US Foods Holding Corp (USFD) 2016 Q4 法說會逐字稿

Good morning. My name is Kristen and I will be your conference operator today. At this time I would like to welcome everyone to the fourth-quarter and FY16 earnings call.

(Operator Instructions)

Thank you. Ms. Melissa Napier, Senior Vice President of Treasury and Investor Relations, you may begin.

Thanks, Kristen. Good morning everyone and thanks for joining us today for our fourth quarter and FY16 earnings call. Joining me for today's call are Pietro Satriano, our CEO; and Dirk Locascio, our CFO.

Pietro and Dirk will provide a business update and speak about our fourth quarter and fiscal year performance. We'll take your questions after management's prepared remarks conclude. Please provide your name, your firm, and limit yourself to one question.

In FY15 we had 14 weeks in the fourth quarter and 53 weeks in the fiscal year which impact our quarter-over-quarter and year-over-year FY16 comparable results. Our press release issued earlier this morning presents our results, both including and excluding the impact of the extra week in the prior year.

Most of the slides that Management will be discussing on today's call are normalized to remove the extra week and are marked as so. Our earnings release along with today's presentation slides can be accessed on the Investor Relations page of our website at www.usfoods.com.

We expect to release our 10-K within the next two weeks. In addition to historical information, certain statements made during today's call are considered forward-looking statements. Our actual results may differ materially from those expressed or implied in those statements.

Relevant factors that could cause our results to differ materially are contained in this presentation and in our reports filed with the SEC, including our registration statement on Form S-1, as amended. Our slides and our earnings release contain certain non-GAAP financial measures, along with reconciliations to the most comparable GAAP financial measures.

I'll now turn the call over to Pietro.

Good morning, everybody and thank you for tuning in. Given that this is the last call for 2016, I will spend some time reviewing some of the highlights for the year that was, as well as reiterating our guidance for 2017 and beyond. Let me turn your attention to page 3 of the presentation.

To start off, 2016 was a very good year on many fronts. Financially we had very good operating results with year-on-year adjusted EBITDA growth of 12.5% when adjusting for the 53rd week and prior year. Secondly, we continued to make progress against our Great Food Made Easy strategy -- continuing to expand our advantage in product innovation and eCommerce.

Third, we successfully integrated five acquisitions which collectively accounted for 2% of the 12.5% growth in adjusted EBITDA. And last, as a result of our successful IPO and debt refinancing we exited 2016 with a much stronger balance sheet than we entered the year. By way of an outlook for 2017, we remain bullish on the outlook for independent restaurants, one of our target customers.

We're continuing to invest in our differentiated strategy while staying focused on improving our cost position and our execution. M&A is off to a promising start. Yesterday we announced the acquisition of All American, a $60 million broadline distributor in the Northeast. And lastly, we're holding to our midterm guidance of 7% to 10% adjusted EBITDA growth.

Let me turn your attention to page 4. You'll remember there are three dimensions to our strategy of Great Food Made Easy. The first is about winning with food leadership. After all, food is typically the largest single element on a restaurant's P&L, and the menu is at the heart of how a restaurant differentiates themselves.

The second dimension is about offering an easy customer experience. Making it not only easy for restaurant operators to do business with US Foods, but providing them the tools that make it easier for them to run their business. And third, it's about flawlessly executing on the fundamentals.

Together these first two dimensions -- win with food and differentiated with easy -- are primarily about driving profitable volume growth and margin expansion to the levers we show on the right -- customer and category mix, private brand growth, retention and penetration of existing customers, as well as profitably adding new customers.

The third dimension, competing flawlessly on the fundamentals, is primarily about driving costs out of the system while also driving better execution. Together they contribute to improving our operating cost per case as well as driving better employee engagement and more consistent customer service. Let's go to page 5.

Having just reviewed how the strategy contributes to the key levers in our business, let's now spend a couple minutes reviewing a few of the highlights from 2016. Supporting volume and margin growth, and integral to Win with Food and differentiate with an easy customer experience, first we launched 63 new innovative products including our Serve Good line of sustainable products, developed by and exclusive to US Foods.

Products where we continue to get around 50% trial rate and very high stick rate post-launch. We launched several new enhancements to our leading eCommerce and mobile platform, aimed at creating a more personalized experience for the customer.

With the latest being in fourth quarter, the Did You Forget feature -- which prompts customers already on our platform for items not on the order that they regularly purchase from us. We've seen significant increase in volume in those items. Last quarter we talked about the launch of Food Cost Management, an app that helps customers plan their menus and reorder.

And what's different about this is they can do so on virtually any point of sale system. We grew the number of category specialists that support our reps as part of our team-based approach to selling. And we increased the number of Food Fanatic Live events, which have turned traditional food shows in the industry -- shows that are typically focused on [meal] -- to true learning events focused on innovation for the industry.

Supporting our efforts at reducing our operating cost per case and integral to competing flawlessly on the fundamentals, a few highlights of the year include -- as you know we've talked about the deployment of our multi-site approach to field management, reducing the number of field leadership teams from [60] to 26.

