西斯柯 (SYY) 2007 Q1 法說會逐字稿

Good day everyone and welcome to today's Sysco Corporation first quarter fiscal year 2007 earnings release conference call. As a reminder, today's call is being recorded. And at this time for opening remarks and introductions, I would like to turn the call over to Mr. Kirk Drummond. Please go ahead, sir.

Thank you, operator. This is John Palizza. Allow me to add my welcome for everyone to joining us today on the call. My apologies for the late start. We had a few issues with the conference call company. 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 Food Service Operations; Larry Pulliam, Executive Vice President Merchandising Services; Ken Carrig, Executive Vice President and Chief Administrative Officer; and Kirk Drummond, Senior Vice President of Finance and Treasurer.

On the call today, I'll give a brief overview of the quarter and John Stubblefield will provide greater detail on our operating performance during the period. Larry Accardi will then discuss developments in our emerging chains and SYGMA business and Rick Schneiders will conclude our prepared remarks by discussing some of the things we are starting to implement to position Sysco for continued future success. This will be followed by the question-and-answer session which Rick will moderate. We ask that during the question-and-answer sessions questioners limit themselves to one question and one related follow-up question as we regularly have more people asking questions than we have time. This will allow more people to get their questions in.

Now allow me to read you our Safe Harbor language. Statements made in the course of this presentation that state the Company's or managements intentions, hopes, beliefs, expectations or predictions of the future are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and actual results could differ materially. 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 1, 2006 and in the Company's press release issued this morning.

To start things off, here's a quick overview of the quarter, all compared to the same period a year ago. Sales were up 8.3% reaching $8.672 billion. Sales in the first quarter of this fiscal year were reduced by accounting pronouncement EITF 04-13, which reduced reported sales by approximately $92 million, or 1.1%. Sales from non-comparable acquisitions contributed 1% to the quarter sales, from eight different companies, four fresh cut meat companies and four specialty produce companies. Inflation in our cost of goods resurfaced during the quarter, with cost of goods increasing 2.4% based on our internal measure of inflation. With the exception of dairy and poultry, which declined, cost of goods rose in all categories with meat and produce registering the largest increases. For the quarter, net earnings before the cumulative effect of accounting changes were $228.8 million, up 14.8%. And diluted earnings per share before accounting changes were $0.37, up 19.4%. After the cumulative affect of accounting changes, earnings were $189 million, down 9.3%, and diluted earnings per share were $0.30, down 9.1%.

In summary, this quarter exhibited nice sales gains coupled with expected favorability for several expense items, which resulted in good gains in earnings before the cumulative effect of accounting changes. At this point, I'll ask John Stubblefield to step in and provide a more detailed discussion of operations in the first quarter.

Thank you, John. Before talking about our basic operations, I need to discuss a couple of accounting items. First, this is the second of four quarters in which we are non-comparable on reported sales due to the effect of EITF 04-13. As a reminder, the accounting pronouncement requires that in situations where you purchase product from a customer and then later resell the product to the same customer, you net the purchase in the sale and only record the gross profit resulting from the final sale. This situation arises for Sysco when our customer has a proprietary item which they have either manufactured or sourced, but they require our distribution and logistics capabilities to get the product to their restaurants. The result of this change in accounting procedure lowered our reported sales by approximately $92 million, or 1.1%, raised our reported growth profit margins by approximately 20 basis points, and raised our expense ratios by 15 basis points.

The second item relates to our corporate owned life insurance policies. Due to the availability of a new accounting pronouncement, we have elected to treat these under the investment method rather than the previously utilized fair value method. As a result, we incurred a below the line accounting charge of $40 million. The accounting change will eliminate the earnings impact of fluctuations in the fair value of life insurance contracts. Comparing net earnings in the first quarter of this year to the first quarter of last year's results in a swing of $50 million from fiscal year 2006, when we incurred a $9.3 million benefit by changing the measurement date of our pension plan. In addition, we incurred $4.6 million of lower operating expenses in quarter one last year by recognizing a gain for the carrying value of the life insurance assets.

