United Natural Foods Inc (UNFI) 2004 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the United Natural Foods' fourth quarter results conference call. At this time, all participants are in a listen-only mode. Following today's presentation, instructions will be given for the question-and-answer session. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded on Tuesday, August 31, 2004. I would now like to turn the conference over to Ms. Claire Koeneman with Financial Relations Board.

Thank you, Kristin (ph), and good morning, everyone. Welcome to fiscal fourth quarter conference call for United Natural Foods. You should have all received a copy of this morning's press release. If anyone did not, please call Samantha Alfonzo in our New York office at 212-445-8473, and we will send you one out and confirm that your name is on the distribution list for further reference.

With us this morning from management includes Steve Townsend, Chief Executive Officer, and Rick Puckett, Chief Financial Officer. We will begin with some opening comments from management and then we will have the line open for Q&A. As a reminder, this call is also being webcast today, and can be accessed on the Internet at www.UNFI.com.

Before we begin, we would like to remind everyone about the cautionary language regarding forward-looking statements contained in the press release. That same language applies to comments made on this morning's conference call. Now without further ado, I will turn the line over to Steve.

Good morning. Thank you, Claire, and welcome, everyone, to our fourth quarter and year-end conference call. Joining me on the call today is Rick Puckett, our CFO. Our fourth quarter resulted in earnings of 23 cents per diluted share, which is an increase of 92 percent over the 12 cents per diluted share we recorded in the same period last year. For the year ended July 31, 2004, we recorded EPS of 78 cents on a diluted basis, which is up 53 percent over the 51 cents per diluted shares we recorded last year.

We are very pleased with these results considering the fact that we successfully managed to transition Wild Oats back as a customer, managed two large building expansion projects during the year, continue to maintain service levels in excess of 96 percent, and have continued to improve our operating margins as a company. Based on these results, it is clear that we continue to execute at a very high level and I can truly attribute this year's results to the dedication and hard work of all our associates here at UNFI.

During our fourth quarter, we recorded sales of $446.4 million. This was an increase of 21.7 percent over the 366.8 million we recorded in the fourth quarter last year. Excluding the impact of Wild Oats, our comp growth rate in our core distribution business was approximately 12 percent. Our strong growth rates continue to exceed that of the industry do to our commitment to provide a wide array of product offerings, along with consistently strong service levels and fill rates to all our customers.

Our current mix of business by channel is as follows. Independents represent 41 percent of our business. Supernaturals represent 40 percent of our business. Conventional mass market represents 14 percent of our business, and our other channel represents approximately 5 percent of our business. Our largest customer, Whole Foods Market, represents approximately 24 percent of our total sales and Wild Oats now represents approximately 9 percent.

Looking ahead, we expect sales to increase in our fiscal '05 in the range of 17 to 22 percent. We completed the transition of the Wild Oats business back to UNFI, and overall, we are very pleased with the transition effort and end result. With the transition now completed, we are not experiencing any extraordinary operational or transitional issues and our overall service levels remain very high.

The integration of our Midwest operations to our East division is now nearly complete. During the quarter, we began operating out of our newly-expanded Iowa City facility. Operationally, we continue to make very good progress as our fill rates and service levels remain strong and consistent with those at our other facilities. In addition, we have now added approximately 1000 new SKUs in our Midwest facilities, which will help bring some consistency in our product offerings across the region. With the expansion now complete, we will need approximately 2 to 3 quarters to achieve the operating efficiencies we expect in one of our newly-expanded facilities.

In addition, we just recently completed the IT consolidation of the former BP (ph) computer system. Overall, the IT consolidation went reasonably well, though we continue to work through some IT systems as well as training issues with our staff.

Our second major expansion project involves our Dayville, Connecticut facility. To date, the construction is now complete and we are now fully operational out of the new space. In addition, we have gotten out of all our off-site storage. Like Iowa City, we will need approximately two to three quarters to achieve the operating efficiencies we normally realize.

