SpartanNash Co (SPTN) 2004 Q1 法說會逐字稿

Welcome to the Spartan Stores fiscal 2004 first-quarter earnings teleconference. At this time, all participants have been placed on a listen-only mode, and the floor will be open for questions and comments following the presentation. It is now my pleasure to turn the floor over to your host, President and CEO Mr. Craig Sturken.

Good morning, everyone, and thank you for calling in to our fiscal 2004 first-quarter earnings conference call. If you don't already have a copy of the earnings release, you can call our offices at 616-878-8319, and ask for Jean Kirkbride (ph), and she will be glad to fax you a copy. With me this morning are other members of our management team, including Executive VP and CFO Dave Staples, and our executive VP of Marketing and merchandising, Dennis Eidson.

Before we begin discussing our quarterly financial and operational performance, I must remind you that our comments today will contain forward-looking statements. These forward-looking statements may contain plans, expectations, estimates, and projections that involve significant risks and uncertainties. Actual results may differ materially from the results discussed in these forward-looking statements. Internal and external factors that might cause such a difference include, but are not limited to, competitive pressures among food retail and distribution companies, general economic and market conditions, and other factors described in our earnings announcement and annual report on Form 10-K and other filings with the SEC. Spartan Stores disclaims any intention or obligation to update or revise any forward-looking statements.

During this call, I will provide you with an overview of our first-quarter financial results, and then bring you up-to-date on our progress regarding our four key organizational priorities that I spoke of during our last call. Dave Staples will detail more details of the financial results, and I will conclude with a more in-depth review of our plans going forward.

As anticipated, our first-quarter results were encouraging, with consolidated sales increasing 2.3 percent and a strong movement back toward operating profitability. We made sales growth one of our top organizational priorities, and we are certainly pleased to see this effort producing a significant change in our trends, despite continued competitive pressure and a relatively weak economy.

As pointed out in our press announcement, on a sequential basis, we realized a significant first-quarter improvement in our retail comparable store sales. The first-quarter comparable store sales increased 0.7 percent, but were partially aided by the shift in the Easter holiday. Excluding the Easter shift, our comparable store sales declined 1 percent, but this still represents a significant sequential improvement over our fourth-quarter results. Putting this into perspective, we finished fiscal 2003 with a fourth-quarter comparable store sales decline of more than 9 percent. This represents an 8 percent sequential improvement. This comparable store sales increase also represents our first quarter of positive retail sales growth in the past 7 consecutive quarters. This turnaround is a result of better operational execution, significant improvements in our marketing and merchandising programs and fundamental shifts in our retail approach.

We are also pleased with the 1 percent increase in first-quarter grocery distribution sales, which were also aided by the Easter holiday shift. This represents our first increase in grocery distribution sales in over one year. We are making progress with our new distribution sales strategy and our working diligently to maintain the overall sales momentum.

Although we have not yet returned to overall profitability, we are certainly moving much closer, particularly on an operating basis. Our consolidated operating loss was $348,000 in the first quarter, a substantial sequential improvement over our fiscal 2003 fourth quarter operating loss of 5.2 million. It is important to understand that the operating loss included a onetime charge under our Supplemental Executive Retirement Program of 1.4 million related to the retirement of our former CEO, and $600,000 in employee severance charges related to our corporate overhead reductions. This gives us confidence that our financial performance has stabilized. We reported an operating loss of approximately 3.0 million in our retail operations, and operating earnings of 2.6 million in our distribution segment.

I will now let Dave give you a more detailed look at the first quarter financial performance.

Good morning everyone. I am pleased to inform you that as of today, the Food Town divestiture is substantially complete, and as previously announced, we completed the divestiture of our convenience store distribution operations earlier in the first quarter. These divestitures have been a major focus for our company, and have allowed us to significantly reduce our outstanding debt balances. The completion of these initiatives will allow us to focus our full efforts on our core food business.

Turning to the financial results, consolidated net sales for the first quarter increased 2.3 percent to 502 million, from 490.8 million in last year's comparable quarter, and 5.6 percent, from the 475.6 million in fiscal 2003's fourth quarter. The sales improvement is a result of the significant sequential improvement in our retail comparable store sales performance and the shift in the Easter time.

