西斯柯 (SYY) 2015 Q2 法說會逐字稿

Good morning, and welcome to Sysco's second-quarter FY15 earnings conference call. As a reminder, today's call is being recorded. We will begin today's call with opening remarks and introductions.

I would like to turn the call over to Shannon Mutschler, Vice President of Investor Relations. Please go ahead, ma'am.

Good morning, everyone, and welcome to Sysco's second-quarter FY15 earnings call. Today you will hear prepared remarks from Bill DeLaney, our President and Chief Executive Officer, and Chris Kreidler, our Chief Financial Officer.

Before we begin, please note that statements made during this presentation that state the Company's or management's intentions, beliefs, expectations, or predictions of the future are forward-looking statements, and actual results could differ materially. Additional information about factors that could cause results to differ from those in the forward-looking statements is contained in the Company's SEC filings. This includes, but is not limited to, risk factors contained in our annual report on Form 10-K for the year ended June 28, 2014, subsequent SEC filings, and in the news release issued earlier this morning. A copy of these materials can be found in the investor section at Sysco.com or via Sysco's IR app.

Non-GAAP financial measures are included in our comments today and in our presentation slides. The reconciliation of these non-GAAP measures to the applicable GAAP measures are included at the end of the presentation, and can also be found in the investor section of our website.

All comments about earnings per share refer to diluted earnings per share, unless otherwise noted. In addition, all references to case volume include total Broadline and SYGMA combined.

To ensure that we have sufficient time to answer all questions, we would like to ask each participant to limit their time today to one question and one follow-up.

At this time, I'd like to turn the call over to our President and Chief Executive Officer, Bill DeLaney.

Thank you, Shannon. Hello, everyone, and thank you all for joining us today.

This morning, Sysco reported second-quarter FY15 financial results. Sales increased nearly 8% to $12.1 billion, and adjusted net earnings increased 6% to $245 million. Adjusted EPS increased 5% to $0.41 for the quarter.

Our second-quarter financial results were generally in line with our expectations, as we delivered another quarter of solid operating performance. Most important: Our associates remain highly focused on providing excellent service to our customers in what remains an extremely competitive market environment.

We generated nearly 4% case-volume growth during the quarter, and effectively managed acute inflationary pressures in our meat and dairy categories. Specifically, case-growth trends in our locally managed Broadline business were favorable in most of the geographic markets we serve.

In addition, we generated solid case growth once again with our corporate-managed customers in the restaurant, and travel and leisure, segments. Our performance during the quarter was due, in part, to the benefits we realized from our portfolio of business transformation initiatives, especially category management, as our ability to effectively integrate these initiatives in our steady-state operating activities has improved consistently over time.

While we are pleased with our overall performance during the quarter, we did fall short of our expense management targets. Expense increases were driven primarily by higher incentive accruals, selling costs, and delivery costs. Excluding certain items, and the unfavorable impact of incentive accruals, operating expenses increased 4%.

As I've mentioned previously, Sysco's single largest opportunity for improvement remains more consistent execution across the Organization. We are implementing tools to provide increased visibility to key performance metrics, as well as improved best practices. While we are seeing some level of improvement in this area, and believe we are on the right path, we have more work to do.

Regarding overall industry trends, current restaurant data shows modest signs of gradual improvement. NPD, which tracks restaurant trends, recently reported positive traffic growth in the mid-scale and casual-dining sectors for the first time since 2008. This is encouraging news, as the casual-dining sector includes a significant number of independent restaurant customers for whom we provide substantial value-added products and services.

In addition, consumer confidence and employment metrics are, for the most part, showing improvement. We are hopeful lower fuel prices will further improve the consumer's outlook, and lead to sustainable increased traffic and spend for our customer base.

We remain intently focused on enhancing every aspect of our Business, so that we are able to better support our customers, operate more efficiently, and compete more effectively. Benefits from our category management initiative continue to gain momentum. We expect that all categories, representing approximately $15 billion in annual spend, will be launched into the market by the end of this fiscal year, and that we will achieve the three-year cost savings target that we established prior to the start of FY13. In addition, we are working with our suppliers in a more strategic and effective way that we believe provides a meaningful platform for growth and innovation in our respective businesses.

Turning to an update on our technology initiatives, we continue our merger integration planning with regards to technology, and have begun certain fundamental projects necessary for integration. As we move forward in deploying our ERP platform, our approaches continue to evolve.

For instance, we have focused on broad implementations at the operating companies for several years; we have a plan to convert the hub for our shared business services facility last. However, we have found that this created inefficiencies at SBS that would make further rollouts challenging. Thus, we are now moving forward with the rollout of SAP financial modules for general ledger, accounts payable and accounts receivable, as well as additional elements of the HR module, all of which are intended to make SBS function more effectively in the near term, and make future ERP conversions at the operating companies relatively easier.

While focusing on operational excellence is a key area for us, we also have important work under way to identify new markets with opportunity for profitable growth. As we discussed last quarter, we've developed a robust approach to serve the fast-growing Hispanic restaurant sector. We estimate that we have 10% to 15% of this $10-billion food service market, and believe we have a significant opportunity to better serve these customers, and grow our sales.

We made additional strides with this effort recently with the launch of our mew multi-lingual website dedicated to support customers in this segment. The site includes news, tips, menu ideas and trend data intended to help Hispanic operators drive restaurant traffic, improve their operations, and better address their customers' evolving needs.

I'm extremely proud of the efforts and accomplishments of our leadership team over the last several months. As we announced last August, Mike Green retired from Sysco at the end of the calendar year, after 24 years of distinguished service. On January 1, Tom Bene became Executive Vice President and President of Foodservice Operations, succeeding Mike. Tom reports to me, and has responsibility for all business operations, sales, merchandising, marketing, and revenue management.

