Basis of Presentation and Summary of Significant Accounting Policies

Basis of Presentation and Consolidation

The accompanying consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, Annie’s Homegrown, Inc., Annie’s Enterprises, Inc., Napa Valley Kitchen, Inc., and Annie’s Baking, LLC. All significant intercompany accounts and transactions have been eliminated in consolidation. Certain reclassifications were made to the Company’s prior financial statements to conform to the current year presentation.

Recently Issued Accounting Standard

On May 28, 2014, the FASB issued a new financial accounting standard on revenue from contracts with customers. The standard outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance. The accounting standard is effective for annual reporting periods (including interim reporting periods within those periods) beginning after December 15, 2016. Early adoption is not permitted. The Company is currently evaluating the impact of this accounting standard.

Segment Reporting

The Company determined its operating segment on the same basis that it uses to evaluate its performance internally. The Company has one business activity, marketing and distribution of natural and organic food products, and operates as one operating segment. The Company’s chief operating decision-maker, its chief executive officer, reviews its operating results on an aggregate basis for purposes of allocating resources and evaluating financial performance.

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of sales and expenses during the reported periods. Actual results could differ from those estimates.

Sales Recognition and Sales Incentives

The Company recognizes revenue when it has a contract or purchase order from a customer with a fixed price, ownership and risk of loss have been transferred to the customer either upon delivery or pick up of products by the customer and there is a reasonable assurance of collection of the sales proceeds. Generally, the Company extends uncollateralized credit to its retailers and distributors ranging up to 30 days and performs ongoing credit evaluation of its customers. The payment terms are typically net-30 with a discount for net-10 payment. The Company recognizes sales net of estimated trade allowances, slotting fees, sales incentives, cash discounts, returns and coupons. The costs of these activities are recognized at the time the related sales are recorded and are classified as a reduction of sales. The cost of these trade allowances, slotting fees and sales incentives is estimated using a number of factors, including estimated units sold, customer participation and redemption rates. The Company has entered into contracts with some retailers granting an allowance for spoils and damaged products. Amounts related to shipping and handling that are billed to customers are reflected in net sales and the related shipping and handling costs are reflected in selling, general and administrative expenses.

Cost of Sales

Cost of sales consists of the costs of ingredients utilized in the manufacture of products, contract manufacturing fees, packaging and in-bound freight charges. Ingredients account for the largest portion of the cost of sales, followed by contract manufacturing fees and packaging.

Product Recall

The Company establishes reserves for product recalls on a product-specific basis when circumstances giving rise to the recall become known. The Company, when establishing reserves for a product recall, considers cost estimates for any fees and incentives to customers for their effort to return the product, freight and destruction charges for returned products, warehouse and inspection fees, repackaging materials, point-of-sale materials and other costs including costs incurred by contract manufacturers. Additionally, the Company estimates product returns from consumers and customers across distribution channels, utilizing third-party data and other assumptions. These factors are updated and reevaluated each period and the related reserves are adjusted when these factors indicate that the recall reserves are either insufficient to cover or exceed the estimated product recall expenses. The Company records insurance recoveries upon receipt of positive confirmation from the insurance company that certain recall-related costs have been approved for payment and the Company has reasonable confidence that the insurance company is financially capable of paying the Company. The insurance recoveries are recorded in the net sales, cost of sales or selling, general and administrative, as applicable, in the statement of income.

Significant changes in the assumptions used to develop estimates for product recall reserves could affect key financial information, including accounts receivable, inventory, accrued liabilities, net sales, gross profit, operating expenses and net income. In addition, estimating product recall reserves requires a high degree of judgment in areas such as estimating consumer returns, shelf and in-stock inventory at retailers across distribution channels, fees and incentives to be earned by customers for their effort to return the products, future freight rates and consumers’ claims.

Freight and Warehousing Costs

Freight and warehousing costs are included in selling, general and administrative expenses in the consolidated statements of income. These costs primarily consist of costs associated with moving finished products to customers, including costs associated with the Company’s distribution center, route delivery costs and the cost of shipping products to customers through third-party carriers. Freight and warehousing costs were $7.2 million, $5.7 million and $4.8 million for the years ended March 31, 2014, 2013 and 2012, respectively.

