John B Sanfilippo & Son Inc (JBSS) 2004 Q4 法說會逐字稿

Good day, ladies and gentlemen. My name is Jonathan and I will be your conference coordinator for today. At this time, I would like to welcome everyone to the quarter four 2004 John B. Sanfilippo & Son earnings conference call. At this time, all audio participants are now in a listen-only mode. However, we will be facilitating an interactive Q&A session at the end of today's conference. (OPERATOR INSTRUCTIONS) I would now like to turn this presentation over to your host for today, Mr. Mike Valentine, Chief Financial Officer.

Thank you, Jonathan. First, we all thank you for participating in our quarterly conference call for the year end and fourth quarter of our fiscal 2004. We may make some forward-looking statements today. These statements are based on our current expectations and involve risks and uncertainties. The factors that could negatively impact our results are explained in our S3, which was filed in March of this year and also in other SEC filings that we have made. We encourage you to refer to these filings to learn more about these risk factors.

Starting with the financials, sales for the quarter were up 25 percent to $124.5 million, from $99.3 million in the fourth quarter of '03. Fiscal year net sales grew by roughly the same percentage to $520.8 million from $419.7 million. The primary drivers of the growth for the quarter were increase in consumption, which is evidenced by an increase in the snack nut category, which was up 16 percent on dollars and 14 percent on units, according to A.C. Nielsen. For both the quarter and the fiscal year, sales increases came from a combination of price increases, increased sales at existing customers and the addition of new customers, such as Whole Foods and Grocery Outlet in the consumer channel, and numerous customers in the export industrial channel that we did not have in the fourth quarter of fiscal '03.

Unit volume was up -- we measure unit volume in terms of pounds sold -- was up in the quarter 7 percent and in the year-to-year comparison, it was up 13 percent. The quarterly sales increase was led by increases that range between 30 and 45 percent in our contract packaging channel foodservice channel, industrial channel. Fiscal year sales increases were led by increases that range between 20 and 30 percent in our foodservice, industrial and contract packaging and consumer channel. For both the quarter and the fiscal year, all of our channels had double-digit growth rates.

As with the third quarter of fiscal '04, the fourth quarter of fiscal '04 sales continued to shift towards contract packaging channel and foodservice channel, and also towards pecan and almond product types, in comparison to the sales mix of the fourth quarter of fiscal 2004. We have instituted price increases on our private label snack nut products, and that was under the first week of the current quarter. We also instituted price increases earlier this month on our branded consumer products and foodservice products to keep up with the increasing commodity markets. Industrial domestic and industrial export prices are fixed in nature, typically about 12 months, and those contracts will expire throughout the fall. At that time, we will be repricing our industrial contracts and they will be more in-line with current nut markets.

Fourth quarter gross profit margin was 15.3 percent versus 17.2 percent a year ago as a percentage of net sales. Fiscal year gross profit margin was 17.6 percent, versus 17.4 percent for fiscal 2003. The drivers of the quarterly gross margin were -- first of all, they were lower in our consumer channel, which is our largest channel, due to the fact that we have delayed our price increase on our branded consumer products until August. (indiscernible) gross margin improved in our export and contract packaging channels for the quarter and the gross margin was flat compared to a year ago in all other channels. The fourth quarter gross margins declined versus the previous fourth quarter gross margin, primarily in almonds, along with small declines in mixed nuts, pecans, peanuts and cashews, but they were up significantly during the quarter on walnuts. Sizable increases in our gross margin in the first half of the fiscal year were offset by a decline in the gross margin in the second half of the fiscal year due to higher commodity costs.

The fourth quarter gross margin was also negatively impacted by roughly a 70 basis point decline due to the fact that we chose to increase our workers comp insurance reserve. Inventories now are at record levels. Before I get to inventories, we haven't (ph) focused on workplace safety throughout the entire fiscal year and these efforts have delivered positive results as accidents for the first six months of calendar '04 are down by about 16 percent. And this is in spite of the fact that our volume and employee have increased significantly. As we have mentioned before, commodity markets are on the increase and they continue to rise. For example, from March through July, cashews are up roughly 20 percent, pecans up 22 percent, macadamias are up 20 percent, almonds are up 9 percent, peanuts are up 14 percent, Brazil nuts are up 19 percent and Hazel nuts are up 36 percent, and they have risen further so far in August. These increases are not reflective of our cost increases, though. The decline in gross margins are beginning to slow as evidenced by the fact that in the fourth quarter of '04 compared to the fourth quarter of '03, we saw a 190 basis point decline in our gross margin as a percentage of net sales. And that compares favorably with the third quarter comparative where the gross margin was 350 basis points below.

