西斯柯 (SYY) 2006 Q1 法說會逐字稿

Thank you for holding everyone and welcome to today's SYSCO Corporation first-quarter fiscal 2006 earnings release conference call. Just a reminder that today's call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to John Palizza, Assistant Treasurer.

Thank you Kevin. Allow me to add my welcome to everyone for joining us today on the call. With me here today are Rick Schneiders our Chairman, Chief Executive Officer and President; John Stubblefield, Executive Vice President and Chief Financial Officer; Larry Accardi, Executive Vice President, Contract Sales and President of Specialty Distribution Companies, Ken Spitler Executive Vice President and President of North American Foodservice Operations, Larry Pulliam and Executive Vice President, Merchandising Services; Ken Carrig, Executive Vice President and Chief Administrative Officer and Diane Day Sanders, Senior Vice President of Finance and Treasurer.

On the call today, I will give a brief overview of the quarter, setting the stage for Rick Schneiders to discuss in greater detail our operating performance during the quarter. Rick will be followed by Ken Spitler, who will update everyone on our supply chain initiative and redistribution project. John Stubblefield will conclude our prepared remarks by addressing option expensing for share-based compensation payments under FASB 123r and the impact it had on the earnings this quarter and what we see for the rest of the fiscal year 2006. This will be followed by the question and answer session, which Rick will moderate.

Before we begin with the substance of the call, I have two other brief items. First, a final reminder that SYSCO's analyst field trip is being held in two weeks on November 15 and 16 at the Lansdown Resort in Northern Virginia. The first day features management presentations and an opportunity to meet with SYSCO operating personnel. The second day features the long-awaited public debut of our Northeast redistribution center. If you've not registered to date and wish to attend, please call either myself or Peggy Newman (ph) and let us know you are coming.

Second, allow me to read you our Safe Harbor language. Statements made in the course of this presentation that state the company's or management's intentions, hopes, beliefs, expectations or predictions of the future are forward-looking statements. Actual results could differ materially from those project the. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in the Company's SEC filings, including but not limited to, risk factors contained in the Company's annual report on Form 10-K for the fiscal year ended July 2, 2005, and in the Company's press release issue this morning.

Now here's a quick overview of the quarter, all compared to the same period a year ago. Sales were up 6.3%, reaching 8 billion. Net earnings before the effect of the accounting change were 199.2 million and 208.5 million after the accounting change. Diluted earnings per share were $0.31 before the accounting change and $0.33 after the accounting change. The major item impacting reported earnings this quarter was the adoption of FASB 123r regarding the expensing of share-based compensation payments which decreased reported earnings by 35.5 million, or 31.7 million after-tax, which represents approximately $0.05 per share. Inflation, as measured by the rise in our cost of goods, was 4/10ths of 1%. Now I will turn things over to Rick Schneiders for a more detailed discussion of operations.

Thanks, John. Every quarter, I like to thank the men and women of SYSCO who have worked so hard to help us all be successful. This quarter in light of the events surrounding the two hurricanes that devastated New Orleans and parts of Mississippi, Alabama, Louisiana and the Texas Gulf Coast region, those thanks are even louder and more heartfelt. The dedication of our people who worked their way through these obstacles and take care of our customers while dealing with personal issues of large proportions was truly remarkable.

Let me just give you a single example that I think is illustrative of their dedication. Our New Orleans facility has already began to record some profitable weeks following the destruction their market suffered from Hurricane Katrina. This is in spite of the fact that many of our associates there have to live in temporary housing after having lost their own homes to flooding. I can't tell you how proud I am of those people for taking care of our customers while simultaneously trying to rebuild their private lives.

In reviewing the quarter, I'm going to discuss our operating performance in the same order you will find the items on the income statement. Sales in the quarter were up a total of 6.3% above last year's first quarter. The notable thing about sales during the quarter is that they improved throughout the quarter continuously. To put it another way, the percentage increase in sales for each week this year as compared to the same week last year got steadily higher in almost every week as the quarter progressed. We've continued to see this trend of improving sales through the first three weeks of the second quarter.

As to the reasons for the improving sales trends, we believe that we continue to see the benefits of our sales initiative take hold. Our operating companies are implementing our business review program with great success. During the quarter, we estimate that we completed approximately 8000 business reviews with our good customers. On average, when we complete a business review with one of our customers, we find that we typically hit a sales lift in the mid-teens. It's proving to be a great way for us to help our customers succeed and to further penetrate our customers' menu offering.