For the quarter, I am pleased to report that total operating margin was 3.8 percent, which continues a trend of margin improvement that we have seen for the past 1.5 years. This represents a 10 basis point improvement over the 3.7 percent recorded in our third quarter this year and a 40 basis point improvement over the 3.4 percent, excluding special items, we recorded in the same quarter last year. Overall, I am very pleased with these results, as they reinforce the success we are realizing from investments in people, facilities, equipment, and new technologies.

On a year-to-date basis, net sales increased 21 percent to 1.7 billion from the 1.4 billion we recorded in our fiscal '03. Net income for the year rose 58.2 percent to 32 million, or 78 cents per diluted share. This compares favorably to the 20.2 million, or 51 cents per diluted share, we earned during our fiscal '03.

For the full year, I am very pleased to report that we were able to lower our total operating costs from 17.2 percent of net sales to 15.9 percent for fiscal '04. This is a 130 basis point decline in expenses and is primarily due, again, to our commitment to invest in our people, our facilities, our equipment, and technologies.

Looking ahead, we are very pleased with the progress we have made to date and we remain committed to helping our customers to be even more successful. Even with our existing high service levels, we remain focused on improving our operating metrics further, which will again serve to benefit our customers in all the channels we serve.

Over the next 12 months, we will remain focused on growing our business across all sales channels; continuing to grow sales in new channels, such as foodservice and our international sales; growing sales of UNFI branded products; continuing to invest in our people, facilities, equipment, and technologies to help drive more costs out of operations; and ultimately improving operating margins at each of our divisions.

Overall, we are very pleased with our fourth quarter and fiscal 2004 results and how we have positioned ourselves not only for the upcoming year but for our future as well. With this, I would like to again thank all the associates at United Natural Foods for their hard work in making us America's premier distributor of natural and organic products. With this, I would like to now turn the call over to Rick Puckett, our Chief Financial Officer.

Thank you, Steve, and good morning, everyone. As Steve mentioned, net sales were $446.4 million for the fourth quarter of fiscal 2004, an increase of 21.7 percent over last year's fourth quarter of 366.8 million. Full-year net sales were approximately $1.7 billion, an increase of 21 percent over 2003 net sales of approximately $1.4 billion. These results are above the guidance for the year that we had previously provided.

Net income for the fourth quarter fiscal of 2004, including the effects of special items, increased 93 percent to $9.6 million, or 23 cents per diluted share, compared to $5 million, or 12 cents per diluted share, for the quarter ended July 31, '03. Excluding special items, net income for the fourth quarter of fiscal 2004 increased 49 percent to $9.6 million, or 23 cents per diluted share, compared to $6.4 million, or 16 cents per diluted share, for the same period last year.

For the full year ending July 31, 2004, net income increased 58 percent to $32 million, or 78 cents per diluted share, compared to $20 million, or 51 cents per diluted share, for the same period last year. Net income for the full year fiscal '04 increased 39 percent to 32.5 million, or 79 cents per diluted share, compared to $23.4 million, or 59 cents per diluted share, excluding special items for the same period last year. The EPS for the year, excluding special items, was above our previous guidance by 2 cents. There were no special items in the fourth quarter just ended.

The fourth quarter of 2003 included special items of $2.4 million in expense, or $1.5 million after-tax, and had a negative impact on diluted earnings per share of 4 cents. Most of these were related to our Hershey operations. Details of the special items for the fourth quarter last year can be found in our press release, issued earlier today. The turnaround for the Hershey operation was very successful, and the operation was accretive to earnings in 2004.

The special items for the fiscal year ended July 31, 2004 included non-cash income related to the change in fair value of interest rate swaps, which were novated in December of 2003, and the related options agreement caused by favorable changes in yield curves. In addition, startup and transition costs for the new Wild Oats Markets' primary distributorship were included in special items.

The special items for the 12 months ended July 2021, 2003 related to the Hershey operation mentioned before, and moving and other costs related to the expansion of our Chesterfield, New Hampshire distribution facility. In addition, the special items for fiscal year ended last year included costs related to the loss of Wild Oats Markets and a non-cash charge related to the change in fair value of interest rate swaps and related option agreements.

