Aramark (ARMK) 2006 Q3 法說會逐字稿

Good morning and welcome, ladies and gentlemen, to the ARAMARK Corporation third-quarter 2006 earnings conference call. At this time I would like to inform you that this conference is being recorded for rebroadcast and that all participants are in a listen-only mode. At the request of the Company we will open the conference up for questions and answers after the presentation. I will now turn the call over to Bobbi Chaville, Associate Vice President of Investor Relations. Please proceed, Bobbi.

Thank you and welcome to ARAMARK Corporation's conference call to review the results of our third quarter fiscal 2006. Here with me today are Joe Neubauer, ARAMARK's Chairman and Chief Executive Officer, and Fred Sutherland, our Executive Vice President and Chief Financial Officer. Joe and Fred will present an overview of our third-quarter results and business operations after which there will be an opportunity for phone in participants to ask questions.

I would like to remind you that any recording or other use or transmission of this audio may not be done without the prior written consent of ARAMARK. When we discuss earnings per share we are referring to diluted earnings per share. As we discuss the results for the quarter you may want to refer to the financial statements attached to this morning's press release which can be found on our website at www.ARAMARK.com. In the earnings press release and in today's discussion of results we mention certain non-GAAP financial measures. The Investor Relations section of the Company's website includes reconciliations of these non-GAAP financial measures to the most comparable GAAP measures as required by SEC rules.

Various remarks that we may make in this call relating to matters that are not historical facts, including remarks about future expectations, anticipation, beliefs, estimates, plans and prospects constitute forward-looking statements. Actual results may differ materially from those expressed or implied as a result of various risks, uncertainties and important factors including those discussed in the risk factors, MD&A and other sections of our Form 10-K and Form 10-Q. We disclaim any duty to update or revise such forward-looking statements whether as a result of future events or otherwise. I will now turn the program over in over to Joe Neubauer.

Good morning and thank you for joining us for our third-quarter 2006 earnings call. I'd like to give you an overview of the quarter and then I'll turn the call over to Fred for some more details on the businesses. Before we review the quarter, as you are most likely aware, we announced yesterday that the Company reached an agreement with a group of investors led by me whereby all of the outstanding stock of ARAMARK will be acquired in a merger transaction for a price of $33.80 a share in cash.

Further information concerning the transaction will be contained in the proxy statement that we will file with the SEC. I will continue as Chairman and CEO of the Company. As I'm sure you all understand, the purpose of this call is to discuss the Company's third-quarter results and we do not plan to comment any further on the transaction on our call this morning.

Now moving to our earnings for the third quarter 2006. This was a challenging quarter for ARAMARK; total sales were $2.93 billion, up 5% from the prior year. Organic growth, which excludes acquisition of divestitures and currency translation, was also 5%. Net income was $35 million and earnings per share $0.19 and reflect the previously announced $0.15 per share charge related to our uniform direct marketing segment and costs associated with the exit from two unprofitable U.S. food and support services contracts.

For the nine-month sales were up 6% to $8.69 billion, net income was $187 million and earnings per share were $1.01. Sales for the U.S. food and support services segment grew 3% in the third quarter and 4% on an organic basis, and continuing growth in education, stadiums and arenas, corrections and refreshment businesses. Operating income of $89 million was negatively affected by the costs associated with the two client contract terminations, the continuing impact of our convention center operations from last year's hurricanes and softness in our business services and healthcare businesses.

I'm pleased with the results of our international food and support services segment. Sales were up 11% and organic growth was 7% driven in part by our performance at the World Cup events in Germany. Operating income was $30.5 million and the margin increased to 4.6% on improved performance in our UK operations and good results in Canada and Germany. I would particularly like to congratulate our Germany team for an outstanding performance at the FIFA World Cup, with over 10,000 ARAMARK employees delivering world-class service to the over 2 million spectators who attended the games.

For our uniform rental business, it grew 7% in the quarter and 5% on an organic basis. Operating income was up 9% and the margin was up more than 25 basis points to 11.4 despite continuing high energy costs. Our uniform direct marketing business reported a 3% decline in sales on continuing soft demand, particularly in our healthcare division of WearGuard-Crest. As you know, we've reported a third-quarter charge with respect to this business and we are repositioning the WearGuard-Crest business for improved results in 2007.

Before I turn over the call to Fred I'd like to give you an update on the Verni verdict. On August 3rd, the Appellate Division of the Superior Court of New Jersey reversed the trial court's verdict in the Verni matter and remanded the matter back for a new trial. While we're saddened by the injuries suffered by Antonia Verni, we're gratified by the court's decision. Let me now turn the call over to Fred.

