United Natural Foods Inc (UNFI) 2002 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the United Natural Foods conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session and instructions will follow at that time. If anyone should require assistance during the call, please press the star, then 0 keys on your touch-tone telephone. If anyone should disconnect and need to rejoin, please dial 1-888-467-1742. And as a reminder, ladies and gentlemen, this conference is being recorded. I would now like to introduce your host for today's conference, Miss Vanessa Schwartz of FRB Webber Shanwick. Please go ahead ma'am.

Great, thanks, good morning, everyone and welcome to the fourth quarter and year-end conference call for United Natural Foods. You should have all received a copy of the press release. If you did not, please call Thomas Walsh at FRB Webber Shanwick 212-445-8459 and we can send one out to you and confirm your name on either our fax or e-mail list.

With us today from management are Mr. Tom Simone, Chairman. Mr. Michael Funk, Chief Executive Officer. And Mr. Todd Weintraub, Chief Financial Officer. We will begin with some opening comments and then open up the call for your questions. As a reminder, this call is also being webcast today, September 5, 2002 and can be accessed via the internet at www.viavid.com and www.unfi.com.

Before we begin, I'd like to just remind everyone of the safe harbor statement included in the press release and that the cautionary statements apply to today's call, as well.

Now I'd like to turn the call over to Michael. Michael?

Thank you, Vanessa and welcome, everyone, to our fourth quarter conference call. Our fourth quarter resulted in earnings of 29 cents per share, excluding special charges. In line with the Company's previous guidance of 28 to 30 cents EPS. Our record top lines sales of $309.3 million was an increase of 14.7% over last year's fourth quarter.

This is the eighth consecutive record sales quarter for us and top line continued to run above our guidance due primarily to strong sales on all channels and all regions, continued market share gains and continued industry growth, even though the economy struggled with sluggish retail sales over the summer. Sales were especially strong in our super natural channel, which posted sales growth of 27% over the previous year's fourth quarter. Sales in this channel were driven by strong comp sales with our largest customer, Whole Foods Market.

In addition, at the end of the quarter, Whole Foods Market awarded us with several additional stores in the rocky mountain and southwest region, previously serviced by their own distribution. This new business is expected add approximately $8 million to our sales base with them. Sales in our mass market channel continued to be strong, posting growth of 19%. This business came primarily from increased sales with existing customers. Our growth in our independent channel was 6%.

Our current mix by channel remained consistent with super naturals being 41% of our sales. Mass market at 14% and independents with 39%. The remaining 6% is comprised of miscellaneous customer types. Sales across our eastern and western region as well as with our Albert's produce division were all consistently up in the mid-teens. Sales as a percentage of our total to our largest super natural accounts totaled 20% for Whole Foods and 13.3% for Wild Oats.

Sales for our fourth quarter reflect our final quarter as well, though its primary supplier. The transition to move business to their new supplier is occurring as expected with certain regions beginning to transition in late August. It is expected all regions will be moved by the end of September. We continue to anticipate a secondary supplier role with Wild Oats in the range of approximately $10 million in purchases per year. Sales growth for our fourth quarter year-over-year excluding Wild Oats would have been 15.56%.

Our Hershey's manufacturing operations struggled during the quarter, performing below expectations of the quarter as they settle made their new building. Earnings were impacted by approximately 1 cent EPS during the quarter due to expenses running over budget at this division. We view this problem as short-term and are confident that management there will have expenses controlled going forward.

Constructions on our expansion of our new Hampshire facility began on schedule. The expansion will increase the size of the current building from 117,000 square feet to a building that's approximately 285,000 square feet. We expect the new building to be operational between March and May of 2003.

We have signed a purchase and sale contract to acquire Blooming Prairie, the premiere distributor of natural products in the midwest. The sale is contingent upon their co-op membership approving the sale, which is expected to take place at the end of September. We are excited about the addition of their Iowa and Minnesota facilities to achieve our goal of penetrating the midwest market. We will become the primary supplier of Whole Foods in the midwest region, furthering our national relationship with our largest customer. Annual sales for the acquisition are expected to be approximately $140 million per year and, as previously announced, we expect the deal to be neutral to slightly accretive in the first year and accretive to earnings thereafter.