Gross margin for the quarter was 19.7 percent, compared to 20.3 percent for the same period last year. As we have previously discussed, our channel mix of business has shifted; therefore, we expect to see lower gross margins offset with lower operating expenses. We expect gross margins to be in the mid-19 range going forward. On a full-year basis, gross margin was 19.8 percent compared to 20.3 percent last year. These results are above our previous guidance of mid-19 (ph) percent for the year.

Operating expenses for the quarter were 15.9 percent of sales compared to 17.2 for the same period last year, excluding special items. The 130 basis point improvement is the result of increased efficiencies due to larger delivery quantities and, as Steve mentioned, our investments in people, facilities, equipment, and technologies.

Fuel costs had a negative impact of 5 to 7 basis point for the quarter. Excluding this, we would have been very near the 3.9 percent operating income for the quarter. Operating income was 3.8 percent for the quarter, compared to 3.4 percent for the same period last year and 3.7 percent last quarter, excluding special items. We are very pleased with the progress that is been made in this area. The full-year operating margin is 3.6 percent, excluding special items, in line with our previous guidance.

Cash provided from operations for the 12 months ended July 31 was $9 million. Our inventory was at 51 days for the fourth quarter, well within our target of 50 to 52 days. DSO for the fourth quarter was at 23 days, under our target of 25 to 27 days. Free cash flow excluding working capital was at $24 million for the last 12 months ended July 31. Capital expenditures were $23.9 million for the 12 months just ended, equating to 1.4 percent of revenue and in line with our previous guidance of 24 to $26 million. The bulk of the capital expenditures were associated with the facility expansions of our Iowa City, Iowa and Dayville, Connecticut locations.

The Company's outstanding commitments under the amended and restated credit facilities as of July 31 were approximately $115 million, with an available liquidity of $114 million. Our return on total capital was at 21.1 percent and our return on equity was approximately 14 percent for the last 12 months. We've made great strides in 2004 to strengthen our balance sheet and increase our liquidity. We have increased our assets by 18 percent and our shareholders' equity by 26 percent year-over-year. Our liquidity has been increased by over $62 million, resulting in an excellent foundation and position for continued growth.

The results for fiscal year 2004 were excellent for UNFI and we are very proud of the achievements made by our associates. At this time, I will turn it over to the moderator to facilitate questions.

Thank you, sir. (OPERATOR INSTRUCTIONS) Scott Van Winkle with Adams Harkness & Hill.

Congratulations, great quarter. A couple of things. First off, with regard to Wild Oats, what percentage of your business goes to their Farmers Markets? I know you had a lot of problems in their Farmers Markets in that June quarter.

Couldn't tell you. I don't have the breakdown of it. We just looked at what the sales were to Wild Oats in total for the quarter and where we're trending. That was the 9 percent.

Okay, and I know that a while back you had this partnership with Living Naturally about electronic ordering among their independents. I am wondering, has there been any real impact from that independent channel getting a little more sophisticated in how they order and POS systems and such, and if that contributed to any improvement in margin in that piece of the business.

It is still really -- from our standpoint, really kind of at an infancy stage, but we're seeing more customers and certainly suppliers signing up to this thing. So we see it part of, again, more tools that we can offer our customers, but at this stage I couldn't tell you whether we're seeing any improvement. I would say any improvement to margins would be negligible at this point, but, again, we do have high hopes for this.

Okay. And sticking with that independent channel, maybe I missed it, but did you give the growth year-over-year of that channel?

No, but right now we're running approximately 9 percent growth rates as we're seeing the trends in August, so that is approximately where we are right now.

And I was just wondering, since your largest national competitor lost the Wild Oats business last year, if you have seen any pickup in their efforts to take back some of that independent business they lost to you in the prior years?

They remain certainly a formidable competitor, but, again, our focus is to really work behalf of our customers and service them at a very high level. And I think if we continue to do that, we will continue to gain market share, and that is certainly what our efforts -- our efforts are really focused on this.

And Steve, one last one. The comment about the August trends and (indiscernible). Do the August trends overall look pretty consistent with what we saw in this July quarter?

Yes, actually they do.

Great, thank you.

Carole Buyers with RBC Capital Markets.

Good morning, everyone, and congratulations as well. I was wondering, since you mentioned comp growth, could you comment on what the supermarket channel was doing. I know it is 14 percent of sales, but is there any comp number that you can point to?

