Post Holdings, Inc. (NYSE:POST) Q2 2023 Earnings Call Transcript May 5, 2023

Operator: Thank you for standing by, and welcome to the Post Holdings Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. As a reminder, today’s call is being recorded. I would now like to turn the conference over to your host, Mr. Daniel O’Rourke, Investor Relations for Post Holdings. Sir, you may begin.

Daniel O’Rourke: Good morning, and thank you for joining us today for Post’s second quarter fiscal 2023 earnings call. With me this morning are Rob Vitale, our President and CEO; and Matt Mainer, our CFO and Treasurer. Rob and Matt will begin with prepared remarks. And afterwards, we will answer your questions. The press release that supports these remarks is posted on both the Investors and the SEC sections of our website and is also available on the SEC’s website. As a reminder, this call is being recorded and an audio replay will be available on our website at postholdings.com. Before we continue, I would like to remind you that this call will contain forward-looking statements, which are subject to risks and uncertainties that should be carefully considered by investors as actual results could differ materially from these statements.

These forward-looking statements are current as of the date of this call, and management undertakes no obligation to update these statements. And finally, this call will discuss certain non-GAAP measures. For a reconciliation of these non-GAAP measures to the nearest GAAP measure, see our press release issued yesterday and posted on our website. With that, I will turn the call over to Rob.

Rob Vitale: Good morning. Thanks, Daniel. Thank you all for joining us. We had a strong quarter and we feel confident in our performance for the balance of the year. Continued strong performance and food services enabling us to lean into incremental investment in our retail channel businesses and it well positions us for fiscal 2024. Last week, we closed on the acquisition of a handful of Pet Food brands from J.M. Smucker. We are optimistic that this acquisition will open exciting doors for Post as have all our previous transactions. I want to thank the teams from both Post and Smucker who drove this deal to a successful closing. I also want to welcome the 1,100 colleagues who have joined us from Smucker. To complete the Pet Food acquisition Post delivered $700 million in cash and approximately 5.4 million shares to Smucker, even prior to closing the transaction this quarter we repurchased 700,000 shares or about 13% of the number of shares issued.

We paid an average price below the issue price in the acquisition. Our capital allocation priorities will remain opportunistically balanced among share repurchases, debt reduction and M&A. Last night, we raised our guidance for the balance of fiscal 2023 to $1.09 billion to $1.13 billion. This updated guidance reflects no change to our initial assessment for the acquired Pet assets. It is simply five months of the forward 12-month estimate of a $100 million in adjusted EBITDA. Moreover, it assumes full year food service performance of roughly $40 million to $50 million over its sustainable run rate. Recall, last quarter we shared our estimated normalized run rate of roughly $85 million to $90 million per quarter before considering the benefit from ready-to-drink shake manufacturing that will commence at the end of the fiscal year.

To say this another way, the legacy business outlook is increasing for the second half. It also includes five months of Pet. If you begin with our revised guidance and add approximately $60 million to account for the full year of Pet and reduce it by approximately $45 million foodservice over, it would result in the baseline EBITDA outlook. Let me briefly comment on our segments. Starting with PCB the U.S. ready-to-eat cereal category declined 4% this quarter. As we lapped prior year Omicron lift. Post branded market share has been quite stable at 19.5%. Meanwhile, our private label business grew volumes nearly 3%. Food service performance is supported by both attractive pricing dynamics as well as strong demand for away from home breakfast consumption.

Our food service potato business has shown exceptional strength as well with gains in both distribution and consumption. We continue to see pockets of labor constraints, but in general, our supply chains are performing far better than last year. Refrigerated Retail is a bit of a mixed bag despite substantial pricing sales were down for two reasons. First, we abandon low margin business and have not yet lapped its exclusion. Second, our refrigerated side dish business is lapping an inventory build and has seen trade down to private label. We are countering this with a step up in advertising. The team has executed very effectively and supply chains are markedly improved over last year. Weetabix continues to operate well in a challenging environment.

UK consumers remain under pressure from inflationary trends and food and energy. Consumer pressure has contributed to a trade down a private label. We are a large provider of private label biscuit, but it is margin dilutive also while small UFIT continues to grow quite nicely. Across the business, EBITDA margins grew 80 basis points over last year. We expect continued margin expansion as we cycle the timing of pricing movements versus cost increases. We are certainly in interesting times in the capital markets. The increasing cost of debt and the reduction in available credit will likely make M&A a bit more scarce in general. However, we think Post is positioned favorably as a buyer with greater financing flexibility and certainty of closing.

