Freshpet, Inc.: Form 10-Q for the period ended Sep 30, 2023

The following discussion summarizes the significant factors affecting our consolidated operating results, financial condition, liquidity and cash flows as of and for the periods presented below. The following discussion and analysis should be read in conjunction with the accompanying unaudited condensed consolidated financial statements and related notes in Item 1 and with the audited consolidated financial statements and the related notes included in our Annual Report on Form 10-K for the year ended December 31, 2022 (our "Annual Report").

In addition to historical information, this discussion and analysis contains forward-looking statements based on current expectations that involve risks, uncertainties and assumptions, such as our plans, objectives, expectations, and intentions. Our actual results and the timing of events may differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth in the section entitled "Forward-Looking Statements" in this report and in the section entitled "Risk Factors" in our Annual Report and subsequent Quarterly Reports on Form 10-Q.

Overview

We started Freshpet with a single-minded mission to bring the power of real, fresh food to our dogs and cats. We were inspired by the rapidly growing view among pet owners that their dogs and cats are a part of their family, leading them to demand healthier pet food choices. Since Freshpet's inception in 2006, we have created a comprehensive business model to deliver wholesome pet food that pet parents can trust, and in the process we believe we have become one of the fastest growing pet food companies in North America. Our business model is difficult for others to replicate and we see significant opportunity for future growth by leveraging the unique elements of our business, including our brand, our product know-how, our Freshpet Kitchens, our refrigerated distribution, our Freshpet Fridge and our culture.

Components of our Results of Operations

Net Sales

Our net sales are derived from the sale of products that are sold to retailers through broker and distributor arrangements. Our products are sold to consumers through a fast-growing network of company-owned branded refrigerators, known as Freshpet Fridges, located in our customers’ stores. We continue to roll out Freshpet Fridges at leading retailers across North America and parts of Europe and have installed Freshpet Fridges in approximately 26,385 retail stores as of September 30, 2023. Our products are sold under the Freshpet brand name with ingredients, packaging and labeling customized by class of retail. Sales are recorded net of discounts, returns and promotional allowances.

Our net sales growth is driven by the following key factors:

• Increasing sales velocity from the average Freshpet Fridge due to increasing awareness, trial and adoption of Freshpet products and innovation. Our investments in marketing and advertising help to drive awareness and trial at each point of sale.
• Increasing penetration of Freshpet Fridge locations in major classes of retail, including Grocery (including online), Mass, Club, Pet Specialty, and Natural. The impact of new Freshpet Fridge installations on our net sales varies by retail class and depends on numerous factors including store traffic, refrigerator size, placement within the store, and proximity to other stores that carry our products.
• Consumer trends including growing pet ownership, pet humanization and a focus on health and wellness.

We believe that as a result of the above key factors, we will continue to penetrate the pet food marketplace and increase our share of the pet food category.

Gross Profit

Our gross profit is net of costs of goods sold, which include the costs of product manufacturing, product ingredients, packaging materials and inbound freight, as well as depreciation and amortization and non-cash share based compensation.

We expect to continue to mitigate any adverse movement in input costs through a combination of cost management and price increases.

Selling, General and Administrative Expenses

Our selling, general and administrative expenses consist of the following:

Outbound freight. We use a third-party logistics provider for outbound freight that ships directly to retailers as well as third-party distributors.

Marketing & advertising. Our marketing and advertising expenses primarily consist of national television media, digital marketing, social media and grass roots marketing to drive brand awareness. These expenses may vary from quarter to quarter depending on the timing of our marketing and advertising campaigns. Our Feed the Growth initiative focuses on growing the business through increased marketing investments.

Freshpet Fridge operating costs. Freshpet Fridge operating costs consist of repair costs and depreciation. The purchase and installation costs for new Freshpet Fridges are capitalized and depreciated over the estimated useful life. All new refrigerators are covered by a manufacturer warranty for three years. We subsequently incur maintenance and freight costs for repairs and refurbishments handled by third-party service providers.

Research & development. Research and development costs consist of expenses to develop and test new products. The costs are expensed as incurred.

Brokerage. We use third-party brokers to assist with monitoring our products at the point-of-sale as well as representing us at headquarters for various customers. These brokers visit our retail customers’ store locations to ensure items are appropriately stocked and maintained.