With that out of the way, let me talk about the fundamentals of the quarter. During the first quarter, we continued to execute on our plan, which resulted in strong sales growth. Our business review, business development, and growing number of customer contact personnel were all contributors to solid sales gains. During the course of the first quarter, we conducted over 11,000 reviews with our U.S. customers and we continue to get solid results from all parts of the country. And that compares to approximately 8,000 business reviews conducted during the first quarter of last year. Sales were also helped by our continuing to add to our customer contact personnel. During the quarter, we increased our customer contact personnel by approximately 1%. Gross profit margins were up 15 basis points in the quarter to 19.3%, including a 20 basis point benefit due to the impact of EITF 04-13. Gross profit margins reflect a decrease on a comparable basis. The slightly lower margins were a result of sales mix shift as certain lower margin segments grew faster than broadline during the quarter.

Total operating expenses were five basis points higher than last year, with the implementation of EITF 04-13 causing an increase of 15 basis points. We have begun to see some expense leveraging across certain segments of the business as a result of our sales growth coupled with earlier investments in head count. Operating expenses were favorable in part due to pension and share-based compensation expenses ending the quarter about $13.3 million and $11.7 million lower. Share-based compensation had a net impact of $8.9 million after taxes. Fuel costs, on the other hand, came in higher than expected, ending the quarter $8.5 million unfavorable to last year. Consistent head count was a major driver of cost control. Wages and benefits as a percent to sales decreased in all areas except selling, where we were adding customer contact personnel as planned. One other item to note is that our tax rate was 1.5 percentage points lower than last year, which was primarily due to the effect of the deductibility of stock compensation expense. Thus, this year's stock compensation expense being lower had a lesser effect on the effective rate.

I'll finish up this section by saying that we are gratified with the continuing vitality of sales, the strength we see in the independent restaurant and food service sectors. We believe our game plan continues to work, building our sales, earnings, and market share. At this point, I'll pass the microphone to Larry Accardi, our Executive Vice President, Contract Sales, and President of Specialty Distribution Companies.

Thanks, John. We are proud of our unique ability to service customers. To this point, we're excited about the progress made in our emerging chain initiative. This initiative is targeted towards the top two to 400 emerging restaurant chains that are not currently customers of Sysco. These customers typically begin as one restaurant and over time grow into multiple sites across the same city or into surrounding markets. As emerging chains grow, their requirements change and we are creating ways to be responsive to their needs. These customers expect similar pricing and delivery processes for all locations, even if the locations spread across multiple operating companies. Over the past year, Sysco has put a team in place to deal with these accounts on a regional basis with the full support of the operating companies. Emerging chains have become a $400 million business for Sysco and we believe the segment will continue to grow in the future. This initiative illustrates a successful venture, whereby Sysco has identified an evolving market and has committed resources to enable emerging chain customers to achieve continued growth opportunity.

Separately, SYGMA has incurred many changes since quarter two of fiscal year 2006 to position the business more competitively in the future. Over the course of the past two years, we have aggressively replaced lost sales, growing sales by more than 10% in each of the last two years. Changing the customer base resulted in overall sales growth, but it also caused some internal disruption to the existing business. Productivity loss, equipment repositioning, head count fluctuations, warehouse resetting and facility expansions are some of the challenges we've addressed over the last nine months. In addition, the business experienced higher delivery costs due to fuel expenses and lower same-store sales to many of our customers. SYGMA has overcome these issues and is now positioned for further growth and increased profitability. We've realigned resources at our distribution centers to meet the business needs. We've also modified our truck routes to improve efficiency and partnered with our customers to share the higher fuel costs through surcharges or fee increases. Cases for stops have been improving as certain customers are showing signs of rebounding from the downturn. Finally, our two new facilities in Kansas and California are past the start-up phase and are expected to begin contributing positively to our profitability. In short, we believe SYGMA is now positioned for solid sales and earnings growth. And now for the final portion of our opening remarks, our Chairman, CEO, and President, Rick Schneiders, will discuss the opportunities that lay ahead.

Thank you, Larry. I'm encouraged by our results one quarter into fiscal year '07 and feel we're well positioned to deliver good sales and profitability for both the short and long term. We've got the sales momentum and we're comparable on many of the expense that were issues during financial year 2006. When you look at our performance before all of the changes in accounting, both this year and last, we have good, strong results. I am confident that we will continue to execute on our plan at bringing results to the bottom line.

