Hellofresh

I have two reasons to write:

1. to lay ground for readers own research by explaining the current situation of the company. With this I can hopefully help readers to make their own assumptions for the future. 2. to see how much off my assumptions were in a few years from now and laugh at myself. Hopefully improving my thought-process too.

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Content:

1. Equity story

2. Hellofresh offering, business model and simplified income statement

3. Unit economics

4. Unit economics to financial development

5. Financial development to assumptions

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Equity Story

Higher CACs lower revenues. HelloFresh’s stock crash is the combination of management’s faulty assumption of the current meal-kit market demand, which they had obviously overestimated. Management pushed for the 10B revenue target in 2025 for too long, up until the beginning of 2024, when they took down the guidance. HFG has but rather a pure failure. However, since its IPO, HFG has shown discipline strategy execution, which has led it to essentially gain a monopoly status in the global meal-kit market.

Hellofresh stock has recovered from the bottom in July after some 70% decline following the profit warning. There hasn't been any fundamental change in company story and the increase is the result of closing short positions. At the bottom, HFG traded at mere 3x adjusted EBITDA.

Multiple contraction. Since 2021, HelloFresh has experienced the twin engine in a negative way. It’s EV/sales multiple (righfully so) has decreased from around 3.0x in 2021 to 0.3 in November 2024. Simultaneously, their revenue growth forecast has sequentially declined since 2022, and high fixed cost base tuned for the 10b revenue target is further squeezing the profits.

Hellofresh offering, business model and simplified income statement

BUSINESS MODEL. Hellofresh is a direct-to-consumer company that offers meal-kits, Ready-to-Eat meals, pet food and fresh meat in a subscription-based model across 18 countries. Hellofresh has ownership of the whole value chain from procurement of ingredients to final delivery to end customer using partially and increasingly its own delivery fleet. Hellofresh’s offering is almost solely private label, which gives it cost advantage. Hellofresh delivers yearly over one billion meals and some 120 million orders.

PROFITABILITY. Hellofresh has struggled with profitability in the past 2 years as meal-kit business maturity was reached at a lower revenue level than management expectations. Management failed to understand this and pushed for marketing and new customer acquisition despite the increased CACs and lower LTV of these new customers. We will delve into unit economics later tin the report.

In 2023 Hellofresh clipped a contribution margin of around 26.5% from their orders and after marketing and G&A expenses the reported EBIT was only 1.5%.

Unit economics

Illustrative only. Unit economics calculated based on LTM figures. Full price is based on Hellofresh meal-kits and 2 person household with a total of 8 meals per week. Hellofresh has multiple brands and pricing varies a lot across different countries and products.

Customer types:

Hellofresh relies highly on discounting and the case is to lower the heavy discount users and hence showcase the true profitability of mature and sticky customer base. The average discount across all brands and products in Hellofresh is around 20%. That doesn't mean every customer is utilizing the discounts, but is the sum of all different customer types, which I will briefly clarify:

• Experimentalist try with + -50% discount and never use again. These are obviously massively unprofitable for Hellofresh

• Deep value - reactive only with decent discount.- I have received multiple reactivation offers with some 30% discounts “på dina nest 4 kassar” from Hellofresh Sweden as I have ordered a couple of times while I have visited Sweden longer periods of time. I’d assume these are unprofitable or If you don’t allocate any marketing costs these can be slightly profitable. Also depends on what the contribution margin profile is for Swedish operations. using the group contribution margin figures, these are highly unprofitable

• The mature sticky customers. These customers pay the full price and order rather frequently. This customer base can post double digit EBIT-margins.

In the past year HelloFresh customer mix has tilted towards less profitable customers, as people are not as keen to eat and cook at home as they were during covid years. Hellofresh pushed for the 10B revenue target for too long, which resulted in mostly acquiring customers that would only utilize the discounts. This has demolished the group margins.

