Farmer Bros Co (FARM) 2015 Q3 法說會逐字稿

Good afternoon ladies and gentlemen and welcome to the Farmer Brothers Third Quarter Fiscal 2015 Earnings Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions). As a reminder, this conference is being recorded.

I would now like to turn the call over to your host, Mr. Tom Mattei. Sir you may begin.

Good afternoon everyone. Thank you for joining Farmer Brothers' third quarter fiscal year 2015 earnings conference call. I'm the company's General Counsel. With me today are Mike Keown, President and Chief Executive Officer and Mark Nelson, Treasurer and Chief Financial Officer.

Earlier today we issued a press release which is available on the Investor Relations section of our website at www.farmerbros.com. The press release is also included as an exhibit to our Form 8-K available on our website and on the Securities and Exchange Commission's website at www.sec.gov. Please note that all of the financial information presented on this conference call today is unaudited. A replay of this audio only webcast will be available approximately 2 hours after the conclusion of this call. The link to the audio replay will also be available on our website at www.farmerbros.com.

Before we begin the call, please note various remarks that we make during this call about the company's future expectations, plans and prospects may constitute forward-looking statements for purposes of the Safe Harbor provisions under the Federal Securities Laws and regulations. The company's actual results and other future events could differ materially from what is described in those statements. Additional information on factors that could cause actual results and other events to differ materially from those forward-looking statements is available in the company's press release and in our public filings which are available on the investor relations section of our website.

In addition, any forward-looking statements represent our views only as of today and should not be relied upon as representing our views as of any subsequent date. While we may elect to update those forward-looking statements at some point in the future we specifically disclaim any obligation to do so, even if our views change. Therefore you should not rely on these forward-looking statements as representing our views as of any date subsequent to today.

Additionally, please note that the company uses certain non-GAAP financial measures, including adjusted EBITDA, adjusted EBITDA margin, net income excluding restructuring and other transition expenses and net income, excluding restructuring and other transition expenses per common share diluted in assessing its operating performance. A reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures is included in our earnings press release, which is available on the Investor Relations section of our website.

I will now turn the call over to Mike Keown our President and Chief Executive Officer. Mike?

Thank you, Tom. Hello everyone and thank you for joining us this afternoon. I am very pleased you could be with us today. Here is the agenda for this call. First, I will do a top-line review of our third quarter of fiscal 2015 results and then update you on our corporate relocation plan. I will then turn it over to Mark Nelson, our Treasurer and CFO who will discuss our financial results for the quarter in greater detail. So let's start into it.

Overall we continued to make progress in improving operating performance in the current environment of volatile coffee prices. Net sales in our third quarter were $132.5 million, up 5.6% versus the same period a year ago. Though net sales increased, the volume of green coffee manufactured and sold was down by 3.9% at 20.9 million in the third quarter of fiscal 2015 versus 21.7 million pounds in the third quarter of 2014.

To be frank, these volume trends did not meet our expectations in the quarter. There were some factors that we believe contributed to the reduction in volume and drove the slowdown in the growth of our topline during the quarter. Most important of these was that several of our larger national customers experienced a slowdown for various reasons such as timing of significant promotional activity.

Moreover as we have mentioned before that we have new business prospects in development. These don't always move on the schedule that we expect like or would prefer. And assessing our profit performance, it is critical to understand the moving pieces that Mark will detail later in the call.

First, net loss was $2.6 million versus net income of $2.5 million in the same period a year ago. If you exclude the restructuring -- transition expenses for the quarter of approximately $3.6 million, net income looks considerably better. We also had an expense of $1.8 million due to mark-to-market losses on our coffee-related derivative portfolio, driven by the significant decline in green coffee commodity prices during the quarter. In this light, our results do show improvement but at the same time they also demonstrate that we continue to be in a very tight marketplace where efficiency in operations, increases in volume and cost control are an absolute must for the success of the company.

Before I turn it over to Mark, I wanted to give a brief overview on our corporate relocation plan. To remind everyone, the corporate relocation plan we announced last quarter was the result of a thorough review of our operations and supply chain to determine how we can become more competitive, grow the business and best serve current and future customers. It effectively begins to reposition us for the next chapter of our history.

The plan's main elements or phases are: first, the wind down of production in Torrance and transfer of that volume to existing facilities; second, the construction of the new facility for headquarters distribution or manufacturing; and third, the close and sale of our Torrance facility. I will give a brief status report on each phase.

