Barfresh Food Group, Inc. (BRFH) Earnings Call Transcript & Summary

Good afternoon, everyone, and thank you for participating on today's Fourth Quarter and Full Year 2022 Corporate Update Call for Barfresh Food Group. Joining us today is Barfresh Food Group's Founder and CEO, Riccardo Delle Coste; and Barfresh Food Group's CFO, Lisa Roger. Following prepared remarks, we will open the call for your questions. The discussion today will include forward-looking statements. Except for historical information herein, matters set forth on this call are forward-looking within the meaning of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements about the company's commercial progress, success of its strategic relationships and projections of future financial performance. These forward-looking statements are identified by the use of the words such as grow, expand, anticipate, intend, estimate, believe, expect, plan, should, hypothetical, potential, forecast and project, continue, could, may, predict and will, and variations of such words and similar expressions are intended to identify such forward-looking statements. All statements other than the statements of historical fact that address activities, events or developments that the company believes or anticipates will or may occur in the future are forward-looking statements. These statements are based on certain assumptions made based on experience, expected future developments and other factors that the company believes are appropriate under the circumstances. Such statements are subject to a number of assumptions, risks and uncertainties, many of which are beyond the control of the company. Should one or more of these risks or uncertainties materialize or should underlying assumptions prove incorrect, actual results may vary materially from those indicated or anticipated by such forward-looking statements. Accordingly, investors are cautioned not to place undue reliance on these forward-looking statements, which speak only, as of the date they are made. The contents of this call should be considered in conjunction with the company's recent filings with the Securities and Exchange Commission, including its annual report on Form 10-K, and the quarterly reports on Form 10-Q and current reports on Form 8-K, including any warnings, risk factors and cautionary statements contained therein. Furthermore, the company expressly disclaims any current intention to update publicly and forward-looking statements after this call, whether as a result of new information, future events, changes in assumptions or otherwise. In order to aid in the understanding of the company's business performance, the company is also presenting certain non-GAAP measures, including adjusted EBITDA, which are reconciled in a table in the business update release, to the most comparable GAAP measures. The reconciling items are nonoperational or noncash costs, including stock compensation, stock issued for services and gain or loss on the sale of derivatives and other nonrecurring costs such as those associated with the product withdrawal, asset impairment and the company NASDAQ uplist. Management believes that adjusted EBITDA provides useful information to the investor because it is directly reflective of the period-to-period performance of the company's core business. Now, I will turn the call over to CEO of Barfresh Food Group, Mr. Riccardo Delle Coste. Please go ahead, sir.

Good afternoon, everyone, and thank you for joining us for our fourth quarter and full year 2022 earnings call. We had a strong first half of the year, which allowed us to achieve our highest annual revenue in company history. Despite continued supply chain issues throughout the year, and our decision to voluntarily withdraw defective product from the market from 1 of our 2 bottle manufacturers, due to textural issues with their finished product. During the first half of 2022, we invested in our infrastructure, entered into a new manufacturing agreement for our new smoothie carton offering, expanded our customer base and implemented price increases across all product offerings, setting us up for what we expected to be a very strong back half of the year. Prior to the isolated incident with our largest twist-and-go bottle manufacturer, we were expecting revenue for the second half of this year to not only exceed the first half, but also to be greater than the full year of 2021. Despite the temporary setback, we kept our heads down and stayed committed to servicing our customers. In the fourth quarter, we continued to supply Twist & Go bottle product, but at a significantly reduced rate via our other capacity-constrained bottle manufacturer and as planned, executed the rollout of our new smoothie carton product. However, as the lost bottle manufacturer accounted for over 50% of all our purchases, the lost production had a significant impact on our revenue generation in the third and fourth quarters, and will continue to have an impact until we replace the bottle manufacturer. We had generated over $3 million of sales in the third quarter before all the credits for the withdrawal of product, and we were expecting to generate $4.5 million in the fourth quarter versus the $1.4 million, we actually booked. We are actively working to replace the lost bottle manufacturer and are working on multiple options. However, it takes time to source a new partner with the right experience, infrastructure and available capacity. However, we were fortunate that early in 2022, we had set on a path to launch our new smoothie carton product offering, the fourth quarter of 2022, and we achieved that goal. This new carton product offering was created to be complementary to our bottle revenue. This is an important point because our market wants and needs both carton and bottle product offerings. The response from our new customers since we rolled out the new smoothie carton product in the fourth quarter has been fantastic. It has helped us secure new customer wins and the environmentally friendly format has helped us enter into school districts, we were previously excluded from, due to their no plastic policy. The demand for the product has exceeded our expectations, and we saw demand outstrip supply in the fourth quarter and into the first quarter of 2023. As we were still finalizing product testing, and are awaiting installation of new equipment to increase the available capacity. We have our co-packer working to make engineering changes to the manufacturing line, which will allow them to increase capacity to approximately 25 million to 30 million units per year. However, this is not expected to become fully available until the second half of 2023. Results in the first half of 2023 will be impacted from these supply constraints, but revenue is expected to grow significantly in the back half as additional capacity for our smoothie carton product comes online. We expect margin improvement in the upcoming year, driven by 3 main factors: price increases that we implemented this year, the continuation of our operational margin improvement efforts, and a full year of sales of our higher-margin smoothie carton product. We expect gross profit margins for the first half of 2023 to be consistent with the fourth quarter of 2022 in the mid-30s, and then expand slightly in the back half of the year as sales increase with our increased capacity for our smoothie carton product. We will be focused in 2023 on securing the loss bottle manufacturing capacity and also securing additional carton capacity to support our long-term growth. We have proved to be a nimble organization that quickly adapts to change and we will work this year to not only improve production levels, but also continue to improve our cost structure and margin profile. So that once we move past these near-term hurdles, we will be back on our path towards sustainable, long-term growth and profitability. Lastly, as it relates to the legal matter with our former bottle manufacturer, we continue to pursue a resolution with the manufacturer. Given the size of the disruption to our business and the magnitude of the damage we've had to endure, an outcome in our favor should result in a significant financial recovery for the company. As the process is ongoing, there is nothing more to report at this time. I'll now turn the call over to our CFO, Lisa Roger. Lisa?