Now I'd like to talk about some of the things we're doing for the longer term success at Sysco. As many of you know, we've been engaged in the strategic planning process for about 18 months and we're now at a point where we are beginning to act upon some of our findings. Today I'm going to refer to two of these initiatives, sourcing and integrated delivery.

With respect to sourcing, it's important to understand that Sysco has historically grown as a very decentralized Company. There were many good reasons for this, among them a desire to have our operating companies remain close to local tastes and preferences. And we've been very successful over the years utilizing this model. However, we also recognize that there are limits and disadvantages to the model as well. With local sourcing of product we do not buy like a three -- like a $33 billion company but more like a collection of 300 million-dollar companies. Our sourcing initiative takes into account both sides of this equation. We've identified certain product categories that are common to all of our broad nine companies and will test sourcing on some of these products through a common buying point over the next few months. We are excited about the prospects for more uniformity of product, more efficient ordering and better cost of goods.

On the operating efficiency side of our business, we are implementing a more standardized method of getting product from our warehouses to our customers. This process will integrate receiving, picking, routing, and delivery activities to achieve a more efficient delivery of product to our customers. Again, as a decentralized company, there's been a wide spread of operating practices that have resulted in a variation of costs at the operating company level. By implementing standardized best practices, we believe we can tighten the spread in cost variance among companies and lower overall operating costs.

These are just the first two limited tests to come out of our strategy group. We anticipate more in the future. We're excited, we know that it is important to grow this Company for both short and long-term results while not impeding the ability of our operating companies to respond to the needs of the customers. In summary, I believe our strategic plan is identifying areas of opportunities that will enable us to continue to grow the business over the long haul. I'm proud of the hard work and effort from our employees and am confident we have the right people in place to achieve our goals. Operator, we will now take questions.

Thank you. (OPERATOR INSTRUCTIONS) And our first question will come from Bill Leach with Neuberger.

Good morning, everyone.

Good morning, Bill.

John Stubblefield, can I ask you a few questions just on the financial stuff? Did you say the option expense was 8.9 million after tax?

The option expense was 8.9 million after tax as a difference from last year.

So -- you mean that was the difference? What was the actual charge?

The -- hold on a second, Bill, and I'll get that for you.

Sorry.

Bill, this is John Palizza. As a net of tax, it was $26.4 million compared with 35.2 last year.

And do you have any guidance as to what that will be for the remaining three quarters?

That will be consistent for the balance of the year. The guidance hasn't changed on the before tax number. Now, the after-tax number as we've gone through in the past is determined at a point in time going forward, but the before-tax number will be consistent for the balance of the year.

The before-tax number?

Right.

And what -- and the after-tax number, too, now?

Well, the after-tax number is determined at the end of each quarter depending upon the tax deductibility of the options at that point in time.

We didn't give you the before-tax number, so let me do that. This year, the before-tax stock compensation expense was 29.6 million compared to 41.3 last year.

Okay. And do you have any guidance on pension expense, since that was a very favorable variable also in the quarter?

Yes, the guidance that we have on pension expense is that the total pension expense deduction -- reduction before tax, I believe, is 54 --

53.9 million, and that was in the 10-K.

I'm sorry, that's the guidance for this year?

That will be consistent for the balance of the year by quarter.

That's the reduction.

That's the reduction. That's the reduction, Bill.

The reduction for the quarter.

No, for the year.

Reduction for the year versus last year.

Okay, sorry. And then the last thing, what should we use for the tax rate?

We're not giving guidance on the tax rate because of the deductibility of option expense and the effect on that. The normal tax rate is in the 38.25 range. But again, option expensing causes that to vary from quarter to quarter.

Okay. Thanks very much.

Thank you, Bill.

Thank you. Next we'll move on to John Heinbockel with Goldman Sachs.

Rick, on the -- a couple of things. On the two initiatives, first, let me take the integrated delivery. Are you talking about cross-stocking to some degree? How difficult or easy would be it to be to do that with your -- given your customers and products and how broad a practice could that be?