Unit Economics to group financial development

Hellofresh aim for 10B revenues for 2025 is clearly visible in its marketing spend. marketing spend has increased from 12.5% in the lows in 2020 to 20% in Q3 2024 LTM. Marketing spend hasn’t converted in to revenues in the past two years, which has increased investors’ uncertainty towards HFG business model.

While the total revenues have remained flat for two years, RTE business has grown rapidly. I’ve estimated that Hellofresh meal-kit revenue has decreased by 15.6%. I’m uncertain where the mature revenue base is for meal-kits, where HFG can generate good profits and cash flows. It has now decreased by 16%, but how much more is discount driven unstick revenue remain?

Since 2022 and RTE revenue has grown by 50% CAGR since the acquisition was made in 2020. I’m uncertain how much of this growth is discount-driven artificial growth and how much will be converted to mature sticky revenue with good profitability. We will see. I would guess HFG won't push for too long for revenue growth if the unit economics turn to worse like they did with meal-kits. I would assume they have learned from their mistakes.

Higher marketing spend has naturally weakened HFG profitability along with lower contribution margin.

Contribution margin development could be the result of two things in my view:

1. in 2020 HFG was able to drive revenues with minimal discounts. While AOV was lower the AOV came with low discounts. As I’ve shown in my unit economics illustration lower marketing converts to better contribution margin. Since 2020 HFG has increased discounting in my view and this has resulted in lower margins. AOV has increased as the basket sizes have increased, but so have the discounts. Contribution margin has decreased from 28% in 2020 to 25% this year.,

2. Overall production inefficiencies in the past two years: HFG has struggled with excess capacity, because the demand for meal-kits was lower than the company had expected and tuned their fixed cost base for. This one is easier to tackle as they right-size the production.

Operating profit margin has declined from 11% to -1% this year (Q3 2024 LTM)

CapEx cycle is behind

HFG invested heavily during the covid years so that they have the capacity to carry the 10B in revenues. If i remember correctly, HFG achieved the capacity for this, but since then they have started to right-size the operations to match the lower demand.

Consequently, this means that the next few years we can see generous cash flows as the capex keep coming down.

FCF has been increasing since the CapEx peak even though the EBIT has been decreasing ever since 2020. When the profitability picks up, the FCF can skyrocket in the next couple of years.

Financial development to assumptions

Valuation:

I believe the meal-kit revenue will decline by -5% in 2025 and remain flat in 2026. This would mean that the current revenue base is almost fully well profitable. Once the right-sizing of operations is completed, we will see the true nature of the customer base.

RTE revenue will increase by 15% in 2025 and 10% in 2026. I think this assumption is lower than Hellofresh’s own estimates, meaning that the cost base is tuned for higher growth and hence if such low growth were to happen this would lower profitability.

Others segment will grow 70% and 30% in 2025 and 2026, respectively. This growth is from a low revenue base so really doesn’t matter whether it’s 70% or 100% next year.

I expect profitability to improve from here. I expect marketing expenses to decline by 3pp from 2024 to 2030. HelloFresh has clearly communicated they will prioritize profits and FCF generation from here rather than growth. Similarly, I expect lower discounting on average, which should boost both margins to better. In addition, current right-sizing and UK factory ramp-up has further squeezed contribution margins. Once this is all done the contribution margin can once again increase.

Lower capex means more money for us. One of the interesting factors in Hellofresh is the massive capex cycle, which has come to an end. I expect capex to to decline to 180M next year and this year it will be in the low 200Ms as the company has communicated.

Hellofresh has excess capacity and capacity is plenty for growth in the future years. This can allow for growth without any more growth capex, which is appealing. Q3 YTD capex was 131M.

Overall profitability and revenue assumptions

I expect HFG EBIT margin to improve to 5.8% and revenue in 2030 and revenue to grow at 4% CAGR as I explained earlier. The EBIT margin is ambitious if we look at recent years performance. Past years have been the worst years for HFG in terms of execution and I think the margins is not impossible. In their previous long term targets, Hellofresh had over 10% AEBITDA margin goal for 2025 so the 6% EBIT shouldn’t be impossible.

