Calavo Growers, Inc. (NASDAQ:CVGW) Q1 2023 Earnings Call Transcript

Calavo Growers, Inc. (NASDAQ:CVGW) Q1 2023 Earnings Call Transcript March 6, 2023

Operator: Good afternoon, and welcome to the First Quarter 2023 Calavo Growers Earnings Conference Call and Webcast. . I will now turn the conference over to your host, Julie Kegley, Investor Relations for Calavo. You may begin.

Julie Kegley: Good afternoon, and thank you for joining us today to discuss Calavo Growers’ financial results for the first quarter of fiscal 2023. This afternoon, we issued our earnings release, and it is available in the Investor Relations section of our website at ir.calavo.com. With me on today’s call are Brian Kocher, President and Chief Executive Officer; and Shawn Munsell, Chief Financial Officer. We will begin with prepared remarks and then open up the call for your questions. Before we begin, I would like to remind you that today’s comments will include forward-looking statements under federal securities laws. Forward-looking statements are identified by words such as will, be, intend, believe, expect, anticipate or other comparable words and phrases.

Statements that are not historical facts, such as statements about expected improvement in revenue and operating profit are also forward-looking statements. Our actual results may vary materially from those contemplated by such forward-looking statements. A discussion of the factors that could cause a material difference in our results compared to these forward-looking statements is contained in our SEC filings, including our reports on Form 10-K and 10-Q. With that, I will now turn the call over to Brian Kocher.

Brian Kocher: Thank you, Julie, and good afternoon, everyone. We appreciate you joining us today. Our fiscal first quarter results reflect challenging conditions in both segments, but we have taken action and expect that our results will improve as we progress through the fiscal year. In the Grown segment, high volumes of Mexican avocados, especially small fruit, combined with still high retail shelf prices, pressured wholesale prices and margins more than anticipated during the quarter. While we expected industry avocado volume to increase during the quarter, we did not anticipate prices and margins to contract as much as they did. The average case price in our first quarter fell to about $28 versus around $34 in the fourth quarter and $43 in the prior year quarter.

We also expected prices and margins to improve approaching the Super Bowl. Although conditions did improve later in January, the impact was more muted than anticipated. Prepared segment performance was better than the prior year but was weaker than expected due to a combination of volume softness and winter weather. We expected a decline in Prepared segment earnings versus the fourth quarter due to seasonality in our fresh-cut division, but we experienced softness in volume that exceeded typical seasonality, with total Prepared segment volume down about 13%. Velocity slowed in the quarter, which was partly attributed to a decline in volume sales across retail food categories as consumers reacted to inflation and tough general economic conditions.

Separately, we incurred weather events during the quarter that cost about $1 million of unfavorable incremental cost in the fresh cut division, mainly from the temporary closure of some of our manufacturing facilities. Understanding our first quarter results in the context of the market around us is important. Avocado import volume from Mexico grew over 8% versus the same quarter in 2022, but retail sales volume only grew about 3%, while total U.S. inventories rose almost 7%. We attribute the relatively lower retail volumes in part to retail prices, which haven’t declined to the same extent as wholesale prices. Higher inventories also pressured wholesale prices of avocados and compressed margins as the industry worked through aging inventory.

During the quarter, our Prepared segment faced the pressures from a declining category. In retail, dollar volume sales are up across almost all prepared categories in which we participate. However, according to IRI, unit volumes declined in produce categories as a whole in almost every category in which we participate by anywhere from 2% to 5% in the second half of ’22. Consumers either traded down or passed on certain convenience stick categories in the store perimeter. As unit volume declines on a store-by-store basis, our margins suffer and Prepared as we lose benefits from fixed cost absorption. We believe the worst is behind us for the fiscal year, and we expect to see sequential improvement in our results as we progress throughout the year.

But margin volatility in Grown and volume softness in Prepared may persist in the near term. We did see conditions in the Grown segment improved in February. And we’ve realized volume increases versus the prior year in the 7% to 9% range and avocado margins within our targeted range of $3 to $4 per case for most of the second quarter. However, the start of the avocado seasons in California and Peru may lead to ongoing volatility in Grown margins. In our Prepared segment, the one perimeter of the store category that saw unit volume growth in the second half of ’22 was deli grab-and-go items. As mentioned during our last call, our new customer acquisition strategy has been focused on deli grab-and-go items, and we are on schedule to onboard new Prepared deli and grab-and-go volume with 2 national customers in the second half of the year.

We expect volume weakness to persist until then. The operating environment coupled with our first quarter results, has caused us to lower our fiscal year margin expectations for both segments. For 2023, we estimate adjusted EBITDA in the range of $40 million to $45 million. While we are not setting the precedent of giving annual EBITDA guidance, we believe it is important to provide an indication of our expectations for this year given the first quarter results. Investing to grow the business, resulting in long-term shareholder value is undeniably our top capital allocation priority. We are also committed to paying a dividend with competitive yield and payout metrics relative to benchmarks. However, the metrics associated with our current dividend rate have been elevated since fiscal 2020 and remain elevated under the current operating environment.