Well, I don't know -- and I'm going to ask Ken Spitler to help here just a second. Right now, cross-stocking is not specifically part of what we're doing related to integrated delivery. Cross-stocking could certainly play a big part in our future. Ken, do you want to add to that?

Yes, cross-stocking, John is, part of the RDC initiative. It's not part of that -- this integrated delivery initiative. We've been testing -- the ability to cross-stock using the RDC for -- we're probably within several months of being able to kick that off.

So --

I think it can be very big.

So the integrated delivery then would refer to what? Just a tying together of systems so that there's less lead time, or --

It's several things. One is a more optimized selection method for the entire country, and a better or more dynamic routing system that will save us considerable amount of miles.

The integrated delivery specifically refers to what we -- refers to what we're doing in our warehouses and from our warehouses to our customers.

Okay.

So it's not the inbound into the warehouse.

On the sourcing piece, do you have any -- we've talked before, it sounds like a very large opportunity. Can you maybe frame how large you think it is relative to other things you're working on and how easy or difficult it will be to get at that?

I would start off by saying that I think we're all gratified at the progress that we've made so far on sourcing, even though we're in the early stages. And we think that there are significant benefits that will work through to the organization. We're particularly gratified at the response of our operating companies. We mentioned this kind of cultural shift from decentralized to in some cases -- we'll have some more standardized practices. And the operating companies have just done a terrific job of participating in the process and supporting what our ultimate goals are. But Larry Pulliam is with us this morning and I'll ask Larry if he wants to add anything to that.

Rick, I think you pretty well explained what we're doing. We see a lot of opportunities, both on the national level and perhaps the regional level, to lower the cost of goods. In no way, at this point, do we think that's going to have a negative impact on our customers. In fact, we think we can offer a greater breadth of inventory to our customers by purchasing better. And Rick said it, our operating companies have been very, very supportive. They see the opportunity here and we're pretty excited about it. We're in our pilot phase now and we plan to move on through the pilot and then into Wave 1 in this fiscal year.

Hey Larry, just while I have you, what do you think your share of the emerging chain business is?

John, thanks very much. You've had your question, your follow-up. If you want to get back in the queue, you're welcome to do that, but in order to be fair to everybody, we've got to move on. Operator, we'll take the next questioner.

Thank you. Next we'll move to Meredith Adler with Lehman Brothers.

Yes, one question I have is about the first RDC that you've built. Can you comment about whether that is now contributing to earnings and if it's not, when you expect it will be?

Mary Beth, this is John Stubblefield and I'll refer all the listeners back to our last couple of conference calls and our goal for this fiscal year is not to comment specifically on the RDCs. We're quite pleased with the progress that has been accomplished there and we're certainly meeting our expectations, but we're not going to speak to the specifics of an RDC. Again I ask you to look back to the performance of Sysco as an organization and we'll focus on that.

I would just underscore one thing that John said, though. I would say that we're very pleased. One of the issues with talking about the RDC independently is most of the benefits accrue at the operating companies. So it's very difficult to separate those. But having said that, we're very pleased with the progress that's been made and the results that are showing up, both at the RDC and at the operating companies.

Okay. By the way, my name is Meredith, not Mary Beth. Second question I have is about discounting. You've had very great success with the businesses, and I was just wondering whether there is any price discounting that goes on as part of that process? Do you change your price?

In -- I'm sorry, was that part of the business reviews?

Discounting.

Oh, no, absolutely not. The only thing that does happen periodically, although again we've been encouraged by what we've seen particularly this year, this fiscal year -- we see actual nice improvement in the profitability of those customers. But, in fact, what's happened from just a gross margin perspective is one of the areas that the operating companies focus on is center of the plate. And that -- those categories generally have lower gross profit margins as a percent, but they have higher gross profit dollars related to each case sold. So that's the focus of our business. There may be some tendency to have slightly lower gross profit percentages, however, I would say that we're pleased with what we're seeing particularly over the last couple of quarters as the business review process has matured.

Okay, thank you.

Thank you, Meredith.

Thank you. Next we'll move on to Jason Whitmer with Cleveland Research.

Hi. Thanks, good morning. Rick, you talk about sourcing in the past also on your Sysco brand. Can you provide us an update there, both on the -- maybe the SKU and vendor rationalization of that process seems to be picking up some steam here?

