TreeHouse Foods Inc (THS) 2006 Q1 法說會逐字稿

Good morning, and welcome to the TreeHouse Foods first quarter investor relations conference call. This conference call may contain forward-looking statements within the meanings of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements include all statements that do not relate fully to historical or current facts, and can generally be identified by the use of the words such as may, should, could, expect, seek to, anticipate, plan, believe, estimate, intend, predict, project, potential, or continue, or the negative of such terms and other comparable terminology.

These statements are only predictions. The outcome of the events described in these forward-looking statements is subject to known and unknown risks, uncertainties, and other factors that may cause the company or its industry’s actual results, levels of activity, performance, or achievements, to be materially different from any future results, levels of activity, performance, or achievements expressed or implied by these forward-looking statements.

TreeHouse’s Form 10-K for the period ending December 31st, 2005, discusses some of the factors that can contribute to these differences. You are cautioned not to unduly rely on such forward-looking statements, which speak only as of the date made. When evaluating the information presented in this presentation, the company expressly disclaims any obligation or undertaking to disseminate any updates or revisions to any forward-looking statements contained herein, to reflect any change in its expectations with regard thereto, or any other changes in the events, conditions, or circumstances on which any statement is based.

This call is being recorded. And at this time, I would like to turn the call over to the CEO of TreeHouse Foods, Mr. Sam K. Reed. Please go ahead, sir.

Thank you, Trisha. Good morning, all, and welcome back to our TreeHouse. I’m joined this morning by David Vermylen, President and Chief Operating Officer, and Dennis Riordan, Senior Vice President and Chief Financial Officer.

We have good news to report about our core business, acquisition strategy, near-term outlook, and strategic perspective. The headlines include: Strong first quarter performance at Bay Valley Foods. Our operating unit reported improved sales, adjusted gross margin, and operating income from continuing operations.

Expansion of our private label product portfolio to include canned soup. This attractive and strategically important shelf stable category offers excellent growth prospects, economies of scale, and operating synergies.

Favorable capital market conditions. These will allow us to increase our credit lines in anticipation of further growth by acquisition.

A note of caution on energy cost inflation. While we have recaptured most of the gross margin lost late last year to input inflation, and have since installed fuel hedging programs, we must remain especially vigilant regarding energy market volatility.

And lastly, a special note on Bay Valley Foods. We have made great progress in building a stronger, more capable operating management team. In less than six months, new operating management has established a basis for excellence and execution at Bay Valley that matches TreeHouse’s strategic vision. Additionally, they are now joined by the highly skilled soup and infant feeding team from Del Monte.

David Vermylen will now address the past quarter, market conditions, business issues, and our strategic agenda in greater depth. David?

Thank you, Sam, and good morning, everybody. I’ll briefly cover the top line results and key operating measures, and a first perspective on our recently acquired soup and infant feeding business.

On our base business, net sales were up 3.8%, with both pickles and powder showing modest growth. Pickles and powder were up 1.3% and 3.5%, respectively. On pickles, our food service business was strong, even excluding the effect of the Oxford acquisition.

The integration of Oxford into Bay Valley has gone very well, especially in regard to transitioning customers. Late in the second quarter, we will complete the production transfer into Bay Valley’s pickles plant, which will improve the transferred sales’ adjusted gross margin and increase capacity utilization. We are very pleased with how the Bay Valley team has managed both the acquisition and integration, and it bodes well for our ability to do additional bolt-on acquisitions.

We see a lot of opportunity in the food service pickle, relish, and pepper market, and view that channel as a key opportunity area. Food service is now almost half of our total pickle business. Our margins are good. And there’s plenty of share upside.

Retail pickles continue to be soft. While our private label business is holding share, the market as measured by IRI was down 8% in dollars, a continuation of last year’s trend. Our price per unit was up $0.10 following our price increase, versus $0.08 for the total market.