First, the closure of Torrance. Coffee production at the Torrance facility ceased last week and our other facilities in Portland and Houston have successfully internalized that volume while providing outstanding customer service. In connection with this wind down, we've completed the related personnel move and I would like once again to take the opportunity to thank our Torrance based production employees for their service, dedication and commitment to this company over so many years.

Next, the second phase: the building of a new facility. The second phase of our plan is also proceeding on plan. We have targeted a site for the new facility in the Alliance Park area of the Dallas-Fort Worth Metroplex and we recently secured job creation and tax abatement incentive packages offered by the Town of Northlake in Denton County, Texas. We look forward to a long partnership with the local leadership and the people of those regions. And I want to once again thank the local leaders for their support of our company. Development work is proceeding regarding the design and construction of the new facility right on plan.

Lastly, the third phase: the close and sale of Torrance. I believe the sale of the Torrance facility is on schedule. We are in the selection phases for agents and advisors to represent the company in the sale and the marketing of the property and have successfully completed some of the initial preparatory work as well. Mark will go over the financial update associated with these in just a moment but I want to reiterate what I've said before. I believe firmly that the changes associated with this relocation are essential for the continued improvement in the company's performance and we will continue to apply all the focus and resources necessary for successful implementation.

Let me now turn the call over to Mark Nelson, our CFO, who will provide you with more details on our third quarter results as well as the financial details of our corporate relocation plan. Mark?

Thanks, Mike and hello everyone. I will spend the next few minutes discussing our financial performance for the third quarter of our fiscal year 2015.

As Mike mentioned, we continue to make progress towards our objectives of driving operational improvements and financial improvement. Now let me get right into some of those details.

On the income statement, net sales in the third quarter of fiscal 2015 were $132.5 million, representing a 5.6% increase from net sales recorded in the third quarter of fiscal 2014. This increase was primarily due to increases in sales of our coffee and other beverage products, primarily driven by pricing actions through which we increased prices to our direct ship and to DSD street customers. The increase of $7 million over the prior period included approximately $4.8 million in price increases to customers utilizing commodity-based pricing agreements with the changes in the green coffee commodity costs are passed on to the customer.

Many of our customers were covered under coffee hedging contracts which insulated them from immediate changes in green coffee commodity prices. The duration of these hedging contracts creates a lag in how quickly commodity price changes are ultimately reflected in our topline revenues. For DSD customers, we also implemented pricing increases over the past four quarters as we saw the green coffee commodity cost begin to increase.

In cost of goods sold, in the third quarter of fiscal 2015 increased by $8.5 million versus the third quarter of 2014. As a percentage of net sales, cost of goods sold increased to 64.9% in the quarter of fiscal 2015 versus 61.7% in the prior year period, primarily due to an increase in the average cost of green coffee purchases.

As you know, we generally experienced a lag and the impact of changes in green coffee commodity costs going through our P&L as a result of the duration of our hedging coverage. As a result, gross margin for the third quarter of fiscal 2015 was 35.1% or 320 basis points below that of the third quarter of fiscal 2014.

Operating expenses in the third quarter of fiscal 2015 decreased by $2.1 million as compared to the prior year period, primarily due to a $5.8 million decrease in selling, general and administrative expenses, offset by a $3.6 million increase in restructuring and other transition expenses associated with the corporate relocation plan.

As a percentage of net sales, operating expenses in the third quarter decreased 370 basis points to 36.2% versus 39.9% in the third quarter of fiscal 2014. As a result, loss from operations in the third quarter of fiscal 2015 was $1.4 million compared to loss from operations of $2.1 million in the prior year period.

Total other expense was $1.4 million in the third fiscal quarter as compared to total other income of $4.8 million in the prior year period. Total other expense in the third quarter included net losses from coffee-related derivative instruments of $1.8 million as compared to net gains from coffee-related derivative instruments of $3.7 million in the third quarter of the prior fiscal year.

Since our adoption of hedge accounting in the fourth quarter of fiscal 2013, the majority of our coffee-related derivative gains and losses are now being reported as accumulated other comprehensive income and subsequently reclassified into cost of goods sold upon receipt of the commodity, as opposed to being marked-to-market through other income and expense periodically.

