CHEFS' WAREHOUSE INC CHEF
July 28, 2014 - 6:08pm EST by
BJG
2014 2015
Price: 17.27 EPS $0.62 $0.00
Shares Out. (in M): 25 P/E 27.9x 0.0x
Market Cap (in $M): 432 P/FCF 0.0x 0.0x
Net Debt (in $M): 122 EBIT 40 0
TEV ($): 554 TEV/EBIT 13.9x 0.0x

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  • Food distributor
  • Growth stock
  • Acquisition
  • Rollup
  • Market Expansion
  • Recent IPO
 

Description

Opinion: BUY

Chef’s Warehouse (CHEF) is a high-end food distributor that is currently embarking on a roll-up strategy to expand into new markets and increase penetration in existing markets through higher mkt penetration as well as higher revenues from existing customers.  The company is rapidly expanding footprint through greenfield and acquisitive efforts, while acquiring more strategic assets to increases sales to existing customers and increase penetration to new customers in existing markets.  Shares touched all-time highs of $29  in December 2013, valuing the company at $725MM on a mkt cap basis and $850MM for the enterprise.  Following back-to-back reported weak quarters in Q4 and Q1, shares have sold off and now fetch around $18 putting the company’s mkt cap and TEV at $450MM and $570MM respectively.  Shares still trade at a seemingly lofty 29x the company’s most recent 2014 unadjusted EPS guidance midpoint ($.57 - $.67).  However, adjusting revenues and expenses for footprint and capacity expansion, adding back Customer Relationship and Trademark amortization charges (about $3.5mm per year), and assuming the “weather” that affected Q4 and Q1 revenues is anomalous, then CHEF equity shares are trading at 14x to 15x earnings for a capital-lite, recurring revenue business that is growing organically in the mid- to high-single digits.

Following a guidance raise in October 2013, the company’s results have suffered with top-line meeting guidance but expenses coming in higher than expected and weather reportedly impacting top-line for Q4 and YE results 2013.  Since then, the company has also lowered 2014 guidance just 2 months after establishing initial guidance, due again to higher expense expectations.

 

2014 Guidance

March 4 2014 via Q4 & YE results 8-K

May 1 via Q1 results 8-K

Delta using midpoint

     

Revenues

$810mm - 840mm

$810mm - 840mm

                   -  

     

EBITDA

46.3mm - 51.5mm

43.3mm - 48.5mm

-6.1%

     

Adj EBITDA

50mm - 55mm

47mm - 52.5mm

-5.2%

     

Net Income  

16mm - 18.5mm

14.3mm - 16.8mm

-9.9%

     

Net Income per diluted share

.64 - .74

.57-.67

-10.1%

     

Adj NI PF per diluted share

.70 - .80

.63-.73

-9.3%

     
             

2013 Guidance

Aug 1 2013 via Q2 results 8-K

Oct 31 2013 via Q3 results 8-K

Delta using midpoint

 

Actual 2014 results

Delta vs Oct 31 Guidance midpoint

Revenues

650mm - 690mm

660mm - 680mm

0.0%

 

           673.5

0.5%

EBITDA

43.9mm - 48.3mm

45.9mm - 48.5mm

2.4%

 

             43.9

-7.0%

Adj EBITDA

46.5mm - 51mm

48.5mm - 51.1mm

2.2%

 

             46.8

-6.0%

Net Income  

18mm - 19.8mm

18.5mm - 19mm

-0.8%

 

             17.0

-9.4%

Net Income per diluted share

.86 - .94

.84 - .87

-5.0%

 

             0.77

-9.9%

Adj NI PF per diluted share

.90 - .98

.88 - .91

-4.8%

 

             0.81

-9.5%

 

Business Overview:

CHEFs operates at the upper end of the market, offering 30,000 SKUs to independent top-tier restaurants, country clubs, hotels, bakeries, and culinary schools.  The company’s customers are highly menu-oriented with cooks and chefs that are highly knowledgeable and particular about ingredients.  Regular menu turnover of certain items is a key part of such restaurants.  CHEFs often boasts that broadliners like Sysco and PFG offer 5-10 Olive Oils while they offer >160.  Furthermore, Sysco has stated on several occasions intentions to reduce SKUs.  While they could certainly paint the truck black or rebrand a portion of their deliveries, your typical top teir steakhouse is better served by not having a Sysco truck show up behind it to deliver product.  The company targets deliveries within 2-3 hour time windows and order fulfillment times of 12-24 hours, 6 days a week.

The predecessor company was founded in 1985 in NY as Dairyland by brothers John (age 50) and Chris Pappas (54), and NY is currently the largest market at 42% of 2013 revenues.  Customer bills today often still say Dairyland and purchases by the company from suppliers show as the same.  The company IPO-ed in July 2011 and began trading at around $17 with about 21mm shares outstanding.  Since its IPO, the company has spent $160MM on acquisitions that seem to be executed at 0.4x to 0.7x revenues.  Sources of funds for acquisitions have been new debt, shares issuance, and cash from operations.

Since then, they have accelerated their strategy which is essentially a roll-up with a 3-pronged approach to growing business value 1) tuck-in local/regional acquisitions within existing markets, 2) local/regional acquisitions within new markets to expand footprint, and 3) what they call “strategic platform” acquisitions that are proprietary food makers that serve to expand their dinner plate market share and also acting as a hook/anchor for customer relationships. 

The company cites its addressable market as $900MM of the estimated distributor annual N.A. sales of $235B (source: IDFA).  According to mgmt., natural attrition of its customer base has been and continues to be ~7% (typical customers are not your strip mall style Italian restaurant).  The company has been operating in more than half of its markets for fewer than 5 years.