Share-based compensation. We account for all share-based compensation payments issued to employees, directors and non-employees using a fair value method. Accordingly, share-based compensation expense is measured based on the estimated fair value of the awards on the grant date. We recognize compensation expense for the portion of the award that is ultimately expected to vest over the period during which the recipient renders the required services to us using the straight-line single option method.

Other general & administrative costs. Other general and administrative costs include non-plant personnel salaries and benefits, as well as corporate general & administrative costs.

Income Taxes

We had federal net operating loss (“NOL”) carry forwards of approximately $340.3 million as of December 31, 2022, of which approximately $175.4 million, generated in 2017 and prior, will expire between 2025 and 2037. The NOLs generated from 2018 through 2022, of approximately $164.9 million, will have an indefinite carryforward period but can generally only be used to offset 80% of taxable income in any particular year. We may be subject to certain limitations in our annual utilization of NOL carry forwards to off-set future taxable income pursuant to Section 382 of the Internal Revenue Code, which could result in NOLs expiring unused. At December 31, 2022, we had approximately $259.4 million of state NOLs, which expire between 2023 and 2041, and had $14.3 million of foreign NOLs which do not expire. At December 31, 2022, we had a full valuation allowance against our net deferred tax assets as the realization of such assets was not considered more likely than not.

Condensed Consolidated Statements of Operations and Comprehensive Loss

(Dollars in thousands)

(Dollars in thousands)

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Three Months Ended September 30, 2023 Compared to Three Months Ended September 30, 2022

Net Sales

The following table sets forth net sales by class of retailer:

(Dollars in thousands)

(1) Stores at September 30, 2023 and 2022 consisted of 14,558 and 13,429 Grocery and 6,210 and 5,652 Mass and Club, respectively.

(2) Stores at September 30, 2023 and 2022 consisted of 5,143 and 5,096 Pet Specialty and 474 and 474 Natural, respectively.

(3) Online sales associated with each class of retailer are included within their respective total.

Net sales increased $49.3 million, or 32.6%, to $200.6 million for the three months ended September 30, 2023 as compared to $151.3 million in the same period in the prior year. The $49.3 million increase in net sales was driven by growth in the Grocery (including Online), Mass, and Club refrigerated channel of $46.4 million, with the remaining growth in Pet Specialty and Natural. The net sales increase was driven by both volume gains and higher pricing.

Gross Profit

Gross profit was $66.3 million, or 33.0% as a percentage of net sales, for the three months ended September 30, 2023, compared to $44.5 million, or 29.4% as a percentage of net sales, in the prior year period. The increase in gross profit as a percentage of net sales was primarily due to decreased unabsorbed plant cost as we grow into the Ennis facility, reduced quality and input cost as a percentage of net sales, partially offset by increased depreciation expense associated with the Company's capacity expansion and increased share-based compensation. For the three months ended September 30, 2023, Adjusted Gross Profit was $80.6 million, or 40.2% as a percentage of net sales, compared to $52.2 million, or 34.5% as a percentage of net sales, in the prior year period.

See “—Non-GAAP Financial Measures” for how we define Adjusted Gross Profit, a reconciliation of Adjusted Gross Profit to gross profit, the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures.

Selling, General and Administrative Expenses

Selling, general and administrative expenses ("SG&A") were $73.4 million for the three months ended September 30, 2023, compared to $60.4 million in the prior year period. As a percentage of net sales, SG&A decreased to 36.6% for the three months ended September 30, 2023, compared to 39.9% in the prior year period. The decrease of 330 basis points in SG&A as a percentage of net sales was mainly a result of reduced logistics costs as a percentage of net sales, decreased cost related to the ERP implementation, and increased leverage on depreciation and share-based compensation as the business scales, partially offset by activism engagement charges and increased variable compensation accrual.

Adjusted SG&A for the three months ended September 30, 2023, was $57.4 million, or 28.6% as a percentage of net sales, compared to $48.9 million, or 32.3% as a percentage of net sales, in the prior year period.

See “—Non-GAAP Financial Measures” for how we define Adjusted SG&A, a reconciliation of Adjusted SG&A to SG&A, the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures.

Loss from Operations

As a result of the factors discussed above, loss from operations decreased by $8.8 million to a loss from operations of $7.1 million for the three months ended September 30, 2023 as compared to a loss from operations of $15.9 million for the same period in the prior year.

