Aramark (ARMK) 2007 Q3 法說會逐字稿

Good morning and welcome, ladies and gentlemen, to the ARAMARK Corporation third-quarter 2007 earnings conference call. At this time I'd 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'll now turn the call over to Chris Holland, Senior Vice President and Treasurer. Please proceed, to Chris.

Thank you. And welcome to ARAMARK Corporation's conference call to review the results of our third-quarter and the first nine months of fiscal 2007. Here with me today is Fred Sutherland, our Executive Vice President and Chief Financial Officer. Fred and I will present an overview of our third-quarter and year-to-date 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 for transmission of this audio may not be done without the prior written consent of ARAMARK.

As we discuss the results, you may want to refer to the 10-Q we filed yesterday which contains our third-quarter and nine-month results for fiscal 2007. This 10-Q can be found on our website at www.ARAMARK.com. In today's discussions of results, we mention certain non-GAAP financial measures. The 10-Q as well as schedules we posted to our website this morning include reconciliations of these non-GAAP financial measures to the most comparable GAAP measures as required by SEC rules.

In addition, since we closed the transaction to take ARAMARK private on January 26th of this year, accounting rules require that we divide the financial results between the predecessor period or the period preceding our merger on January 26, 2007 and the period following the consummation of the merger, the successor period. Our discussion of our year-to-date results today will compare the sum of our results from the predecessor and successor periods to the year-ago periods.

Although this presentation does not comply with GAAP, we believe it provides a meaningful method of comparison. These combined results have not been prepared as pro forma results and may not reflect the actual results we would have achieved absent the transaction.

This quarter's results reflect the impact of certain additional going private legal expenses, increased buyout related intangibles amortization, stock option expense under FAS 123(R), and the gain on the sale in June of our partnership stake in SMG. While you recall that last year's third-quarter results were significantly influenced by an impairment charge in our uniform direct marketing segment.

Our year-to-date results and their comparison to the prior year also reflect these items as well as various other expenses and payments that were triggered by the merger. All of this information is detailed in our third-quarter 10-Q or in the non-GAAP financial schedules on our website. The operating results we will discuss today exclude all of these items in order to enhance comparability.

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 our Form 10-Qs. We disclaim any duty to update or revise such forward-looking statements whether as a result of future events or otherwise.

I'd now like to turn the program over to Fred Sutherland.

Good morning, everybody. And thank you for joining us for our third-quarter 2007 results call. I'd like to review our business and operating results and then Chris will cover a few additional details on our performance this quarter.

Moving right to our results for the quarter, we achieved record quarterly sales of $3.1 billion, up 7% from the prior year quarter and up 5% on an organic basis. Excluding the impact of the items that Chris mentioned earlier, our operating income was $156.9 million compared to $140.8 million in the year-ago quarter. This year's results also reflect the receipt of about $2.9 million of insurance proceeds related to Hurricane Katrina and last year's results reflect about $4.5 million in costs related to the termination of two contracts.

For the first nine months, sales were $9.2 billion, up 6% over the prior year period with organic growth of about 4%. Our operating income again adjusted to exclude the items that Chris described earlier, was $476.3 million compared to $435.5 million in the prior year period and our consolidated operating margin improved by more than 10 basis points as compared to last year.

While the environment across all of our businesses remains competitive, we continue to be pleased with both the volume of new contracts awarded and our retained business, both of which are improved from prior year levels.

Now, turning to our U.S. food and support services segment. Third-quarter sales were up 6% to $2 billion, driven primarily by our healthcare, education and corrections businesses. Organic sales growth was in the mid single digits for the quarter. Our business and industry sector had mid single digit sales growth led primarily by refreshment services and our corrections business with business dining also showing improved growth.

The education sector had mid single digit sales growth with solid base business growth in both our higher education and K-12 food businesses. In our healthcare sector, we realized low teen sales growth led by strong base business growth in foodservice and higher new business. Our sports and entertainment sector had mid single digit sales growth in the quarter led by solid base business growth in stadiums and arenas.