Chefs’ Warehouse 2013 10-K

June 2014 Investor Presentation, p. 20

The market is highly competitive, restaurants have the ability to switch orders daily from one supplier to another, and often use multiple suppliers.  Even in CHEF’s oldest market, NY area, the company has about $70,000 revenue/customer location versus likely NY-area purchases per location of at least $250,000 (consider COGS run at 25% of revenues for typical restaurants, and few if any “nice” restaurants can survive in the northeast with fewer than $1mm in annual sales and probably need much higher figure, especially for NYC.  It’s not rare for a NYC restaurant to exceed $5mm and some have more than $15mm in revenues, implying much higher inventory purchases and much smaller pct of total customer purchases that CHEFs itself represents).

June 2014 Investor Presentation, p. 17

Growth strategy 

Organic Growth.  The last 2 quarters notwithstanding, CHEF has been growing in the high single digits organically.

In its home NY Market – defined by them as Boston to Atlantic City – CHEF has been growing top-line at  >7%.  CHEF’s reports annually the percentage of revenues from its NY Market, the only market where topline is disclosed separately.  Even backing out the company’s NY area acquisitions we can see CHEFs is growing at >5% in its largest, oldest, and most penetrated market: 1) Harry Wils & Co – by annualizing the $5.4mm rev contribution reported in Q3 ’11, and FL-based pastry/dessert maker Qzina – by assuming of its 7 key markets that NY represents 1/5th of total revenues (company said revenue for Qzina fall between $60mm and $65mm) and adjusting for the fact that Qzina transaction closed on May 1, 2011

 

2010

2011

2012

2013

CAGR

NY market % (per Ks and S-1)

65%

63%

54%

42%

 

 implied NY mkt revenues

              214.5

              252.4

              259.4

              282.9

9.7%

less Harry Wils revs ($5.4mm sales contribution reported Q3 '11, annualized to 21.6mm)

 

 

 

              (21.6)

 
       

              261.3

6.8%

less Qzina NY contribution, assume NY revs are 1/5th of Qzina total revs for 8months

 

 

 

                (8.3)

 
       

              252.9

5.6%

  • Q2 2013 CC, John Austin CFO: “Organic growth amounted to approximately $9.8 million of our net sales growth, or 8.5% growth.”
  • Q3 2013 CC, John Austin CFO: “Strong organic growth amounted to approximately $10.2 million of our net sales growth, or 8.2% growth.
  • Q4 2013 CC, John Austin CFO: “In addition, our number of unique customers and placements also grew in the mid- to high-single digits year over year, approximately 7%, respectively, after adjusting for the estimated impact of acquisitions.”
  • Q1 2014 CC, John Austin CFO: “Weather is obviously out of our control, but we do want to point out that results outside of the Northeast and Mid-Atlantic regions continued to be very strong during the first quarter while the regions is impacted by weather were relatively flat year-over-year. While we started to see glimpses of spring, April volume trends were comparable to what we saw in the first quarter. However, we did see continued inflation, primarily in the dairy category.”

 

Acquisitive Growth.  Since the IPO, CHEF has accelerated its strategy which is essentially a roll-up with a 3-pronged approach to growing business value 1) tuck-in local/regional acquisitions within existing markets, 2) local/regional acquisitions within new markets to expand footprint, and 3) what they call “strategic platform” acquisitions that are proprietary food makers that serve to expand their dinner plate market share and also acting as a hook/anchor for customer relationships.  The company has grown SKUs from 11,000 in 2010 to more than 30,000 as of YE 2013.  Tuck-in acquisitions quickly have a larger product selection to offer their existing customers.  Strategic acquisitions brings certain proprietary products to CHEF’s product list that drives more frequent orders and larger customer tickets, related to the proprietary product but also follow-on orders.  It’s more indicative of the typical distributor roll-up story.

CHEF’s acquisitions are transacting at 0.5x to 0.7x revenues. 

 

Company

Description

Purchase Price

Sales/Yr*

P/Sales

 June 2011

Harry Wils & co

NY area specialty distributor

8.9

21.6

0.4x

 Nov 2011

Provvista

Portland, Oregon specialty distributor

8.8

   

 April 2012

Praml

Vegas-based wholesale importer/distributor

19.5

   

 Aug 2012

Michael's

Specialty protein distributor center of plate items - Columbus Ohio

53

80

0.7x

 Dec 2012

Queensgate

Ohio-based distributor

22

40

0.6x

 May 2013

Qzina

BC company based in FL - desserts & pastries

31.8

62.5

0.5x

 Dec 2013

Allen Brothers

Chicago-based meat purveyor.  400 customers.  Plus 100,000 customers on e-platform direct.

33.4

82.5

0.4x

           

*Used midpoint of range provided in 8-K disclosure and/or annualized figure based on disclosed quarterly contribution

 

Currently, a number of factors are depressing gaap earnings and cash flow, obfuscating the business’s economics:

1)       Weather. We have spoken with 5 customer restaurants of CHEFs, a anecdotal and statistically insignificant sample no doubt, and one that is geographically concentrated in the company’s NY market.  Still, all customers suggest two things.  First, while inclement weather did not impact customer volumes on most days, snow storm days did result in “missed” days of revenues.  Second, this sample indicated they were ordering the same or more from CHEF and that they were happy with service levels and SKU options.  (The space is highly competitive though, all customers had several choices and often procure from more than one supplier, with the ability to switch something as simple as milk or crab meat from one supplier to another in a given week.)  It’s not unreasonable to assume a return to normalcy across a slightly larger footprint versus the most recent “normal quarter” which would be Q3 2014.

 

Margins of the business in 2011 serve as a decent proxy given prior to footprint expansions and larger acquisitions.

