Natural Grocers by Vitamin Cottage Inc (NGVC) 2016 Q2 法說會逐字稿

Good day ladies and gentlemen, welcome to the National Grocers second quarter fiscal year 2016 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. As a reminder, today's call is being recorded. I would now like to turn the call over to Ms. Ashley Macleod, Director of Finance and Investor Relations for National Grocers. Ms. Macleod, you may begin.

Good afternoon everyone, and thank you for joining us for the Natural Grocers by Vitamin Cottage second quarter and first half fiscal 2016 earnings conference call. On the call with me today are Kemper Isely, our co-President, and Sandra Buffa, our Chief Financial Officer. As a reminder, all statements made on this conference call other than statements of historical facts are forward-looking statements. All forward-looking statements are based on expectations and assumptions that are subject to risks and uncertainties. Actual results could differ materially from those described in forward-looking statements due to a variety of factors, including the risks detailed in the Company's most recently filed form 10-Q and 10-K. The Company undertakes no obligation to update forward-looking statements. Our press release is available on our website, and a recording of this call will be available on our website at Investors.NaturalGrocers.com. Now I will turn the call over to our co-President, Kemper Isely.

Thank you Ashley. Good afternoon everyone. As we noted in our preliminary second quarter fiscal 2016 release two weeks ago, we faced several challenges during the second quarter that impacted our comparable store sales growth and pressured our earnings. During the second quarter of fiscal 2016 net sales increased 12.5% to $177.4 million, and daily average comparable store sales increased 1%. The comparable store sales growth was driven entirely by average ticket, as transaction count was consistent with the second quarter of 2015.

Looking further at our comps, we estimate a 200-basis point impact during the second quarter of fiscal 2016 from internal competition, which reflected a roughly 50% increase from internal competition versus the prior year. The magnitude of that increase was higher than we had forecasted. The high rate of internal competition reflected pressure on some of the higher volume mature stores which increased the impact. As we look forward, we expect to see a moderation in this pressure during quarter four, although our recently advised outlook now reflects a higher forecasted impact from internal competition than previously.

Further, our comparable store growth continues to reflect the impact of regional economical weakness in markets sensitive to the drop in oil and gas prices. We saw pressure in Oklahoma, Colorado, Wyoming, and Texas. Each of these markets underperformed the consolidated store sales performance. Initially as we indicated in the preliminary results conference call, we experienced an approximately 30-basis point impact from the winter snowstorm in Colorado ahead of the Easter holiday.

The impact of the increasingly competitive national and organic food retailing environment is difficult to measure. However, we continue to track the direct impact from openings of new specialty grocery locations in our trade area. While we saw a decrease in the number of store months with new specialty retail competition versus a year ago we recognize that the marketplace is evolving with the increasing availability of national and organic foods in virtually all channels of distribution. Our focus on nutritional supplements and nutrition education is one of our key differentiators in this competitive marketplace.

During the second quarter, supplements along with body care posted comps above the reported comp, which we believe reflects our focus on interest and education. We continue to focus on our directed sales initiatives, outstanding customer service and operational excellence, and are excited about the future impact of our recent marketing initiatives under the leadership of Kevin Miller, who joined us last quarter as our new Vice President of Marketing. Our new marketing strategy is to communicate our strength and differentiators by educating consumers, in an engaging and compelling manner that strongly positions us as the grocery store choice for national and organic products.

We are deploying a grassroots marketing campaign to highlight our authentic positioning as an innovator in the marketplace, and to create grassroots buzz from the ground up. We also remain pleased with the initial results from [N]power, our customer appreciation program. Additionally we are pleased with the performance of our monthly calendar of events, including the recent Earth Day event. Turning to margins, which Sandra will discuss in detail in a moment, the impact of the sales variance versus budget was evident. Our gross margin decreased 60 basis points due to higher occupancy costs. However, our point of sale margins expanded modestly. Both store expenses and administrative expenses face deleverage, given the sales variance.