As Chris described earlier and as detailed in our 10-Q and in the non-GAAP schedules on our website, my discussion of segment operating income will exclude certain items for the purposes of comparability.

Operating income in the U.S. food and support services segment was $94.8 million in the quarter compared to $88.7 million in the prior year period. As I mentioned earlier, this year's results reflect the receipt of about $2.9 million of insurance proceeds and last year's results reflect about $4.5 million in expenses related to the termination of two contracts.

Solid profit performance this quarter in our healthcare and business and industry sectors was offset by lower results in higher education due in part to an increase in the startup related to a significant amount of new contracts this year as well as softness in our national parks and certain of our convention centers and increased food costs in our corrections business.

For the first nine months, segment operating income was $288.9 million compared to $272.8 million in the prior year period and we expect this segment to continue to deliver year-over-year profit growth in our fiscal fourth quarter as well.

Turning to the international food and support services segment, third-quarter sales of $744 million were up 13% on solid growth across most of our individual country operations. Organic sales growth was in the low single digits for the quarter with the year-over-year growth rate moderated by last year's FIFA World Cup in Germany.

Third-quarter operating income was $31.6 million, up 4% from the prior year quarter with most of our country operations reporting solid year-over-year profit growth. The year-over-year profit comparison as with the sales is also moderated by the impact on last year's results of the FIFA World Cup which was a very significant event for our German business from a sales and profit point of view.

For the first nine months, segment operating income was up 13% to $106 million including a currency impact of about 5%. In our uniform rental segment, third-quarter sales of $328.5 million were up 9% from the year ago quarter. Organic growth was in the mid single digits. Operating income grew 12% to $38.3 million and the operating margin improved about 30 basis points versus the year-ago period as year-over-year energy costs grew in line with sales growth.

For the first nine months, operating income was up 10% to $108 million helped by the year-over-year decline in energy costs. The uniform direct marketing segment reported third-quarter sales of about $90 million, down 8% from the year-ago quarter reflecting the exit from the healthcare uniform line late last year and some softness in other WearGuard channels. The segment reported a small profit in the quarter. For the first nine months, operating income was $5.5 million, up from $3.7 million on a comparable basis in the prior year period.

Excluding the items that Chris mentioned earlier, corporate expenses were $8.7 million in the quarter compared to $9.7 million in the year-ago quarter reflecting reduced staff spending. For the nine months, corporate expenses were $27 million compared to $28.4 million in the prior year period.

So summing up the first nine months operating performance, we're quite pleased to see an increase in our level of new business and net new business compared to prior year. We are achieving strong client retention rates that are consistent with our targets. We continue to be selective in terms of the type of new business we pursue and we have remained disciplined in our deployment of capital to win new accounts.

And finally, we have generated operating income growth and consolidated margin improvement in comparison to last year. So now let me turn it back to Chris for some additional details on the quarter.

Thanks, Fred. I'd like to wrap up our remarks by commenting on our financing capital structure and cash flow. As I mentioned earlier, during June we closed on the sale of SMG, an entertainment venue management company of which we owned 50% receiving gross proceeds of $286 million. Our after-tax proceeds total about $210 million which we have used to repay debt in the June quarter.

As a result of the divestiture, we have now removed the SMG contribution from the calculation of adjusted EBITDA prescribed by our senior secured credit agreement.

For the trailing 12 months ending June 29, our adjusted EBITDA was $1.009 billion, up from a comparable $999 million at March 30, 2007 and $962 million at September 29, 2006. Interest and other financing costs were $133.6 million for the quarter. With floating to fixed swaps on approximately $3 billion in notional amount of our term loan, and in combination with our existing fixed rate debt, approximately 74% of our total debt portfolio is now at fixed interest rates averaging 7.40%.

Total reported debt at the end of the quarter was $5.9 billion, down from $6.2 billion at March 30. During the quarter, we made principal payments on our term loan of $300 million reflecting both the use of the proceeds from the SMG divestiture as well as our continued strong cash flow.

