Flowers Foods Inc (FLO) 2006 Q4 法說會逐字稿

Good morning. My name is Rich, and I will be your conference operator today. At this time, I would like to welcome everyone to the Flowers Foods fourth quarter and fiscal year 2006 conference call. [OPERATOR INSTRUCTIONS]

It is now my pleasure to turn the call over to your host, Martha Turner, Senior Vice President of corporate relations. Ma'am, you may begin your conference.

Thank you, Rich. Good morning. everyone. We appreciate your being with us this morning. Participating on our call today are George Deese, Flowers Foods' Chairman, Chief Executive Officer and President, and Jimmy Woodward, our Senior Vice President and Chief Financial Officer. George and Jimmy will discuss our fourth quarter and fiscal 2006 results and then we will open the call up for your questions. First it is important that I remind you our presentation may contain predictions, estimates or other forward-looking statements. We may use words such as expect or believe to identify those forward-looking statements. While we believe our statements are reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially. In addition to matters that we sho -- will probably discuss on the call, important factors relating to Flowers Foods business are described in our SEC filings.

Now I'm very pleased to introduce Flowers Foods Chairman, CEO and President, George Deese.

Thank you, Martha, and thanks to each of you for joining our call today. On behalf of our entire team I am pleased to report record results for the fourth quarter and the full year. These results were achieved in a year filled with challenges, especially in the commodities and energy cost, and a year that we continue to invest in new capacity and geographic expansion, which will help us sustain our growth for the future. Let me share a few highlights before I turn it over to Jimmy.

Overall, in the fourth quarter our sales grew by 10.5%. Income from continuing operations was up 35% and earnings per share grew by 36.8%. For the full year our sales were up 10.1% to $1.889 billion. Income from continuing operations of just under $75 million represents an increase of 19.1% over 2005 results. Earnings per share for the year was $1.21, an increase of 22.2%. EBITDA for the year was some $182.7 million, up $24.1 million or 15.2% over 2005. For the quarter, sales for our bakeries [inaudible] increased 11.4% over last year's fourth quarter, and for the year sales were up 11.8%. These results were remarkable and clearly demonstrate the strength of our DSD business. We have great brands and products that are performing very well in the marketplace and with great execution by our people.

Turning to our specialty group. I feel this was a turning point. We had -- as you remember most of the year was a difficult. Fourth quarter really began to turn and we reported sales up 7.2% for the quarter and 3.7% for the full year. Looking closer to our sales, using our internal sales data, branded retail sales were up 12.1% for the quarter and 11.7% better than last year. Our white bread brands, led by Nature's Own white wheat and local white bread brands once again achieved double-digit growth for the quarter and the year. Sales of Nature's Own [inaudible] bread grew by double-digits, as well, for both the quarter and the year. In the fall we introduced six new Nature's Own all-natural specialty breads, two of which are made with organic flour. Consumer response to these new Nature's Own products continues to be good. Our bun and rolls, led by our Nature's Own white wheat items introduced early in 2006, had double-digit growth for the year. Our Mrs. Freshley's brand had double-digit growth for the quarter and for the year. Store brand,, our private label which is primarily white bread and buns. also increased by double-digits for the quarter and the year, mainly because of new customers. Finally our food service business increased by double-digits, led by sales to quick-serve restaurants.

According to IRI Flowers Foods share in the south market, where our DSD business accounts for just over 23% of retail sales. Even so, it is important to remember that IRI did not capture a significant part of the market. Our internal data shows that our sales grew across all distribution channels, except contract manufacturing of snack cake. As you recall, approximately two years ago we said we would be exiting this low-margin business and focusing our sales and market -- marketing and manufacturing plants to higher-margin branded business. This is now well underway and I'm pleased with the execution as we go forward.

Our integration of Derst Baking Company, which was acquired in February of 2006. continues on plan. On a quarter-to-quarter, as well as year-over-year comparison the Bakeries group added roughly 1% to our DSD sales base as we continue our expansion into new territories. On our last call we told you we were taking pricing to offset higher costs for ingredients and other items. On average, that action took pricing of about 5%. Of course there are variances in some channels where more or less was needed. Most of the pricing was effective October 1st and all were in place by January 1st of this year.

