A real good food companyNASDAQ: RFF) expects sales growth of more than 80% in 2022 and is investing in growth markets such as the high protein food market. I believe that the future of the company is sweet, but the current the valuation per share seems too high. Under normal conditions, including sales growth close to that of the high-protein food market, I got an estimate of $4.69. In my view, the risks associated with customer contracts, co-producer relationships and higher interest rates could reduce free cash flow. As a result, the share price may drop to lower price points than the current market price.
Real good food
Real good food works a frozen food business offering high protein, low sugar, gluten free, and grain free products. The company specializes in main courses but also sells breakfast, pizza and snacks, according to the latest quarterly report.
If I can get straight to the point, I’m writing about a company because management impressive. Leadership is pending almost 84% sales growth in 2022, and the adjusted gross margin is close to 17%. If you do not take into account the assessment of the company, then this is a company that is growing at a very decent pace.
Under normal circumstances, I got an estimate between $3.57 and $4.69.
In my opinion, if management successfully interacts with the market that chooses The Real Good Food products, revenue growth will be higher. The mission of the company was clearly stated in the annual report:
Our mission is important to us because we believe that an increasing number of consumers are looking to make healthier food choices but are facing limited options when it comes to the convenience of products found in the frozen food section. Source: 10-K
In my opinion, under normal conditions, The Real Good Food stock is likely to trade in line with the growth of the global food and beverage market. Market experts believe that the market will trade at a level close to 5.8%.
According to the latest study, the demand in the global food and beverage metal can market was estimated at around $27,419.5 million in 2021 and is expected to exceed $38,456.8 million by 2028. the annual growth rate will be about 5.8% during the forecast period from 2022 to 2028. Source: With a CAGR of 5.8%, the global market size for metal cans for food and beverages
Using expectations of other analysts and market growth, I believe $459 million in sales by 2031 is achievable. Note that I have included double-digit sales growth from 2023 to 2026 and 5.8% sales growth from 2027 to 2031. I have also included a conservative EBITDA margin of around 6% and a positive net income from 2024.
With conservative changes in receivables, inventory and capital expenditures of around $7-20 million, free cash flow in 2031 will be $17 million. My numbers include free cash flow of over $12 million from 2025 to 2031. My exit multiple is 11x EBITDA, which I consider conservative and in line with the industry average. Finally, I got a net worth estimate of $92 million and a fair price of $3.57.
Note that the company has two types of shares that I do not really appreciate. Usually market doesn’t like it either. In May 2022, the company reported almost 25.7 million shares:
As of May 12, 2022, there were 6,169,885 Class A Common Shares and 19,577,681 Class B Common Shares outstanding with a par value of $0.0001 per share. Source: 10-Q
Real Good Food is also active in the global high protein food market, which is growing at about 7%. In my opinion, if management successfully invests in this market, sales growth could be around 7% in the long run. With that in mind, I ran another scenario with over 7% sales growth since 2027.
The global high protein food market is expected to grow by $27.49 billion from 2019 to 2024, with a CAGR of 7%, according to the latest market report from Technavio. Source: High protein food market
My results were slightly better than in the previous case. Assuming an 11x EBITDA exit, the implied valuation is $4.69.
Risk factors: customer concentration, need for new co-producers, production capacity and rising interest rates
Real Good Food is still a small business, so a lot can go wrong. First, the company suffers from significant concentration risk. The two large supermarkets accounted for more than 70% of total sales in 2021. If one of these supermarkets leaves The Real Good Food, the drop in sales could be significant. As a result, the value of the company will fall.
We have been and continue to be exposed to significant customer concentration risk. For the year ended December 31, 2021, Costco and Walmart accounted for approximately 71% of our net sales combined, and for the year ended December 31, 2021, they accounted for approximately 51% and 21% of our net sales, respectively. Source : 10-K
Real Good Food also manufactures some products in manufacturing facilities with other manufacturers. Management is building new facilities, but the company expects to continue to rely on external manufacturing capacity. In general, The Real Good Food needs to cooperate with other partners for production. If the company loses one or more manufacturers, production may decrease, and with it, revenue:
The loss of one or more of our co-producers, or our inability to identify new co-producers, could harm our business and hinder our growth. For the year ended December 31, 2021, up to 30% of our production was produced at various sites of our co-producers. In 2021, we started production at our manufacturing facility and while our growth strategy includes expanding our overall production and manufacturing capabilities over time, we also expect our co-manufacturers to provide us with some of our manufacturing capacity for the foreseeable future. , and we may find new co-manufacturers to provide additional capacity or flexibility. Source: 10-K
It is also worth considering that management may overestimate future demand. Too much or too little capacity can affect future financial conditions. A company’s valuation may be affected by:
If we fail to accurately align our production capacity and production capabilities with our current or future demand, or if we experience disruptions or delays in scaling our production capacity, this could have a material adverse effect on our business, results of operations and financial condition. Source: 10-K
Finally, The Real Good Food could also be hit by a potential interest rate hike. Note that management noted in the annual report that some of the company’s debt does indeed have a variable component. The total amount of debt is negligible, but future interest expenses may lead to a decrease in the company’s free cash flow:
The interest rate on the Company’s secured loan and certain other debt obligations is variable and reflects the market conditions for such instruments at any given date, and therefore the carrying amount of this debt approximates its fair value. Source: 10-K
In my pessimistic conditions, I used sales growth of -15% in 2027 and -5% from 2028 to 2031. My EBITDA margin will also be around 5% from 2028 to 2031 and my operating margin will not exceed 2%.
With a 12.5% discount and a 10x exit factor, the estimated capital would be close to $12 million. A fair price could be $0.5.
As of March 31, 2022, The Real Good Food reported $12 million and an asset/liability ratio close to 1x. In my view, overall liquidity is significant, but management may need to raise additional capital to pay for marketing expenses as well as fund sales growth. A possible increase in the number of shares may lead to a decrease in the share price.
The total amount of liabilities is not large, but, in my opinion, it is appropriate to mention revolving and other credit lines. If total debt continues to increase, equity valuation is likely to decline.
Real Good Food is a company to keep a close eye on as its revenue growth forecast is quite impressive. Management expects double-digit sales growth well above the market. That being said, I think the current valuation is too expensive. Given future free cash flow under normal conditions, I think $3.57-$4.69 per share looks fair. Additional investment in the high protein food market is likely to increase free cash flow going forward. However, I cannot justify the current valuation of more than $4.7 per share. In my worst case scenario, which I consider unlikely, the share price could even fall below $2-$3.