Thank you, Riccardo. Revenue for the fourth quarter of 2022 was $1.4 million compared to $2.5 million in the prior year. Revenue for the full year of 2022 increased 37% to a record $9.2 million compared to $6.7 million for the full year 2021. The full year increase in revenue is the result of increased orders of our Twist & Go bottle product in the first half of the year, and sales from our new smoothie carton product rolled out in the fourth quarter of 2022. This was offset by reduced sales of our Twist & Go bottle product in the back half of the year due to the loss of our largest bottle manufacturer. Net sales for the full year of 2022 include a $500,000 unfavorable impact related to expected customer credits. Additionally, we estimate that we lost over $3 million in revenue resulting from the disposal of Twist & Go bottle inventory with textural issues and the loss of bottle capacity in the third and fourth quarters of 2022. Gross margin for the fourth quarter of 2022 were essentially flat to the prior year period at 36%. Gross margins for the full year of 2022 were 16% compared to 37% for the full year of 2021. The year-over-year decline in gross margins was primarily due to the customer credits and costs related to the product withdrawal in the third quarter of 2022, partially offset by the launch of our new higher-margin smoothie carton product in the fourth quarter of 2022. In addition, the higher raw material and packaging costs from the unprecedented market costs and labor shortages weighed on margins in 2022. As Riccardo said, we expect margin improvement in 2023, as we benefit from increased sales of our new higher-margin smoothie carton product, pricing actions implemented in 2023 and our operational margin improvement efforts. Our net loss for the fourth quarter of 2022 was $1.9 million as compared to net income of $130,000 in the fourth quarter of 2021. Net income for the fourth quarter of 2021 benefited from forgiveness of a $568,000 PPP loan. Net loss for the fiscal year 2022 was $6.2 million as compared to a net loss of $1.3 million in fiscal year 2021. The main drivers behind the year-over-year loss increase were the lack of product supply from our lost bottle manufacturer, overall higher operating costs since the start of the pandemic, increased costs for ingredients and packaging and significantly higher freight costs. Net loss for fiscal year 2022 was also impacted by $1.8 million in charges related to the product withdrawal, and a $746,000 noncash asset impairment charge related to idle equipment resulting from overcapacity for our single-serve products and equipment held at our manufacturer. G&A expenses for the fourth quarter of 2022 were $927,000 compared to $572,000 in the same period last year. Selling, marketing and distribution expense for the fourth quarter of 2022 increased to $610,000 compared to $574,000 in the fourth quarter of 2021. G&A expenses for fiscal year 2022 were $3.5 million compared to $2.2 million in the prior year. The increase in G&A was driven by an increase in personnel costs as we hire permanent staff, rather than rely on consultants and temporary staff, as the critical stages of the COVID-19 pandemic waned. Personnel costs include noncash stock-based compensation. Additionally, G&A expenses were impacted by an increase in research and development expense in the third quarter of 2022 related to the launch of the new smoothie carton product and legal fees related to the dispute with our bottle manufacturer. For fiscal year 2022, selling, marketing and distribution expense increased to $2.9 million compared to $1.8 million in the prior year. The increase is a result of the increased sales and marketing personnel and outbound freight, elevated as a result of increased shipments, including those that were ultimately not recognized as revenue due to the product withdrawal. Inflationary pressures have also contributed to the year-over-year increase in outbound freight expense. We have been working to offset the elevated product and freight costs by implementing a number of initiatives to include the new smoothie carton format, as well as ingredient and freight optimization. For the fourth quarter of 2022 and full year 2022, our adjusted EBITDA was a loss of approximately $833,000 and $2.4 million, respectively, as compared to a loss of $67,000 and $1.2 million for the same period last year. The increase in adjusted EBITDA loss was due to the aforementioned margin pressure and the increase in operating expenses, as we emerged from the pandemic and built our business to support the growth that was anticipated before we encountered the project issues and dispute with one of our bottom manufacturers. Now moving on to our balance sheet. As of December 31, 2022, we had approximately $3 million in cash and approximately $1 million of inventory on our balance sheet. We are confident that we will not need to raise additional capital for the foreseeable future. Now, I will turn the call back to Riccardo for closing remarks.

