西斯柯 (SYY) 2015 Q4 法說會逐字稿

Good morning, and welcome to Sysco's fourth-quarter and FY15 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 conference over to Neil Russell, Vice President of Investor Relations. Please go ahead, sir.

Thanks, Don. Good morning, everyone and welcome to Sysco's fourth-quarter and full-year FY15 earnings call. Joining me in Houston today are Bill Delaney, our President and Chief Executive Officer; Chris Kreidler, our Chief Financial Officer; and Joel Grade, our Chief Accounting 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 in a material manner. 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 members 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 slides 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 broad line and SYGMA combined unless otherwise noted.

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. Finally, we will be hosting an investor day on September 15 in New York and look forward to seeing some of you there. At this time, I would like to turn the call over to our President and Chief Executive Officer, Bill DeLaney.

Thank you, Neil. Good morning, everyone and thank you for joining us today. Sysco's financial results announced this morning reflect a year of solid operating performance and excellent progress on several key initiatives that have begun to provide a strong foundation for value creation. Our favorable operating performance was driven by providing our customers with exceptional service, growing our business with both locally and corporate managed customers and stabilizing our gross margins.

For the year, we achieved record sales of $49 billion, an increase of 5%. We grew our adjusted operating income and earnings per share by 3% and 5% respectively. We generated $1 billion in free cash flow. We earned a return on invested capital of 13% on an adjusted basis. We increased our dividend for the 46th time in our history and distributed nearly $700 million in dividends to our shareholders.

In addition, and subsequent to the end of our fiscal year, we announced a $3 billion, two-year share buyback program that will more effectively leverage our strong balance sheet and return additional capital to shareholders. It is important to note that these accomplishments were achieved with minimal disruption from the US Foods merger planning and litigation processes that continued throughout the entire fiscal year. And I am extremely appreciative and proud of all of our associates who performed so well on multiple fronts.

Moving to our performance in the fourth quarter, we are encouraged by the following. We generated case growth of 3.6% in our broad line business. Gross profit grew 3% in an environment with no food cost inflation, and gross margin expanded by 35 basis points compared to the prior year. Expense management trends improved from earlier in the year and our cost per case in our North American broad line operations was essentially flat, compared to the prior year on a constant currency basis.

Key drivers of our improved operating performance for both the year and the fourth quarter were the following: increasing acceleration of local case growth; effective implementation of our category management process; improved Sysco brand penetration, especially with locally matched customers; significant progress in developing and growing our offerings for the Hispanic customer segment; collaborative and mutually beneficial joint business planning processes with a small but growing number of corporate management accounts. One other meaningful factor that impacted our financial results was the degree of volatility and food cost inflation.

We experienced nearly 5% food cost inflation during the first three quarters of 2015, and we managed it very well. However, food cost inflation in the fourth quarter was essentially flat which unfavorably impacted sales and gross profit growth. Early trends in FY16 are similar and we expect this to be a modest sales and gross profit headwind over the next quarter or two. We are committed to mitigating as much of this pressure as possible through ongoing gross margin stabilization efforts and improved expense management.

Moving to market and economic trends, as I speak to you today, the data is mixed. Consumer confidence and the outlook of food service operators are at historically high levels but have slipped somewhat in the summer months. Fuel prices at the pump remain at historically attractive levels which should support higher consumer spending moving forward. Restaurant spend is up but traffic is generally flat.

Overall, the market environment appears to be modestly improved from a year or two ago but it is unclear what the go-forward trajectory for the industry growth is over the next several quarters. Whether the overall industry grows over the next few years at 1% real growth, consistent with the past few years, or closer to the 2% that Technomics recently released 5-year forecast, we at Sysco will continue to differentiate our product and service offerings in a manner that will allow us to both profitably grow our market share and provide an improved return on invested capital for our shareholders.

I will offer some additional color on our future opportunities after Chris shares his perspective on our financial results for the year and the fourth quarter.

Thanks, Bill and good morning, everyone. I would like to begin by providing some highlights of our financial performance in 2015 and then I will discuss our results for the fourth quarter and I will close with some guidance for FY16 around a few metrics. For the year, sales, gross profits and adjusted operating expenses all grew about 5%. Sales and gross profits benefited from high food cost inflation in the first half of the year, but were constrained in the back half as that inflation moderated and eventually disappeared.

Expenses were growing too fast early in the year, but were being supported by high gross profit growth. Expense growth moderated in the back half of the year, especially in the fourth quarter. Our adjusted EPS also grew by about 5% this year. One thing to note is that our diluted shares for the year increased 1.1% because we did not repurchase shares while the merger was pending as we typically would have done. If we had held our diluted shares flat, it would have added approximately $0.02 to our adjusted EPS and 1% to our EPS growth rate.

We achieved several of our objectives during the year. We exceeded our final three-year target for annualized business transformation benefits. Our successful implementation of category management helped to enhance gross profits and mitigate gross margin pressure. For the year, gross margin was flat compared to 2014 after declining in each of the last four fiscal years. We continued our prudent management of capital expenditures with net CapEx of $518 million falling well within our guidance range of $500 million to $550 million.

