for EVOL and expects to receive future tax benefits with a net present value of $8 million (source: BDBD press release, December 23, 2013).
The following shows the purchase price multiples including the tax benefits (scenario I) and without the tax benefits (scenario II).
Regardless of how you want to look at the deal, the purchase price was ~30x 2014 EBITDA.
New Debt Financing
On December 20, Boulder Brands increased its senior secured term loan credit facility by $25 million to help pay for the acquisition. According to the press release, the company's leverage ratio is 3.9x following the deal.
The company also announced that it, "amended the financial covenants on its revolving credit facility to increase the senior secured funded debt-to-EBITDA covenant by 0.25x for each quarterly period" (source: BDBD press release, December 23, 2013).
Caution From Moody's
Moody's issues a statement about the acquisition:
"Moody's Investors Service ("Moody's") stated today that Boulder Brands, Inc.'s ("Boulder Brands") acquisition of EVOL for $48 million will weaken credit metrics in the near term, as EVOL is not expected to be a meaningful source of earnings over the next 12 to 18 months...
Downward ratings pressure could build if the company's credit metrics fundamentally weaken, if liquidity is constrained, or if the company engages in any material debt funded acquisitions that would increase leverage above 5.0 times for a sustained period. Other considerations that could drive the rating down would be EBIT margins deteriorating meaningfully for a sustained period or any material product recalls or supply chain issues that fundamentally weaken its brand equity. There is limited upward pressure on the rating given the company's limited scale and niche product offering and more recently, weakened credit metrics from debt financed acquisitions. Factors that could drive an upgrade include meaningful growth in size and scale, further product and geographic diversification, and debt to EBITDA of 3.5 times or less on a sustained basis." (Source: Moody's press release, December 23, 2013)
I am not too concerned about the "weaken[ed] credit metrics" since the company is growing EBITDA and is positioned to show better credit metrics next year. Based on management's 2014 Adjusted EBITDA guidance, the company has a Total Debt / Adj. EBITDA multiple of 3.3x. If the company can hit its EBITDA target, then its leverage ration will be below the 3.5x multiple that Moody's mentioned.
It will be interesting to see if the company pursues more acquisitions before deleveraging. Moody's gives the company room for more debt-financed acquisitions up to the 5x leverage ratio.
Valuation
The following is my valuation analysis for Boulder Brands using managements forward guidance for EBITDA and EPS as well as certain assumptions about the pro-forma balance sheet.
Boulder Brands is not trading at cheap levels. However, valuation alone is not necessarily a reason to go long or short the stock. The real issue is the growth rate and if the future earnings will grow fast enough to support the valuation.
Guidance
The following is the updated FY 2014 guidance, including the impact of the EVOL acquisition:
(click to enlarge)
Initial Market Reaction Slightly Positive
The stock price traded up on the news reflecting a positive initial reaction.
However, the move was minor and the stock has been trading around $16 since August. I would not read too much into the initial reaction. It will be interesting to see if there is follow-through and if the company can break above the $18 high.
(click to enlarge)
(Source: FreeStockCharts.com)
From a longer term perspective, Boulder Brands has already had a nice run over the last two years:
(click to enlarge)
(Source: FreeStockCharts.com)
Challenge For The Shorts
There has been much talk about the short case for Boulder Brands, including from Herb Greenberg (here and here).
The EVOL acquisition represents managements desire to expand beyond gluten-free. EVOL is relatively small compared to the gluten-free segment, but there may be more deals to come. The EVOL deal poses a challenge for the shorts that were betting against the company because of its gluten-free exposure.
There is a high level of short interest in the stock. The shorts represent about 12% of the shares outstanding and the short interest is massive compared to the average daily volume.
However, short interest peaked in July and is down about 2 million shares since then. During this period, the stock price has traded sideways. The reduction in short interest has been orderly and has not caused a short squeeze (though the price action in July could be considered a squeeze).
(Source: Nasdaq.com)
Conclusions
I view the EVOL acquisition as a positive for Boulder Brands. It helps the company diversify into new parts of the organic/natural foods space.
However, I still have some questions about the gluten-free opportunity. Time will tell how that plays out.
In a recent article, I discussed the long Annie's / short Boulder Brands pairs trade (Annie's: Analyzing The Investment Opportunities After Guidance Cut Drove Stock Lower).
The thesis was that the sell off in Annie's (BNNY) stock presented an attractive entry point in the Annie's / Boulder Brands trading pair. Furthermore, I have some concerns about the Boulder Brands, including the slowdown in Smart Balance and the potential for the gluten-free segment. The high debt level of Boulder Brands is also a factor in the comparison of the two companies.
The long Annie's / short Boulder Brands pair trade is more about Annie's outperforming than Boulder Brands falling. I am still interested in this trade (though I don't have a position in either stock), but the recent EVOL deal boosts my outlook for Boulder Brands.
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Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in BDBD, BNNY, WWAV, HAIN over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)
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