United Natural Foods Inc (UNFI) 2008 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the United Natural Foods first-quarter 2008 conference call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (OPERATOR INSTRUCTIONS). This conference is being recorded today, November 20th, 2007.

I would now like to turn the conference over to Julie Tu, Financial Relations Board. Please go ahead, ma'am.

Thank you and good morning, everyone. By now, you should have all received a copy of this morning's press release. If anyone still needs a copy, please call Janet Jasmine in our New York office at 212-827-3777, and we'll send you a copy immediately following this morning's conference call. With us this morning from management is Michael Funk, President and Chief Executive Officer, and Mark Shamber, Chief Financial Officer. We will begin with some opening comments from management, and then we will open up the line 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 conference over to Michael Funk. Please go ahead, Michael.

Thank you, Julie, and thank you, everyone, for joining us this morning on our first-quarter conference call. Along with me today is Mark Shamber, our Chief Financial Officer. For the quarter, net income was $13.6 million or $0.32 per share, up $1.1 million from the previous Q1 earnings of $12.4 million or $0.29 earnings per share. Our first-quarter sales were $736.4 million, a 13.9% increase from the first quarter a year ago. Despite slow economic conditions, demand for our products remain very consistent.

The super natural channel grew at a rate of 22.5%, our supermarket channel was at 6.6%, independents were at 9.7%, and our foodservice division grew at 28.9%. The supermarket channel was negatively affected by the loss of a key customer. Excluding this loss, the supermarket channel would have increased by 12.4%. With the addition of the Millbrook product selection and category management expertise within the supermarket channel, we believe will be able to see our supermarket growth accelerate in the coming quarters.

As a percentage of our total business, our super naturals which are Whole Foods and Wild Oats combined, were at 35.5%. Our supermarkets were at 16.4%, and independents were 43.5%, and foodservice was 2.5%. We have reclassified the Henry's account, which was divested by Whole Foods recently, indoor supermarket channel going forward.

As previously announced, we closed on the acquisition of Millbrook Distribution Services on Nov. 2nd of 2007. UNFI is very excited to welcome Robert Sigel, CEO of Millbrook, along with the rest of the associates, customers, and vendors of the Company. Millbrook had been operating with less than adequate working capital for the last several months, which has negatively impacted sales with reduced fulfillment rates.

Our primary focus for the Millbrook division is to build its inventories and improve its fill rates into the 90% level within the next few weeks. As a division of UNFI and the foundation of our newly-created specialty foods division, Millbrook will have the resources to grow its current customer base. These resources include the addition of UNFI's distribution centers, the Millbrook's geographic coverage, access to UNFI's natural and organic product assortment and expertise, and the financial support it needs to achieve our goal to grow this portion of our business.

Millbrook will also continue to supply a wide variety of nonfood products, including health and beauty care, cosmetics and general merchandise to various retail channels, as many retailers look for a single source of supply for items that require specialized handling. Many opportunities to realize synergies between the two companies are available, and we expect to begin to realize these savings by Q3 of our current fiscal year.

We anticipate the Millbrook acquisition to be dilutive to earnings for Q2 by as much as $0.04 EPS. Thereafter, for the remaining two quarters of fiscal '08, we would anticipate earnings to be neutral to slightly accretive.

With Millbrook, we are adjusting our forecasted sales for 2008 to be in the range of $3.27 billion to $3.35 billion per year, with a growth rate in the range of 19% to 22% over fiscal '07.

Turning to operations for the quarter, our fulfillment rates were 97.64%, 21 bips below last quarter's rates. On-time deliveries improved to 98.91%. Expenses for the quarter were 15.1% of sales, 14 bips below last year's Q1. Included in this quarter's expense numbers were $2.3 million in costs associated with startup expenses for our new facilities in Sarasota, Florida and the Portland, Oregon area.

Our Sarasota warehouse opened successfully on schedule at the end of September. Our Vice President of Operations for the Eastern region, Shawn Mitchell, and his team deserve recognition for the excellent execution of the opening of our largest facility in the Eastern region at 393,000 square feet.

Meanwhile on the other coast, our Portland, Oregon facility is poised to open the second week of December. While fuel costs have spiked to record highs over the last few months, we managed to actually reduce our fuel as a percentage of revenue 18 basis points, coming in this quarter at 100 basis points versus last year's 118. Our United Natural brands division grew at a rate of over 22% for the quarter, through a combination of growth through existing brands and new acquisitions recently completed.

With Millbrook and other new distribution pipelines becoming available, we look to our brands to maintain sales at a faster rate than the rest of our business, and we'll continue to be acquisitive in 2008 to drive our growth in our branded business.

We are pleased to announce that effective December 3, 2007, [Casey Thanreisdum] has accepted the newly-created position of Vice President of Foodservice and Business Development. Casey will oversee our foodservice effort nationally and comes to UNFI with over 25 years experience in the natural products industry, including 23 plus years with Tree of Life. Casey's responsibilities with Tree of Life included Division President of Tree of Life brands, Regional President of Distribution in Canada and the Southeastern United States, as well as Tree of Life Europe's Business Development Director. In addition, Casey brings extensive foodservice experience to UNFI.