Interest and Other Income (Expense), net

The Company recorded Interest and Other Income (Expense), net of $4.1 million for the three months ended September 30, 2023 as a result of interest income generated from cash and short-term investments.

Interest Expense

Interest expense increased $2.3 million to interest expense of $4.1 million for the three months ended September 30, 2023 as compared to interest expense of $1.8 million for the same period in the prior year. The increase was primarily driven by a $1.7 million increase as a result of interest incurred on our Convertible Notes compared to the interest incurred on the Credit Agreement that existed in the prior period, as well as a $0.6 million increase related to the interest on our finance lease liability.

Loss on Equity Method Investment

Our loss on equity method investment for the three months ended September 30, 2023 was $0 as compared to a loss on equity method investment of $0.9 million in the prior year period from the Company's 19% interest in a privately held company, as discussed in Note 1.

Net Loss

Net loss decreased $11.3 million to a net loss of $7.2 million for the three months ended September 30, 2023, as compared to a net loss of $18.4 million for the same period in the prior year due to contribution profit from higher sales, partially offset by increased SG&A including increased media spend of $5.1 million.

Adjusted EBITDA

Adjusted EBITDA was $23.2 million for the three months ended September 30, 2023, compared to $3.5 million in the prior year period. The increase in Adjusted EBITDA was a result of higher Adjusted Gross Profit due to sales growth and leverage on plant cost and decreased quality and input costs, partially offset by higher Adjusted SG&A expenses.

See "—Non-GAAP Financial Measures" for how we define Adjusted EBITDA, a reconciliation of Adjusted EBITDA to net loss the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures; see the section entitled "Forward-Looking Statements" in this report and the section entitled "Risk Factors" in our Annual Report and subsequent Quarterly Reports on Form 10-Q for factors that could cause our results to differ, in some cases materially.

Nine Months Ended September 30, 2023 Compared to Nine Months Ended September 30, 2022

Net Sales

The following table sets forth net sales by class of retailer:

(Dollars in thousands)

(1) Stores at September 30, 2023 and 2022 consisted of 14,558 and 13,429 Grocery and 6,210 and 5,652 Mass and Club, respectively.

(2) Stores at September 30, 2023 and 2022 consisted of 5,143 and 5,096 Pet Specialty and 474 and 474 Natural, respectively.

(3) Online sales associated with each class of retailer are included within their respective total.

Net sales increased $122.0 million, or 28.4%, to $551.5 million for the nine months ended September 30, 2023 as compared to $429.5 million in the same period in the prior year. The $122.0 million increase in net sales was driven by growth in the Grocery (including Online), Mass, and Club refrigerated channel of $114.4 million, with the remaining growth in Pet Specialty and Natural. The net sales increase was driven by both volume gains, and higher pricing.

Gross Profit

Gross profit was $176.3 million, or 32.0% as a percentage of net sales, for the nine months ended September 30, 2023, compared to $140.3 million, or 32.7% as a percentage of net sales, in the prior year period. The decrease in reported gross profit as a percentage of net sales was primarily due to increased stock compensation expense and depreciation expense associated with the Company's capacity expansion, partially offset by reduced input and quality cost as a percentage of net sales. For the nine months ended September 30, 2023, Adjusted Gross Profit was $218.1 million, or 39.5% as a percentage of net sales, compared to $159.3 million, or 37.1% as a percentage of net sales, in the prior year period.

See “—Non-GAAP Financial Measures” for how we define Adjusted Gross Profit, a reconciliation of Adjusted Gross Profit to gross profit, the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures.

Selling, General and Administrative Expenses

Selling, general and administrative expenses ("SG&A") were $221.6 million for the nine months ended September 30, 2023, compared to $190.2 million in the prior year period. As a percentage of net sales, SG&A decreased to 40.2% for the nine months ended September 30, 2023, compared to 44.3% in the prior year period. The decrease of 410 basis points in SG&A as a percentage of net sales was mainly a result of reduced logistics cost as a percentage of net sales, decreased cost related to the ERP implementation, and increased leverage on media, depreciation and share-based compensation as the business scales, partially offset by activism engagement charges and increased variable compensation accrual.

Adjusted SG&A for the nine months ended September 30, 2023, was $182.9 million, or 33.2% as a percentage of net sales, compared to $158.5 million, or 36.9% as a percentage of net sales, in the prior year period.