In addition on the sales front, in the past few quarters, we've added approximately 3%, or over 300 more customer contact personnel, as compared with the number at the end of March 2005. Sales from non-comparable acquisitions contributed to 1.25% in the quarter from seven different companies -- Robert Foods in the broadline category, three fresh-cut meat companies and three specialty produce companies. As you previously heard, there was only modest inflation in our cost of goods during the quarter. We believe that this has led to a much more stable pricing environment which was reflected in our gross profit margins for the quarter. For the quarter, gross profit margins only declined by 2 basis points, our best gross profit margin performance since the first quarter of fiscal '03. While costs associated with petroleum resins remain high leading to higher prices in our paper and disposables category, a number of other categories, such as poultry, dairy, and meat, have been down, resulting in a basically flat cost of goods overall.

I will turn now to operating expenses. This quarter represented a departure from our recent history in that it is the first quarter in the last 11 where operating expenses rose as a percent to sales. So I want to spend some time here to make sure everyone understands the reason for that increase. First, and this will come as no surprise, fuel costs were an important factor. For the quarter, fuel costs rose by 50% and as a percent of sales, represented 57 basis points. This compares to 41 basis points to sales during the same period a year ago. That's an extra 16 basis points, or $15 million of expense, that we had to absorb in our operations. That's after our continuing efforts to lower average route mileages, putting more pieces on the average truck and working with our customers to ensure that we make the optimal number of stops per week. Fuel is expensive right now and we just have to work our way through this issue, along with everyone else.

We're also seeing high-energy utility costs which added an incremental $2.6 million to our expenses.

Second, the two hurricanes that hit New Orleans, the Gulf Coast and Texas during the quarter also had an impact on operating expenses. We were extremely fortunate that all of our employees came through the storms without serious personal injury and we did not sustain any major damage to our operating facilities in the region. However, the storms have been costly in terms of operating expense. We continue to pay our New Orleans associates for six weeks following Hurricane Katrina. We also employed them, those from New Orleans in our Jackson, Mississippi, Houston and Dallas facilities, if they have temporarily relocated to those areas. It was obviously and absolutely the right thing to do, but it added expense for the quarter since we incurred payroll expenses even though many of our New Orleans customers were completely unable to do business.

In addition to those customers that reopened after the storm, mostly in areas surrounding New Orleans, we have continued to service them from Jackson, Mississippi, Houston or Dallas, which has added to the delivery expense for servicing those customers. Again, the right thing to do for our customers and our long-term relationships with them, but it is costly from a short-term expense point of view. We have not quantified the amount of expenses related to the hurricanes, although we've know this certainly contributed to our increase in operating expenses through the quarter. All of this is on top of the fact that approximately 250 restaurants remain closed in and around New Orleans.

Third, we continue to invest international supply chain initiative. You will hear more from Ken Spitler about our progress on the RDC in a moment, but I want to point out that we are still in the operational ramp-up phase of the project, which means that we continue to incur expenses.

The final factor of note impacting operating expenses this past quarter was pension expense. We knew going into this fiscal year that pension expense was going up, so this is just a reminder to you that pension costs for fiscal '06 will be $23 million higher, or approximately $6 million per quarter. All of this adds up to higher than normal expenses for the quarter. It's important to stress, however, that we continue to make good progress on our basic operating measures. Overall, our key operational metrics are continuing to show improvement.

Let me close this section by reiterating that we truly enjoy the foodservice business. Our customers are among the most creative and resilient people in America and we love going out to their restaurants and doing the research. At this point, I would like to turn things over to Ken Spitler, our Executive Vice President and President of North American Foodservice Operations.

Thank you, Rick. This morning, I want to give you a brief update on the RDC. As you may recall, we began shipping from the RDC into our operating companies in February of this year and rolled out deliveries to all of our Northeast region companies that are at the rate of one every two to three weeks, completing this progress earlier this month. At the same time we will rolling out our direct delivery to operating companies, we also began a phase-in of product categories. With a project as large as the RDC, you cannot simply turn on the lights and start shipping everything to everyone all at once. The reason we took such a deliberate approach was to minimize the execution risks that inevitably come with such a large project.

Now I would like to update you on our previous estimates for the expected financial impact of the RDC for the remainder of fiscal year 2006, which were predicated on projections that the RDC would achieve full volumes by the end of January 2006. We now estimate that full ramp-up of case volume will be reached by the end of fiscal year 2006 and previous estimates regarding the physical 2006 financial impact of the RDC and the national supply chain initiative being a half-cent accretive to flat will not be achieved. However, we are and remain confident that the anticipated long-term benefits will be achieved. We continue to learn more as we move forward. At current volume levels, we have identified a number of operational changes that will make the RDC more efficient.