We recorded another year of significant growth in free cash flow on an adjusted basis, which grew to $1.3 billion, up 22% over the last year. With regards to cost per case, we achieved our revised goal of limiting the increase to $0.05 to $0.10 for the full-year. Actual cost per case increased $0.09 per case for the full-year on a constant currency basis and decreased $0.01 in the fourth quarter compared to the same period last year.

It is important to note that our original objective when we started the year was to hold cost per case flat for the year. Because we didn't achieve our original goal, we also did not achieve our goal of growing operating expenses slower than gross profit for the year as the operating expenses were up 4.8%, versus a gross profit increase of 4.5%. However, we were able to improve our cost per case performance in the second half of the year, and achieved our goal in the fourth quarter where operating expenses grew by 2.2%, compared to gross profit growth of 3%.

Let's turn our attention now to our fourth quarter results. Year-over-year sales growth decelerated to 9%, as food costs inflation declined significantly from 5.4% in the first half of the year and 3.7% in the third quarter, to flat in the fourth quarter. During the quarter, we saw relatively modest inflation in the meat, poultry and frozen categories, of produce, seafood and dairy were deflationary.

Changes in foreign exchange rates continued to have a much larger impact than usual on the fourth quarter. A strengthening dollar depressed our foreign sales as we converted them to US dollars and as a result, decreased sales by 1.4%. Acquisitions increased sales by 0.4% in the quarter. Broad line and SYGMA case volumes grew 2.2% during the quarter including acquisitions and 1.9% excluding acquisitions. This result includes a decline in SYGMA's case volume as we worked to optimize that business. Broad line case growth, which excludes SYGMA, was 3.6% reflecting our solid performance with both locally and corporate managed accounts. We are especially encouraged that local case growth in our US broad line business has grown sequentially in each of the last 5 quarters.

Gross profit in the fourth quarter was $2.2 billion, a 3% increase, while gross margin increased 35 basis points to 17.9%. Our US broad line business was responsible for the majority of this increase, driven by a stronger relative mix of sales for our locally managed business, benefits from category management and a very effective national promotion for our Sysco branded products. Case growth for our corporate managed customers remained strong but competitive pricing in this segment pressured overall gross margin.

Expenses for certain items in the fourth quarter totaled roughly $430 million, almost entirely related to the termination of the US Foods merger. This included non-cash accruals for the two breakup fees paid to US Foods and PFG totaling $313 million, $67 million in litigation fees and other integration planning expenses, interest on merger debt of $41 million and an $11 million write-off on merger integration capital. This was capital we spent on projects that would only be useful if the merger was completed. The vast majority of the merger related capital we spent will benefit the Company as we move forward. We have included a table in our slide presentation to show the expense impact of these items. I will provide more details about the impact to our 2016 financials in a few minutes.

Adjusted operating expenses for the fourth quarter increased $36 million, or 2%, mainly driven by the impact of higher case volumes, which increased our payroll and more specifically, incentive compensation accruals. As I mentioned earlier, we made progress in reducing our cost per case during the quarter. Cost per case was down $0.01 on a constant currency basis and down $0.07 when we include the impact from foreign exchange translation. Adjusted operating income for the quarter was $509 million, up 5.8%, from the prior year, and adjusted operating margin was 4.1%, up 19 basis points from last year.

Turning to other income, there was an $18 million increase from last year, mainly driven by accounting for our JV transactions where we consolidate 100% of the JV's results above the operating income line and the back out the non-controlling interest in other income expense.

Our tax rate for the quarter was negative primarily driven by the merger of termination fees. Adjusting for these fees and other certain items, our tax rate for the quarter would have been closer to 38%. Adjusted net earnings for the quarter increased 5.7% to $309 million, and adjusted EPS increased 6.1% to $0.52. Cash flow performance for the year was again very strong. Cash flow from operations increased to $63 million to $1.6 billion, while free cash flow increased $42 million to $1 billion.

Both operating and free cash flow reflect the negative impact of two items. First, the cash impact of certain items was $231 million in FY15, mainly due to merger-related expenses. Second, as we disclosed earlier this year, we made a $50 million pension contribution 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. After adjusting for these items, free cash flow was $280 million higher or $1.3 billion in FY15.

Capital expenditures for the year, net of proceeds from asset sales, increased $21 million to $518 million, well within our guidance and internal budgets. During the year, we significantly increased our investment and business technology as we were planning for the merger integration. While the vast majority of these additional investments will benefit the Company even without the merger, we wrote off $11 million, as I mentioned previously. We were pleased that our adjusted ROIC grew 70 basis points to 13.1% in FY15, reflecting the continued prudent and disciplined investments in our business and solid operating performance during the year.

Finally, a housekeeping item to point out in our segment reporting. We have reclassified our specialty meat company results out of the broad line segment and into the other segment, as these operations are no longer reporting to our broad line leadership. We provided a schedule in the earnings release this morning to show the quarterly and full-year impact of this reclassification to both FY14 and FY15.