More importantly, with every passing month, we can see the positive impact on our operating model as a result of fewer touch points for corporate initiative and better talent. Our indirect sourcing efforts generate a significant savings on goods not for resale. We saw a 4% improvement in our Perfect Order, which is a competent measure of our service promise that includes not only fill rate but on-time delivery, damage-free product and an accurate invoice.

We're putting in place standard routines to run several aspects of our sales process. As a result, as you can see on page 6, 2016 resulted in strong growth in adjusted EBITDA. On the top left you can see how overall volume growth accelerated, in particular with target customers -- independent restaurants, regional chains, healthcare and hospitality.

And Dirk will provide some more detail in a few minutes. And while profitably growing volume, we expanded gross margins, and did so faster than operating expenses, with the resulting 12.5% growth in adjusted EBITDA for the year. Let's now turn to 2017 on page 7.

Our EBITDA guidance for 2017 in the midterm remains consistent with the guidance we've previously given. That was 10% growth in adjusted EBITDA with a higher end driven by M&A.

This guidance and adjusted EBITDA is based on the following --a continued favorable outlook for our target customers, in particular independent restaurants, and a series of multi-year initiatives -- some of which are mature and some of which are newer -- balanced across volume growth, margin expansion, and operating expense improvement. Let me spend a couple minutes on those.

First, the outlook for independent restaurants, which is shown on page 8. [This is Technomic] data which shows real growth of independent restaurants compared to national chains, goes back to 2009 and has an outlook for 2017 and 2018 through 2021.

As you can see, this outlook is consistent with other industry reports, who have focused on the recent softening of large restaurant chains. The outlook for independent restaurants for 2017 remains consistent with what we have seen in the last two years with independent outgoing chains. We see this as a function of a few factors.

The first is the nature of consumer habits when eating out. When eating out, customers like variety, which favors independent restaurants. The second is the increase in force of Millennials, who generally seek out different experiences, healthier alternatives, and local offerings.

Third, [social media] [like to eat out] provides independent restaurants easy access and recognition. Let me close on page 9.

We are confident in the guidance I just provided for 2017, in part due to the favorable outlook I just outlined but primarily due to our Great Food Made Easy strategy and the supporting programs and initiatives. Some as I said, are more mature and some of which are in their early stages. Let me talk about these briefly.

Supporting volume growth and margin expansion, we will of course continue to focus on product innovation, leading mobile and eCommerce solutions, exclusive brands, and specialty categories such as Center of the Plate. At the same time, however, we're also ramping our efforts on newer initiatives, the centralization of replenishment, which will give us better [freight on] costs of goods economics.

As well we'll complete the deployment of our cookbook pricing tools for reps. Remember that cookbook pricing is all about leveraging big data analytics to optimize pricing with smaller customers. Supporting efficiency and effectiveness and better operating expenses we have already discusses our efforts to streamline our corporate structure, the first phase of which will be complete by the end of the first quarter of 2017.

We continue to improve the productivity and effectiveness of our sales force, by continuing to migrate accounts to our most productive reps. Ramping up in 2017, and as mentioned on previous calls, there are two major initiatives. The first is the introduction of continuous improvement and lean in our distribution network.

This is in the very early stages but we believe has the potential to improve safety, service levels and productivity for years to come. Second is expanding the scope of our shared services. Bringing greater consistency and efficiency to back office functions that are more transactional in nature.

Today our shared services center in Tempe already includes such functions as payables and receivables and we're exploring other functions to add to this umbrella. I'd like to close by thanking each and every one of our 25,000 employees for a terrific year.

Let me turn it over to Dirk Locascio, our CFO, for a more detailed walkdown of our operating results.

Thanks, Pietro, and good morning, everyone. Our solid fourth quarter capped off a strong year, as Pietro noted. Our earnings growth came from a balance of profitable volume growth, gross profit expansion, and OpEx productivity as well as achieving significant improvement in cash flow and reduction in debt.

Before I get in to our results, I'd like to remind everyone again, consistent with Melissa's comments, that we have calendar differences between 2015 and 2016. In 2015 we had 14 weeks in the fourth quarter instead of 13 weeks, and 53 weeks in the fiscal year instead of 52. To provide apples to apples comparisons, we've normalized our 2015 fourth quarter and full year results to remove the extra week on most of the slides we'll discuss today.

Now let's move to case growth on slide 10, which was 4.1% for the fourth quarter and 2.9% for the year. Total case growth accelerated in the second half as we brought on new business and we're no longer lapping strategic national chain exits which resulted in lower case growth in the first half.

The pipeline for larger customers is longer and we started to see some of those customer winds contributing to the strong overall second half case volume growth. Our independent restaurant growth was 6.1% for the fourth quarter in total and 3.8% organic. Also as we've discussed before, our 53rd week in 2015 shifted the calendar for 2016, resulting in a modest negative impact on second half.