 

 

2011

 

Notes:

 Gross Margin

26.4%

   

 OpEx (less DA)

19.1%

 

excludes DA of $1.7MM, incl Stock Comp of $2.1MM

 

2)       Expansion strategy is resulting in high CapEx outlays.  The company is expanding its Bronx, NY distribution center and its Las Vegas Nevada center, building a new Chicago distribution facility and implementing JD Edwards (oracle) software.  CapEx for 2013 were $15mm and the company expects 2014 CapEx to come in at $32mm, compared with $7.5mm of total capex cumulative for the 2009 through 2012 periods.  107,000 sq ft of space signed April 30 in Chicago, to compliment the Qzina and Allen Bros facilities it acquired in the Chicago area.  In The Bronx, duplicate rent charges are being incurred while the company cannot occupy the facility it is renovating/expanding ($25mm total investment into that distribution center and should be completely moved in by early 2015.

             

2014e

 

2009

2010

2011

2012

2013

Q1 2014

low end

high end

Revenues

        271.1

        330.1

        400.6

        480.3

        673.5

        187.2

        810.0

        840.0

Capital Expenditures

           (1.1)

           (1.1)

           (2.1)

           (3.2)

         (11.7)

           (5.8)

         (32.0)

         (32.0)

 

0.4%

0.3%

0.5%

0.7%

1.7%

3.1%

4.0%

3.8%

 

3)       Expansion strategy results in higher OpEx running ahead of revenue optimal revenue generation.  This is evidenced through much lower revenues per unit:

 

 

2010

2011

2012

2013

Q1 2014

delta

"Sales Professionals" at YE

               125

               150

               200

               300

   

  FY revs/avg employee

 

 $  2,913,687

 $  2,744,526

 $  2,694,000

 

-8%

  Q4 Revs / YE employee

        732,800

        776,667

        713,000

        644,667

 

-12%

             

Customer locations end of Period

           7,000

           9,800

         12,500

         20,000

         20,000

 

  FY revs / avg customer location

 

 $     47,694

 $     43,076

 $     41,446

 

-13%

  Q4 Revs / YE locations

         13,086

         11,888

         11,408

           9,670

           9,360

-26%

 

 

4)       Amortization of acquired Intangibles, particularly Customer Relationships, results in material charges to earnings over foreseeable future.   The company discloses projections of about $6MM/yr for amortization expense of intangibles.  Customer relationships represent about half of that, about $2.7MM/yr on a straightline basis of Gross Carrying Amount at YE 2013, and Trademarks another $0.9mm/yr.  Neither Customer Relationships nor Trademarks have finite lives or deplete in the economic sense, particularly if the business is working to grow its existing customer relationships as part of its strategy, but are deductible for IRS taxes.  These charges can be added back to after-tax income for estimating EPS for the business in a steady-state. 

 

Cash Purchase Price Allocations

               
 

Provvista

Harry Wils

Monique

Michael's

Allen Bros.

Qzina

Queensgate

Praml

 Current Assets

                   3.1

                 1.2

              1.3

               16.2

              15.6

      22.5

                  4.1

           3.3

 Customer Relationships

                   1.7

                 2.8

              0.6

               12.4

 

        6.1

                  1.5

           4.2

 Trademarks

                   0.3

   

               12.7

 

        4.4

 

           1.4

 Goodwill

                   4.1

                 5.0

              2.1

               11.9

              11.3

        5.9

                15.2

         12.9

 other intangibles

       

                9.3

   

           1.3

 Fixed Assets

                   0.1

   

                 2.9

                4.8

        0.9

                  1.9

 

 other assets

     

                 0.1

       

 earnout Liability

       

              (6.3)

 

                (2.1)

 

 Other liabilities

                 (0.5)

 

            (0.3)

               (2.7)

            (10.8)

       (7.4)

                  1.3

         (3.6)

 Purchase Price

                   8.8

                 9.0

              3.7

               53.5

              23.9

      32.4

                21.9

         19.5

                 

 Intangible Asset

 Customer Relationships

 Trademarks

           

Gross Amount YE 2013

                 29.4

               18.8

           

Accumulated Amortization

                 (4.2)

               (1.5)

           

Net Carrying Amount

                 25.2

               17.3

           

 

 

 

           

remaining Amort periods

132 Months (11 years)

239 months (20 years)

           

amortization expense/yr ($MM)

                   2.7

                 0.9

           

 

5)       WC investment has been largely attributable to shift in business mix given two large strategic platform investments.    Allen Bros. is a meat purveyor where wet and dry curing times for various meats, sausages, etc often exceed 30 days.  Moreover, Allen Bros meat suppliers are smaller operations who require shorter pay cycles.

Mgmt Aligned as Owners

The Pappas brothers today are the largest shareholders, owning 20% of shares outstanding.  Both John and Chris have been net sellers of the stock since the IPO, possibly contributing to part of the overhang of late, reducing their collective ownership from 46% to 21%.  According to CHEF Proxy statements, mgmt.’s variable comp is tied to total revenues and EPS targets.

 

Reported shares as of Q3 '11

Shares held in millions

% of total

as of date:

Chris Pappas

4.9

3.3

13%

Proxy date,  March 17, 2014

John Pappas

4.9

2.1

8%

Proxy date,  March 17, 2014

Pappas Bros

9.8

5.4

21%

 
 

 

     

Total diluted Shares

21.1

25.049

100%

Proxy date,  March 17, 2014

 

Trading Valuations of steady state business

CHEF shares trade at 13.5x to 15x earnings and 15x FCF of the steady-state business.  To compensate for recently expanded footprint with below-optimal revenues, apply 2011 Gross and Opex margins of 26.4% and 19% respectively to the assumption of higher revenues per customer location ($47,000/location which is a tad lower than 2011’s figure) and per Sales Professional ($2.9mm in-line with 2011).  This yields $870mm to $940mm in revenues and $63.5mm to $69mm in EBITDA.  No margin benefit is being given for national scale as CHEF’s is already the only way for some suppliers to reach US markets and the footprint is more indicative of a collection of regional business rather than a national business (although Qzina and Allen Bros argue more for the nat’l perspective).  Interest is $9.25mm on debt and D&A is $10mm.  Taxing pre-tax earnings at 40% and then adding back $3.6mm specific to Customer Relationships and Trademarks amortization (still deductible for tax purposes) and using 25m diluted shares provides $1.21 to 1.33 in EPS (under the revenue range assumption) and $28mm to $30mm in FCF (no major assumption for WC as bad debt provision is immaterial and expensed while inventory obsolescence is also included in OpEx).