2006 was an eventful year. I am pleased to report that our new production lines are running well and running right on track, as planned. You recall that we added a seconds bread line to our [inaudible] bakery. We opened a bun line in our new bakery in Newton, North Carolina and reopened the bun line in Houston. In February, as I stated earlier, we acquired Derst and our team has successfully integrated that business into ours. We centralized our [inaudible] into the first quarter, which is now on plan. For the full year we absorbed about $0.06 of additional cost for equity-based compensation. 2006 was another good solid year for Flowers Foods. We made progress in improving our bakeries, our distribution systems, adding new products, offset new costs, added needed capacity, and integrated successfully Derst Baking Company and Royal Cake Company.

I would now like to turn the presentation over to Jimmy Woodward for his comments.

Thank you, George. Let's review the consolidated statement of income first. George gave some comments on the sales growth for Q4, up to 10.5%, and the press release provides you with price mix and volume changes for bakery, specialty, and then on a consolidated basis. I think the sales growth is a reflection of the successful integration of the acquired Derst business, the continued expansion of our DSD territory and the continued utilization of scan-based trading with several of our large retail customers. Upon completion of the fourth quarter we have now lapped the loss of certain of the contract snack cake production, so the unit volume losses we've been reporting for the past year ing the specialty group should come to an end. You will note that we report the volume in terms of units, and during the fourth quarter both the bakery and specialty groups had increases in tonnage produced. The specialty group reported the unit volume decline, as that business in the cake business shifts from single-serve units to multi-pack units, primarily under the Mrs. Freshley’s brand.

The gross margin for the quarter, 49%, was down from the 49.5% recorded a year ago. Increases in production cost, which we saw primarily in flour and in sweeteners, those costs were offset for the most part with sales gains through pricing. The results on the margin line also reflect our strategy to add production capacity, which initially has lower utilization and therefore lower gross margin, but we do that in order to lower our distribution cost. And the downward pressure on the margin line was more than offset by the reduction in the distribution cost during the quarter. Selling, marketing and admin expenses of $175.6 million or 40.1% of sales, a decrease of 1% of sales from the prior year. We continue to grow the sales base and had lower distribution costs, with the production capacity better situated to serve the market. And we also have lower pension expense for the quarter and the year.

George mentioned the adoption of the new equity-based compensation accounting rule this year resulted in about $0.06 per share of cost and virtually all of that expense is reported in selling, marketing and admin. The depreciation and amortization expense for the quarter is $15.5 million, slightly higher than the prior year. And note that we currently report depreciation and amortization as a separate item on the income statement, so it's not part of cost of goods sold or selling, marketing and admin. Since we supplement our capital spending with operating leases, we incur lease expense and the data's included in cost of goods sold or selling, marketing and admin, as appropriate. And as we've added certain of those recent production lines under operating leases, the lease expense hits cost of goods sold, which also helps explain the slight decline in the gross margin.

On the face of this statement the $836,000 reflected as a gain on insurance recovery does represent the final receipt of insurance proceeds related to claims that arose from last year's hurricanes. The source of our interest income continues to primarily be the distributor notes. We do report the interest income net of interest expense, which we incurred on our revolving line of credit we did utilize during the year, primarily the fund share repurchases. The consolidated effective tax rate for the quarter of 37.5% was a little higher than the 36.7% for the year. There is some fluctuation in the rate quarter to quarter, primarily due to what the level of income is of the variable interest entity that gets consolidated. The minority interest is the variable interest entity. We eliminate all of the income of that entity as we have no equity interest in that entity. On a per share fully-diluted basis, income from continuing operations was $0.26 per share and we reported 61.3 million as the diluted shares outstanding at the end of the year.

Turning to the balance sheet, changes from Q4 of '05 to Q4 of '06 are really due primarily to the Derst acquisition. During the fourth quarter we did adopt FAS 158 regarding accounting for retirement plans, and the adoption of that new accounting standard required a balance sheet entry of only $7.5 million in the asset lines and $8.1 million in liabilities, and reduced shareholders equity by $4.5 million. These amounts are not really significant to the Company and reflect the Company's long-standing commitment to appropriately funding the pension plan. As I noted earlier, our pension expense was down in fiscal '06 and we expect this issue to be manageable in the future, as our primary defined benefit pension plan participation was frozen in 2005.