Looking ahead, I would like to provide guidance for a few metrics to set expectations for the coming year. First, FY16 will be a 53-week fiscal year for us with the extra week falling in the fourth fiscal quarter. Second, as Bill mentioned, we are starting the year off with little to no food cost inflation which will create a modest sales and gross profit headwind over the next quarter or two.

Third, we will recognize additional merger-related expenses totaling $95 million in the first quarter of FY16. These will include $50 million related to the payment of the 1% call premium on the merger debt which was redeemed in July, a $29 million write-off of professional fees related to the issuance of the merger debt, an $18 million write-off of the bond discounts on the merger debt, a $10 million gain on the termination of the interest rate swaps we put in place upon issuing the merger debt, and $8 million in interest expense incurred leading up to the July 14, 2015, redemption of the merger related debt. These amounts will all be classified as certain items in the first quarter.

The negative cash impact of certain items during the first quarter of FY16 will total approximately $350 million, including $313 million reflecting the payment of the break fees accrued this quarter, $500 million for the bond redemption premium, partially offset by approximately $15 million in proceeds related to the gain on the termination of our interest rate swaps.

Fourth, we expect to issue $2 billion in new debt around the end of the first quarter to fund both the accelerated share repurchases announced previously, as well as term out a portion of our commercial paper facility. Adjusted interest expense for 2016 will be significantly higher because of this. Additionally, prior to issuing our merger debt, in October of 2014, we entered into swaps that locked in a portion of the interest rate. These swaps were settled in FY15, and we expect to amortize about $10 million of that interest expense in FY16.

The share repurchase program we announced will positively impact EPS in FY16. Because of the timing of the buyback implementation, we don't expect to realize the full year's benefit from the reduction of shares in FY16. We anticipate a benefit of approximately $0.03 to $0.04 to diluted EPS in FY16 driven by a 4% to 5% reduction in average shares outstanding partially offset by higher interest expense on the new debt issuance. In FY17, we would expect to capture the full-year impact of this buyback on an annualized basis.

Fifth, with regards to taxes, a normalized tax rate for Sysco would typically be in the range of 36% to 37%. And lastly, our forecast for capital expenditures, net of proceeds for asset sales, is $550 million to $600 million for FY16.

Now, I will turn it back to Bill for closing remarks.

Thanks, Chris. While pleased with our progress and accomplishments in FY15, we recognize that there is still much work to do if we are to fully realize our vision for Sysco, to be our customer's most valued and trusted business partner. The goods news is that we have a sound strategy that is predicated on profoundly enriching the experience of doing business with Sysco, enhancing productivity and innovation in all aspects of our business, attracting and developing the best people available and exploring opportunities for growth within and beyond our core business. The better news is that we have begun to realize the benefits of several years of transformative change to our business through a portfolio of strategic business initiatives and the exciting news is that we are now beginning to embed these initiatives in how we do business each and every day by putting the customer first and working cohesively as one Sysco.

Following the termination of the US Foods merger agreement, and utilizing the knowledge that we have acquired through our ongoing customer insights work, we have begun to update our 3-year strategic business plan. Specifically, we see opportunities to further accelerate our case growth, especially with locally managed customers, through more impactful product and service differentiation, together with enhanced sales and technology capabilities. We also believe that we can build upon our recent success in stabilizing gross margin through enhanced product innovation, growing our Sysco brand sales and improving our pricing analytics and support.

In addition, we see significant potential to improve our productivity and reduce overhead costs throughout our supply chain organization and in the administrative areas of our business. We will continue to invest in our business to fully realize these benefits and improve our return on invested capital over the next three years as well. We will discuss these plans in more detail, including financial impacts, at our September 15 Investor Day.

Lastly, as most of you know, this is Chris's last conference call with us. I would like to thank Chris for his numerous contributions to Sysco over the past six years, and all of us at Sysco would like to wish Chris and his family the very best as they move forward. We also look forward to welcoming Joel into his new role and working with him as our CFO.

And with that, operator, Chris and I will now take questions.

(Operator Instructions)

We will go for our first question to Edward Kelly with Credit Suisse.

Hi. Good morning, guys.

Good morning.

Could we start with the cost control side? Your operating expense growth is better this quarter than it has been in a while actually and congratulations on your flat number per case. Can you provide a little bit more color here on basically I guess what you are doing within the business?

And then Bill, not maybe to steal too much thunder from the analyst day, but when you talk about significant potential to improved opportunity and reduced costs, could you give a little more insight into what you mean there?

Yes, we won't steal too much thunder from Investor Day, so don't worry about that. I think on the cost side, the way I look at our numbers as those of you who follow us know, I look at them in terms of what are the key things we look at here? Volume growth, in particular relative to the market. And within that volume growth, it is very important that we see good local case growth and we have seen that here over the last several quarters. We need the contract business as well but we need that local business to grow as well, to drive profitability.

And then I look at operating income growth, operating income is always going to be, not just mathematically, but from a business perspective, it is going to be a byproduct of the environment that we are in. And at times, sometimes the gross profit will grow faster and sometimes the expenses will grow a little bit slower. I think any given quarter, there's always things that move around that could impact the numbers. I think as you look at the year, I think I would say to you that basically what we said in the prepared comments, we are pleased with what we saw in the fourth quarter on the expense side. In particular, in the supply chain side of the business and really the business itself in the field where we had flat cost per piece.