Notwithstanding the adoption of hedge accounting, there remains a portion of our coffee-related derivative instruments which have not been designated as accounting hedges which we continue to mark-to-market through other income and expense. This quarter, a larger portion of our hedging portfolio was non-designated due to the consolidation of our green coffee inventory from our Torrance, California facility into our Houston, Texas facility. As a result, we experienced large mark-to-market losses in the fiscal third quarter due to be significant decline in green coffee commodity prices during the quarter.

As of March 31, 2015 we held coffee-related derivative instruments covering 45.2 million notional pounds of green coffee as compared to 38.1 million pounds covered as of March 31, 2014. In addition to these coffee-related derivatives, as of March 31, 2015 we had $30.5 million in green coffee inventory processed and unprocessed and commitments to purchase green coffee totaling $20 million under fixed-price contracts.

In the three months ended March 31, 2015 we recorded income tax benefit of $200,000 as compared to income tax expense of $200,000 in the three months ended March 31, 2014. As of June 30, 2014 our valuation allowance was $72.6 million. In the nine months ended March 31, 2015 we decreased our valuation allowance by $2.7 million resulting in an ending valuation allowance of $69.9 million.

We will continue to monitor our cumulative three-year loss position together with all available evidence both positive and negative in determining whether it is more likely than not that we will realize our net deferred tax assets. As a result of all of the factors I mentioned, net loss was $2.6 million in the third quarter of fiscal 2015 compared to net income of $2.5 million in the third quarter of fiscal 2014.

Loss per share in the third quarter of fiscal 2015 was $0.16 versus diluted earnings per share of $0.16 in the prior year period.

Okay. Now let's turn to the balance sheet. As of March 31, 2015 we had $9.4 million in cash and cash equivalents. Additionally we had $24 million in short-term investments and $7.2 million of restricted cash. We had $10 million borrowed and outstanding on our new revolving credit facility at quarter end. In March 2015, our previous credit facility with Wells Fargo expired. We replaced that with a credit facility from J.P. Morgan Chase and SunTrust with a $75 million borrowing capacity and a $50 million accordion feature.

For the first nine months of fiscal 2015, our capital expenditures for purchases of plant, property and equipment were $13.6 million as compared to $19.3 million in the first nine months of the prior fiscal year. Our CapEx during the first nine months of fiscal 2015 included funds spent on coffee brewing equipment, expenditures for vehicles, machinery and equipment, building and facility improvements and IT related expenditures.

In addition, during the third quarter of fiscal 2015 we completed the acquisition of substantially all of the assets of the Rae' Launo Corporation, also known as Gourmet Cup relating to its direct store delivery and in-room distribution business for $1.5 million, including the payment of $1.2 million in cash at closing.

I'm happy to say that this business has been integrated and is up and running with deliveries to our new DSD and in-room customers and no issue is recorded to date. It has been a great addition to enhance our customer concentration and our presence generally in southern Georgia and the Florida regions and we are glad to welcome these employees to the Farmer Brothers team.

Depreciation and amortization expense in the first nine months of fiscal 2015 was $18.6 million versus $21.3 million in the first nine months of fiscal 2014.

Now I would like to discuss certain non-GAAP financial measures that we use in assessing our operational performance. A reconciliation of each of these non-GAAP financial measures to the nearest GAAP financial measure is presented in our earnings release posted on our website.

In the first nine months of fiscal 2015, we incurred certain expenses related to our corporate relocation plan which we have identified as restructuring and other transition expenses in our consolidated statement of operations. These expenses are directly attributable to the corporate relocation plan and consists of employee retention and separation benefits, facility relocation costs and other related costs such as legal, consulting and other professional services and travel.

As a result, we are now presenting two new non-GAAP financial measures. They are: net income, excluding restructuring and other transition expenses, and net income excluding restructuring and other transition expenses per common share diluted. In addition, we define adjusted EBITDA as net income or loss excluding the impact of income taxes, interest expense, depreciation and amortization expense, ESOP and share based compensation expense, non-cash impairment losses, non-cash pension withdrawal expense, other similar non-cash expenses and beginning in the quarter ended December 31, 2014, restructuring and other transition expenses associated with the corporate relocation plan. We define adjusted EBITDA margin as adjusted EBITDA expressed as a percentage of net sales.