If you adjust for that, we estimate our Q4 organic growth to continue in the 4% to 4.5% range. Moving to slide 11, fourth quarter net sales were $5.7 billion, an increase of 170 basis points over the prior year. As I mentioned before, we made good progress on case growth with our target customers in the fourth quarter, growing with independents, healthcare, and hospitality as examples and being selective on chains resulting in the 4.1% total growth.

Deflation and mix were worth a negative 240 basis points for the quarter, with two factors reducing our sales per case. The first was the widely discussed deflationary headwinds, which in our case reduced sales by approximately 200 basis points primarily in beef and dairy. The second was the impact of the Freshway acquisition, which reduced our average sales per case about 40 basis points.

This is because produce has a lower average sale price than the rest of our business. Turning now to full year results, our net sales were $22.9 billion or an increase of 60 basis points from the prior year.

Total growth in cases was 2.9% offset by approximately 200 basis points of deflation and approximately 30 basis points in the combination of Freshway mix discussed and the impact during the first three quarters of 2016 as a result of our transition away from these certain national chain customers whose purchases were more concentrated in the protein categories.

We'll now move on to gross profit performance which you see on slide 12. We continue to deliver good gross profit results despite the inflationary headwinds. For the fourth quarter, gross profit was $1 billion, flat to the prior year on a GAAP basis and up $47 million on an adjusted basis, which removes the non-cash impact of LIFO.

As a percentage of sales, gross profit was 18.1% versus 18.2% in the prior year period on a GAAP basis, and up from 17.6% to 18.2% on an adjusted basis. The impact of LIFO was a negative 70 basis point impact year over year in the GAAP results. Excluding the impact of LIFO, Q4 gross profit dollars increased 4.8% over the normalized Q4 2015.

For the full year gross profit increased 2.5% in dollar terms over the prior year. Volume growth and initiative benefits were partly offset by a reduction of LIFO benefits. On an adjusted basis, excluding LIFO, gross profit increased $155 million, or 4%.

Adjusted gross profit as a percent of sales for the year also improved 60 basis points from the prior year to 17.6%. The elements of our strategy focused on gross margin continue to make good progress, and results for the quarter and year were similar in many ways to what we discussed during our third quarter call.

We continue to improve our customer mix by driving growth of independent restaurants -- 6.1% for the quarter. We continued our focus on private label brand growth with 33% of sales from private label and FY16, up from 32% in 2015. We have an ongoing effort to drive effective vendor management and sourcing programs which optimize our cost of goods and assortment.

And our Q4 acquisition of Save On Seafood helped further strengthen our category mix in Center of the Plate, along with the continuation of our internal initiatives focused on improving penetration in these categories. Lastly, we continued to improve on our ability to optimize pricing with one example -- the cookbook is deployed in about half the country. In some ways this helps mitigate the impacts of deflation.

Now on to slide 13. Operating expenses decrease 6.9%, or $67 million for the fourth quarter from the prior year, to $911 million due to lower restructuring costs and productivity gains, partially offset by costs related to increased volume. As a percentage of sales, operating expenses were 16% in the current quarter, down 150 basis points from 17.5% in the prior year.

And on a full year, operating expenses were $3.6 billion, which is a decrease of 3.6% or $136 million. As a percent of sales, operating expenses decreased 70 basis points to 15.9%. Adjusted for depreciation, amortization, restructuring merger and other non-recurring items, Q4 operating expenses increased 3.5% on a 4.1% increase in case volume.

Adjusted operating expenses as a percent of sales were 13.5%, up 20 basis points from the prior year. We continue to gain operating leverage by increasing expenses less than we increased gross profit. For FY16, adjusted operating expenses increased 1.6% on a 2.9% increase in case volume, an increase 20 basis points as a percent of sales to 13.4%.

On a per-case basis, adjusted operating expenses decreased year-over-year for both the fourth quarter and the full year. As a reminder, reconciliation of these non-GAAP measures are included in the appendix of our presentation and outlined in the earnings release we issued earlier today. I'm now on slide 14.

Operating income in the quarter improved to $116 million or 2% of sales. For the year, operating income increased 131% from $179 million to $414 million. This was driven by the volume growth, improved gross profit and lower operating expenses already discussed.

Adjusted EBITDA was $265 million in the quarter, up 8.6% over the prior year. For the full year, adjusted EBITDA of $972 million increased $97 million versus the prior year on a reported basis, and $108 million or 12.5% adjusted for the extra week in 2015. Adjusted EBITDA as a percentage of sales also increased almost 50 basis points to 4.2% for the year.

Our net income reflected solid operating results and improved to $77 million for the quarter compared to a loss in the prior year period. On a full year basis, our net income also improved to $210 million. Adjusted net income, which removes the impact of our third quarter 2016 valuation allowance benefit, the 2016 merger termination payment, and other unusual nonrecurring items more than doubled from $148 million in 2015 to $321 million in 2016.

Turning to cash flow and net debt, our free cash flow was $392 million compared to $369 million in 2015, an increase of $23 million. 2015 included approximately $200 million from the merger termination fee, net of the cost incurred, so the year-over-year improvement was a free cash flow more than doubled if you exclude those amounts.