See “—Non-GAAP Financial Measures” for how we define Adjusted SG&A, a reconciliation of Adjusted SG&A to SG&A, the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures.

Loss from Operations

As a result of the factors discussed above, loss from operations decreased by $4.6 million to a loss from operations of $45.3 million for the nine months ended September 30, 2023 as compared to a loss from operations of $49.9 million for the same period in the prior year.

Interest and Other Income (Expense), net

The Company recorded Interest and Other Income (Expense), net of $9.2 million for the nine months ended September 30, 2023 as a result of interest income generated from cash and short-term investments.

Interest Expense

Interest expense increased $6.5 million to interest expense of $10.6 million for the nine months ended September 30, 2023 as compared to interest expense of $4.1 million for the same period in the prior year. The increase was primarily driven by the termination of our Credit Agreement in the current period resulting in the write-off of unamortized fees of $2.5 million which were recorded to interest expense, $3.4 million increase as a result of interest incurred on our Convertible Notes compared to interest incurred on the Credit Agreement that existed in the prior period, as well as a $0.6 million increase related to the interest on our finance lease liability.

Loss on Equity Method Investment

Our loss on equity method investment for the nine months ended September 30, 2023, was $1.9 million as compared to a loss on equity method investment of $3.0 million in the prior year period from the Company's 19% interest in a privately held company, as discussed in Note 1.

Net Loss

Net loss decreased $7.7 million to a net loss of $48.9 million for the nine months ended September 30, 2023, as compared to a net loss of $56.6 million for the same period in the prior year due to contribution profit from higher sales, partially offset by increased SG&A including increased media spend of $12.7 million.

Adjusted EBITDA

Adjusted EBITDA was $35.2 million for the nine months ended September 30, 2023, compared to $1.3 million in the prior year period. The increase in Adjusted EBITDA was a result of increased Adjusted Gross Profit partially offset by higher Adjusted SG&A expense.

See "—Non-GAAP Financial Measures" for how we define Adjusted EBITDA, a reconciliation of Adjusted EBITDA to net loss, the closest comparable U.S. GAAP measure, certain limitations of Non-GAAP measures and why management has included such Non-GAAP measures; see the section entitled "Forward-Looking Statements" in this report and the section entitled "Risk Factors" in our Annual Report and subsequent Quarterly Reports on Form 10-Q for factors that could cause our results to differ, in some cases materially.

Non-GAAP Financial Measures

Freshpet uses the following non-GAAP financial measures in its financial communications. These non-GAAP financial measures should be considered as supplements to the U.S. GAAP reported measures, should not be considered replacements for, or superior to, the U.S. GAAP measures and may not be comparable to similarly named measures used by other companies.

• Adjusted Gross Profit
• Adjusted Gross Profit as a percentage of net sales (Adjusted Gross Margin)
• Adjusted SG&A expenses
• Adjusted SG&A expenses as a percentage of net sales
• EBITDA
• Adjusted EBITDA
• Adjusted EBITDA as a percentage of net sales (Adjusted EBITDA Margin)

Such financial measures are not financial measures prepared in accordance with U.S. GAAP. We define Adjusted Gross Profit as Gross Profit before depreciation expense and non-cash share-based compensation. We define Adjusted SG&A as SG&A expenses before depreciation and amortization expense, non-cash share-based compensation, implementation and other costs associated with the implementation of an ERP system, fees related to the Capped Call Transactions purchases, loss on disposal of equipment, and advisory fees related to activism engagement. EBITDA represents net income (loss) plus interest expense net of interest income, income tax expense and depreciation and amortization. Adjusted EBITDA represents EBITDA plus loss on equity method investment, non-cash share-based compensation, implementation and other costs associated with the implementation of an ERP system, loss on disposal of equipment, fees related to the Capped Call Transactions purchases, and advisory fees related to activism engagement.

We believe that each of these non-GAAP financial measures provide additional metrics to evaluate our operations and, when considered with both our U.S. GAAP results and the reconciliation to the closest comparable U.S. GAAP measures, provides a more complete understanding of our business than could be obtained absent this disclosure. We use the non-GAAP financial measures, together with U.S. GAAP financial measures, such as net sales, gross profit margins and cash flow from operations, to assess our historical and prospective operating performance, to provide meaningful comparisons of operating performance across periods, to enhance our understanding of our operating performance and to compare our performance to that of our peers and competitors.

