Lifecore Biomedical Inc (LFCR) 2009 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Landec Corporation second quarter fiscal year 2009 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 be given at that time.

(Operator Instructions).

As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Mr.

Gary Steele, Chairman and Chief Executive Officer of Landec Corporation.

Sir, you may begin.

Good morning, and welcome to Landec's first half and second quarter fiscal year 2009 earnings call.

I have Greg Skinner with me today, our Chief Financial Officer.

This call is being webcast by Thomson CCBN and can be accessed at Landec's Website at www.Landec.

com on the Investor Relations page.

The webcast will be available for 30 days through February 6, 2009.

A replay of the teleconference will be available for one week by calling 888-266-2081, or 703-925-2533.

The access code for the replay is 1315192.

During today's call, we may make forward-looking statements that involve certain risk and uncertainties that could cause actual results to differ materially.

These risks are outlined in our filings with the Securities and Exchange Commission, including the Company's Form 10-K for fiscal year 2008.

As reported in yesterday's press release, for the first six months of fiscal year 2009, Landec increased revenues by 7% to $129.8 million compared to the same period a year ago.

Net income for the six-month period decreased to $4.3 million, or $0.16 per diluted share compared to net income of 6.2 million, or $0.23 per diluted share last year.

At the same time, we increased our cash flow from operations by 52% to 3.3 million during the first six months of fiscal year 2009.

During our second fiscal quarter, we witnessed the further deterioration of the US economy and correspondingly slumping consumer demand.

For our second quarter ended November 30, 2008, revenues were $58 million versus $59 million in the second quarter last year and our net income for the second quarter was $1.5 million, or $0.06 per diluted share versus $3.1 million, or $0.12 per diluted share for last year's second quarter.

For the first time since we have been in the fresh cut vegetable business, starting in the year 2000, overall industry unit volume shipments for the overall category have turned negative with a decline of 6% for the six-month period and 12% decline during the second quarter.

While the overall category volumes declined 6% for the six-month period, Landec increased unit volumes 1%.

While overall category volumes decreased 12% in the second quarter, Landec unit volumes decline was 7%.

In a nutshell, the downturn in the US economy and the impact it is having on consumers is adversely affecting purchases of fresh cut vegetable products, but less so for Landec than the overall market.

For both the second quarter and the six-month periods, Landec continued to increase its market share and generated positive cash flow from operations.

While we project that softening consumer demand in the category will continue to affect us in the third quarter and possibly the fourth quarter, we're hopeful that the recent declines in the category will begin to level off in the near-term and return to positive growth by the beginning of our fourth fiscal quarter.

Importantly, we see this as a time to further strengthen our market position in the fresh cut category by using our strong trade brand, our breathe way packaging technology, our low cost position, and our strong balance sheet to further grow market share.

So what is going on in the marketplace right now?

We see our customer base, namely retail grocery chains and club stores, as hunkering down and willing to lose potential revenues rather than risk excess inventory.

This was certainly true in the October through December timeframe, a historically strong holiday demand season.

We also see consumers purchasing less expensive products that are not perishable, such as can vegetables, frozen foods, Spam, you name it.

The American consumer is worried and rightfully so.

This significant lack of consumer confidence affects not only our specialty packaging vegetable business, but also our Chiquita retail grocery store project.

The overall attitude of grocery retailers regarding trialing bananas in a high-tech consumer package is not now.

Accordingly, we need to be realistic and realize that our goals for growing overall revenues by 10% and growing pretax income by 15 to 20% are not achievable this year.

Similarly, we do not expect Chiquita to start consumer retail trials for bananas this fiscal year.

We do expect to be profitable for the year and to generate positive cash flow from operations, even with these dampened levels of consumer demand.

Let me turn to Greg for details of our results.

Thank you, Gary, and good morning, everyone.

As outlined in yesterday's news release, Landec reported total revenues for the first six months of fiscal year 2009 of $129.8 million versus revenues of $121.6 million for the same period a year ago.

The increase in total revenues during the first half of fiscal year 2009 was due to, first, a $1.7 million increase in revenues from Apio's fresh cut vegetable business; second, a $5.3 million increase in revenues from Apio's commission trading business and third, a $1 million increase in revenues from Apio's packaging business due to the timing of minimum payments from Chiquita.

For the first six months of fiscal year 2009, the Company reported net income of 4.3 million, or $0.16 per share compared to 6.2 million for $0.23 per share for the same period last year.

This decrease in net income during the first half of fiscal year 2009 compared to the same period last year was primarily due to, first, a $1.5 million decrease in gross profit in Apio's fresh cut vegetable business, primarily due to increased raw material costs for produce and packaging.