Our 2008 guidance remains at $1.40 to $1.45 per share, an increase of 19% to 24% over '07 earnings. We look forward to continue to expand and leverage our leadership position with the distribution of natural and organic products, and now specialty foods as well. We think consumers' growing concerns about food security and safety, health and the environment, will continue to drive demand for our products.

And finally, in the next few weeks we will have completed the installation of a 550 kilowatt solar project mounted on our Dayville, Connecticut facility. This solar power system will be the largest in New England, and we are happy to have a seven-year ROI on that project. It is a continuation of our sustainability projects that we will continue to see throughout the country.

Now I'd like to turn the call over to Mark Shamber for some additional comments.

Thanks, Michael, and good morning and welcome to everyone listening in on the call and the webcast. For the first quarter of fiscal 2008, net sales for $736.4 million, which represent an increase of $90 million over last year's first-quarter net sales of $646.4 million, resulting in comparable growth for the quarter of 13.9%.

The Company reported net income of $13.6 million or $0.32 per diluted share for the first quarter of fiscal 2008, an increase of approximately 9% over the prior year. Net income for the first quarter of fiscal 2007 was $12.4 million or $0.29 per diluted share.

Gross margin for the quarter was 18.4%, which represents a 28 basis point decline from the previous quarter, and is down 72 basis points from the first quarter of fiscal 2007, with a gross margin of 19.1%. The year-over-year gross margin decline reflects the impact of new customer contracts and shifts in our mix of customers, but is consistent with our fiscal 2008 guidance.

Operating expenses for the quarter were 15.1% of sales compared to 15.5% for the same period last year. This represents a 43 basis point improvement over the prior year, despite the inclusion of approximately $2.3 million in costs associated with starting up the Sarasota, Florida and Portland, Oregon area facilities.

Operating income was 3.3% for the quarter compared to 3.6% in the prior year. This reflects a 29 basis point deterioration over the prior year. However, adjusted for the new facility startup costs, operating income would have been 3.6% or 2 basis points higher than the prior year. We recorded share-based compensation expense of $1.0 million during the quarter or 14 basis points compared, to $954,000 in expenses or 15 basis points in the prior year.

As Michael mentioned, fuel costs for the quarter were approximately 100 basis points, an improvement of 18 basis points over the prior year. Improved efficiencies, the mileage savings from the opening of the Sarasota, Florida facility in October and the lack of a fuel hedge led to the improvements, partially offset by the rise in fuel costs.

Our effective tax rate for the quarter ended October 27, 2007, was 36.7%. The decline in the tax rate for fiscal 2008 is due primarily to anticipated tax credits associated with the solar panel installation projects at both our Rockland, California and Dayville, Connecticut distribution facilities, as we discussed in our year-end conference call.

At this time, we believe our tax rate will be approximately 36.5% to 37% for fiscal 2008. However, we will revisit the tax rate for fiscal 2008 in conjunction with the Millbrook Distribution Services acquisition and the related purchase accounting.

Additionally, 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, and it may fluctuate from quarter to quarter.

Our inventory was at 51 days for the first quarter, slightly above our target of 47 to 50 days, and an increase of three days in comparison to the prior year. Our higher inventory levels at the end of the quarter were due to the inventory build that is in process for the planned opening of our Portland, Oregon area facility in December, as well as working down inventory levels in our Atlanta facility following the opening of Sarasota, Florida at the end of September.

DSO for the first quarter was at 21 days, favorable to our revised target of 22 to 25 days, and a one-day improvement over the prior year. The continued improvements in our DSO are due in part to the continued efforts of our credit collections teams.

CAPEX was $12.6 million or 1.71% of net sales for the three months just ended, which is roughly in line with our target spending of approximately 1.75% of revenues. We continue to expect our CAPEX to be in line with our previously-announced guidance of $50 million to $55 million, as we look at opportunities to expand or relocate existing facilities or add new facilities in the Mid-Atlantic, Southern California and Texas markets.

At $2.9 million, interest expense reflected a nominal increase on a year-over-year basis due to lower interest rates during the quarter, which were partially offset by higher average debt levels. Compared to the prior quarter, interest expense increased approximately 3% over the fourth quarter of fiscal 2007, due to higher average debt levels during the quarter related to the inventory builds at Sarasota and Portland, partially offset by lower interest rates during the first quarter of fiscal 2008.

The Company's outstanding commitments under our amended and restated credit facility as of the end of October were approximately $164.6 million, with available liquidity of $104.9 million, including cash and cash equivalents. Our return on total capital was 19.6% and our return on equity was 11.6% for the trailing 12 months.

As we announced in this morning's earnings release, we have raised our net sales guidance for fiscal 2008 to reflect the recent acquisition of Millbrook which closed on November 2nd. Fiscal 2008 projected revenues are now expected to increase to $3.27 billion to $3.35 billion, representing an increase of 19% to 22% over net sales in fiscal 2007.

Previously, we had announced net sales guidance from $3.05 billion to $3.13 billion, reflecting net sales growth of 11% to 14%. At this time, the Company expects fiscal 2008 US GAAP earnings per diluted share guidance to be in the range of $1.40 to $1.45 per share, an increase of 19% to 24% over fiscal 2007.