For the year, we didn't. We were up almost a dime. And I would say to you, we need to bring that number for the year back down into that flat to up a $0.05 zone. I'm not saying that we will or we won't. I'm just saying that that is where the numbers ultimately need to get to, to drive the earnings growth. So our plan to go to your Investor Day, our plan is to become more consistent in terms of how we do that, and to take the quarter we saw here in the field, and to begin to put that up quarter after quarter.

With that said, I also said that we are going to continue to invest in the business here in terms of things that will drive some of the commercial initiatives that are really panning out for us now, both on the growth side as well as the merchandising side. So it is always going to be a mix I think of timing of investment, relative to what you think the value of it is. And bottom line, I would say, there were some things in the fourth quarter, for example, bad debt. We had an exceptional year in bad debt this year, knock on wood please. So that benefited our fourth quarter numbers, as well as the year to some extent. So I would say that somewhere between that 2% growth and the 4.8%, is where we need to get to.

And I would say to you, in terms of investor day, I think what you are going to hear us say there, Ed, is we are running a business here. It is very important that we accelerate our case growth. We see opportunities to do that, especially on the local side, that needs to turn into levers in our operating income, which we did here in the fourth quarter, and we were up for the year. So I look at the fourth quarter as hopefully a proxy for what we can do next year.

Quarters are going to have their own unique volatility. And I would think that you will hear a message from us that says that we have opportunity on all sides, including the cost side. But the big opportunity here is always going to be for a company with our capabilities, with our footprint, with our people, and with our technology today, to grow faster than the market and to do that profitably and to provide a good return on capital.

So certainly opportunities for cost reduction. They are significant. It will take some time for that to play out and we will talk about that more at Investor Day. But I don't want to leave this question without emphasizing how important it is for us to grow the business as we did this quarter. I mean this was a quality quarter for us, both in terms of growth, leverage and the mix of that growth. And I think that is really what are you going to hear at Investor Day. It takes all facets of our business to the end in sync for us to go where we want to go.

Thank you. I will let some other guys go.

We will go next to Karen Short with Deutsche Bank.

Hi, good morning. It is actually Ryan Gilligan on for Karen. How would you guys characterize the competitive environment now that the deal is behind us and inflation is moderating?

I don't think the competitive environment has changed that much at all. There is still plenty of competitors out there of all types as we have talked about in great detail here over the last year or two. So I would tell you I think the competition is very, very acute. I think in the short term, the way I would look at inflation, we have, for years said, and truly believe, that the optimal range of inflation for our customers is, and for us, is probably in the 2 to maybe 3% range.

That's a level that typically our customers can pass on and do pass on, and generally that's a level that the consumer will accept. So when we are in those levels, we are able to have the best of both worlds, if you will, in terms of a little bit of a tailwind on inflation and at the same time it doesn't hurt demand to any large extent. We very seldom find ourselves in that zone and right now we find ourselves in a zone where there's little to no inflation.

As we said, there is some modest inflation, some modest deflation in the category. I think the way I would look at that is it is a little bit of a better environment right now in terms of our customer being able to manage their business and our costs are not going up that much, obviously. We don't have to raise our prices as much. So from that standpoint it probably does help in terms of case growth. But in terms of the competitive environment, I don't really think it changes that at all.

That's helpful, thanks. Could you talk about your labor cost outlook and if you think there will be a battle for talent going forward as US Foods rebuilds its sales force?

We will talk more about labor costs I think at Investor Day but generally, we've got 50,000 people out there and they generally get raises every year. And our whole goal as I was speaking to in Ed's question, is the closer we can get to improving our productivity every year, in sync with the labor increase, the better chance we have of keeping that cost per case in that zone that I discussed earlier. I don't know that I would -- I look at -- good people are always in demand in this industry and we have a lot of good ones. So our people are always going to have opportunities. I would tell you our retention has improved here in recent months, as we have matured in a lot of our transformation work. And I don't expect that to be a big issue for us in terms of retention but we work hard every day to provide our people with good careers and we work hard every day to make sure that we are retaining our best people.

We will go now to Andrew Wolf with BB&T Capital Markets. Mr. Wolf, your line is open. Please check your mute function. Hearing no response we will go to our next caller, Vincent Sinisi with Morgan Stanley.

Good morning. Thanks very much for taking my question, and Chris, best of luck to you. I wanted to ask, you mentioned about some of the technology investment that were made in preparing for when the merger was a possibility. Can you just give a little bit more color in terms of how that does play in with some of your former initiatives that you have been continuing to execute on and what we can expect going forward?

I think the biggest thing you can expect, and we will talk more about this at Investor Day as well, is while there has been tremendous emphasis, and appropriately so, on implementing SAP and where we are in that, we've kind of turned the corner there. On the one hand, we've stabilized that system, we've improved the processes and we are moving more toward a modular rollout approach as opposed to an op-co multi-modular rollout. And we are starting to see some good success there. And the most recent example being our inventory replenishment system, which internally we refer to as BPR.