Second, a $576,000 decrease in interest income due to the Company's decision to invest only in FDI-insured certificates of deposit, US-backed instruments, AAA-rated municipal bonds and money markets funds.

All of which have yields that are considerably lower than those the Company realized from its investments in the same period last year.

Third, a $486,000 increase in operating costs, primarily due to increased audit, tax and legal fees at corporate, along with planned increases in R&D expenses, and fourth, an increase in income tax expense of 594,000 due to an increase in Landec's effective tax rate for fiscal year 2009 to 40%.

These decreases in net income were partially offset by $1.1 million increase in gross profit for Apio packaging, and a $227,000 increase in gross profit for Apio's commission trading business.

It should be noted that only $450,000, or 15% of the $3 million in book income tax expense is expected to be paid in cash because of the repurchase of subsidiary options in fiscal years 2007 and 2008.

For the second quarter of fiscal year 2009, Landec reported total revenues of $58 million versus revenues of 59 million for the same period a year ago.

The decrease in total revenues during the second quarter of fiscal year 2009 was due to a $2 million decrease in revenues from Apio's fresh cut vegetable business due to the decline in the fresh cut vegetable category during the second quarter.

This decrease in revenues was partially offset by $500,000 increase in revenues from Apio's commission trading business due to higher per unit sales prices as a result of the change of product mix, and from a $480,000 increase in revenues from Apio packaging, due primarily to the timing and minimum payments from Chiquita.

For the second quarter of fiscal year 2009, the Company reported net income of 1.5 million, or $0.06 per diluted share compared to net income of 3.1 million, or $0.12 per diluted share in the same period last year.

This decrease in net income during the second quarter of fiscal year 2008 compared to the second quarter last year was primarily due to, first, a $1.9 million decrease in gross profit in Apio's value-added vegetable business, primarily due to a decrease in revenues from increased raw material costs for produce and packaging.

Second, a $152,000 decrease in interest income and third, a $289,000 increase in operating costs, primarily due to increased audit, tax, and legal fees at corporate, along with planned increases in R&D expense.

These decreases in net income were partially offset by $477,000 increase in gross profit for Apio packaging, and a $121,000 increase in gross profit for Apio's commission trading business.

Turning to the balance sheet, during the first six months of fiscal year 2009, our cash and marketable securities balances increased by $2.2 million to 61.2 million.

The increase in cash and marketable securities were primarily due to generating $3.3 million in cash flow from operations, up 52% from 2.2 million in the prior year per six months and due to ray $1.5 million tax benefit from the repurchase of subsidiary options in 2007 and 2008.

These increases were partially offset by the purchase of $2.4 million of property plant equipment for our fresh cut vegetable business.

Early in fiscal year 2009, we said that we planned to invest $7 million in capital expenditures in fiscal year 2009 for the further automation and expansion of our value-added fresh cut vegetable processing facility, up from $4.2 million invested in fiscal year 2008.

As previously mentioned, we spent 2.4 million during the first six months of fiscal year 2009.

However, as a result of current economic -- the current economic environment, we expect only to invest another 1.5 to 2.5 million during the remainder of fiscal year 2009.

We also said in the past that we plan to spend roughly 3.7 million in R&D, up from $3.3 million spent in fiscal year 2008.

We will continue our commitment to increasing our investments in R&D as planned.

Let me turn the call back to Gary.

Thanks, Greg.

Have our priorities changed?

In short, no.

We have five priorities in growing Landec shareholder value.

First, to continue to grow operating cash flow, second, to extend the commercialization of our breathe way packaging technology in bananas, avocados and new applications.

Third, to provide strong R&D support to our licensing partners and launching new products in seat coatings, catalyst and personal care products.

Fourth, to seek synergistic acquisition opportunities that use or expand our technology and to use our channels of distribution, and fifth, to expand our Intelimer polymer material licensing activities.

We will be placing a greater emphasis on consolidating our already strong position in the fresh cut produce arena, searching for acquisition targets both in and outside of the food arena, and stepping up our out licensing activities with new partners.

We believe that the US faces a prolonged and deep recession that may last into 2010.

Landec has proprietary technology, a low cost structure and a strong balance sheet to not only weather the storm, but to capitalize on new opportunities that are likely to emerge as undercapitalized companies, look for partners and large corporations who are slashing their R&D budgets begin to look for new products.

We see this as a time of opportunity.

In order to successfully advance our priorities, our plan through calendar years 2009 and 2010 include the following initiatives.

First, make one and possibly two accretive and synergistic acquisitions that utilize our technology and possibly use our existing channels of distribution.

Second, to conclude at least one new major licensing partnership.