Tom is a proven commercial leader with deep expertise and a strong track record in the foodservice industry. Since joining Sysco early in 2013, he has helped drive major advances in category management, revenue management, sales capability, and customer insights and segmentation. We are fortunate to have such a capable leader to succeed Mike.

In addition, and also effective January 1, 2015, Scott Charlton, Senior Vice President of Distribution Services, now reports to me in an expanded role. Scott leads end-to-end supply chain operations, including warehousing, inbound and outbound transportation, and replenishment. Scott joined Sysco in 2013 as well, and brings great energy and expertise to our senior leadership team.

Turning to an update on our proposed merger with US Foods: Over the past 12 months, we have worked in good faith with the FTC, providing millions of pages of documents, and explaining to them our industry and the merits of our proposed merger. We strongly believe that the combination of Sysco and US Foods will promote competition in what is already a highly competitive industry by positioning us to provide significant value to our customers, including lower cost.

Unfortunately, the FTC has taken a different view of the potential competitive impacts of the merger. While we respectfully but vigorously disagree with the FTC's analysis, we announced today a substantial divestiture package that we believe fully addresses their concerns.

At this time, the FTC has not agreed to this solution, so we will now present our position, including this proposed remedy, to the five FTC commissioners, and seek to obtain their approval. We remain convinced that the proposed transaction is good for our customers, our associates, and our shareholders.

In closing, I am pleased with our operating performance through the first half of our fiscal year. Case growth and sales growth were up 3% and 7%, respectively, while adjusted operating income and EPS grew at a rate of 5% and 6%, respectively. In addition, many of our strategic business initiatives are gaining traction, and contributing to these results.

As we move forward into the remainder of our fiscal year, we are committed to improving the consistency of our operational execution, successfully rolling out our portfolio of initiatives, and further developing our plans to integrate Sysco and US Foods. This is a critical time in our history, and we believe the strategic actions we are taking are vital to both strengthening our customer relationships, and providing solid returns to our shareholders over the long term.

Now I'll turn things over to Chris, so he can provide additional details on our financial results for the second quarter, as well as the agreement we announced this morning with Performance Food Group.

Thanks, Bill. And good morning, everyone.

For the second quarter, sales were $12.1 billion, an increase of 7.6% compared to the prior year. Food cost inflation was 6%, driven mainly by double-digit inflation in the meat and dairy categories.

Sales from acquisitions increased sales by 0.8%, and the impact of changes in foreign exchange rates decreased sales by 0.9%. Case volume grew 3.6% during the quarter including acquisitions, and approximately 3.3% excluding acquisitions.

Gross profit in the second quarter was $2.1 billion, a 6.1% increase. And gross margin declined 23 basis points to 17.25%. Benefits from category management contributed to our gross profit performance during the quarter.

In addition, case volume growth advanced from the prior quarter, and this increased demand is aiding gross profit performance. In our higher-margin, locally managed Broadline business, case volume growth remained relatively steady, and accelerated with our corporate-managed customers.

Certain items for the quarter totaled $133 million, and primarily related to merger and integration planning expenses. Of this amount, $81 million was recorded in operating expense, and $52 million was recorded in interest expense.

Merger and integration planning expenses that impacted operating expense were associated with professional fees to assist us in managing integration planning, as well as legal- and IT-related projects. Work-related integration planning peaked in the second quarter, and costs related to these efforts should decline going forward.

Merger and integration expenses that impacted interest expense relate to the debt issuance during the quarter that is intended to finance US Food's debt upon closing of the merger. We are treating this interest expense as a certain item until the merger closes.

After excluding certain items, adjusted operating expense for the quarter increased $108 million or 6.8% compared to the prior-year period. This increase was driven by a $115-million increase in payroll expense resulting from several factors.

First, during last year's second quarter, we reduced certain management incentive accruals based on our performance versus our objectives at that time. And this year's second quarter, these same incentives are generally accrued at higher amounts, reflecting the impact of our recent performance, and causing a year-over-year variance of $41 million. Excluding this year-over-year difference in incentive accruals, adjusted operating expenses would have increased only 4.2%.

Second, pay to our sales organization was higher as a result of growth in gross profit dollars. These are costs we would expect to see given our performance for the quarter. Sales costs also increased, although to a lesser extent, as a result of hiring additional marketing associates over the last year.

As we discussed last quarter, some of this increase in MAs is related to normal hiring to replace attrition and support growth. However, certain markets added MAs because they lost more than they planned when we implemented our sales reorganization a couple of years ago. As a reminder, it takes roughly 18 months for an MA to be fully productive.

Third, as we've discussed in prior quarters, we continue to experience higher delivery costs in our Broadline operations. As Bill mentioned, we have a number of initiatives that are in various stages of implementation that we anticipate will help to reduce these costs and increase productivity to mitigate these increases. And lastly, payroll increased due to newly acquired operations, including Metropolitan Poultry, the joint venture in Costa Rica we entered into last fiscal year, and Iowa Premium Beef.

Adjusted operating income for the quarter was $396 million, up 3.1% from the prior year. And adjusted operating margin was 3.3%, down 14 basis points from last year.

Our effective tax rate in the second quarter was 33.1% compared to 35.4% in the prior-year period. The majority of this change is the result of reduced state taxes from legal restructuring, as well as a growing base of business in international jurisdictions that have lower tax rates. Adjusted net earnings increased 5.5% to $245 million, and adjusted EPS increased 5.1% to $0.41.

Turning to cash flow: Cash flow from operations declined $6 million to $452 million for the first half of the fiscal year. Cash flow from operations was negatively impacted by two items. First, the cash impact of certain items increased $96 million year over year, mainly due to merger and integration planning expenses.

Second, we made a $50-million pension contribution in the first half of this year compared to none in the prior-year period. This difference is simply driven by different timing regarding when we make cash contributions each year.

