Green Mountain’s Capital Expenditures Raise Questions

Disclosure: You should do your own research and due diligence before making any investment decision with respect to any of the securities mentioned herein. As of the publication date, one or more of the following: Strubel Investment Management, our clients, our employees, and/or funds we advise are short GMCR and stand to realize significant gains in the event that the price of GMCR declines. Following the publication of this article, we intend to continue transacting in GMCR and we may be long, short, or neutral any time after the date of publication. We undertake no obligation to update or supplement this article or disclose changes in our position in GMCR securities. Nothing in the article should be construed as investment advice or an offer to buy or sell any security.

While there are a lot of questions around Green Mountain’s revenue recognition practices and inventory, not much has been written about Green Mountain’s capital expenditures. An examination of GMCR’s capital expenditures from FY2009 to management’s estimates for FY2012 raises some serious questions about just what expenses GMCR is capitalizing.

The chart and graph below show GMCR’s capital expenditures, average net fixed assets, and revenues for the past four years.

Green Mountain has continued to pour money into capital expenses each year but its manufacturing operation is becoming more inefficient. In 2009, GMCR generated $6.88 in sales for every dollar of net fixed assets on the balance sheet (computed using the average net fixed asset balance across each quarter of the fiscal year). In 2010, they generated $6.66 for every dollar of net fixed assets. In 2011, the figure dropped by more than a dollar to $5.59. Taking the high point of management’s guidance for FY2012 revenue and the low point for FY2012 capital expenditures, management is predicting that they will generate only $3.77 in sales for every dollar of net fixed assets.

Why is GMCR experiencing diseconomies of scale with relation to their manufacturing operations? More importantly, why are they spending another $500M+ in cap ex in 2012 even though it appears their manufacturing process is running well below capacity?

Green Mountain’s capital expense budget also raises serious questions. In FY2009, GMCR generated $16.28 in revenue for every dollar of capital expenditures they reported that year. In FY2012, using GMCR’s high estimate for revenue guidance and low estimate for capital expenditures, they will generate only $7.58 in sales for every dollar of cap ex.

Why is GMCR continuing to pour money into capital expenditures well beyond sales growth? (Management even recently lowered sales estimates.) The data raises serious questions about just what expenses GMCR is capitalizing.

Also of interest is the discrepancy in capital expenditure numbers between what GMCR’s FY2011 10-K and their May 2, 2012 investor presentation.

In GMCR’s FY2011 10-K, they report capital expenditures of $283.444M in FY2011 and $126.205M in FY2010, as shown in the excerpted statement of cash flow below.

(click to enlarge)

In the May 2, 2012 presentation (shown below), GMCR reports capital expenditures of $291M in FY2011 and $134M in FY2010.

(click to enlarge)

There is a discrepancy of $7.556M in FY2011 and $7.795M in FY2010. Why is GMCR showing investors two sets of different numbers? What accounts for the discrepancy between the numbers in the 10-K filed with the SEC and the numbers shown to investors in the presentation? We have contacted management about the discrepancy and will update this article with their reply, if they do so.