United Natural Foods Inc (UNFI) 2006 Q3 法說會逐字稿

Good morning, ladies and gentlemen and thank you for standing by. Welcome to the United Natural Foods third quarter conference call. At this time, all participants' lines have been placed 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 Thursday May 25 of 2006. At this time, I would like to turn the presentation over to Julie Tu with the Financial Relations Board.

Thank you and good morning everyone. By now, should have all received good copy of this morning's press release. If anyone still needs a copy, please call Samantha Alfonso in our New York office at 212-827-3746 and we will send to a copy immediately following this morning's conference call.

With us today this morning from management is Michael Funk, President and Chief Executive Officer and Mark Chamber, acting Chief Financial Officer and the Company's Chief Accounting Officer. We will begin with some opening comments from management, and then we will open for questions. As a reminder, this call is also being webcast today and can be accessed on the Internet at www.unfi.com.

Before we begin, as usual, 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. With that, I'd like to turn the call over to Michael Funk. Please go ahead, Michael.

Thank you and welcome everyone to our third quarter conference call. Joining me today on the call is Mark Shamber, our Chief Financial Officer.

Our third quarter sales were 637.1 million, which was a 19.2% increase from the 534.3 million recorded in the third quarter of fiscal 2005. Adjusted for sales days, our sales growth year-over-year was 16.3% and excluding the acquisitions and adjusting for sales days, our sales growth on a comparable basis for the quarter was 15.9%.

Our growth for the quarter continued to be strong in all channels of our business. Sales growth in the independent channel was nearly 20%, the supermarket sector was over 18% and the supernatural channel grew in the low teens. Sales growth continued to be consistent across all regions in the country.

As a percent of our overall sales mix, supernaturals were 35.8% of our business, supermarkets were 13%, the independents were 47.4% and foodservice accounts were 1.8%. Whole Foods Market was 26.5% of our total sales and Wild Oats was 9.7% for the quarter.

Looking at our operations, we continue to see consistent fulfillment rates in all regions as service levels for the quarter ran at over 98.1% exclusive of manufacturer out of stocks. Our on-time deliveries were at 97.85%. Fuel prices for the quarter were 96 basis points of expense, 8 basis points over Q3 of 2005. However, we were able to offset this by reducing total transportation expenses in our core distribution business from 4.42% a year ago to 4.13% this quarter, a reduction of 29 basis points.

Continued improvement in operations and the results of opening our new facilities in Rocklin, California and Greenwood, Indiana contributed to this reduction in expense. Opportunities for continued efficiencies in our distribution continue to be identified as we implement new technologies, leverage our size and map out new facilities, which will reduce our miles driven by our fleet.

Earnings per share for the third quarter came in at $0.29 for the quarter. This compares to our earnings of $0.26 the previous year, a 12.5% increase. We produced an operating margin of 3.8% net of share-based compensation for the quarter. The performance of Roots & Fruits and Select Nutrition, our most recent acquisitions, while continuing to improve still operated at a loss for the period. Operating margin excluding Roots & Fruits and Select Nutrition would have been 3.89%. We plan on beginning shipments to Select Nutrition's western customers out of our Rocklin, California facility, saving the Company 20,000 par week in third-party freight costs. Timing of this Rocklin rollout for Select is planned for August 1 of this year.

In addition, the new [Pick Delight] software program should be installed in select facilities in July of this year, further reducing expenses. Our target continues to be making both of these acquisitions neutral to earnings by end of fiscal 2006 and we expect both to be slightly accretive for fiscal 2007.

Our United Natural Brands division grew sales at a 54% growth rate for the quarter and total sales of our private-label brand now account for 3.34% of our sales and distribution. New staffing that has been added to this division is showing positive results and we remain confident about our ability to increase this division's sales to 5% of total sells by end of fiscal 2008. We will continue to invest in needed resources to achieve our goals in this area.

While we have seen significant increases in fuel cost this past quarter, again, up 8 basis points year-over-year, we have been able to offset these with efficiencies in our transportation department. The fuel surcharge that we implemented one year ago, while helping to recover some of our increased cost, is being currently reviewed. Our goal is to implement a fuel surcharge that is flexible enough to recover a majority of fuel cost increases on a quarterly basis, insulating the Company from fuel price volatility for the most part. We expect to roll out a new fuel surcharge program this summer.

While this initiative will help us short-term, our long-term rollout of new facilities will help drive down overall fuel usage considerably. We will be prepared to discuss timing of new facilities at our year-end call at the end of August.