Thanks, Joe. Let me start with our consolidated financial performance and then I'll discuss our business segments. As Joe mentioned, third-quarter sales were up 5% to $2.93 billion and our organic sales growth was also 5%. Operating income was $92 million, net income was $35 million, and earnings per share were $0.19.

As Joe mentioned, these results include a goodwill impairment charge and asset liability adjustments to our uniform direct marketing segment of $0.15 a share, which I will discuss in more detail in just a minute, as well as costs related to the termination of two unprofitable contracts in the U.S. food and support services segment of about $0.02 per share. The 2006 quarter also includes about $0.01 per share of options expense.

Now, turning to our U.S. food and support services segment, third-quarter sales were up 3% to $1.9 billion. Organic sales growth was 4%. As Joe mentioned, this growth was primarily driven by our education, stadium and arenas, corrections and refreshments businesses. Providing some more color on the U.S. segment by sector, the business services sector had low single-digit sales growth as corrections and refreshments continued to show solid growth.

Despite positive base business growth in business dining for marketing initiatives to help drive increased participation and spending at client accounts, sales for this business declined due to some previously lost business. We added Cable News Network as a new business services client and Broward and Brevard counties in Florida as new corrections clients during the quarter.

The education sector had high single digit sales growth on good base business growth and higher education in K-12 as well as service expansion and facilities. The timing of the Easter holiday, which was in the third quarter of this year but was in last year's second quarter, dampened growth somewhat in the quarter. Johns Hopkins University, St. Bonaventure University and Randolph-Macon women's college in Virginia were added as new clients during the quarter.

In our healthcare sector, both new sales and client retention rates have improved over last year. However, overall sales for the quarter were up only modestly as good base business growth was affected by the -- as expected by lost business in 2005. During the quarter we added Baylor University Medical Center in Texas and St. Thomas Health System in Tennessee as new facilities clients. We expect to see improvement in healthcare sector sales growth in the fourth quarter of '06 and further into 2007.

Sports and entertainment had mid single-digit sales growth driven by stadiums and arenas from higher baseball per capita spending and the return of hockey for a portion of the quarter which was somewhat offset by the continuing impact, as Joe referenced, of the hurricanes on our convention center business. We added Bethel Woods Amphitheater in New York as a new client in the quarter.

Operating income in the U.S. food and support services segment of $88.7 million was negatively affected by the two contract terminations; the impact of the hurricanes on our convention center business in the Gulf Coast area, which was particularly significant for the quarter; previously lost facility services contracts as well as increased spending for sales and marketing initiatives and various technology projects. Reflecting these factors the operating margin declined to 4.7%.

Turning to the international food and support services segment, third-quarter sales of $661 million were up 11% including the 3% favorable currency translation on continued strong growth in Germany, Chile and Canada. Organic sales growth of 7% was boosted by revenues from the World Cup in Germany. We added several new international clients in the quarter including Bentley Motors; Kent, Surrey, Sussex [prison] shops and Stratford Upon Avon College in the UK; the University of Toronto's Saint George campus in Canada; and we significantly expanded our relationship with the police service of Northern Ireland.

Third-quarter operating income of $30.5 million was up from $21.3 million in the year ago quarter. These results were driven principally by ongoing improvement in our UK operations as well as very good performance in Canada reflecting continued strong remote camps business and in Germany from the World Cup. The operating margin improved to 4.6% which was up more than 100 basis points from the year ago quarter.

Now while we were very pleased with this segment's performance for this year, we expect somewhat slower growth in the fourth quarter as the seasonal remote camps business in Canada winds down, the impact of the World Cup is less significant, and we lap the addition of several large mining contracts in Chile.

In our uniform rental segment, third-quarter sales of $301 million were up 7% from the year ago quarter. Organic growth was 5% which is comprised of new business sold of about 13% with about 50% of the new sales coming from first-time users of rental programs; lost business of about 8%; price increases of about 2%; and a decline in base business of about 2%. Operating income of $34.2 million was up 9% reflecting the increased sales and favorable merchandise cost. The margin was up more than 25 basis points to 11.4% despite continued high fuel costs which negatively affected the margin by about 50 basis points compared to the prior year and ongoing investment in the sales force.

The uniform direct marketing segment reported third-quarter sales of $97 million, down 3% from the year ago quarter reflecting continued softness especially at WearGuard-Crest Healthcare and Gulf. The segment reported an operating loss of $46 million which includes a non-cash $35 million goodwill impairment charge and approximately $8 million of other asset and liability adjustments at WearGuard-Crest. These consist principally of adjustments to inventory carrying value. The remainder of the year-over-year decline was due principally to operating shortfalls in the direct marketing healthcare business.