Research and Development (R&D) Costs

R&D costs are included in selling, general and administrative expenses in the consolidated statements of income. These costs are incurred to develop new products and are expensed as incurred. R&D costs include consumer research, prototype development, materials and resources to conduct trial production runs, package development and employee-related costs for personnel responsible for product innovation. R&D costs were $2.3 million, $2.8 million and $2.0 million for the years ended March 31, 2014, 2013 and 2012, respectively.

Advertising Costs

Advertising costs are included in selling, general and administrative expenses in the consolidated statements of income. These costs include the costs of producing and communicating advertisements. The costs of producing advertisements are expensed as incurred and the costs of communicating advertising are expensed over the period of communication. Total advertising costs were $1.5 million, $0.9 million and $1.2 million, for the years ended March 31, 2014, 2013 and 2012, respectively.

Stock-Based compensation

The Company maintains performance incentive plans under which nonqualified stock options, restricted stock units and performance share units are granted to eligible employees and directors. The cost of stock-based transactions is recognized in the financial statements based upon fair value. The fair value of restricted stock units and performance share units is determined based on the number of units granted and the closing price of the Company’s common stock as of the grant date. Additionally, stock-based compensation related to performance share units reflects the estimated probable outcome at the end of the performance period. The fair value of stock options is determined as of the grant date using the Black-Scholes option pricing model. Fair value is recognized as expense on a straight line basis, net of estimated forfeitures, over the requisite service period.

The benefits of tax deductions in excess of recognized compensation costs are reported as a credit to additional paid-in capital and as financing cash flows, but only when such excess tax benefits are realized by a reduction to current taxes payable.

Income taxes

Income taxes are accounted for using the asset and liability method. Deferred tax liabilities or assets are established for temporary differences between financial and tax reporting bases and subsequently adjusted to reflect changes in enacted tax rates expected to be in effect when the temporary differences reverse. The deferred tax assets are reduced, if necessary, by a valuation allowance to the extent future realization of those tax benefits is uncertain.

The tax benefit from an uncertain tax position is recognized only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such positions are then measured based on the largest benefit that has a greater than 50% likelihood of being realized upon settlement. Interest and/or penalties related to uncertain tax positions are recognized in income tax expense. See Note 17 for further information regarding income taxes.

Cash and Restricted Cash

The Company’s cash primarily consists of funds held in general checking accounts. The Company considers demand deposits and highly liquid investments with insignificant interest rate risk and original maturities of three months or less at the time of acquisition to be cash equivalents. There were no cash equivalents held at March 31, 2014 and 2013, respectively.

The Company’s restricted cash consisted of a deposit held in an escrow account pending the Company’s acquisition of a snack manufacturing plant in Joplin, Missouri (the “Joplin Plant”).

Accounts Receivable and Concentration Risk

The Company manages credit risk through credit approvals, credit limits and monitoring procedures. The Company performs periodic credit evaluations of its customers and records an allowance for uncollectible accounts receivable based on a specific identification methodology. In addition, management may record an additional allowance based on the Company’s experience with accounts receivable aging categories. Accounts receivable are recorded net of allowances for trade discounts and doubtful accounts. The Company had no allowance for doubtful accounts as of March 31, 2014 and 2013.

Customers with 10% or more of the Company’s net sales and accounts receivable consist of the following:



	Net Sales			Accounts Receivable(1)
	Customer A	Customer B	Customer C	Accounts Receivable(1)
Fiscal Year Ended March 31,
2014	22%	15%	13%	58%
2013	25%	17%	11%	72%
2012	25%	15%	11%	—

__________________

— Not presented

(1) As of March 31, 2014, three customers represented 31%, 17% and 10% respectively, of accounts receivable. The same three customers represented 36%, 26%, and 10%, respectively, of accounts receivable as of March 31, 2013.

Inventories

Inventories are recorded at the lower of cost (determined under the first-in-first-out method) or market. Write downs are provided for finished goods expected to become nonsaleable due to age and provisions are specifically made for slow-moving or obsolete raw ingredients and packaging material. The Company also adjusts the carrying value of its inventories when it believes that the net realizable value is less than the carrying value. These write-downs are measured as the difference between the cost of the inventory, including estimated costs to complete, and estimated selling prices, including cost of selling. These charges are recorded as a component of cost of sales.