We expect the Millbrook acquisition to be dilutive by approximately $0.04 in the second quarter of fiscal 2008. We expect the acquisition to be neutral to slightly accretive for the remainder of fiscal 2008.

With that, I'd like to turn the call back over to the moderator to facilitate questions.

(OPERATOR INSTRUCTIONS). Simeon Gutman, Goldman Sachs.

First, Michael, can you talk about or share some color why -- what happened with that supermarket customer that you lost?

That was Shaw's business that we lost in the Northeast after SUPERVALU acquired the account. They consolidated all their purchases with specialty foods and natural with one supplier. This is one of the reasons we're excited about Millbrook acquisition, in that it gives us a full complement of not only natural and organic, but the full specialty ethnic kosher lines in which we can compete with the supermarkets who are looking for that type of one-stop shop. So we expect to be much more aggressive in the coming months with our full selection to supermarkets.

So it sounds like you had some flexibility that that business was going to leave the UNFI system.

Yes, I mean there's always some visibility you get, but there's also some uncertainty around some of these decisions. But yes, that happened over the last three months or so.

Okay. And now the sales guidance, I think the mid point of that, it went up about, I think, $220 million. And I guess that's just the timing of Millbrook coming in. But that doesn't show any growth in that unless it's a build. So is there other pieces to the sales forecast that have changed, or is it relatively the same?

No. I think we're just forecasting basically the current run rate of approximately $300 million that we announced, given the fact that we've got slightly less than three quarters of a sales to integrate that business. We're not projecting any growth necessarily on top of that right now.

Okay. And it grew what? I'm sure it grew last year, though, correct?

Simeon, it's not necessarily comparable because, as Michael talked about, they were a little bit cash starved during the year. So they did have some growth in the prior year, but part of what's reflected in our sales guidance is in taking that acquisition on board is that it will take, as we talked about on the inventory side and the fill rate side, it will take some effort, a few weeks on our part, to get them back to that level.

So we do anticipate that while the run rate was there previously on the sales, there might be a little bit of slippage as we try to them back to a normal fill rate.

Okay. And then second, what success have you had in retaining some of the business from the closed Wild Oats stores?

Well, I think for the most part we're pleased to see the sales trends with those stores. And it's probably exceeding our expectations in terms of the amount of business that we are getting post Wild Oats close. So I'd say so far, so good.

And that's reflective, I guess, in all of your channels, independent through super natural? Or is it being -- it's collective, obviously, to you in '05, but are you seeing any disproportionate amount going to any other channels?

Simeon, I would say at this point, given that some of those store closures have only been for a month or so, we haven't gotten that granular as to where that business translated to. A number of those stores were right in the same area as Whole Foods. So a good part of the business went to Whole Foods. But we've not yet delved into noticeable pickups at say the local independent or the supermarket down the street.

We're going to need another quarter to answer that question more definitively.

Okay, and then last question. In the area of prepared foods, and I guess value-added -- I'm speaking about commissaries -- what are the margins like in that business and what are the turns, and will that ever make sense for something that UNFI should look at?

I'm not sure exactly -- the foodservice component of our business generally is selling the commodities to which people then are manufacturing prepared foods. That business, as you know, we're focused on. But I don't think we're going to be in the prepared foods distribution. That's another business entirely.

Okay, thanks.

Ed Aaron, RBC Capital Markets.

Thanks nice quarter, guys. A couple questions. You mentioned the opportunity that once you get Millbrook in there to get some new business now, that you can sort of be a one-stop shop. Have you had any successful discussions with supermarket retailers at this point? I realize we're only a matter of weeks into the acquisition.

Yes, we're two weeks and two days to be exact. There have been a few preliminary discussions, but obviously for most retailers, the time to consider changes is after the holidays. So that would be probably where more of the push would be. For now, it's focusing on getting Millbrook's service levels to where they should be and trying to learn as much as we can about their business, so that we can give them the resources to grow the business.

Fair enough. When I look at your guidance for the year, obviously you're not giving specific guidance for the second quarter, but with $0.04 of dilution there's only so much we should expect from that quarter. To get to your full-year number, you're probably going to need to have roughly an $0.80 back-half of the year, I guess by my estimate.

Can you walk us through in maybe a little bit more detail kind of the ways -- and obviously, the Millbrook swing is part of it, but there's got to be some other sources of incremental improvement in earnings from the first half to the second half. I was wondering if you could maybe walk us through that a little bit.

Well, I think, Ed, there's a few components that come into it. If you go back and look at what we experienced in the second half of fiscal '07, where we had a couple of quarters where we had some charges that negatively impacted us in those quarters, we feel that we have those behind us, and then it's growing the business from there.

So it may look, I guess from that standpoint that we probably did, if memory serves me, we did $0.63 say in the last half of '07, but if we felt that in both those scenarios we had roughly $0.03 worth of items that hit us that negatively impacted us, it puts to maybe closer to $0.69, $0.70 where from a gross standpoint that's talking growth of 10%, 15%, with Millbrook factored into that.