In the third quarter and nine months ended March 31, 2015 restructuring and other transition expenses associated with our corporate relocation plan were $3.6 million and $4.6 million respectively. Restructuring and other transition expenses in the first nine months of fiscal 2015 consisted of employee retention and separation benefits of $2.5 million, facility relocation costs of $0.1 million and other related costs, including legal, consulting and travel of $2 million.

Net income, excluding restructuring and other transition expenses, was $1.0 million in the third quarter of fiscal 2015. And net income, excluding restructuring and other transition expenses per common share diluted, was $0.06 in the third quarter of fiscal 2015.

Adjusted EBITDA and adjusted EBITDA margin for the third quarter of fiscal 2015 were $8.8 million and 6.7% respectively as compared to $11.1 million and 8.9% respectively in the third quarter of fiscal 2014.

Now I will comment briefly on the certain aspects of our announced corporate relocation plan. As Mike mentioned earlier, we announced a new target site in the Alliance Park area of Dallas Fort Worth in Denton County, Texas and have finalized our incentive packages with Denton County and Town of the Northlake. We are currently engaged and finalizing development and construction terms for our new facility. Subject to the finalization of the optimal size and build out of the facility we expect to incur approximately $35 million to $40 million in new facility costs with an additional $20 million to $25 million for machinery and equipment, furniture and fixtures and related expenditures associated with the new facility.

The capital expenditures associated with the new facility are expected to be partially offset by the net proceeds from the planned sale of our Torrance facility. The majority of the capital expenditures associated with the new facility are expected to be incurred in late fiscal 2016 or early fiscal 2017.

We believe our new credit facility to the extent available cash flow from operations and other liquid assets and the expected proceeds from the sale of our Torrance facility collectively will be sufficient to cover our capital expenditure requirements for the next 12 to 18 months, including the expected CapEx for the corporate relocation plan.

Subject to the finalization of certain estimates, we expect that we will incur approximately $25 million in cash costs in connection with the exit of the Torrance facility, consisting of employee retention and separation benefits, facility relocation costs and other related costs. We expect to recognize approximately 35% of the aggregate cash costs in fiscal 2015, inclusive of the $4.6 million incurred in the first nine months of fiscal 2015 with the remainder expected to be recognized in fiscal 2016 and the first quarter of fiscal 2017.

In addition, we may incur certain non-cash asset impairment and pension related costs the amounts of which we've not yet determined. Upon full implementation of the corporate relocation plan, we expect to see annualized cost savings in the range of $12 million to $15 million beginning in the latter half of fiscal 2006.

And with that, I will turn the call back over to Mike.

I would like to thank those on the call for their continued interest in Farmer Brothers. I want to reiterate our commitment to ensuring continued and uninterrupted service to our thousands of customers nationwide as we begin our move to Northlake, Texas. We recognize our time limitation to successfully complete this enormous task ahead of us but are also very excited for the opportunities in the future as we prepare for the next hundred years at Farmer Brothers.

And with that, I would like to open the call up to a few questions.

(Operator Instructions) Our first question comes from the line of Tony Brenner of ROTH Capital Partners.

Have a couple of questions. Regarding the decline in volume of 3.9%, I wondered if you can break that out between your DSD and national chain account businesses?

Yes, sure. So it was a decline in both of the channels. There's probably a slightly larger decline in the national account side as far as the pounds go, probably about two thirds in the national channel and one third of that decline came from DSD.

And why would -- the DSD volume had been down?

We've seen a little bit of softness in the quarter on the DSD side. It's hard to predict each and every quarter, quarter-over-quarter I think it was within a percent of the prior year volume number. So it's not a real significant decline but it was ultimately down as well in the quarter.

Tony, it's Mike. On the national account side of that, it was largely promotion timing on a year-on-year basis and that was actually the most significant portion of the decline.

Without getting myself wound around an [axel] on derivatives, most of the production was not transitioned to Houston until the second quarter, does that mean that there again will be a fair amount of unallocated coffee subject to the vagaries of price change in this quarter as well?

So what happened actually as we headed into the tail end of the third quarter as we had been aligning our green coffee inventory pools here in Torrance, as well as the green coffee pool in Houston, aligning common item numbers and common green coffee SKUs. And as we did that, it actually resulted in the forecast coverage for green coffee being pushed out. So it turned out, as we combine the coffee inventories, we had more coffee understandably going through one facility instead of two. So that planning process allowed us to forecast a longer coverage in our coffee derivatives and our coffee on order.