Property and Equipment

Property and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Leasehold improvements are amortized using the straight-line method over the shorter of the lease term or estimated useful life. Maintenance and repairs are charged to expense as incurred. Assets not yet placed in service are not depreciated.

The useful lives of the property and equipment are as follows:



Equipment and automotive	3 to 7 years
Software	3 to 7 years
Plates and dies	3 years
Leasehold improvements	Shorter of lease term or estimated useful life

The Company capitalizes certain internal and external costs related to the development and enhancement of the Company’s internal-use software. Capitalized internal-use software development costs are included in property and equipment on the accompanying condensed consolidated balance sheets. The Company had $2.7 million and $2.1 million in capitalized software development costs, net of accumulated amortization, including $1.0 million and $0.4 million in construction-in-progress as of March 31, 2014 and 2013, respectively.

Goodwill, Intangible Assets and Long-Lived Assets

The Company tests goodwill for impairment annually in its fourth fiscal quarter and whenever events or changes in circumstances indicate the carrying amount may be impaired. In assessing whether events or changes in circumstances have occurred, the Company performs a qualitative assessment as a determinant for whether the two-step annual goodwill impairment test should be performed. In performing the qualitative assessment, the Company considers events and circumstances, including but not limited to, macroeconomic conditions, industry and market considerations, cost factors, overall financial performance, changes in management or key personnel, changes in strategy, changes in customers and changes in the share price of the Company’s common stock. If, after assessing the totality of events or circumstances, the Company determines that it is more likely than not that the fair value of the Company’s sole reporting unit is greater than its carrying amount, then the two-step goodwill impairment test is not performed.

If the two-step goodwill test is performed, the Company evaluates and tests its goodwill for impairment at the Company’s sole reporting-unit level using expected future cash flows to be generated by the reporting unit. If the carrying amount of the reporting unit exceeds its fair value, an impairment loss is recognized for any excess of the carrying amount of goodwill over the calculated fair value of the goodwill.

A reporting unit is an operating segment or one level below. The Company has one business activity, marketing and distribution of natural and organic food products, and operates as one operating segment. The Company’s chief operating decision-maker, its chief executive officer, reviews its operating results on an aggregate basis for purposes of allocating resources and evaluating financial performance.

In the fourth quarter of fiscal 2014, the Company bypassed the qualitative assessment, and evaluated and tested its goodwill using expected future cash flows to be generated by the Company’s sole reporting unit and determined that the fair value of Company’s sole reporting unit is greater than its carrying amount. Accordingly, there was no indication of impairment. The Company did not recognize any goodwill impairment losses in fiscal 2014, 2013 or 2012.

Intangible assets with definite lives are amortized over their estimated useful lives. The Company’s intangible assets consist of acquired product formulas and trademarks, which are amortized on a straight-line basis over their useful lives ranging from five to twenty-five years.

The Company reviews long-lived assets, including intangible assets, for impairment whenever events or a change in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of an asset is measured by comparing its carrying value to the total future undiscounted cash flows that the asset is expected to generate. If it is determined that an asset is not recoverable, an impairment loss is recorded in the amount by which the carrying value of the asset exceeds its estimated fair value. There was no impairment of long-lived assets during the years ended March 31, 2014, 2013 and 2012.

Concentration of Supply Risk

The Company relies on a limited number of suppliers for the ingredients used in manufacturing its products. In order to mitigate any adverse impact from a disruption of supply, the Company attempts to maintain an adequate supply of ingredients and believes that other vendors would be able to provide similar ingredients if supplies were disrupted. The Company outsources the manufacturing of its products to contract manufacturers in the U.S. The Company had two and four vendors that accounted for more than 10% of accounts payable as of March 31, 2014 and 2013, respectively. These two and four vendors accounted for 49% and 75% of accounts payable as of March 31, 2014 and 2013, respectively.

Fair Value of Financial Instruments

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the reporting date. The accounting guidance establishes a three-tiered hierarchy, which prioritizes the inputs used in the valuation methodologies in measuring fair value:

Level 1 - Quoted prices in active markets for identical assets or liabilities.

Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

The categorization of a financial instrument within the valuation hierarchy is based on the lowest level of input that is significant to the fair value measurement.