With respect to working capital, our usage increased year over year, mainly due to an increase in sales and inventory, driven by increased inflation and case growth. Cash tax payments for the first half of the fiscal year were $179 million lower than last year, due to a lower effective tax rate, which I discussed a moment ago, and merger and integration planning expenses that reduced taxable earnings.

Capital expenditures, net of proceeds from sales of assets, totaled $296 million for the first half of the fiscal year, compared to $247 million last year. Roughly half of the $49-million year-over-year increase is due to the timing of investment in our fleet, with the remainder coming from IT projects that are related to integration planning.

Free cash flow was $157 million in the first half of this fiscal year, compared to $211 million in the prior-year period. These results include the $96-million increase in the cash impact of certain items to cash flows from operations, and the $50-million increase in pension contributions I mentioned earlier, as well as a $16-million increase in capital spending related to merger integration. After adjusting for these items, free cash flow was $324 million, or an increase of $107 million.

As we discussed last quarter, in October we issued $5 billion in debt. The proceeds of the offering are intended to fund the various elements of the US Foods transaction. As we closed on the new debt issuance, we simultaneously terminated both the bridge facility and the related pre-issuance hedges, both of which were put in place as part of the financing strategy for the merger.

Following the unwinding of the hedges, we paid $59 million in September to settle the hedge against our 10-year note issuance. In October, we paid $130 million to settle the hedge against our 30-year debt issuance, which is shown as a financing activity in our cash flow statement in the second fiscal quarter. The financial impact of the unwind of the hedges will be amortized into earnings over 10 years and 30 years, respectively.

Regarding our outlook into the third quarter and the remainder of the year, there are several additional items I'd like to point out. First, as discussed on last quarter's call, we continue to implement our category management initiative as planned, and are pleased with the progress we've made in integrating this approach to our Business. The favorable year-over-year impact has been meaningful to our performance over the last three quarters, but we expect it will begin to moderate in the fourth quarter.

Second, regarding cost per case in our North American Broadline business, we had communicated last quarter that we expected that it would be difficult to meet our objective of keeping cost per case flat year over year. For the first half of the year, cost per case increased $0.10. While we expect year-over-year cost increases to moderate in the second half of the year, we no longer expect cost per case to be flat for the full year. Instead, we now anticipate an increase of approximately $0.05 to $0.10 for the fiscal year.

Third, with regard to fuel expense, we have been evaluating the impact on our Business of the recent decline in crude prices. While diesel prices have declined more than 20% over the course of the fiscal year, our program of entering into forward fuel purchase contracts smoothes the impact of price changes over time. As a result, we did not have a material change in fuel expense in the second quarter or first half of this fiscal year. However, we do expect a roughly $15-million decline in fuel expense over the second half of the fiscal year. This modest projected benefit will likely be offset, to some degree, by lower fuel surcharges.

Fourth, as a reminder, we continue to expect to report approximately $40 million in incremental merger-related interest expense per quarter, which we will exclude from our adjusted numbers until the close of the merger.

Finally, I wanted to speak for a moment about our outlook for share repurchases. Our approach to repurchases for the last several years has been to buy back shares throughout the year, with a goal of keeping shares outstanding relatively constant. However, during this fiscal year, we have not been in the market buying shares due to the pending merger. This has had the effect of increasing our shares outstanding in the first half of the fiscal year due to the exercise of employee stock options and RSU grants.

We are not prepared to comment about if or when we may resume buying back shares. However, if we bought no shares for the remainder of the year, we estimate that our diluted shares outstanding may be greater than 597 million shares for the fiscal year. This estimate is dependent on the level of stock exercises that occur, and does not include the impact of the shares to be issued in conjunction with the proposed US Foods merger.

Turning to an update on our proposed merger with US Foods, we believe that the divestiture agreement we announced today fully addresses the FTC's concerns. Upon closing of the Sysco/US Foods merger, this definitive agreement will include selling 11 US Foods operating locations, representing $4.6 billion in annual sales to Performance Food Group. Sysco would receive $850 million in cash in return from PFG.

The divested markets will expand Performance Food Group's geographic footprint in the US, and enable it to compete more effectively for both larger and smaller customers. The divested locations are Corona, California; Denver, Colorado; Kansas City, Kansas; Phoenix, Arizona; Salt Lake City, Utah; San Diego, California; San Francisco, California; Seattle, Washington; Cleveland, Ohio; Las Vegas, Nevada; and Minneapolis, Minnesota.

In addition, Sysco and Performance Food Group have signed a multi-year transition services agreement to ensure a smooth transfer of assets from US Foods to Performance Food Group. A TSA provides various support services and personnel to help Performance Food Group succeed as the new business owner in these locations.

Clearly, this development has implications for our synergy expectations. It's important to remember that integration planning work has been under way over the past year, which has enabled us to refine and enhance our confidence in our synergy estimates. As a direct result of this work, we determined that gross synergies related to the transaction were substantially higher than previous estimates.

After reducing our revised synergy estimates to reflect the facilities to be divested, we now expect net annualized operating synergies to be at least $600 million after four years. Our current expectation is that operating synergies will begin to accumulate in year two, following the close of the transaction.

In addition to operating synergies, there are substantial financial synergies related to the transaction, including interest savings totaling approximately $115 million annually, and cash tax savings from the realization of acquired NOLs totaling approximately $150 million. We expect to realize both of these financial synergies in the first year following the close of the transaction.

We have also updated our expectations regarding the cost to integrate the two Companies. We continue to expect that incremental merger expenses will total approximately $700 million to $800 million over four years. In addition, we expect the incremental capital spend required to integrate will total approximately $300 million to $400 million over four years.

Now, while the actual gross costs to integrate will be higher than those incremental costs I just mentioned, we expect to fund a portion of these costs from our current operating and capital expense run rates. We now expect the transaction to be accretive in the second year following the close of the transaction, excluding costs to integrate the company and deal-related amortization.