Our quarterly selling and administrative expenses fell from 10.3 percent to 9.5 percent of sales, but they did increase by $1.7 million. The year-end selling and admin expenses fell from 10.5 percent to 9.8 percent. Quarterly selling expenses fell from 7.9 percent to 7.1 percent, and that is mainly due to leverage. The $1 million increase in selling expenses during the quarter were primarily due to an increase in variable expenses, such as freight out and brokerage commissions. Quarterly administrative expenses, which were relatively unchanged as a percentage of net sales, increased by roughly $600,000 and that was due mainly to higher audit and legal costs associated with corporate governance issues. Quarterly operating income was $7.2 million versus $6.9 million last year, or as a percentage of net sales, 5.8 percent versus 6.9 percent, primarily due to the gross margin decline. Year-end operating margin increased from 6.9 percent to 7.9 percent.

Debt extinguishment fees of roughly $900,000 were due to the prepayment of our long-term debt, which came in the wake of our public offering that was completed in March of this year. As a result of paying down that long-term debt and also short-term debt, interest expense during the quarter was cut in half by roughly $600,000. Quarterly net income was essentially unchanged as increases in sales and lower interest expense were offset by declines in gross margin, increases in variable selling expenses, increases in legal and auditing expenses, and also the prepayment penalties. For the quarter, the diluted earnings per share was down 5 cents, and that was due primarily to an increase in share count as a result of the public offering I mentioned earlier. The combination of the increase in our workers compensation insurance reserve and the prepayment penalties reduced our quarterly diluted earnings per share from 44 cents per share to 33 cents per share and reduced the year-end diluted earnings per share from $2.45 to $2.33.

Taking a quick look at the balance sheet, we ended the year with $19.2 million of interest-bearing debt. This was down from $70.1 million of interest-bearing debt last year; in other words, a decrease of roughly $51 million. We were able to reduce our debt well beyond the $38.6 million net offering proceeds due to the generation of free cash flow during the year of roughly $11.5 million. Our balance sheet now is very strong and this will put us in a very advantageous position when we go out to secure financing for our facility consolidation project.

Inventories are now at record levels as far as fourth quarters go at $127 million, up about 13 percent over last year. But there was a significant decline in inventories from the $152 million level we saw at the end of our third quarter of this fiscal year, and that decline is typical. The increase in the inventory is in line with our category growth expectation for the first half of fiscal 2005. Also, our receivables were up about 16 percent over last year, primarily matching up with the increase in revenues during the month of June.

Quick update on our facility consolidation project. We're nearing completion of the site selection process and also nearing completion on the plans for the facility itself. We expect to break ground this spring. And now I will turn the presentation over to Jim Barker, our Senior Vice President of Sales and Marketing, who will make a few comments.

Thanks, Mike. Good morning. Fiscal year '04 was very good, as Mike had already alluded to, across all of our channels. And during the fourth quarter, we saw good growth, as Mike said, skewed more to contract manufacturing and food service and it was very strong across all of the channels. As we look at significant events during Q4 for consumer, we did execute successfully a price increase on private-label across all of our customers and we worked diligently with the customers to make sure that that price increase was implemented and where it need be, pass through to the consumers. We also embarked upon under our Fisher brand a consumer and trade education campaign on the qualified health benefits of nuts. On our Fisher brand specifically, the qualified health plan is showing up on all of the packaging during Q4 now, and we are working with our private-label customers, getting that qualified health claim out there to further educate the consumer on the health benefits of nuts, which has had a positive effect on the category. The category continues to grow at a record pace and as we look forward for the 52-week period ending July 31, snack nuts are still growing at a great clip at 15.7 percent. And that growth is coming with the average retail price of the category going up 2 percent and price increases are going to the prominent now and really through the end of the fiscal year. We have already notified our customers to expect a price increase on private-label at the end of this calendar year, and then also towards the end of the fiscal year. And we really feel that the category can absorb it on both private-label and branded products, based upon the commodity cost increases. Based upon our recent success of private-label and branded, we expect that to continue.