As we announced earlier in July, we are undertaking a strategic review of our healthcare direct marketing business which is our only uniform business where we sell to retailers and not directly to the end-user. This review is well underway and we are looking to implement specific actions this quarter to improve our overall WearGuard business as we move into 2007.

Corporate expenses increased $6.5 million from a year ago quarter primarily due to the expensing of stock options in fiscal 2006 and legal fees. Interest expense of $36 million was up 13% from the prior year quarter reflecting higher average rates of 2006. We expect to see higher year-over-year interest expense in the fourth quarter as well. The effective tax rate was about 37% in the 2006 third quarter compared to 36% in the year ago quarter. Total debt of about $2 billion at quarter end was flat with the year ago quarter as our cash flow remains strong. Now let me turn the call back over to Joe.

Thank you, Fred. As I said, this was a difficult quarter. But we've faced challenges in the past and we're aggressively tackling the issues in our uniform direct marketing healthcare business to improve the rest of WearGuard-Crest for 2007. We view our business on a longer-term basis and are confident about the future of ARAMARK as we continue to explore opportunities for delivering the environments, experiences and outcomes that add value to our clients and customer relationships. We'd be happy to take your questions now.

(OPERATOR INSTRUCTIONS). Gary Bisbee, Lehman Brothers.

I guess the first question -- are you willing to disclose where within the U.S. food business the two contracts that you're exiting were?

One of those, Gary, contracts was in our B&I facilities business and it was the larger of the two and the other was an education contract.

I know you've said that in the past you've had this kind of thing happen; is there anything in particular that led to those or is this just through the normal review of your business you decided they weren't going to meet your standards going forward?

It was really the latter. These were contracts where we concluded, despite our best efforts and some back and forth with the client, that they would not be economically viable over the long-term, even though I think in both cases the client was very pleased with the service. And so we essentially just negotiated our way out of those two contracts.

Okay. Even if you exclude the $6 million or so of costs there, the margin in the U.S. food business wasn't as strong as it's been recently. Is that largely due to the sales shortfall this quarter versus your plan or is there anything else going on there that you'd specifically point to?

Well, we had a couple of other effects during the quarter. We did have, as I mentioned, Gary, the impact of the hurricanes on our convention center business and that varies quarter-by-quarter. But the June quarter is a pretty significant quarter for that business overall. We also have, as we've talked about in earlier quarters, a couple of lost accounts from 2005 that we're working against from a profitability point of view that we will eventually lap.

And then finally, in several of our businesses, particularly in our education business we have accelerated some of our marketing initiatives and some of the technology projects associated with those marketing initiatives and we incurred some costs associated with that.

Okay. And then just lastly, as we think about the growth of this business, I guess we all know your long-term targets, but is it reasonable to assume that we can see some snapback from this 3% organic growth or as you cycle through these two contracts you're exiting, is that likely to have a material impact on the next few quarters' organic revenue growth? Thanks.

The organic growth for the food support services' domestic business was 4% in the third quarter, and the overall food and support business was 5%. We will see some -- obviously some drag from the termination of these two contracts, but we have other factors working in the other direction. For example, most notably I mentioned the healthcare business that we've had pretty solid new business year-over-year, lower loss business. So we think as we move through the quarters (technical difficulty) overall organic rate will trend up.

Okay, thanks a lot.

Bruce Simpson, William Blair.

I'm curious about how you're seeing softness in the uniform direct marketing as your comps seem to be seeing increased strength in uniform direct marketing. And maybe you can just tell us about -- is that a function of this distributorship model that you have where you sell to the retailer rather than to the end-user and can you disclose what some of the alternatives that you're evaluating are to go after that business side?

Bruce, in the direct marketing business we operate through a number of channels. Our portion of that that is most closely aligned with our uniform rental business actually is growing nicely, but we have other channels that are a little less related to our overall traditional uniform rental business. The healthcare business is probably the best example of that and we've seen declining sales and of course we're taking action in that area. I think, as we've mentioned in past quarters, we've also seen some softness in the federal and military component of spending at Galls which is somewhat separate from our overall uniform business.

And then, the QSR component of our business where we're selling to quick service restaurants, we're going against rollout of a couple of new programs in the third quarter of last year which affects the year-over-year comparison. With respect to the healthcare segment, I'd prefer not to comment specifically, but what I can tell you is that we are looking at the business very actively on how it should be restructured because our expectation is that this overall business, WearGuard-Crest, clearly needs to and will show improved results in '07.