With that, operator, we'll now take questions.

(Operator Instructions)

We'll take our first question from Karen Short with Deutsche Bank.

Hi. Just to focus on the transaction a little bit, maybe can you give us some color on where you think the issues are with the FTC in terms of you both not being in agreement? And then maybe follow-up, just some color on the facilities that are being divested, the customer type, EBITDA associated with the facilities, things like that.

Good morning, Karen. I'll start and I don't know how far Chris can go with that second part but I'll give him a shot at that.

One of the things we want to be careful of this morning, we don't want to be in a position where we're trying to articulate a point of view of the FTC. They'll have plenty of opportunity to do that.

So, what I would say is a very high percentage of the conversation over the last several weeks and really months has been around their concern of -- they believe that there's a national market. They believe that there are customers out there that will only buy from distributors who have a national footprint. We disagree with that. We see and live that every day.

Customers, some of these larger customers, will buy from multiple distributors. They might buy from regionals or multi regionals.

They may buy from us and/or US or PFG and they obviously buy from specialty firms. Some may buy from only a few of us; some may actually put most of their business with one or two of us.

But our point of view is when we compete for that business we're competing not just with US Foods and PFG, DMA, but with a lot of regionals who are now multi regionals. And even in a situation where certain customers will work with a fewer number of distributors, that opportunity to work with more is always in the room when you're negotiating an RFP or a new business.

I think, again, I can't make their case for them, but I think that's been where we spent a lot of the time in the conversation of how we address their concerns about how these customers continue to get good service and appropriate pricing. And that is why we ultimately, even though we disagree with the position, we're willing the to put forth a divestiture package, which we believe, from our perspective, based on our knowledge of the business, our knowledge of the competitive landscape, should allow PFG to go out and compete very well in the way that the FTC would hope.

So that's my best way of describing it today. As we said, we'll have some more opportunity to speak with the FTC and the five commissioners here over the next week or two. I'm sure there will be more information coming out of those meetings.

Okay. And can you provide us with any color on the customer types of those facilities, any EBITDA dollars? And just a follow-on on that, in terms of the synergy number, is the $600 million synergies, does that actually include any operating profits associated with the TSA of PFG?

On the first part of your question, Karen, I'm not going to get into the detail of facilities or the EBITDA of the package. But I'll generally say, because I think it addresses what you're trying to get at there, it is a representative package, if you will, of US Foods. I don't think there's a disproportionate amount, higher or lower of EBITDA, or disproportionate type of customer service out of these facilities than US Foods as a whole.

That is generally correct, but I'm going to leave it there just in terms of describing the package of facilities. On the -- I'm sorry, remind me of the other part of your question, please.

The $600 million. You obviously said during this whole integration process you've identified additional synergies but you're very comfortable with the $600 million that you'd originally put out there. I'm just wondering if the $600 million includes operating -- I assume there's operating profit associated with the TSA with PFG. Does that $600 million include?

No, it doesn't include any operating profit associated with the TSA. TSAs typically are constructed so that you're reimbursed for your costs. You don't technically make any money. If you do, it's very small amounts of money. But the way these things are constructed, you're usually just reimbursed for your expenses.

Great, thanks.

We'll move on to our next question from John Heinbockel with Guggenheim Securities.

Just a few questions on the transaction. The $600 million, that does not include any financial synergies, correct?

Number two, when you found incremental synergies beyond what you were thinking before, is that more buckets that you hadn't anticipated or buckets that just are bigger? And if the they're buckets that are bigger, what might one or two of those buckets be?

And then lastly, I assume all other terms of the purchase on your end remain the same. None of that has changed. That's it.

Okay. John, if I can, I'll take those in reverse order. Nothing changes in the transaction that we've negotiated with US Foods. That remains the same in all aspects.

You are correct on the first question you asked. The financial synergies I described, which the two biggest ones are interest savings over the two combined pro formas and the use of the NOLs, those are not included in the $600 million. Financial synergies we expect to achieve in the first year after closing, the operational synergies we expect to start accruing in the second year after closing.

And then the middle question there really around where did we find the additional synergies, when we put our first synergy number out on the table -- I feel like we have to keep reminding ourselves as well as everybody else -- it was with essentially publicly available information. We didn't have a lot of information.

We had some experience at Sysco dealing with some of these buckets of opportunities. We had done some category management work. We have done route optimization. And so we knew that this is what we've been able to do, what can we do if we combine them.

We made some assumptions and we made prudent assumptions but not overly aggressive. We're going to be candid about that. As we've learned a lot more about this, I would say every bucket probably increased in size, certainly around merchandising and supply chain, we'll say inbound and outbound delivery transportation, those buckets got quite a lot larger.

So, we found it across the board but in certain places we found more. And so we rebuilt synergies from the bottom up using more information through our integration planning efforts. There is still a lot of information we're not allowed to have access to and we're abiding by all those rules.

So we expect that when we eventually close and we get access to some additional information, we'll true these up again. But we've made pretty good assumptions and we're still being, what I would call, prudent. We're not being overly aggressive or overly conservative.

All right. And then, lastly, you talked about wanting to tighten up expense control. Where are the biggest opportunities? And then, secondly, is that something that can be done while you're in the early stages of doing the US Food integration, or is a that something that has to come later?

John, I'll start there, as well. I think in terms of the biggest opportunities, they're generally always going to be on the operational side. Some of our G&A costs are up this year. A fair amount of that was planned, some of the work we're doing with these initiatives and technology area.

Our selling costs are up a little more than we planned. But Our gross profit is higher. So, that one doesn't concern me as much.

So, that takes you to supply chain operations. We've just got more work to do there in terms of improving our productivity at a rate commensurate with what our costs go up. We tend to be very good in this area but we've got a lot of initiatives going on in this area, as well.