I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

  • Company reports Q2 after market close on Thursday July 31, potential commentary and/or results indicating return to more positive revenue, margins, and profit trends vs those in Q4 '13 and Q1 '14.
  • Sales ramp up of new markets over next few years.
  • return on investment from big CapEx spending in 2013 and 2014.
  • Integration of larger acquisitions with revenue synergies across nat'l footprint.
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    Description

    Opinion: BUY

    Chef’s Warehouse (CHEF) is a high-end food distributor that is currently embarking on a roll-up strategy to expand into new markets and increase penetration in existing markets through higher mkt penetration as well as higher revenues from existing customers.  The company is rapidly expanding footprint through greenfield and acquisitive efforts, while acquiring more strategic assets to increases sales to existing customers and increase penetration to new customers in existing markets.  Shares touched all-time highs of $29  in December 2013, valuing the company at $725MM on a mkt cap basis and $850MM for the enterprise.  Following back-to-back reported weak quarters in Q4 and Q1, shares have sold off and now fetch around $18 putting the company’s mkt cap and TEV at $450MM and $570MM respectively.  Shares still trade at a seemingly lofty 29x the company’s most recent 2014 unadjusted EPS guidance midpoint ($.57 - $.67).  However, adjusting revenues and expenses for footprint and capacity expansion, adding back Customer Relationship and Trademark amortization charges (about $3.5mm per year), and assuming the “weather” that affected Q4 and Q1 revenues is anomalous, then CHEF equity shares are trading at 14x to 15x earnings for a capital-lite, recurring revenue business that is growing organically in the mid- to high-single digits.

    Following a guidance raise in October 2013, the company’s results have suffered with top-line meeting guidance but expenses coming in higher than expected and weather reportedly impacting top-line for Q4 and YE results 2013.  Since then, the company has also lowered 2014 guidance just 2 months after establishing initial guidance, due again to higher expense expectations.

     

    2014 Guidance

    March 4 2014 via Q4 & YE results 8-K

    May 1 via Q1 results 8-K

    Delta using midpoint

         

    Revenues

    $810mm - 840mm

    $810mm - 840mm

                       -  

         

    EBITDA

    46.3mm - 51.5mm

    43.3mm - 48.5mm

    -6.1%

         

    Adj EBITDA

    50mm - 55mm

    47mm - 52.5mm

    -5.2%

         

    Net Income  

    16mm - 18.5mm

    14.3mm - 16.8mm

    -9.9%

         

    Net Income per diluted share

    .64 - .74

    .57-.67

    -10.1%

         

    Adj NI PF per diluted share

    .70 - .80

    .63-.73

    -9.3%

         
                 

    2013 Guidance

    Aug 1 2013 via Q2 results 8-K

    Oct 31 2013 via Q3 results 8-K

    Delta using midpoint

     

    Actual 2014 results

    Delta vs Oct 31 Guidance midpoint

    Revenues

    650mm - 690mm

    660mm - 680mm

    0.0%

     

               673.5

    0.5%

    EBITDA

    43.9mm - 48.3mm

    45.9mm - 48.5mm

    2.4%

     

                 43.9

    -7.0%

    Adj EBITDA

    46.5mm - 51mm

    48.5mm - 51.1mm

    2.2%

     

                 46.8

    -6.0%

    Net Income  

    18mm - 19.8mm

    18.5mm - 19mm

    -0.8%

     

                 17.0

    -9.4%

    Net Income per diluted share

    .86 - .94

    .84 - .87

    -5.0%

     

                 0.77

    -9.9%

    Adj NI PF per diluted share

    .90 - .98

    .88 - .91

    -4.8%

     

                 0.81

    -9.5%

     

    Business Overview:

    CHEFs operates at the upper end of the market, offering 30,000 SKUs to independent top-tier restaurants, country clubs, hotels, bakeries, and culinary schools.  The company’s customers are highly menu-oriented with cooks and chefs that are highly knowledgeable and particular about ingredients.  Regular menu turnover of certain items is a key part of such restaurants.  CHEFs often boasts that broadliners like Sysco and PFG offer 5-10 Olive Oils while they offer >160.  Furthermore, Sysco has stated on several occasions intentions to reduce SKUs.  While they could certainly paint the truck black or rebrand a portion of their deliveries, your typical top teir steakhouse is better served by not having a Sysco truck show up behind it to deliver product.  The company targets deliveries within 2-3 hour time windows and order fulfillment times of 12-24 hours, 6 days a week.

    The predecessor company was founded in 1985 in NY as Dairyland by brothers John (age 50) and Chris Pappas (54), and NY is currently the largest market at 42% of 2013 revenues.  Customer bills today often still say Dairyland and purchases by the company from suppliers show as the same.  The company IPO-ed in July 2011 and began trading at around $17 with about 21mm shares outstanding.  Since its IPO, the company has spent $160MM on acquisitions that seem to be executed at 0.4x to 0.7x revenues.  Sources of funds for acquisitions have been new debt, shares issuance, and cash from operations.