We also see all nut types growing really led by almonds and some of the things that we will be continuing to do under Fisher and private label will be to grow our distribution with new items, new pack styles and stronger merchandising events as we move forward to tie in the category growth. The baking nut category, while much smaller, continues to grow as well with an 8.2 percent increase with baking but prices showing about a 3 to 4 percent increase versus the same period in previous years. So, we anticipate success in getting future price increases through on our branded and private-label products. And this will also transfer over into the other channels of distribution -- foodservice, we've executed the price increase. Export, we've executed a few price increases on the retail products we service. And then as Mike has alluded to, on industrial, as we move out of the fixed-price contracts, those will be repriced going forward.

So we remain very confident in the category growth, as well as our growth across all channels going forward in the fiscal year '05. And with the price increases that are going to be necessary, we feel we will be able to recoup the commodity cost increases that we are facing and we will continue to face over the next 12 months. Now I will turn it back over to Mike.

Okay. We certainly thank everyone for their time and also their interest in our company. We are certainly optimistic about the prospects for the nut category in the future, as Jim discussed. And at this time, we will gladly take your questions.

(Operator Instructions). Scott Van Winkle, Adams Harkness.

Hi, guys. A few questions, first on sales. One, do you expect this mix shift to continue going forward?

As far as contract manufacturing goes, we do foresee very sizable growth rates in that for the rest of the year as we roll out new items for a few of our contract manufacturing customers.

Mike, I think you mentioned that your growth in accounts receivable was consistent with your June sales growth. Does that imply that June sales were up about 16 percent?

Yes, that would be correct.

On the gross margin, historically, as you go into the seasonally strong period, your gross margin improves on a sequential basis. Is there any reason that would not be the case, or was that a phenomenon over the last couple of years, driven by lower peanut costs?

No, that has always been the case. I think if you look at every one of our fiscal years, you will see sequential growth.

Okay. And is that driven just by depreciation spread across larger inventory, or is there a different mix in those first couple of quarters that give you stronger margins?

It's actually both. There's definitely a sales mix shift. As we start to shift more towards consumer, we start to shift towards more value-added items, especially consumer products.

I know you guys hate to talk about the future, but you just put up a 16 percent gross margin in this fourth quarter. Are we talking about a 100 basis point improvement sequentially, 200? Can you give us any color? Am I in the right direction?

Well, I can tell you to point to how we perform in comparison to the third quarter. I think as indicative of the direction we're headed in, but I cannot quantify that right now.

Okay. And on the interest expense, interest expense seems pretty high for your ending debt level of -- interest expense of 600,000 in the quarter. Did you pay off the debt a little later, and that is what the prepayment penalty was lower? I'm just trying to get some idea of what interest expense looks like on a quarterly basis going forward?

We did pay off the debt a little bit later in the quarter, and we certainly did not pay off all of the short-term debt right away. We really worked out of the short-term debt in the last maybe three weeks of the quarter.

So, interest expense should come down meaningfully again in this upcoming quarter?

Yes, unless we go out and start our financing for the facility consolidation project.

What is your plan there? You're not going to be breaking ground until the spring of last next year. When would you expect to bring in some capital on the debt side?

The way things look right now, we believe it would be a good idea to do it as soon as possible, even though we may not necessarily need the money because interest rates appear to be going up pretty rapidly and are projected to do so over the next six months.

Okay, and one last question on the sales. It looks like the sales were probably a lot stronger in the middle of the quarter than towards the end. Do you think people were loading up ahead of the beginning -- the August price increase?

Scott, we really don't see that. I think one of the things that we're focusing on in the consumer channels specifically is getting more nonseasonal promotions and we have had some good promotions on both private-label and Fisher. And we don't see any slowdown since we took the Fisher price increase which went into effect about 2.5, 3 weeks ago, in terms of order rate or turn as we look at just internal reports. So we don't think there was a lot of loading. If we would have done this price increase in, let's say October, November, I think we would have seen that. But that's why we did it targeted with the first week of August.

Okay. And on the retirement expense that was potential for this Q4, what's the plan there going forward?