Looking at the cash flow statement for the quarter we had $48.8 million of cash provided by operating activities. We used $16.1 million for capital expenditures, $10.4 million for share repurchases and $7.6 million for dividends. For the year the capital expenditures were $61.8 million, and we continue to focus on creating shareholder value as evidenced by the $29 million in dividends paid for the year and the4 63.6 million in share repurchases. Since inception of the share repurchase program we returned some $247 million to shareholders in exchange for approximately 11.8 million shares. We are updating our guidance slightly today for fiscal 2007. Based on the actual results for '06, we expect sales to increase 5% to 8% so that will be $1.983 billion to $2.04 billion, and this would be the first year we may across that milestone $2 billion mark and I expect all of our sales personnel will focus their efforts on that goal. Net income from continuing operations is expected to move up as a percent of sales to 4% to 4.4%, which would be $81 million to $87 million as compared to the $74.9 million we just recorded for '06. Assuming the diluted shares outstanding remain at about 61.3 million, that would be earnings per share on the diluted basis of $1.33 to $1.43 as compared to the $1.21 we reported today for '06.

So George, with those comments, I'll turn the call back to you.

Thank you, Jimmy. 2006 results were strong, and as Jimmy mentioned, we have full confidence in our updated guidance for 2007. We will do this by continuing to grow our DSD business in new territories and increase our business in our core markets, and we will enter new geographic territories during the year. Additionally the first half of this year, Derst Baking Company will be changing from a company DSD system to our proven, independent [inaudible] business model. You've heard us talk a lot about our Newton plant and I think this will be one of the best plants in our industry. We real pleased with it. As you recall, the buns plant started up last June, and we've been working diligently to bring on a new bread line, which will take place this spring. As you recall, we want to make sure that, as we went through adding new capacity, that we located our plants where the people are, and this is certainly true in the North Carolina market. This will be a great addition to our network of bakeries in these growth markets. In addition, in our snack cake business we're adding automation to packaging and shipping that will reduce our operating cost. We will continue to launch new innovative bread, buns, rolls and cake products to our lineup.

As we told you on previous calls, in 2007 we are experiencing higher input costs. The pricing actions we took late in 2006 will, for the most part, offset our cost increase. The one remaining variable is our flour buy for most of the second half of 2007. We'e some 63% of the year covered through our hedging program and, of course, now we are focused on the remainder of those flour needs for the latter part of the year. We will be doing this as opportunities present themselves. When we've completed our contract for the second half, we will know if our cost for flour will be greater than our planned cost and more than can be offset by other procurement items. If necessary, we will take further pricing action in mid to late 2007 to cover these additional costs.

Jimmy's already updated our guidance. I would like to say that our long-term goal, and repeating Jim -- what he said is to grow sales of 5% to 8% and our forecast for 2007 is in line with that. Our guidance takes our recent pricing action into consideration, So roughly 5% of our sales increase for the year will be pricing, and product mix shift and volume growth of between 1% and 3%. Remember, our guidance for sales does not include acquisitions. We expect earnings to increase roughly between 10% and 18% for 2007. I certainly have confidence in our teams ability, as we've demonstrated in the past that we can make these goals and move forward. And I, too, share with Jimmy. I think our sales people will be to be focused on hitting this $2 billion in sales for the first time in our history. Our efforts are naturally on-going to find acquisitions will that will enhance our shareho -- return to shareholders. Any new acquisition that we add in will be added to our guidance for the year. Our cash flow remains strong and we continue to use cash to make capital investments, pay dividends to our shareholders, consider strategic acquisitions and to continue our share repurchase program.

In summary, our performance in the fourth quarter and the year was very good. 2007 brings new challenges, but I have full confidence of the great position that we're in we can have another record-breaking year. As always we are focused on growing our business, on driving that cost, on improving our margins and on creating value for shareholders over the long term. It is a great time to be in Flowers Foods and to be in the industry.

At this time, I'd like to direct Rick to turn the mic back over to you for questions.

[OPERATOR INSTRUCTIONS] Your first question comes from Farha Aslam of Stephens, Inc.

Hi, good morning.

Good morning, Farha.

Could you share with us in terms of -- we 5% from pricing on top line. How much much your capacity year over year and what's your capacity utilization in your plants right now, George?

It depends on lines. I would say, though, that our bread lines are -- and remember we use basically 120 hours as 100% capacity, Our bread lines are in the neighborhood of 110% capacity, and our bun lines would be in that same neighborhood, as well.