That is running right now at approximately 10 percent.

Okay. And my second question was just piggybacking on what Scott was talking about. When you look at the months within the July quarter, is it fair to say that July was better than May and June? Because we know May and June were more modest growth rates than we had seen over the last 12 months for the overall industry.

We saw pretty consistent growth throughout the quarter. We did not see any down months versus another month; so nothing that would stand out at all.

Okay. And finally, given the stellar results in operating margin this quarter, I guess I'm surprised that you only reiterated guidance for '05, which is about 3.5 to 3.7 percent (indiscernible). Can you provide us any more color on why the conservative nature?

I don't think it's conservative. We spent a lot of time obviously wrapping up our fourth quarter. We're just getting into our fiscal '05. I think we need to see more time as to how our fiscal '05 begins to develop for us. So I think it is premature to think that we would be revising guidance at this stage. We are only basically three weeks into the new year.

Just getting more clarity on the Tree of Life question asked by Scott. You mentioned you are still trying to gain -- still focused on gaining share from Tree of Life. If you look at that 9 percent comp number in the independent channel, is it true comp or are you still actually gaining share from Tree of Life at this moment?

I think it is true comp. I think the growth rates in the independents are less than that, and so I think we're still taking -- but again, it is not from Tree of Life. I think we're taking it from the array of people that we consider competitors. And again, it is where our focus is, is to continue to work hard on behalf of our customers and to service them at very high level, and that's what we remain focused on.

Great, thank you.

Gary Giblin with CL King.

Good morning. Nice results. Could you clarify what percent of your sales, which I know wasn't much, come from vitamins, and does the present temporary softness in the vitamin market affect you very much?

Gary, only 7 percent of our products are in the vitamin supplements/minerals category, so slowdowns that you might see are not impacting our overall results materially.

Okay, great. And there is speculation -- everybody wants to know about the Whole Foods contract. So I guess the question I would put out there, is the -- I guess Carole called it conservative guidance, whatever the guidance for '05 is, is that reflecting any change in margin due to the affected terms on Whole Foods?

Obviously, our '05 guidance was including Whole Foods for the entire year. And obviously, our expectation is that we do expect to get a deal done with them. We continue to work at this. We were actually down there last week and we have got a series of meetings set up. But again, it is part of it. We have operated for about 10 years with what is really a three-page agreement, and we feel like, as they do, that we want to formalize some parts of this thing a little bit more than what the three-page document that we have now can do. So we are optimistic we will get it done by the end of the year, and we are obviously working hard to do it.

Okay. Would there be a material change in the margins on that contract?

We're not changing our guidance. We're confident in what we have out there, and again, we work at strengthening our partnerships with Whole Foods as well as our other key customers. And clearly, we feel like we bring real value into the supply chain, and that is ultimately what I think the strength of United Natural Foods is all about.

Okay. And then finally, can you help us out on first quarter of '05 guidance?

Gary, we are obviously not doing quarterly guidance. We are certainly doing annual guidance, as we did in 2004. So we will be consistent with that same type of strategy going forward.

Okay, so you are going to continue without (multiple speakers). Got it. Okay, nice quarter. Thank you.

Thank you. Eric Larson with Piper Jaffray.

Congratulations, everyone. A quick question on Hershey Import. In your fiscal 2003 year, I think Hershey lost 8, 9 cents a share. I know that you took the restructuring charge, you got it back, I think it was breakeven in Q1. Can you give us an update of what the performance of Hershey was and what the impact on earnings for '04 were?

Certainly the impact of Hershey in '04 was positive; it was not negative. I have not specified specifically the impact in terms of earnings per share, but they were accretive to earnings in '04 Eric. Aside from that, it was a great turnaround. They have done remarkable things there in the last 12 months to get them into a positive very quickly, as you noted, and then continued in the positive vein throughout the year.

Okay. And just a brief comment on any potential changes that you saw in your sales mix for the year. Were there any notable changes in sales mix, maybe as a result of the BSE controversy that we saw in late calendar '03?