We are looking closely at our expense levels and making adjustments to reflect our new sales forecast. Specifically we have initiatives focused on labor and shrink, as well as optimizing our inventory levels. We are essentially looking at every expense from paper clips to travel. And pride ourselves on our ongoing cost controls. Moving to new store growth, we opened five new stores during the second quarter, including our first in Iowa, expanded our geographic footprint in Arizona and Arkansas, and added two new stores in Texas.

Thus far in the third quarter we have opened one store in Spokane, Washington. Our new stores are performing in line with expectations, and we remain on track with our new store pipeline. We are quite comfortable with the current pipeline of leases, and will continue to evaluate our site selection and growth plans over the coming years. Now I will turn the call over to Sandra, to highlight our financial results for the second quarter of fiscal 2016.

Thank you Kemper. Good afternoon everyone. Net sales in the second quarter of fiscal 2016 increased 12.5% to $177.4 million. Daily average comparable store sales increased 1%, driven by a 1% increase in average transaction size. Daily average mature store sales decreased 1.3%, reflecting the increased internal competition and regional economic pressures. Gross profit margin declined 60 basis points, primarily due to increased occupancy costs as a percent of revenue.

Store expenses increased 19.4% to $38.8 million in the second quarter. As a percentage of sales, store expenses rose 130 basis points in the second quarter compared to the prior comparable period. The increase reflects the sales variance to our prior forecast, as we were unable to adequately adjust variable and semi variable expenses such as labor, and saw a modest deleverage in depreciation expense.

Administrative expenses as a percentage of sales increased 20 basis points as a result of investments in home office staff to support growth. While incentive compensation was not funded during the quarter, we did increase our Vitamin Bucks program, that impacted labor expense levels. Pre-opening and relocation expenses increased $600,000 during the second quarter compared to the prior comparable period. due to the number and timing of new store openings. During the second quarter of fiscal 2016, we opened five new stores compared to four new stores in the second quarter of fiscal 2015.

Net income was $3.6 million, with diluted earnings per share of $0.16 in the second quarter of fiscal 2016. EBITDA was $12.6 million, or 7.1% of sales. We ended the second quarter with $5.6 million in cash and cash equivalents, and $20.4 million available on our revolving credit facility. Now I will turn the call back to Kemper to discuss our new store growth, and outlook for fiscal year 2016.

Thank you Sandra. We opened five new stores in the second quarter, bringing our total count to 112 stores in 19 states at the end of the period. As of today we have opened an additional store in Spokane, Washington during quarter three, and have signed leases for 12 of the remaining 13 new stores we plan to open in the second half of fiscal 2016. In Arizona, Idaho, Missouri, Nevada, North Dakota, Texas and Utah, we also have 12 signed leases for stores planned for opening after fiscal 2016. We remain confident with our unit growth plan and new store performance.

Moving to our outlook we are reiterating the updated outlook we issued on April 20th, during fiscal 2016 we expect to open 23 new stores, resulting in 22.3% unit growth, achieve daily average comparable store sales growth of 0% to 1.5%, deliver EBITDA margin of 6.7% to 7%. Achieve net income margin of 1.6% and 1.8%, achieve diluted earnings per share between $0.50 and $0.56. We now expect capital expenditures in the range of $52 million to $54 million, versus our prior range of $54 million to $56 million for fiscal 2016. CapEx for new stores, relocations and remodel is approximately 90% of total. We anticipate cash on hand, cash generated from operations, and availability under our credit facility, will be sufficient to support our capital requirements.

Today we are also announcing that our Board of Directors has approved a new two-year program to repurchase up to $10 million of the Company's common stock. This share repurchase authorization reflects our strong balance sheet, cash flow, and modest debt leverage of less than 1 times EBITDA., enabling us to return value to our shareholders, while also continuing to invest in the Company's long-term growth. We are confident in the strength of our business, and believe that the current valuation of our shares does not fully reflect our growth opportunities. This program also demonstrates our commitment to delivering shareholder value. Repurchases under the Company's new authorization will be made from time to time, and the share repurchase program does not obligate the Company to acquire any particular amount of common stock, and may be suspended, modified, or discontinued by the Company without prior notice.