What is your CapEx expenditures anticipated to be for next year and do you anticipate adding new lines and new bakeries?

I think we/ve already indicated we'd be in a $64 million neighborhood for '07. The big push next year, of course, will be the Newton bread line, which is a super bread line. And we hope to be able to show it, Farha, to you, along with the rest of the analysts, in the near future, But it will add a tremendous capacity to the northern region and as we expand our markets further north. As far as any additional -- [huge additional] lines next year we do not anticipate any. We are looking for locations and have zeroed in on a couple of areas. And what we've said previously that we anticipating adding a new bakery roughly every 18 months, and -- and we will do that as stated.

You mentioned M&A a couple times on the call. Can you tell us what you're seeing in that M&A pipeline in the bakery industry?

Farha, we always are interested in acquisitions. We're always have one or two or three items that we look at. We cannot go too much further than that. Based on our past history we want to grow our Company and we've had well over 110 acquisitions in our history. And if history's God, hopefully we will continue to do that as we go forward.

Okay, great. And then when you look at your ingredients costs, you've talked about flour, are your other costs, particularly sugars and sweeteners and oils, do you have any concerns on that front?

Well, I did mention that our flour's hedged 63% for the year. As you know, corn seems to be driving all grain prices, and we just have to be -- and use every opportunity available to us to buy that last end of the year at a price that we feel comfortable with. Sweetners, of course, the derivative from corn, is up quite a bit, as you know. Sugar, though, we are pretty with sugar for the year. We're not seeing a huge increase there.

How about oils, in particular soy oils that you might use? Is that a significant buy for you guys?

Fortunately we bought well in advance, so we're in good shape.

And this fall when wheat prices went up, generally yours and the baking industries pricing lagged the increase. Do you think going forward that you'll be able to pass along pricing as wheat costs or as commodity cost increases, or do you think you're going to have to continue to chase those commodities if they go up?

Let me take the first one first. I believe you asked will the baking industry -- take advantage -- not take advantage, but move its pricing along with commodity costs. Was that the question?

Yes.

As you know we took action early in October. And I think we even -- in the first quarter we had predicted that the latter part of the year we would be taking pricing and, in fact, it did happen and we did take our pricing. Based on our commodities we felt like we needed 5% -- roughly a 5% increase and that's what we put in the marketplace. And I'm pleased to say that it has been successful and our customers do understand. They read every day about what's going on with corn, with ethanol. They do realize there was a severe draught last year in the hard red winter wheat geographic area. And I find if you can do a good job of presenting the facts, knowing what the costs are and why they're there that customers do understand. Might not like it, but they do understand, and we've been successful in telling our story and getting increases.

Great. And final question before I pass it on/ Just when you look at your share repurchase program, any thoughts on getting more aggressive, given your debt to cap levels significantly below the industry?

Farha, This is Jimmy. We certainly continue to discuss. We've mentioned numerous times about the strength of our balance sheet. We viewed that recently to buy shares over time. We've used the cash load to fund the pension plan. We've used it for capital spending, et cetera. We certainly recognize the strength of the balance sheet and we're continuing to look at it and discuss it with our board as far as what's the best use of that to create shareholder value.

Okay. Great. Thank you.

Thank you.

Your next question comes from Tim Ramey of D.A. Davidson.

Good morning and congratulations.

Good morning, Tim. Thank you.

s you know I've been a little skeptical of your ability to pull it all off, but I've go to give you credit. You sure did and in great style.

I'm worried about you. [LAUGHTER]

You mentioned that what you expected to do in '07 on the top line and it was pricing up 5%, I think you said mix of 1% to 3%, was that right?

That's correct, mix and volume.

Does that volume encompass the geographic expansion and can you talk a little bit more about what your specific plans might be for geographic expansion or general plans, I guess, not specifics?

It does include future expansion and -- I'd like to roll that out now but I can't because of competitive reasons. As you know, though, over the past three years -- we announced this, I think, in -- three years ago in San Antonio and we're not -- not to all those boundary lines. We're getting closer to those lines that we talked about then. We're very pleased with our entree into the northern Virginia market. We're continuing to increase our market share there. Because it is adjoining a market that we've been serve for a long time, our brands are accept well, Nature's Own, our white wheat brands, Cobblestone Mill, but I can say the same thing for northern Kentucky. Cincinnati's too new to comment on. Parts of Missouri and especially Oklahoma, which is served out of our [Denton] plant, has been very successful, and I'm real pleased with the expansions that we have had and we'll see more of this coming year, but I just couldn't be specific to where.