The first-quarter year-over-year sales increase was principally due to three new stores opened in fiscal 2003's third-quarter, and again, the shift in the timing of the Easter holiday. Gross margin for the quarter declined 80 basis points to 17.4 percent, from 18.2 percent in the first-quarter last year, but approximated the levels achieved in the third and fourth quarters of fiscal 2003, on substantially higher sales. We expect our gross margin profit margins to improve during the remainder of fiscal 2004.

First-quarter operating expenses increased 6.5 million to 87.7 million, from last year's 81.2 million. The increase was primarily due to the additional operating costs of three new stores opened in fiscal 2003, higher advertising costs, and as Craig just mentioned, severance costs associated with corporate staff reductions and a onetime payment under our Supplemental Executive Retirement Plan. As a percentage of sales, operating expenses rose to 17.5 percent, compared with 16.5 percent a year earlier.

Reducing operating costs remains a significant a significant priority, and as stated during our last call, we announced staff reductions early in the first-quarter that will not be financially visible until the second quarter. We expect our operating expenses to show improvement as we move through fiscal 2004. We also expect the operating expense ratio to improve, as we continue to lever our costs over improved sales.

We reported a first-quarter operating loss of 348,000, and although lower than last year's first-quarter operating income of 8 million, it is a substantial improvement over fiscal 2003's fourth-quarter operating loss of 5.2 million. This gives us confidence that we are progressing quickly to restore profitability, as we reversed fiscal 2003's negative sales performance and improve our gross margin trends. Our first-quarter loss from continuing operations was 2.9 million, or 14 cents per diluted share, compared with earnings of 2.9 million, or 14 cents per diluted share in the corresponding period last year. Total net loss for the first-quarter was 6.1 million, or 31 cents per diluted share, compared to a 43.8 million net loss, or $2.21 per diluted share last year.

The consolidated results for the quarter included a loss from discontinued operations of 3.3 million, or 17 cents per diluted share, compared with an 11.3 million loss from discontinued operations, or 57 cents per diluted share, last year. The prior year net loss also included a charge for the cumulative effect of a change in accounting principle related to goodwill in the amount of 35.4 million, or $1.78 per diluted share.

Turning to our business segments, first-quarter grocery distribution sales increased for the first time in more than a year, to 289.8 million from 287 million last years. The increase was due to improved sales trends in our base business and the benefit related to the shift in the Easter holiday.

We are certainly pleased that our promotional strategies targeted for incremental sales gains are working. These programs are clearly more effective than the combined distribution retail-marketing program that was terminated during the third quarter of fiscal 2003. First-quarter operating income for the grocery distribution segment declined to 2.6 million, from 4.7 million last year. The decline was primarily due to the additional expenses for employee severance and the payment under our Supplemental Executive Retirement Plan. Combined, those pre-tax charges totaled approximately $2 million. Excluding those charges, our distribution operating profit was comparable with the prior year.

Sales in our retail segment increased 4.1 percent, to 212.3 million from last year's 203.8 million, and comparable store sales increased 0.7 percent. Excluding the Easter shift, comparable store sales declined 1 percent. This still represents a significant sequential improvement over the fourth-quarter comparable store sales results, and begins to move our performance much closer to current industry averages. Because many of our operational and program changes were implemented late in fiscal 2003's fourth-quarter and during this year's first quarter, we expect these more favorable results to continue through fiscal 2004, especially in the second half of the year.

Our retail segment reported a first-quarter operating loss of 3 million, compared to operating earnings of 3.3 million in the corresponding period last year. The loss was principally due to promotional and merchandising programs that began in fiscal 2003's third quarter, which had a significant effect on gross margin rates, and higher administrative costs, as previously discussed. We expect our gross margin rates to improve during the current year, as our new merchandising team's more effective, yet financially balanced, promotional merchandising programs are rolled out.

Reducing our outstanding long-term debt continues to be a top priority, and we are pleased with our progress along that front in the first-quarter. Our long-term debt balance, including current maturities, declined 24 percent to 167.6 million at June 21, 2003, compared with 220.4 million at fiscal 2003's year-end. As mentioned during our last call, our revolver balance as of June 21, 2003, was 5.2 million. During the quarter, we continued to make progress formalizing a long-term financing structure that is best suited for our company's current operations.