No, I think the sales mix that you saw that Rick alluded to in his comments were really related to our channel mix change, with reassuming the Wild Oats business. And so we see now a greater percentage of our sales going through the Supernatural channel really versus the independent, and that obviously is we saw the full impact of that for our fourth quarter. And then also, we talked about over the last two quarters that with that business coming back that we expected the geography of our P&L to change, and I think you saw that too, with the lowering of our gross profit margins. But at the same time, we lowered our operating expenses more significantly. So I think for the most part, you have seen the changes that should take effect, and as we look forward, that is really our expectation in terms of what you're going to see going forward, at least into '05.

Fair enough. And then one final question for Rick. In the quarter, I think it is probably the first quarter we didn't see any impact from the value of the financial instruments. Are we sort of at the point in the life of those financial instruments where it's going to be more of a zero impact on the quarter or was it just a fluke quarter for that calculation?

Actually, as a result of novating the swaps in December of '03, we eliminated that special charge altogether. So going forward, there are no further special items related to the swaps. We no longer own those swaps.

Thank you.

Greg Badishkanian with Smith Barney.

Great, thanks. Two quick questions. Just a follow-up -- the supermarket channel and the other channel grew how quickly, would you say?

The supermarket channel we said was about 10 percent, and then the other channel, we're --

Are you talking about the Supernatural channel, Greg?

Actually, I think you gave independent -- the conventional -- I was talking about Supernatural, as well as Oats and Whole Foods -- just to the extent that you can break it out.

Supernatural channel grew in the high teens and mass-market, we said approximately 10 percent.

And then the other channel? I'm sorry.

The other channel is very small, and I actually don't have it front of me.

Also, just with respect to getting the Oats business, I know anecdotally, because you weren't the primary distributor just a year ago, but if you could maybe talk about how you think their service levels have improved using you, as well as maybe -- well, first if you could just talk about that -- how you think the service levels have been trending there with you as the primary distributor.

We feel very good about the service levels that we are working at right now with Wild Oats. And obviously, our expectations are we're going to continue to improve them since we've only been doing business with them really now for 4, 4.5 months fully across the country. But we are very confident in terms of where we are. We're running right now right around 96 percent in terms of fill rates with them. So we are happy where the service levels are in knowing that we do expect that we will continue to slowly improve those numbers.

I think I asked you a few quarters ago, but in terms of getting that business back, is that something that people in the industry talk about? When you talk to your customers, when you point to your service, is that something that they are pointing to, saying, we should continue using United or we should give them more business. Or if they're not using you, maybe they should try using you because of the success in regaining that business back?

We look at it as certainly a positive that they put their trust in us to help stabilize the supply chain, so certainly, we see it is a real positive. And the thing that we were really concerned about was not having customers -- our other customers say, hey, we know you got the business back because our service levels have gone down. We have not seen that, which is really the thing that we were protecting ourself against. So I think it is a real plus for us, and it is certainly something I think reinforces the trust that a customer like a Wild Oats puts in United Natural Foods.

Great, thank you very much.

Mark Chekanow with Sidoti & Company.

A little bit of follow-up on Oats. As you look at their product set and the things they are moving off their shelves, is there anything that you thought was flawed on their products and on their packaged goods that you would bring to them, and maybe more aggressive with new products and more access to those products as they hit the market and allowing them to be more promotional? Kind of talk about what you have seen or how you have helped them change their product set, if anything.

We certainly work with them in terms of -- we work on what is called an ATL (ph) improved product list with them. And they certainly come to us with items that they want to have in the stores and we also introduce new items; we bring those to their attention also. So if we're doing our job, we're working sort of in unison with them in terms of trying to help them merchandise products that I think will help drive sales in the stores, and I think clearly we're committed to doing that. We hold quarterly meetings with them regarding product and merchandising, and we learn some things on products and hopefully we bring some things to the table for them as well.

Also, can you provide a little bit of an update on where you stand with foodservice? It would seem that would be a pretty large opportunity for you over the long-term. I know your initial expectations were fairly modest, but walk us through, at least anecdotally, what kind of changes you are seeing there, what kind of customer accounts you're looking at and where the market is.