Net debt at the end of FY16 was $3.7 billion which is down over $500 million from the prior year. Our leverage ratio stood at 3.8 times at the end of the year, down from 4.8 times at the prior year end. We remain focused on continuing to de-lever the business toward our midterm target of approximately 3 times leverage.

We also significantly reduced our interest expense during 2016 as result of using our IPO proceeds to pay down debt and by refinancing our debt facilities as we've talked about on prior calls. You can see our interest expense in the first half of 2016 was approximately $140 million and decreased to $88 million in the second half of the year. We made significant progress in 2016 to improve free cash flow, reduce leverage, and reduce our interest costs.

Moving to slide 16, our outlook for FY17 is consistent with our prior midterm guidance. We expect adjusted EBITDA growth in 2017 to be in the 7% to 10% range with the lower end of the range representing organic EBITDA growth and the higher end of the range with M&A. Our pipeline remains robust.

We do expect our Q1 adjusted EBITDA to be approximately 200 basis points below this range due to prior year unusually mild weather, year over year holiday timing and other factors. Our 2017 volume growth guidance remained similarly unchanged with unit growth of 2% to 4% and net sales growth of 1% to 3%. Similar to our adjusted EBITDA guidance, we would expect to achieve the higher end of the range with M&A.

We expect adjusted diluted EPS of $1.26 to $1.40 per share as a result of the higher EBITDA, lower D&A, and lower interest costs, partially offset by increased income tax expense. We expect our effective tax rate in 2017 to be a more normalized rate of approximately 39%, although cash income taxes are expected to still be relatively low in 2017 as we utilize our remaining federal net operating losses.

We estimate cash taxes to be $25 million to $35 million. And finally, cash capital expenditures should range between $230 million and $250 million with an additional approximately $100 million in capital leases similar to 2016. As Pietro mentioned, we're also reiterating our midterm guidance which remained unchanged. Our business is performing as we expected and as a result, our previous targets still hold.

With that, thank you for joining us today, and we can now go to Q&A.

(Operator Instructions)

Your first question comes from the line of Zack Fadem with Wells Fargo.

Hi, thank you. Good morning. I want to talk a little bit about the sales guidance for FY17? 1% to 3% slightly below the midterm outlook of 4% to 6%, I know that includes some M&A, but can you talk a little bit more about the assumptions imbedded here, specifically on cases?

What are you expecting on an organic basis versus M&A? And then given the weather benefits, et cetera in Q1, how should we think about the cadence for sales growth throughout the year?

Thanks, Zack. This is Dirk. As we think about 2017, so the 2% to 4% case volume growth guidance that we've given, what we expect is in the first half of the year to still continue to have year-over-year deflation as a result of the deflation experience in 2016, and that moderates the modest inflation in the second half. So you would see a lower sales number in the first half.

And we'd expect to return to that more normalized rate later in the year. From an organic versus total in cadence, what I would tell you is we expect to have strong, relatively consistent overall volume throughout the year with a little bit softer in Q1 because of the unusually mild weather last year. If you remember, it didn't snow any place where it was supposed to snow. And this year it's been more a normalized weather pattern throughout.

Got it. On your interest expense guidance, while down quite a bit year-over-year, it implies roughly $45 million per quarter, which is actually a pretty big step up from the $39 million in Q4. Can you walk us through the moving parts? I know there was some refinancing, but why such the big step up here from Q4?

There are a few things. It's a combination of we have assumed some modest level of rate increases over the course of the year, as well as some contemplation of potentially better balance of our variable versus fixed through interest rate hedge, et cetera over the course of the year. It's primarily as a result of the increase of rates.

So it's a higher mix -- or has the mix changed of fixed versus variable? Or it's just the variable is stepping up?

It's predominantly the variable stepping up. There will be a little bit as we work our way through finding the more optimal mix of fixed and variable in 2017.

Got it. That makes sense. I'll pass it along. Thanks for your time, guys.

Your next question comes from the line of Karen Holthouse with Goldman Sachs.

Good morning, Karen.

I apologize. At an airport and I was trying to spare any background noise from security from my associates. Just curious, seems like there's still some pretty low hanging fruit in terms of enhancements on the digital side that you forget being an example. Over the next 12 months or even a little bit longer, what else do you think, or what other enhancements are you working on in the pipeline?

Having trouble hearing you. I think the question was what other enhancements to the eCommerce pipeline. We have a whole pipeline. We don't typically disclose what is forthcoming for reasons you can appreciate.

But just to give you a bit of insight into the process, we have a tech council, which includes our CIO of heavy commerce and sales reps. Based on customer feedback, based on feedback from the reps, they inform the future direction. We also use our own internal community in social media to get input from the reps.

So we have -- let's put it this way. We have no shortage of ideas. It's really about the organizations and primarily the reps' ability to adopt, to absorb the change that governs the pipeline.

Great. Thank you.