The Company expects to finance the share repurchase program through borrowings under its credit facility. While our second quarter sales performance did not meet our expectations, we remain focused on our founding principals and commitment to our core operating strategies. We continue to engage with our communities and increased awareness around our high quality standards. We believe our quality standards make us a leader in the grocery and supplement industry, and provide our customers with valuable confidence in what we sell at everyday affordable prices. Now I would like to open the lines up for questions. Thank you.

We will now begin the question-and-answer session. (Operator Instructions). Our first question comes from David McGee of SunTrust. Please go ahead.

Yes, hi everybody. Good afternoon.

Good afternoon, David.

I wanted to ask you about the new store performance, which you say is good. I am curious if that performance is also satisfactory on an absolute basis versus on a relative basis?

I am not following what you mean by an absolute basis?

Just in terms of total sales dollars as opposed to how the stores are performing relative to the chain which has been more sluggish?

Since we started tracking with Buxton, we are within 4% of the projections that Buxton has given us for the first year of sales. So we are pretty happy with the sales result at the new stores.

Okay. As you think about marketing picking up here over the next couple of quarters, which of the initiatives do you think will be the most impactful to the numbers?

Well, what our new Vice President of Marketing really is getting through the whole organization, is the need to create differentiation in our, to create our message of how we are different than our competitors through a grassroots marketing campaign, rather than just buying media time, or putting out newspaper advertisements into newspapers. For instance like we just had our campaign called the Good for You Challenge, and instead of just running radio ads to promote it, we engaged the disk jockeys, and the markets, and got them on the Challenge. It created a lot more excitement and social media buzz for the Challenge. It didn't immediately result in greater sales, but what it did was it got the message out that we do nutritional education, and we educated all of these disk jockeys in these markets about how important diet is, and nutritional supplements are, and they are really enthused and talking about us on the radio. Not just for the 30 seconds of the ad, but during other times, so that's how we are going to get our message out, is to create social media awareness and buzz, not just through traditional means of advertising.

Thanks Kemper, good luck.

Thanks.

And our next question comes from Sean Naughton from Piper Jaffray. Please go ahead.

Hi, good afternoon.

Hi, Sean.

Hi, Kemper. You mentioned something interesting. You said that Colorado, Wyoming, Texas and Oklahoma were below the Company average on comps. I was just running some quick math, that seems to be about 55% of your stores. Maybe it is a little more than that in sales. It seems like some of the other geographies basically must have been performing better, naturally, but any color you can provide on some of those markets? I know you have a relatively large presence in Oregon and Arizona. Maybe how things are going there relative to some of these other markets?

Well, in the states that we didn't mention our comp was up 3.3%.

And so that still would have been pretty far below what you were looking for then?

Right, and we had a couple of markets that outperformed, I mean there were some states that really did well, but overall the remaining comp in non-oil states was up 3.3%. There were a couple of states that shined better. But I don't really want to talk about those.

That is fair. And I guess my other question would be on the gross margin side, and specifically on occupancy. Maybe you can help us at least figure out what sort of comp you need to leverage that number? The reason I ask that is just even when you were doing some better numbers that occupancy number seemed to delever still. Saying that another way, what year of the store does it begin to leverage that occupancy number pretty aggressively?

The biggest issue with occupancy is that the base of our stores that have lower rents has been decreasing, and until we slow down our growth a little bit, we probably won't see a lot of leverage in the rent line. It will probably be a couple years out before we see a leverage in that line. As far as comp goes, if we can get our comp back up on our mature stores up into the 3% range, I think we will see a lot of good leverage on all of those mature stores for sure.

That's helpful. And last quick clarification question, I know you announced the share repurchase plan today. Is any of that figured into the guidance that you provided on $0.50 to $0.56?

No, it is not.

Okay. Thank you, and good luck.

Our next question comes from Joe Edelstein from Stephens. Please go ahead.

Hi, good afternoon and thank you for taking the questions.

Good afternoon, Joe.