Okay, Fred. And then just broadening out to uniform rental as a whole, it would appear that you seem to have stabilized in the mid single-digits organic growth in that business. So when we look forward over the next year or so, it looks like higher energy costs and kind of flattening overall job growth in the macro picture, would you expect that business to stay about where it is in terms of a mid single-digit organic growth level?

Our target for the business, Bruce, is pretty much unchanged and we think -- as you point out, we've been operating at about that 5% organic growth rate over the last few quarters and we think gradually we can improve that. We don't frankly have a double-digit growth target, but we do think that we can improve that further into the mid single-digit growth area as we continue to control our lost business. Salesforce productivity was up pretty impressively on a per rep basis year-over-year in the third quarter and so we're confident we can gradually improve that growth rate in the mid single digits.

Bruce, let me just add to that. As we continue to expand our salesforce in the AUS group and the productivity improves, we think we can, as Fred said, we can drive it well into the 6 to 8% range that we've talked about on a continual basis. As far as energy costs are concerned, so the sales will go up so that now you look at the other component of margin which is the cost side -- we have talked about taking several initiatives on the technology side, a little bit on the energy side to really contain those costs and we're well on our way towards doing all of that. So we think that the growth prospects, both top line and margin improvement, for the uniform rental business are quite positive.

Thank you.

Pete Carrillo, Citigroup.

A couple questions for you. Can you just give us an idea and use a little more detail on the rental business? We're seeing most of the comps -- a little bit of weakening as you mentioned a moment ago, both on the growth side and maybe even on the margin side. Can you give us a little more view of what you're seeing in the environment right now?

Our experience has been pretty positive overall and it's been pretty level quarter-by-quarter. And I mentioned if you compare the various components of growth that we laid out in the prepared remarks on the call -- compare them to the last quarter or two, they're pretty much in line with prior quarter. So we continue to move along pretty well. As Joe said, the -- as I mentioned earlier, the sales productivity improvements have been pretty good. Our route salesforce productivity, which is another component of our overall selling channel, has been pretty strong.

We continue to be as aggressive as we can reasonably be in price increases given the increase in energy cost and the base business growth statistics, the add stops, have held pretty constant. So it's no cakewalk at all. It remains a challenging environment, a very competitive environment, but we've been able to maintain a pretty steady keel here.

What are your top two or three industries that you're exposed to in uniform rental? You're a little more towards restaurants I think than some of your competitors, right, for example?

Yes. We're oriented towards industrial sector overall. Manufacturing I think is about a third of the business. Service industries are about a third of the business. And then transportation and utilities I think is also about a third of the business. Within that manufacturing component there's obviously an automotive component which is both a -- and then you have an automotive component in the service side, too, in terms of automotive repair. But it's probably pretty consistent with other companies in the business, although, as you point out, we I think are a little stronger in the service side of the business and the restaurant side.

Another area that's been quite a growth area for us in the last year or so has been flame retardant garments into certain segments of the manufacturing -- in the overall manufacturing sector driven by OSHA rules and those are pretty expensive garments with a pretty high price and a pretty high rental price on them. And that's been growing pretty rapidly. And then we also have a relatively small compared to the total business, but a very strong and fast growing cleanroom business which is servicing principally the pharmaceutical industry with cleanroom garments and that in and of itself has been pretty high-growth.

: One other question for you I guess. Is it likely your structure is likely to change in the next five to six months, whatever? I guess given these two contracts that you terminated recently, are we likely to see some rationalization going on as well or in areas such as uniforms or other areas where obviously revenues will no longer be so important to you. It will be more sort of cash flow profitability. Are we likely to see some rationalization going on before you potentially enter into the private structure? In other words, the next couple of quarters while you're still a public Company.

Honestly I don't think so. As you know, we were private for 17 years from 1984 to 2001. I'd like to think that we really run the Company based on maximizing the economics and the value to our clients. And I think we've evidenced that we don't just chase revenue for revenues so I think we will make those sorts of decisions but I think we'll make them as we've made them in the past.

Let me just add to that. I think the decisions on individual contracts are independent of the ownership of the stock. They're good business decisions. We are not perfect; we make our share of mistakes, miscalculations, whatever it is. And we hope most of the time they're small and we're able to live through them. Every so often they get a little larger and we need to take action and become a little more public. I think the difference will be in the private ownership they won't be public which is the big difference, the only difference but we make it for economic decisions not for anything else.

The final question was just in terms of your newer nursing home business, how is that going? Is that still growing? Can you give us an idea of what kind of growth rate you're getting over there?

I guess you're talking about the continuing care component of our overall healthcare business because we're not in the nursing home business per se.