Third, to expand the sales of our packaging technology with Chiquita and other partners.

Fourth, with Monsanto, bring our collaborative seed coating program to field trials.

Fifth, start at least one new initiative in a promising area of material science outside of our food technology business.

Sixth, continue to generate considerable income and positive cash flow.

And seventh, all the while maintain a strong balance sheet.

Regarding near-term catalyst for Landec, we see the following very strong possibilities.

First, expansion of sales with L'Oreal with new initiatives starting with other major personal care companies.

Second, an advancement of our Monsanto program through field trials to a definitive decision on how to commercialize this technology and what targets to select.

Third, the further expansion of our market share in fresh cut vegetable categories.

Fourth, McDonald's reaching decisions regarding its internal evaluation of our technology for packaging of bananas.

Next, starting one or more research initiatives in our new applications of our material science technology.

Next, renegotiating with key nongrower suppliers regarding lower input costs for our food technology business.

And last, M&A activities moving from a broad search to a focus on one or two more specific partner candidates.

We have confidence that even with a challenging economic environment, we can generate increased shareholder value over the next 24 months.

We are now ready for your questions.

Thank you, sir.

(Operator Instructions).

Our first question from Steve Denault of Northland Securities.

Your question, please.

Good morning, everyone.

Good morning, Steve.

I might have missed it.

Within the Apio segment, the operating margin of 10.9% was down pretty considerably.

What -- how do we sort of carve that out and look at that, was it volume-related increased raw material costs related?

What were the largest components of that degradation?

Actually you nailed it.

Yes, it's a combination of volume, so therefore you have a much lower overhead absorption on a per-unit basis, which is obviously going to drive your gross margin percentage down.

And then we're still feeling the effects of the higher petroleum prices as the inventory works through the system.

So you've got higher packaging and most importantly for us, higher produce costs, which isn't-it's somewhat affected by petroleum, but more so by land costs, which have gone up quite a bit.

So it's a combination of all of those that is -- has resulted in our cost of sales going up and therefore our gross margin percentage going down.

Okay.

Is it reasonable to sort of think that that kind of level of operating margin is a good number to use going -- at least for the third quarter here?

Third quarter's tough to call.

I would say in the long run, that's the absolute low-end of the range, but the third quarter, we're still working through the higher cost inventory.

We still have the higher cost for packaging.

The real question is going to be what's going to happen with volume.

Yes, but, Steve, I think that -- I mean just listening to the radio today, consumer confidence is still very low.

So I would think that third quarter's is probably more of the same and our hope is that by the fourth quarter, we've had a shot at renegotiating some of our input costs and that the consumer demand is starting to come back.

Historically, our category has done reasonably well in economic downturns.

I just think that we're in a shock-and-awe mode with the consumer right now and they have to start getting a little bit more confident.

So I would say third quarter's probably more of the same.

Okay, and then the second question, is the fresh and ready getting put on hold -- I'm trying to get a sense of were the produce managers saying, listen, there's a lot going on here, we don't -- we're not particularly receptive to these trials at this point in time, or was it that the trials were in place and the consumer said, you know what, at this point in time with the economy where it is, maybe I'll just stick to the banana bunches.

The trials had not started.

They were gearing up, but both the consumer and the retailer was saying not now.

It just -- they -- everybody is in a hunkering down mode and so it was a combination.

But the trials had not actually started.

Okay.

That helps.

Thank you.

You're welcome.

Our next question's from Peter Black from Winfield Capital.

Your question, please?

Good morning, Peter.

Good morning.

How are you doing?

Doing good.

You sort of answered the question.

I'm just trying to reconcile the fact.

But if you look at Starbucks, their comp store sales are down, yet they are going ahead with supplying your bananas and doing these kind of premium shakes.

In your talks with Chiquita, is there anything that suggests that what they have seen so far, is telling them that even in a more normalized consumer spending environment, the opportunity at retail is going to be less than what they had originally hoped?

Do you have any indication that they are less enthused long-term about the program?

It's just strange that at the kind of quick serve and at locations like Starbucks, they are going ahead with a premium product, but at retail they are not.

Good question, Peter.

Not really sure.

It's -- I think we would have a better sense of this in a quarter or two when they have had some more time to reflect on this.

Right now it's just -- it's a very messy, confusing set of circumstances and retailers, so it's hard to know what's fundamental and what might work.

But, we've been planning on this to be a premium price product because it's adding a lot of value.

The consumer is not interested in premium price products right now.

They are looking for -- I was not kidding when I said Spam in my comments.

Spam is one of the fastest growing products in retail grocery stores right now.

And so that tells you how desperate and concerned the consumer is.

