Reed's Inc. REED
August 14, 2018 - 9:02am EST by
uncleM
2018 2019
Price: 2.90 EPS 0 0
Shares Out. (in M): 25 P/E 0 0
Market Cap (in $M): 72 P/FCF 0 0
Net Debt (in $M): 10 EBIT 0 0
TEV ($): 82 TEV/EBIT 0 0

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Description

Reed’s Inc. has been posted to VIC before three different times. Those write-ups contain a bunch of useful information about company and industry history and are good places to look for greater detail. This write-up will primarily serve to highlight what has changed about the current situation and why the future outcome here may provide a positive result.

The biggest change of course is the change of team. This was necessitated by prior mismanagement of the old team led by founder Chris Reed. The final straw appears to have been the mismanaged move into vertically integrated manufacturing operations in 2015 which led to stockouts and increased distribution costs and severely hurt the company’s profitability and cash flows. At one point the currently exiting CFO was even making personal loans to the company to finance working capital needs to help keep operations afloat. In 2017 a new team led by an activist campaign acquired control of the company. Shortly thereafter they named John Bello (founder of Sobe and former Chairman of Izze - both sold to Pepsi), as Chairman of the Board who then hired Val Stalowir as CEO to run the company.

Reed’s Inc.’s prior problems primarily stem from poor corporate governance and management execution issues. During founder Chris Reed’s tenure, his board was comprised of family members and friends leaving shareholders subject to the outcomes of his sometimes-suspect decisions. Despite the misalignment of interests, he should be commended for nearly single-handedly creating from scratch a company that at one point did almost $50M in sales and also owned the leading brand in ginger beer. However, he is also culpable for the strategic and operational missteps which allowed the activists to come in and gain control of the company.

New ownership has cleaned up many of these issues. They have installed a new team that is appropriately aligned with shareholders who are also pursuing a fundamentally sound operating strategy by building on two brands that are very strong in their attractive respective niches. Key highlights of this transition include:

  • -          New CEO, Val Stalowir, was installed in July 2017 and has CPG and beverage operational experience in leadership roles
  • -          Chris Reed is now Chief Marketing Officer where he is less involved with the strategic direction of the company
  • -          The company is shifting its focus to become an asset light company by outsourcing bottling operations, so it can redirect resources to marketing and brand building initiatives
  • -          The team has been bolstered with recent hires including a new CFO, a new Director of Marketing and a new Director of Supply Chain; all have strong applicable experience and together these hires will complete the relocation of company headquarters from LA to the Norwalk, CT
  • -          The pending sale of the LA facility will finalize the move away in-house manufacturing operations

The asset light business model and greater focus on marketing should reignite sales growth which will position the company as an attractive acquisition target further down the road. Already these initiatives have began to pay off. In Q2 reported yesterday, the company announced GM expanded 1340 bps yy through a combination of improved terms of glass purchasing, higher ASPs from a year ago price increase, reduced idle plant costs and SKU rationalization efforts. Case growth for the remaining core brands also showed year over year growth for the first time in over two years.  

Moving forward, the company is focusing on only Virgil’s and Reed’s after cleaving off Kombucha and other underperforming product lines. Both Reed’s and Virgil’s have strong positions in their growing categories and offer additional growth opportunities. Both are getting a marketing refresh and will be the recipient of a greater allocation of marketing dollars to generate demand. It is unclear how successful these marketing efforts will be. However, not counting the hiccups beginning around 2015, the brands have managed to grow largely despite mismanagement, so it stands to reason a competent and focused team could improve on their performance to date.

  • -          Reed’s is one of the top two players in the ginger beer category and the only scaled provider of ginger beer that actually has ginger in it, a fact that has become increasingly important given the trend towards authentic ingredients. The category is growing ~15%/year, but the brand is still underpenetrated in terms of doors in the C-store, club store and grocery channels. Ginger is on trend and growing well https://www.thinkwithgoogle.com/_qs/documents/2446/beverage-trends-report-2017_67jWhe6.pdf.  
  • -          Virgil’s is one of the top brands in craft soda, a category that is also growing, albeit at a slower rate around MSD annually. The brand is likewise underpenetrated in the C-store, club store and grocery channels. The Virgil’s Zero Sugar line has recently named 12-time Jeopardy winner Austin Rogers as its spokesman for its zero sugar craft soda line. 

Valuation

Though shares have moved this year, much of the enterprise risk for the company has largely been eliminated with recent company initiatives. At recent trading levels, potential returns will largely be determined by the success of the reinvigorated marketing campaign which will be borne out by total revenue growth numbers.

If the company is successful in growing both the two brands to a sales base around an $80M level, a 3x multiple on 38M fully diluted shares would equate to a little over $6 / share. If the company can outperform their categories, such an outcome could be achieved in two to three years. With market performance, it may take closer to five years.

As to downside, with much of the enterprise risk eliminated, if the company is able to become cash flow positive as they have stated they intend to in 2H of this year, downside protection exists around the $2-3 level, assuming steady but uninspiring operating and sales growth performance.

Risks

Competition – It is entirely possible the company has missed their window to dominate the ginger beer and craft soda categories. Fever Tree has made meaningful in-roads with bars and restaurants, and Bunderburg recently signed a distribution deal with Pepsi. Still, in total the category is growing and Reeds remains a leading, if historically mismanaged brand. Even so, the risk of increased competition in an attractive niche cannot be summarily dismissed.

Operational execution – The company simply must operate better than it has historically as some channel partners remain upset about prior unfilled commitments. New management has communicated their desire to work with their partners and improve these relationships, but they must deliver on these promises.

Takeout likelihood – The likely exit for the company is a takeout to a larger brand. This is not an assured outcome as the acquisition appetite of larger brands cannot be guaranteed. While the likelihood of an immediate event is low, it is a common page in the brand building playbook and a likely outcome in the long term.

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

Catalyst

Improved execution

Sales growth

Takeout

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