We plan to reset the dividend to a level that provides more market-aligned metrics. We anticipate the Board of Directors will declare a dividend of $0.10 per share for the second quarter. Although we remain committed to growing the business, we also plan to reduce our fiscal 2023 capital expenditures while we navigate near-term uncertainties. We now expect capital expenditures for fiscal 2023 of approximately $13 million. These adjustments reflect deliberate fiscal discipline that allow us to continue prioritizing investment for growth while maintaining competitive dividend metrics. Although the start to the fiscal year has been disappointing, we remain focused on making steady lasting improvement to the business. During the second quarter, we initiated activity on several fronts that will offer immediate benefits to earnings.

As an example, we recently went live with the first phase of a new transportation management system that enables RFPs on most of our outsourced freight, which will significantly improve the competitiveness of our freight costs. This system will be fully implemented during the second quarter. In early March, we implemented a restructuring of our U.S. and Mexico operations that will allow us to upgrade essential organizational capabilities and to streamline and reduce costs related to certain functions. We recently consolidated activities within our Grow distribution network to streamline operations and reduce costs. And we recently entered into an agreement to exit our noncore salsa business as we intend to direct more resources towards guacamole growth.

Pricing is always a focus for us. As you probably know, we priced our Grown product on a daily basis. However, our Prepared business has been comprised of almost exclusively annual or multiyear fixed-price contracts. Over the course of the last 6 months, we have converted more than 50% of our expected annual Prepared revenue stream to contractually committed pricing windows that range between 2 and 4x a year, allowing us to react quickly to changes we see in market dynamics, inflation and industry costs. These actions do not represent an exhaustive list of improvement activities that are underway, but I wanted to highlight some of the most influential and relevant items that will have immediate impact. I’d like to wrap up my prepared comments by saying that despite market and category performance that was less than our expectations, our commitment hasn’t wavered.

We are still focused on performance improvement, on growth and on generating shareholder value. It’s our job to manage through a challenging market condition, and we must be and are nimble in our response to changing market dynamics. The path to growth is in a straight line and there are obstacles, but we will keep driving forward. And now I’ll turn the call over to Shawn to report on the financials.

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Shawn Munsell: Thank you, Brian. As we stated on our full year 2022 earnings call in December, seasonality plays a significant role in the cadence of our earnings. While the first quarter is typically our seasonally weakest quarter, this year, we experienced some additional market-driven pressures, which adversely impacted our results. But as Brian said, we do expect to deliver sequentially improving results as we progress through the fiscal year. On a consolidated basis, first quarter revenue was $226 million, a decrease of $48 million from the first quarter of 2022. Grown segment revenue was $118 million, down $45 million from last year as the average selling price of avocados decreased by 35% as prices continue to adjust from their highs in the summer.

Avocado sales volumes were up over 3% due to increased supply from Mexico. Industry imports from Mexico were estimated to be up over 8% versus the prior year quarter while industry avocado retail sales were estimated to be up by about 3%. Prepared segment revenue was $108 million, down $4 million from the prior year quarter as higher prices partly offset volume declines of about 13%. Consolidated gross profit was $14 million, up over $1 million from the prior year quarter, primarily driven by a $3 million increase in Prepared segment gross profit partially offset by a $2 million decline in Grown segment gross profit. Grown segment gross profit for the first quarter was $9.5 million compared to $11.7 million for the first quarter last year. Our margin per case for avocados fell to about $2.20 in the quarter versus about $3 per case last year.

Generally, tighter spreads between field costs and sales drove margins lower, with avocado prices continuing to decline from the fourth quarter of fiscal 2022. Additionally, the strengthening of the peso relative to the U.S. dollar increased operating costs in Mexico in dollar terms, although that impact was mostly offset in the quarter by favorable balance sheet revaluation. We have seen an improvement in avocado margins to within our targeted range of $3 to $4 per case for most of the second quarter. The Prepared segment generated gross profit of $5 million, up from $1.6 million in the prior year quarter. Gross margin rose to 4.6%, which consisted of a gross margin of just over 1% in the fresh cut division and approximately 26% in the guacamole division.

The improvement in fresh cut from a loss last year was driven by pricing and other operating improvements that were partly offset by higher raw material costs as well as weather-related impacts of approximately $1 million, mainly from manufacturing facility closures. Gross margin in the guacamole division almost doubled from the prior year on lower fruit costs and yield improvements. SG&A was $16.4 million for the first quarter, up from $15.3 million in the prior year. The increase primarily was due to higher costs associated with employee compensation, including stock-based compensation. Adjusted EBITDA was $3.6 million for the first quarter, down from $4.7 million in the first quarter of 2022. Now turning to our financial position. During the quarter, we increased our line of credit borrowings to about $16 million to fund working capital needs.