Our working capital needs declined significantly in the first-quarter, primarily due to a reduction in our inventory balance, which declined by nearly 20 percent. The inventory reduction was the result of convenience store distribution and retail store divestitures, product line rationalization efforts and more prudent and disciplined buying strategies. Although we have already made meaningful inventory reductions, we continue to expect additional improvements during fiscal 2004.

For fiscal 2004, we expect capital expenditures to approximate 15 million, with D&A of approximately 28. We expect our sales gains to continue, improved gross margin rates and our operating costs to progressively decline -- leading us to an anticipated return to operating profit for 2004. I will now to the call back to Craig.

I want to take this opportunity to state our corporate strategy, and to make you aware of the challenges we face going forward.

Although we are extremely pleased with our progress during the first-quarter, we still have significant work to do. Let me first speak to our overall corporate strategy. Our vision has been to establish Spartan Stores as a prominent regional grocery distributor and retailer. We have been in the distribution business since 1917, and I believe that our core strategy should continue to focus on that 86-year history. Frankly speaking, it is what we are good at, and it is our core competency.

I also want to be clear in stating that we are not downplaying the importance of our retail operation. Our retail operations will continue to play an instrumental role in our strategy, because operating retail stores gives us unique insight into the challenges our distribution customers face. It also provides us the opportunity to realize significant synergies, as a vertically integrated organization gives our customers a viable exit strategy, and positions us to grow into a strong regional competitor.

As I mentioned during our last conference call, visiting existing, former and prospective distribution customers was one of my first objectives. These meetings were important, and provided our organization with specific insights into the needs of these customers. We believe that these efforts are already providing a return, as evidenced by our first distribution sales increase in three years. We will continue our aggressive effort to secure new accounts and expand sales with existing customers, in order to build on this positive distribution sales momentum.

On the retail side, we made dramatic improvements in our sales performance during the first-quarter. These were a result of the fundamental retail operating changes I covered during our last call. This change process, however, has just begun, and the opportunities for further improvement are significant. We must continue utilizing the retailing knowledge and expertise of our newly appointed executive marketing and merchandising managers. We must also expand the organization's use of effective category management practices, and strive for excellence in basic operational execution.

I want to mention that we recently began to develop a very close working relationship with some of the nation's leading consumer product companies. They have pledged and are providing outstanding support for our category management initiatives. What this means is that we will be delivering on our goal of providing retail customers with an improved store level product mix and more specials on the products they desire most, while improving the profitability of our company. This new working relationship, together with better organizational use of market intelligence, ties directly to our goal of becoming a more consumer-centric organization. We are moving forward with our strategy of allowing customer demand to drive our marketing and merchandising programs, and there is tangible evidence that it is working.

Another challenge and priority is to further reduce our operating costs. The actions we took to reduce corporate overhead in late fiscal 2003 and during early fiscal 2004 will produce benefits through fiscal 2004. But we must find an additional way to trim costs and move closer to industry standards. As I mentioned in the last call, we are implementing stricter budgetary and cost controls to ensure that capital resources are challenged to the programs and facilities with the highest return potential. Better cost controls, reductions in overheads and the efficiency improvements, will help improve our profitability going forward.

During fiscal 2004, there will be additional opportunities to fine-tune our forward buying practices and to further reduce inventory balances and costs without compromising product quality or service levels. In summary, we believe that we have significantly stabilized our business and are moving ever closer to a sustainable, sales growth and overall profitability. Although we still confront many operational and competitive challenges, we are far better positioned today than we were just 12 months ago. Our sales trends are improving. Operating costs are expected to decline. Our balance sheet has been significantly deleveraged, and our operating cash flow is expected to continue improving.

In closing, I will restate our 4 primary organizational priorities, which are central to our future success. Broadly speaking, the priorities are -- to improve sales growth, reduce operating costs, strengthen our financial position and to make category management a customer-focused a way of life throughout our organization. We will now open the call for your questions.

