Activist Jana prepares to bring star nominees to Freshpet’s board. Here’s how it can create value


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Company: Freshpet (FRPT)

Company: Freshpet manufactures and markets natural fresh meals and treats for dogs and cats in the United States, Canada and Europe. The Company sells its products under the Freshpet brand, as well as the Dognation and Dog Joy labels, in a variety of retail categories, including grocery, mass merchandise, club, pet specialty and natural products. , as well as online.

Market value: $2.3 billion ($50.09 per share)

Activist: Jana Partners

Percentage of ownership: 9.89%

Average cost: $42.76

Activist Comment: Jana is a highly experienced activist investor founded in 2001 by Barry Rosenstein. They have made a name for themselves by taking deeply researched militant positions with well-laid plans for long-term value. Barry Rosenstein called his activist strategy “V cubed”. The three Vs were “(i) value: buy at the right price; (ii) the votes: knowing if you have the votes before you start a proxy contest; and (iii) the variety of ways to win: having more than one strategy to improve Since 2008, they have gradually moved this strategy towards what we call the “three S’s” (i) stock price – buy at the right price; (ii) strategic activism – sale of business or spin-off of a business; and (iii) star advisors/nominees – aligning themselves with key industry leaders to advise them and take board seats when needed. Jana has extensive experience in this industry, with a successful track record in the retail sector and their involvement has led to the sales of Pinnacle Foods, PetSmart, Safeway, Whole Foods and the spin-off of ConAgra from her Lamb Weston business.

What is happening?

Jana has entered into nomination agreements, pursuant to which the following six nominees have agreed to become members of a potential slate of Jana directors for election at Freshpet’s 2023 annual meeting: (i) Diane Dietz, an investor and consumer and retail industry advisor who served as President and CEO of Rodan & Fields, LLC, a premium skincare brand, and Chief Marketing Officer of Safeway, Inc., a food and pharmaceutical retailer; (ii) James Lillie, a private investor who was formerly CEO of Jarden Corporation, a consumer products company; (iii) Timothy R. McLevish, Managing Partner of Strategic Advisory Partners LLC – he also served as CFO of Kraft Foods Inc. and Kraft Foods Group, CFO of Carrier Global Corporation, an HVAC manufacturing company, and CFO of Walgreens Boots Alliance – (iv) Dwyane Wade, CEO of Wade Enterprises, Inc., owner of the National Basketball Association’s Utah Jazz and founder of Wade Cellars, who was previously a professional basketball player for 16 years in the NBA ; (v) Carsten Charles (“CC”) Sabathia, Jr., Special Assistant to the Commissioner of MLB, Vice Chairman of The Players Alliance Board of Directors and host of the R2C2 podcast, who was previously a professional pitcher for 19 years in MLB; and (vi) Ginger Gorden, CEO of GD Group, Inc., a business management services company. Additionally, Jana announced that she intends to have discussions with Freshpet’s board and management team regarding (a) assessing the company’s strategic value during a sell-off, capitalizing on interest in the category of much larger players with lower capital costs, strong operational capabilities, larger footprints and greater scale; (b) capital allocation, including Freshpet’s capacity expansion initiatives; (c) operations, fill rates, costs, free cash flow, brand building and margin execution; (d) communication with investors; (e) management; (f) management compensation and incentives; and (g) Board composition and governance matters.

In the wings

Freshpet is a manufacturer of fresh food for dogs and cats. It offers a great product in an attractive growing market, with huge distribution and exclusivity deals that are hard to replicate. The company has 27,000 Freshpet refrigerators in grocery and specialty stores. These are refrigerators that Freshpet buys, maintains and stocks, which is a win-win for both the company and the retailer. The company benefits from this as it gives them a huge moat for their business and a competitive edge over their peers. Retailers love it because it doesn’t take up any of their existing refrigerator space and because customers who buy fresh pet food are less likely to stock up on space-consuming product. in the refrigerator and brings the customer back to the store sooner.