Would you say that it's the lion's share of that 1% to 3% or can you be --

No, I'll not say that.

Okay, And Jimmy, can you give any detail on why pension expense was down and what the order of magnitude was? I know we will see it in the K, but --

Yes, it's really a combination of a couple of things. I think we froze the -- the primary defined benefit plan was frozen in terms of participation in 2005, so that actually reduced the pension expense and we converted everyone solely to the 401K, to which the Company contributes, but there was some cause for reduction there. And then in addition you'll recall in the past two or three years we've funded the plan each year. I think last year with about $14 million, the year before was about $25 million, and so as we've been funding the plan and getting good investment returns on the plan, all that reduced our expense. It was somewhere -- it was like $5 million to $6 million for the year, Tim, was sort of the total reduction in expense. You had some increase in 401K costs. You had some pension expense reduction. The net of all that was in the $5 million to $6 million range.

And do you expect continuation of that or just leveling out of that for --?

I would think now it will level out. We think like from '06 to '07 should be fairly level.

Okay. And any comment on what your cost outlook looks like for natural gas? I know it's going to be down, but what kind of order of magnitude?

We look for natural gas to be down low single-digits, in that 2% to 3% range is kind of where we are looking for the natural gas. A substantial majority of that we are able to hedge. Some of that because of the location of the plants and the utility that serve them we're not able to hedge, but we would be looking for it to be down 2% to 3%.

Thanks very much.

Okay, thanks.

Thank you. Your next question comes from Eric Katzman of Deutsche Bank.

Hi, good morning, everybody.

Morning, Eric.

A few questions. There's been a lot of concern out there, maybe one reason why your stock was kind of somewhat of an under-performer, despite a good year in '06, is Wal-Mart and its slow down. You're probably reluctant to talk directly about customers, but it seems like that your business with Wal-Mart continues to be quite strong. Can you confirm that, George?

I did mention from our DSD perspective overall sales were up a solid 11%, I believe. That is driven, of course, by all of our major customers. I've said many times all of our customers are very important to us. I've said publicly that even though Wal-Mart seems to be having some issues in the total store, I don't think that's probably true in the food business. That's my personal perspective. I don't know if it's general merchandise or what, but I've got my doubts that food has slowed down that much.

Okay. No, that's helpful. Second, can you talk a little bit more about specialty? It doesn't get as much attention. You're saying that the contract manufacturing hit is basically done with, so what should we expect from specialty in terms of top line, either '07 or longer term, as well as margins, now that that contract business is gone?

Eric, that's a great question. Thank you. I know there's concern out there about it. When we made the decision, our margins or -- if you look back margins were a little bit better than then than now, and you might say why in the world did you do it? I could say trends were in the wrong direction. We were tying up a lot of assets for low-margin business and we felt like making that conversion, that strategy for the long pull was much better. Mrs. Freshley's, by the way, is now our number two brand in Flowers. On a retail basis they're approaching $300 million in sales on a retail basis. So I think the strategy is right. First half of last year we did have a few hiccups, as we centralized our distribution system into Crossville, Tennessee, although that is now worked out and really on plan. Logistics is -- has been reduced according to plan.

And that's about building market share and building the sales. Our cost structure is very good and we're continuing to right size. But again, if you look, especially for the last quarter it was our best quarter by far. And starting out this year after four weeks I'm pleased with the results we've seen so far this year. So I think this year will be a telling year and from this point on, especially next year, we'll see great improvement as we automate those wrapping departments. We've, over the years, have had great luck -- not luck but great results in our bread wrapping departments. We have not put the investment in our cake business, and now we're in the process of putting that investment in the cake business to reduce further cost. So it's all about growing sales and finishing up on these shipping areas -- or wrapping areas to get the cost out.

Okay. Thank you, that's helpful. Then the on last question I have is on a little bit more about the wheat market. Given your management teams' expertise, shouldn't there be a decoupling from corn versus wheat? And how much, I guess, do you think -- how much speculation is there in the wheat market. If we get a decent crop out of the U.S., I guess because you are still unhedged for 37%, you still think there's a good chance that it rolls over?