All in all, we feel very good about the Company's performance and look forward to meeting the increased demand for natural and organic products throughout all our distribution channels. Interest in our products has never been higher and opportunities for increasing sales and new markets has never been greater.

I would now like to turn the call over to our Chief Financial Officer, Mark Shamber, for further comments on the quarter. Mark?

Thank you, Michael. I'd like to extend a welcome and good morning to everyone listening in on the call and webcast as well. As Michael mentioned, net revenue was 637.1 million for the third quarter of fiscal 2006, an increase of 19.2% over last year's third quarter of 534.3 million. Excluding the Roots & Fruits acquisition, our wholesale comparable growth rate was 18.8%. Based on the comparable number of shipping days, our sales growth for the quarter was a strong 16.3% with a wholesale comparable growth rate of 15.9%.

We make reference to comparable shipping days as there were two additional shipping days in this quarter in comparison to the third quarter of fiscal 2005. And as we've discussed on prior conference calls, the differences in shipping days from year-to-year is the result of the Company's adoption of a 544 format this fiscal year. In total, our fiscal 2006 year will have two fewer shipping days and our fourth quarter will have one fewer day than the prior year.

Net income for the third quarter of fiscal 2006 increased 15.1% to 12.3 million, compared to 10.7 million for the quarter ended April 30, 2005. Diluted earnings per share increased by 12.5% to $0.29 from the $0.26 recorded in the third quarter of last year. Net income for the third quarter of fiscal 2006 increased 14.4% to 12.3 million, or $0.29 per diluted share, in comparison to the 10.8 million, or $0.26 per diluted share, excluding special items for the third quarter of fiscal 2005. There were no special items for the third quarter of fiscal 2006.

As detailed in our press release this morning, the third quarter of fiscal 2005 included $114,000 in special items, or $70,000 after taxes.

Gross margin for the quarter was 18.9% compared to 19.1% for the third quarter of fiscal 2005. This gross margin decline came principally as a result of loss purchase discounts during quarter related to issues surrounding the accounting system implementation in our eastern region. The Company addressed and resolved this issue during the month of April and we do not anticipate further loss discounts. The declining gross margin was effectively offset by lower operating expenses, despite rising fuel costs in the last month of the quarter. Year-to-date, gross margin is at 19.1% and we would expect gross margin to remain at a low 19% range going forward.

Operating expenses for the quarter were 15.3% of sales compared to 15.5% for the same period last year. When adjusted for the impact of share-based compensation expense recorded during the quarter of 1,232,000, or 19 basis points, this reflects a 39 basis point improvement over the prior year.

The integration of the Roots & Fruits acquisition into our Albert's Organics division continued to be dilutive during the quarter, representing a negative impact of approximately 6 basis points on operating income. As Michael mentioned, fuel costs for the quarter were 8 basis points higher than the prior year.

Excluding share-based compensation expense in the integration of the Roots & Fruits and Select Nutrition acquisitions, our operating income for the quarter would have been 3.9%, consistent with the prior year, which excluded the prior year impact of fuel cost in Select Nutrition integration. Current and prior year operating income was 3.6% on a GAAP basis.

The Company's effective tax rate for the quarter ended April 29, 2006 was 38.9%, bringing the year-to-date tax rate to 38.3%. This increase in the effective tax rate relates directly to the Company's adoption of FAS 123 (R), share-based compensation, and the recognition of incentive stock option expense on the income statement as incentive stock option expense is not deductible for tax purposes.

Going forward, our effective income tax rate will continue to be affected by the tax impact related to incentive stock options and the timing of tax benefits related to disqualifying dispositions.

Cash generated in operations for the nine months ended April 29, 2006 was 5.6 million, compared to 1.7 million in the prior year. Our inventory was at 46 days for the third quarter, favorable to our target of 47 to 50 days, and consistent with the prior year. Days sales outstanding for the third quarter was at 24 days, also favorable to our target of 25 to 27 days, and again, consistent with the prior year. CapEx was 14.8 million for the nine months just ended, equating to approximately 0.8% of revenues for the fiscal year to date. As discussed in our press release, we are revising our fiscal 2006 capital expenditures guidance downward to a range of 18 to 23 million, from our previous guidance of 30 to 35 million due to a shift in the timing of our planned expansion.

The Company's outstanding commitments under our amended and restated credit facility as of April 29, 2006 were approximately 129.3 million with an available liquidity of 126.7 million. Our return on total capital was 19.6% and our return on equity was 12.9% for the last 12 months. Both our return on total capital and our return on equity were negatively impacted due to the impact of share-based compensation expense by 114 basis points and 83 basis points, respectively.