In terms of the basic core business, I think we are in a more steady state, mature place there. We are running a business, we are running it well. We will continue to improve that. But I think what you're going to see us go, and this is somewhat of a -- not so much a learning, but just a point of emphasis that came out from a lot of the planning work, is that we need to accelerate some of our work on the online mobile platform area. And we've got some things going on there that are very encouraging and we will talk more about that. So anything we can do here to make it easier for our customers to order, and order when they want to order and for our MA's to facilitate those orders, would be a very high priority.

Great, thanks, Bill. And just one other quick follow-up, if I may. In the prepared comments, you had mentioned about working specifically on the corporate managed fund. Anything to call out there?

I think the one thing I didn't out is this joint business planning approach that we've taken and it really requires -- it requires a different approach to doing business, because it does require more transparency. It requires a commitment that needs to be a win-win for both organizations. And we are at that point.

Over the last several years, we've worked very hard with all of our customers, but on the contract side, the large contract side, certainly trying to utilize our supply chain network and our footprint to optimize getting product to their facilities and to their restaurants in the most cost efficient way possible. But there's some limitations to that until you really sit down and open it up a little bit more in terms of what each organization is willing to do.

What I am getting at there is where it makes sense and it's not always going make sense, it depends on the nature of the relationship and the strategies of the respective companies. But we are starting to see some really nice progress with a couple of key customers in particular, where by working together, we are able to reduce their costs and also reduce our costs at the same time. And this is really the most important part, find ways to grow the business together. So more to come. But that is something that we have been working on quite a bit the last year or two years.

Okay. Very helpful. Thank you.

We will take our next question from Mark Wiltamuth from Jefferies.

Hi, thank you. I wanted to ask about the SYGMA decline in the quarter. It was down 8% on sales. If you could maybe talk about how that impacted the gross margins because the mix there has changed and obviously SYGMA is one of your lower margin businesses. How much did it help the gross margin?

How much did SYGMA help the gross margin?

No, the fact that that is down, so the mix is lower there for SYGMA.

Oh, okay. I would say the quarter, very, very modest impact, but probably some. I think to your broader question, SYGMA is in somewhat of a turn-around situation right now. We've got new leadership there at the top, Greg Keller who knows that business very, very well. And this is a year where we went through some changes with customers. There was some business that we lost that we didn't want to lose. There was some business that we transitioned because it was the right thing for us and the customer. And then there was some business where we had to adjust our pricing which hurt our margins somewhat.

So there was a little bit of everything going on there. We also have some expense challenges there that we are working through. So this is not a great year for SYGMA and I expect it to improve here as we go forward in the new year and the following years. But I would say overall, we are trying to optimize that customer base, in a way that obviously needs to work for the customer. As well as us. And I think you will see some more of that next year, but I also think you will start to see some improvement next year -- excuse me, in the current year.

Were there notable losses that we need to carry forward as we model out Sysco in future quarters?

I'm not getting into specifics but I think I would look more at the fourth quarter than the first three quarters probably.

Okay. Thank you.

We will take our next question from Meredith Adler, Barclays.

Thank you for taking my question. Can you hear me?

Yes.

A quick question, you used to talk about street business and now you are talking about locally managed. Do you think you could just tell us what the definition is? Is a locally managed the same as street business?

So that's a great question, and it is one of those questions we get from time to time. No it is not the same, but it is very close. What we did, this is about three years ago, Meredith, we changed our terminology internally to frankly, bring a little bit more clarity and accountability to the ultimate responsibility for these customers. So locally managed business is business where the customer generally, and there is exceptions to every rule in Sysco, but generally the customer, the decision maker of that customer is proximate i.e, within the selling radius of that local operating company.

So there is a high percentage of street business, but there is also a fair amount of what we call local contract business. And these would be chains, and they could be of different sizes, they could be local chains, they could be somewhat regional and they could even be across regions. And that's why I say there is exceptions. In our world, it is street business, plus what we call local contract.

And then corporate managed business is your very large regional chains, and your national and international customers for that matter, where the relationships are largely managed from corporate here, and generally with the customer. And then obviously our operating companies are responsible for handling those relationships locally with the units and servicing those accounts. So that's as clear as I can make it. And there is some fuzziness there in the local contract, but the key is really, that's how we look at the business and it's how we sign primary accountability for these customer relationships.

That makes sense. I just wonder when you talk about growth in the locally managed business, you could be talking about either small chains or where it's contracted or business when you actually call on the customer. So the growth you talked about, is that coming from both kinds of locally managed business, or is there more growth on the independent?

I would say it is coming from both kinds. This happened to be a year where we actually lost a couple of very large local contract customers that were spread across multiple op-cos. So that's in that fuzzy category which we call local contract because the history of those relationships is local but they cross over multiple op-cos. I would say generally and even currently, that growth is coming from both.

I just had one other quick question. I did notice that G&A was much lower this quarter than the recent run rate or lower than last year. Obviously, fourth quarter is a true-up period. Is there anything to comment on? And when you talk about cost per case, do you include D&A in cost per case, or is that just simply a corporate kind of item?

Are you saying depreciation and amortization, Meredith?

Yes.