Yes, and I'm going to turn to Larry Pulliam again. And I think we're very pleased with that, the overall direction, that is make sure that Sysco brand products now and in the future provide value for our customers. And in regard to the rationalization, Larry, do you want to share some thoughts?

Yes. We've -- as we've talked about in the past, we've looked at the number of Sysco-branded SKUs, analyzed their contribution and their place in the marketing part of Sysco brand, and looked at what our customers really look to us for in our brand. We have made lots of decisions about which ones should continue, which ones grow, and we're pretty pleased, actually, with the growth of our value-added brands. And we have successfully, actually reduced some of the non-value added brands. So we're happy with that. As it relates to the sourcing piece, as we mentioned earlier, we're in our pilot phase now and we don't see the pilot phase having an impact on the Sysco brand sales at this time. We'll know more about that Wave 1 in the future.

And is there any overall sales or margin impact in this whole SKU rationalization program on Sysco brand in particular?

You know what, the SKUs that we've rationalized out, I would say no. They're slower moving items and -- again in a pilot phase, so they've had no impact on the sales and profitability at this point.

Only other small question here, Rick, if you've been making progress with your fold-ins, something that I think was briefly mentioned in the last year or two on those bite-sized acquisitions in your market that you roll into your facilities?

We continue to have a good pipeline of opportunities available to us. We've done a number of fold-ins. The most recent was a little bit larger, in fact we did a press release. And that was the Bunn Operation out of Springfield, Illinois. We folded that into our Roberts Sysco Operating Company out of Lincoln, Illinois and that's going very, very well and in general, our fold-ins continue to be very accretive. We maintain the customers. We maintain the sales forces. In some cases, we actually -- when we put the two -- when we put the fold-in into an operating company, the end result is over 100% sales. So that means we're not -- not only are we not losing sales because of the fold-in, we're actually gaining sales because of the additional SKUs available to the customers. So it's been very positive.

Great, thanks.

Thank you. And next we'll move on to Steve Chick with JP Morgan.

Hi. Thanks. Good quarter. I got on to the call actually a little late. I'm don't know if other people had trouble getting in, so sorry if some of this might be repetitive. But first, can you speak to -- I know you're not giving details on the RDC costs and benefits, but are you still on track to have the benefits exceed the costs by the second half of this year?

Yes.

Okay. And second thing, with your sales trends, can you remind me if there was any hurricane effects or benefits as you cycled some of the activity of a year ago, and can you speak to what the trajectory of sales look like during the quarter?

Yes. I'll speak to that, Steven. Of course, the New Orleans company is wrapping around on those numbers and have a big increase, but we also had a lot of other operating companies that were negative on because of those -- they were Red Cross or whatever kind of one-time sales and we ate those. So I would say all in all that it was pretty even.

Okay. That's helpful. And as you look -- your comparisons do start to get a little more difficult as the year goes on. Can you speak to kind as -- you've got a month under your belt now, how do you feel about sales and how they're tracking currently?

Well we don't supply that kind of information, Steve, but I would say that although the comparables in the year just because of the sales growth last year appear to be more difficult, I would say that based on our roughly seven, eight quarter experience now upward sales growth that we feel very good that we can continue our current progress in terms of, again, growing that sales growth.

Okay, good, that's helpful, thanks. Just a last thing --

Steve, that's it. Actually you had three questions.

Well, just about a clarification on the sales -- the increase in sales staff, it was 1% for the current quarter, is it -- are you still looking for -- what are you looking for for the year?

6 to 7%?

Okay And that 1% is year-over-year, right?

That's year-over-year.

Okay. Great. Thank you.

Thank you. And next we'll move on to Elena Mills with Atlantic.

Hi, good morning, everybody.

Good morning.

Just a question on -- good morning. Just a question on the initiative that you mentioned, integrated delivery, et cetera. Do you expect to reinvest those savings in driving sales growth, or do you expect to take most of the benefits to the bottom line in terms of margin enhancement?

We will judiciously make discreet decisions along the way. That it, where we have strategic products or strategic customers to take into account or growth numbers that we're shooting for. We will share some of the benefits with our customers, but we'll take some to the bottom line also.