So there is a lot of noise out there, Peter.

And as a result, I can't give you a crisp answer, but I hope that we will have a better sense of this in a quarter or two, so my apologies, but it's very confusing at this point.

Okay.

You recall, Peter, that Starbucks launched their -- program well before the major meltdown of the economy.

I mean that was launched almost a year ago.

Yes, they had the benefit of it being in place for sometime as opposed to us now just considering starting trials.

So anyway, give us a quarter or two to try to get more clarity on that.

Okay, and I remember reading Chiquita's annual report I think a year ago and they had a special section devoted to a kind of value-added proposition and then that being a focus of their growth in the future.

So in terms of your management focus, there's no indication that they are sort of pulling back on their strategy going forward?

We know they are not pulling back on their strategy going forward with the use of our technology for bananas.

And, getting some positive decisions from McDonalds would really be a confidence booster for everybody and we're all waiting on that.

They are expanding the Chiquita to go program.

They like that program.

I think the question mark is on the retail side, but our hope is there are other applications that they are looking for and I can also tell you that they are wildly enthusiastic about avocados.

That is off to a very strong start and we hope to be able to report more of that in the next couple quarters and they are also expanding in Europe.

So, it's uncertain what's going to happen on the retail side.

We need to report on that as we learn more, but their confidence in the program seems to still be strong.

Okay, and then a final question.

You, in talking about acquisitions, you mentioned that in addition to using your distribution, existing distribution capabilities, another focus would be on a new technology platform or something that's complimentary to what you have.

What would be a-- an example of that, technology platform?

We're interested in how our materials, or similar materials can be used in the whole area of grain tech, technology.

We're interested in energy.

We're interested in water conservation.

We're interested in those types of things that are meeting, or have great human needs and so we think material science is one of the ways of going at this.

We think that our technology has some applications there.

I would rather not be specific at this point, but we have a search that we've begun.

It's just at the early stages, using third party help to identify an acquisition candidate that maybe gives us a leg up on one or more of those areas outside of the food business.

We also have a search going on inside the food business.

So -- and let me just give everybody assurance here that whatever we do, we're not going to trash our balance sheet.

We're going to still maintain a strong balance sheet and we have the benefit, even in a couple of really tough months, November and December weren't the most fun we've ever had.

We are still throwing off positive cash flow when we are generating income.

So, we have those searches under way and we believe that because we're a material science company, we ought to stick to our knitting and find things synergistic with our technology.

Okay.

Thanks, guys.

Thanks, Peter.

Our next question's from Jonathan Lichter of Sidoti.

Your question, please.

Good morning, Jonathan.

Good morning, guys.

Can you talk about the difference in weakness between trays and bags during the quarter?

It's interesting.

Intuitively I think, Jonathan, we all thought that as we went into this consumer downturn that we would be most affected in trays and bags would be effected somewhat.

They are both being effected, but I think it's fair to say that the tray business is more effected because I'm going to use my own family as an example.

We would have normally traveled back east.

We would have been with family.

We would have been having lots of meals, et cetera, et cetera.

We stayed home this year.

And I think a lot of Americans did that and they didn't entertain as much and so certainly one of the factors in the last couple of months was that the tray volumes were down because people were not gathering.

And in the tray business, I think it would be reasonable to say that there is a substantial premium that one pays for buying a pre-cut, already prepared, assembled tray with the dip and the vegetables all ready to go.

But on the bag side, we're very cost competitive to commodity produce.

By the time you assemble the commodity inputs and you take the yield off of cutting off stems and all that kind of stuff, we're very cost competitive.

As a matter of fact, we're probably the best value in town on the bag side.

So we have to -- from a marketing point of view, we need to do a better job communicating that, but I would expect that during the downturn of consumer confidence going forward, I would expect the tray business to be more effected by the bag business and we are seeing that.

And do you still expect a seasonal pickup in Q3?

Relative to Q2?

Do we see a seasonal--

Yes, Q3 is typically not a better period for the value-added business than Q2.

As Gary said earlier--

Remember, Q2, Jonathan, you've got your big months of October and November, are big months for us.

So, so he's asking do we see a seasonal pickup in Q3 versus Q2?

Well, at this point, at least through December, I would say that a flat quarter, sequentially, would be something that we would be looking at at this point.

Boy, I tell you, it's a real hard one to tell, because what happened in December -- November-December is retailers were overly, very overly cautious, more than we've ever seen, of ordering for fear that the consumer wouldn't show up and they didn't want to risk any excess inventories.

What we're starting to see in early January is people starting to order because they probably went too far the other way and they need to start to fill the pipeline.

So it's a little tough for us to answer your question.