To give you an example of what I'm talking about, one new function being established is the guidelines for the number of layers on a pallet so they are standard in all 14 operating companies. This may sound pretty mundane until you consider that the vendors' pallets are stacked, maybe stacked eight cases wide and eight cases high, and then an operating company wants pallets stacked eight wide and seven high. The amount of labor and handling involved in rearranging thousands of pallets in the RDC becomes critical. It's not an efficient way to do it, so we are standardizing so that we're all consistent from the vendor to the RDC and the operating companies.

In order to implement this and fine-tune other functions, we will be holding our product volume flow-through at the RDC constant at 160,000 cases per day for the next 60 to 90 days before continuing to ramp up the planned 300,000 a day. Now I would like to turn things over to John Stubblefield.

Thank you Ken. What I'd like to cover this morning is the impact of our adopting SFAS 123r -- Accounting for Share-based Payment. SYSCO adopted this new standard effective with this fiscal year and utilized a modified perspective basis transition method. It is important to note that with this transition method, the prior-year financial results are not restated and as a result, the current year results of operations are not comparable to the prior year.

The first quarter of fiscal 2006 includes incremental share-based compensation cost of approximately $35.5 million, or $31.7 million after-tax, which represents approximately $0.05 per share. As most of you know, this new accounting standard calls for expensing of share-based compensation based on the fair value of the shares granted to employees and directors. SYSCO has several share-based payment arrangements with its associates and non-employee directors, including stock options, the employee's stock purchase plan, stock issued as part of the management incentive bonus plan and stock issued to directors as a component of their annual retainer fee. SYSCO has always expensed the stock issued as part of the management incentive plan and the director annual retainer fees.

The change is that now we will be expense options granted and stock issued as part of the employee stock purchase plan. When you review the financial statements in our release, the areas that the new standard impacts on SYSCO's financials include lower operating earnings due to the additional compensation expense, a higher effective tax rate due to the low tax benefit recorded associated with the stock compensation expense, a lower delivered shares outstanding number due to a change in how the Treasury's stock method is computed, and of course, a net lower diluted EPS as a result of those factors. You will also see three new line items on the Statement of Cash Flows as a result of the new standard.

As stated at the outset, the impact to the first quarter earnings is an additional compensation expense of $35.5 million. We estimate that the total additional compensation expense for the fiscal year 2006 will be approximately 90 million to $110 million after tax, or between $0.14 and $0.17 per share. This is above the initial estimate of between $0.11 and $0.13 per share. The after-tax amount is dependent on many factors which will impact the associated tax benefit that SYSCO will ultimately record and is difficult to forecast.

You should note that our estimate for the impact for the full year, coupled with the impact of the first quarter, indicates that the amount of compensation expense for the year is not evenly spread throughout the year. The reasons for this are as follows. The terms of SYSCO's options generally provide that if an employee retires at certain age of years of service minimums, the outstanding options continue to vest as if the optionee continued to be an employee. Under the new SFAS 123r rules, options that are issued to employees that have reached this threshold are immediately expensed and full upon grant, rather than expensed over the five-year vesting period. Since SYSCO grants the bulk of its annual option grants in the first quarter of each fiscal year, the option expense for that first quarter will include the expense associated with options issued to employees who have reached the retirement eligible thresholds.

As a result, the expense in the first quarter of each fiscal year will be higher than the remaining quarters. I would now turn things back to Rick so we can take questions from people on the call.

Thank you John. Operator?

(Operator Instructions) Mark Kalinowski, Buckingham Research.

I wanted to ask about the inflation trends. Do you see a chance that inflation may actually dip negative in the near-term? And if so, how do you foresee that impacting your business?

Mark, thanks for the question. That is a bit of speculation, but I will try to answer it anyhow as best we can and ask my colleagues to join in. With the higher input costs for the delivery of product and with some of the higher input costs related to packaging, a lot of the packaging today as you know is made out of plastics and other items that are made with petroleum resin. I would anticipate that we will see inflation, but it in a more moderate range than we have seen it over the last 15 months or so. So it might tick up a bit. I don't see it getting back to where -- the underlying commodities we don't think suggest that inflation gets as high as it did 15 months ago, but there will be some higher input costs which will drive perhaps a amount of inflation. But we think things remain in relatively this range.

Marc Husson, HSBC.

Two questions if I may. You were specific before about flat to half a penny accretion with the RDC for this year. Can you amend that guidance now and tell us what you think it's going to be -- the impact to the P&L account is going to be for the year? And that's the first questions. The second one is, if the stock option expense is greater in the first quarter, does that follow that the notional tax charge was higher in this quarter then you're going to see for the balance of the year?

To the first question in terms of guidance for the remaining of the year for the RDC, we're not giving additional guidance at this point. We will report to you at the end of each quarter as to what we have achieved, and our expectation is as we continue to go through the ramp-up process, we would begin to the those benefits starting to flow, but we are not giving guidance at this time.