The press release issued earlier today highlighted the fact that we're raising our full-year revenue guidance and revising our earnings-per-share guidance. The Company is raising its projected revenue guidance to 2.42 to 2.45 billion for the fiscal 2006 year ending on July 29, 2006. In addition, we are revising our earnings-per-share guidance, excluding specialty items, to a range $1.08 to $1.10 per diluted share. Previously we had announced revenue guidance from 2.38 to 2.42 billion and earnings-per-share guidance excluding potential special items from $1.05 to $1.10 per diluted share for the fiscal year. At this time, we're also further narrowing the anticipated impact of share-based compensation expense to approximately 5.5 million to 6.2 million on a pretax basis, or $0.08 to $0.09 per diluted share after taxes.

Previously, the Company had expected to incur approximately 5.5 million to 6.8 million of share-based compensation expense on a pretax basis, or $0.08 to $0.10 per diluted share after taxes, excluding potential special items. Actual share-based compensation expenses recorded during the remainder of fiscal 2006 may fluctuate beyond the guidance provided based on various factors, such as additional equity awards granted to employees, changes in the Company's stock price and actual results in comparison to the underlying assumptions used in estimating the fair value of share-based payments.

With that, I would like to conclude our prepared remarks and at this time, will turn the call back over to the moderator to facilitate questions.

(Operator Instructions). John Heinbockel, Goldman Sachs.

A couple of things. If you look at the independent sales growth, how does that break down roughly between new locations you picked up in the last year and sales to comparable locations generally?

Well, that's a hard question to answer, John, with specifics, but we continue to need to see a lot of new store openings in the independent channel. I would guess that we're seeing mid-teen comps in the independent channel, and the rest of it is coming from market share increases in new stores.

What do you think is an appropriate long-term growth rate for that channel, because 20 looks unsustainable -- but what is an appropriate growth rate do you think?

We would like to think that we can continue to grow our business in all channels in the mid-teen area. We continue to see strengthening signs of interest and demand from all channels of our business.

The second thing -- if you look at how the whole Albertson's real estate situation is going to play out, where do you sit in terms of capacity availability in your facilities? If some of those locations were to come to your customers, is there sufficient capacity without expansions to serve a lot of that business?

Well, terms of our capacity overall, we're making several decisions right now on expanding our capacity and our ability to serve all of our customers in different regions of the country. Certainly in some areas, we are better equipped to handle large increases than in others. But with the growth rate that we have with our existing customers, we have several expansions planned and we would not anticipate any problems if we had a larger piece of business coming our way with the current facility that we have.

Finally, Wal-Mart getting into organics -- is that good or bad for your business in the sense -- is there is supply opportunity there? I would imagine not. But is there one, or is it a positive in expanding the market, as some have said?

I think that we view Wal-Mart's entry into carrying additional organic and natural items as generally positive. As you say, we don't look at it as probably an opportunity for us directly in terms of sales, but we also don't look at it as a negative in terms of eroding sales from our existing customers and we certainly believe that their entry into the market can help bring awareness to the category and drive sales for us long-term.

Okay, thanks.

Andrew Hodson, RBC Capital Markets.

Thanks. You guys mentioned in your press release, you're on track to obtain your objectives for 2007. Can you elaborate a little bit on those objectives at all?

I'm not sure what you're referring to in 2007, Andrew. We haven't given our 2007 guidance. We will be giving that at our year end call here in August.

I don't know that we alluded to fiscal 2007 in the press release. We did discuss the guidance for the fourth quarter of 2006, but I'm not sure -- I think the only thing we really discussed was some timing of planned CapEx that may shift into 2007.

Okay, fair enough. Can you just comment on how the Western region is performing?

Yes. We're happy with our progress in the Western region. As you know, we announced a new president of the Western region, Randy Lindberg, who along with some other staff has been making progress and improving our operations out west. So we're happy with the progress that is going on in the Western region.

Okay, thank you.

Andrew Wolf, BB&T Capital Markets.

Thank you, good morning. Mark, could you tell us how much purchase discounts were lost during the installation in the period?

It was probably around 800,000 or so, Andy.

Thanks. And Michael, on the fuel surcharge, is this just for the independents? Are the contractual terms for the most everyone else covering you, or is it going to be expanded to some other customers?

I would say right now, we have certain customers under contract which the contracts obviously would continue to be implemented. With our other customer base though, we're trying to recoup the increase in fuel cost from the rest of the customer base.