Based on our solid EBITDA growth this year and the more than $350 million in year-to-date term loan repayments, we are very pleased that our secured debt ratio has now improved to 4.02 times as of June 29, down from an initial level of approximately 4.5 times when we went private in January.

Capital expenditures for both the quarter and for the nine months were down somewhat from the prior year spending level as we continue to be disciplined in our deployment of capital. For the full-year, we expect capital expenditures to be in line with prior year levels.

As you are aware, the seasonality of our business is such that working capital is a use of cash for us during the first nine months of our fiscal year and then largely reverses itself during our fiscal fourth quarter. Adjusting for the income tax impact of the SMG divestiture, our working capital requirements were consistent with our expectations for both the third quarter and for the first nine months of fiscal 2007. For the full-year, we expect our historical working capital patterns to continue.

Now let me turn the call back to Fred.

Thanks, Chris. We're quite pleased with our performance during the first nine months of fiscal 2007 as most of our businesses have delivered operating income growth and solid margins. In addition, as Chris mentioned, our cash flow along with the proceeds of the divestiture of SMG has allowed us to already repay over $350 million of our term loan since going private in January, nicely improving our credit profile in the process.

As we look forward to the completion of fiscal 2007 and the beginning of '08, ARAMARK's broad senior management team remain significantly incented as equity investors and very focused on delivering results. We will continue to work hard to seize the many new and exciting opportunities that we see across all of our businesses.

So, thanks, and again thanks for your time this morning and for your support of ARAMARK. We'd now be happy to take your questions.

(OPERATOR INSTRUCTIONS) Reza Vahabzadeh, Lehman Brothers.

Good morning. Just to be clear, Chris, a housekeeping item. The EBITDA, LTM EBITDA for the SMG business is roughly in the $22 million range?

Yes, it was about $22 million for actually all of the LTM periods that I just referred in the call.

Right. And I saw the cash proceeds of the SMG sale but you haven't paid the cash taxes on that yet, have you?

No, we will pay the cash taxes in September.

Okay. So that is going to be funded with cash on hand at that time or a revolver?

With free cash flow generated during the fourth quarter.

Right, okay. As far as the base business is concerned, the international food business EBIT margin performance year-over-year was a little slow. I was wondering if you could comment on that and whether that was just a function of the tough comparisons last year or was there something else at work?

This is Fred. The international business actually performed very well in the third quarter. The comparability is driven really by as I mentioned the FIFA World Cup in Germany in the third quarter of last year which was pretty significant both in terms of revenues and EBIT contribution and the drop through on those incremental revenues, as you would expect, was very high from a margin point of view. So it had an impact on last year's margin. But on a comparable basis, this year the profits are up, the EBIT on a comparable basis is up more than the sales are up and the sales growth in international is quite nice.

Got it. And as far as the domestic FSS business, I noticed that for the second quarter in a row you are talking about lower EBIT performance in the sports entertainment business. Can you comment on that?

There are a few things that are influencing that and this is not unexpected. We viewed the sports and entertainment business as having a few challenges as we move through the year. So this is pretty much as we expected. We've had some weakness in our parks operations which are big profit producers in the back half of the year particularly at Lake Powell which is one of our large profit sales and profit operations.

Challenges in a couple of our convention centers and the mix of some of our arena business. So not issues that we think are long-term issues but issues that are affecting the year-over-year performance. Major League Baseball on the other hand, which is also a driver of performance obviously this time of year is performing pretty well.

Got it. And then for the core U.S. FSS business, how would you characterize your labor and benefit cost trends as well as your food cost trends?

Let me start with the labor. Our labor cost trends are fine. We don't at this point see any unusual or extraordinary pressure on labor costs or on benefit costs. So they are very much in line. From a food cost point of view, we are seeing increases in food costs. The rate of food cost increase year-over-year is clearly higher than it was year-over-year let's say six months ago.