Currently, management is studying a succession plan, which we will be bringing to the Board in fiscal '05. And then at that point, we will be able to tell you more about what we're going to do as far as the retirement plan goes.

Okay, thank you very much.

Bob Simonson, William Blair.

On the gross margin -- I think that's where the prior question was perhaps going -- can you give some guidance as to what you think kind of the sustainable gross margin is in your business, recognizing that you get shifts in types of nut, as well as your channels? But, is there is some, as you look at two, three, four years, some level of gross margin that you are comfortable with?

Of course, this is all uncharted waters for us too. We've never seen a market like this, and certainly it appears to have had some legs on it. So that is a difficult question for me to answer. If you were to ask me this question, say, six, 12 months ago, I would have said that our fiscal 2003 gross margins seemed to me anyway to be pretty typical of what our long-term gross margins would be. But like I said things, are changing now, so I'm not sure that is the case.

Okay. And then the press release does speak to the issue of -- where did I see it -- that it should serve to stabilize our gross margins in the first half of the year. Does that mean that they will be down in the first half, and then hopefully turn flat in the second half, or is this happening quicker than what I just said?

What we're trying to say there is that the price increases that we have done so far have covered all of our areas, except industrial. So if you pull industrial out, I think gross margins will look very good. And it would be similar to, say, the first half of last year. But we're still wrestling with our industrial contracts, especially on almonds, which will continue to be a drag on our gross margins, certainly for the first half of '05. And as we roll out of those contracts and reset those more in line with the current market, then we will start to see gross margins get back to normal. But it is going to be roughly a four-month process.

So it's possible that your reported gross margins in this first and second quarters could be flat to down? And then in the second half, they could be flat to up?

And, you would think that would be the case in the second half because we certainly have more favorable comps. Now, I want to just caution everybody -- we certainly have good commodity coverage, and that coverage takes us through the end of the year, especially in the case of cashews. Going forward, let's say after January, it's a whole new ballgame. We will need to get a lot of coverage done for calendar '05, and we could see some sizable cost increases there, and that is what we're certainly trying to get to more price increases through this fall in anticipation of that. But we may have the get back out there again in the spring and do it again if these markets outpace us. And that really could have a dramatic impact on the balance of fiscal 2005.

I think I missed the comment in response to the June strong sales, or the 16 percent -- roughly 16 percent gain. Jim, is that an issue of the timing of promotions, or has the business slowed a lot at the tail end of the quarter? And how does that transfer into this first half of the year?

I don't think the June sales are indicative of what the first half of this year’s going to be like. It could simply be a sales mix, it could be timing. Like I said, we don't do a lot of value-added sales in the fourth quarter. June has been very heavily concentrated on contract manufacturing and where prices are a little bit lower. So, you don't want to just look at June and then try and make some predictions off of that.

Last one. Mike, you gave an update on your facility development. Can you take it beyond the financing and the signing of the contracts in the beginning of next spring and kind of review the timing of when it comes on?

Okay. As I mentioned, we plan to break ground in the spring of '05. We expect that the construction period will take anywhere from 12 to, say, 14 months. From there, we will purchase new equipment, primarily packaging equipment and install it in a new facility. Once we get that new equipment up and running and we have some redundant capacity, then we will begin to move some of our smaller plants and then finally our largest plant here in Elk Grove Village. The moving and installation period is expected to take roughly about three years.

So, it's three years from this spring, you start production out of that facility?

Well, we will actually start production within several months of opening the facility, but it will be running at much lower capacity than it's capable of. And then of course, that will ramp up as we move our existing equipment in there.

And then, at that point in time, you would begin to close down the existing facilities where you get production?

Right, we will be closing down as we move out.

Okay, thank you very much.

Patrick Winton, Stearn Agee.

Hey, guys, good quarter. Could we talk about -- you kind of alluded to it as we enter '05, in terms of sales, but I wanted to take it from a prospective of new clients that were added in the second half of this year. You had mentioned clients such as Whole Foods. Shouldn't that have an impact as we march towards the strong holiday selling season with these new additional clients and higher volumes from them in the first half of '05?