I mentioned Scott. He's been with us for a couple of years. With our new enterprise structure, his functional group working hand in hand with our operating company leadership to basically strike the right balance between what we need to do to support our customers each and every day, but also put in better and more consistent best practices, monitor them better, get our compensation schemes in line with our productivity.

So, a lot of work being done in that area and more to do. But I would say that's where the biggest opportunity is.

As far as the merger, I would say on the merger, Chris talked to this and I'll let him address it again. I think we're seeing opportunities through these synergies to do better. The challenge there will be to do what we've done a nice job of so far.

So far, when you hear me speak, being really proud of this management team, and frankly all of our folks, we've done a nice job of being able to separate all the work and all the hours and the pressure that's gone on with the integration planning and still be able to run our business pretty well. That's the biggest challenge I see post close here, is to continue to run these businesses, but drive out, at that point, the synergies.

I think when we get to that point we'll talk to you more. And we'll have to come up with some ways to speak to how we're making progress here and still making sure we're shipping groceries in the right way to our customers.

Okay. Thanks.

Our next question will come from Greg Badishkanian from Citi.

This is actually Fred Wightman on for Greg. Last quarter you guys mentioned that there were some labor shortages in delivery drivers. Has that situation abated and are you guys seeing any other pockets of labor pressure?

Good morning. We did speak to that. We still have some of those situations. It's abated some. The source of that is really two-fold.

One is, over the last few years, not so -- we'll see what the next few months brings with the price of oil -- but over the last few years several of our markets that are very much energy-driven or intensive, there's a lot of good jobs out there on the energy side, and some of those jobs are very competitive or more competitive in terms of lifestyle and wages to what we offer. And, so, in those markets, where energy has been strong, we've struggled to some extent. Too early to tell if that's going to abate.

The other part of it, quite candidly, is we've had some internal issues in certain markets where, as we've centralized some of our hiring practices and begun to coordinate that process between the opco and our SBS center, we went pretty fast and aggressively. And there were some markets where we didn't execute as well as we should have. We're also catching up in those areas. So, there's still a handful out there or two that we have some issues but it has abated and I would expect it to continue to improve.

And then you briefly mentioned this in your response to the last question but you mentioned that some geographies were performing better than others. Have you seen that trend become more pronounced especially in some of these oil-producing regions?

I'd say it's pretty pronounced in the Southwest. We've seen that for several quarters now. I would also tell you, interesting right now where we're looking at numbers, December, January, early February, if you recall we had some really severe weather last year. And we're getting more weather now over the last week or two.

As you look at the markets you can see where the weather impacted last year and then you know where the weather didn't impact last year. I would say the Southwest and the West Coast in particular we're doing well. It's hard to tell how much of that is the market and how much of that is our leadership in those markets. But those two in particular. And right now it looks like Florida's off to a pretty good start in terms of their season.

Moving on, we'll take Andrew Wolf with BB&T Capital Markets.

Hi. Thanks. Good morning. Just wanted to check, Chris, on moving the accretion to year 2, what that means for dilution in year 1. I don't know if you saw, but I did put out my own estimate of around $0.15 if you divested $5 billion of US Food Service assets and I just used, as I think you suggested, just their average blended operating margin. Just would like to know if you think that's at least in the ballpark in terms of reasonableness.

Andrew, I have to be very careful to comment about your own estimates and your own modeling. So, apologies for that.

Originally we believed, based upon initial modeling, that we thought it would be accretive in year 1. As we have refined all of our estimates, not just the numbers but the timing of the numbers and overlay to divestitures, we think it's year 2 that it's accretive.

Frankly, I'm not prepared to talk about year 1 dilution or anything yet. We've got more work that we need to do to pin that down.

So, best I can tell you is we've shifted some stuff based upon when we think we're going to be rolling out certain initiatives and how we think we're going to go after some of the synergies. And that's affected when we're going to achieve accretion.

As well as divestitures. Clearly your [peak] selling them below what you're paying for them.

Yes.

I just wanted to ask a procedural question on the FTC. I think it's all implied but I just want to make sure I understand it.

So, you've secured agreements from the commissioners to meet with them, the five commissioners, and to make your case. Have they then agreed to vote what they want, to conduct their vote at that point, once you're done in the next few weeks meeting with them, or the next couple weeks?

Look, Andy, there's one thing I think the FTC and we do agree on is that it's time to move this process forward. We've had plenty of time to talk and educate and listen and negotiate or whatever.

So where we're at is they basically signaled to us that it's time to meet with the commissioners, so we're preparing to do that. And of course along the way, since they've signaled for quite some time their concern that I articulated earlier, we've had parallel discussions with PFG. So, we were able to pull that agreement together here over the weekend.

We just felt it would be in everyone's best interest, including our customers and our associates, to have better knowledge of what's really going on out there. There's been a lot of leaks.

So we just felt it made a lot of sense, if we're going to go visit with the commissioners to have this agreement in place so we can look them in the eye and tell them exactly what we are prepared to do, and there's no uncertainty in terms of our ability to do that. So, that's a little color from my end.

Chris, do you want to add anything on the process?

Actually, I think that covers it well. One thing we probably aren't going to speak a lot to is what happens after we meet with the commissioners. There's nothing defined at that point. That is the next step, that's what we're talking about, and it's hard to talk past that point. But that's where we are. It's time to move this thing forward, as Bill said.

And just one other thing on the deal and talking with the commissioners, the PFG deal, how would you think of your sense of how the commissioners view that deal as it stands? Do you think it's ambiguous? Have they signaled that that is not enough, that could be enough? Or is it -- I guess that's what you're going to discover. How should we think about where the deal you struck with PFG is going to play with the FTC commissioners?