The carrying amounts of the Company’s financial instruments, including accounts receivable, accounts payable, and accrued liabilities, approximate fair value due to their relatively short maturities. Upon consummation of the Company’s initial public offering (the “IPO”) on April 2, 2012, prior to the automatic conversion of the convertible preferred stock warrant into a common stock warrant, the warrant was remeasured and the change in fair value was recorded as a non-cash charge in other income (expense), net and the related liability was reclassified to additional paid-in capital (see Note 9).

Share Repurchases

The Company accounts for share repurchases under the cost method, and accordingly charges the excess of the purchase price over the par value per share of common stock entirely to additional paid-in capital.

Revision of Financial Statements

In finalizing the fiscal 2014 results, the Company determined that the historical methodology for estimating certain trade allowances did not include all related trade promotion costs. Specifically, the methodology did not consider trade promotion activities conducted by the Company’s customers after quarter end related to sales that occurred prior to quarter end. To correct this misstatement, the Company recorded the cumulative impact of $0.7 million to accumulated deficit at April 1, 2011 in its Consolidated Statements of Convertible Preferred Stock and Stockholders’ Equity / (Deficit), relating to the correction of trade promotion costs prior to fiscal 2012. Additionally, the Company revised its net sales overstatement of $0.5 million for fiscal 2013 and understatement of $(0.2) million for fiscal 2012. This misstatement did not impact the Company’s reported net cash provided by operating activities.

The Company assessed the effect of the above misstatements, individually and in the aggregate, on prior periods’ financial statements in accordance with the SEC’s Staff Accounting Bulletins No. 99 - Materiality and 108 - Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements. Based on an analysis of quantitative and qualitative factors, the Company determined that the misstatements were not material to any of the Company’s prior interim and annual financial statements and, therefore, the previously-issued financial statements could continue to be relied upon. The Company also determined that correction of the cumulative amount of the misstatements of $1.4 million as of March 31, 2013 would be material to the fiscal 2014 consolidated financial statements and as such, the Company is revising its previously-issued consolidated financial statements to correct the misstatements. The Company plans to revise its quarterly condensed consolidated financial statements for fiscal 2014 in future filings containing such financial information. The revised unaudited quarterly financial data for fiscal 2014 and 2013 is presented in Note 19.

As part of the revision the Company also corrected previously-identified misstatements related to the measurement of the convertible preferred stock warrant liability and stock-based compensation. These corrections were an accumulation of a misstatement that should have been recorded in periods prior to fiscal 2012. The correction relating to the convertible preferred stock warrant liability increased other income (expense) and net income by $0.5 million in the accompanying statement of income during fiscal 2012 and decreased accumulated deficit at April 1, 2011 by $0.4 million. The correction relating to stock-based compensation expense increased selling, general and administrative expenses by $0.3 million and decreased net income by $0.2 million in the accompanying statement of income during fiscal 2012 and increased accumulated deficit at April 1, 2011 by $0.2 million.

All financial information contained in the accompanying footnotes to these consolidated financial statements has been revised to reflect the correction of these misstatements.

The following table presents the effects of the correction on the Company’s consolidated statement of income for the fiscal year ended March 31, 2013 (in thousands, except share and per share amounts):



	Fiscal Year Ended March 31, 2013
	Reported			Correction			Revised
Net Sales	$	169,977		$	(505	)	$	169,472
Cost of sales	104,566			—			104,566
Gross profit	65,411			(505		)	64,906
Selling, general and administrative expenses	45,461			—			45,461
Income from operations	19,950			(505		)	19,445
Interest expense	(168		)	—			(168		)
Other income (expense), net	87			—			87
Income before provision for income taxes	19,869			(505		)	19,364
Provision for income taxes	8,318			(206		)	8,112
Net income	$	11,551		$	(299	)	$	11,252
Earnings per share
—Basic	$	0.67		$	(0.01	)	$	0.66
—Diluted	$	0.65		$	(0.01	)	$	0.64
Weighted average shares of common stock outstanding used in computing earnings per share
—Basic	17,129,334						17,129,334
—Diluted	17,707,839						17,707,839

The following table presents the effects of the correction on the Company’s consolidated statement of income for the fiscal year ended March 31, 2012 (in thousands, except share and per share amounts):