Thank you, Lisa. We experienced a temporary setback in 2022. However, we are laser focused this year on working to replace the lost bottle manufacturer, increased capacity with our new carton manufacturer, and expand both our single-serve and bulk smoothie customer base, in order to set us up for record revenue in the back half of 2023 and higher year-over-year margins. Although we expect that the product withdrawal, reduction in capacity and the cost of litigation will negatively impact our ability to achieve positive cash flow in the near term. We do not expect that we will need to raise any additional capital to navigate the setback in order to get our company to profitability. We have already achieved more revenue during the first quarter of 2023, compared to the complete fourth quarter of 2022, and we expect improved margins and operating results for the first quarter of 2023 compared to the prior sequential quarter. In addition, we expect continued sequential top and bottom line improvement throughout this year. It is important to understand that our new carton business was created to be incremental to our bottle business. It is clear that our addressable market wants both bottles and cartons, and we will continue working to bring a new bottle manufacturer online. I don't want this temporary bottling setback to overshadow the accomplishments we've achieved in 2022, as we were already on our way to becoming a much stronger company and well positioned for revenue and margin improvement compared to the last year with our other products. As a reminder, those achievements included expanding our customer base across all channels, increasing our national sales network by adding sales brokers specializing in the education market. Increasing our participation in education and nutrition trade shows, expanding our manufacturing footprint by entering into a new manufacturing agreement for our new smoothie carton offering, rolling out our new economically and ecologically friendly smoothie carton format, continuing to work on cost and efficiency improvements and implementing a new operating system to help us manage growth, and provide better visibility into our business. And with that, I would like to open up the line to questions. Operator?

[Operator Instructions] Our first question is from Marc Nuccitelli with Bluestone Capital.

Okay. Just a couple of questions, if you don't mind. First off, with respect to this deficient bottle manufacturer. Do you -- if you had a guess to make, how many sales were lost between the third and fourth quarter and possibly into the first quarter?

I mean...

$4 million, $5 million for '22?

Pretty easily -- well, just between the end of Q3 and Q4, there was over $3 million just in those 2 quarters. So it would have absolutely extended at that same level at least into Q1 as well. We had such a high base of sales already created that. Unfortunately, the loss of supply just completely decimated our sales. We've got taken off menus and the whole 9 yards. So without going into too much detail, it has been pretty devastating for the company given the fact that we were really already expecting to be at profitability last year -- at the end of last year, was when we were really expecting to already be there. So it's going to delay us a little bit, and it is unfortunate. But we're going to continue to press ahead. And, I think we're on a -- the team is doing a great job in recovering from that. And I think that's going to be pretty evident to everybody here shortly.

Okay. Have you actually -- have we lost any customers or things have just been delayed for the moment?

No, we've absolutely lost customers, as a result of no supply and being taken off the menus that absolutely has happened. But we're replacing -- I guess we're getting new customers more so, with the new carton product. When we created the carton product that was really aimed at going after a different set of customers within that market. So the team is doing a pretty good job of targeting those customers. And from an aggregate revenue perspective, instead of really having the bottle volume there and then incrementally adding the carton volume on top of that, the carton volume is coming through. So from an aggregate perspective, the company is going to be in a great position. However, we will end up replacing that bottle volume at some point in time to just continue to add to that top line as well.

Okay. Do you mind commenting -- I know there was a lawsuit filed. What was the total amount of the lawsuit?

Yes. Look, we really can't say too much about that. When we did -- when we filed the lawsuit, it was for a minimum of $20 million. But we really can't -- that's public record. So outside of that, we really can't discuss it further.

So where do you sit now on -- what do you think your total capacity is now with the new contract manufacturers for the...