What that means is we ultimately wound up with a lower designated percentage on our derivatives portfolio. We had roughly 86% designation which is still quite high. It's hard to get a whole lot more than that but it could have been higher if we hadn't been combining inventory pools and that coupled with the very significant drop in coffee prices, it pushed out a pretty significant mark-to-market adjustment in the quarter. If you go back 12 months, the exact opposite happened. We had a relatively low designation percentage and coffee dropped quite a bit actually, much more precipitously than it did in this quarter the drop and so that --

So the question is -- is there that same vulnerability this quarter?

Well, as coffee prices change, we're going to see either some portion of it get marked to market through our non-designated piece of our portfolio but once again the majority of it we're going to try and keep designated and it would have the effect of deferring any gains or losses until the actual commodity was delivered and then that would push it into cost of goods sold. I think we will always try to have as higher designation percentage as we can. We will never get to a 100% designation. It's very challenging to be at that level. But I think that we will do a better job of seeing it at a higher designation percentage in the future.

And I wondered if you could just talk a little about the factors behind the SG&A reduction -- selling expense and G&A..

Sure. So when you look at SG&A there was $3.6 million included for restructuring expense and the reduction in SG&A in the other categories came primarily from payroll and payroll related expense. We've seen some attrition come through as we went through the end of the quarter with our announced corporate relocation. In addition, there were differences in rate of our incentive accruals that we went through the third quarter last year versus the third quarter this year. And we did see about almost $1 million in fuel savings year-over-year. So that we saw some good results on and some basic consulting and auditing, some of it associated with the restructuring activity we had in the prior year and we didn't have this year. That was also about a $1 million of savings.

So we have seen some pretty good benefits. Depreciation expense is also down in the quarter and you can see that. So those factors together caused a very significant reduction in our SG&A expense.

(Operator Instructions) Our next question comes from the line of Chris Krueger of Lake Street Capital.

I generally just have a kind of one question, it's related to your move to your new facility. I know you expect to be much more efficient and better and be able to better compete on these large national accounts. Could you talk about that a bit and how -- I know they're probably a slow selling process. I mean do you begin to bid more competitively in the near future before the completion of the projects in anticipation of what you're going to be able to do to try to win that stuff or you have to wait till it's up and running and until you have a handle on the margins before you can do that, or how should we look at that?

Sure. I will take that. So I think there's a couple of different ways to think about it. The first one is we didn't have a site that we could share with customer till just last week. So we really haven't had an opportunity and been very eager to better engage both current customers and future customers on what this facility will be able to do. We're envisioning a facility that will be state-of-the-art in efficiency, have all the appropriate certifications, SQF, lead, those types of things and also have the quality production and roasting capabilities to serve the most demanding customers. So we're just beginning to look through that process moving forward.

As we do go out there, obviously we will always attempt to be as competitive as we can from a price standpoint but I think the real opportunity here is more round quality, consistency and sourcing coffees around the world in a very high quality manner and also having a facility that we can use to help train our selling organization in the continued evolution in coffee and so forth. So hopefully we will have some more news on that in the future but we're just in the infancy of really being able to leverage it in the marketplace.

And on that note, I know last quarter, you announced -- I think it was Big Lots and Cozee, was there any new ones announced this quarter?

No, not of a significant nature. There were number of smaller regional customers but we're really bringing on board those two and frankly wanted to make sure we successfully executed the transition to Houston and Portland. We've sent well over 10 million pounds of those facilities and a significant focus of that is doing that with excellence and it appears like the production teams in Houston, Torrance and Portland have done a tremendous job taking in a very significant amount of coffee.

I'd also underscore it was a bit lost in our last call that we did close the distribution center in Houston. So there were number of moving pieces from an operational standpoint that were our primary focus. That being said, we're now going after new business in a very aggressive way and obviously continue but have tried to walk a fine line over the last quarter and half of ensuring we did everything we could to serve our current customer base.

Thank you. And that's all the time we have for questions today. Mike?

Okay. Well, if that's all we have, I just want to thank everybody once again for their continued interest in Farmer Brothers. We appreciate your interest in our story and are extremely excited about the future. And we look forward to continuing the progress we've made in the past and updating you as we embark on the next chapter of our evolution at Farmer Brothers. Thank you again. Bye, bye.

Ladies and gentlemen, thank you for your participation on today's conference. This concludes the program. You may now disconnect.