Let me phrase that another way. Are you getting covered with the folks, the non-independents, most of whom I believe are under a contract? Do those contracts with the lag kind of make the company whole, and it's really the independents where you have to focus financially?

Yes, I would say that's overall accurate.

Okay and I just wanted to ask you. I assume by now you might have floated some trial balloons with some the independent retailers and discussed the reasons for this and done some marketing and selling into them. Could you just generally comment on what kind of feedback, assuming you've talked to them, you have heard from them?

We're still formulating our specific plan. Overall, I think if we spread the pain so to speak over our whole customer base, it's a fairly small but for our customers to digest. The key point I think that we are recognizing is with the volatility of the fuel pricing, we just need something that's a little bit more flexible that can go up and down a little quicker to more accurately reflect the current fuel price situation.

Following up to your answer, what kind of a lag would -- assuming you implement something that can make you [merely hold them], what kind of a lag would it be, sort of a month or two after? Or, would it be -- you would probably be trailing behind what is going on with fuel by some period of time.

I think what we're probably going to see is something that would be implemented on a quarterly basis. And so, depending on how the increases in the market on fuel are coming, we could see a little ahead of the curve or a little behind the curve if we are adjusting it quarterly. But that's kind of what we are envisioning.

And there are no issues with your current information technology systems in terms of making sure every customer gets the right amount of shared pain, if you will?

Yes. I don't foresee any problem with that.

Thanks.

Thanks Andy.

Michael Lasser, Lehman Brothers.

What was the revenue contribution from the fuel surcharges this quarter, and in Q3 '05?

There was not a fuel surcharge in place for Q3 '05, Michael. We put it into place in mid-May 2005, which was the fourth quarter. And we actually do not break out what the fuel surcharge is. It's not something that we've disclosed or broken out separately.

Can you quantify the benefit, the margin benefit, from the transportation improvement that you saw and how sustainable it is moving forward?

I think that Michael in his prepared remarks did break down what the transportation piece of it was. I think it was -- 29 basis points. And I would think that he and I would both agree that we would believe that that's sustainable and that it's not a temporary improvement from an efficiency standpoint.

I guess what I meant, the 29 basis points, that was all from better rerouting?

No, there's a variety of factors that lead to it. Certainly, the rerouting was part of it. There's efficiencies that come into play with the new facilities online and where they are located compared to where we're shipping from in the past. And we're constantly moving business around and trying to reduce the miles that are driven. So those are some of the leading causes, but they are not the sole causes behind that.

Okay. And it seems like operating expenses were down around 37 basis points year-over-year. What else was contributing to that?

I think if we look at some of the transportation, that represents a big piece. And then beyond that, it's every basis point sort of counts in our business and I think that efficiency is whether it's from lower SG&A cost to efficiencies in selecting and receiving. We have put [pick to light] into place in a couple of our facilities and we are continuing to roll that out. So beyond that, it would be difficult to quantify that any one particular efficiency or improvement that we made led to X number of basis points, but it is a concerted effort across the Company.

And finally, can you give an update on how negotiations for the renewal of the Whole Foods contract are going?

We don't have anything new to update on those discussions. I would just reiterate what I've said in the past, that we continue to feel very positive about our relationship and our abilities to serve them long-term. We feel again we're uniquely positioned to be able to serve them at a low-cost and be able to handle their growth, their aggressive growth plans over the next several years.

Sounds great. Thank you so much.

Eric Larson, Piper Jaffray.

Good morning everyone, congratulations. This might be a question for Mark. Mark, you talk about your CapEx being quite a bit lower this year because of some timing issues. Is the difference kind of between I think your annual 30 to 35 million run rate, will the difference this year be additive to an annual run rate for next year? How should we look at your CapEx in the next -- in the up-front year in 2007?

I think certainly there's a portion of it that may or that will increase the historical 30 to 35 that we have averaged. I would not say that it's all going to shift into fiscal 2007. There is a possibility that some of -- as a result of not starting some of the expansions until fiscal '07, expansions that we might have had planned in the latter half of fiscal 2007 may shift into fiscal 2008. Obviously, depending on the growth in the business and where that puts some capacity constraints on certain of our facilities, it could lead to something being accelerated out of fiscal 2008 into 2007. But I would say that as a fair estimate, probably half of that number would go into fiscal 2007 based on current plans, and then it could shift again, depending on where the growth comes from.

Okay. Should we still use 30 to 35 as kind of an annual base in terms of thinking as we go forward in future years?