We need a few more weeks of seeing how this pipeline is filling and what that might do for our third quarter.

But it looks as though things are starting to snap back some.

Okay, and how soon could we see lower costs, commodity costs, come into the pipeline?

Boy, I want to see that by the fourth quarter for sure.

Okay, and finally, between licensing deal or an acquisition, which is further along?

Which would you expect first?

Acquisition.

Okay, thank you.

Thank you.

Our next question is from Tony Brenner from Roth Capital Partners.

Good morning, Tony.

Good morning.

Couple of things.

Number one, in projecting some improved cost inputs in the second half of the year, are you talking about, or thinking about fuel and packaging cost relief or produce sourcing relief or both?

Not produce, because we're pretty much locked into annual contracts and that is more largely driven by land costs.

Land costs in the wonderful growing areas of California, have been going up still.

It's more related to nonproduce costs, such as cardboard packaging, films, plastics, things like that, that are affected by energy costs and as you know, suppliers of those types of products had a nice run-up in their pricing when oil was over $100 a barrel, but those days, or at least we think those days are over and so we want to renegotiate those prices and they are not locked into -- typically they are not locked into these annual contracts.

Also, on (inaudible) products, you indicated that those products are beginning to be marketed to customers other than L'Oreal.

Your release, though, refers to a number of new products that have been or are being developed by your products.

Are any of these yet in commercial distribution?

No.

The -- the new products that we have launched are -- well, they are in commercial distribution through L'Oreal.

L'Oreal has been our main vehicle for launching new products and the main change we've been seeking with L'Oreal is we have had our materials in their very high end, most premium products like Lancomb.

And what we've been seeking with L'Oreal is that our materials are getting into the more main stream brands where you can find these in a broad array of retail stores and that is now beginning to happen with L'Oreal.

So that is happening.

In terms of introduction of new products from non-L'Oreal customers, those are in development.

Those are the things that we're talking about that are new and exciting for us.

And they represent new customers and new applications, primarily in the skin-related arena.

And any -- things that go onto skin as opposed to onto hair.

Anyway, those things are starting to step up.

The volumes are stepping up.

The sales are starting to step up.

Hair products are stepping up.

So we're feeling pretty good about that.

So those products are being distributed, or beginning to be distributed?

Okay.

Is that what you're implying?

With L'Oreal -- yes.

With new customers, they are in development.

They are not, they are not being sold right now with non-L'Oreal customers.

They are in development and precommercial evaluation.

Okay.

The Monsanto effort seems to be progressing the most rapidly of these three licensing deals, but am I correct in that in terms of the impact on Landec's own income statement, there won't be any for the next three years until that five-year initial license is completed unless Monsanto chooses to exercise its option?

Yes, you're correct.

Last question, the change in your cash investment to much more conservative places to park it, is this a long-term permanent change, or are you waiting simply for a better environment to buy back all those junk bonds?

Well, better environment, but our board was very helpful and savvy well before others were realizing what was going on, we're going into very conservative investments.

Our objective is to preserve cash and capital, not to out the extra point.

But we're right -- we're looking at it every month in terms of when the environment might be better.

On the other hand, we're also looking at other uses of our cash besides these types of investments.

So it's not a, it's not a permanent, but we're going to error on the side of being very conservative in terms of our investments, Tony.

Fair enough.

Thank you.

Thank you.

Our next question's from Nelson Olson from Winfield Capital.

Your question, please?

Good morning, Nelson.

Hi, there.

Hi, guys.

Couple questions.

When are you -- when are you free to begin negotiations for some of the packaging raw materials?

Certainly other companies that have this issue have begun to significantly benefit from reductions in cardboard,.

Right now.

Right now.

We wanted to get through the holidays.

Now is the time.

Great, okay.

Second--

I think you saw in our release that we expect not only that, but we expect lower operating expenses in our second half, as some of our accounting and legal costs from last year begin to normalize.

And have you ever -- I mean what percentage of cost of goods is that product?

I'm sure that most of it is the produce.

Yes, the lion's share of it is 60-some-odd percent, but you've got probably about -- I would say about 20% that you can work with.

That's meaningful.

And the rest is in direct labor.

That could be very meaningful.

Yes.

Okay.

Also, I'm little bit confused, and I'm sure there's a reason.

Every company that I'm involved with, and every audit committee that I'm involved with has experienced maybe not an enormous amount, but, meaningful reductions in audit expenses, et cetera, which clearly, audit tax and legal fees at corporate, which clearly has impacted, I guess, the SG&A line.

It's a little counter intuitive to see a bump-up.

I'm sure there are -- obviously Sarb-Ox is out of the way.