Our powder sales were up 3.5%, despite being negatively influenced by a December buy-in prior to the 2006 price increase, as well as an inventory reduction late in the quarter by a key retailer. The retail powdered non-dairy creamer market as measured by IRI was flat in dollars. Our share was down about 1 point due to very aggressive Easter promotion activity by the brand leader. Our price gap versus the brand leader was equal to last year.

Dennis will review with you the improvement in our adjusted gross margin. As I look at the results, I see our pricing helping offset input cost increases, while Bay Valley’s 2006 cost savings program drove the margin improvement. The Bay Valley management team developed a very aggressive plan for 2006 that we did not expect would take hold until the second quarter. But we have already seen very measurable results, as well as the organizational momentum it has created.

As you know, we closed the soup and infant feeding transaction on April 24th, so we have had only two weeks to be fully engaged in developing a budget. Fortunately, Del Monte’s fiscal year began May 1st, so a lot of the planning had already taken place, with our active participation beginning post-close.

Dennis will provide specific guidance, so I will focus my comments on the business itself. First, we have a solid management team in place as we go through the integration. We have put team managers on site in Pittsburgh who have a lot of business integration experience.

Second, the soup and infant feeding businesses are doing well. Both ended the Del Monte fiscal year with running rates consistent with our model. Like all food processors, we’re having to deal with input cost volatility, especially those that are energy related.

Third, the soup and infant feeding management team is thrilled to be a part of TreeHouse. With our focus on private label, they see themselves to be part of our core business strategy, not an outlier. The management team is very strong, and is embracing our approach to doing business. This is a huge advantage, and bodes well for successful integration.

As I mentioned on the conference call when we announced the transaction, we will not fully integrate the businesses until early next year. In the private label world, having the right product in the right place at the right time is critical, and our integration plan is designed in light of that objective. At the end of 2005, both soup and infant feeding suffered significant order fill problems that we will not allow to happen in ’06. While that might defer some short-term synergies, it’s what’s best for the business long-term.

However, we are already finding unplanned synergies. For example, during the peak soup inventory build in late summer/early fall, we have a need for additional outside warehousing. By tapping into Bay Valley’s distribution network, we can avoid that expense as well as deploy products closer to the customer.

We believe we will find many other synergies as the managers of the two companies work together. The role of TreeHouse is to create the form and the atmosphere to optimize the integration. But it’s really the operating managers that need to embrace it, lead it, and guide it.

I’ll now turn it over to Dennis.

Thank you, David. As Sam indicated, we began the first quarter of 2006 with solid results evidenced by our 3.8% improvement in net sales, from $166.4 million to $172.7 million. Both of our key segments, pickles and non-dairy powdered creamers, saw sales increases, although the increase in pickles was due in part to additional volume generated by the acquisition of the Oxford Foods’ book of business.

Pickle sales were up 1.3%, while non-dairy creamer revenues were up 3.5%. Our other product groups, principally refrigerated products for food service and aseptic sauces, increased by 10.9%.

Gross margins in the quarter were improved over last year as we focused on both price increases and managing our internal cost structures. Pickle adjusted gross margins, which is gross profit less freight to customers and selling commissions, improved in the quarter to 16% from 14% in last year’s first quarter, and 13% for all of last year. The increase in margins is due to increased prices and lower fixed costs in 2006, as we eliminated excess capacity with the closing of our La Junta pickle plant in February of this year, and the benefit of internal cost reduction programs.

Powder margins improved from 17.4% to 19.7%, due to the combination of moderate price increases, higher unit volumes, and internal cost efficiencies.

Margins for our other products declined from 23.1% to 18.6%, primarily due to refrigerated products, where lower margin co-pack revenues were a disproportionately large mix of sales and higher promotional spending in aseptic.

We did manage to hold the line on our selling and distribution costs, despite the increase in revenue. General and administrative expenses show large increases from last year. However, a pure numbers comparison to last year is not very meaningful.

Please keep in mind that the first quarter of last year was based substantially on the internal operating activities of the business while it was still part of Dean Foods. The TreeHouse management team was not put in place until late in January of 2005, and all support activities were handled by Dean Foods, with an allocation of their cost to the business. In 2006, the results reflect TreeHouse as a fully functional public company, with all of the associated costs of being a public company.