Great. And if I could just have a follow-up question. Your share buyback and CapEx numbers were a little bit below my estimates for the quarter. I'm just wondering, do you expect them both to sort of pick up as we move through the balance of the year, are you still on track for the guidance that you gave earlier?

At this point we're still on track for our earlier guidance within our share repurchase program and our CapEx. So, timing has a lot to do with how those dollars fall from one quarter to the next, but we would anticipate that our goals still stand in terms of where our capital dollars are going to be spent going forward.

Great. Thanks very much.

Thank you. And with UBS we'll hear from Ajay Jain.

Hi, good morning.

Good morning.

Rick, now that you're starting to anniversary the business where you process from last year and you're also lapping last year's investment with the sales force, can you just comment on whether you're generally satisfied with the level of sales productivity from the MAs that you took on 12 to 18 months ago?

A lot of moving pieces to that question, Ajay. But I would say based on -- if you add back the 1.1% to the 8.3, you get 9.4%, that's the best sales growth we've had now in some time. We're very pleased -- relatively low rates of numbers related to acquisition. We're very pleased with the productivity out of those operating companies and those marketing associates. So, we're really encouraged by the model that we've got in place right now and we'll continue to refine it, and as like anything else, you always have to take a look at the future and make decisions about how things will change three and four and five years from now, but right now we feel very good about the direction we're headed and the results that we see.

And I don't know if you can quantify this or not, but was the 7% growth that you saw in broad line this quarter, was that more head count driven or is it still primarily driven by business reviews?

I would say, a little bit difficult, I'd say it's mostly business reviews. The marketing associates -- the customer contact folks that you bring on, as we've said before, it takes 12 to 18 months for them to get to productivity. So some small portion of those hires in the early part of fiscal 2006 are certainly contributing. But those that were hired and brought on board and trained in the latter stages of '06 are probably still going through a learning process, training, et cetera. So I'd say that the business review process is still a big contributor to what we're doing out there.

Okay, great. And lastly, I'm just wondering what the implications are for the inventory accounting guidelines that you mentioned. I know there's no economic impact, but should we still expect to see some negative sales comparisons over the next two quarters from EITF?

Absolutely. We have two more quarters for that to run out and my guess would be that it's in the same magnitude that we've seen up to this point.

Great. Thank you very much.

Thank you. Next we'll move on to Alec Patterson with RCM.

Yes, good morning. And I would echo Steve Chick's comments about getting on the call, it took a while. Just on the overall impact of fuel and what not, it looks like it was up but maybe at a subsiding rate. I was wondering if you can comment on what you're seeing there and also just on the overall shipping and handling expense line, how you think that's going to move relative to sales going forward?

This is John Stubblefield. And let me comment just briefly on the fuel costs looking ahead a bit, and I'll let Ken Spitler maybe talk to some of the others. But as we stand right now, we are 100% forward bought for our supply requirements through December, and through the rest of our fiscal year we are approximately 50% forward bought. Now what that tells us is that we're going to continue to look for opportunities to buy in the balance of that requirement, hopefully at a lower price point than where we are today. But I think in terms of the balance of the year, our expectation is is that costs will be in the range that they were last year and hopefully we could find an opportunity for them to be lower, but at this point in the range of last year's costs going forward.

I think it's also important -- when you look at the price at the pump, gasoline, you've seen fairly significant reductions there, but diesel does not move in the same way and is more closely correlated with what goes on the home heating fuel market. So we've -- we have not seen the reductions in diesel that we've seen at the pump, the gasoline pump.

Yes.

Thank you. Next we'll move on to Andrew Wolf with BB&T.

Good morning.

Morning.

I have to add -- well, I won't ask the RDC question, you answered that. Sales. Sorry. If you look at the government numbers, as gas prices went down, overall restaurant sales seemed to strengthen. You guys have good sales momentum with or without that, but could you talk about the quarter sequentially, and I know hurricanes kind of like in -- so maybe in non-hurricane regions if you look at it that way. What the trend in sales were during the quarter? Maybe adjusted for hurricanes?