Adjusted EBITDA is also an important component of internal budgeting and setting management compensation.

The non-GAAP financial measures are presented here because we believe they are useful to investors in assessing the operating performance of our business without the effect of non-cash items, and other items as detailed below. The non-GAAP financial measures should not be considered in isolation or as alternatives to net income (loss), income (loss) from operations or any other measure of financial performance calculated and prescribed in accordance with U.S. GAAP. Neither EBITDA nor Adjusted EBITDA should be considered a measure of discretionary cash available to us to invest in the growth of our business. Our non-GAAP financial measures may not be comparable to similarly titled measures in other organizations because other organizations may not calculate non-GAAP financial measures in the same manner as we do.

Our presentation of the non-GAAP financial measures should not be construed as an inference that our future results will be unaffected by the expenses that are excluded from that term or by unusual or non-recurring items. We recognize that the non-GAAP financial measures have limitations as analytical financial measures. For example, the non-GAAP financial measures do not reflect:

• our capital expenditures or future requirements for capital expenditures;
• the interest expense, or the cash requirements necessary to service interest expense or principal payments, associated with indebtedness;
• depreciation and amortization, which are non-cash charges, although the assets being depreciated and amortized will likely have to be replaced in the future, nor any cash requirements for such replacements; and
• changes in our cash requirements for our working capital needs.

Additionally, Adjusted EBITDA excludes (i) non-cash share-based compensation expense, which is and will remain a key element of our overall long-term incentive compensation package, and (ii) certain costs essential to our sales growth and strategy. Adjusted EBITDA also excludes certain cash charges resulting from matters we consider not to be indicative of our ongoing operations. Other companies in our industry may calculate the non-GAAP financial measures differently than we do, limiting their usefulness as comparative measures.

The following table provides a reconciliation of EBITDA and Adjusted EBITDA to net loss, the most directly comparable financial measure presented in accordance with U.S. GAAP:

(Dollars in thousands)

(a) Represents implementation, amortization of deferred implementation costs and other costs associated with the implementation of an ERP system.

(b) Represents fees associated with the Capped Call Transactions purchases.

(c) Represents advisory fees related to activism engagement.

(d) Represents a true up to transition costs related to the organization changes designed to support growth, including several changes in organizational structure designed to enhance capabilities and support long-term growth objectives.

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The following table provides a reconciliation of Adjusted Gross Profit to Gross Profit, the most directly comparable financial measure presented in accordance with U.S. GAAP:

(Dollars in thousands)

The following table provides a reconciliation of Adjusted SG&A Expenses to SG&A Expenses, the most directly comparable financial measure presented in accordance with U.S. GAAP:

(Dollars in thousands)

(a) Represents implementation, amortization of deferred implementation costs and other costs associated with the implementation of an ERP system.

(b) Represents fees associated with the Capped Call Transactions purchases.

(c) Represents advisory fees related to activism engagement.

(d) Represents a true up to transition costs related to the organization changes designed to support growth, including several changes in organizational structure designed to enhance capabilities and support long-term growth objectives.

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Liquidity and Capital Resources

To meet our capital needs, we issued approximately $402.5 million in convertible notes in March 2023 (the “Convertible Notes”), used $66.2 million of the proceeds to enter into capped call transactions, and used $11.0 million of the proceeds on debt issuance related costs. Further, on March 13, 2023, in connection with the proposed offering of the Convertible Notes, the Company, notified City National Bank, of Freshpet's intent to terminate the Credit Agreement, and such termination became effective as of March 15, 2023 (the "Termination Date"). The Company had no borrowings outstanding under the Credit Agreement as of the date of the Termination Date.

We expect to make future capital expenditures in connection with the completion of our planned development of Freshpet Kitchens Ennis Phase 1, Ennis Phase 2, Ennis Chicken Processing and Freshpet Kitchens South. During the nine months ended September 30, 2023, we spent approximately $162.0 million of capital to meet our capacity needs as well as recurring capital expenditures. We expect to spend an additional $78.0 million in the remainder of fiscal 2023 for all production projects and also new and replaced fridges, maintenance capex and other expenses.