As an implement, all -- one of the companies I'm involved with, it's enough to significantly impact the P&L on a positive matter.

So there's a little bit of an outlier.

What's going on there?

We, in our wisdom last year made two changes in accounting firms, away from Ernest & Young and then back to Ernst & Young.

I want to you try to imagine coming back to an accounting firm and asking to be received back and I want you to imagine what type of negotiating position you're in to do that.

That's, that's what's going on here, but long-term, we agree with you that we're building very strong capability and infrastructure here internal to do more of our work ourselves, but in the short-term, in our return to Ernst & Young, the facts of the life were going to be higher and we would hope that over the next several years, we can do what you're suggesting, which is to bring that down.

But in the short-term, Nelson, it's just a fact of life that it was higher, higher costs for us to come back to Ernst & Young.

That--

Delighted to be back with them.

Believe me, that more than explains it.

Just one other thing, a little knit, refresh my memory when the minimum payments from Chiquita would expire.

They go through 2011 and then there's a five-year renewal.

Okay.

Now, let me make sure I understand that.

Annual renewals are by, mutual content here and any part -- can decide that they can opt out of that and we want to make sure that our partner is moving forward in a timely way and committed for us to continue an exclusive and likewise, they want to make sure that we're performing on our side.

So it's not an automatic, but if both parties want to proceed, Greg's answer is the correct answer.

All right, great.

And finally, I want to make a comment and I welcome -- since this is the one time that shareholders get an opportunity to listen in a broad form at the risk of -- I'm sure it could be in the minds of a bunch of shareholders.

So I just want to make it.

First of all, I don't know where you are in the acquisition realm and it's possible, that you're within weeks of announcing something that will knock the cover off the ball and make all of us happy.

But it is of concern to me who has read, hundreds of thousands of press releases over the years to see a company with a great growth engine internally make an acquisition strategy with some quantitative ways of judging whether you were successful or not, i.e...

one or two.

The number one priority, because simply people who have been in this game a long time know that only 15%, don't shoot the messenger, only 15% of acquisitions wind up actually helping the company that made the acquisition.

A lot of them are neutral and some of them are much less than neutral.

So I'm just -- I mean, I would just like to hear your reaction to that.

I'm not -- it's pretty unusual to see a company make acquisition its priority, particularly a company that's had your success.

Let me just say your comment is valid.

It's a good one.

It's heard.

It's understood, so know that.

Second is know that it's not our number one priority.

Our number one priority is to run and operate the existing businesses absolutely to their greatest potential and I will tell you that if we were not implementing well here the last couple months, I would be the first to tell you.

But I think we have been and it's just a matter of consumer confident coming back.

But our number one priority is not to make acquisitions.

It is a strategic priority, but it's not our number one priority.

And secondly, having been in the M&A world for a number of years in various lives, Landec has had three acquisitions in its history.

Two have been very successful.

One was moderately successful and I would say in the grand scheme of things, that's a pretty good track record.

Now, does that guarantee that the next one will be?

No, of course not.

So we have to be very careful.

We've been talking about M&A for over a year, so it tells you that we're being selective and thoughtful and careful and I just want you to know that your comments and concerns are understood and heard.

All right, thank you, and I know you have that record.

I just saw it at the top of the list, so I thought I would comment.

Yes, okay, thanks.

Bye-bye.

Our next question's from Sal Kamalodine with B Riley & Co.

Good morning, Sal.

Good morning.

Just wanted to follow up on the question regarding the operating margin and your answer with respect to volume playing into the operating margin compression.

And I'm looking back at the business in 2005 when you guys were doing 25 to 30 million a quarter in revenue.

And at the time, the margin -- the gross margin at least was at 15 to 16% gross margin for Apio value added.

And my understanding had been was that the business in general was a high variable cost business, so operating cost shouldn't play a huge role into this.

So I guess the question is, if your business did go back to 25 to 30 million, given the environment, how bad could the gross margin really get ultimately?

Well, the main -- between 2005 and now, the main drivers is -- this overhead absorption issue, it was anomaly for this last quarter.

That's not normally a driver.

Your overhead is your overhead.

Your total drivers aren't changed.

It's a matter how they indicated, but the main drivers since 2005 has been the increase in primarily our produce and it's going up significantly in that three-year period.

And over the last year, packaging has gone up.

So when you combine those two, that is 80% of our cost of sales and in addition, labor's also gone up over the last three years.

So you've -- which gets you to 90%.

So if your overhead was flat, 90% of your cost of sales has increased over the last three years.

So you're going to see that margin deterioration.

It's just this last quarter, one of the components that has not been a component in the past has been the overhead absorption issue.