Your next question comes from the line of Vincent Sinisi with Morgan Stanley.

Great. Thanks very much for taking my question. Good morning, guys. Nice quarter.

I just wanted to ask, more of taking a step back, it was nice to see a step up in some of your case growth numbers today. Once again, a little bit different from some of the commentary we heard out there in the industry last week.

So wondering if you guys can give us your sense of kind of overall industry, different customer ends? Sounds like independents are going well for you. Kind of basic health of your customer channels, as well as any changes that may be on the competitive front? That would be great.

Okay. It's Pietro, Vinnie, thanks for the question. As you yourself identified it, it really depends on which part of the industry you focus on. So the reason we brought slide 8 in here with Technomic data is because -- we use Technomic because they do a good job of looking at all the various types of customers we look at. So it's very comprehensive.

And slide 8 shows you what has been a recurring theme, which is the softening of the larger customers and a continued strength with the independent restaurants on which our strategy with Great Food Made Easy is focused. They also issued at the same time that this was issued last week, their outlook for other segments -- healthcare, hospitality -- and they're pretty consistent with what we've seen.

If you remember the bubble chart where we have the Technomic outlook by different customer types, very consistent changes, couple hundred basis points up or down, but very consistent view with what we've been seeing in the last year. Our feedback that we hear from our leadership in the field is very connected to the market, consistent with these numbers.

Okay. That is helpful. Maybe just one super fast followup. I'm sure most of the folks on the phone saw the quick announcement on Monday night I believe, about Mark Scharbo's departure: obviously, chief supply chain, an important role. Can you just remind us the bench that's behind him and any other kind of color around that going forward? Thanks a lot.

Thanks for the question. Part of the reason the timing of the decision was such, is so that we could talk about it with you on the call, as opposed to coming out in the next few weeks and months. Let me answer your question specifically with respect to supply chain.

The interim leader of supply chain will be a guy named Mike Ranchino. Mike has been, in his role over seeing what I call core operations. The 60 DCs, and the five region Vice Presidents, have reported to Mike for the last four years, so Mike has been Mark's primary QIC.

The reason for the change is we see an opportunity to take supply chain to the next level. We've talked about the introduction of lean and continuous improvement and we believe by bringing in someone who's got that kind of deep experience and who's been a practitioner, they can help take our supply chain to the next level. With Mike in the chair on an interim basis and the team below that, we have the luxury of time to identify the right leader for the long-term.

Thanks very much.

Your next question comes from the line of John Heinbockel with Guggenheim Securities.

So Pietro, on Cookbook, you're halfway rolled out? What have you seen in terms of benefit to gross margin, maybe versus the base case? And are you seeing any benefit yet in terms of case growth where you've rolled that out?

Thanks for the question, John. Just as a reminder, Cookbook had various chapters or recipes. There's the retention alerts that we've talked about, those were fully deployed across the Company a couple years ago. There's also a part of Cookbook which is around identifying opportunities for customers in terms of penetration.

Pricing is kind of the last frontier. The promotion side of it, which that was the first part to roll out. Cookbook is in many ways well-entrenched. Pricing was the last frontier, probably because as you'd imagine pricing is the most emotional part of the sales rep's day-to-day activity.

We're not going to disclose the results for understandable reasons, but what you can take is the continued roll-out and in some ways a faster roll-out going forward than we've experienced is a result of both rate improvements and volume improvements.

What Cookbook does is, it looks at a customer's pricing elasticity for that item, compares it to other like customers in the geography and then makes recommendations, because the range of recommendations to the rep in terms of, is there an opportunity to reduce price to drive volume surgically, or is there an opportunity to optimize price in a way that maximizes the profitability of that customer. We have seen those kinds of results, which is why we're continuing with the roll-out.

All right. Then secondly, what is the plan? You think about the Scoop plan for 2017 in terms of number of waves, number of products. Did that get expanded versus 2016? Then just remind us, what type of growth you might be seeing in mature Scoop items that have been out there a couple years. Is the volume there still growing?

The plan for Scoop is, we've been at this probably the longest as part of the differentiation and a its a great food part of the strategy. The approach we adopted a few years ago has worked very well for us, which is three waves a year, roughly 20 to 25 products around, across a range of menus. Across a range of day parts, across a range of commodities and more niche-type opportunities. That formula has worked well for us and that's what we'll continue.

The other thing is, each one of these launches, we talk a lot about the day of, or the week of, when we do the cuttings for all the reps, the focus on these items is anywhere from four to six weeks. The number of waves we have is the right balance. In terms of your second part to your question, we've been really pleased. Typically when you launch a new item, what you do is you get a pretty quick reduction from the trial period. Customers try this then it settles at a mature level.

My experience from retail actually is that the amount, the reduction we've seen is less than what we've experienced in retail. But the really pleasant thing is the volume associated with older items is very steady. It doesn't continue to erode or atrophy. It stays at levels that are very consistent, kind of four to eight weeks post-launch.