On a sequential basis, G&A expenses were $13.8 million in the first quarter of 2006, compared to $12.2 million in the fourth quarter of 2005. The increase in the run rate is due to higher levels of staffing in order to be ready to manage the newly acquired soup and infant feeding business, severance costs of $.5 million associated with changes in the Bay Valley Foods’ management team, and cost to begin our compliance with Sarbanes-Oxley internal control documentation.

Please note that both the current quarter and the fourth quarter of 2005 included approximately $4.8 million in stock-based compensation expense, while the first quarter of 2005 had no such expense. With the exception of the severance costs, our administrative costs in total were slightly better than our internal budgets.

Interest expense in the period is principally interest on capitalized leases. Interest expense will increase substantially in the second quarter, due to drawing down on our unsecured revolving line of credit as a result of acquiring the soup and infant feeding business.

Operating income in the quarter totaled $12.1 million, compared to $18.1 million last year. But remember, the 2006 results include $4.8 million in FAS 123R expense, $900,000 in costs associated with the closure of the La Junta pickle plant, and the higher general and administrative costs of being a standalone public company. There were no unusual items in the first quarter of 2005. Adding these high expenses back to 2006 operating income results in an adjusted EBIT of $17.8 million, compared to $18.1 million last year.

Earnings per share from continuing operations were $0.24 in the first quarter, compared to $0.37 per share last year. As I noted earlier, the results for this year include approximately $0.10 per share for the share-based compensation, and $0.02 per share for the shutdown costs of La Junta. Adding these items back to the quarter would result in EPS being down only $0.01 on the year-over-year basis, despite the investments for additional management in anticipation of closing the soup and infant feeding transaction.

In summary, we had a good start to the year with better sales and margins in plant. Despite the continued risks of high energy and commodity costs, we are comfortable that we have the people and plans in place to deliver the full year 2006 guidance of $0.81 to $0.86 per share of our base business that I discussed last February.

Now I’d like to comment on the financial side of our purchase of the soup and infant feeding business. The annual net sales for the soup and infant feeding business total approximately $300 million on an annual basis, and we will be adding about $25 million in additional build revenues as a result of our co-pack arrangements with Del Monte Foods.

Gross margins on this business are slightly lower than our other businesses, due in part to the higher portion of lower margin co-pack business.

We will also be incurring additional general and administrative expenses in the form of transition services costs as we utilize the back office infrastructure of Del Monte until we fully integrate the soup and infant feeding business with Bay Valley foods. We expect to utilize the transition services for all of 2006, as we do not want to undertake a systems implementation project during the 2006 soup season months of September through December. While this will increase our costs during this first year, David has already pointed out the strategic need to ensure excellent customer service during our first year of ownership.

We expect that earnings from the soup and infant feeding business will be in the range of $0.10 per share on an annual basis before integration costs of $0.04 per share. Although the math would imply a balance of $0.06 per share in accretion, please keep in mind that we have only eight months of results in 2006. This will reduce the accretion by another $0.01 per share, bringing the 2006 effect on EPS to $0.05 per share.

In terms of capital spending, we expect to spend in the range of $8 million to $9 million this year on the soup and infant feeding business. This range is consistent with historical spending for the business. Depreciation and amortization for this business should be in the $6 million to $7 million range this year.

And we financed the acquisition under our existing revolving credit agreement. Due to favorable cash flow from Bay Valley Foods, our borrowings totaled $250 million, well under the cost of the acquisition. Although we have $150 million in unused revolving credit, we are in discussion with our banks regarding financing alternatives, including increasing our borrowing capacity.

So to recap, we believe the soup and infant feeding business will add $0.05 per share to the 2006 results, despite having only eight months of operations. This will bring the total EPS for 2006 to a range of $0.86 to $0.91 a share.