In most of our food service businesses, we have in most of our markets, we have a fair amount of flexibility with respect to our menus and the mix of items that we provide through our menus to manage around food cost increases. And typically when food costs increase overall, it is in a couple of particular categories. Now it happens to be for example more in proteins and meats and in dairies.

The one business where we are less able to make menu shifts is in the corrections market where the overall meal is very tightly spaced and we typically receive a fixed price per meal subject to an escalation. So as I mentioned in my prepared remarks, we have seen some negative impact on that business but in our other businesses, we've been pretty well able to manage through it.

But all told, food cost, inflation versus whatever pricing you may have gotten so far, would you characterize that as a bit of a drag or is it a wash?

I would say outside of the corrections business, I'd say it is pretty much a wash.

Okay. And then lastly, obviously the SMG business was sold in this quarter. Just wondering if there is more divestitures to come, why was this business sold and if there is also acquisitions to come?

Well, we don't typically comment specifically on future acquisitions and divestitures. I think it is fair to say that our posture with respect to acquisitions and divestitures today is no different than it has been pretty much year in and year out.

With respect to SMG, SMG is a very fine business. It was a 50-50 joint venture, as you know in the sports and entertainment facility management business. We concluded that this business was becoming more and more driven by what I call the software side of the business which are the events that run through sports and entertainment venues which just made it somewhat different from our base business as a result. We decided to exit the business. But it was pretty much a decision in the context of SMG and its business versus our business and that was about it.

Sounds good. Thank you.

(OPERATOR INSTRUCTIONS) Zafar Nazim, JPMorgan.

Yes, hi, good morning. Just on the acquisitions question, I guess the last acquisition that we saw from you was in the first quarter of this year and since then it seems fairly quite. Is that just a function of not finding enough -- not finding the right targets or valuations not being there and should we expect to revert back to the normalized acquisitions spend that you've seen in the earlier years?

I think if you look at our acquisition spend year-to-date it is about $110 million through nine months, which actually if you look over the last three or four years, we tend on average to spend somewhere in the $150 million or so range. So I wouldn't draw any conclusions from the nine month so far this year. We are always looking for acquisitions that makes sense strategically and economically. They come at their own pace, as you know, in a lot of cases. And our strategy in terms of how we pursue them, how we evaluate them, how we price them hasn't changed at all. So I wouldn't draw any conclusions one way or another.

Okay. And then, Fred, your response to food inflation and the fact that outside of the corrections business food inflation has been a wash between many changes and price increases. Should we expect a similar trend going forward as well or would you expect more of a drag or a lag in terms of getting pricing or many changes in the months to come?

Well, I think that's clearly a function of what future food inflation is. I think we can manage the level of food inflation that we're experiencing today. If we were to continue to increase, it probably would put some pressure on the business. But -- and food is clearly an important component of our cost but remember its obviously at zero in our entire uniform business and we have a pretty large facilities business within food and support services and hospitality business and the food -- there's no food costs obviously in all of our facility side.

So we think it is manageable but it will be a function of what happens to year-over-year food price increases as well.

Okay. And they just one last question. Working capital is a big source of cash in the fourth quarter. I was wondering, should we expect any further debt repayments by the end of this year?

I think clearly as we chose to pay down $300 million in the June quarter, we used the gross SMG proceeds, which as I said, we'll need to pay $77 million worth of cash taxes in the September quarter. And so I think we are quite pleased with the $350 million of year-to-date debt reduction and wouldn't at this point anticipate any material additional debt reduction in Q4.

Thank you.

Bryan Hunt, Wachovia.

Thank you. I was wondering if you could describe customer reaction to a slowing economy in your type of business and whether you one, see greater contract retention and two, a greater number of opportunities to bid on contracts?

So far I think it is fair to say that we haven't seen much of a slowdown and therefore there wouldn't be -- I mean to the extent there might be any impact in our markets, we really haven't seen any impact plus or minus because our markets are pretty much performing as they have over the last 12, 24 months or so.