So the cumulative benefits of these items -- and its not surprising when you think about it, right, because they host a trial period, they get put on a customer's menu. That creates a lot of stickiness. The cumulative impact of Scoop goes far beyond the incremental aspect in any given year.

Thank you.

Your next question comes from the line of John Ivankoe with JPMorgan.

Hi. Great. Thank you. First just a housekeeping question. What will the run rate of D&A be when some of the amortization of intangibles rolls off in 2017, if I'm correct about that?

Sure, good morning, John. This is Dirk. The guidance we provided for D&A contemplates the midyear run off of that, and that impacts the benefits of 2017 by around $60 million and then 2018 about another $60 million. Eventually, as we do our 10-K filing, you'll see we specifically outlined in there what our expectation is for 2017, 2018 and beyond.

Great. That would be helpful for all of us. Thank you for that.

Secondly -- excuse me for my voice -- secondly, you've kind of talked about phase one of some organizational restructuring. You've talked about Cookbook. You've talked about centralization of various different functions.

You've talked about lean, continuous improvement overall. You have a lot of different pieces, all of which sound interesting and good for your employee and good for your customer. But is there a way to quantify what that dollar benefit will be to 2017 over 2016? And what you're expecting of 2018 over 2017, as obviously in a period of deflation, natural gross profit dollars aren't that easy to achieve?

Sure. We haven't specifically talked about the individual benefits that come from those. But what I will say is the benefit we expect from those in 2017 and beyond are all contemplated in our 2017 guidance and our midterm guidance.

And really the point we've made before this, the important piece is that our growth comes from a balance of profitable growth with the right customers, volume perspective, gross margin expansion and OpEx, and we expect that algorithm to really continue through 2017 and 2018.

We've had the question before and I appreciate the desire for more specificity. And it would make some of these conversations a lot easier. But hopefully you can appreciate our desire to keep some of the actual quantified metrics more sensitive to us.

My hope is the specificity and color we provide on each of these initiatives gives you a sense of the importance of these, gives you a sense of the impact of the business and how we're managing and approaching them. Happy to talk about some of that color without getting into the specific numbers.

Yes, even as you're beginning to talk about it qualitatively has been helpful. We obviously read a lot about different warehouses being designed robotically, and different types of delivery systems, what have you, that can be more efficient in the future than they are today.

Is this the appropriate venue to begin to talk about really what the US Foods delivery mechanism could look like? Are you beginning to look at some of these next generation tests?

We're definitely starting to explore what the next generation looks like. But given our network of 60 DCs, the capital investment and also insuring -- some of these technologies that you're talking about we haven't necessarily seen operated with the kind of scale and short lead times we have in our industry.

The way we think about the roadmap for distribution and supply chain, there's a short to medium term opportunity from the introduction of basic process improvements as represented by lean and continuous improvement. And then a longer term roadmap of technology and so again, having a balance of short term, long term improvements which rely on different levers.

Okay. Thank you, guys.

Your next question comes from the line of Edward Kelly with Credit Suisse.

Hi, guys. Good morning. Just a quick followup to start on the first quarter comparison. When you say sales and volume a little softer, do you mean that sales and volume might be below the full year forecast or at the lower end of the full year forecast? How should we think about that?

Good morning. This is Dirk. We wanted to call out the first quarter because just any time we see a quarter that's going to be outside of our full year guidance to really try to be transparent about what we're expecting.

We'll see some softness across it would be, make it at the lower end of the range, but it's really that mix of the weather along with the way the New Year's holiday fell this year compared to a year ago, and some other factors including timing of our initiative benefits, that combine for that 200 basis points. But overall we feel good about our volume trajectory and volume performance with our right customer types this year.

Then just a followup on cash taxes? After 2017 will your cash taxes be more normalized?

They should be much closer, effective tax rate and cash taxes should be much closer, yes.

Then last question, for Pietro, you've done a good job of layering in acquisitions. You did mention something about the pipeline being good, or robust. Could you just maybe talk a little bit more about that? What you're looking for, how competition for deals has been shaping up and how it's impacting what you have to pay?

Sure. The strategy on M&A is pretty enduring. So we target -- at the center of the bullseye, as we've often said, is broad line distributors with a high mix of independent restaurants. All American fits that bill. Last year, Dierks Waukesha fit that bill.

Then the second, kind of outside the bullseye, is capabilities in produce and meat as we continue to grow our penetration of those categories where we have an opportunity to grow, the Freshway acquisition last year, and the Save On acquisition last year, kind of fit that bill. Those are the kind of targets that we've identified.

And our M&A team is cultivating relationships with a large number of potential acquisition prospects. Some are concentrated in some geographies more than others because it's about strengthening the geographic footprint. In terms of the first part of your question, in terms of competition, it really varies by deal.

This is where the very disciplined approach we have to identifying what's the best prospect, what's the second best prospect in the geographic area, combined with the nurturing of these conversations. I met someone yesterday who were contemplating an acquisition with them. We've been talking with them for a year. Those relationships, believe it or not, really help support our very disciplined approach to making sure we pay the right price.