We will be working this year on the integration plans and activities, with the goals of transitioning to our Bay Valley Foods’ systems as soon as possible after the key soup-selling season. We expect that the transition services costs will be completed early in 2007, resulting in additional accretion next year, but we are not providing 2007 guidance at this time.

This is David again. Before we turn it back to Sam, I’d like to make a few comments about the potential for the soup and infant feeding business beyond 2006, and the guidance that Dennis has provided.

Please keep in mind that it’s only been two weeks since we closed the transaction, and our focus has been nailing down an ’06 forecast. Working closely with the soup and infant feeding team, here is where we see some key non-revenue related opportunities that can really add value. While it’s too early to quantify these opportunities, we are very excited about what we see.

First, once we completely integrate into Bay Valley, we will be out from under the transition services agreement we have in place with Del Monte. While we will be incurring some additional costs in Bay Valley, it will be a net positive.

Second, we are seeing some very attractive investment opportunities that could have a great impact on lowering utility costs in Pittsburgh.

Third, the current information systems for soup and infant feeding do not allow for rigorous and ongoing measurement of customer and product profitability, which are hallmarks of an effectively run private label business. We have those capabilities within Bay Valley, and we’ll extend them to soup and infant feeding.

Fourth, we have not yet quantified potential supply chain efficiencies. In my earlier comments, I mentioned utilizing Bay Valley’s distribution centers during the peak soup season versus leasing additional outside storage. I am confident we will find additional synergies across the supply chain.

We will pursue all of these initiatives, but on a timetable that allows us to accomplish our most critical objective this year, which is to make the transition seamless to our customers. I think the bottom line is that after only two weeks, we are even more encouraged about this opportunity. When we have our next call in August, we will be able to provide a better perspective on our prospects for the soup season. I’ll now turn it back to Sam.

Thanks, David and Dennis. Everyone should now have a comprehensive overview of the first quarter, the Del Monte soup acquisition, and our outlook for the remainder of the year. Before we open the line for your questions, please allow me a few observations on our management team, strategic position, and long-term outlook as we approach our first anniversary as a public company. We have come a long way in a short time, and intend to go further.

First, a personal note on our team. Nick McCully has retired from active duty at TreeHouse after a 15-year association with our team. He was an original Mother’s Brother, Keebler Elf, and TreeHouser, who brought a sense of savoir faire and professionalism to our gang. Nick will be sorely missed and fondly remembered.

The past quarter was the first installment in an ongoing program to improve core product category margins. Our most important measure of operating performance, adjusted gross margin, or AGM, improved as a result of both productivity gains throughout the supply chain as well as selected pricing to offset input cost inflation.

While we cannot control energy costs, seasonal crops, or national brand pricing, we can and must undertake a comprehensive program of continuous improvement and quality service and productivity that will steadily improve AGM trends. In private label and food service, no saving is too small.

The acquisition of canned soup is a first installment in an ongoing program to expand our portfolio of private label, food service, and industrial products into more attractive categories. As we consider our acquisition filter criteria, strategic value is as important as financial performance in order to command a premium for imaginative customer solutions and new product categories. The search for the next one has already begun.

The Oxford Foods’ book of business is also a first installment in an ongoing pursuit of bolt-ons to bolster our core pickle, powder, and soup businesses. While small individually, a series of bolt-on acquisitions offers excellent shareholder value through new sources of revenue, economies of scale, and operating synergies. There will be more.

TreeHouse is not a mature low-growth foods [inaudible] that is best measured or only measured by incremental quarterly ups and downs. Our agenda is one of superior strategic value in pursuit of a strategic vision to be sustained for the long-term. The Del Monte soup and infant feeding acquisition is prima facie evidence of our absolute dedication to this strategy, thorough diligence in its pursuit, and determined resolve to create lasting shareholder value.

TreeHouse prevailed in a complex undertaking, a carve-out without financials, infrastructure, or IT systems, after all others had quit the field. The more complicated or difficult, the better for TreeHouse.