We expect to rely on our current and future cash flow from operations, may issue additional debt, and/or raise capital through our access to capital markets, if appropriate. Our ability to obtain additional funding will be subject to various factors, including general economic and market conditions, our operating performance, the market’s perception of our growth potential, lender sentiment and our ability to incur additional debt in compliance with other contractual restrictions.

Our ability to make future minimum interest payments on the Convertible Notes, to refinance any indebtedness and to fund any necessary expenditures for our growth will depend on our ability to generate cash in the future. If our business does not achieve the levels of profitability or generate the amount of cash that we anticipate or if we expand faster than anticipated, we may need to seek additional debt or equity financing to operate and expand our business. Future third-party financing may not be available on favorable terms or at all.

Our primary cash needs, in addition to our plant expansions, are for purchasing ingredients, operating expenses, marketing expenses and capital expenditures to procure Freshpet Fridges. We believe that cash and cash equivalents, short-term investments, expected cash flow from operations, amounts raised through the issuance of the Convertible Notes and our ability to access the capital markets, if appropriate, are adequate to fund our debt requirements, operating and finance lease obligations, capital expenditures and working capital obligations for the foreseeable future. We believe our sources of liquidity and capital will be sufficient to finance our continued operations, growth strategy and additional expenses we expect to incur for at least the next twelve months. However, our ability to continue to meet these requirements and obligations will depend on, among other things, our ability to achieve anticipated levels of revenue and cash flow from operations and our ability to manage costs and working capital successfully. Additionally, our cash flow generation ability is subject to general economic factors, including but not limited to increasing interest rates and inflation, financial, competitive, legislative and regulatory factors and other factors that are beyond our control. We cannot assure you that our business will generate cash flow from operations in an amount sufficient to enable us to fund our liquidity needs. Expanding certain of our Freshpet Kitchens primarily comprises our material future cash requirements. However, our capital requirements, including our cash requirements, may vary materially from those currently planned if, for example, our revenues do not reach expected levels, or we have to incur unforeseen capital expenditures and make investments to maintain our competitive position. If this is the case, we may seek alternative financing, such as selling additional debt or equity securities, and we cannot assure you that we will be able to do so on favorable terms, if at all. Moreover, if we issue new debt securities, the debt holders would have rights senior to common stockholders to make claims on our assets, and the terms of any debt could restrict our operations, including our ability to pay dividends on our common stock. If we issue additional equity or if the Convertible Notes are converted to common shares, existing stockholders may experience dilution, and such new securities could have rights senior to those of our common stock. These factors may make the timing, amount, terms and conditions of additional financing unattractive. Our inability to raise capital could impede our growth or otherwise require us to forego growth opportunities and could materially adversely affect our business, financial condition and results of operations.

The following table sets forth, for the periods indicated, our working capital:

(Dollars in thousands)

Working capital consists of current assets net of current liabilities. Working capital increased $206.3 million to $378.6 million as of September 30, 2023 compared with working capital of $172.4 million as of December 31, 2022. The increase was primarily a result of an increase of $205.4 million in cash and cash equivalents primarily resulting from the sale of the Convertible Notes as we fund our capital expansion plan, an increase in inventory of $0.8 million, and a decrease in accounts payable of $14.2 million as a result of timing and capital expenditures of approximately $21.5 million related to our capital expansion plan. The increase was partially offset by a decrease in accounts receivable of $3.2 million, a decrease in prepaid expenses of $1.0 million, an increase in accrued expenses of $6.4 million due to timing and capital expenditures of approximately $1.5 million related to our capital expansion plan, and an increase in current finance lease liabilities of $2.0 million.

We normally carry three to four weeks of finished goods inventory and less than 30 days of accounts receivable.

As of September 30, 2023, our capital resources consisted primarily of $338.1 million of cash and cash equivalents on hand.

We expect to fund our ongoing operations and obligations with cash and cash equivalents, short-term investments, and cash flow from operations.

The following table sets forth, for the periods indicated, our beginning balance of cash, net cash flows used in operating, investing and provided by financing activities and our ending balance of cash:

(Dollars in thousands)

Net Cash provided by (used in) Operating Activities

Cash provided by operating activities consists primarily of net loss adjusted for certain non-cash items (i.e., provision for loss on receivables, loss/(gain) on disposal of equipment, change in reserve for inventory obsolescence, depreciation and amortization, amortization of deferred financing costs and loan discount, and share-based compensation).