Wanted to go back to the new store productivity. I was just curious what percentage rate you calculated for the quarter. By our math it looks like it has slipped down closer to a 60% rate, well below the 70% that you were trending closer to for last year. Related to that, are you still finding that the main in main, the larger stores really are working? Is it as efficient you were hoping for?

As far as new store productivity goes, some quarters are just stronger than others. The economic conditions we have been in, in a lot of our states have perhaps diminished some of our openings. And then of course we delayed, the quarter had delayed openings. We opened three out of our five stores in March, and one of them at the very end of March. We didn't get much benefit from that also. Let's see. I don't remember what the rest of the question was, Joe.

Yes, just the size of the store. You expanded the sizes to incorporate the kitchens. Is that still a format you are comfortable with?

Yes, That has been, is part of our model and helped us to increase the productivity of our new stores substantially from where they were five years ago, when we would first open them. And then in the long run, it gives the store a lot higher top end for how much it will produce in 10 years from now, without us having to put more money into remodeling or moving the store. We think that is a huge benefit. Because our stores that are smaller that we are having to move to bigger stores now because they just can't produce anymore out of the smaller format, that is expensive. With the larger format store we won't have to do that in 10 years from now when the leases come up.

I heard you say that you have got 12 stores, leases that are signed and slated for 2017 openings. Do you feel like you need to take a pause before you sign any more leases, at least to get a better sense that the marketing efforts and the other initiatives can start leading to stabilization, and then faster comp growth?

No, we intend to keep pursuing our current growth strategy through 2017. We of course will look at that on a quarter by quarter basis, but we feel very confident that our stores in the long run will all be as productive and profitable as our mature stores are now. We have confidence in adding to our base at the 20% rate because of that.

The 20% rate is what we should look for? Is that what you are confirming there?

For this year for sure, and then we will evaluate where we will be at the end for next year. But it will be somewhere in this neighborhood for sure. Or probable.

Thanks. Thank you, I know there are others, so I will turn the queue over to them. Thanks.

Thanks.

And our next question comes from Rupesh Parikh of Oppenheimer. Please go ahead.

Good afternoon. Thanks for taking my question. Just going back to your comment on marketing, to go ahead with, to implement your efforts on the marketing side, how significant are the dollars that you intend on spending to drive some of your marketing initiatives?

The good thing about social media it that is a matter of executing so it doesn't cost as much print and television and radio. We have a budget that is set out of percentage of sales, and we are just are reallocating assets, money from one part of our budget to another part of the budget, and we don't intend to exceed where we were budgeted for the year.

Great, and then moving on to your share buy back program, one of the push backs with Natural Grocers shares is a lack of flow for some investors. How do you think about balancing the desire of investors to have greater flow, versus actually going back and buying back shares?

That's why we decided that it would be a limited number of shares that we would buy back, we didn't think we would have a gigantic impact on our float levels. 3% of the market cap, and 6% of the public flow.

Okay. And my last question, on the expense side, should the business flow further what other opportunities do you have to further cut costs from here?

Well, we are working on many initiatives right now, including getting our labor costs under control, and getting our shrink dollar amounts down, to just two of them. And then of course we are looking at every other expense like we said from paper clips to travel. For instance, one of the things that we recently did was we have been renting a lot of cars in the Denver market, because a lot of people that come in and train. Spending thousands of dollars a month on that. We decided to lease several cars at $139 a month to replace the rental cars we are spending thousands of dollars a month on. Savings like that are the type of things that we do all of the time.

Okay. Great, thank you.

And our next question comes from Philip Terpolili from Wedbush. Please go ahead.

Thanks, good afternoon.

Good afternoon.

I just wanted to ask a bigger picture question about the composure of the store themselves. One of your competitors have been talking with us a little bit recently just about maybe more aggressive behavior, adding some more items that are sort of designed to attract maybe a customer in the middle of the day, grab and go, et cetera. I know that you have added some of those, but have you looked at the store assortments more carefully in light of the down tick we have been seeing here in comps? Wondering if there are certain areas of the store that you think maybe are worth expanding on, or focusing on more?