Go ahead, Chris.

So depreciation and amortization, to the extent that it applies to business technology, we would capture that at the corporate level. To the extent it applied that there's something that is at the local level, it's captured within cost per case, because it is applied at the local level.

Generally, I don't think there is anything especially to call out this quarter about the change in that number. We had, as you pointed out, there was some true-ups that occur at the end of every year. We had probably more than last year than we had this year. So that is going to help your growth rate a little bit.

But in general, operating costs were much better managed this fourth quarter than last fourth quarter. The number we cited, up $36 million, happens to be the amount of the increase in incentives for the quarter as well. So to the extent it went up, it went up for the right reasons, we were selling a lot more cases and rewarding people accordingly.

And so the lower growth in case cost this quarter wasn't particularly due to D&A?

It was a part of that mix, but there was no significant amount attributable to that, no.

To Chris's point, there wouldn't be a lot of amortization in that cost of goods but there is certainly a lot of depreciation in that number.

There is, to the extent that at the field level, that's exactly right.

Thank you very much.

We will take the next question from Kelly Bania with BMO Capital.

Hi, good morning. Thanks for answering my question. I just wanted to talk a little bit more about gross margin. You called out some of your initiatives, a little better growth with some of the local accounts. But if you just step back, how helpful was the flat food cost inflation and where do you think gross margin has really stabilized at?

I'm not sure I can answer the second one but let me start with the first one, Kelly. I think it depends on whether you are talking about gross profit or gross margin. I don't want to be a too anal on this thing but that's the reality of it. We pay our bills with dollars, so gross profit dollar growth is very important here. We had 3% gross profit dollar growth which was less than what you saw earlier in the year, but at a time when there's no inflation, that was pretty good and we were able to manage our expenses pretty well.

That's why I was saying earlier, those numbers are going to move around from time to time. Obviously, what we need to get back to more consistently is where that gross profit is growing faster than the expenses. I think on gross margin, when are you in an environment where your costs are not going up, there is not so much pressure to obviously raise your prices. And that allows you to manage your margin percent a little bit better. So there is no doubt that that helped on the percentage part of it.

But again, we need to manage both and after three years of talking about how important gross profit dollar growth is, I'm not going to sit here today and take a victory lap on gross margin. I think it is good it went up but I think it is more impressive that we were able to grow the gross profit 3% with very little, if any, inflation and keep our expenses below that. That will be somewhat challenging here, as we said, in the first couple of quarters, but we will continue to work at that. And we'd like to get the gross profit growth back up in that 4% to 5% zone over time like what we saw. But that will be somewhat driven by inflation.

I think the corollary here, Kelly, is when we have inflation, let's say higher than normal inflation like we saw in particular the first half of the year, that is where it is very difficult to, and at times not even appropriate, to raise your prices as fast as your costs are going up. So when you have an inflation environment of 5%, 6%, it is highly unlikely that your gross margin is going to keep pace at a year-over-year basis there. So it is math but it is more than math. It is the environment that our sales people work in and it is basically what is the right way to treat the customer. So bottom line, I think it helped on the margin, but it hurt on the gross profit this quarter.

As far as stabilizing, let's take it a year at a time, okay? So we have a year here where we have essentially flat margins, and I think what I should say, reiterate here, because we talked about that inflation or lack thereof, I mean we did a lot of good things this quarter and this year. So category management really matured this year and helped improve our margins. We will see some more benefit there in the new year. Not as much, the trajectory, the slope will flatten out a little bit.

Growing local cases is very, very important in this business. I don't think I can say that enough. So what we said here is we now had several quarters in a row where we grew our local business. That is where we provide the most value, that's where we make the most money, and we don't have to grow them at the same rate as the corporate managed necessarily, but we do need to grow them. And I think that contributed significantly to the margin as well as the gross profit growth.

And then this quarter, really the year to some extent, we saw the brand rebound a little bit. Some of that was through some promotional work. Some of it's just the natural byproduct of connecting it with our category management work. Any time we can utilize our private brand to create value, that is also a positive. I think there's a lot of things that led to it, there's a lot of things we need to keep doing well and we have some good things going. But it is competitive out there, and I think if we can stabilize margins at this level, we will be very happy with that.

Thank you very much.

We will take our next question from John Heinbockel with Guggenheim Securities.

Bill, on one of these we have heard is that post the US Foods thing not happening, that the promotional environment has got a little bit more intense. Is that fair? Is that what you are seeing? And then how might that tie in with this disinflation? And does this -- I mean we've gotten from plus four to zero in a very quick period of time. Does that breed more aggressive competition because everybody's COGS are going down, and you know, they can be aggressive without giving up a lot of margin?

Well, John, it has been a long time since I practiced accounting. I'm not sure that COGS are going down in the promotion. I think their sales are going down, and maybe their marketing expenses are going up, depending on how they account for it, so I don't think that is a COGS issue. Obviously capped man had helped us there.

As far as the question on promotion, I see there has been some chatter out there. I mean look, you've got a transition that's going on here and I think in certain markets we are seeing some of that type of activity. I have even read pieces where people are saying that we have stepped up our activity. The reality is we haven't. I think we are always out there selectively doing what we need to do to retain good quality customers and business, and selectively going after high potential new business.