    Since then, they have accelerated their strategy which is essentially a roll-up with a 3-pronged approach to growing business value 1) tuck-in local/regional acquisitions within existing markets, 2) local/regional acquisitions within new markets to expand footprint, and 3) what they call “strategic platform” acquisitions that are proprietary food makers that serve to expand their dinner plate market share and also acting as a hook/anchor for customer relationships. 

    The company cites its addressable market as $900MM of the estimated distributor annual N.A. sales of $235B (source: IDFA).  According to mgmt., natural attrition of its customer base has been and continues to be ~7% (typical customers are not your strip mall style Italian restaurant).  The company has been operating in more than half of its markets for fewer than 5 years.

    Chefs’ Warehouse 2013 10-K

    June 2014 Investor Presentation, p. 20

    The market is highly competitive, restaurants have the ability to switch orders daily from one supplier to another, and often use multiple suppliers.  Even in CHEF’s oldest market, NY area, the company has about $70,000 revenue/customer location versus likely NY-area purchases per location of at least $250,000 (consider COGS run at 25% of revenues for typical restaurants, and few if any “nice” restaurants can survive in the northeast with fewer than $1mm in annual sales and probably need much higher figure, especially for NYC.  It’s not rare for a NYC restaurant to exceed $5mm and some have more than $15mm in revenues, implying much higher inventory purchases and much smaller pct of total customer purchases that CHEFs itself represents).

    June 2014 Investor Presentation, p. 17

    Growth strategy 

    Organic Growth.  The last 2 quarters notwithstanding, CHEF has been growing in the high single digits organically.

    In its home NY Market – defined by them as Boston to Atlantic City – CHEF has been growing top-line at  >7%.  CHEF’s reports annually the percentage of revenues from its NY Market, the only market where topline is disclosed separately.  Even backing out the company’s NY area acquisitions we can see CHEFs is growing at >5% in its largest, oldest, and most penetrated market: 1) Harry Wils & Co – by annualizing the $5.4mm rev contribution reported in Q3 ’11, and FL-based pastry/dessert maker Qzina – by assuming of its 7 key markets that NY represents 1/5th of total revenues (company said revenue for Qzina fall between $60mm and $65mm) and adjusting for the fact that Qzina transaction closed on May 1, 2011

     

    2010

    2011

    2012

    2013

    CAGR

    NY market % (per Ks and S-1)

    65%

    63%

    54%

    42%

     

     implied NY mkt revenues

                  214.5

                  252.4

                  259.4

                  282.9

    9.7%

    less Harry Wils revs ($5.4mm sales contribution reported Q3 '11, annualized to 21.6mm)

     

     

     

                  (21.6)

     
           

                  261.3

    6.8%

    less Qzina NY contribution, assume NY revs are 1/5th of Qzina total revs for 8months

     

     

     

                    (8.3)

     
           

                  252.9

    5.6%

    • Q2 2013 CC, John Austin CFO: “Organic growth amounted to approximately $9.8 million of our net sales growth, or 8.5% growth.”
    • Q3 2013 CC, John Austin CFO: “Strong organic growth amounted to approximately $10.2 million of our net sales growth, or 8.2% growth.
    • Q4 2013 CC, John Austin CFO: “In addition, our number of unique customers and placements also grew in the mid- to high-single digits year over year, approximately 7%, respectively, after adjusting for the estimated impact of acquisitions.”
    • Q1 2014 CC, John Austin CFO: “Weather is obviously out of our control, but we do want to point out that results outside of the Northeast and Mid-Atlantic regions continued to be very strong during the first quarter while the regions is impacted by weather were relatively flat year-over-year. While we started to see glimpses of spring, April volume trends were comparable to what we saw in the first quarter. However, we did see continued inflation, primarily in the dairy category.”

     

    Acquisitive Growth.  Since the IPO, CHEF has accelerated its strategy which is essentially a roll-up with a 3-pronged approach to growing business value 1) tuck-in local/regional acquisitions within existing markets, 2) local/regional acquisitions within new markets to expand footprint, and 3) what they call “strategic platform” acquisitions that are proprietary food makers that serve to expand their dinner plate market share and also acting as a hook/anchor for customer relationships.  The company has grown SKUs from 11,000 in 2010 to more than 30,000 as of YE 2013.  Tuck-in acquisitions quickly have a larger product selection to offer their existing customers.  Strategic acquisitions brings certain proprietary products to CHEF’s product list that drives more frequent orders and larger customer tickets, related to the proprietary product but also follow-on orders.  It’s more indicative of the typical distributor roll-up story.

    CHEF’s acquisitions are transacting at 0.5x to 0.7x revenues. 

     

    Company

    Description

    Purchase Price

    Sales/Yr*

    P/Sales

     June 2011

    Harry Wils & co

    NY area specialty distributor

    8.9

    21.6

    0.4x

     Nov 2011

    Provvista

    Portland, Oregon specialty distributor

    8.8

       

     April 2012

    Praml

    Vegas-based wholesale importer/distributor

    19.5

       

     Aug 2012

    Michael's

    Specialty protein distributor center of plate items - Columbus Ohio

    53

    80

    0.7x

     Dec 2012

    Queensgate

    Ohio-based distributor

    22

    40

    0.6x

     May 2013

    Qzina

    BC company based in FL - desserts & pastries

    31.8

    62.5

    0.5x

     Dec 2013

    Allen Brothers

    Chicago-based meat purveyor.  400 customers.  Plus 100,000 customers on e-platform direct.