	Fiscal Year Ended March 31, 2012
	Reported			Correction			Revised
Net Sales	$	141,304		$	177		$	141,481
Cost of sales	85,877			—			85,877
Gross profit	55,427			177			55,604
Selling, general and administrative expenses	37,495			295			37,790
Income from operations	17,932			(118		)	17,814
Interest expense	(161		)	—			(161		)
Other income (expense), net	(1,594		)	518			(1,076		)
Income before provision for income taxes	16,177			400			16,577
Provision for income taxes	6,588			(47		)	6,541
Net income	$	9,589		$	447		$	10,036
Net income attributable to common stockholders	$	290		$	13		$	303
Earnings per share
—Basic	$	0.62		$	0.03		$	0.65
—Diluted	$	0.26		$	0.01		$	0.27
Weighted average shares of common stock outstanding used in computing earnings per share
—Basic	469,089						469,089
—Diluted	1,111,088						1,111,088

The following table presents the effects of the correction on the impacted line items included in the Company’s consolidated balance sheet as of March 31, 2013 (in thousands):



	March 31, 2013
	Reported			Correction			Revised
Accounts receivable(1)	$	20,015		$	(1,259	)	$	18,756
Deferred tax assets, current	2,558			582			3,140
Total current assets	48,288			(677		)	47,611
Total assets	90,212			(677		)	89,535
Accrued liabilities(1)	12,021			170			12,191
Total current liabilities	16,363			170			16,533
Total liabilities	24,283			170			24,453
Accumulated deficit	(27,278		)	(847		)	(28,125		)
Total stockholders’ equity	65,929			(847		)	65,082
Total liabilities and stockholders’ equity	90,212			(677		)	89,535

_________

(1) Includes an immaterial reclassification between accounts receivable and accrued liabilities.

The following tables present the effects of the correction on the impacted line items included in the Company’s consolidated statements of convertible preferred stock and stockholders’ equity / (deficit) for the years ended March 31, 2013 and 2012 (in thousands):



	Accumulated Deficit									Total Stockholders’ Equity / (Deficit)
	Reported			Correction			Revised			Reported			Correction			Revised
Balance at March 31, 2011	$	(34,868	)	$	(995	)	$	(35,863	)	$	(30,148	)	$	(1,290	)	$	(31,438	)
Net Income	9,589			447			10,036			9,589			447			10,036
Balance at March 31, 2012	(38,829		)	(548		)	(39,377		)	(34,436		)	(548		)	(34,984		)
Net Income	11,551			(299		)	11,252			11,551			(299		)	11,252
Balance at March 31, 2013	(27,278		)	(847		)	(28,125		)	65,929			(847		)	65,082



	Additional Paid-in Capital
	Reported		Correction			Revised
Balance at March 31, 2011	$	4,719	$	(295	)	$	4,424
Stock-based compensation	506		295			801
Balance at March 31, 2012	4,392		—			4,392
Balance at March 31, 2013	93,190		—			93,190

The following table presents the effects of the correction on the impacted line items included in the Company’s consolidated statement of cash flows for the year ended March 31, 2013 (in thousands):



	Fiscal Year Ended March 31, 2013
	Reported			Correction			Revised
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income	$	11,551		$	(299	)	$	11,252
Adjustments to reconcile net income to net cash provided by operating activities
Deferred taxes	383			(206		)	177
Changes in operating assets and liabilities:
Accounts receivable(1)	(8,145		)	565			(7,580		)
Accrued expenses and other non-current liabilities(1)	8,254			(60		)	8,194

_________

(1) Includes an immaterial reclassification between accounts receivable and accrued expenses and other non-current liabilities.



	Fiscal Year Ended March 31, 2012
	Reported			Correction			Revised
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income	$	9,589		$	447		$	10,036
Adjustments to reconcile net income to net cash provided by operating activities
Stock-based compensation	506			295			801
Change in fair value of convertible preferred stock warrant liability	1,726			(518		)	1,208
Deferred taxes	489			(47		)	442
Changes in operating assets and liabilities:
Accounts receivable(1)	(2,742		)	(372		)	(3,114		)
Accrued expenses and other non-current liabilities(1)	(168		)	195			27

_________

(1) Includes an immaterial reclassification between accounts receivable and accrued expenses and other non-current liabilities.

The above adjustments did not impact the Company’s net cash provided by operating activities.