Secondly, in terms of the tax impact on the option expensing, with the situation of 123r and without restating prior results, the taxes are impacted only as options become non-qualified or begin out as non-qualified. The bulk of our options are issued as qualified options and it's only after the point in time that they become non-qualified that we get the tax deduction. The results being in the first quarter that charge of 35 -- or an additional expense of $35 million, our tax rate on that was only 11% against our core rate of 37.5%. So we will see over time a larger benefit on the tax size as those options if and when they become non-qualified are disqualifying dispositions.

Can you just say whether or not you feel like the RDC is going to give you the kind of returns you had originally talked about as being suitable for -- on a risk-adjusted basis for very large projects like this?

Marc, I would like to echo what Ken said during the scripted portion of our call, and that is that in fact we continue to see better operational efficiencies than we expect. We feel very, very good about the long-term prospects of the RDC and the national supply chain initiative. This is strictly a timing issue and we could be faulted for that. But I will tell you that we feel very, very good about the way the project is going. We had to slow down just because we were putting extra pressure on the system. We learned some things as we did that. And correspondingly, we also picked up some additional efficiencies that we didn't realize were going to be part of the RDC.

For instance, we're shipping more product into the RDC today on rail cars then we anticipated and rail freight is roughly half the cost of truck freight. So it's some of those things that we're learning as time goes on. The timing may be a little bit off, but we're absolutely committed to and believe that this project is going to produce significant results for SYSCO, our customers and our suppliers.

We're not changing our long-term position in terms of our guidance from the RDC.

Great, thank you very much.

John Heinbockel, Goldman Sachs.

Hey, Rick, can you talk to the improvement in the sales trends during the quarter and into the second in three respects. Geographically, how broad-based is it, where is that coming from? Two, by division, if you look at traditional broad-line versus sigma (ph) versus other. And then three, by product category; center of the plate, canned and et cetera. Where is the strength coming from and how broad-based is it?

The strength itself is very broad-based and where a quarter or two ago we saw higher sales growth at Sigma, today, we're seeing it kind of across all of our operations. We feel good about the fresh point product companies and meat companies are doing exceedingly well. The broad line companies have increased their rate of sales growth perhaps better than any of the divisions. So we feel very good about it, and broadly geographically, we see sales growth -- you can do the numbers, but from volume growth, we see about a 5.5% swing this quarter versus the same quarter last year. And geographically, we are seeing that kind of a swing in almost every region of the organization.

Now there is some variation. The Midwest is not quite as robust as the Southeast, for instance. But by and large, there's not huge variations, so it's broadly based. Product -- I don't know that we have good information about that, but I would, just on the specialty side of our business, we're seeing good growth in fresh point produce and the meat operations. It's broad, John, we're very gratified with that.

How do you think that fits with the weakness we saw through July, August and September in the restaurant end demand generally? You're taking that much more share from your competitors and is it all the business reviews?

I think probably a couple of things. One would be, definitely we highlighted that in our earlier comments -- the business reviews continue to mature, we're doing more of them. The companies are better at them then they were a year ago certainly. And the other that I would say is, if you look across the chain business, you see some chains doing better than others. But on the independent side of our business, we see good activity out there. So it's partly customer lift, and then it's partly our sales initiative.

Finally, anything new on the pricing environment, or is it fairly stable, or is it getting better, getting worse -- competitive pricing?

It's about the same as it has been. There's nothing that we could put our finger on and say that this is happening. We have little pockets here and there that rise up, but otherwise, not much at all.

Okay, thanks.

Elena Mills (ph), Atlantic Equities.

Thanks and good morning everybody. Just a question on the SYSCO brand please. I have noticed that your SYSCO brand share of MA served (ph) sales declined a little bit year-on-year. I'm just wondering if you could talk to the reasons for this, and also what you think is a sensible target for SYSCO Brand penetration going forward?

I will ask any of my colleagues here are also to jump in, but I think that one of the things that happens in the SYSCO Brand is when we introduce big programs under the SYSCO brand umbrella, things like the new Ranch and Grill Beef program, those will tend to move the needle. If we don't have introduction of a relatively large program like that, you don't see the impact or you don't see the growth in the SYSCO Brand percentages. Last year we didn't. We introduced Ranch and Grill in February of this year, so we have it -- and we have it in 61 operating companies, so we're pleased with that. But probably a little too early to really move the needle.

Also, I would say that we are reevaluating kind of our SYSCO brand approach, if you will so that SYSCO brand - we want to reemphasize SYSCO brand and make sure that those products that come under a SYSCO brand provide the real level of value for our customers. They're value-added products. That is kind of the beginning premise of the SYSCO Brand story.