Lastly, my visit to the FMI, Food Marketing Institute Convention this week served as a reminder of the strategic imperative and financial value of private label to all retail grocers. The largest trade show of its kind opened with a special weekend preview dedicated to customer brands and their importance to every retail channel of distribution and class of trade. We were front and center and well represented.

Walking the exhibit hall also reminded me of the thin line separating success and failure in packaged foods, especially among small and mid-cap companies. We live in a land of giants, both competitors and customers, where survival is only for the very fittest. It is an unforgiving environment in which there are far too many in the food chain who have failed to adapt strategically. They are therefore easy prey to others who are better suited to changing and changed times.

Whether by natural selection or intelligent design, we at TreeHouse have and will continue to adapt to this new order. Strategic insight, creative customer solutions, operational excellence, calculated risk taking, and unrelenting determination to succeed are the DNA of TreeHouse. We will use it to full advantage so that the TreeHouse will grow stronger while others struggle merely to survive.

Trisha, we will now open the line for questions and comments.

Thank you, Mr. Reed. [Operator Instructions] We’ll take our first question from Terry Bivens with Bear, Stearns.

Good morning, everyone.

Good morning, Terry.

Good morning.

Sam, you sounded like the Charles Darwin of consumer food there for a second. That was good. Let me ask you just a couple of things. First of all, the baby food business that you’ve inherited. I’d be very interested to know what your plans are for that business strategically.

Terry, this is David. I’ll answer the question. Again, we’ve only had a couple of weeks where we’ve had really on-site access to all the people to start formulating the strategy. But I’ll describe it, at this point, in macro terms.

First, infant feeding is an integral part of the Pittsburgh manufacturing operation, and therefore it’s really critical to the business. And our focus will be on building the infant feeding business, but not via a frontal assault on the market leader. And I think our approach will be far more targeted in terms of how we approach the customer base and the consumer base, and importantly, how we can leverage the Bay Valley multi-product line supply chain to help us create a competitive advantage with those customers.

So I can’t go into further specific detail about the strategy, but hopefully that gives you a sense of where we’re headed.

Is the -- I guess Milnot still owns Beech-Nut. To the best of your knowledge, is that business still -- what’s the word? Buyable, I guess. I know Heinz took a run at it, but wasn’t successful.

I believe Beech-Nut was sold to a European company called Hero.

Okay.

In the last six to nine months.

All right. So probably out of play, then.

I would think so.

Okay. Cash flow in the quarter. How was your cash flow versus last year? Cash flow from operations?

That’ll be on our 10-Q that comes out next month, but cash flow was actually quite strong in the quarter. It’s a little difficult to compare to last year, Terry, because as part of Dean Foods, all the cash was remitted straight to Dean Foods.

Right.

So cash flow’s not a good comparison for last quarter. But we did have positive cash flow for the quarter of about $24 million. That was after acquiring the Oxford Foods book of business for $11 million.

Okay. Very good. And one last thing. Just on your powder business. Obviously, there was a little bit of deceleration from what we’ve seen earlier. How much of that would you attribute -- you did mention some warm temperatures. Certainly those were there, and affected other kind of seasonal businesses as well. How much of -- how much should we attribute to that one factor?

Well, I believe -- as we think about the -- some loading that took -- among retailers on our powder business at the end of the fourth quarter of last year, the warm weather and some inventory reductions by some retailers, we’re talking in the few million dollar range for the quarter.

Okay.

Was the impact on the business.

Okay. Okay. Very good. Thank you.

Thanks, Terry.

Thank you for your question, and we’ll go next to Robert Moskow with Credit Suisse.

Morning. Congratulations.

Good morning, Robert. How are you?

Good. I had a question about the adjusted gross margin trend here on pickles, and I guess also powder. You’re up so much versus last year. 200 basis points in pickles. Let’s say fuel costs kind of just stay where they are today, and then packaging costs as a result kind of stay where they are today, do you expect to maintain this level of gross margin? I mean, you’re 23.4% this quarter. I had it at like 19% in Q4. Can you maintain this if things stay the way they are right now?