Actually in foodservice, Mark, it is growing at a 30 to 40 percent clip right now, but it still represents 1.4 percent of our total revenue, which is actually up from last year. So it is growing. It is still, as we would refer to, as an infancy stage. We are seeing some promise there in terms of the growth rates and we certainly are continuing our focus on that particular channel.

Lastly, on the acquisition front, you've taken out most of the larger regionals. Is there a potential over the next year or two that you would look at maybe the 10 to $20 million distributors on a local basis and maybe more aggressive rolling those up?

We certainly remain an acquisitive company. We certainly are positioned from a liquidity perspective to take advantage of opportunities that do come along. Obviously, we would not comment on any specific acquisitions today, but we are an acquisitive company.

Great, thanks.

Andrew Wolf with BB&T Capital Markets.

Thank you. Good morning. Given the numbers you gave, it looks like Oats contributed 36 million in the quarter and maybe around 40 million now. Am I right and should we use 40 million as sort of a run rate, annualize that?

Hang on just one second, Andy. For the quarter, they are around 40 million -- is that what you said?

Well, I just used the 12 percent to last year's and it backed into 36, thinking that maybe it wasn't at full capacity during the whole quarter.

That is approximately right, yes. That's close.

And that should grow a little, it sounds like. Because if it's running 9 percent now (indiscernible) some bigger numbers, is that fair to say? Plus, your prior guidance, I think, was 160 plus on what the business would bring you.

We are in the range -- we said 150 million to 200 million; we weren't sure until we, obviously, saw how it unfolded for us. So I think that was the guidance we gave. And we're right in the middle of that.

Great, thank you. Now that your Southern California facility is better utilized, is there any way to quantify, and if there is, could you tell what that specifically added to operating margin?

We don't really break down, obviously, any of our operating metrics out of our -- we have 15 distribution centers around the country and we don't break anything down (indiscernible). Certainly adding the volume into that facility will certainly help. If we were profitable before the business came back and not at the level, certainly, where we wanted it and it certainly didn't have the sales flowing through the building that we needed it to really operate that facility efficiently.

But clearly, adding the volume back has certainly helped that facility. We continue to increase our other business down in that area, so that facility is now, I think, in line with really what our expectations are for other facilities, and we're making certainly the right moves with it.

Thanks. On product costs and some of the inflation that -- Hain has announced that they're raising prices, have others followed, other vendors? And if you are accepting most of these price increases, do you see sticky pricing for you or can you pass these through, either because the market will accept them or your contracts are written that way? Can you comment on that?

Sure, the inflation for us over the last 12 months, prior to Hain's increases, were about 1.3 percent. After Hain came in with their price increases, it added a little bit more to that. But we are in the position where we are able to pass those on in terms of retail prices, because they do go into our cost base and that is the basis for our sales prices to our customers.

I would just add to that, we have not seen a lot of other price increases yet, but I do expect that we will see some more by the end of this year, or now through the end of the year, so.

And your customers net's (ph) just pass-through? If it's 3 percent or something, it's fairly transparent and they just take the price increase?

We obviously can't absorb those, and those would get passed to customers. And consistently, we have never had a problem in the past doing that. And actually, in our industry, we have not seen some of the inflation numbers that we've seen with some of the foodservice people and other companies. So I think last year our total inflation was like 1.2 percent, and it has been consistently in that level really back three (ph) years. So we have not seen any real inflation in our industry for three years that I've looked back on it, Andy.

Thank you.

(OPERATOR INSTRUCTIONS) At this time, we have no further questions. Please continue with any further remarks that you would like to make.

Okay, I just would like to, again, on behalf of the nearly 3800 United Natural Foods' associates, just thank you all for your continued interest and support in our company and certainly the industry that we serve. And I wish you all a good day, a good Labor Day and thank you very much. Goodbye.

Ladies and gentlemen, this concludes the United Natural Foods' fourth-quarter results conference call. If you would like to listen to a replay of today's conference, please dial in to 1-800-405-2236 or 303-590-3000 and use the access code of 11005287. (OPERATOR INSTRUCTIONS) Again, we thank you for your participation. You may now disconnect and have a great day.