Net cash provided by operating activities of $39.0 million for the nine months ended September 30, 2023, was primarily attributed to:

• $28.8 million of net income, adjusted for reconciling non-cash items, which excludes $77.7 million related to $45.4 million of depreciation and amortization, $25.0 million of share-based compensation including amortization of warrants, $3.5 million of write-off and amortization of deferred financing costs and loan discount, $1.9 million of loss on equity method investment, $1.2 million of change in operating lease right of use asset, and $0.7 million of loss on disposal of equipment.
• $10.2 million increase due to changes in operating assets and liabilities. The increase was primarily due to the change in accounts receivable, accounts payable, and accrued expenses, primarily offset by the change in inventories, prepaid expenses and other current assets, other assets and operating lease liability.

Net cash used in operating activities of $53.7 million for the nine months ended September 30, 2022, was primarily attributed to:

• $3.5 million of net loss, adjusted for reconciling non-cash items, which excludes $53.1 million primarily related to $24.4 million of depreciation and amortization, $20.4 million of share-based compensation including amortization of warrants, $3.5 million of inventory obsolescence, $3.0 million of loss on investments in equity method investment, and $1.0 million of change in operating lease right of use asset.

This was offset by:

• $50.2 million decrease due to changes in operating assets and liabilities. The decrease was primarily due to the change in accounts receivable, inventories and other assets, primarily offset by the change in accrued expenses.

Net Cash Used in Investing Activities

Net cash used in investing activities of $161.6 million for the nine months ended September 30, 2023, was primarily attributed to:

• $161.6 million of capital expenditures related to Freshpet Kitchens, plant recurring capital expenditures, expenditures relating to investment in fridges, and other capital spend.
• $113.4 million purchase of short-term investments.

This was partially offset by:

• $113.4 million of proceeds from maturities of short-term investments.

Net cash used in investing activities of $190.6 million for the nine months ended September 30, 2022, was primarily attributed to:

• $167.4 million of capital expenditures related to Freshpet Kitchens, plant recurring capital expenditures, expenditures relating to investment in fridges, and other capital spend.
• $19.8 million purchase of short-term investments.
• $3.3 million investment in equity method investment.

Net Cash Provided by Financing Activities

Net cash provided by financing activities of $328.0 million for the nine months ended September 30, 2023, was primarily attributed to:

• $393.5 million net proceeds from Convertible Notes.
• $4.2 million cash proceeds from the exercise of stock options.

This was partially offset by:

• $66.2 million for the purchase of a capped call option.
• $2.0 million for debt issuance costs.
• $0.9 million for tax withholdings related to net share settlements of restricted stock units.
• $0.5 million for principal payments under finance lease obligations.

Net cash provided by financing activities of $411.8 million for the nine months ended September 30, 2022, was primarily attributed to:

• $337.5 million of proceeds from common shares issued in a primary offering, net of issuance cost.
• $78.0 million of proceeds from borrowings under our Credit Facility.
• $0.3 million cash proceeds from the exercise of stock options.

This was partially offset by:

• $2.8 million for repayment of borrowings under Credit Facility.
• $1.3 million for tax withholdings related to net share settlements of restricted stock units.

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Indebtedness

For a discussion of our material indebtedness, see Note 5 to our (unaudited) condensed consolidated financial statements included in this report.

Contractual Obligations

There were no material changes to our commitments under contractual obligations, as disclosed in our Annual Report, except as noted in Note 8 and 13.

Critical Accounting Estimates

Our management’s discussion and analysis of financial condition and results of operations is based on our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States or ("U.S. GAAP"). The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the revenue and expenses incurred during the reported periods. On an ongoing basis, we evaluate our estimates and judgments, including those related to accrued expenses and share-based compensation. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not apparent from other sources. Changes in estimates are reflected in reported results for the period in which they become known. Actual results may differ from these estimates under different assumptions or conditions.

There have been no material changes to our critical accounting estimates as compared to the critical accounting policies and estimates described in our Annual Report.

Recent Accounting Pronouncements

Recently Adopted Standards:

See Note 1 of our (unaudited) condensed consolidated financial statements for additional information.