Well, if things exactly stay the way they are, I think we have an opportunity to show nice improvement on a year-over-year basis in those margins. Remember though that the energy costs do jump in the fourth quarter, especially the natural gas prices. So that will have some effect. But it was a positive trend, and we are hopeful, confident, that we can maintain that positive trend, Rob.

Robert, this is David. I think in terms of maintaining the current rate, I think what we will see is year-over-year -- our objective is year-over-year improvements. They may be different than the March quarter rate just because of the mix of the business. Within pickles, there are different AGM rates for retail versus food service. And as the mix change, you can have it -- it can change for the quarter. But our goal is year-over-year improvement.

Yes.

Is food service a higher margin for you?

It’s a good -- it’s a very good margin business for us.

Okay. And then another question on integration costs. Will you be done with integration costs in 2006, or do you expect some more to trickle into ’07?

We expect there will be a trickle into ’07. As we indicated, we’ll be on the transition services agreement this year. We would hope to get the systems conversions done as soon as possible in [through ‘07], so we will have some carryover costs.

And when you do the systems conversion, will it be something that -- will you be developing systems for the entire organization that’s more up-to-date, or is it really just like folding it into your existing systems?

Primarily, it’s folding it into Bay Valley, but we’ve made some continuous improvements in the Bay Valley systems throughout 2006, so we’re confident that the systems we have will run the business nicely.

Okay. Very good. Thank you very much.

[Operator Instructions] We’ll go next to Bob Cummins with Shields & Company.

Hi. Thank you very much. A couple of questions related to your acquisition plans. You mentioned that you currently have $250 million in debt, which leaves you some leeway still, and you would be comfortable in adding to the $400 million debt line if you saw the opportunities. Given the company’s present size, what do you anticipate is the maximum amount of debt that you’d be comfortable in handling at this time?

Well, where we’ll wind up being is at a leverage rate of about 2.5. And as I indicated in a call when we bought the business, our goal is still to remain in a investment grade, near investment grade, level, which would be 3.3, maybe a little better. So we still have a fair amount of room within that strategy to borrow and make reasonable acquisitions. I wouldn’t rule out that we might temporarily exceed that if the opportunity was right. But even at 3.3, it gives us a nice bit of margin.

Okay. In terms of the acquisition targets, are there any other situations of public or maybe non-public companies that have a large private label business that doesn’t fit in with their strategies the way Del Monte saw the businesses that they sold? Are you more likely to buy private companies or what?

Bob, this is Sam. In that regard, we won’t comment about a specific attribute or characterization of targets, but as we look over the broad landscape here, we think that there are going to be opportunities on both of the fronts that you mention for us to consider, and ones that will be attractive when we put the matter through our acquisition filter.

A key point here is that we’re looking for both financial performance and synergies as we pursue these businesses. But equally well that we are looking for what I would call strategic value, and that the category itself appears to be one that’s healthy with sustainable growth and all of the matters we’ve discussed there.

I think the other key factor is that while they are small and not glamorous, these bolt-ons offer a really great value to us, and we’re so well pleased with the effect of the Oxford Foods that we will continue to look for business -- these small businesses that fit nicely with soup, with pickles, and with powder. The existing smaller regional players.

Good. Thanks. That’s very helpful.

Good to talk to you again, Bob.

Nice to talk to you, Sam.

At this time, it appears we have no further questions, so I’d like to turn the call back over to Mr. Reed for any additional or closing remarks.

We thank all of you for joining us this morning. We will in the next month observe our first anniversary, in another six weeks or so, as a public company. We think that we have established in this quarter, as I’d indicated, a first installment on an ongoing program of improvement in our core operations and our ability to do bolt-on acquisitions as well as consider large scale strategic acquisitions. And in each of these matters, we see the performance and the events of the last quarter as only the first installment of an ongoing series.

We look forward to talking to many of you again after we’ve completed the second quarter. And again, thank you for joining us.

Thank you, ladies and gentlemen, for your participation on today’s call. That does conclude our presentation.