I think if we look across our six regions, Andy, we're seeing nice improvement in the rate of sales growth in all regions. Some regions do better than others. The Midwest, in fact, is probably the most difficult region for us right now greatly related to what's going on in the automobile industry, but the Midwest, their sequential growth rates mirror the other five regions. So we're seeing the growth rates themselves improve across the entire system.

Okay. And just to be clear, the color you're giving me is not just quarter to quarter, it's some of what's happened during the quarter you just reported, sort of as I posed the question?

Yes. That's fair.

Thanks. And just one other one on gross margin. You may have covered this, but I also like the others was on hold for quite a while. Just the product cost inflation did a big turn up sequentially. If you did discuss it, for those of us who missed it, can you just give some color on what areas of product costs -- you saw the inflation. From what I tracked, it looked like it was a lot in produce; and did you experience any margin squeeze from not being able to -- when those commodity costs typically move that fast, it's hard to pass it all through.

Andy, John Stubblefield, and I'll start and we'll let Rick add to this, but on those two particular categories that had cost inflation on them, that being beef principally and produce, remembering that most of the beef products is sold on a cents per pound basis as opposed to a percent mark-up basis. So when you get price rises there, while your dollars of gross margin may well stay the same or even grow, your percent will actually be depressed because of that. And for the same reason, a lot of our produce is sold on a dollars per case basis as opposed to a straight mark-up. So you have a little bit of that impact in a rising produce market. As you also said, both of those markets are very -- pretty fast-moving markets in terms of the perishability of the product so that you're always challenged to be on top of the market, so to speak. But at the same time, they're the sort of products that we carry the shortest inventory of primarily. Our aged beef is a bit of an anomaly there, but across the whole spectrum we tend to carry a fewer days of inventory those two product lines. Rick?

Just sequentially, the inflation has gone up a bit, but I guess I would remind us all that this is about the normal inflation rate that we would expect over a long period of time, 2% to 2.5%. So it's falling within that range and we're -- it's always a challenge to manage prices and manage margins, but I think that the companies are doing well in this inflation rate.

Okay, so no real big squeeze like you had last year early on?

No, not when we were experiencing 6% and 8% inflation.

Okay, thank you.

Thank you.

(OPERATOR INSTRUCTIONS) We'll move next to a follow-up question from Meredith Adler.

Yes, I actually have two questions. First, I noticed that there was a gain on asset sales. Could you talk about what that was?

Yes, this is John Stubblefield. And we had a piece of property that had actually is in the business park that we're in that was available for sale, and there was a buyer came forward as 5.8 million that we sold that piece of property for. Our cost base was in -- was very low and go at -- ended up to be a fairly substantial profit.

Along with that, your interest expense was lower than I think we had expected for the quarter. What's your anticipation for the year?

We've not given guidance on interest expense for the year. We've given some guidance in terms of what we would expect our debt levels to be, and that is in that range of 38% to 40% and at the end of the quarter, we were at 38% debt to total cap. So we would expect that range given our normal business sort of outlook to stay in that range. I have to give you the qualifiers around that, is that we've always said in the past that if the right sort of acquisition opportunity came available, we would certainly be willing to increase that to take advantage of the right acquisition opportunity. So given all that, we would expect that range to stay in the 38% to 40% range.

But I guess I'm not clear. Interest expense is down in the quarter, but I believe that your amount of debt was up. How did that happen?

I think our debt was actually --

Our interest expense was up slightly [multiple speakers] $3 million for the quarter. But, Meredith, the other component of that is interest rates were down slightly.

They were up about $3.5 million -- interest rates were up.

But the rate was down about 1.5% on the blended rate between fixed and floating.

Okay. And if I may ask just one more question. When you're talking about -- somebody was talking about SYGMA. I was wondering if you can comment on what the margin is on the new business that you've been bringing in?

This is John Stubblefield again, and while we don't speak to specific margins of new business coming in, or even existing business, as far as that goes, because within the SYGMA operation there are very large, significant customers and we don't speak to specific margins.

Okay, thank you.

Thank you.

And next we have another follow-up question from Alec Patterson.

Actually, I had a follow-up on my prior question that wasn't answered. It was about the shipping and handing trend, and also then I'd have a follow-up after that.

And your question specifically on shipping and handling?