Right, so you're saying longer term, then, the risk of further compression on a gross margin shouldn't be much of a -- shouldn't be tied to volume as much as it will be to the cost of your raw material input.

Yes.

Now, Sal, let me just mention to you that when we saw these costs going up, we reported that we were going to raise prices and work to have that stick across our customer base.

But we did not anticipate that that would capture the full cost increases.

And so we did implement that in our first quarter.

That did stick, and -- but in this environment, it's hard to imagine right now trying to go further with price increases.

So I think we have some limitations there, but as things start to settle down, whenever that happens, we certainly will be looking at passing any cost increases on to, on to the retailers and consumers.

Okay.

And then the SG&A line for the Company as a whole, not just Apio value-added, was flat relative to last quarter, even though the revenue line decreased significantly.

Is that -- is there something to cut out there on the SG&A line?

Yes, we're -- we're going to hopefully see the last of some of these accounting and Delaware reincorporation legal issues.

Those should be -- some of those aberrations should be behind us.

And so we're hoping that as we look to the second quarter, it will be a much more efficient SG&A line.

Yes, we expect the second half, our operating costs will be lower than the first half this year and quite a bit lower than the second half of last year.

Got it.

Okay, and then finally, just going back to your comment about the supply chain and having seen that contract during the quarter, but already seeing a bit of a snapback in January, just what's your overall visibility into what the supply chain might look like on a normalized basis when all is said and done.

I think we have to go back to our best indicator, which is Nielsen.

Nielsen tracts category growth, and if you look at the last three to five years, in terms of the fresh cut category and fresh cut vegetables specifically, category growth has been running around 10 to 12% a year, and that's when the consumer is not afraid of losing jobs and wondering what the heck is going on in our country.

So I would like to believe that once we can get some stability here in some of consumer confidence, maybe not snapping back to 10%, but getting back into the positive category, what we've shown is we're going to outperform the category.

We just want to see that category get back to positive growth and then if we follow our track record, we're going to do better than the category.

So that's what we hope for and that's our only visibility that we can see right now.

The category has been in a negative situation for the last quarter.

Okay.

Okay.

Thanks.

Thank you.

The next question is from Craig Pieringer from Wells Capital Management.

Your question, please?

Good morning, Craig.

Good morning, Gary and Greg.

Can you update us on the status of Acetic Sciences?

Are they still a growing concern?

Any progress other than -- what can you share with us?

Good science, good progress on the scientific front.

My concern with Acetic sciences is it's, is the balance sheet.

As you know, the way that was structured is Landec licensed its technology to a new entity called Acetic Sciences, a new co.

There were several venture capital that came in to fund that entity and they are not loaded with cash right now and-- by the way, our role is to provide technical advice and support as needed, but very passive role.

We're not on the board.

So my concern for that entity is the same as any startup company in the Silicon Valley area that is not with a lot of cash, and that is what's going to happen in terms of funding of the next stage of development because they are not only developing the polymers for the dermal filler market opportunity and clinical trials -- by the way, they are in human clinical trials, but they are also doing some very interesting and unique things in the application, the applicant indicator side, the engineering, how to apply it to a patient.

-- I really don't have more to tell you is can they get the type of financing to continue their work in a timely way?

And I don't know the answer to that because funders are, hunkering down as well.

So the issue there is not science.

It is financing.

And maybe we'll know more in a quarter to report on that.

Fair enough.

And a couple calls ago, Gary, you mentioned interest from some entity in your technology for some pharmacological application and I pressed you on it and it seemed to be some drug delivery mechanism for the digestive system.

Yes.

Any progress there?

Well, I would take away the digestive system part, but the answer is that we're at a point where we feel like we can begin to talk to pharmas, large and medium size pharmaceutical companies and we need to get some type of validation that what we have is a value to them and so that, I would say, January through May is the time period in which we'll be talking to these people.

We needed to have some data, some laboratory, in vitro and in vivo data, which we now have some, and so we're now starting to approach these folks in the January through May timeframe.

And then by May, we want to make a decision to see do we have something or not, yea or nay?

And we want to make that call by our fiscal year end.

Okay.

Those are my questions.

Thank you.

Thank you, Craig.

Our next question's from Will Lauber from Sterling Capital.

Your question?

Good morning, Will.

Good morning.

I had a question on the Chiquita relationship, especially with grocery store trials.

And I know you guys aren't calling the shots on that, but at some , doesn't it make more sense to use the technology for boxes of bananas?

I know that Chiquita doesn't get their kind of value-added out of that, but I would think that they would be able to pass along some increased costs to the grocery store owner who now, I guess, eats all the costs of the bananas that go bad that no one buys.