On the other hand, if we have commodity items -- flour for instance, bagged flour, 50-pound bagged flour, 25-pound bagged flour -- it is strictly a commodity. We are asking ourselves whether we can do a better job in terms of procurement in providing better value for our customers even if that may not be under SYSCO brand. So you may see those numbers fluctuate and over time, we will try to give you some indication of the impact. But we are reemphasizing the fact that SYSCO brand products must have value-add for our customers.

Thanks. That is very helpful. And if I could just follow up with a question on acquisitions. I'm just wondering, now that you have some experience with the International Food Group acquisition, are you perhaps more excited about opportunities for the expansion of SYSCO's business internationally? And if so, which hat international markets do you think offer the best opportunities for the application of SYSCO's very unique and powerful model?

First of all, we continue to do research in other geographies, other parts of the globe -- Western Europe, the UK and other areas. However, we have learned an enormous amount from IFG. Also they're a small acquisition, they have provided a lot of insights into the demand for product around the world, with the demand for foodservice products around the world. So frankly, I think that we're still in a learning phase here with IFG, but they're pointing us see some additional opportunity. IFG ships into 90 countries today. So they're a global deliverer, distributor of product and they do a terrific job. So we're still -- I think at this point, it would be fair to say that we're still doing our research and still engaged in a lot of learning.

But it sounds like you're perhaps more interested in the international space, having had your positive experience with IFG now?

I guess that's fair to say, without making any commitments about time or specific geographies or those kinds of things. I think that your comment is a good one, yes.

Thanks very much.

Ajay Jain, UBS Warburg.

Good morning. My first question has to do with the hurricane impact. Rick, I know you mentioned you would not further quantify what those costs were for the quarter, but could you quantify what kind of sales lift you got from the competition based on the weather impact?

Ajay, actually, that would be about as difficult I think -- I'm looking at Ken Spitler right now -- but about as difficult as quantifying I think the costs associated with it.

I don't see that we got a lift out of that.

There will probably be -- our experience has been in the past when we've bad fairly major events in Florida, large hurricanes in Florida, that after a period of time there's a lift in the business. The situation in New Orleans is that we can't get enough workers into the area. I'm not talking about just our workers, but construction workers, et cetera. So it's a limited market and we still have roughly 250 restaurants that are closed in the area. So all of that makes it difficult to determine whether we've gotten a lift or -- if we look across the regions of the company, it would not indicate that we have any particular lift that we're experiencing at this time.

I see. The reason I ask was in the release, it said there was some mention of extra expenses to serve some competitors' customers, so I was just trying to get a handle for whether there was any kind of a material sales pickup and whether that was -- if that was the case, whether that is a nonrecurring event or whether you feel like it might be a sustainable increase in market share?

I would say that that it's mostly non-sustainable. Most of those competitors will in one way or another be back in business, so it's a period of time. That was kind of hit and miss on that.

Well, we react to those I guess in a generous way, that we -- during a crisis like that, we don't intend to try to take that business from a competitor, we just try to get the customer service and get everyone that we have the capability. We had the capability of servicing them, so we did. A lot of them were health care units that we felt duty-bound down to service and at the same time, to act generously about it.

Okay, but you don't deal with this (ph) material?

No.

Just a quick follow-up question. In terms of your sales initiatives, although you're getting some positive sales contribution from those sales initiatives, can you comment on whether you're seeing any kind of increased cost pressures from the hiring activities and the business review process that is underway right now?

I think the important thing there that it's really -- the business review process is a resource allocation project as much as anything. So it's making sure that we have the right resources focused on the right activities for the right customers. And so it has allowed us to move some resources and to pinpoint their activities, direct their activities, more effectively than we have in the past. So in terms of additional sales costs, frankly we don't see that.

We're not seeing that at all. In fact, we're seeing a small tick down. But for the most part, there are some of our best salespeople doing these reviews so it really requires your best people to do it and do it right. We have not found the necessity to backfill those.

Okay, great. Thank you.

Meredith Adler, Lehman Brothers.

Good morning. I have a few questions for you. I was wondering if you could just go into a little bit more detail what you mean when you say that the new RDC is causing pressure in the system. Obviously, this is the first one you've done, so it's a learning process. I would just like to just understand what the impact is on your business, and then I have a few more quick questions.

I will just give your a real concrete example of something that happened. We ended, not from a systems perspective, but from frankly a human error, we missed school openings by one week and so that we had school openings started one week earlier than the system anticipated. So we had not enough product in the RDC to cover this additional demand of the school openings and it really caused some problems. Now I assure you that next year at this RDC and at subsequent RDCs, we will not miss the school openings by a week. We covered, all the customers got taken care of one way or the other, but it did put pressure on the system and it took us three or four weeks then to catch up again.