I think you should look at it from the perspective of what we're saying, which is we've had a lot of time and lot of opportunity to have discussions with the FTC, as well as address remedies to concerns that they have -- which we don't share but which we certainly want to address because it's disruptive to our business, it's disruptive to the business that we're acquiring, it's disruptive to our customers. We're trying to find a remedy here and obviously they haven't agreed to anything at this point. So I think to be determined.

Okay. Can I just ask one other, just a number question, from the adjustment statement. The $78 million in merger integration costs this quarter was about $40.5 million last quarter. And if I remember, last quarter was mainly consultants.

Chris, you might have talked about this, maybe I didn't understand it. But what is the majority of that step-up in the merger spending?

It is mainly consultants. The vast majority of that $78 million is what we call professional fees for outside consultants that are helping us. Some of the uptick came from legal, from the fact that we have started some foundational IT projects that are going to be necessary for integration. So some of that stuff kicked into the quarter.

As we also said, though, our merger integration planning, I think the word we used and it's probably the best word is it peaked. It will be coming down from there and so that's where we were for the quarter.

Okay. Thank you and good luck with everything.

Meredith Adler with Barclays has our next question.

Very informative. I will actually go back and talk a little bit about operations and just want to understand. You had 6% food inflation. And when you do the simple math, you wouldn't end up with volume growth of 3.3%. But obviously what that means is that you have the inflation but your sales didn't go up necessarily by 6% because of inflation. Is that right?

As you stated it, that's right. Is the question why?

The assumption then would be that you are still having trouble passing along inflation.

I think there's a myriad of reasons, Meredith. I think some of it is mix. A lot of this inflation is in these higher dollar cost boxes of meat and dairy this last quarter. So it's partially mix.

It certainly is partially, it's hard to pass it along, to your point. One of the things we do with customers continually, especially now, is to try to listen to them, understand what their needs are, understand where they're going with their menu. And if there's some more cost-effective ways for them to buy from us and to still position their menu in an advantageous way, then that's what we do.

If they can offer more poultry dishes or other types of a la carte items that supplant maybe what they would have formerly done with cheese or with beef, there's some of that going on, as well. Our case growth still is very good in these inflationary categories.

I think it's a mix. I think it's trying to find the right price point, if you will, for our customers. And I think it is hard to manage inflation. But our point is, we've been doing a better job of it here over the last year or two

And I think category management's beginning to help, also, and some of our other initiatives in terms of product training, in terms of our salespeople being able to sit down and have good, thoughtful conversations with our customers. So, it's a lot of things. But probably mix would be as big as any.

And those comments about mix, is it fair to assume that the category management process has come up with, I don't want to say identical, but similar kinds of things? You've said in the past it's not just about reducing SKUs. So, category management is about helping the customer buy better items or more cost-effective items?

No, not exactly. What the goal is with category management is to help our customers and ourselves, frankly, optimize -- in our case optimize our SKUs over time. There's plenty of work still to be done there. Help them use those products that we're bringing to them to augment their menu in the right way, maybe change it up if it makes sense.

But for both of us to make commitments -- for the customer to commit with us and for us to commit with our suppliers -- to take cost out of the system, and to be able to buy these products better and to realize those savings, both on Sysco's bottom line as well as the customer's bottom line. I think we're starting to see nice traction there on that part of it.

Longer term, we see it as an opportunity to really differentiate ourselves in the marketplace with expanded product lines, maybe broader, not as deep perhaps in some of the SKUs that don't move as fast. So, where we could have more customized offerings to customers as we better understand their needs and better understand the process. And then also use this platform to bring more innovation to the offering.

In the short term, I would look at it as an opportunity to partner more strategically with our customers, buy more efficiently, and to pass some of those savings along to the customer base, and for both of us to optimize our SKUs with the long-term goal of being able to really bring more innovation and more differentiation to the product line.

That's very helpful. And then just one quick question maybe for Chris about fuel surcharges. Can you say how much of the cost -- it's hard because you've been hedged -- but if you give up the fuel surcharges, how much does that offset the benefit of lower fuel prices?

Let me come at that from this direction. First, fuel charges are a bit different when you think about it with our larger customers and our smaller customers. With larger customers we may have contracts that are pegged to certain fuel price. They may go up, they may go down, they last for periods of time. That's not something that you just, quote/unquote, give up because it was structured into the cost structure of the contract.

Fuel surcharges on the street are different, and obviously they can change on a daily, weekly, monthly basis. So, the concept of, quote, giving them up is harder for me to address.

I will say this -- we look at fuel and we look at what's happening to fuel, we did not raise fuel surcharges when fuel prices started going up. And that was one of the luxuries of our forward buying strategy. It gave us time to assess what was really going on before we needed to react. Now that they're coming down, we are looking at it actively to see what's appropriate in the market and for our customers, and we'll continue to look at that.

What we wanted to flag is it's a big story out there. There's a reason why it doesn't impact our fuel costs because of the way we smooth on an ongoing basis. So it hasn't in the first half. We're flagging that it will, to the extent at least, of $15 million, which in our overall cost structure is a very small amount. But that's what we need to look at when we think about the fuel surcharges, how much of that amount might need to be mitigated with adjustments to the surcharge.

Great. Thank you very much.

(Operator Instructions)

We'll move on to Edward Kelly with Credit Suisse.

Hi, guys. Good morning. Two quick questions for you.

Chris, just one follow-up on the $600 million in synergies. Ever since the deal was announced there was lots of talk around potential negative synergies from things like customer overlap. I don't know to what extent you've had the ability to take a deeper look at that. Maybe some color there would be good. Also, the $600 million net, does that basically contemplate any possible negative synergies, as well?

We continue to look at that. Early on we obviously needed to make some assumptions just to figure out what we thought an appropriate -- what the return would be and whether it was an appropriate return for the amount of investment. So we made some assumptions.

As we've gone through the integration planning process we've continued to refine our thinking there. The one thing I can tell you is there's no good science around predicting that.