As we look forward to next month's implementation of the national organic standards, we are pleased to announce that all Unified facilities have been certified organic by the Quality Assurance International, the global leader in organic certification, making our Company the first organic food distribution network in the United States to gain certification coast to coast, becoming the first coast to coast certified organic distributor is a testimony of our suppliers, our customers, and to the consumer. We continue to look at the organic foods channel as one with great opportunities of growth in the future.

And as we close our fiscal 2002 year with sales of $1.2 billion and a 15.6 growth rate over the previous year, we complete the most successful year in the Company's history. As we look forward to integrating our new midwest acquisition into our business, we will be able to replace the loss of the Wild Oats volume with higher margin and higher growth business. Top line projections for 2003, including the Booming Prairie acquisition, assuming a close of the transaction in early October, will be an 8 to 10% growth rate over this past year.

And now to give additional financial information I would like to turn it over to our Chief Financial Officer, Todd Weintraub.

Thank you, Michael and good morning, everyone.

We had our eighth consecutive quarter of record sales this quarter with sales of $309.3 million, which was an increase of 14.7% over last year's fourth quarter and slightly above our guidance of 12 to 14%. This includes sales for produce and perishables distributor acquired in November of 2001 and a new retail store opened in October of 2001. Excluding revenue from these sources, sales increased 13%. We had 27% growth in our super naturals, 19% in our mass market distribution channel, and high 6% growth in our independent channel. This included double-digit growth in both our eastern and western regions.

Special items for the quarter were $1.5 million in expenses after tax or 8 cents EPS. Special non-cash expense was related to interest rate swap agreements and we also incurred special charges related to the relocation of our Hershey import facility. Statement of Financial Accounting Standards number 133 requires us to recognize changes in the fair value of interest rate swaps quarterly. Due to changes in yield curves during the quarter, our swaps fair value decreased approximately $2.1 million or $1.3 million after tax. Please note that upon expiration of the contracts, the cumulative earnings impact will be zero.

Gross margin for the quarter was 19.7%, at the high end of our guidance of mid-19s. We expect gross margin to remain in the mid to high 19s during the first quarter of fiscal 2003 and to increase to over 20% after the first Quarter as our business with Wild Oats, a low gross margin customer, declines due to the expiration of our supply contract.

Operating expenses, excluding special charges, were 16.2% of sales for the quarter, down from 16.4% in the fourth quarter of last year. Operating expenses were negatively impacted by inefficiencies related to the relocation of our Hershey imports facility. We expect expenses will remain in the low to mid-16s due to absorption of fixed costs over lower sales base as our Wild Oats business winds down. Our insurance expense continued to run over budget for the year. We experienced substantial increases in premiums and retained losses are in line with our revised estimates which were more than originally budgeted for.

Transportation costs and warehouse labor were higher than last quarter as a percentage of sales. As a percentage of sales compared to the third Quarter of our fiscal year, transportation costs were 26 basis points higher and warehouse labor, 30 basis points higher. These increases were due primarily to the relocation already mentioned. We expect these expenses will continue in the same range due to absorption of fixed costs over lower sales base as our Oats business winds down.

We discontinued goodwill amortization this year in accordance with new accounting rules. Our prior year P&L included goodwill amortization of approximately $200,000.

Our net operating margin for the quarter was 3.5%, excluding special charges. We believe this level of the mid-3% range will continue for the first half of fiscal year 2003 and expect our net operating margin to increase to the low 4% range for the second half of fiscal 2003. Turning to working capital, our day sales outstanding for the quarter was 28.5 days compared to 29.7 days last quarter. Days in inventory was 50.3 days this quarter, compared to 49 last quarter.