So while we do expect some dilution from Millbrook in the second quarter that we've laid out, we think that they'll be, as we said, neutral to accretive in the second half of the year. So we'll get some benefit from their business as well as growing our own business.

So we have the Portland facility that's coming online in December. We have the Sarasota facility that opened at the end of September that will have three full quarters of that business, and we continue to move forward with rolling out new technologies such as pick-to-light, pick-to-voice. The Sarasota facility that opened at the end of September was our first facility that had pick-to-voice, and we are currently running through those trials now. And depending on how well that works, we will make a decision about what we're going to put for technology into our other facilities and continue to roll that out.

So we feel there is a great amount of opportunity in the second half of the year, in combination of the new facility, Millbrook, as well as new technologies.

Thanks. And then on the fuel improvement this quarter, it was a little bit of a surprise. Do you think that that's sustainable?

Well, I think one thing that -- we talked about it last year. We started breaking it out in some color I think in the third quarter; it could've been the second. But we did talk about that last year we were hurt with fuel costs because of the fuel hedge that we had in place. So I think that it's sustainable, depending on where fuel levels go.

Certainly if we continue to see fuel prices spike as they have -- you know, we've talked about in the past to where there's probably a quarter lag before we're able to adjust surcharges as needed. So I think that would still apply. But I think that barring that, we have the ability through some of the fuel savings that we have in Sarasota and to a lesser extent in Portland, combined with not having the fuel hedge in place, I think that there's an ability for us to still show favorable year-over-year numbers on fuel.

Okay. Thanks, guys.

Scott Mushkin, Banc of America Securities.

Just quickly, a kind of housekeeping item. When we look at your earnings, are you guys effectively raising your guidance or holding it steady? Is it $0.04 dilutive and then the rest of it about $0.04, so we come out about the same place? Or are you saying to us that there's another couple cents here that you feel better about the year?

Without going too much detail on it, Scott, we gave the range before. We're saying that we've got negative $0.04 in the second quarter, but we think that Millbrook will help us -- they'll make some of that up from an accretion standpoint in the latter half of the year; not trying to get ourselves nailed down to whether it's a half a penny to a penny to $0.02 or anything of that nature.

But we felt that -- I guess what I would say is we felt that we were still able to achieve our guidance even with that dilution and accretion netted for the rest of '08. So we didn't feel the need to really change the range at this point in time.

So my takeaway -- and maybe it's not the right one -- is you're feeling a little bit better.

I think we felt the same. I think there were some initial questions about our guidance that folks might have felt that it was too aggressive. And we still feel comfortable with what we've put out there.

Okay. Then the second question is maybe more at Michael. I was out visiting -- I don't know if you remember, Michael -- I guess it was about 16 months ago, and we talked about doing a specialty acquisition at the time. One of the things that you said that made you hesitate little bit -- you obviously didn't take it off the table -- was the fact that SKU count will go up considerably, and it gets a lot more difficult to operate in that environment.

So I guess question number one is, are you going to take some of the Millbrook SKUs and drive it through your own facility? Because I know they ship from Arkansas all the way out to the West Coast. And number two is how do you mitigate the fact that -- you kind of identified when I was out talking to you -- how do you deal with the extra SKU count without taking down margin substantially?

I think we've had a lot of time to analyze how we integrate the specialty food business into the rest of our natural and organic business, and we feel very comfortable about the ability to roll those SKUs into existing buildings. Certainly, it's going to increase our footprint size in many areas. We have the benefit of the additional Millbrook facilities to help us. But as we move into other areas of the country, certainly we're looking at bigger footprints.

But I think from a -- besides the capacity issue, the logistical ability to handle those products along with the 20,000 typical average amount of products per DC is not only feasible, we feel very comfortable about being able to execute on this. Again, since we talked whenever it was, 16 months ago, we've had a lot of time to look at this. And we think others haven't been as successful on it. It's been more of an execution issue. We think we can execute on this initiative.

And how much will it take your SKU count up at your DCs like, say, on the West Coast? Is it going to double the amount of SKUs, or is it not that drastic?

No, it's definitely not that drastic. And it really does depends -- a lot of the SKUs are regional, but in general, it could be a 25%, 30% increase in SKU count from facility to facility.

And how quickly does that get done? Is that where some of the accretion comes from, just lowering the stem miles out of Arkansas?

Well, that's something that's more of a longer-term project. We're going to be focused on covering our base on the Eastern Seaboard, first of all, and then rolling things out more Westerly as we get more comfortable with the business. But there's an a lot of opportunity over the next couple years to penetrate other areas of the country.

Scott Mushkin Perfect. Thanks, guys.

Scott Van Winkle, Canaccord Adams.

Congratulations, good results. Mark, I want to go back to the second- quarter question, I think that (inaudible) asked. And if you said this, I apologize. Can you remind us what the preopening expenses are going to be in the upcoming quarter for Portland and anything left over from Sarasota?

Sure. I don't think -- there won't be anything left over from Sarasota. I feel at this point everything is in there for Sarasota, as we opened that at the end of September. And anything that might have been residual, we would have captured in an accrual.