I can make a guess, you can make a guess, and we could be wildly different in our guesses. And then, secondly, there's no real way to measure it even after the fact.

So, what we've done instead is just try to get into what would cause a customer to want to leave. And then what can we do reason by reason to mitigate that risk. And so we've spend an inordinate amount of time through all of our integration planning teams to go after those issues.

Everything that we're working on is based in the principle of we want to make this the least disruptive to our customers as we possibly can -- our customers and US Foods' customers as we possibly can. So we're not spending a lot of time trying to estimate potential disruption or losses of customers. We're spending all of our time trying to make sure that we know what might cause them to leave and how we're going to address that right out of the box so they don't leave.

To address your question, we're calling these net operational synergies because we do believe it takes into account what we might see in the way of disruption. But it's our estimate and we frankly hope that we're going to be wrong and it's going to be better than that.

Okay. Good. Thank you.

And then my one follow-up question here, you are growing gross profit dollars per case again. This is I think the fourth quarter now that we've seen it. So, it obviously speaks positively about the business, speaks positively about the industry.

What I was curious about is how much of it is internal initiatives, things like category management versus just the better industry outlook, as well? I was wondering if you could maybe help pars that out for us.

Great question, hard to answer. I think we're hopeful that some of this positive consumer sentiment that's been out there for a while begins to get to our customer base and that that will translate into more industry growth. Our quarterly numbers as you track them, you see they've been floating around between 2% and 3% real here over the last few quarters.

We do have positive growth for the locally managed customers now which we didn't have a year ago. So, that's a big part of it, coming back to mix in a different way, customer mix.

We've spent, as you can appreciate, a lot of time and effort over the last 15 months with best practices and how to manage margin better and still effectively deliver what customers need in terms of offerings. But clearly the category management is driving a fair amount of it right now. And we're doing a better job of integrating it, as I said in my prepared comments, into the everyday business activities. I would say that's a large part of it.

Great. Thank you.

Moving on to Vincent Sinisi with Morgan Stanley.

Great, good morning. Thanks for taking my question. I wanted to ask you guys about the ERP rollout. It seems like parts of it are going to continue to move forward here. I know in the past you've said that with the merger pending you were taking a bit of a step back on some of those processes. So, can you just recap for us all in terms of is this now going to really restart here or are some parts of it, or which parts of it, will still be waiting on that outcome of the merger?

Good morning. I think it's more of what we talked about over the last couple quarters in terms of we are not doing new deployments right now until we have a better sense for where the merger is going to play out and when and some of the geographic issues that will come with that. But what we've been able to do, and what we talked about in the last earnings call, we've been able to go in and put in some significant enhancements into the software that are now being utilized by the 12 opcos that are on the core SAP software platform.

And the other thing we're doing more of, which we spoke to here today, is taking some of the other applications, whether they're financial or HR, maintenance, that type of thing, even for the non-SAP opcos bringing those into SBS, accelerating that work to where SBS is now supporting, in certain areas, not just the 12 opcos that are on SAP but these other functional support software packages, as well.

To summarize, I think it's a combination of we're continuing to enhance the support around and the software that the 12 opcos are using, as well as beginning to leverage SBS in a different way, as I said, so that, A, we're providing better service to the 12 opcos today, but also, when we do begin to redeploy again, those future conversions can go more smoothly. And then we're going to defer any further deployments until we understand the timing of the merger a little bit better.

Very helpful. Thank you. Just as a follow-up, going back to the 11 facilities that were called out today, any further color that you guys can give in terms of perceived market share or the competitive stance in those areas? And then also, just as a matter of process, I just want to make sure that I'm correct here, when dealing with the FTC, so those 11, the proposal of those 11 facilities, you have already gone to the first level of discussions and now it's, in a sense, being escalated to the five commissioners? I just want to make sure that that step is correct.

Let me be clear or try to be clear. We have had multiple discussions over multiple months with the FTC. And we are trying to the best of our ability to understand not just the nature of their concerns and the depth of their concerns and the breadth of their concerns, but also how we think we can remedy those concerns based upon our knowledge of this industry, based upon our knowledge of how to ship groceries to customers and our knowledge of competitive positioning.

So, this package is a package that we have developed that we believe addresses their concern. We have received no approval from the FTC at any level on this package.

Okay. And then just -- maybe you can't say so much at this point -- but any further color on the specific markets where these 11 are located?

No, we're really not going to get into talking about market share in individual markets.

Okay. Totally understandable. All right. Great. Thanks very much. Good luck going forward.

We'll move on to Ajay Jain with Cantor Fitzgerald.

Good morning. Thanks for taking my question. Bill, based on your prepared comments on the merger and the objections by the FTC staff, I'm just wondering if your announcement with Performance Food could really set the stage for litigation with the FTC. If the process goes in that direction, do you think you can wrap up any potential litigation and complete the merger process by the time the agreement is set to expire? I think that deadline is in September, if I'm not mistaken. Do you feel like you're potentially running out of time to the extent that's an issue at all?

I want to make sure I'm answering this right. We think we have ample time, if we do end up in litigation, to work through that and still bring that to some type of closure before the expiration of the merger agreement. Is that what you're asking me?

And just finally, as a quick follow-up, on the merger-related expenses, can you just quantify a little bit better how much you expect that to moderate in the back half of the year?

I would love to be able to have a forecast for merger-related expenses, and certain of those line items, I can do that. I can say this consultant we don't need them anymore, and these consultants we still do.

A lot of that just depends on what we're doing in the third quarter and fourth quarter of the year. So, it is rather difficult to estimate those expenses on a go-forward basis.

I'm going of say they're moderating. They're certainly not going to go to zero. There's work that we're going to continue to do to prepare.

But we're certainly looking to stand down any teams that have completed their work so that we can reduce those expenses. And we look at that literally every month to decide how many consultants we need here supporting us. But it's too hard to call, frankly, where we're going to be in the process and what work needs to be done.