In September, 2001, we expanded our revolving credit facility to $150 million. Our current borrowing base, based on account receivable and inventory levels, is running between $125 million and $130 million with remaining availability of $30 to $35 million. Our borrowing base has decreased from third Quarter and year-end levels due to lower inventory and accounts receivable levels as we wind down the Oats business. Our availability, however, has remained stable as we paid down our line of credit. We expect these trends to continue, however, we expect both our borrowing base and debt to increase upon consummating the Blooming Prairie transaction, resulting in remaining availability of $15 to $20 million after close of that transaction.

Cap Ex for the quarter was $3.8 million. We expect Cap Ex for fiscal 2003 to be $20 to $22 million with the expansion of our Chesterfield facility, the major project.

Turning to fiscal 2003, we expect EPS of $1.18 to $1.20 per share before special items and excluding any impact of Blooming Prairie acquisition. We expect the first half of the year, as we absorb the winding down of the Oats business, to have EPS of 26 to 28 cents each quarter and the second half to be stronger with EPS of 30 to 33 cents per quarter.

At this time, I'd like to turn it over to Tom Simone, our Chairman, for final comments, before opening the floor to questions.

Thank you, Todd.

We are, indeed pleased with the results of our fourth quarter and those of the full fiscal year. Our sales increases, pre-acquisitions for this fiscal year, have been approximately double the national -- the natural products industry sales growth. Our pre-tax profits before special items of $35.4 million are 43% over our last year comparable numbers.

Throughout this year, United Natural Foods has focused on customer satisfaction. We have increased service levels and on-time deliveries to superior industry-leading metrics. We have continued to build our operating team from our warehouse selectors to our top leadership team. We are significantly expanding our capacity in Atlanta, in Fontana, [ph] California, and in our Hershey's operation in New Jersey. And we are moving quickly to significantly expand our Chesterfield, New Hampshire, facility to better serve the New England market.

UNFI is continuing to emphasize our low-cost distributor position by our facilities expansions and our supplier programs, which include our truckload deal program, our national specialties flyer program and custom supplier flyer. Our customers continue to appreciate our programs and services. Our suppliers are working with us to improve each of our profits through win-win programs and our people are producing strong, sustained service levels and improved metrics. UNFI is your proxy for the natural products industry.

And now I'll turn the program over to your questions.

Thank you. Ladies and gentlemen, if you have a question at this time, please press the 1 key on your touch-tone telephone. If your question has been answered or you wish remove yourself from the queue, please press the pound key. Our first question comes from Gary Giblin of C.L. King & Associates.

Hi, good morning. Just wondered if you could give us a flavor for the customer base of Blooming Prairie, is it mostly independents? And are they, you know, progressive independents, or more mom and pops, and that kind of thing?

Basically the customer mix is about 1/3 super natural business. And the remaining 2/3 we would classify as independents. There is a strong co-op network here in the midwest with medium to large size co-op retailers that we look forward to servicing. So we're excited about the addition of basically 2/3 of the customer mix, which is the independent customers, which give us a more diverse and healthy customer mix.

Okay. That sounds great. And how are supermarkets doing with natural foods just in light of generally pretty darn soft sales in the general sales area of supermarkets?

Yeah, well, based on our performance the last couple of quarters, we had, you know, sales of, you know, 25% the previous quarter and 19% this last quarter of our supermarket growth, which we're very pleased. Primarily that growth is coming from existing customers. We haven't added a lot of new chains, new stores, in the last couple of quarters, but the stores that are selling our products are continuing to expand their selection and increase their sales with us.

Okay. Great. Thanks very much.

Our next question comes from Mitch Kaiser of U.S. Bancorp Piper Jaffray.

Hello, everyone.

Good morning.

Quick question, on the '03 outlook for your super natural /mass market customers, you know, those are awfully big growth rates last year. Would you expect those to be more in line with each other next year or do you still expect better growth out of super naturals relative to the mass line?

Well, the growth rates by channel are going to definitely be adjusted as the -- the Oats business winds down. So, our super natural growth, factoring in, you know, Wild Oats, will be much lower than it has been this past year. We would expect the supermarket growth, however, to continue at the pace it's been this past year.