So it's those kind of basic -- the system worked flawlessly -- I'm talking about the software now. The software continues to work flawlessly, but it's those kinds of things. We had a situation where some of the pallets, although they were ordered in full pallets, were being split into half pallets and we had to go in and adjust that. We ended up filling up part of our freezer. But again, a learning process and one that won't be repeated, that problem will not been repeated in subsequent RDCs.

Other than that, frankly, we have not had any issues. It's just that we have gone from doing 10,000 cases a week in July to doing 160,000 -- I'm sorry -- 10,000 cases a night to 160,000 cases a night, that it just stresses the system. It's important that we learn when and where that happens. So I would get back to my earlier comment that we feel very good about the project, we've learned an awful lot and that we, as John said, we anticipated long-term returns to be exactly what we anticipated them to be.

And the slowdown in this first RDC, doesn't change the schedule for the others? I know your press release says that you are progressing with one in Florida and will probably announce soon a third. Are those all staying on the same schedule they were on before?

Yes, they are.

Yes, that's absolutely. We have the land and I think we're about ready to move dirt in in Florida. So we're moving forward.

My next question, I'm fairly new to the company, so I was just wondering whether you could talk about why the option expense is coming out higher than you had intended, or originally intended, but I originally guided as to you, and whether you have any plans to change your stock compensation programs now that you have to expense the options?

This is John Stubblefield again, and there's two primary reasons why we had to update our guidance on option expensing. The first is that as we got into the details deeply and understanding that with the expensing requirement tied into retirement age and qualifications for certain individuals caused -- again, because we issue a significant number of our option grants in the first quarter -- those all to be expensed in the first quarter.

The second issue had to do with the tax benefit. And since the taxes aren't impacted until those options become either disqualifying disposition or non-qualified upon issuance, did we get a tax benefit? And going through -- as you can imagine, you have to go through that detailed analysis by grant, by individual to calculate that size tax benefit. And until we got finally through that this quarter, we underestimated, or I should say overestimated, the tax benefit on the front end. We will eventually achieve those tax benefits as those options become disqualified, if you look back at prior history, but we have to get to that point before we will see that happen.

My final question is about the business reviews. Is one of the end goals here that you are going to eliminate customers that just are not profitable to you, or is that not part of it?

Actually, we have worked with our operating companies and they have worked over a period of the last couple of years to make sure that all customers' strategies, if you will, integrate with ours. That is, are they able and willing to give us an order that is large enough for us to make a profit on that order. And in some cases, we have found that there are customers that for one reason or the other, very legitimate on their part, could not give us the requisite size of an order. So we have fewer customers today than we had a year ago.

However on the other hand, the customers that we continue to gain, the customers that we've had for a number of years, are stronger and stronger than they have ever been. And let me give you one metric of that, if you will. This year, the fiscal year that just closed, we had the lowest net bad debt write-off in our history. And so the customers that we have within SYSCO today are stronger than they have ever been, the base is stronger than it has ever been. So, sure, we will manage that as time goes on.

But it's really all about penetrating those good customers. That is why we're doing them today. It's an opportunity to increase our share of business with those customers.

And related directly to that is, during the business reviews, our focus is to help those customers be more successful. So we of course want to grow our business with those customers, but at the same time, we want to help those customers grow their business also. So part of the business review is helping them think through their menus. That's a central part of the business review -- how to do promotions, how to reach out to their patrons. So it has a very gratifying process and is producing significant results for us.

And they work because they have value for the customer.

Great. Thank you very much.

Let me just finish the second part of the question that you had asked earlier, and that was -- had we changed our stock compensation program. We have amended it to some degree, and the most significant change -- we issued something called Care Shares (ph), and these were incentive stock options given to individuals based upon -- very broad-based -- based upon years of tenure. We began that roughly three years ago. We discontinued that this year and now are compensating based upon tenure still, but with a cash payment. So we will see a runout over the next two years of those options. They're not being replaced as such and that was a fairly significant grant in each year for those years that we did do that. So you will see our number of outstanding options trend down over the next several years.

Great, thank you.

Eric Larson, Piper Jaffray.

Hi, good morning everyone. We're kind of beating the stock option expensing to death here, but this is for John Stubblefield. John, it is my understanding that the expenses would be pretty even across the quarters. And I guess from my understanding of what you had this quarter, given the grants are more first-quarter weighed, is that why you have a disproportionate more of stock option expense in Q1?

Eric, again, the reason for that is that there is a requirement that those option grants to individuals who have met the retirement threshold, whether or not they may not retire for another 10 years, those options have to be expensed immediately in the quarter that they are granted as opposed to amortizing over the five-year period that the options run. So because we issue principally all of our option grants in the first quarter, you're going to see that first quarter expense higher than what the following three quarters will be.