(CALLER INSTRUCTIONS). Chuck Sarantoski (ph) of McDonald investments.

The first question is about the Pharm stores. Craig, can you discuss how you see them progressing in the Northwest Ohio area, where you are pulling out the conventional supermarkets?

That is a good question. Let me tell you, we are really delighted with the position that the Pharm stores are in at this point. We determined that the concept was a viable concept when I first came here, and during the first-quarter, we invested in the Pharm stores by doing what I would call a paint up, cleanup, fix up in every store. The capital expense was anywhere from 75 to $100,000 per store, and we are really very encouraged by the payback that we have gotten on that investment, and by the sales trend that we are currently enjoying there.

Would you care to say what their comps are, on a stand-alone basis?

Let me just say that we enjoy positive comps every week in that group of stores, and occasionally, we see something that might approach double-digit.

If I recall, they have a special union contract with some restrictions on grocery sales. Is that contract portable to take to Pharm (indiscernible) Western Michigan, or can it be adjusted so that you can have a better cost structure and expand the grocery merchandise (indiscernible) there?

The contract that -- we are dealing with two different locals involving the Pharm. First of all, there is a local that covers the Ohio stores, and then a different local that covers the Michigan stores. We just completed negotiations and got a new contract, a 3-year contract, actually just last week. And we are delighted to have been able to do that. We were able to maintain the restrictions at no higher level than what we have been dealing with in the past. And the fact is that we have not reopened our (indiscernible) one year to review the costs and our success level, to determine whether there is any opportunity for change in the deal. And the fact is that we have no controls or restrictions on how we handle groceries in those stores.

But they go (indiscernible) certain percent of sales, correct?

No, that's not true.

Oh, okay. I misunderstood.

I will tell you that the pharmacy business is so excessive -- we enjoy tremendous pharmacy business in these stores. It is mind-boggling to see the kind of performance that we do get in our pharmacies, and the fact is we enjoyed a number 1 position at pharmacy sales in the Toledo market.

In looking at your Food Town business retrospectively, and how you are operating your Western Michigan food stores -- Craig, what are some of the takeaways of what not to do, what to do, and what will be used to strengthen the business of your supermarkets in Michigan?

The biggest takeaway is -- you need to have updated facilities. You need to have a consumer centric focus. I think that it's just a sad situation, where Spartan got involved in a group of retail stores that were really dated. And not only dated physically, but had a dated go-to-market approach. And you put those two things together, combined with new competitors entering the market, there was an increase in square footage last year in that trade area of 12 percent. Which when you put it all together, it is a formula for disaster. So the biggest takeaway is do your homework before you enter a trade area, no what's going to happen, and the fact is that category management is a critical element to success today, and I think that we have learned a lot from that.

How would you characterize the competitive environment, both wholesale and retail, in the entire marketplace? You have got Giant Eagle (ph) sneaking into Toledo still, that may affect the Pharm; you have got A&P trying to deal with Kroger; and then, what looks to me really throughout the Midwest in excess of wholesale capacity, yet you have some flooding customers sort of (indiscernible) shopped or cut loose or whatever. And how does that bode for sales growth for Spartan going forward?

Are you talking about the Ohio market or are you talking about Michigan and Ohio combined?

Michigan and Ohio (indiscernible) -- from where I sit, it looks like Kroger got aggressive because of the competitive space that was opened in Toledo, and it seems to have spread into Michigan, especially Detroit, with A&P changing (indiscernible), merchandising strategy. And that is going to affect some of your Pharm retail, but it is more likely to affect your wholesale customers?

Let's just talk about Toledo and the Pharm. What we have seen is that the entry of Giant Eagle or the impact of Farmer Jack/Kroger, that activity in the market really has not affected the Pharm business. The Pharm is sort of a unique kind of retail outlet, and its very dependent and very pushed on the pharmacy side. And center store groceries -- it's really not as major an affect on that format as it is in the conventional supermarket environment. So we really haven't been negatively impacted by the supermarket activity in the marketplace. And it's just been pretty stable.