Yes, Patrick, this is Jim. We're going to see that -- with Whole Foods towards the end of the second quarter, we're going to cycle against that, but we do have a number of new products that will be helping to drive that. And we have picked up a number of new Fisher customers that were in the process of resetting the stores across some of the major chains or major regional chains, and that will definitely help us. Exactly how much we're going to get really is dependent upon how quickly we can get the stores reset and then institute the merchandising programs. But we should see a lift-off next (ph); we've done a nice job on that, I think. And there is still more out there to go after and get.

As we look at -- we've talked a little bit about the commodity environment. In general, what is your sense of the commodity environment? I know it's difficult for '05 versus '04. Isn't there a sense that we're obviously closer to the top, in terms of these increases in commodity prices we entered the new fiscal year?

I think that's probably true on cashews. It appears that, given that the market has gone up so much and so rapidly, that it's hard to imagine it getting any higher. We also know that Vietnam will be increasing its production from here on out, and we understand that it's going to be significant increases. It will occur over probably a 24-month period. But they may become, or are expected to become, the largest cashew producer in the world here within two years. So that is good news on that front.

Peanuts look good. That market should settle down, although that market really didn't hurt. We will also see -- for example, in the case of hazel nuts, even though that's been so much demand-driven, and hazel nuts are a key component to mixed nuts, that was affected by some supply issues too. So, hopefully, we will get a good crop there. Pecans are going to the extremely short, but we think that vertical integration position will certainly give us a tremendous advantage on that particular commodity. And then almonds -- though the crop will be slightly larger, demand for almonds is massive -- I think it is what, Jim, 50 percent?

Yes, just in consumer grocery channel, the almond item has grown 52 percent, and baking nuts -- almonds are up about 10 percent. Almonds are the number one growing nut type in snack nut and baking nut categories in grocery. So on that basis, Patrick, we expect almonds to continue to increase. The good news for almonds, at least in our respect -- almonds make up roughly 10 percent of our sales, and that's almost all industrial, fixed-price contracts. We will be rolling out of those contracts, which really have had a negative impact on our performance in the second half of the year. And we'll reset to the current market and that will really help us.

And lastly, and you did mention this, in terms of your commodity coverage and were good through -- I think you said January. Can you give us a little bit more specifics by nut type, in terms of commodity coverage right now; where you feel very good where potentially there could be some weakness?

The comment I made through January really pertains mainly to cashews. All other commodities obviously that we shell, we will be buying in the fall. So that basically starts over. And in the case of almonds, that is happening now. And in the case of peanuts, that will be a few weeks down the road, and then pecans and walnuts, probably next month. So we will start working on that coverage on those items.

Great, good quarter again.

Ladies and gentlemen, we thank you for your questions. Now I would like to turn the presentation over to Mr. Mike Valentine, Chief Financial Officer, for closing remarks.

Is there another question out there?

I have a follow-up question from Scott Van Winkle of Adams Harkness.

I have a quick question about those almond contracts. Recognizing what happened in the last 12 months with prices increasing, and it looks like the demand continues to be very strong for almonds going forward -- what do you do when you come up to these new contracts? Do you actually price off the current market? Can you put some kind of inflation adjustment in there for commodity prices? How can you avoid getting underwater on those almond contracts six, 12 months down the road?

As a general rule, you essentially have to price off of the market, and the market is forward-looking. There is a twelve-month market and there is a spot market. So if there is a twelve-month market, we price off of that. If we're uncomfortable with that market and don't agree with it, then it is a difficult decision for us. But considering what we have experienced with almonds, we certainly have taken a completely different approach to almonds. We are not pre-selling almonds before harvest to the extent that we have in the past so that we have much better crop information. And we certainly are trying to fix our cost to a much greater extent than we have in past years too. So those are some of the changes that we have made to minimize the negative impact that we have experienced before.

Can you have coverage or almond inventory by the time you get into these contracts in the fall?

Yes. We have seen quite a few almonds already. It started early in August. I would say we are probably about 15 percent underway and we will probably start selling against those here pretty shortly, but certainly much later than we did last year.

Great, thank you guys.

Once again, ladies and gentlemen, we do thank you for your questions. I would now like to turn it back to Mr. Mike Valentine, Chief Financial Officer, for closing remarks.

Again, on behalf of everyone here at JBSS, we certainly thank you for your interest in our company and we look forward to another good quarter. Thank you.

Ladies and gentlemen, thank you for your participation on this conference. This call concluded and you may disconnect now.