Eric, thank you for commenting about expertise in procurement. Sometimes I worry about ourselves. But, no, on a serious note, I think you're right. I think corn has driven this wheat market. The whole ethenol issue is driving it, as well as hedge funds continue to play a huge part in the speculation of the whole grain market. I wish I did have a way to say, let's get it uncoupled and each one of them stand on their own. So far we've not been able to see where that is happening. I hope that some day that from a national perspective that -- none of us want to be dependent on foreign oil. I worry about is corn the right answer. I think all of us are probably seeing where cellulose might be a better answer and not use up our food supply for fuel. But the right thing I'm sure will be accomplished in the long-term. But short term, I still think we're facing this whole corn and wheat issue for the next few months.

And is it -- I guess the read so far from your perspective is that the acreage is up and the moisture levels are good. I'm not exactly sure what's happening in Australia or Eastern Europe, but maybe you could, could you update us a little bit more on that from your perspective?

I do. I agree with everything you just said. The moisture content is great in the wheat country. We have good coverage with snow. We did plant -- I think the latest number I've seen is roughly four million additional acres. o if wheat was standing on its own, I think we would see a slow down in the wheat prices back to a more normal basis, but -- and as far as Australia and the European nations, our report is good from our people, thinks the markets will be good there of the crop.

Okay. Good. That's helpful. Thank you.

Thank you.

Thank you. Your next question comes from Pablo Zuanic of JPMorgan.

Hi, I'm actually on the line for Pablo. This is [inaudible]. Good morning, guys.

Good morning.

Congratulations on the quarter. My first question I guess is more of a general question about the bread category as a whole. Would it be fair to say that bread is like milk in the sense that retailers and consumers allow price increases when commodity costs go up, but then when costs come down retailers kind of force to you bring prices down again? In other words, should we be worried here that, when and if costs pressures ease and some commodity prices start to come down, we'll start seeing bread pricing come down as well?

I don't know exactly how to respond to that question. I don't follow milk that close. On the bread side, historically we don't see too many peaks and valleys in the wheat market, and that's not just wheat but all commodities has driven '07 calendar and the future. It's hard for me to predict what the retailers will be looking at if we see the valley coming. And I don't see the valley coming, though. I continue to see these high prices.

But if prices were to come down, is there a historical precedent where commodity costs came down and then you then saw bread pricing come down, as well?

I've never seen that in my history with the Company.

Okay. Thanks. And then just, you guys touched a little bit on specialty already, but in the past you've talked about the specialty units margins eventually approaching Flowers Bakeries margins, sort of longer term, and Flowers Bakeries margins are in the 8% range or so. Is there a timetable for this and do you have a sense of a potential target for specialty margins in 2007? And then secondly, what are the possible drivers for specialty to get back to bakeries-type margins? Would you say -- and how much would come from the gross margin side versus the SG&A side?

Although we're all specialty business we are pleased with it. We have two parts of that business. One is frozen bread and rolls, which we think is a competitive advantage as when we go out and call on the food service customers we can give them product fresh or frozen so we see that as an advantage, so we like the business. Their EBITDA margins are in the neighborhood of Flowers Bakeries. We've said before our [issues] has been on the cake side and that's why we converted over from a contract manufacturer to a branded company.

Right.

I don't think we talking eight to ten years. I think we are talking two or three years when we would see further cost coming out and right-sizing our snack group and getting to the levels of Flowers Bakeries.

Do you have a target for those margins in '07 for specialty?

We don't give out --

It would all -- it would be incorporated in the overall '07 guidance. We don't really give guidance by segment, so --

Right, right.

-- something we would disclose.

And I guess do you have a sense of how much would come from -- longer term or within the next two or three years, like you said, how much would come from gross margins versus SG&A?

I think you'll see better gross margins because it's a branded product, and I think we'll see improved SG&A because of what I talked about in automating these wrapping rooms. You will see both improve -- both areas improve, thus have a lot better bottom line.

Right, okay. And then just one more, if I may. On the bakery side how has the competitive environment changed in your core territories? Have you guys been seeing any kinds of Sarah Lee or Bimbo becoming more aggressive in your core markets?