This profit growth comes with good cash conversion improving owners earnings.

Let’s look at the valuation. Hellofresh enterprise value is around 2.3 billion euros. With that you get revenues of 7700M and negative EBIT of -73m (LTM Q3 2024). Hellofresh is trading at 0.32 x sales, with a somewhat rational assumption of future EBIT margin of around 6%. The valuation looks appealing in sense that we are supposedly at the bottom as far as financial perfomance of HFG.

Let’s assume HFG trades at 12x EBIT in 2030. This would convert to Enterprise value of 6.6 billion euros. The EBIT assumptions seems high, but the past years hasn’t been a good proxy for the true potential of Hellofresh. Let’s look at the IRR potential for HFG with these assumptions:

12x EBIT with an assumption of 550M EBIT in 2030 would derive a share price of 40.9€ or 7.1M market cap.

This is illustrative only just to give the returns that this scenario would yield. There are so many uncertainties in HFG towards meal-kit business and RTE growth and the result can be the opposite. RTE revenue can be discount driven and profits will be very low in the future and meal-kit business can shrink even further easily. Not an investment advice. Do your own research.

Incap

I have two reasons to write:

1. to lay ground for readers own research by explaining the current situation of the company. With this I can hopefully help readers to make their own assumptions for the future. 2. to see how much off my assumptions were in a few years from now and laugh at myself. Hopefully improving my thought-process too. Not an investment advice. Do your own research and chill.

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Content:

1. Equity story

2. Revenue growth drivers

3. Profitability drivers

4. Cash Flow drivers

5. Scenario to returns

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1. Equity Story

Incap has been on a rollercoaster in the past five years. In 2019-2022, Incap grew rapidly, mainly driven by its largest customers orders. In 2023 however, the customer started a massive destocking exercise and the sales from this customer fell by 41%. The group revenue declined by -17% as it was defended by Pennatronics acquisition in the US and 17% organic growth from other customers. Incap’s dependence on the largest customer has declined during this five year period as other customers have grown organically and Incap has made two acquisitions; one in 2020 ‘ AWS’ in the UK and Pennatronics in July 2023 in the US. The share of largest customer has declined from the high of 67% in 2022 to some 40% in 2024E.

LTM

While the revenue and profit growth was enormous during 2019-2022, the cash flows were burdened by inventory build up. During the ‘shortage’ crisis amidst Covid-19, Incap had to build up excess inventories to ascertain future deliveries. This changed in 2023, when availability issues slowly faded away and destocking exercise started. This released working capital and improved the free cash flow.

2. Revenue growth drivers

1.

In the beginning of the 2024 Incap communicated that the orders will increase Quarter over Quarter and that’s exactly what has happened. Incap’s stock has increased by 38% YTD reflecting the positive outlook and diminishing uncertainty towards largest customer’s order activity. As we can see from the chart below, the orders from the largest customer have been increasing and I expect this trend to slowly continue in 2025 (All the numbers are my estimates and hence almost certainly off by some margin). So while the largest customer was in a sence a burden to investors last and this year, it will start boosting the revenue in 2025 onwards. Incap doesn’t believe the order level will reach the same level as in 2022 in the near term, but obviously in longer time horizon this is possible as the customer grows.

2.

Incap has made a succesful acquisition in July 2023, when they acquired Pennatronics and the company has communicated that Pennatronics has developed better than expected since the acquisition. This a rare treat and gives us confidence that the uncertainty towards this acquisition can be left behind. Incap has also communicated that the company is now seen truly global, which I believe will drive organic growth in 2025 and beyond. (The figures down below are my estimates and hence certainly of from the actuals by some margin).

Incap has been clear that their primary objective is to find and do acquisitions and with two solid acquisition made in 2020 and 2023, I take this as positive. Incap is strict when it comes to doing acquisitions and I believe thay can find good targets with correct cultural match.