Great. Thank you.

Your next question comes from the line of Shane Higgins with Deutsche Bank.

Good morning. I just wanted to get a sense of how you guys are thinking about gross margins in 2017. Should we expect them to be up in the 40 to 50 point basis range that you guys have achieved over the last couple quarters?

I think from a gross margin, many of the initiatives and focus areas we've talked about -- from customer mix, private brand growth, Cookbook pricing, et cetera -- all those drivers and levers continue to be in effect and we do continue to expect to improve gross profit year-over-year. I think we haven't guided on specific improvement but we do expect to continue to improve gross profits.

Thanks. As inflation starts to come back into the business in the back half of the year, how should we think about that in terms of how it impacts margins and gross profit dollar growth?

The best way to think about it is in our business, it was a modest headwind. When it's deflation it becomes a modest tailwind as we go forward. Obviously the severity of which it happens, and the categories in which it happens, can have different impacts but we've got a good approach to managing through the impact of the deflation or inflation to mitigate the impacts.

And so I think when we think about our earnings guidance of the 7% to 10%, it really doesn't impact that significantly, no matter if it's inflation or deflation. It's more of what we determine as a self-help plan, or things that we action in order to improve.

Okay. Great. Then just a quick question on your CapEx? Looks like it's about in line at about 1% of sales. Could you just give us a sense of kind of how that breaks down maybe between IT, maintenance, new facilities, et cetera?

Sure. You're right. It is about that 1% of sales. So we spend across -- a good portion of it ends up supply chain-related, and then we do make meaningful impacts. Probably in different years it can vary but it can be two thirds supply chain-related, and a third IT.

Although like I said that can vary. When I talk supply chain, meaning it could be facilities, maintenance, and the like across those areas.

I just want to get a sense of how you guys view your distribution center capacity today?

So we do have two expansions going on right now. One of the things from a capacity perspective, we have a pretty rigorous review process of our capacity. As we talk about profitable volume growth, that terminology is specific, because for us all growth is not the same.

We have a regular process where we will go through and look at our customer portfolio and those customers whose profitability is not at the level we need them to be at, we will work with the customers and\or like we did on the two we called out earlier this year. We will choose to strategically exit those.

We'll also balance capacity across our network with the benefit of our model of delivering to the right customers out of the right center. We will add capacity where it makes sense through internal CapEx and/or some of our M&A comes with capacity as well. So the Dierks example that Pietro mentioned is a good example of that. On a blend we feel as though the guidance we've provided, approximately 1% of net sales contemplates the growth we've guided for in the near term.

Thanks.

Your next question comes from the line of A.J. Jain with Pivotal Research Group.

Good morning. I just wanted to get some more color on your corporate restructuring, if you could comment? I think that process is supposed to wrap up in the current quarter? Is there any way you can quantify what the net benefit was in Q4 --

We haven't quantified the benefit, A.J. It is quite significant. In terms of where we are in that process, what we've talked about is two phases. The first phase which will be completed in the first quarter. I hesitated because a lot of it is largely done.

It's really about simplifying the organization in both Rosemont and Tempe, our two corporate headquarters. That's to do with the leverage you'd expect, like expands and layers, the second phase is around taking a more horizontal view of certain large prophecies like order of cash, like hire to retire, and doing a better job of leveraging our shared services through the introduction of similar lean continuous improvement tools.

And providing more of a holistic view of some of those horizontal prophecies, we see an opportunity to further improve productivity. That was one of the two major initiatives I talked about in terms of the ramp-up phase that are really just starting to be studied.

Okay. Thanks for that. I understand you can't break out the restructuring benefits in dollars. But along the same lines, is it possible to give a percentage of the total cost savings that were realized in Q4? And how that ramps up in Q1?

We haven't done that either for the same reasons we haven't disclosed other similar types of quantifications initiative.

I had one final question. I know that you called out the calendar shift in Q1 based on weather comparisons and the holiday timing. But I think you're also cycling the sales force reorganization from last year that I think had a pretty sizable benefit.

So is that a headwind? How much of a headwind is last year's reorganization, if you can comment? Thanks.

This is Dirk. The sales force work we've been doing is not a headwind. It was not a headwind. I think in the first quarter it's really at this point around the abnormally mild winter last year that we saw in many parts of the country. And then the fact that this year, that first week of January included a holiday that many businesses were closed, that didn't a year ago.

More schools were off, et cetera. Like I said, to a much lesser extent, some other timing factors with our initiatives.

Thank you.

Your next question comes from the line of Robbie Ohmes with Bank of America.

Hey, guys. Thanks for taking my question. Actually just two quick ones. The first, can we get a bit of an update, any update in the health and hospitality part of your business? Both in terms of any kind of change in trends, or how the stability looks there, and maybe how you're thinking about M&A pipeline?

Then my second question is, you started to see gas prices go up a little bit. How are you guys thinking about potential cost pressures if diesel keeps moving up? And remind us how surcharges and such work for you guys? Thanks.