From a standpoint of Portland, we've got probably six weeks worth of expenses from that standpoint. So I would say that it's probably -- maybe less than $0.01 of earnings, close to $0.01 of earnings. But we came in a little bit higher than I would've thought in the first quarter.

There is certainly the potential that Portland could come in a little bit higher from that standpoint, but I would say it's probably around $0.01 of earnings, would be the impact, Scott.

And what were fuel costs as a percentage of sales in the second quarter last year, if you have that?

I don't have it handy, but I can follow up with you afterwards. I just don't have that right in front of me.

Okay, but probably somewhat -- I mean, you can get the number later, but it was probably close to that 118 basis points you saw in Q1 last year, I would assume, so --.

I think it actually came back a little bit. I mean, we were hurt much more by the hedge in the second quarter of last year, but I don't think it was a tie from a basis point standpoint; just due to the sales volume increase.

And on Millbrook, assuming a healthy amount of dilution in the first quarter and then neutral to positive thereafter, what are the big key drivers of that improvement sequentially? Obviously, you expect some more volume with your better fulfillment rates. Is there something else happening immediately on the cost side?

Well, I think primarily most of the improvements is going to be on the gross margin side. Again, being working capital starved, they have not been able to do any forward buying or investment buying; certainly haven't been taking their trade discounts. All the things on the purchasing side that generate significant gross margin improvements will be the first thing we'll be looking at.

There is a scheduled facility closure in Florida. They have a small facility in Tampa that we will be rolling into our Sarasota warehouse the first week of February. So there's certainly some operating expenses there that we will see going away. But the real focus right now is on the inventory and the purchasing side.

And Scott, while we were discussing it, I looked it up. Last year the second quarter, fuel was 101 basis points.

Okay. And back to Millbrook, I've assumed -- and you can correct me or give me an idea if I'm in the ballpark -- that about a 2% EBIT margin makes that deal neutral to slightly accretive. I'm wondering if I'm close and, if I am, where do you think margins could be a couple years from now in that operation?

Well, longer-term we would obviously look for Millbrook to create margins that are equal to slightly better than operating margins that we are giving out now. That business has some stronger gross margin potential than the rest of our business, and it's just really a matter of driving down the expenses on that side of the business. And certainly, a lot of synergies in handling both mixes, both product mixes on the same trucks through the same accounts.

So I think that a lot of synergies do exist, but it's going to take some time, obviously, to drive those through.

And any comment as to whether I'm close or not on my kind of 2% number?

You guys are always pretty close, aren't you?

I think we're going to need a little bit of time to sort it out, Scott. There are our some transition elements as we get them back up to speed. So I don't want to set the expectation until we can see how quickly we can get their service levels and their sales back to historical levels.

Great. Thank you very much.

Greg Badishkanian, Citigroup.

Great, thank you. Two quick questions here. The first one is what are the historical fill rates at Millbrook? You said it was trending about 90%. Do you think that could ever go up to 97%, or is there something more structural with that type of product?

No. I mean, the ultimate goal would be to have the fulfillment rates be the same that we've been historically achieving. But again, the last several months their fill rates have been significantly below the normal standard. So we are executing on a number of inventory initiatives to get fill rates back to the 90% level. And then, of course, from there we would drive that further up into the rates that we're accustomed to. But they've had rates that were into the '70s and low '80s, so there's work to do to get that number up.

Okay, good. And just looking at inflation -- food inflation, the conventional food products, you're trending sort of at mid single-digit range. What is it for organics and organic natural food? And also, is that having an impact on your margins at all?

Well, I would think from a standpoint of the impact on the margins, Greg, it's the same impact that we've had historically as we are able to pass it along to our customers from a distribution standpoint. So we get notice of price increases in advance and are able to factor those into, whether it's the catalogs of the pricing schedules which our customers go off of.

From a standpoint of where we are at the end of the first quarter versus where we were in the fourth quarter, it really hasn't moved more than a few basis points off of that 2.25% number that we talked about year-over-year, sort of when we looked at it from a weighted average standpoint.

So there certainly are categories that can be into the mid single digits, but there are other categories that have stayed flat. So it tends to still, from our standpoint, be in the low 2% plus, 2.25% range.

That's helpful. Good quarter, guys. Thanks.

Jason Whitmer, Cleveland Research Company.

Good morning. Mark, you've talked about some of the near-term margin headwinds, which I think you've gotten some things settled out there. But as kind of the medium to longer-term outlook, specifically on some of your terms or really just overall customer mix shift, what are some of your updated thoughts there? And I think you certainly like to talk about margins from an operating margin perspective, but I don't know if you have any medium or long-term goals there either, and where you're reaching for.

You know, Jay, it's something that I don't think I'd want to get out there right at the moment, simply because we're still factoring in what Millbrook's impact is going to do. So if I look at the core business pre-acquisition, we talked about that we expected our gross margin for fiscal '08 to be in the range of 18.5%, which would look to be flat year-over-year, but adjusted for some of the onetime impacts which show a little bit of erosion.