Historically you see two effects which tend to I think cancel each other out. On the one hand when the economy is weak and businesses are under pressure, sometimes you just see inertia, you just see an inability to make decisions and that would be a negative. On the other hand, to the extent that we can add value to our clients and some of that clearly is in cost efficiencies, that is a plus so you do see companies more interested in outsourcing.

But I would say in a downturn it is -- it doesn't really change the trend dramatically one way or the other.

Interesting, thank you. The next question, your food inflation comment around corrections, does that also apply to lower education as well with those menus very much set?

To some extent and that is a good point. But to a much lesser extent than in corrections. There are specs around the food but not as tightly as it is specked in the corrections market.

Feed the prisoners good food and give whatever you want to the kids. It makes a lot of sense.

No, we give whatever makes sense to the kids and we have the flexibility to do it.

No, I know, I'm making a joke about that.

That business is much more of a management fee business as well on the K to 12 side.

Yes, in many cases, Chris points a good one, our compensation is a management fee and the food cost is a straight pass-through. But corrections tends to be a more of a fixed price per meal business.

Great. And then with regards to acquisition maybe multiples and acquisition tempo, in a -- again slowing economy, do you see your portfolio of opportunities expand as smaller players in the business look to maybe exit?

Again, I think it is hard to say. If you look at the typical acquisition we are making for example in the uniform side, these, as you all know, tend to be privately held, family-owned, mom-and-pops across the country and there are still hundreds of them. So predicting when that type of business decides to pursue a sale I think is difficult to do because of the family nature of it.

So on the margin potentially if there is pressures from a cost perspective and a family is ready to transition the ownership of the entity maybe but again, I think it is hard to draw that conclusion. And I think in terms of the group of peers that we're competing for acquisitions against its really the same group both in the uniform business and in the food and support business all reasonably large and well capitalized. And so I think the environment for acquisitions really won't change regardless of what the supply-side looks like.

Okay and then last question along the lines of uniforms. There has been some talk of I guess moving some of your sourcing for uniforms offshore as opposed to from facilities in Central America or Mexico. At what tempo or when should we expect I guess the first big move or strategic move in that business in executing that plan?

That is really a gradual process and we are in the process of moving some of our sourcing which had been initially concentrated in Mexico to locations outside of Mexico and some of that is sourcing in the Far East. So it is a gradual multiyear process. And it is underway now but there is no big event associated with it.

Now the cost savings from doing this, is that a cost or savings you plan investing in pricing or do you feel like that will give you a cost advantage over your competitors?

Well, I think that our competitors are pretty much seeing the same sorts of trends and I think all of us are trying to minimize our product cost. So I don't -- I think we are -- we have a terrific global sourcing and manufacturing organization and again, that would both do self manufacturing but we are not wedded to that. So contract plants and other sourcing mechanics we are very aggressive in pursuing that.

So I think we've got capability in that area that is equal to or better than anyone in the business so I'm confident that we will continue to maximize our savings in that area and it is really a continual process year after year after year to figure out how do you continue to drive your cost down.

Thank you.

Reza Vahabzadeh, Lehman Brothers.

Thank you. On the (inaudible), you mentioned there were some challenges here and there. Can you elaborate on that?

I'm sorry, say that again?

You mentioned you had some challenges in some of your parks businesses --

Yes, I can comment on that. Lake Powell specifically which is one of our larger park operations, if you're familiar with Lake Powell at all, the activity there is boating. It's about 110 mile long lake with about almost 3000 miles of shoreline in Northern Utah or Northern Arizona, Southern Utah. And the water level is down there over the past three or four years fairly significantly and that has had impact on the operation both the cost and some of the demand. So that has been a factor.

And then we've had in general I think in the national parks this year by and large visitation across most of the parks is down somewhat from last year. So that's a general effect that is affecting us as well as other companies such as ours that operate facilities within national parks.