I'll let Dirk answer the gas price question. With respect to healthcare and hospitality, as I mentioned earlier, the latest outlook from Technomic for those two particular customer types is very consistent with what the outlook last year and what is in our prospectus in that chart.

I forget the numbers but they're both in the 3% range or so. In terms of our pipeline in those two -- when you talk about M&A, I presume you meant the acquisition of new customers, because we don't have any M&A focused on those particular segments, as I explained to Ed earlier. Our pipeline is good.

The sales cycle in with larger customers tends to be longer and as result lumpier, but we're pleased with our pipeline. I think I've mentioned before the acquisition -- or the addition of Brookdale Senior Living has provided some solid references for us as we go out there and talk to other potential customers in that space. Dirk, do you want to talk about the impact of gas prices?

Sure. For 2017 we have a pretty significant portion of our fuel locked in already. We try to look out a year, year and a half in advance and opportunistically lock that in. So that mitigates a significant portion of the cost increase risk for us this year.

The other piece is as you noted, we have a large number of our customers that do have fuel surcharges in place, so as fuel begins to increase we apply those surcharges which mitigates a significant portion. As we think about 2017 we feel good with our guidance based on what the forward curve looks like from a fuel perspective.

Fantastic. Thanks very much.

Your next question comes from the line of Kelly Bania with BMO Harris.

Hi. Good morning. Hopefully you can hear me okay.

Yes. Good morning, Kelly.

Good morning. I was wondering if you could quantify, either in dollars or percentages, just the impacts from some of the planned strategic exits on the chain side of the business? I think we're pretty much through the majority of that now, but as you look back at 2017, just any quantification of the dollar impact on sales and profitability?

And I guess related to that as you think about kind of the chain side of the business, the continued challenges there, how do you feel about that portfolio, your portfolio of chain customers right now? Is there any thinking of maybe some more strategic exits? How do you feel about that?

I'll start. This is Dirk. I think from a chain perspective, to clarify, you're correct. We fully lapped those exits by the end of the third quarter. So the fourth quarter is a good run rate outside of those exits. We had lapped those the first nine months of the year.

As far as on the chains, as we've commented before, for us it's about opportunistically pursuing chain business and make sure it's the right customers for us at the right profitability and product assortments mix. We'll continue to be very selective on that.

Although we called out those two specific ones, my comment earlier was we have a regular process where we are making decisions to move on from customers. Just those two were so significant, we called them out separately, but that's part of our ongoing disciplined business process.

From a chain outlook, Pietro, you can add on, but one of the things we see, there's the overall industry data that you've all seen but even when we look across our portfolio, it's really more concept-specific. So some concepts that we have that are growing faster than other concepts. It's mixed and in our case we're going to be smart about those we work with going forward.

The only thing I'd add, the reason we called those out, I guess in 2015, is they were so significant. There was a constant reevaluation of the contribution of smaller customers and in fact, in 2016, what I can tell you is we did exit some customers but replaced them with customers who were higher contribution, number one.

Number two, if we're less satisfied with the contribution of particular customers, there are a number of levers that we have in addition to simply exiting a customer. Product mix is an example. The importance of our private brands to that product mix, the economics of distribution. As we talk about re-evaluating our portfolio of customers, think about the number of levers we have to continue to optimize that, beyond exit.

Great. That's very helpful. Thank you.

Your next question comes from the line of Karru Martinson with Jefferies.

Good morning. When you guys look at the softness in the first quarter, how much do you feel would be some modest disruption from the initiatives that you've got underway? Would any of that carry into the second quarter?

None of it really. As Dirk said, the softness in the first quarter is the three factors he talked about. There's a little bit of phasing as well, and that's one of the minor factors he talked about. But one of the things we try to do, that's what we try to do with slide 8 in the deck, is take a balanced view.

As multi year initiatives become settled, then we later on, another initiative -- and we have a very tight governance here. Every second Tuesday the management team and whoever is responsible for particular initiative, we take stock of how that's going. Any different decisions we may want to make as a result of our progress against milestones.

So I'd say very little, if any, impact on Q1 as a function of how these initiatives are being rolled out. Obviously if we were to find that one of these initiatives were to take longer than we otherwise planned, we'd do that because that's the right decision for the business.

Okay, and just from a big-picture perspective, how much should we be thinking about in terms of cash costs for the initiatives going forward here?

This is Dirk. We haven't provided specific guidance on the cash elements of it, but I think when you think about it in the context of our historical results, there's no significant anomaly or large usual impact I'd call out for this.

Thank you very much, guys. Appreciate it.

There are no questions at this time. I'll turn the call back over to the presenter, Pietro Satriano, for closing remarks.

Thank you. Thanks for all the questions. Really appreciate the time and the engagement. I just want to thank everyone for your participation today, and hopefully you can see from a business perspective, we're very pleased with the performance of the business in 2016 and we believe we're heading into 2017 with very good momentum. Thanks for tuning in. We'll be talking to you on our next call.

This concludes today's conference call. You may now disconnect.