Incap financial health is tuned to acquisitions. Incap currently has a net cash position of EUR 10.4 million and their future capital needs are low. Incap’s operating model is asset and CapEx light and in addition to that their working capital needs are easing. Incap doesn’t need to build up inventory, because their customer order visibility is worsening. So while this is a ‘lower multiple accepting’ factor as it comes with more uncertainty it simultaneously allows for better cash flow conversion in the future.

Incap’s covenants are tied to Interest-bearing debt to EBITDA level of 3.0 and it was 1.1 in Q3 2023. Incap has ample capacity do more acquisitions.

3.

Organic growth from other than the largest customer. Incap has proven itself this year as the organic growth from other than the largest customer is flattish this year, while other EMS companies declining double-digit organically. This gives me confidence that Incap’s low-hierarchy and flexible organization is able to execute above the market and can at least continue to growth along the market growth.

Summary - revenue growth drivers

I look at the revenue growth from three perspectives: growth from the largest customer, organic growth excl. the largest customer and acquistions.

In summary, I believe the largest customer will modestly continue to grow from the 2024E level. I have input 8% growth from the largest customer in 2025, reaching the same level as in 2023.

I have input 10% growth from Pennatronics in 2025E reflecting the fact that Incap has stated it’s goes better than expected and synergies in sales from that acquisition.

I estimate that the organic growth excl. the largest customer is 10% in 2025, which is above the market growth. I believe the market picks up in 2025 from this year and Incap will be able to capture growth above the market as in this year.

This results in group growth of 9%, which I think is doable, especially against the fact that the market declined this year.

3. Profitability Drivers

Incap has always shown stellar profitability compared to its peer group. This is mainly explained by their Indian manufacturing. 67% of the personnel in Q3 2024 was in India, where the average salaries are a lot lower than that of in western countries. Incap is has super strict cost control and they currently only have two employees in Finland. The business is pretty much run by the CFO and CEO. All the decision making has been rolled down to country organizations and the culture is based on accountability, responsibility and entrepreneurship in my view. I don’t see any reasons why this can’t continue apart from product-mix lead gross margin fluctuations.

I don’t think the market is uncertain about Incaps profitability development. Incap has shown it can maintain above average profitability even if the top line decreases by double digit like in 2023. In addition, Incap’s peer Note has been able to post decent margins in 2024 while their revenue is declining some 10% organically. This adds to my confidence about Incap’s future margin potential.

3. Cash Flow Drivers

As mentioned earlier, during the years 2020–2022, when Incap experienced rapid growth, its FCF was nil. This was due to the inventory building in order to secure availability as global supply chain was overloaded. Customers would place orders one year into the future, while normally they place orders to next quarter or so. Subsequently, Incap had to maintain high inventory levels. in order to meet its customers needs. This has now changed. Incap’s management communicated that inventory levels have been decreasing this year as the visibility for customers orders is worsening again. So while this adds uncertainty it comes with better cash flow.

In the next years I believe cash conversion will improve and reflect the profitability better. This allows for possibly more acquisitions or other investments, while maintaining solid balance sheet. It's worth noting that Incap doesn’t pay dividends in any way.

Scenario to returns.

Incap is a growth company and after the decline in revenue growth in 2023 Incap’s multiples have remained low. I believe that as we go into 2025 Incap is one of the companies to keep an eye on. If the growth picks up there is a chance for multiple expansion in addition to good profitability with improving cash flow profile.

The most important part of this text has been to clarify Incap’s revenue growth drivers. Incap’s valuation is largely dependent on growth estimates and here the largest customer play a big role. if the growth comes, Incap can see its value increasing. I will present the returns that would follow if the growth scenario I have presented here realizes.

Pennatronics acquisition consolidated in group figures since July 2023.

Without multiple expansion, Incap’s next two year IRR is 10% in the scenario I have input in my model. (This is just an illustration how the revenue development in this scenario translates into returns.) If incap is able to post growth rates of 9% and 7% in 2025 and 2026, there is a high possibility of multiple expansion. This would improve the returns up to some 20% IRR for the next two years.