And we felt that from an operating margin standpoint, we would have some headwinds, as you'd say, for the first half of the year related to getting the new facilities open in both Portland and Florida, and that we would see the benefit going into the end of the third quarter, fourth quarter, when those facilities had been up and running for six to nine months.

Really, with the Millbrook acquisition and probably increasing everything about 10%, we need to go back and look at what that's going to do for those figures. Really only having had the Company under us for about 2 1/2 weeks now, I'm just not in a position to put new expectations out there that have been factored into it.

Maybe you can review a little bit more on Millbrook margin implications. It sounds like they've got some higher potential gross margin, but maybe out of the gate there's some things to figure out there with some higher operating expenses. Is there a specialty distribution, generally a higher product mix but maybe a negative customer mix shift?

What Millbrook has, they do have a bit better gross margin, but they do -- a greater proportion of their work is sort of full-service work where that is being built into the gross margin, the operating expenses by virtue having the reps in the stores and perhaps doing the sets and/or doing the ordering. So that is really what's driving that, and what we're in the process of doing is evaluating from a synergy standpoint where we can drive down those expenses, but what portion of those expenses is just inherent in the nature of their business.

Okay, that's helpful. Is there any visibility on the Oats terms transferring to Whole Foods terms?

We're in the process of making that happen. It's happening incrementally in terms of different stages, but we're in process now.

So it's not currently in play; it's more in the next 6 to 12 months, something in that range?

Are you referring to impact on pricing, or are you referring to just terms in general?

Just terms of the Oats current contract versus the new Whole Foods contract that was signed about a year ago.

Most of the terms of the Whole Foods contract have been extended to the new Wild Oats stores now.

Okay. Thank you very much.

Ajay Jain, UBS.

Just a follow-up on Millbrook. I know you haven't given any specificity on the terms of the acquisition, but as far as the financing, Mark, can you talk about the impact on interest expense this year; how material the P&L impact is going to be going forward just based on the financing costs?

Sure. We did in the 8-K that we filed, Ajay, give a little clarity as to the total purchase price. What I would say is that the impact from an interest expense standpoint, in some respect it's contingent upon where rates go for the year. But from that standpoint, we're probably going to see during the course of the year that -- we will see the pickup -- due to the dilution, we're going to see the pickup in the first quarter -- I'm sorry, in the second quarter. But then as we start to see some accretion, it should go down.

We're probably talking in the range of $4.5 million to $5 million increase in interest expense, really depending on where rates go. If rates were to stay where they are roughly now, I would expect that interest expense might go up between $1.5 million and $1.6 million, $1.7 million a quarter.

Okay. So that $4.5 million to $5 million range is for the -- it's not on a run rate basis; it's for the full year.

Well, it's a run rate. The run rate, it will be at its highest point in 2Q, and it'll work its way down. You are probably talking, like I said, for the remainder of fiscal '08, you're probably talking $4.5 million to $5 million, which a run rate of $1.5 million to $1.7 million per quarter probably working its way down slowly; incremental to what we're currently experiencing.

Right now, we are doing -- say this last quarter we did $2.9 million in interest expense. You could expect that the second quarter, everything else being equal, might be between $4.4 million and $4.6 million.

Okay. And Mark, can you confirm how much goodwill there was in the purchase price?

No, I cannot. We only did the acquisition two weeks ago, so we have not even started with our purchase accounting entries yet. That won't happen till the end of this month.

All right, and as far as the margins on Millbrook, I know you've already had a fair amount of discussion on that, but can you give any confirmation at the operating margin level for that business on a stand-alone basis? Are the EBIT margins materially higher or lower than 3.5%? And notwithstanding some of the recent inventory working capital issues, have the margins been -- just directionally, have they been trending upwards or downwards under the previous management team?

Well, again, the historical -- the last couple years of Millbrook's business, the impact with the working capital situation we described have been very detrimental to the P&L. But I think overall, again, the operating margin expectations are at least equal to what UNFI has been historically putting out, and that's what we would be expecting going forward.

Okay, and lastly -- sorry to be so granular. Mark, can you just confirm the range for the tax rate that you're assuming for the full year? I know you gave the numbers out before.

It is 36.5% to 37%, Ajay. Again, we may revise that at the second quarter, simply by virtue of what impact Millbrook may have from any NOLs and such. But at this point in time, that would be the rate.

Okay. I'm sorry, Mark. I just wanted to go back to an earlier question about some of the growth drivers in the back-half of the year. Based on my math, it seems like the hurdle rate in Q3 and Q4 is actually quite a bit higher than the 15% growth that I think you indicated earlier on the call. I'm just wondering to what extent have you factored in any specific cost synergies from the transaction in your full-year outlook? Because I'm coming up with about 25% growth at a minimum that you need to get to, to get to the bottom end of your full-year range.

All I can say, Ajay, is that we have factored in -- without giving you what our internal P&L looks like as to how we get to the guidance, the growth rate -- we have put the revised growth rate out there on the sale side. And we feel that there's existing synergies as well as some that we will get from the Millbrook transaction that will help us get there. I mean, we're not going to break them down any further at this point.

Okay. So there's not an aggregate dollar figure that you could assign to the synergy target?