So we can't -- we split with one of our current co-packers we're at about $4 million-ish with the bottles. And we're at about $4.5 million with the current carton capacity. So that's about 8.5% to 9% there. But the carton capacity is really going to expand significantly over the next few months. So for the beginning of the second half of the year, that carton capacity should be available to us in the range of 25 million to 30 million units annually -- 25 million to 30 million just on the carton side becoming available to us for the second half of the year. So at an aggregate level, we're going to have between all the products close to 35 million to 40 million quite easily. So that should get us through the next year.

Great. Because I think before we had this interruption, we were expected to exit the year kind of on that $25 -- $20 million, $25 million type of run rate that you handle that business -- Okay.

And, we expect to get back there pretty quickly as well. So which is why we're kind of laser-focused on getting the cartons out and getting the new bottle manufacturer up and running.

Can you comment on how is the other parts of the business picking up? Anything more on the military side, some of the other...

The rest of the business has been pretty consistent, gradually growing -- still there. A lot of the business focus has been dealing with the major catastrophe that's really happened with the bottle manufacturer. They did account for over 50% of our total purchases. I mean, so the main fact that the team has even been able to turn it around the way we have, we really were fortunate that we already had a new product that we've been working on, from last year, from early last year. So it was just all good timing from that perspective. And we will recover that bottle manufacturing capacity at some point, and, it will continue to grow.

Okay. Just my final question. Can you just -- we're already in March, can you give some texture or some color on the first quarter, how things are positioning recovering from Q4 and then also maybe gross margin and then EBITDA margin? And how are you thinking about hopefully, things you said should be picking up into the second quarter?

Yes. So I think what's going to be great as we turn the corner here, I think when things started going sideways on us, I did mention that we thought that we would be able to at least recover and being recover a little bit by the end of Q1, at an aggregate level for the company. That pretty much stands the same. We did mention that currently, we've already surpassed Q4 sales in Q1. So Q1 sales have already surpassed Q4 of last year. But I think, the more attractive part of the business is that Q1's adjusted EBITDA is probably going to be comparable with the best quarter adjusted EBITDA that we had last year. So that's really an indication that from a margin perspective, we've done a great job of closing the gap. And even though it's on a lower revenue number, our adjusted EBITDA is going to be comparable with the best quarter that we had last year. And obviously, we expect it to considerably increase in the back half, purely given the constraints that we've had in the first quarter, still as a result of all of the bottle manufacturing issues.

Our next question is from Anthony Vendetti with Maxim Group.

So on the margin side, on the operational margin side, once you get over all these auto manufacturer issues. Should we start to see some leverage on the operating side -- operating margin side?

Yes, absolutely. That's really what -- we said about those initiatives last year as well, Anthony. So we really should have started to see the benefits of those in the fourth quarter. But again, given everything that happened, we haven't -- unfortunately, we didn't get to see that, you will start to see that in Q1. So you'll see the larger effect in Q1 and then even more so in Q2 and Q2, Q3 and beyond. So, that was really part of our strategy, and it's starting to come into play.

And then, Riccardo, on the lost customers, obviously, not always easy to get them back right away. But, how are those conversations going in terms of, okay, if you give us another chance, we have another manufacturer, we don't think we'll have that issue. What's your -- based on the conversations you're having, do you think you get back, half of those lost customers, most of them, what's your feel at this time?

Yes. Look, I mean, I think the biggest part of the challenge that we have is that some customers had a bad experience with the product, right? So in a way, it may be more beneficial to us that they have a little bit of a break anyway, and some time passes. I think for the most part, everyone's been incredibly understanding. Nearly, all of these customers that we had the issues with were long-term customers. And so they were very familiar with the product. They've had a great experience. They've handled the product the same way the whole time. And, when they came into the issue, they understand that it's not the norm. So from that perspective, we believe that we will be able to get most, if not all, customers back. It just may take us a little bit of time and some may come back on sooner than others. But I'm pretty confident that over time, we'll actually probably get them all back, to be honest.

Okay. That's good to hear. And then in terms of your current sales force, do you have a sufficient sales force in place to drive your goals for '23 and '24 or do you need to add a few more people throughout this year?

No. Look, I think as we announced last year, we added a national brokerage team to the mix. And, it happened just before we had bad product, which was very unfortunate. But at the same time, I think we've got an incredible amount of leverage out there to really go and grow the business in the local markets around the country. So, I think the company is in we thought we were here last year already before we had the issue with the bottle manufacturer. I think the company is in the best position fundamentally from a product and sales and opportunity and margin perspective, that we've ever been in. We've got a really captive audience in our customer set, and they love the product. So, I think we've got great things to come for the rest of the year.

[Operator Instructions] Okay. We have reached the end of our question-and-answer session, which concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.