I mean does the math work out at

I think what you're saying -- if I can paraphrase, and you correct me if I get it wrong, right now you're adding a fair amount of costs in terms of packaging and handling to put six bananas, let's say by example, into a bag that has Landec technology on it.

And so you've got to add a markup and you got to charge a premium price to consumers to buy that product.

Why not take that same packaging technology from Landec and spread it across 20 or 40 pounds of bananas, a lot more bananas in the form of a box that comes in from the tropics, comes into the states.

We already know that they lose 9% of weight just from evaporation, which we can avoid, et cetera, et cetera.

Why not focus on that?

And I think that's a terrific question and we're hopeful that perhaps Chiquita -- you're right.

You started off right by saying we're not calling the shots on this.

All I know is that we extend the shelf life of bananas by seven days.

We entered the collaboration saying we extended the shelf life by seven days.

By gosh, we extend the shelf life by seven days.

That can be a small consumer package it can be a Big-Box going to McDonald's.

It can be an even bigger box that comes in from the tropics and then eventually goes to the retailer.

And they can open it up and put it out.

So we're hoping that all of those possibilities will be seriously looked at.

I just have to tell you that I think that Chiquita's been consumed thinking about the Chiquita-to-go application for alternative sites such as Starbucks and quick serve restaurants like McDonald's and grocery stores and we need to -- we need to hope and encourage them to look at these other applications as well because you're spreading your costs over more weight and more bananas by doing so.

So I like that line of thinking.

We have to encourage and support them in looking at those applications as well.

But, yes, you said much better than I did, but does the math work out there where obviously you would have to pass along some cost to the grocery store owner, but I would assume that the grocery stores would more than make up with that because of the reduced spoiling.

Yes.

Well, you got -- there's value capture in a couple of ways.

Reduce spoilage.

You've got the ability to display a more uniform color banana, which is more appealing to the consumer it's called a color 6, it's bright yellow with green tips and if you can do that, then you're going to increase the sales.

And last, but not least, if you can reduce the amount of weight loss because you're in a sealed package that captures moisture, it doesn't lose moisture, then you're avoiding weight loss.

It would seem that would be something that's seriously looked at by Chiquita and we hope that their prioritization will include that.

Okay.

Thank you.

Gary?

Yes, sir.

Yes, this is Will.

I want to follow up on that M&A question that an earlier caller posed.

According to statistics about the success and so on, and I certainly can't argue with those numbers.

But I guess, as a portfolio manager, money manager, we have reassessed all the companies that we own and the first question in this environment, first question we're asking ourselves, are these people survivors?

And I think you certainly fit that bill.

But the second thing is that what we would like to see looking at this from an -- trying to be optimistic in this mess, we would like to think that our survivor, our companies who are survivors and they have good balance sheets are going to take advantage of a situation which I think we all agree is very, very unusual, this economic environment and this credit environment.

And I guess my comment is I would be disappointed if you folks did not use your balance sheet and the cash that you have and your expertise and experience to exploit the opportunities that should becoming up in the related field, but more importantly in the food business.

I would be more disappointed than you, so let me just make sure that we're clear on prioritization.

Our first priority is preserve our strong balance sheet and make sure that we're not trashing it by doing something reckless in the acquisition area.

Our second priority is to make sure they are operating our existing businesses and partnerships extremely well, and even in these difficult times with consumer loss of confidence, and third, it's to be opportunistic.

We live in Silicon Valley.

These -- there are companies around here whose venture capitalists have told them we're done.

And there are companies throughout America that are undercapitalized.

They have good, solid businesses.

They just don't have the where with all to grow.

We want to look at them.

We want to look at them -- channels of distribution.

Likewise, this will take a little bit more time, but likewise, corporate America is slashing and burning its R&D budgets.

They are cutting back left and right.

They are laying off people.

But these companies still have to respond to their shareholders down the road with new products and new innovation.

That's why we're stepping up not only the M&A activity, but we're stepping up our licensing activities.

The license takes longer.

It's lumpy.

It doesn't -- you can't manage it by quarter.

So we're doing both.

And our board, as long as we're being prudent about our balance sheet and sticking to our knitting in terms of operating our existing businesses, they are very supportive of what you say.

And that is this is a time of opportunity.

So that's how we look at it.

Okay, thank you.

Thank you.

And at this time, I'm showing no further questions from the audience.

We want to thank you all for your continued support.

Thank you for being on this call today.

And we look forward to keeping you apprised of our progress and plans.

Thank you very much.

Ladies and gentlemen, thank you for participating in today's conference.

This concludes the program.

You may now disconnect.

Good day.