Our pipeline of opportunity seems to reflect this perspective. On the other hand, with a May 28 deadline, we expect to terminate this SPAC this month. As I’ve said before, we believe a corporate own SPAC to be a good tool, but the timing was terrible. SPAC investors will receive their initial investment plus modest return. We will continue to seek creative ways to extend our capital deployment capabilities despite this particular structure not succeeding. With that, let me turn the call over to Matt.

Matt Mainer: Thanks, Rob, and good morning, everyone. Second quarter consolidated net sales were $1.6 billion and adjusted EBITDA was $276 million. Net sales increased 15% driven by pricing actions in each segment. Our retail business saw elasticity driven volume declines and a shift to private label. On the other hand, foodservice volumes remain strong as the consumer continue to prioritize eating out, especially within the breakfast day part. Our supply chain performance and custom order fill rates continue to improve, however, both remain below optimal levels. And while we incurred additional significant inflation in the quarter, there do appear to be signs of moderation. Turning to our segments and starting with Post Consumer Brands.

Net sales increased 5% and volumes decreased 6%. Average net pricing increased 11% driven by pricing actions partially offset by unfavorable product mix and incremental promotions. We saw a strong growth in Peter Pan and private label cereal, which was offset by declines in MOM bags, Honey Bunches of Oats and international. Segment adjusted EBITDA decreased 1% versus prior year as lower volumes, cost inflation and higher manufacturing costs were mostly offset by pricing actions. Turning to Weetabix, net sales increased 7% year-over-year, a weaker British pound caused a foreign currency translation headwind of approximately 1,000 basis points. The increase in net sales was attributable to significant list price increases and contribution from last April’s acquisition of the UFIT brand.

These benefits were partially offset by unfavorable mix towards private label biscuit. Excluding the benefit from UFIT, sales were flat and volumes decreased 2%. Growth in private label biscuit was not enough to offset declines in branded products, which were driven by inflation related elasticities. Segment adjusted EBITDA decreased 23% versus prior year, while foreign currency was the largest driver, higher input in warehousing costs outpaced pricing actions. As a reminder, we expect the challenging macro environment in the UK to compress our margins throughout the balance of fiscal 2023. Foodservice net sales and volume grew 40% and 12% respectively. Revenue growth continue to outpace volume growth as revenue reflects the impact of commodity costs pass-through pricing model and other pricing actions to offset higher product costs.

Segment adjusted EBITDA increased 100% from prior year, benefiting from improved average net pricing and volume growth, which mitigated the impact of higher costs to produce. As a reminder, prior year Q2 was still being significantly impacted by the COVID Omicron variant, making for an abnormally low comp. Refrigerated Retail net sales and volumes decreased 2% and 11% respectively. The decline in net sales was driven by the decision to exit certain low margin products. Pricing actions drove increases in average net pricing across all products. Side dish volumes decreased 10% reflecting price elasticities as customers shifted to private label and we lapsed an inventory load in from the prior year. Egg volumes decreased as elevated egg costs and limited cage-free egg availability from avian influenza hurt both volume and margins.

Segment adjusted EBITDA increased 7%, primarily benefiting from pricing actions to offset significant cost inflation. Incremental advertising and promotion spending was an offset to these benefits. Turning the cash flow. In the second quarter, we generated $100 million from continuing operations, which is up significantly versus prior year and driven by improved profitability and lower cash interest expense. However, cash flow was flat sequentially as we continue to see additional inflation work its way into networking capital. As it appears inflation is leveling out, we expect second half operating cash flow to improve meaningfully. From a net leverage standpoint, we ended the quarter at 5 times, which is then a pro forma 5.1 times for the impact of last week’s Pet Food transaction closing and approximately 5.4 times if you further pro forma for the normalization of food service performance.

Moving to capital allocation, we stepped up capital expenditures to $81 million in Q2 driven by continued progress on the BellRing co-manufacturing facility, which remains on track for a Q4 startup. In addition, we repurchase 700,000 of our shares at an average price of $89 per share and $50 million of our debt at an average discount of 13%. We have $216 million remaining under our share repurchase authorization. With that, I’d like to turn the call back over to the operator for questions.