Gosh, this business has always been competitive, and I don't see it changing that much. It might change from a competitor here or there, but the baking business, in my 42 years, has always been competitive. And I think it will continue to be competitive for that. We are focused on driving Flowers Foods and working with our customers to see what their needs are and trying to meet those needs. And giving the consumers the product that they think they're looking for, and thus we'll take care of Flowers Foods. And I'm sure our competitors are probably doing the same. Everybody -- I would say just following up on that question, I think when new products come out -- new product launches come out and you do see more promotion during those time frames, once the company feels like that brand has had enough promotional activity. price and all gets normalized.

Okay. All right. Great. Thanks. That's all I have. Thank you.

Thank you.

Thank you. [OPERATOR INSTRUCTIONS]. Your next question comes from Heather Jones of BB&T Capital Markets.

Good morning.

Hi, Heather.

Just a couple of quick questions. I hate to harp on specialty, but just a quick question. If I'm doing my calculations correct, the margins went -- EBIT margins went to 6.5% from 2.8% last year. Is that the lower distribution cost, the capacity utilization, just wondering if you could give us an idea of what drove that magnitude of increase?

Well. I would say the biggest part of that increase came from the last quarter and I said I thought we had great turnaround in the quarter. We finalized the distribution center in Tennessee, where we consolidate orders and send them out has much improved and our total logistics costs have improved, along with the shipping part of that business. And gross margin did improve for the quarter based on more branded product. I did say we had double-digit increase for the quarter and the year on the freshly -- Mrs. Freshley's brand. And we want to see those type results continue now and I think we have an opportunity to do that.

Okay. Did I hear you correctly at the beginning you said there had been more of a shift towards multi-packs versus single or was it the exact opposite?

Yes, I have that. That was in my comments and again because Mrs. Freshley's wheat is distributed through warehouse distribution it's in a multi-pack format and we're focused on driving that through the Mrs. Freshley's brand.

Where is your capacity utilization right now on the specialty side, just to give us some kind of idea of what kind of margin upside there is from improved utilization?

Let me -- actually there's two parts. There's the frozen and the cake business. Frozen is in the 100%, 105% category as well on bread and rolls. On the cake side we're roughly 80%, 85% utilization at this point, which does give opportunity for growth.

Right. So where would you have to take that to before you would start thinking about adding capacity there? And is there room in your Crossville facility to add more lines or would you have to build a new plant?

We have 10%, 15% capacity left. There's still a lot of room left to grow our sales without doing anything.

Right.

The answer to that we do have room inside the walls of Crossville to add an additional line or two. So that would not be an issue when that time came. If we need it we'd certainly do it.

Back on the Q3 call you mentioned that your flour cost at that time were -- you were anticipating that they'd be up about, I think it was 15% to 17% because you had some hedging in place. Since flour ' according to the pricing we are seeing has come in meaningfully, has your estimate changed of what flour will be up for the year or is it still in that 15% to 17% range?

We're seeing , basically it'll be 17%, up slightly from that. So not 15% to 17% any more. It'll be 17% to 20% before it's all said and done. Or 17% to 18%. I wouldn't go all the way to 20%. [LAUGHTER]

Compared to last year.

Year over year. And is part of this -- how much of that is a reflection of you just did a real good job of buying last year versus pricing sta -- or just stubbornly staying high?

I hope we bought right. Only time will tell.

Okay.

What we said, Heather, on the procurement side over and over -- and I think it's important to repeat -- it's tough to beat the markets. We look at what it would take -- what price levels would it take to meet our goals reward our shareholders and we take and positions. A lot of time we take longer positions than most people. But we'd rather have the insurance of knowing what our costs are so that we would know to manage the business better.

Right.

And that's been a position we would taken -- that philosophy has in place for a long time and we like that philosophy and plan to stick with it.

Okay. And this is my final question. I think you mentioned you don't think sugar'll be up that much this year. Again, the data I've been looking at is showing pretty significant declines. Are you just being conservative, assuming it'll be flattish or did you all by ahead with that or --?

Well, if you look at just granulated sugar it might be down just a little bit, Heather, specifically, but then you have the corn-based sugar, which is going to be up substantially.

Oh, okay.

Or corn-based sweeteners, I should say, not sugar. Corn-based sweetener, which will be up substantially, so ---

So blended you don't see it being up?

There again it's -- our level of spend is pretty much comparable for the two items.

Okay. All right, well thank you very much.