So it is not that we don't promote but I will tell you I don't think our promotion activity has picked up in any meaningful way from a year or two ago. It is out there. I think we are going through this transition period. So it may be somewhat accelerated. But I think that is a little overblown right now.

And then if you look at case progression, so take broad line, up 3.6 this quarter. What had it been running? Is that an improvement? And then if you look at locally managed on top of that, and you said that has improved, where has that improved from? Where was it a couple of quarters ago? Where is it today?

I don't know that we give -- I'm going to let you do the work on some of that, John. I don't know that we give guidance at that level but I can tell you directionally tell you, it has improved. At 3.6, that's total broad line, it's got about 0.5 point of acquisition in there I think. So you are looking at 3% organic growth and I would tell you that that is -- there is a little bit more there on the corporate side than the local, but the local has moved up nicely over the last I think 5, 6 quarters, and it is continuing to grow. So I think the important part there is that piece of it is growing and continuing to grow.

Okay. Thanks.

Sure.

We will take our next question from Andrew Wolf with BB&T Capital Markets.

Thanks, can you hear me this time?

We can.

I don't know what happened there. In the interim, most of my questioned were asked but maybe I can tie it together. I thought the gross margin -- the gross profit growth, when this kind of inflation was pretty good. So and you're saying, even from US Foods, you haven't seen an uptick, if I can be so impolite, your old dance partner there. Have you seen an uptick from them specifically? Or I guess maybe you are saying if so, it is not enough to really change the nature of the market.

So when you sounded a little cautious on the first half of the fiscal year is it more on the expense side? Because if the market environment is not changing and you have some internal initiatives to get the gross profit dollars at least going above sales, is it more of an expense issue? It is just you can't -- it is just hard to keep the expenses flattish or to get the leverage that you got this quarter?

If I came across this cautious, it is just my nature, Andy. But I'm trying to be balanced here.

No, I appreciate being straight.

I think this is an important exchange here right now, so I think -- I'm really pleased with this quarter. The quality of this quarter was very good and we've got some good things going on here on the local case growth side. So we need to sustain that. And I think we still can grow some of the other cases as well. So I think that is a positive. I feel good about that. There is not much we can do about whether there is going to be any inflation or whether there will be a little deflation. So that is where I'm a little cautious. That does impact our top line and our gross profit dollar line.

And then in the expense side, I would say encouraged by the fourth quarter and I would just look for gradual improvement there. I don't think we can sustain 2% expense growth with 3% case growth. I don't think that is a sustainable ratio. With that said, I expect our expense growth to, on a relative basis, to be better next year than what we saw this year relative to case growth, relative to sales and GP gross. I actually feel pretty good about the part that we are managing right now.

And in my caution is, if you look at the quarter, I see that as something -- we had three good quarters this year. We need to have four next year. And they need to look at somewhere around what we saw here in the fourth quarter. But the lines are going to move around depending what is going on in the marketplace. But overall, I feel good but I'm a little cautious on that top line and GP line for the first quarter too.

Andy, I am just going to tie it back to some stuff we talked to earlier in the year. We continue to say, we like to see gross profit dollar growth of 4% or better. I mean that sets us up very, very well. Because of the level of food cost inflation, that is difficult right now. And all Bill was really saying is we are going to have some headwinds on the sales volume, we're going to have some headwinds on the gross profit dollar line. Obtaining that 4% is going to be difficult without some reinflation in food costs.

The reason the 4% is 4% is because we acknowledge that we are going to drive cases and that is going to drive cost. As Bill just said, I think very, very well, if we are going to have headwinds on the top line numbers, it means we would have to control the costs even more at a time when frankly, we are driving cases. So that makes the math a little bit tough.

So I am with Bill. I am very pleased with the quarter. Neither of us are pessimistic about the next year or even the first half of next year. We are, as Bill said, trying to be a little balanced with the current inflationary environment and how hard that is going to be to kind of drive our equation.

Good. No, I saw the quarter that way, too. And just lastly, back to US Foods, I mean they are the number two player, potentially at least in some markets, if they were to really get aggressive, could squeeze some margins. Are you seeing them being pretty normal or are you seeing them ramp it up quite a lot?

Again, Andy, I think in certain markets, our people are seeing some of that. They have a new CEO there now who we know and respect a great deal. I think they've got -- look, they have got a lot to get through here over the next couple three months. I expect that they'll do it and do it well and I expect them to be a rational competitor. But in any given market, any of us could at times be a little bit viewed as being overly aggressive or whatever. I'm sure there's some of that going on. I'm not that close to it but if it was overly significant, I think I would know about it and I don't have a sense that that is a big thing right now.

Thank you. Congratulations on the quarter.

Thanks, Andy.

We will go next to Ajay Jain with Pivotal Research Group.

Hi, good morning. Thanks for the question. Bill, in your prepared comments I think you cited improved expense management and also higher payroll costs, higher incentive compensation. So with respect to your expense outlook for this year, overall, would you say comparisons are starting to ease?