Since late April 2021, Freshpet’s shares have fallen from around $184 per share to around $45 per share at the end of September, while revenue has grown from $425 million to over $500 million last year and continue to grow. The problem is not the top line. The problem is that the company has quickly evolved to such an extent that the capabilities of the management team are no longer sufficient to meet the challenge. We see it frequently in activist campaigns, such as Chipotle. This has led to issues such as a 70% fill rate on customer orders, where well-managed peers typically operate at a 95% to 100% fill rate.

The first opportunity for value creation here is to moderate Freshpet’s expansion plans and set up the supply chain. Without this, the company could end up using all of its cash flow and balance sheet capacity to finance its expansion. It has already carried out three securities issues to finance its growth. These operational issues can be fixed, but that would require a rebuilt board and management team that are focused on effectively growing the business. Unfortunately, senior management does not seem well positioned or focused on growing the business to maximize shareholder value. Freshpet President Charles Norris has served on the board for about 16 years. Although the company named a new CEO in 2016, co-founder Scott Morris still holds the title of chairman and COO. If you want to know how focused he is on the business, all you need to know is that in 2020 he co-founded a new company, Hive Brands, while presumably working full-time as a President and COO of Freshpet. Surprisingly, the board had no problem with this.

The other opportunity to create shareholder value is the sale of the company. Pet and baby products are two of the most attractive categories among consumer packaged goods (“CPG”) companies, which is a space for consolidation as these companies are notoriously difficult to grow organically. There would likely be significant interest in Freshpet from larger CPGs who already have a pet food business or CPGs looking to start a pet food business. These large companies already have a management team and infrastructure that can handle almost any growth rate with fill rates over 95%. This would be the easiest option with less time and uncertainty and is something the company should definitely explore. In that regard, it’s a lot like Jana’s 2017 campaign at Whole Foods, which had similar issues and dynamics to Freshpet and was quickly sold to Amazon. The realization of either of these value creation opportunities will depend on Jana’s ability to amicably or forcibly obtain seats on the board of directors.

As in many of her past activism situations, Jana has partnered with a leading group of operators to help her develop her thesis, consult and, if necessary, potentially be appointed to the board. The six people who have agreed to be potential nominees for Jana’s directorship at the 2023 annual meeting include former CEOs, CFOs and CMOs of major public companies and two people we most l Usually seen on a pitch or on a pitch only in a boardroom: Dwyane Wade, formerly of the Miami Heat, and CC Sabathia, formerly of the New York Yankees. While Wade and Sabathia may not have obvious relevant experience as former public company executives, Wade does have entrepreneurial experience as the founder of Wade Cellars, and they both have extensive experience in growing of their own brands. Additionally, achieving what they have in the sport requires an extreme level of work ethic and focus: two things the company seems to desperately need, along with diversity of experience and perspective, because the board is 90% white and 70% male. Although Jana has agreements with six potential candidates, there are only four seats to be filled next year, so there is probably only room for three of those six, as Jana historically includes one of its own managers on the lists of the board of directors. As a result, the slate that makes the most sense would be a candidate Jana, two former executives, and either Wade or Sabathia.

Freshpet’s 2022 Annual Meeting of Shareholders will be held on October 3. Jana will therefore not be able to appoint directors this year. But at next year’s October meeting, the company’s longtime chairman Norris and CEO William Cyr will both be up for election. If they are replaced, there will be a real power shift in the company, not to mention an equity mandate for change. Moreover, it is highly likely that this shareholder base will support Jana due to Freshpet’s strong underperformance. Many large shareholders, including those who bought in the May 2022 stock offering at $81 per share, are well under water on their investment and would likely support Jana. Those same shareholders would also likely support a sale of the company at a 40% premium, though that’s well below 2021 highs of around $184 per share. Unlike many companies in similar situations, there may not be too much management resistance to a sale. The president/co-founder has one foot in the door with the launch of his new venture. The chairman is running for re-election next year and would likely prefer to leave by selling the company rather than getting elected to the board. Finally, the CEO, who is also a candidate for re-election next year, would have a similar motivation, in addition to a likely large salary on a sale.

Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and he is the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist investments 13D. Freshpet is a stake in the fund. Squire is also the creator of the AESG™ investment category, an activist style of investing focused on improving the ESG practices of portfolio companies.

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