Okay. Thank you.

Next question will come from John Ivankoe with JPMorgan.

Hi. Great. Just really quickly from me at this point. The overall trend of inflation going forward calendar 2015, and if not calendar 2015 at least the back half of your FY15, just in terms of where you see it trending from a gross profit per case perspective, if it's potentially getting back into a place where passing on pricing can be easier to the customer, in relation to a previous question. Thanks.

I don't think we're there yet, John. I do think we're beginning to see some subsiding in the trajectory of the inflation rate. Hopefully we've peaked here at the 6%. It's still early this quarter.

The individual categories are moving around. Right now the bulk of the inflation, as we sit here today, is more on the meat side. Dairy's beginning to level out. We don't make predictions or give guidance.

You really asked two questions. I think the inflation over time over the next 6, 9, 12 months should subside to some degree. I don't know where it ends up but hopefully any less than the 5% to 6% because, as we've always said, that's not good for our customers. And that's why sometimes -- or, actually, most of the time it's hard to pass those along as fast as you would like. I think we're seeing a little relief but too early to call until we get into March and April and we're back into the heavier volume months.

Thank you.

We'll move on to Kelly Bania with BMO Capital.

Hi, good morning. Thanks for taking my question. Just another one related to the merger. Just based on your discussions with the FTC over the last year and what their concerns are, I'm just curious how you would characterize what you perceive as the likelihood that the FTC will accept this proposal as a remedy. Does this address all of their concerns in your point of view?

Appreciate the question. I don't think I'm in a position to really address the likelihood. There may be other people out there that can give you a better handle on that.

I would just continue to say that we believe strongly in this merger. We believe it's pro-competitive in what's already an incredibly competitive industry. We believe it's good for our customers.

Clearly there will be some disruption so I'm sure there's been some concerns conveyed to the FTC and to us from that standpoint. It's not unusual in mergers.

We spent a year and tens of millions of dollars preparing an integration plan to mitigate as much disruption as possible. And we think over the medium term to longer term this is very good for our customer base. It's going to be good for our shareholders.

We think it will actually raise the bar for competition in our industry which long term is good for everybody in our industry. So, we believe strongly in our case and that's probably all I should and can comment on.

Okay. And then just maybe another follow-up. How are these 11 DCs selected. Just doing some quick match, I think you talk about 80 DCs and these look either like they're larger or more highly productive than the average. Just any comments there would be helpful.

I'm going to start out and Chris can give you probably a little more color. Essentially I think you can see, if you put together all the color we're trying to provide today, we tried to put together a footprint that would address the Western part of the United States in a way that would complement the current footprint that PFG has, which is across the country but it's a little less dense in the West compared to US. What you're seeing there primarily is an attempt, both with large and medium-sized facilities, to address that.

Great. Thank you very much.

We'll move on to Mark Wiltamuth with Jefferies.

Hi, good morning. One of the challenges on the divestitures, is there any way to guarantee that the customers really follow the facility divestitures? AndI wonder if there's any way you could give us, from a big picture standpoint, what the market share on the national accounts looks like before and after the divestitures.

There's no way to guarantee it. But, again, we've done a lot of work on the integration planning and working through this TSA agreement with PFG to address that. And Chris has been leading that work so I'll let him take that.

One of the things, as I said, in our integration planning, one of our primary principles was the least amount of disruption to our customers, US Foods' customers. We took the same approach in our discussions with PFG and obviously they care a lot about that, as well. So, we structured it in a way that we believe is going to be least disruptive to those customers.

If you think about a customer that's being serviced out of the, call it, Denver facility for US foods today, that same salesperson, those same trucks, food coming out of that same facility is going to go to that customer once it is owned by PFG. We believe that's the least amount of disruption to the customer. And as long as they continue to get good service at fair prices and value, we don't believe there's a reason for them to want to change. So, I'll agree with Bill, there's no guarantee, but I believe we've set this up in a way that the customers will continue to get good service and good value going forward.

Are there long-term contracts that transfer? And is there a noncompete agreement or anything like that on going after those customers.

There's a lot of things that will be contained in the 8-K which we'll file later this week. So I'd encourage you to look into that. There's enough in there, I think, to keep you busy for a while.

But, as you might imagine, we intend to, and the FTC, of course, would want us to set PFG up for success here and, again, do it in a way that our customers don't feel or experience that disruption. So everything that's necessary to make that happen, we've put into the TSA or the agreements.

Just to illustrate that from a layman's standpoint, what Chris and Russell and our teams have done is basically as you look at -- don't just look at it as facilities. From a customer's perspective, they're going to be in a position to have the same salesperson, the same driver, the same customer service team. And this TSA agreement which you can look at once we get it out in the K, 8-K, we've taken a lot of measures to position PFG to be successful as they transition that business. We've done a lot of things to position them for success early days here.

Okay. And I know you've addressed this, this $600 million synergy number, but if you stand back and look at the deal from a broad perspective, US Foods has lost earnings power while it's been waiting for the transaction to close. If you look at where they are today, add in the synergies, where do you think you'll be on EPS accretion by year 4 or 5?

We've not given, and I'm probably not going to today, given any kind of forecast for earnings accretion. We obviously have relooked at the transaction based upon everything that's happened over the year and based upon this divestiture package, and we still feel this is a very nice return for Sysco and our shareholders.

We've got to obviously get the deal closed, and then we've got to work on executing against the synergies. And we now also - and it will add a little more complexity -- we also need to work on the divestiture package and make sure that that's set up all right.

As long as we continue to service the customers, ours and US Foods, we get a very nice return out of the transaction. And that's what we're focused on.

Okay. Thank you very much.

Ladies and gentlemen, we have no further questions at this time. At this time, that does conclude today's conference. We do thank you for your participation. Have a good day.