    33.4

    82.5

    0.4x

               

    *Used midpoint of range provided in 8-K disclosure and/or annualized figure based on disclosed quarterly contribution

     

    Currently, a number of factors are depressing gaap earnings and cash flow, obfuscating the business’s economics:

    1)       Weather. We have spoken with 5 customer restaurants of CHEFs, a anecdotal and statistically insignificant sample no doubt, and one that is geographically concentrated in the company’s NY market.  Still, all customers suggest two things.  First, while inclement weather did not impact customer volumes on most days, snow storm days did result in “missed” days of revenues.  Second, this sample indicated they were ordering the same or more from CHEF and that they were happy with service levels and SKU options.  (The space is highly competitive though, all customers had several choices and often procure from more than one supplier, with the ability to switch something as simple as milk or crab meat from one supplier to another in a given week.)  It’s not unreasonable to assume a return to normalcy across a slightly larger footprint versus the most recent “normal quarter” which would be Q3 2014.

     

    Margins of the business in 2011 serve as a decent proxy given prior to footprint expansions and larger acquisitions.

     

     

    2011

     

    Notes:

     Gross Margin

    26.4%

       

     OpEx (less DA)

    19.1%

     

    excludes DA of $1.7MM, incl Stock Comp of $2.1MM

     

    2)       Expansion strategy is resulting in high CapEx outlays.  The company is expanding its Bronx, NY distribution center and its Las Vegas Nevada center, building a new Chicago distribution facility and implementing JD Edwards (oracle) software.  CapEx for 2013 were $15mm and the company expects 2014 CapEx to come in at $32mm, compared with $7.5mm of total capex cumulative for the 2009 through 2012 periods.  107,000 sq ft of space signed April 30 in Chicago, to compliment the Qzina and Allen Bros facilities it acquired in the Chicago area.  In The Bronx, duplicate rent charges are being incurred while the company cannot occupy the facility it is renovating/expanding ($25mm total investment into that distribution center and should be completely moved in by early 2015.

                 

    2014e

     

    2009

    2010

    2011

    2012

    2013

    Q1 2014

    low end

    high end

    Revenues

            271.1

            330.1

            400.6

            480.3

            673.5

            187.2

            810.0

            840.0

    Capital Expenditures

               (1.1)

               (1.1)

               (2.1)

               (3.2)

             (11.7)

               (5.8)

             (32.0)

             (32.0)

     

    0.4%

    0.3%

    0.5%

    0.7%

    1.7%

    3.1%

    4.0%

    3.8%

     

    3)       Expansion strategy results in higher OpEx running ahead of revenue optimal revenue generation.  This is evidenced through much lower revenues per unit:

     

     

    2010

    2011

    2012

    2013

    Q1 2014

    delta

    "Sales Professionals" at YE

                   125

                   150

                   200

                   300

       

      FY revs/avg employee

     

     $  2,913,687

     $  2,744,526

     $  2,694,000

     

    -8%

      Q4 Revs / YE employee

            732,800

            776,667

            713,000

            644,667

     

    -12%

                 

    Customer locations end of Period

               7,000

               9,800

             12,500

             20,000

             20,000

     

      FY revs / avg customer location

     

     $     47,694

     $     43,076

     $     41,446

     

    -13%

      Q4 Revs / YE locations

             13,086

             11,888

             11,408

               9,670

               9,360

    -26%

     

     

    4)       Amortization of acquired Intangibles, particularly Customer Relationships, results in material charges to earnings over foreseeable future.   The company discloses projections of about $6MM/yr for amortization expense of intangibles.  Customer relationships represent about half of that, about $2.7MM/yr on a straightline basis of Gross Carrying Amount at YE 2013, and Trademarks another $0.9mm/yr.  Neither Customer Relationships nor Trademarks have finite lives or deplete in the economic sense, particularly if the business is working to grow its existing customer relationships as part of its strategy, but are deductible for IRS taxes.  These charges can be added back to after-tax income for estimating EPS for the business in a steady-state. 

     

    Cash Purchase Price Allocations

                   
     

    Provvista

    Harry Wils

    Monique

    Michael's

    Allen Bros.

    Qzina

    Queensgate

    Praml

     Current Assets

                       3.1

                     1.2

                  1.3

                   16.2

                  15.6

          22.5

                      4.1

               3.3

     Customer Relationships

                       1.7

                     2.8

                  0.6

                   12.4

     

            6.1

                      1.5

               4.2

     Trademarks

                       0.3

       

                   12.7

     

            4.4

     

               1.4

     Goodwill

                       4.1

                     5.0

                  2.1

                   11.9

                  11.3

            5.9

                    15.2

             12.9

     other intangibles

           

                    9.3

       

               1.3

     Fixed Assets

                       0.1

       

                     2.9

                    4.8

            0.9

                      1.9

     

     other assets

         

                     0.1

           

     earnout Liability

           

                  (6.3)

     

                    (2.1)

     

     Other liabilities

                     (0.5)

     

                (0.3)

                   (2.7)

                (10.8)

           (7.4)

                      1.3

             (3.6)

     Purchase Price

                       8.8

                     9.0

                  3.7

                   53.5

                  23.9

          32.4

                    21.9

             19.5

                     

     Intangible Asset

     Customer Relationships

     Trademarks

               

    Gross Amount YE 2013

                     29.4

                   18.8

               

    Accumulated Amortization

                     (4.2)

                   (1.5)

               

    Net Carrying Amount

                     25.2

                   17.3

               

     

     

     

               

    remaining Amort periods

    132 Months (11 years)

    239 months (20 years)

               

    amortization expense/yr ($MM)

                       2.7

                     0.9

               

     

    5)       WC investment has been largely attributable to shift in business mix given two large strategic platform investments.    Allen Bros. is a meat purveyor where wet and dry curing times for various meats, sausages, etc often exceed 30 days.  Moreover, Allen Bros meat suppliers are smaller operations who require shorter pay cycles.