Not yet. Again, it's been 2 1/2 weeks. We're just starting to really dig into it. I would be hesitant to put a number out there until we really have them under our belt a little bit longer and can insure that we can achieve everything that we think we can.

Okay, great. Thank you very much.

Chris Routhe, Piper Jaffray.

Good morning. First of all, was the number of store closures announced by Whole Foods a positive surprise for you guys? I'm sure you made your own internal assumptions regarding store closures, and I don't think you ever made that expectation public. But given that number, did that factor into your revised sales guidance at all?

Yes. The 8 to 10 that they announced was something I believe we talked about on our last call. But that is factored in the current '08 guidance.

I think though, Chris, to your question, the revised sales guidance though was basically adjusted for the Millbrook transaction. It did not include any impact of the Oats store closings. The range that we gave initially that we basically maintained, that's impacted by the number of expected store closings.

Understood, okay. And then finally, has the Millbrook transaction, now that you don't focus on integration, has that maybe satisfied your near-term appetite for acquisitions in specialty food, or will you continue to be opportunistic in that area? Thanks.

Yes, I think we always want to be opportunistic. Our goal is to build a national specialty foods network that can complement our national natural and organic infrastructure. We want to be able to, as you say, remain opportunistic and build out the network over time.

Thank you, good quarter.

Andrew Wolf, BB&T Capital Markets.

Thank you, good morning. Do you know approximately how the inventory turns are at Millbrook? The way I calculate it, UNFI is at about 10 times. Is it pretty much the same?

No, it's lower, Andy. Again, very few perishables, so it's going to be slower turns by probably a couple notches than what you see at UNFI.

Michael, I guess I didn't realize how undercapitalized they were. So they are not even taking the standard discount that if you pay by 30 days. And is that 2%?

Well, it used to be. Generally, trade discounts are 1% 10 or 2% 10 at the most. But yes, trade discounts have not been something they have been able to participate in over the last several months.

Okay, but you can see where I'm going if we take the sales and divide by 7 or 8 times a percent, that's just getting sort of back to where everybody should be just on the purchasing side. You are saying that's before any forward buy or other type of opportunities. I just want to make sure I'm getting all of that.

Yes, I would be careful about overlaying trade discounts on the whole sales base, because not everyone offers those. But there is a number of things on the purchasing side, as you said, forward buys. There are just better -- UNFI receives better pricing on a volume basis from many vendors that can be overlaid onto the Millbrook business as well.

Okay, and then a follow-up on fuel. Mark, you listed it efficiencies, and then Saratoga (sic), which has only been open less than a month, I guess, and an adverse hedge. Was it in that order in terms of how the improvement happened?

No, I mean they were -- I guess I would say probably that they are probably all around the same, Andy, within a basis point or two. The hedge was probably around the same as the efficiencies, and then the Sarasota impact was probably lower than that. So it wasn't in any order, but I would say the efficiencies and the negative hedge were probably roughly the same, and then Sarasota was a bit below.

Okay. I said Saratoga, didn't I? Also, on the efficiencies, are you talking more about like an increased drop size, or are you still rolling out road net and just sort of driving more efficiently? Could you just elaborate a little?

Yes. I mean, I think with the price of fuel where we continue to be incentivized to make our transportation system more efficient. So that is just an ongoing process.

Okay. And lastly -- well, actually another one. The independents growth rate picked up really nicely; you almost got to double digits. And I guess you've got some easing comparisons; maybe you will get there. Could you talk a little about what you think is going on? I know you were asked about the Oats store closure effect, but certainly -- I think you said business was pretty stable throughout the quarter, and that didn't happen most of the quarter. So are you getting new accounts again or is it just your independents are doing better?

Well, I think when you look at the independents over the last three years, you see really a pretty consistent upper single-digit line there. And again, we continue to be encouraged by -- when we see other retail businesses being hurt by economic issues, it almost seems like our business strengthens. And the independents are a great barometer of the overall health of our business, I think.

People I think look at the independent channel as one that they get extra customer service and more personal relationship with, and there are some new store openings that are continuing to happen as well. So overall, yes, I was very pleased to see those numbers in the quarter.

Okay, thanks.

Steve Chick, JPMorgan.

Just, I guess, a follow-up. I was wondering if you could state the components of sales again -- I didn't write them down quickly enough -- amongst the different categories. And then secondly, Mark, with the gross profit margin contraction for the quarter down 72 basis points, it was a little more than what we saw in the fourth quarter as some odd 20 basis points or so. And I was wondering what the differential was in that year-over-year further decline.

Okay. First, Steve, you're looking for sales increases by channel?

Yes.

The super natural channel was 22.5, supermarket was 6.6, independents were 9.7, and foodservice was 28.9. And on the gross margin side, I would just reiterate what we said the last call, was that we do expect our gross margin to stabilize around the 18.5 range, which was our '07 number for the year. There is going to be fluctuations quarter-to-quarter that is just normal course of business. So what we saw here Q1 was in line with expectations.

Okay. I'm sorry, do you have also the mix of sales or is that something --?

Oh, the mix; the overall mix?

Well both if you have. I don't know if you give both.

What I think he just gave you, Steve, was the growth by channel. So the mix --.