I'm sorry. It was part of the fuel question and just the overall effect cost may be having on the shipping and handling expense line where -- I assume that captures warehousing and all sorts of other ancillary costs. How that's trending currently and maybe through the year?

Right now, those costs are -- actually going to -- we think they're going to start trending down. The only big component of that through the first quarter was that we got caught on the high side when we bought through the hurricane season on fuel. So we got caught -- again, we caught on the high side there, so the cost per mile in fuel was up slightly. Going forward, we think that with our -- one of our big initiatives, which is the dynamic routing that we're going to be able to substantially reduce the number of miles per route per operating company per day per week substantially.

So generally, excluding the ups and downs of fuel, the shipping and handling expense ratio should trend flat to down versus sales. Is this a leveragable item going forward?

Yes.

Yes, we're comfortable with that.

Yes.

Okay. And then just to follow-up on the asset gain, the 5 million in the cash flow statement. I presume that was booked in the non-operating item that jumped in the quarter?

That's exactly right, it's below the line.

Okay. So you backed that out to get sort of an underlying sense of what's going on at that line item?

That's correct.

Okay. Great. Thank you very much.

And now we'll move back to Elena Mills with Atlantic.

Yes. Just a follow-up question on the comments that you made earlier on the SYGMA business. And thank you very much for walking us through some of the factors that have been affecting the profitability there, because I think they were very timely remarks. I guess what I'm wondering is if you could comment sort of more broadly speaking going forward. Are the initiatives that you highlighted going to help you to restore growth in operating margins in that business, or is your objective to simply stem the decline that we've seen really for the last four years?

Elena, thanks for the tough question. But, no. Again, the infrastructure at SYGMA is probably its optimum level over the last couple of years. And as I alluded to, there was issues with the expansion of some facilities and some restructuring, and all of that has taken place. So there would be no reason I would not think that we would not gain efficiencies from that

[multiple speakers] Do you think you'd be able to return to the levels that we saw in 2002, or is there something structural in the industry that's making it a tougher business for everyone?

I think the only thing that's structural in the business is making sure we recoup those fuel costs, the additional fuel costs that we have experienced here in the last couple of years. And I'm sorry, Larry, I stepped on you.

No, that's fine.

Elena, we don't go through all of this pain and suffering not to make more money.

And I would also say that --

Fair enough.

-- we are continuing to be pleased with the rate of returns on that business. Although the -- if you look at he profits as a percent to revenues, it's lower than the overall business, but the returns in the business are very good.

And what you also have to keep bearing in mind is that a large part of that SYGMA cost is fixed, so to speak, and it's really variable as to how many cases we can put on to a particular delivery. And as Larry suggested earlier, we're seeing some of our good, large customers have increased numbers of cases per delivery which very directly affects our profitability of that division. As our customers continue to do well, we will proportionately do better.

Thank you very much. That's very helpful.

Thank you.

And our final question will come from Steve Chick. Please go ahead.

Hi. Thanks. John, I apologize. Just to -- I was wondering if you could clarify your comments on what we should expect out of options for the rest of the year? Was that -- the $11.7 million, pretax, is that what we should think about for the next three quarters?

It's always a little higher in the first quarter than it is the following three quarters. But I think that guidance is pretty much in range for the year. John, I'm looking at John Palizza to see what our past guidance was on option expensing.

I think our past guidance was that it would be -- worst case it would cost us as much as it did last year which was $0.17 a share. Obviously we're going to be lower than that this year for a variety of reasons. I think the best guidance I can give you is sort of proportionately take this quarter to last year and then scale it up for the rest of the year.

I think that will give you a ballpark range to look at on option expensing. And again the real unknown factor is the after-tax effect that we incur.

Okay. Thanks.

You're welcome. Thank you.

And I guess I'll take this opportunity to thank everybody for calling in today. We are very encouraged about the quarter. It is confirming what we have shared with everyone last half of last year, and that is that the expense comps get better and that our sales growth continues. And we're very, very pleased with the performance of the Company, and I want to say our appreciation to those operating companies out there who every day make it happen. So thank you all for joining us.

Thank you. And that does conclude today's conference. We thank you for joining us. Have a wonderful day.