Standards Effective in Future Years:

We consider the applicability and impact of all Accounting Standards Updates (ASUs) issued by the Financial Accounting Standards Board (FASB). ASUs not listed herein were assessed and determined to be either not applicable or are expected to have minimal impact to our consolidated financial statements.

Interest Rate Risk

We are sometimes exposed to market risks from changes in interest rates on debt, changes in commodity prices, and changes in fair value of short-term investments.

Commodity Price and Inflation Risk

We purchase certain products and services that are affected by commodity prices and are, therefore, subject to price volatility caused by weather, market conditions, including inflation, and other factors which are not considered predictable or within our control. In many cases, we believe we will be able to address material commodity cost increases by either increasing prices or reducing operating expenses. However, increases in commodity prices, without adjustments to pricing or reduction to operating expenses, could increase our operating costs as a percentage of our net sales.

Foreign Exchange Rates

Fluctuations in the currencies of countries where the Company operates outside the U.S. may have a significant impact on financial results. The Company is exposed to movements in the British pound sterling and Euro. The Statements of Financial Position of non-U.S. business units are translated into U.S. dollars using period-end exchange rates for assets and liabilities and average exchange rates for revenues and expenses. The percentage of our consolidated revenue for the three and nine months ended September 30, 2023 recognized in Europe was approximately 1%.

The Company may, from time to time, enter into forward exchange contracts to reduce the Company’s exposure to foreign currency fluctuations of certain assets and liabilities denominated in foreign currencies. Historically, the foreign currency forward contracts have not been designated as hedges and, accordingly, any changes in their fair value are recognized on the Consolidated Statements of Operations and Comprehensive Income (Loss) in Other income (expenses), net, and carried at their fair value in the Consolidated Balance Sheet with gains reported in prepaid expenses and other current assets and losses reported in accrued expenses. As of September 30, 2023, there were no forward contracts outstanding.

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)), as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on such evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that as of such date our disclosure controls and procedures were effective.

Changes in Internal Control

There were no changes in our internal control over financial reporting identified in management’s evaluation pursuant to Rules 13a-15(d) or 15d-15(d) of the Exchange Act during the period covered by this Quarterly Report on Form 10-Q that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

We transitioned to a new enterprise resource planning (ERP) system during the first quarter of 2022. Implementation, integration and transition efforts are continuing. In connection with the implementation, integration and transition, and resulting business process changes, we continue to review and enhance the design and documentation of our internal control over financial reporting processes to maintain effective controls over our financial reporting following the completion of the implementation, integration and transition. To date, the implementation, integration and transition have not materially affected our internal control over financial reporting.

Limitations on Effectiveness of Controls and Procedures

Our management, including our Chief Executive Officer and Chief Financial Officer, believes that our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of achieving their objectives and are effective at the reasonable assurance level. However, our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent all errors and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected. These inherent limitations include the realities that judgments in decision making can be faulty, and that breakdowns can occur because of a simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by management override of the controls. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.

Except as set forth below, there have been no material changes to the risk factors previously reported under Part I, Item 1A. "Risk Factors" in our Annual Report, as supplemented by the risk factors set forth in Part II, Item 1A. "Risk Factors" in our Quarterly Reports on Form 10-Q for the quarters ended March 31, 2023 and June 30, 2023. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may materially affect our business, financial condition and/or operating results.

Shareholder activism could cause us to incur significant expense, disrupt our business, result in a proxy contest or litigation and impact our stock price.

We value constructive input from investors and regularly engage in dialogue with our shareholders regarding strategy and performance. Our Board and management team are committed to acting in the best interests of all of our shareholders.

Responding to actions by activist shareholders could be costly and time-consuming, disrupt our operations and divert the attention of our Board, senior management and employees. We have been subject to shareholder activism in the past, and may be subject to it in the future, which could result in substantial costs and divert management's and our Board's attention and resources from our business.

We may be required to incur significant fees and other expenses related to activist shareholder matters, including for third-party advisors. We may be subjected to a proxy contest or to litigation by activist investors and our stock price could be subject to significant fluctuation, or increased volatility, or otherwise be adversely affected by the events, risks and uncertainties of any shareholder activism. Even if we are successful in defending any such proxy contest or litigation by an activist shareholder, our business could be adversely affected by such proxy contest or litigation due to perceived uncertainties as to the future direction of the business, which may result in the loss of potential acquisitions, collaborations or other strategic opportunities.