Q&A Session

Operator: Thank you. Our first question comes from the line of Andrew Lazar of Barclays. Your line is open.

Andrew Lazar: Thanks. Good morning, everybody.

Rob Vitale: Good morning, Andrew.

Matt Mainer: Good morning.

Andrew Lazar: Rob, I wanted to come back a little bit to some of your initial comments on guidance and such, just to make sure I have it right. I guess, based on your comments, it sounds as if sort of normalized EBITDA proposed, if we take into account all of pet as well as the over-delivery in foodservice is now sort of, call it, $1.125 billion. Do I have that right? And if so, is that how we should think about sort of fiscal 2024 as sort of like a starting point anyway?

Rob Vitale: Yes, that’s precisely right at the midpoint of our guidance. So I think your math is – you took the midpoint of our guidance and just added 60 and backed off 45, so that’s precisely correct.

Andrew Lazar: Okay. And I think maybe on the last call you had commented about expecting to maintain or grow overall EBITDA in 2024, obviously excluding the acquisition. But now we’ve got this higher sort of expectation for 2023 as a base year. So I didn’t know if how that affected – how current sort of results affected that commentary for next year, if at all.

Rob Vitale: Well, certainly impacts the growth rate. I’d rather than answering that precisely with a yes or no. Let me give you some of the puts and takes. We expect to see margin expansion with 2023 entering or exiting with a higher run rate EBITDA margin, particularly within U.S. cereal. We do expect to see some normalization in foodservice. We expect to see some of the synergy flow from the Pet acquisition begin in fiscal 2024, although not be completed by the end of fiscal 2024. So there’s certainly a case for growth in 2024 offset by where the ultimate over earning in foodservice lands.

Andrew Lazar: Yes. Got it. And then lastly, just, I guess, the – I may have missed this, I apologize if I did. Margin in Post Consumer Brands were about 130 basis points lower in the fiscal second quarter than they were in the first quarter. Well, I guess what drove the deceleration and obviously it’s in – to sort of generally speaking to the branded packaged food space at this point,

Rob Vitale: And Andrew I heard what drove the deceleration and then you got cut off.

Andrew Lazar: Sure. Because it’s in stark contrast to just what we’re seeing from a margin recovery perspective across the broader packaged food space at this stage.

Rob Vitale: Most of the sequential deceleration as a result of timing of plant shutdown for maintenance that drove some under absorption fixed costs. We expect that to reverse the balance of the year. So it’s not necessarily net, if you look year-over-year, there’s expansion and we look forward both quarter-over-quarter and year-over-year, we expect expansion.

Andrew Lazar: Thank you.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of David Palmer of Evercore. Your line is open.

David Palmer: Thank you very much. A couple questions for me. On Refrigerated, you mentioned the SK rationalization drag, could you just remind us the size of that and when you lap that? And then just broadly, are there any plans to bolster trends within Refrigerated and just your outlook for this segment?

Rob Vitale: Let me do those in reverse order and Matt is going to pick up the first question. In terms of the trends in the category, we are leaving two or three years of essentially no advertising, because of the supply chain challenges that existed throughout COVID. So we are just re-engaging advertising and we fully expect the trend line to resume to pre-COVID growth rates – and growth rates that even existed well into COVID without advertising once we reengage. Because they’re both distribution and velocity opportunities within the side dish brand. With respect to the volumes we have – we are lapping. Matt?

Matt Mainer: Yes. So we exited private label butter, which is a component of our cheese business a quarter ago. So we’ll continue to lap that. It’s not a huge piece of business, but it is about $5 million of sales a quarter.

David Palmer: And then on Pet, we can obviously see the measure channels. Could you just talk about the all channel trends for that business and where you see the biggest near-in opportunities or priorities for this business? Thanks.

Rob Vitale: The – one of the nuances of this business is – most of its businesses track channels, unlike a lot of the other competitors and Pet. We think one of the opportunities is to go beyond traditional FDM channels. With respect to the near-in opportunities, though, the biggest opportunity is to improve supply chain and deliver to the demand that exists already. We are selling everything that we can make, but we’re not making enough. So step one is to drive throughput in each of the factories that we’ve acquired.

David Palmer: Okay, Thank you.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of Matt Smith of Stifel. Again, Matt Smith, your line is open.