The mix was 35.5 for super natural, 16.4 for supermarkets, 43.5 for independents, and 2.5 for foodservice.

Okay. So I guess given the mix change a little bit, that's why I thought the gross -- I guess that's within what you're saying is your guidance. I was just a little surprised that it kind of softened a little this quarter relative to last. I don't know if there's anything to point to.

Well, I think that when we talked at year-end, we said that the fourth quarter came back a little stronger than we thought. And I don't think that the fourth quarter -- we tried to say at that point that it was not an indication that it was going to go back to that level, and that's why we sort of laid out the 18.5 and discussed that we can be within 10 basis points either way from quarter-to-quarter.

So while it is down sequentially over the fourth quarter and it's down year-over-year, it's within the range of where we thought we would be.

Okay, that is helpful. And then I guess going from here, the comparisons really do get pretty -- a lot easier, because I think it was second quarter last year when the margins started to -- or were down year-over-year. So is it safe to say that Q2 and onwards we're kind of seeing the low watermark, so to speak, in the level of year-over-year decline?

Yes, I would say that it is probably -- when we get to the third quarter that we have completely cycled through it. The second quarter will still be the last quarter where we cycle through the additional business that we picked up with Whole Foods last year with the Southern Pacific region, as well as some additional business in other regions.

So last year's second quarter only had two weeks of that business. This year's second quarter will have a full quarter of that business. So that will effectively cycle through the increased mix of super natural/Whole Foods business. And at that point, I think you will see the margins stabilize.

Got you. Okay, great. Thank you.

Gary Giblen, Goldsmith & Harris.

Good morning. I'm going to go back to Millbrook. You only had 100 questions on Millbrook so far. Should we think of that as an operational turnaround that is required on your part, or are there problems just resulting from their strange financial conditions?

Yes, I would say the problems there are definitely all related to working capital. I don't look at it as an operational turnaround.

Okay, that helps. And in terms of -- I mean your sales were excellent, at the high end of your range. Can you hazard a guess as to if the economy were not bad in general, how much -- how many more percentage -- instead of 13.9, would you add another couple of percentage points on the top line, and would that differ by your major channels? In other words, is any one channel affected more by the economy than the other?

Boy, that one is a tough one to ask. Over the years, it just seems like when the economy takes a little of a downturn, we usually hold up extremely well. So could only speculate on the answer to that. But for the moment, we feel good about our ability to continue to generate consistent sales numbers, regardless of economic conditions.

Okay. Any geographical differences? There has been speculation that California is a troubled market in general for the consumer. So do you see that pattern in natural food?

No, I don't see that pattern in natural food. We have been asked that before, and there is no -- there's no geographic trends that you can really point out. It's a pretty consistent sales trend over the country, and it just seems like people that are buying into our product mix, the lifestyle choices are committed to spending the money to feed their families this way. And they are giving up other things when they are challenged economically.

Okay, got it. Thank you very much.

And I think we probably -- operator or moderator, we probably have time for one more question or set of questions.

Sure, not a problem. Michael Krestell, M Partners.

I just want to go back to the technology a little bit, because you talked about pick-to-voice and pick-to-light. Can you just remind us how many locations have the technology in right now? And also just wondering -- maybe it's a little bit early on the pick-to-voice, but what type of productivity gains have you been seeing once you have implemented solutions like that?

We have got pick-to-voice in three facilities -- no, pick-to-voice in three facilities and pick-to-light in -- I'm sorry, you're right. Pick-to-light in three and pick-to-voice in one. We are experimenting with the mix of the two, and it is going to be basically a two-year rollout to get all the facilities on one or the other. And in general, I think we can expect productivity gains in the 15% range at least.

And then also gains on the error ratios are one area that we really improve on, and that has a nice impact on the overall profitability. So major, major gains for us when we can execute on getting these things installed nationally.

Okay. And just one other question. I'm looking for you to elaborate a little bit on the foodservice business. So it sounds like a lot of changes and some new leadership, and just if you can just briefly summarize what should we be expecting out of that division over the next year or so?

Well, I would imagine -- it's been our fastest-growing channel for quite a while now, and we just think that there's -- the same trends driving on the retail side are spilling over into the foodservice side, and led by colleges and universities, schools in general, hospitals. There's just demand for our products have been increasing.

So I would expect as this quarter was a 30% increase that we'll continue to see those types of increases or more in the channel, and that over time we will see it being a bigger part of our business, even though it's an overall pretty small base right now.

Okay, that's great. Thank you very much.

Ladies and gentlemen, this concludes today's question-and-answer session. I would now like to turn the conference over to management for any closing remarks.

Thanks, everyone, for joining us today and for your support in United Natural Foods. I want to wish everybody a great Thanksgiving holiday, and we will see you next year for our Q2 report. Thank you.

Ladies and gentlemen, this concludes the United Natural Foods first-quarter 2008 conference call. If you would like to listen to a replay of today's conference, please dial 303-590-3000 or 1-800-405-2236. The passcode is 11101693#. Once again, the passcode is 11101693#. ACT would like to thank you for your participation. Have a pleasant day; you may now disconnect.