And -- and then going forward -- talk about your interest rate swaps -- obviously you got market those to market every quarter. Will that continue on in '03, as well?

Yes, those -- those -- there's actually two different swaps and one of them expires in 2005 and another one in 2006. So, you know, we will continue to take those quarterly, make those quarterly adjustments until the expiration of the swaps.

Is there any way for us, as the analysts, to project what the non-cash charges per quarter could be?

I don't think so. If you know of a way, let me know. It's completely dependent on the yield curves and interest rate environments and there is also a time factor. The important thing from our perspective to remember is that as these become closer to expiration, the -- the fair value of these will approach zero. So, to the extent that we're sitting with the liability in our balance sheet right now, it indicates that we've taken expense overall, but as those things get closer to expiration that will reverse itself and end up at zero. So between now and then, we will end up with income to offset that. And the net impact at the end of the day is going to be zero on a cumulative basis.

Great, thank you.

Our next question comes from Scott Van Winkle of Adams Harkness.

All right, thanks. A couple of quick questions. First, Mike, can you talk more about the Blooming Prairie acquisition? If I got it right, it is a 2% operating margin business. Maybe, you know, a couple of years out, where do you think that can go? And what do you think the near had term effects of your acquiring that business will be on the operating margin?

You know, Scott, we're going to remain a conservative forecast on our ability to create synergies there in year one, which is why we're saying neutral to slightly accretive in year one. As we all know, sometimes creating the synergies as quickly as you want to, it takes longer than you want to. So, we -- we do feel like there is tremendous opportunity once we overlay our buying power and expertise and logistics at those facilities to, you know, increase the operating margins to what we enjoy in our other facilities of -- and, you know, high 3s to 4% operating margin. So you know, that's the opportunity for us, and we feel confident that by year two we will -- we will be able to achieve those results.

And -- unrelated question: What regions have you already transitioned the Wild Oats business?

There's been some transitions in the east as well as the northwest. I think the bigger regions in the west coast and in the rockies are still -- are still ahead of us here in September.

And with regard to the special items, like moving costs, you will have the Chesterfield facility expansion next year, is there any way we can, you know, kind of have an idea of what to expect from these moving costs for fiscal 2003?

Yeah, I don't have those numbers right in front of me, Scott. I believe that it should be similar to what we've seen with our other expansions and new facilities of that size. So, I would say it's going to be around $1 million or so, but I will get back to you with a firmer number.

Okay, thank you.

Our next question comes from Greg Badishkanian of Salomon Smith Barney.

Yeah, hi, had a question. I missed part of your initial presentation. You mentioned that you were a penny over budget and then I missed, what was that resulting from?

We -- we felt the earnings for the quarter were impacted by a penny based on our -- the performance of the Hershey's division, which has -- has recently settled into their new facility and had expenses overbudget, so we -- we basically mentioned the impact of the penny there and referred to this problem as a short-term problem that we feel we'll be able to control expenses going forward.

Can you sort of describe what those -- what those issues were?

Oh, you know, I think just basically it was inefficiencies associated with the new building that created -- created higher costs, higher -- you know, higher labor, higher expenses overall.

Okay. And that's not -- that's -- that wasn't taken out that, was in the -- that was actually in the operating expenses?

That's correct. These were expenses that were just, you know, inefficient operations, Greg, as opposed to actual costs of the move.

Okay, so you didn't take that. Okay, all right. So maybe if you didn't have that, your earnings would have been boosted by a penny, but you obviously didn't take that out as a one-time charge.

Correct.

Good. Next question is related to your sales. You had probably your most difficult prior year comparison, at least it appears to be so. I think it was about 17.5% in the prior year, in the fourth quarter of growth and you still generated, you know, very nice growth this quarter. Just wondering what are some of the drivers, you know, what are some of the drivers to that?