Got it. And when you think about contract renewals in your U.S. food services business, how would you characterize your pricing environment? And then what type of pricing have you been experiencing lately?

I think it has been consistent and I wouldn't say there has been much of any change versus what the environment has been like over the last couple of years pretty much across the board.

Is the organic growth that you are talking about here in the U.S. food services business, is that primarily just volume growth or is there price mix in there as well?

There is a very modest price component that is typically the case but most of it -- it varies a bit by segment but for example in higher ed, we continue to see very good base business growth. Healthcare has had a very good new sales year as well. But the majority of it is coming from volume, not price.

Got it. Thank you.

[Doug Kahn], RBS Greenwich Capital.

Yes, it's RBS Greenwich Capital. Guys, you gave us a lot of food for thought today on the initiatives that you are undertaking both on the he top-line and on the expand line. If we focus on the expense line for a second, can you give us what the key initiative is or maybe the two key initiatives in order to improve margins going forward?

You've talked on a lot different levels and I'm just wondering as the leaders here, which are the initiatives that you are most focused on? And then I have a follow-up question.

I would say that our initiatives on the cost line, it's a little bit hard to separate the cost line from the revenue line. So we are increasingly focused on driving our base business growth so driving the volume of business that we have at our existing locations because in most of our locations, even though we are the exclusive provider, we have less than 100% of the available market share.

And to the extent that we can increase our sales at existing locations the drop through on that is very attractive. So if we can go from providing food service on a college campus from X% to Y% of the students there, the margin on that is good. So we are increasingly focused on marketing and merchandising and consumer focused programs more and more on the end-user, the student, the fan, the employee, the patient, the nurse as a way to drive growth within our existing locations with high drop through.

On the cost side, I guess I would characterize it in a couple of ways. We continue to have programs to drive down our food costs through -- to our supply chain programs and aggregation of our spend and leveraging that. And on the labor side, we continue to give our locations more sophisticated on-site labor scheduling tools that are automated to allow them to better manage their labor.

And then I guess the one thing I would add is in the uniform program, as I mentioned earlier, we centralized all of our manufacturing and sourcing and we've gotten pretty sophisticated with that expertise to drive down our uniform costs which clearly is a major component of our cost in that business. So I guess I would summarize it by saying the drop through on consumer oriented base business programs and then specific programs on labor, food and uniforms.

Okay, thanks. And then just a follow-up on the JV disposal asset sale question. I guess it is a two-part question. The first is, can you discuss the criteria that you would use in order to potentially dispose of an existing asset? I will stop there just for the answer.

I think the answer to that is we don't have any fixed criteria, to be honest. I think we are very comfortable with the mix of businesses that we have, the food service business, the support services and hospitality business and uniform business. If you look back at our history going back 10 or 20 years ago, we were much more diversified and we've really focused on these two core businesses.

SMG was a good business but it was a 50-50 joint venture and always had been. So you should think of SMG really as sort of outside of the core of our food facilities and uniform business which is all 100% owned business.

And how many other joint ventures or partial ventures are you involved in currently?

The only significant one that we have is in Japan, our food service business which is a very large business over $1 billion in sales, the number two company in the Japanese market, has for 30 years been a 50-50 joint venture with the Mitsui Group. And that is a structure particular to that market. It's a terrific operation. It's doing very well. It is very core to our business but it is a 50-50 joint venture with Mitsui.

And it is safe to say you don't have any plans currently to dispose of that?

Yes, that is right.

Thanks very much.

That is all the time we have for questions. I will turn the call back over to Chris.

Well, thank you all for again for your time this morning. We appreciate it and hope you have a great day.

Thank you. A rebroadcast of this conference is available starting today at 12:30 PM Eastern time and will run until August 16, 2007 at Midnight Eastern. You may access the rebroadcast by calling 888-203-1112 or 719-457-0820. Pleases reference pass code 711-4592. This concludes our conference call today. Thank you for participating and have a nice day. All parties may now disconnect.