Right, right.

And that's been a terrific business and component of our overall healthcare business. As you know, the demographics are very good there and it's been growing okay.

Great, thanks a lot.

Jeff Bourke, Robert W. Baird.

Fred, could you go over the uniform rental margins again? Impressive that you expand the margin year-over-year despite the energy cost headwind. What are the benefits that are driving that improvement again?

Obviously the negative is the fuel cost year-over-year which is about 50 basis points, but we've also, to offset that, been able to reduce our overall merchandise cost and we've done that through a couple of mechanisms, but principally by self manufacturing more and more of our uniforms and we pick up margin and efficiencies as we do that because of the way the accounting works since this is a result business and you're amortizing those benefits for uniforms to put in service over a period of time, that lags as it moves into the P&L. So we continue to benefit from that.

Standardizing our productline, driving more and more of our volume through a more standard set of SKUs that allows us to self manufacture more and more. Then as I mentioned earlier, we've been pretty aggressive -- I think reasonably so, but pretty aggressive on pricing to make sure that we are capturing cost increases and we've done I think -- within the rental business I think they've done a terrific job of managing their plant, labor cost, and keeping those in line.

Great, that's helpful. Can you quantify at all for us how big a benefit the World Cup was during the quarter?

I think we reported organic growth of about 7%. We don't disclose those numbers individually, but it was not -- it certainly wasn't a major, major component but it was a modest component I guess of that overall 7% growth.

Okay. And then looking ahead, in terms of the NFL season for the S&E business, are there any significant changes in your customer count for the NFL? I think you might have lost something in Seattle, were there any gains?

We lost the Seahawks -- right, Joe? -- and that's it, so no other changes.

Okay, thank you.

Chris Gutek, Morgan Stanley.

A couple questions. First, in the U.S. foodservice business, I'm curious -- are you guys seeing any preliminary signs of macro slowing in terms of either same-store traffic or average check size or any other metric?

Our overall base business growth has been solid and I'd say our base business growth overall year-over-year has been equal to or maybe a little better than it was last year. I don't know, Joe, if you want you add something?

Remember, this is spread across a number of different segments so it's not just -- as you know, Chris, the macro environment would not affect the education business directly -- it might affect it indirectly, but certainly not directly. And it won't effect the healthcare business; it won't effect several other businesses that we have.

On the business side, I think it's employment levels overall but, as Fred said, base business growth has been pretty solid and our refreshment side, we actually have been driving it in the smaller accounts and that's actually been growing very, very well. Much higher than even modest single-digits -- up single digits. So it's almost driven by geography, almost driven by individual account. I wouldn't make any general statements on that.

On the international side of the foodservice business -- Fred, you mentioned that the UK business is doing better. Could you elaborate a bit just to give us some kind of context for where that performance is relative to the kind of normal performance for both growth and profitability?

The UK business year-over-year improvement has been pretty significant. They're not where we would like for them to be. It's not really where we're all shooting for, the UK management team and the Company. But their profitability currently I'd categorize as respectful, certainly respectable and we expect continued improvement from here. It's more than marginally profitable, let's just put it that way.

But it's solidly profitable. Chris, if you think about it, they have to go through three phases, right? First of all, arrest the decline; two, stabilize the business; and three, grow the business. They're certainly well through the first phase, I would say they are significantly through the second phase, and that has to do with retention of several accounts and we actually were quite fortunate that in and getting out of several accounts that we should not have been into to begin with.

And I think now the challenge is to continue the organic growth in the target accounts that we want to go after. So I think they are well stabilized, they have a great team. We have a great management group over there and we think that they will do significantly better in the next several years than they've done in the last couple years. So we're very, very happy with the overall management team, the overall performance and we look forward to great performance in the future from the UK team.

Great. And just a final quick question. Fred, you mentioned that the uniform rental pricing, you're about as aggressive as you think you can be. Could you quantify that? Is it still kind of 1.5 to 2% price growth or are you getting a little bit better given the cost inflation?

We've been getting about 2%, Chris, overall. And it's been pretty consistent over the past few quarters.

Thanks, guys.

And that's all the time we have for questions, I'll now turn the call back to Bobbi.

We thank you for your interest in ARAMARK and we hope that you have a great day.

A rebroadcast of the conference is available starting today at 12 PM Central Time. I'm sorry, at 12 PM Eastern Time, and will run until August 16, 2006 at midnight Eastern Time. You may access a rebroadcast by calling 888-203-1112 or 719-457-0820, please reference pass code 405-2101. This concludes our conference call today. Thank you for your participation and have a nice day. All parties may now disconnect.