Now if you talk about the state of Michigan and what is going on in the southeastern Michigan, as I think I am going to give you my cut (indiscernible) to think. I think that Kroger did a marvelous job of preempting Farmer Jack. I think they felt that Farmer was going to break a program and Kroger broke as good a program or better a program, and executed it very well and preempted Farmer Jack there. I think that Kroger has played their cards marvelously in this whole deal, and I give them a lot of credit for what they have done.

Again, our independent business down there is strong. We are very happy with the kind of wholesale business that we enjoy out of our Plymouth facility; as a matter of fact, Plymouth's numbers are nicely positive. That has something to do with a couple of new customers that we have been able to put into the fold down there, and also with the success that the Bush organization has in Ann Arbor. And (indiscernible), which is a Flynt, more of a Flynt based retailer. I know that there's a lot of activity down there. The activity that we are most concerned about, of course, is what happens in western and northern Michigan.

Your competitor there would be Meijer?

Yes. Meijer is, in my estimation, one of the best retailers in the United States. And we have sort of been able to learn to live with Meijer, and it is somewhat stable at this point in time. The real issue is what is going to happen as Wal-Mart enters the trade area. We currently have 2 non-mature new Wal-Mart's that we are competing against, and we have been able to deal with it. We have a very good handle on Wal-Mart's capital plan in Michigan. We see that their capital plan will continue to be at about the leve; that it's been for the last year or two. And the fact is that the Wal-Mart impact is already in our run rate when you look at our comp sales.

(CALLER INSTRUCTIONS). Tom Spiro of Spiro Capital.

First, on the divestiture side of the ledger -- are there any significant assets left to sell, or are you pretty much done with that?

I would like to let Dave handle that.

From an operational perspective, we believe that we have pretty much completed that process. As we have talked about before, we have what we call non-core real estate, and we expect to continue to work on that asset, and then try to realize the best value for that. So we look forward over the next 1-2 years and believe that there is another 20-$25 million of assets that we can realize value from.

On the operating side of the ledger, the wholesale business -- any significant wins or losses of customers in Q1, and what's the outlook as we move forward?

There are no significant wins or losses. The outlook is favorable in our respect, but we have a lot of opportunity with our wholesale business. It's not just adding wholesale customers. We feel that there is organic growth opportunity for us with the customers that we already work with. We look at our concentration level with every one of these people on a week-to-week basis, and one of the issues that we -- a good thing that we are faced with is an opportunity to expand our concentration with existing customers in most of the trade areas. So I think it's -- I would be -- I wouldn't want to get carried away and say that it is an unbelievable opportunity, but I would say that there is a good opportunity for us to grow our business.

Craig, on the retail side -- in your commentary, you offered the 2 rationales for our engagement in the resell business -- one was that it gives us a window into retailing. That would not seem to be an argument to go beyond the stores we now have, since I would imagine the 50 or 60 stores we have is plenty of a window; and the second rationale was that sometimes our wholesale customers want to sell out. And I wondered on that second point whether you take that as good news or bad news, when a locally operated store comes to us and says are you interested?

the real reason for most of these people to come to us and serve up their stores is primarily because they are facing retirement and they do not have a viable successor. That's generally the case. We are working with retailers that are second and third generation, where they have family members that are willing to continue on. But we are also working with retailers that just don't have a successor. And we need to have a stable business environment, so we would be there to be that successor.

Do we provide much financial support to our wholesale customers? Do we offer them loans of some kind or guarantees, or something like that?

It's very minimal. If you -- as you read our financial statements, you will see that we make some level of lease guarantees, but it's pretty de minimus. We have had a history of making very minimal amounts of loans to our customers. Like any business decision, we weigh our opportunities and we look for our stated rate of return. And if it makes sense and (indiscernible) we consider it, but we typically have been very conservative in those areas.

(CALLER INSTRUCTIONS). Tom Spiro of Spiro Capital.

As you contemplate refinancing the balance sheet, are you comfortable with the amount of equity you have?

If you are asking do we contemplate an equity offering as we've refinanced, the answer to that is no.

Gentlemen, at this time, there are no further questions in queue.

Thank you very much.

Ladies and gentlemen, this does conclude this morning's teleconference. You may disconnect your lines, and have a wonderful morning.

(CONFERENCE CALL CONCLUDED)