I got you. So it's not an allocated expense that you can spread evenly? It is as it is incurred?

Yes. The anomaly is, those grants to the individuals who have met retirement criteria.

Quite frankly, that's simply a nuance that we didn't take -- we just missed it when we made our original estimate about spreading them evenly throughout the year. And when we got into the detail, it was something we said, well, we really have to adjust things.

I understand. Thanks. And then maybe the final question is for Rick. Really, truly, your revenues have shown a number of quarter of gradually increase -- improving real sales growth, et cetera, and obviously, it kind of goes into the face of what we're actually seeing in industry as maybe some slowdown and things such as that. Obviously, you're probably gaining share at this point. Would you attribute a lot of this to your business review plans? What would be the difference today why your revenues are doing quite a bit better and probably better than what the normal perception is of the restaurant industry?

I think your assessment is accurate, Eric. I think business reviews are contributing significantly, but it's probably a little bit more than that; it's just the way we think about our go-to-market strategies today. Of course, one piece of that we have not talked a lot about because it's not as mature is business development, and business development is the process by which we look for new, good customers. Business review, if you recall, is about getting more business in our existing customers. Business development is specifically designed to find those high-quality, non-customers out there and bring them into the fold. So I think it's a combination of that. We mentioned in the script that we increased our customer contact personnel by 3%, about 300 folks. That is not enough to do it all. None of it by itself is enough to do it all. It's kind of just having now I think a good foundational go-to-market strategy in place that's really taking hold.

I would like to remind you that throughout SYSCO's 35-year history, we have historically grown at 2.3 to 3 times the rate of the market itself, and this is a return to historical norms. This is not an anomaly.

Correct, but again, you're starting to see that return in the last two or three quarters -- you're starting to get back to that and it's nice to see.

We couldn't agree with you more.

Thank you.

Andrew Wolf, BB&T Capital Markets.

I wanted to follow-up in two areas, first in sales, in the broad line particularly. I want to parse it a different way. Was there any growth in new customers? And sort of the sidebar to that is, are you still calling your D (ph) customers, or what have you, at a high rate? And that versus penetration of existing customers through business review?

As I mentioned earlier, we continue to manage all strata of our customer base and so where appropriate, we and the customer have to make some decisions. However, having said that, I think that most of the larger pieces of that have already taken place and it will just be kind of an ongoing process and we'll continue to review on a discrete basis customer by customer which customer strategy matches our customer strategy. And so the other part of the question in regard to new customers is, absolutely, we have new customers that have come onboard. And I would say, most of that new business is on the independent side of our business -- those are providing -- those new customers providing lift in the organization, lift to sales.

Is that netting out positive yet versus called customers?

Oh yes, absolutely.

That's good to hear.

The other thing you have to remember is that we're, as we've talked about before, the new customers are generally larger even though they're independent and of higher quality than some of those that are going to other distribution.

Hurricane Wilma has happened in the current quarter, but could you just update us on that, if it's had any measurable effect on the operations in Florida?

Sure. It hurt for quite a few days, and of course it was -- actually it did some damage to our buildings, which was unusual. We usually have avoided that up until then, but we had a little bit of damage to both our Southeast and our Miami units. However, they were only unoperational for about a day and then both are up and running, both are what I would say back to normal shipping. All of the repairs are done or are underway. Of course, we're pretty good at running under a generator and running under -- we're pretty good at the emergency drills by now and have had a lot of practice here lately. And it hurt us as they usually do for a few days prior and a few days post. But generally speaking, we see some, at least in the Florida area, good activity right after people are out repairing things. So we're in good shape there right now.

Thanks. Just on the cost side based on what you reported in the release, it looks like the RDC costs on a gross basis was close to or maybe a little over the $15 million guidance?

I think that's accurate.

And since I think, at least the way I'm looking at it, maybe 10 million or so of that or a little less is just depreciation and amortization. Could we straight-line that 15 million as sort of a gross number for the rest of the year?

Andy, we're just not giving any guidance to the balance of the year.

And last --.

Andy, we just don't to get ourselves in the situation where we have to come back and change the guidance, which everybody views negatively.

Okay. And also on the RDC, how much of the slowdown and the ramp-up is sort of from finding efficiencies opportunistically versus sort of a practical -- hey, let's slow this thing down and cycle it a whole year so we don't get more surprises, more just sort of -- more adding more insurance to the process, if you will?