    Mgmt Aligned as Owners

    The Pappas brothers today are the largest shareholders, owning 20% of shares outstanding.  Both John and Chris have been net sellers of the stock since the IPO, possibly contributing to part of the overhang of late, reducing their collective ownership from 46% to 21%.  According to CHEF Proxy statements, mgmt.’s variable comp is tied to total revenues and EPS targets.

     

    Reported shares as of Q3 '11

    Shares held in millions

    % of total

    as of date:

    Chris Pappas

    4.9

    3.3

    13%

    Proxy date,  March 17, 2014

    John Pappas

    4.9

    2.1

    8%

    Proxy date,  March 17, 2014

    Pappas Bros

    9.8

    5.4

    21%

     
     

     

         

    Total diluted Shares

    21.1

    25.049

    100%

    Proxy date,  March 17, 2014

     

    Trading Valuations of steady state business

    CHEF shares trade at 13.5x to 15x earnings and 15x FCF of the steady-state business.  To compensate for recently expanded footprint with below-optimal revenues, apply 2011 Gross and Opex margins of 26.4% and 19% respectively to the assumption of higher revenues per customer location ($47,000/location which is a tad lower than 2011’s figure) and per Sales Professional ($2.9mm in-line with 2011).  This yields $870mm to $940mm in revenues and $63.5mm to $69mm in EBITDA.  No margin benefit is being given for national scale as CHEF’s is already the only way for some suppliers to reach US markets and the footprint is more indicative of a collection of regional business rather than a national business (although Qzina and Allen Bros argue more for the nat’l perspective).  Interest is $9.25mm on debt and D&A is $10mm.  Taxing pre-tax earnings at 40% and then adding back $3.6mm specific to Customer Relationships and Trademarks amortization (still deductible for tax purposes) and using 25m diluted shares provides $1.21 to 1.33 in EPS (under the revenue range assumption) and $28mm to $30mm in FCF (no major assumption for WC as bad debt provision is immaterial and expensed while inventory obsolescence is also included in OpEx).

    I do not hold a position of employment, directorship, or consultancy with the issuer.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    • Company reports Q2 after market close on Thursday July 31, potential commentary and/or results indicating return to more positive revenue, margins, and profit trends vs those in Q4 '13 and Q1 '14.
    • Sales ramp up of new markets over next few years.
    • return on investment from big CapEx spending in 2013 and 2014.
    • Integration of larger acquisitions with revenue synergies across nat'l footprint.

    Messages


    SubjectRE: Acquisitions
    Entry07/28/2014 10:26 PM
    MemberAggie1111
    "The company cites its addressable market as $900MM of the estimated distributor annual N.A. sales of $235B (source: IDFA)"
     
    So at $810MM the company believes they have nearly reached maturity? Am I reading this correctly? Please confirm.

    SubjectRE: RE: Acquisitions
    Entry07/28/2014 10:42 PM
    MemberBJG
    Sorry, agreed clarification needed.  $900mm of additional opportunity.

    Subjectthoughts / weakness?
    Entry11/03/2014 03:50 PM
    MemberMJS27

    stock getting absolutly smoked today - i haven't seen any news other than SYY reporting earnings - am i missing something?  i have had this on my list as a stock that was likely to get creamed due to tax loss selling into year end - possible we're just seeing an aggressive exit today?  

    seems like an excellent buying opportunity to me, but i don't have access to very good real time news so i could be missing something.

     


    SubjectRe: Re: thoughts / weakness?
    Entry11/04/2014 09:31 AM
    MemberMJS27

    thanks - i hadn't gone through the SYY call for details yet.

    margin weakness at CHEF and SYY can be at least partially explained by beef/dairy supply constraints on the GM line and technology/growth spending on the EBIT line.  agree its difficult to decipher if its more than that, but there is alot of pie in manhattan, and alot of that pie is made up of middle end bar-restaurants that are more SYY style then the high end that CHEF caters to. If CHEF has ~28% of the higher end market (by your numbers in the write up) and there are a ton of small distributors in NYC it is totally possible that SYY is taking NYC market share from the total pie while having a minimal impact on CHEF.

    This seems like a great set up for an entry to me...

    1) the stock was a growth crowd favorite that the growth investors bailed out on when it came time to actually "pay" for that growth through the Chicago expansion /Vegas expansion /NY warehouse move/technology upgrade

    2) alot of the big holders picked up their stakes in Q1 at higher prices making this a prime candidate for tax loss selling into year end (which may explain some of the huge move yesterday)

    3) margins in beef and dairy are cyclically depressed at the moment, but the herd is rebounding

    this could definitely be ugly in the next Q or 2, but according to the company they now have the operating structure in place to support up to $1.5B in sales (vs FY14 estimate of $825M) and these operating costs are primed to be levered at some point in 2015/2016 as sales catch up with the newly developed operating facilities in the newer geographies. Organic sales growth is ticking along at mid high single digits, and they have revolver capacity to buy another ~$200M in sales.  Importantly, in the past they financed growth by issuing shares, but in the past they had only had one geography (NY) rowing the boat, so they needed access to outside capital.  With multiple geographies contributing going forward, they should be able to fund future growth through FCF.  Once their infrastructure is built out (which it should be for the most part by mid 2015) this will be a high FCF business: how much does it cost to keep a warehouse running? ... almost nothing.  That being said an equity raise is obviously still a risk here.

    i don't think it takes any kind of mental gymnastics to get them to ~$85M in EBITDA in 2016, and back of the envelope that puts them under 8x EV/(EBITDA - capex).  Other distributors easily trade at 12x, and 15x isn't crazy at all.