Thank you, Heather.

Thank you. Your next question comes from Diane Geissler of Merrill Lynch.

Good morning.

Morning, Diane.

Congratulations on your quarter.

Thank you.

Just a clarification here -- and I'm sorry if I missed this at the beginning if you went through it already -- on the unit volume growth in the fourth quarter in the Bakeries group, if I'm stripping out Derst, I still have volume growth on the base business of about eight-tenths of 1%. Is that about right?

I think that's pretty close.

Is there any piece -- or what piece of that would be related to your geographic expansion?

Probably most of that nearly 1%.

So you're not seeing any volume decline from your price increase?

Not substantial, no.

I would have to think if you took a price increase in branded that private label follows. I mean, they are seeing the same wheat market, right? So this concern that people might switch out of branded into private label probably is not applicable because the price gap remained steady between branded and private label?

It has, and if you look at total U.S. -- I looked at it just yesterday in fact -- total U.S. bread is up like 5.3%, private label is also up 5.4%. So private label in a lot of cases went -- had the price increase before branded did, depending on the market.

Okay. And then just a question about -- I know you're not -- you don't -- you're not giving any quarterly guidance here, but is there anything -- as you look forward through '07, anything seasonal that we should consider when we think about how the quarters are going to break out? I know your third quarter this year had some issues with the fact that the wheat costs ran ahead of your price increase, so there was a little bit of an issue there. But is there any -- when we do the comparables is there anything that we should be thinking about?

Diane, you did say you weren't asking for a quarter guidance, didn't you? [LAUGHTER]

No, I'm just looking at the fully year. Is there anything that you would call out from last year that we should keep in mi -- other than what happened in the third quarter that we should keep in mind when we do our projections ourselves?

I think year over year, Diane, you will see probably pretty consistent -- our business has not changed that much from year to year. '06 was a year with no hurricanes, so that should give us as good a picture as any of how the business operates. And you saw some quarters you got insurance and some you didn't, so take that into consideration. Naturally, our best season is in May, June, July on a lot of bread's sold and buns are sold as well, and you always see that in our sales and earnings. The rest of it I'd say from year to year just remains constant.

Okay, well I appreciate that. Thank you.

Diane, thank you.

Thank you. Your next question comes from [Mary Ann Montagne of [Brisent Asset Management].

Hello.

Hey, Mary Ann.

Hi. A couple things. In terms of the pricing do you think that you will be -- I just want to ask it straight out do you think you'll be more timely, more up front about your price increases than maybe you were last year? And then I have another question.

We certainly -- that's our plan is to, again, take the coverage on the major ingredients well enough in advance to give the sales force time to implement the pricing as needed, so that's certainly our plan, yes.

Okay, and then do you think flexibility to switch between that high fructose corn syrup and sugar in the production side?

We've looked at that, not only from a cost perspective but also a consumer perspective. It is not as easily said as done. There are quite a few issues with it in the switch. It would require some investment.

Okay. And also in terms of your new higher-end products, you came out with organic flour and a couple another new products and you did the promotions at first, is that up to normalized pricing now?

Yes, it is unless we have a promotion.. We did introduced and kept that price for eight weeks, I think, and then we did promote for four weeks. So you'll see regular price on it most times, but we will promote on a quarterly basis to make sure we get consumer trial.

Sure, okay. And also is some others have come in with higher-end brands. Do you find them abandoning some space to you for the more everyday type of white bread?

I'm sorry, Mary Ann, I didn't catch that.

As competitors have also come in with some higher-end breads, higher priced, more specialty-type breads, have you seen them abandon some shelf space to give you an opportunity to put your own everyday white breads in there?

I think the retailers are -- it depends on the retailer. That has happened in some cases. I think we've indicated that private label in the baking business has been down for about three years. And we do see space, depending on retailer, being reduced in private label because of margins and dollar turns in favor of higher-scale products. So we are seeing some of that.

Okay, thank you.

Thank you.

Thank you. I will turn the call back to Mr. Deese for his closing remarks.

Thank you, Rich, and really again, appreciate all of you joining on our call today and we look forward to seeing each and every one of you in Cagney and Scottsdale in a couple of weeks. Again, it's been a pleasure to talk about the fourth quarter and the record year that we just completed. Thank you, very much.

This concludes today's Flowers Foods conference call. You may now disconnect.