Well, we just -- I think continue to see, you know, the gains that we're making in market share and various regions of the country. You know, the strong growth in the two channels, super naturals and the supermarket business that we're reporting. And, you know, just consistent sales growth across all the regions of the country as well as all our divisions. It's just -- we're very pleased particularly in light of the -- the softness in the retail business. We definitely have not seen that in -- in our business.

Great. And when you say you haven't seen it in your business, are you talking about the last quarter or are you talking about maybe, you know, maybe August? I mean, you know, what -- for what period? Just the reported period or maybe even trends continuing into the current quarter?

Yeah, we're still seeing, you know, the last part of your quarter was a good, strong part of the quarter for us sales-wise and we're continuing to see those trends going forward. So, you know, we're not seeing any of the softness that's being reported in other retail sectors.

Oh, all right, good. Because it was sort of speculated that the industry slowed down, past month or two. So, you're obviously not seeing that.

No, you know, another point, Greg, is that our -- our fill rates, which historically have been the best in the industry, have -- have gotten better over prior years. And right now, I believe we're up over 96 and approaching a 97% fill rate on a nationwide basis. So, that's going to decrease the loss sales and, you know, it's going to increase our sales. And the other thing, it's just continuing to provide excellent customer service that's going to continue to drive our sales.

Great. Thank you very much.

Thank you, Greg.

Our next question comes from Andrew Wolfe of BB&T Capital Markets.

Good morning. Just doing some quick math on the your sales guidance for this year, fiscal '03, it looked like to get there you need pretty strong, I mean, it looks like 12 to 14% type internal sales growth. Is that -- am I doing my math right or do you want to put out some internal sales guidance for the year?

What exactly -- what are you looking at Andy?

I took the number for the top line number you put out for the year and assume you got 10 months of sales from Blooming Prairie.

Uh-huh.

And did some quick math that way.

Yeah, I mean -- I have to see your math, but basically, as Michael mentioned, we're continuing to see strong internal sales right now and as we've said, we -- we -- you know, we don't expect that that trend is going to continue indefinitely, but we're continuing to see that and our sales -- our internal sales excluding Oats are actually running above what we reported for the quarter. So, we are continuing to see those trends and, you know, we also do have, still, you know, sales to Oats for August and September and are anticipating some, you know, some secondary business with them going forward, as well.

And, Andy it's not a full 10 months that was baked in there. We backed it off a week or two. So that impacts it slightly.

Okay. But basically you still have an outlook from the way you just answered Greg's question and this one, a very robust internal sales growth for '03 it sounds like, which is good to hear?

Yes.

And could you just give us an update on -- I know you can't be specific, but how it's looking in terms of getting more supermarkets, whether it is the bigger ones or more regionals to do business with you?

Well, we continue to have a number of, you know, opportunities on the regional supermarket chains around -- around various parts of the country. So, we remain, you know, optimistic of our ability to continue to grow this channel. But the -- for the opportunities for us are definitely coming from the -- the regional chains as opposed to the national chains right now.

Okay. Now, this quarter, I think you said you really didn't get any new -- major new business it sounded like.

Right.

What is the outlook with the regionals out there? I think you -- in the past you've said you were a little under-represented maybe in the west coast, if I remember correctly. Do you -- are you engaged in any serious, you know, dialogue that might get you new customers sometime soon in the west coast?

Yeah, there are literally, you know, dozens of -- of opportunities for us around the country and, you know, any of which could break on any quarter. Sometimes when -- when these opportunities come to us they happen rather quickly. Other times they take, you know, significantly longer amount of time to actually materialize into sales. But I would just say not just, you know, opportunities in the west coast, but the east coast and the midwest. There are literally dozens of potential new business opportunities for us and that's why I think we're, you know, when we say we think we can continue to grow the supermarket channel at the 20% clip that we've been doing the last few years, the reason is well-founded in these new opportunities. Plus, the -- the business that we do have continues to grow with the existing customer base.

Thank you.

Uh-huh. Thank you.

Our next question comes from Carol Buyers of RBC Capital Markets.