Cash and equivalents remained at about $2 million as of January 31. Available liquidity was approximately $26 million at quarter end. And additionally, we invested about $5 million in CapEx in the first quarter, which included investments to support volume additions in the second half in Prepared. Based on current market conditions and our outlook for the remainder of the year, we now expect capital expenditures of approximately $13 million. Now I’ll briefly share some thoughts on our outlook for the remainder of 2023. In the Grown segment, per case margins are expected to be at or near the low end of our $3 to $4 range as we anticipate ongoing margin volatility as the California and Peru seasons begin. Volume for the balance of the year is expected to increase and be approximately commensurate with changes in supply from our primary sourcing regions.

In the Prepared segment, gross margins in the fresh cut division will be at or near the low end of the 10% to 12% range as we end the fiscal year primarily due to softer volume in the near term, although new customer distribution points and volume are scheduled to launch in the back half of the year. Gross margins in the guacamole division are expected to approximate 20%. As Brian mentioned, we recently finalized plans to restructure some of our operations and to exit our salsa business. We expect onetime charges in the second quarter related to these activities to total approximately $3.2 million, including cash and noncash costs associated with severance, asset impairments and implementation expenses. The payback on cash cost is expected to be approximately 1.5 years or less.

And finally, I’ll wrap up by saying that we have a strong balance sheet and sufficient liquidity to manage through the current market challenges. We remain committed to investing to grow the business to strengthen our future earnings. That concludes my prepared remarks, and I will turn it back over to Brian.

Brian Kocher: Thanks, Shawn. As I said on the call last quarter, we’ve been undergoing a long-term strategic planning process. We have completed the majority of the work and we’ll be presenting to our Board of Directors in May. We look forward to rolling it out to you later this year. We spent the last year addressing foundational opportunities to stabilize our business, including finding the right market savvy talent to lead our organization. Now our plan is to take Calavo from an improving company to a growing company. And despite the slow start to the year, that’s still the plan. We have the right service levels, product portfolio and capabilities to grow. We have the right people in key roles who know how to execute and overcome the challenges of our dynamic business. We have the focus and determination to be successful, and we will. That concludes our prepared remarks. I’ll now turn the call over to the operator to begin the Q&A.

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Q&A Session

Operator: . Our first question is from Ben Bienvenu with Stephens.

Benjamin Bienvenu: I want to start on the Prepared business. You talked about volume down double digits as a result of higher pricing year-over-year. Can you talk a little bit about the demand elasticities you’re seeing from consumers in the marketplace? And would you expect that as we start to see broader inflation normalize that these volumes pick back up? Or is there something else along the critical path that you see needing to take place for the volume of that business to improve?

Brian Kocher: Yes. We’ve been spending a lot of time on that, Ben. And I think a couple of things to think about. One, certainly seasonally, we expected volume to at least decrease from the fourth quarter, a very normal part of our Prepared business cyclicality and seasonality. The thing that sort of was greater than we expected was the category performance itself. So if you think about it, during the second half of ’22, overall produce was actually down. Value-added produce was down on a volume basis. On a dollar basis, it’s up, but the category itself on a unit sales basis was actually down. Total produce was down 3% and nonvalue add or whole commodity was down 4%. So value-added fared better, but was still down. There are some bright spots in that category performance, and they exist in the deli aisle.

And what we saw in the deli aisle was snacks, prepared meals, some of the prepared or presliced meat and cheeses have unit volume growth. So even though deli was down, we saw some deli categories in which we participate that on a unit basis were up. We do see inflation moderating. And I certainly think that will help. And long term, we still see growth in our Prepared categories, both guacamole and fresh cut. We see growth long term. And we hear it from the retail trade. We hear it from IRI. We see it in some of the planning that our customers are doing. But certainly, inflation in the last half of the year in the first part of this year, it caught up to the consumer, I’d say. And it did so in a matter that was probably more significant than we expected.

Benjamin Bienvenu: Okay. That makes sense. My second question is related to the restructuring plans. You noted a handful of plans that you have, all of which makes sense. Is it your expectation that this is the last of the restructuring decisions that will be made? Or is it possible there might be others? And then along those lines, as you noted your position in Calavo for growth again, when we think about kind of what you’ve done with CapEx for this year, which also makes sense, how should we think about kind of the arc of spending as we move forward down the line?

Brian Kocher: Okay. Great question. So a couple of things that I would say. As you remember, 2 years ago, Calavo went through 1.5 years — went through a significant restructuring, where a lot of assets, facility closures, things of that nature. This is, certainly in order of magnitude is less, but is needed. What I would say is now we’re doing some of the finer, more precise changes to the organization. We’ve consolidated distribution centers in our avocado business. So that’s one of the changes that you make. Shawn mentioned that we’re exiting and transitioning out of a noncore salsa business, which will provide us some mix benefits that will help us. I think the other big one is if you’re going to grow, you have to have the talent and the amount of skills and capabilities that are growth oriented.