It's both of those. Frankly, mostly that's my mistake. I got a little excited about the benefits that I was seen out in the op-cos (ph) and started pushing it a little faster than I should have. So really, it's really my fault. But we really needed to slow it down and make sure we were doing it right, we didn't have to come back and redo anything. And again, as we push the system up to about 200,000 cases, which we were doing a couple of nights, that's where we saw some opportunities to be more efficient. What we're seeing is that everything at the op-co side is really good, but we have to be very -- as efficient as we can be out the RDC. So those are the opportunities that we see -- as we see as something that we can add to the mix there. And some things that frankly on paper we thought were good ideas didn't turn to be a good idea and we needed to change them. Relatively minor, but in the 60 to 90 days, we can make all of those changes so we don't have to do them again.

Does that relate more back to working with the vendors, or just the actual logistics within the RDC? That's my last question.

You know, we have some of both. This is all new to the vendors too, so we've had some issues with some of the vendors where they're not quite as fast as we would like them to be and we understand that. But mostly, it's -- for the most part, it's things that we need to do.

Ken, and I would just add onto that, that the suppliers, the vendors, have been very, very supportive. We have great folks in there, and when we asked to get some help in regard to one of these changes, they are right there for us. So it has been gratifying to see that.

Again, most of it's on our side.

Got it. Thank you.

Jason Whitmer, FTN Midwest Research.

Good morning. A couple of questions on investment side of things from two different angles, one from the RDC. Maybe (indiscernible) some longer term investments. And then secondly, over the near-term. But with RDC, are you seeing any needs for any incremental capital with postponing some of this either in the first phase or as you look into --number two or number three, maybe remind us what some of the bills are going to look like cumulatively for each of those projects.

And then secondly on the near-term basis, any need for ramping up or having a leading investment with these customer contact reps, relative to your sales base? I don't think last quarter you said would be earnings neutral. You still thinking that way with an incremental 3% this quarter and the target for 6% for the year?

Let me take the second one first, and that's in regard to the incremental expense related to the business review process and business development. And as we said earlier, that's primarily a reallocation of resources. So we don't anticipate -- in fact we've seen a slight downtick in our total sales expense, so we don't anticipate that even with the 6% increase in customer contact personnel, that we will see additional expense related to sales. We've already gotten, based on what we said, we have already got about half of the number of increases already, but we will keep driving. That was just for our interim goal of 6%; we will keep driving those numbers to drive our sales.

On the building side, we're not seeing any. In fact, we think that as we've kind of reexamined our design on the first one and looking at the second and third ones, that we may not need to build them quite as big. But the other thing that I want to remind you, is just that system-wise, we're paying for it as if we had nine of them out here. So keep that in mind. We have that all front-end loaded as if we had them all built. So I guess I understood your question, right?

Yes. And then maybe just a brief question for John Stubblefield. Working capital looks to be a little heavy this quarter, particularly on inventory. Is that an inventory ramp up for the RDC as you build up case volume, or for other just general seasonal variances?

Yes, there's just a small amount of ramp-up for the RDC, but it's not the biggest part of that built in inventory for the quarter. I think it's a reflection of the improving sales environment out there and a little bit of optimism coming back on everybody's part in terms of making sure that they get the products they need to service their customers. So while, yes, I'm a little disappointed that inventories grew a little over 7% and sales a little over 6, but I think we will see that both trend down in terms of inventory growth going forward as people get adjusted to the sales volume, and we will continue to work on that.

Thanks.

Jack Russo, A.G. Edwards.

Hi, guys. Could you just address the operating expense issue going forward? Obviously, we have sales headed in the right direction and we're all real happy about that. Just on the operating expense front, Rick, you went through about four different items. It looks like all of those could continue in the second and perhaps even the March quarter, and just talking about any programs you have going maybe internally to offset some of these rising cost pressures? Thanks.

One of the biggest, as you've indicated, one of the biggest increases in operating expense is directly related to fuel. That was $15 million. And we continue to work with our customers on a reasonable and responsible basis for fuel surcharges and to make sure that those fuel surcharges reflect the increase in the cost of fuels at SYSCO. So that's huge. The hurricane expense, even though we have Wilma in the third quarter, should be -- that should not continue on. Other than that, well pension expense is going to -- that will be four quarters of that based on where we are today.

Option expense will come down a bit.

And option expense will come down a bit.

Thanks, everyone, for your participation in the question and answer session. I will then turn things back over to our speakers now for additional or closing comments.

Let me say to the group, thank you for joining us today. I would like to underscore earlier that I've never been prouder of this organization. We have been through a tough short-term environment for the reasons we just talked about, vis-a-vis Jack's questions and the corporate staff and the operating companies have done just an incredible job in the face of pretty tough events out there. So this is a great industry and SYSCO is better positioned than it has ever been to continue to grow in the industry. So thank you for your continued support, and John Palizza will be available for questions if anyone would like to follow on with John. Thank you.

Thanks, again, everyone for joining us. That will conclude today's conference call. Have a good day.