I would say that's a fair statement right now. We continue to see the mid-teens growth that we're experiencing across all channels now. We may need to reevaluate that and what kind of demands that puts on our facilities across the country. But I would say for now, that's a fair statement.

One follow up for Michael. Michael, in this environment, are you seeing opportunities to make acquisitions? In today's world obviously giving the fragmentation of the industry, that's an attractive portion of that. Are you seeing opportunities out there?

I think there are opportunities. There isn't anything that we're looking at right now that's on the front burner. But certainly, we will remain to be opportunistic when we see potential acquisitions on the horizon. But I would say right now, there isn't anything extraordinary then from the past.

Okay, great. Thanks everyone.

Greg Badishkanian, Citigroup.

Hi, this is Alvin in for Greg. Just a quick question. For your '06 guidance, what does that assume for fuel prices?

I guess, when you say what's that [assuming it to] where we expect our fuel to be in the fourth quarter?

Right.

I would say from that standpoint that we have put figures into our budgets that had gone in in the prior year and we are basically tracking, it's 8% -- I'm sorry -- 8 basis points over prior year, but we are sort of in line in the third quarter with our fuel expectations from a budgeting standpoint. So I would say that, despite the recent run-up, we're fairly consistent with what we've put in place or what we had planned in the fourth quarter. So I don't think that there would be much impact, at least from a budget standpoint currently. Obviously if another hurricane hits in the Gulf area, you can't predict what's going to happen in the future. But with where we are currently and where fuel prices are, we feel that we're right in line.

Have your competitors recently implemented any surcharges or price increases?

I know that when you look at distribution companies across the country, many -- all of the companies are dealing with the same issue and many have implemented some type of surcharge. Others are just rolling it through their cost of goods. But everyone is dealing with the same issue in a variety of ways.

Great, thank you.

Michael Krestell, M Partners Inc.

Good morning. A quick question just on the [Picked Light]. About how much of the system now has the Picked Light ability?

We just rolled it out and I think we have in two facilities. So it's just beginning really the process there. So we're in the very initial stages of implementing this.

And the plan is to take it systemwide?

Yes.

And how long do you think that will take to complete?

We have a couple of initiatives and they're really going to take -- to roll out across the country, it's going to take 18 to 24 months.

Okay. Another question. Just on the foodservice program, I know it's a small portion of revenues now, but I wonder if can give just an update on that, how that's looking and what plans after that going forward?

We continue to put recesses into identifying foodservice opportunities. We have a number of new accounts that have come at us. We signed a deal with the [Med Assets] recently for a new channel to get some products into hospitals. We're excited about that as well as arrangements with [Cedexo] and Aramark and several other foodservice distributors. So we look at that opportunity as something that we should be able to grow at a faster rate than the rest of our business for the foreseeable future.

Great, thank you very much.

Andrew Wolf, BB&T Capital Markets.

Just looking at the year-to-year increase in diesel and fuel and your sales growth, it's obvious that you -- something happened to mitigate what would have happened if it was just things having either got more efficient or your hedging [help]. So in that regard, when you look at the way you manage costs in the quarter, even excluding what you're going to be doing going forward with the change in the surcharge, but just the quarter, would you attribute the effectiveness of the fuel management for the quarter more to the hedging that you have in place or more to internal initiatives to lower miles and increase cube and the other things to make the system more efficient (MULTIPLE SPEAKERS) new (indiscernible) facility, what have you?

It's definitely the latter. The management of the transportation expenses, both with again the new facilities like Greenwood and Rocklin opening up have allowed us to drive fewer miles to our customers. We're getting a lot more dollars per truck which helps drive that number down significantly. So it's definitely the latter of managing the efficiency of the fleet that is contributing to those lower numbers.

Do you have a year-over-year gallons used to type of number that you could share with us available to you now?

I don't have a year-over-year gallons, but I would say just off the top, it's probably, with the growth that we have had businesswise, the increase in the gallons is probably in the range of 7 to 9%.

Great, that is helpful. Thank you.

(Operator Instructions). John Heinbockel, Goldman Sachs.

The question was answered. Thank you.

(Operator Instructions). At this time, we have no additional questions in the queue and I'll turn the conference over to you for any further remarks.

Thank you for your attendance in today's call. We appreciate your interest in support of United Natural Foods and we look forward to talking to you at our year-end call in August where we'll be giving our '07 guidance.

Thank you, management. Ladies and gentlemen, at this time we will conclude today's teleconference presentation. We thank you for your participation on the program.

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