Well, we are always evaluating what parts of our store perform better than other parts of the store. I mean and one of the things that we are noticing is that really having too may SKUs of say tuna fish is probably not the best thing to have, and to cut back on a number of SKUs, and concentrate more on SKUs that can sell, that can turn quicker. The same thing with our eggs. Now cutting back a few SKUs on eggs is actually beneficial to the overall egg market in our stores, and we sell more of the ones that we focus on, and cut back on our shrink a little bit because of that. As far as grab and go, et cetera, we are always looking to improve that particular aspect in our stores, and are always trying different things in regards to that. In our Denver markets, we have a pretty robust program in some of our other markets that are smaller, and they don't have as many outside options. We are a little bit more limited.

That's helpful. And then one more question on the inflation front. I know the mixture in your store is a little bit different. Anything you are seeing there with some of the items would be helpful?

The really good news is the price of almonds has really come down this year. We are seeing a lot of deflation in almonds, so we are really happy about that, for the first time in like three or four years that has happened. Otherwise I would say inflation has been very average. Organic produce, there is a lot of demand for it, and the prices are holding up very well. The types of meats that we sell, there is a lot of demand for those meats, and the components that go into them, they have organic grains that go into making organic chickens, and so on and so forth, haven't gone down in price. So the pricing on those has held very firm.

Great. I appreciate it. Thank you.

Our next question comes from Mark Wiltamuth of Jefferies. Please go ahead.

Good afternoon. I wanted to ask about how things are going in the vitamin supplement section of the store?

They are doing really well, actually. They actually outperformed our comp growth for the quarter. And we are pretty pleased that our educational efforts are paying off, and we are getting more and more customers to buy more and more supplements that come into the stores.

Are there any specific categories in that area that are interesting that are moving more?

We always have our Nutrient to Know About on a quarterly basis. Last quarter it would have been CoQ10 sold pretty well. This quarter we have tumeric on sale. The Nutrient to Know about for this quarter is tumeric, and then previous quarters to that were Lutein and Phosphatidylserine, and we had big upticks in all of those when we educated our customers about the benefits of their use.

Can you talk a little about the cadence on self- cannibalization? When does that start to fade for you, as you look in the year ahead?

We are thinking we will see some fading of that at the end of the fourth quarter.

Okay. Thank you very much.

And our next question comes from Scott Mushkin of Wolfe Research. Please go ahead.

Hey guys. Some of my questions have already been answered. But just wanted to ask if you have seen any kind of change, any kind of thought of things in some of these tougher economies, certain states, any sense that things have bottomed out, or maybe going the other way? Want to get a feel of where you think these things are in some of these places you are having a harder time?

Well I don't know if it has bottomed out yet or not. The sales trends seems to be, they are pretty choppy right now, and it is hard to get a cadence of how things are going. We will probably have a better idea of that hopefully by the end of this quarter.

And then as a follow-up, Whole Foods last night when they announced their earnings, talked about doubling down on some pretty aggressive price promotions. It is not every store, but I think about 40% of your stores are pretty darn close to one of theirs. Any thoughts if they do follow through, and any actions you may need to take? You have usually been priced at a 10% discount to them. That's how you price in the marketplace. I just want your feel on if they do, continue to sharpen the prices, what actions you might take?

We haven't noticed it in their produce pricing. We only sell organic. So we are comparing our organic against their organic. We have been pretty much 15% below their price on produce consistently for a long time now, and haven't noticed a change there. As far as their other price, where I think they are doing it in their 365 brand. We don't have a lot of comparable items to their 365 brand. I don't see that as an issue, and I have, there are a couple of items that we have noticed that they have good pricing on, but when we notice that we respond to that.

Okay. So we should expect if they do get more aggressive, and again it is always projecting, but that's what they are saying are going to do. If you can, if it is a comparable item your preference is to match?

We do do that. Yes.

All right, perfect. Thank you for taking my questions, I appreciate it.

Thanks.

(Operator Instructions). Our next question comes from Shane Higgins of Deutsche Bank. Please go ahead.

Good afternoon, and thanks for taking the questions. Sorry if I missed this, Kemper, but did you say work comps were running 3Q to date? Since the last update a couple of weeks ago?