Hi, good morning.

Good morning, Carol.

Two quick questions, on the facility front, it seems we're in a growth mode. We've expanded Atlanta, we've relocated Hershey and have the new southern California facility and now the expansion of the New Hampshire facility. Could you comment at all on where we were in -- where United was on capacity over the last year, where we're going to be this this year with the new facilities over the expanded facilities?

Yeah, I think once our new square footage is in place in Chesterfield and looking down the road another month or two with the transition of the Oats business, our capacity is going to be, you know,the 60% range to allow us to grow the business over the next several years without any significant Cap Ex to expand our facilities. This, of course, excludes the -- the Blooming Prairie acquisition. We haven't fully analyzed, you know, whether Cap Ex is going to be needed and how soon in terms of the facilities that they bring to the table. But for our existing facility-base today, we're -- we're going to be dropping our Cap Ex significantly over the next, you know, three years without, you know, any -- any significant expansion or -- or moves that we can see.

And, Michael, when you compare that 60%, where you're going to be, where do you think you were this year, or if you know where you were this year on capacity?

Well, you know, obviously it varies in different parts of the country. So, you're asking for kind of a global overview on that. I would say it was probably, you know, prior to the Chesterfield expansion was more like the 75% range.

Okay. And so do you worry at all about absorption of fixed costs or is it all -- or because you have such a good pulse on the capacity, are you concerned at all about fixed cost, overhead? Allocation, I should say, absorption of fixed costs?

It's certainly impacting us the first few quarters of this next fiscal year with the loss of, you know, most of the Oats business. But, you know, going forward we -- we feel confident with the internal growth rates that are there that will be able to leverage against this capacity, you know, very nicely.

Okay, great. And quickly, can you comment on the August trends, do they look similar to last quarter?

Yes, we haven't seen any -- any major changes in -- in our sales patterns, you know, currently.

Great. Thanks a lot.

Uh-huh.

Once again, if you have a question, please press the 1 key on your touch-tone phone. Our next question is a follow-up from Scott Van Winkle from Adams Harkness.

Thanks. What was the growth of independents again in the current quarter -- or the quarter just completed.

High 6%.

6%. And was there any reason there for the variance in the rest of the business? I can't remember how it's been trending in prior quarters?

Well, it's been high single-digits. I think it was 9%, 8, 9% the last couple of quarters. So, there was a little softening of that channel this past quarter. But I wouldn't -- I wouldn't necessarily assume that that's any kind of sustainable trend. We still feel, you know, good about the independent channel and our ability to grow that channel, as well.

Okay. And for the -- the October quarter, revenue guidance, Oats has been doing -- contributing probably $40 million of sales a quarter. Should we assume about half of that, since it is transitioning halfway through the quarter?

Todd, do you have a rough idea on that?

Yeah, you know, I don't have a breakout in front of me of -- of exactly what the -- what the Oats business is for the quarter.

I mean I think you're pretty close, Scott, because we basically have one month, August, being a fairly normal month and September being kind of a 50% month, might be -- might be a good estimate. And then, October, we would expect most of the transition to be complete. So, you know, that could translate to roughly half, you know, of the loss for the quarter.

Did the -- did your Wild Oats business begin to taper off at all prior to the transition?

There was -- there was a few pieces that's were moving at the end of August. You know, nothing real material. The most -- the biggest chunks are happening, you know, the 1st of September going forward.

Okay. Thank you.

Uh-huh.

Gentlemen, there are no further questions at this time. Would you like to proceed with any closing remarks?

Yes, thank you. If any of you will be attending the RBC Capital Markets consumer conference in Orlando on October 3, please stop by to hear Michael, Steve Townsend, our President, and Todd, discuss our business. Also, if you will be attending the Natural Products expo east in Washington, D.C. on October 4 through the 6, please drop by our UNFI booth to say hello. It has been a pleasure speaking with you today. That concludes our conference.

Ladies and gentlemen that, does conclude the conference call for today. Again, thank you for participating and you may all disconnect.