And can you give any additional breakdown on where you're expecting comparisons to improve and where you see continued pressure on earnings? Excluding the merger expenses and interest expense, I'm still trying or struggling to get a big picture perspective on whether comparisons should improve this year or at least be a little bit more normalized in FY16?

Ajay, look, our plan is to grow a gross profit faster than our expenses. And as I said a couple of times now, that may look differently in some quarters than others and there will be a little more pressure here in the first quarter or two. Our expenses this year were -- as Chris took you through, were higher than we planned. And we can't have 8%, 9%, 10% case growth on a currency adjusted basis.

So we had a good number here in the fourth quarter. I expect us to continue to improve on the expense side in the field. There is going to be some ups and downs there but I am confident that we are on the right track there. So I don't know that you can sustain flat every quarter, but certainly low single digit case increases, cost case increases will be what we are shooting for here.

On the corporate side, it kind of depends on the quarter. We talked about some true-ups. I mentioned bad debt. So in any given quarter, there can be some things on the corporate side. I would just say to you, that as we continue -- look, we have stood up a lot of capabilities here from cat man to a lot of things on sales capabilities. There is more to do there, and so we will continue to invest in our people and our technology to position this Company to grow its business and grow it profitably and compete very well and do great things for our customers.

So long story short, we will talk more about this at Investor Day, but as I said, we expect to grow the cases. So I don't think 2% is sustainable, 3% case growth, if we are able to continue to do that. At the same time, 4.8% is too high. I think you can assume from that that somewhere in the middle is what we are shooting for.

Ajay, this is Chris. You remember back earlier in the year when we were reporting very high gross profit dollar growth numbers, we were calling out the fact that we were not pleased with our expense performance even back then. It was being supported by the gross profit but we weren't happy with our expense management.

Since that time, we have actually done better in the fourth quarter, certainly the best quarter we had during the year. So I am going to be repetitive here with Bill, we were not at all pleased with the overall year performance but we were much more pleased with Q4. Again, calling out the fact that it might be a little bit swung to the other side of being, well, hard to repeat. So overall cost per case was higher than it should have been, higher than we wanted it to be.

We got it back under control in Q4. And certainly, that's the goal, as we look into next year, but it is something that we have to continue to focus on. But again, we saw real improvement in Q4. We just have to continue to maintain that, and you know, make sure that we don't allow the increases that got ahead of us in the first part of this year.

I think if I could maybe add one other thing to put this in context, I have talked about quarters moving around. I mean years move around. And I think if you look at our costs and our expense management over the last 2 years, a lot of our initiatives matured last year and we actually saw reduction in cost per case last year. And I think it was low single digit reduction, but it was up in the fourth quarter I believe last year. So we cycled some of that now, and I think if you look at the 2 years together, that is a pretty good proxy of what we are able to do, and we are working really hard, and I expect us to improve from this year.

That's a good point, Bill. We were down $0.06 per case last year on a reported basis and I think we are up $0.04 per case this year on a reported basis. So you look at the two years together, we are almost back to break-even and it is not a bad story, but frankly, we were expecting better out of ourselves. So that is where we have to continue to work.

Next question from John Ivankoe with JPMorgan.

Hi, great. Thank you. First, just a housekeeping question. The analyst day is going to be on September 15? I had something else written down. I wanted to make sure I got that right.

We changed it. I think the original day was the 24th. We changed it to the 15th, that's correct. In the afternoon.

Okay. Thank you. And then secondly, the comments in the press release, we will also continue to evaluate opportunities to optimize our capital structure. So that is obviously a very interesting comment and one's imagination can run wild just seeing a sentence like that within a press release, especially. So as you have talked and had more time to think about this with the Board and perhaps solicited investor feedback, what do you think that optimal capital structure is in terms of rating? And whatever that is, I mean I guess at this point, what are you waiting for to implement that optimized capital structure?

Well, actually, John, that is pretty much the same thing we said when we announced the share repurchase. So our view on that is pretty straightforward, I think, at this point. We kept our powder dry here for quite some time because we have been looking at a lot of different opportunities on the acquisition front. Some larger than others, and we ended up pulling the trigger on the US Foods deal and that required a lot of capital. As we all know, that ultimately didn't play out.

So where we are at today is we just felt it was appropriate to return some capital in the form of share repurchase back to our shareholders here over the next year or two but we still think we need to keep some powder dry. We continue to look for acquisitions, as I said in my comments, both within the core and potentially beyond the core, whether it be adjacency or continue to build our international platform here. So I would just say to you, we are going to do what we are saying here, which is from time to time we will continue to look at our capital structure relative to what our other options are and for the most part, it starts with investing in the business.

I think we have a pretty good cadence there. Chris has done a nice job coming in here and helping us get a little more structure and discipline around our CapEx spending. We have improved modestly but we have begun to improve in our working capital management, so there are some good things going on there. But I would always like to have the opportunity to do some strategic acquisitions if and when they present themselves, and it is just at this point, we don't need to keep quite as much capital available to do that.

Understood. Thank you.

You're welcome.

That concludes today's question-and-answer session and also brings us to the end of today's conference. Thank you for your participation. And have a good day.