     


    Subjectrecent articles / pending developments
    Entry12/15/2014 09:21 AM
    MemberMJS27

    There have been 3 articles of note worth mentioning over the last few days.

    as a reminder, CHEF is currently suffering from 2 problems: 1 is gross margin pressure tied to food inflation, and 2 is operating margin pressure tied to the fact that the future focused owner operator company currently has an operating structure in place to support up to $1.5 billion in sales while this year is expected to come in at $830 million.

    the first article was in the WSJ on 12/11 and will interest those of you who are following DF as well.  "New Zealand Dairy Farmers Brace for Falling Prices" basically summarizes the rebounding of NZ's cattle herd which is sending global milk prices to "historic lows." The article does not mention that EU restrictions on milk production are set to be lifted in 2015, and economists expect a 2.5-3% increase in EU milk production which will further lower global prices for milk, and thus cheese.  18% of CHEF's revenue mix should benefit from widening gross margins tied to lower input costs for dairy and cheese.

    The next 2 articles are in today's WSJ and detail the decline in Chinese buying of US alfalfa for GMO reasons and a softening in US beef prices as consumers push back on high prices.  Essentially both of these articles point to more evidence that the beef cycle is at its top, and prices will begin to mean revert in coming quarters as input costs go down and the herd rebounds. We already know that beef prices are in a blow off top caused by ranchers holding back cattle from slaughter in  order to rebuild the herd, and now we are seeing slack demand. The strong dollar also helps here as 12% of US beef was exported last year, and those exports are more expensive than ever at the moment. 32% of CHEF's revenue mix is "center of plate" which is largely beef (although pork prices are coming down as well) and should benefit from lower beef prices going forward.

    In summary, ~50% of CHEF's input costs are set for lower prices in the coming quarters.

    On the operating margin side, it will take some time to fill out the revenue that the structure can support, but there are several projects which will be rollng off by mid year 2015.

    - the NY facility consolidation should be complete by year end 2014, and will see the company double its NY area capacity, stop paying duplicate rent, and shutter a NJ based Qzina facility.

    - the new Chicago facilty should be operational by Q1 2015, and the Company is in contract to sell one Allen brothers owned facilty and working on another. The new facility will allow the company to greenfield the Chicago market (3rd largest restaurant market in the US) on specialty items, although i think it is likely that they will make an acquisition here to speed their ramp.

    - the new Las Vegas facility will be complete by mid 2015, and double the company's presence in Vegas.  Importantly, this facility will have a "test kitchen" which is essentially an entertainment center where the company can bring client-chefs from around the country to sample new foods, exchange recipes etc. In a business that is predicated on relationships I view this as a competitive advantage. 

    - in san francisco the company is consolidating a Qzina facility and moving from a 40,000 square foot space to a 117,000 square foot space which will allow it to greatly ramp its presence.

    all of these moves better position the company to capitalize on the continued trend towards farms to table / foodie dining, and this is the sweet spot of the market as spending on fine dining continues to accelerate in the face of an overall decline in restaurant spending.  once these developments are complete capex will fall from E2014 $32 million down to ~$8-10 million, and we will be left with a FCF machine.

    the company is optically expensive right now and doesn't screen well, but looking out 2-3 years and assuming mid single digit organic growth and a few acquisitions (which won't be hard in this highly fragmented industry) it is not hard to say that the company is currently trading at ~8x E2017 EBITDA vs precedent transcation multiples of 11x and historic multiples of 12-15x which means it doesn't take herculean assumptions to think the stock could double in 2-3 years


    SubjectRe: recent articles - more
    Entry12/16/2014 09:09 AM
    MemberMJS27

    another article in the WSJ talking about the decline in exports of cattle...  USDA officials commenting that overseas breeder herds have stabilized, buying semen and embryos has gained in popularity, and of course the strong dollar hurting exports.

    Either way it seems like the media is grabbing on to this thread and starting to pull. I'd expect the growth crowd to take notice and get back on the train at some point if this keeps up.


    SubjectRe: Re: recent articles - more
    Entry01/03/2015 01:36 PM
    MemberMJS27

    congrats to BJG - this has had a great run.

    2 more articles tied to a reversal in food inflation / widening of gross margins in today's WSJ.  one noting that low gas prices will hurt ethanol and thus demand for corn.  a second talking about weakness in italy hurting demand for specialty cheeses and meats leading producers to focus more on exports. the implication is that lower domestic demand leads to lower prices.

    optically the stock doesn't look cheap, but therein lies the opportunity.


    SubjectRe: Acquisitions (again)
    Entry01/03/2015 01:42 PM
    MemberMJS27

    hi Siren.

    i don't have hard numbers on EBITDA margins for acquisitions, but yes, they are pretty low.  likely low to mid low single digits.

    as for synergies, basically CHEF can cut almost all of the expenses out of an acquired company.  they are really buying customer lists and relationships, and the rolling these news relationships and SKUs into their wider distribution platform.  in other words, they can basically get rid of the trucks, warehouses and G&A of the target co and just increase utilization of their own fleet, realize operational efficiencies through a bigger warehouse, and provide the sales force with more skus.  of course, this takes time - especially consolidating the facilities - which has been a drag in NY, Chicago, Vegas, San Fran etc in recent quarters, - but these consolidations should be completed by 2H'15, just as food inflation really starts to break.


    Subjectcattle herd
    Entry02/01/2015 11:26 AM
    MemberMJS27

    on Friday USDA numbers indicated growth in the US cattle herd for the first time in 8 years as the number of heifers being held back for breeding rose 4% vs analyst estimates of .6%.  This all takes time to flow through as cows are slow to mature, but it seems as if the trend is taking hold.

    The company is trading at ~12.2x management guidance for 2015 which is too cheap for an owner operator company growing top line at more than 20% while currently dealing with cyclical gross margin pressure that is set to reverse in the near future.  Factor in some operating leverage as the company completes plans that are currently underway to consolidate facilities and continues to grow into their existing capacity and there is significant upside here.

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