No, I did not say where comps were running in this quarter. We are happy that they are running in our new guidance and guidelines.

Great. And just wanted to switch gears real quick. I know you guys have been focusing on some special events, and that you guys did like a community event around Easter egg hunts back in late March. Just curious to find out, obviously putting weather aside, how successful those programs were, and building awareness about the brand? Did you see an uptick on sales, or just social media buzz, or anything you can detail would be great?

The Easter event was very successful. It promoted family time at our stores. Some of our stores got incredible attendance, and incredible goodwill in their communities from hosting those events. Some of our stores had upwards of 200 kids show up at the stores to do Easter egg hunts, which was pretty cool. The kids had a lot of fun, and the families had a lot of fun, et cetera. That event we know will grow bigger. Next year Easter is April 16th. Hopefully we won't have the same blizzard that we had this year in April. Anyway I'm sure it will be a bigger event for us next year, and then we had our Earth Day event in April, and that was hugely successful in a lot of our stores also. A lot of nice Facebook time and social media buzz from that event.

Do you guys have plans for similar events in the third quarter and fourth quarter? Maybe we should keep an eye out for?

In the third quarter we are doing our, we are doing a thing called the Good for You games, and that is based around nutrition and education, and all of the stores are holding that over a four-week period of time. We will have two nutrition classes per week at each store, and focused on what you can eat well to perform well in sporting events, and we will be giving away about $100,000 worth of groceries as part of those games to our customers. So it should be a pretty exciting event. And then we have our anniversary celebration in August, which we did last year, which was hugely successful.

Great. Do you expect to see any sales lift around that? Obviously the environment is tough, but in terms of what your expectations might be around that event, any color there would be great?

We are really expecting modest sales gains from the Good for You games, we think that it really helps with promoting one of our founding principals, which is nutrition education, and we should get some sales lift from it, if we execute well off of it. I am not sure, it would be really hard to quantify what that sales lift would be right at this moment.

Got it. Good luck. Thanks.

And our next question is a follow-up from Joe Edelstein from Stephens. Please go ahead.

Hi, thanks for taking the extra question. Just wanted to clarify on the grassroots campaign, and really how is that going to be different than some of the requirements you set out for the NHCs, as they get into the local markets themselves? Is this a program that is going to be more directed by your new VP of Marketing, kind of running it more from the corporate side? And then similarly, as you just answered the last question, in terms of when can we see these programs start, and do you have plans or goals already set out, in terms of how you are planning to track the lift out of these programs?

To answer your last question first, yes we have metrics in place to track how well, what the results are from any of our promotional activities, particularly these promotional activities. As far as the grassroots, and whether it is going to come from a home office or from the store level, you always need to give direction that the stores can execute on from your home office in order for it to be successful over a 112-store base, or a 120-store base then by the end of the fourth quarter. To that effect, Kevin is putting his together, and has put together a really good team here at the home office that will help all of our stores with local store marketing, like a gorilla basis. We are really happy with how that is working.

One of the things that we are doing is opening up each store to having its own Facebook page, so that they can do posts on Facebook at the store level, rather than just here from our corporate office, so that they can really get into the community, and get that community involvement going. Some of the stores do a really, really good job of that, and they are performing way above our current comp at the stores that do it well. We are studying what those stores do, and trying to emulate it throughout our culture. We may not see the results in the third quarter, but I would say that we will probably start seeing some of that result come through in the fourth quarter.

Okay. Appreciate that extra detail, Kemper.

Sure.

And ladies and gentlemen, this concludes our question-and-answer session. I would like to turn the conference back over to Kemper Isley for any closing remarks.

Thank you. Thank you very much for joining us. Natural Grocers has a 60-year history of successfully adapting to our ever-changing natural products sales landscape. Our value proposition industry-leading product standards, unrivaled nutrition education, and superior customer service, are the foundation of our long-term success. We look forward to speaking to you again on our third quarter conference call. Thanks everybody for being on the call today. Good bye.

Ladies and gentlemen, the conference has now concluded. Thank you for attending today's presentation. You may now disconnect.