Matt Smith: Hi, good morning.

Rob Vitale: Good morning, Matt. Congratulations, by the way.

Matt Smith: Thank you very much, Rob. I appreciate that. I want to ask about the Pet transaction. One of the benefits of the way that it was structured, was that it was essentially held your leverage stable, which allows you to continue to pursue M&A. And you had some commentary about the financing environment and you – and Post being a favored buyer because of the assurety of your financing and the ability to close. Does the Pet transaction widen the funnel for M&A? Are you able to look at Pet deals to bolt on to the transaction you just made or do you need some time there?

Rob Vitale: Well, let me answer from two perspectives that – the constraint around M&A is capital and people. From a capital perspective that it’s really not a constraint, attractive transactions can be financed readily. The constraint right now would be around the work going and integrating the existing acquisition, and that gets more organizational design. There – we are open for M&A particularly around opportunities within and without Pet that have the ability to be freestanding businesses within our portfolio. We would be a little bit more cautious on full integrations right now simply because of the amount of work, that is being dedicated to the existing opportunity or the existing – the recently closed opportunity.

So it’s somewhere in the mill. I mean, we have a lot of opportunities as you would imagine once we became an active player in Pet, the opportunity set for that kind of opportunity expanded and will I expect to continue to expand. But we look through a lens of both human and financial resources when we start to think about what the next step should be.

Matt Smith: Thank you for that. And just a quick follow-up. And you mentioned needing to improve the throughput in your exist – in the existing manufacturing footprint of Pet. Is that an area where you’re interested in M&A or do you believe that you can improve the supply chain performance to meet the demand that’s out there?

Rob Vitale: In reverse order, we can certainly do it without M&A. M&A potentially accelerates it depending on the situation.

Matt Smith: Thank you for that. I’ll pass it on.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of Michael Lavery of Piper Sandler. Your line is open.

Michael Lavery: Thank you. Good morning.

Rob Vitale: Hey, Michael.

Michael Lavery: Just wanted to touch on a couple cadence questions. You’ve talked about foodservice normalizing in 2024, but I guess just given the level it is at the moment. How sort of smoothly or quickly does it get there? Maybe just giving a little sense of how the second half looks into next year as much as you have any visibility there. And related to that, you mentioned the shakes ramping up or getting going in 4Q. I think you’d said that it would likely hit its full run rate by 2Q 2024. Is that still – is that timing still right for thinking of kind of how it’s up to full speed or is it running ahead of schedule at all?

Rob Vitale: We expect to see a glide path between here and year-end to get to the exit run rate. That would then translate into that $85 million to $90 million per quarter x the manufacturing. We expect the manufacturing to come online roughly September. And there’s really no change to the outlook we’ve previously provided with respect to when it’s fully operational in providing product to BellRing.

Michael Lavery: Okay. Great. Thanks so much.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of Bill Chappell of Truist. Your line is open.

Bill Chappell: Thanks. Good morning.

Rob Vitale: Hey, Bill.

Bill Chappell: Hey, two questions, one on Pet. I’m just trying to understand I guess what you’ve factored into to the acquisition in terms of long-term growth. I mean it seems or fairly clear that there was certainly a surge of dog and cats ownership over the past three years that maybe hasn’t coming out yet like you see in cereal, but it’s a little bit harder to destock your pets than it is your pantry. And so is it an expectation you’ll see a slowdown in the category and on that same vein expectation that you see promotions step up within the category as costs come down and it get a little more competitive? Just trying to – I understand the focus is on cash flow and improving the margins, but just trying to understand what kind of pressures you expect on the top line over the next couple years.

Rob Vitale: We don’t see a substantial growth in demand for the value sector, but what we do see as a step up in the volumes that we have been able to service in the value sector, because demand has exceeded our ability to supply it over – certainly over the last 12 months. With respect to promotions and just to clarify, you’re just talking Pet now, not cereal, right?

Bill Chappell: Correct. Correct.

Rob Vitale: Yes. Historically a far less promotional category than Pet, we – excuse me, than cereal, we don’t expect that to change. There are some capacity dynamics coming on Board that will create a little more capacity in the next two years to three years and have been the last half dozen or so, but we don’t expect that if it changed to support the promotional dynamic to last very long.

Bill Chappell: Okay. And then just on the food service, just is there a way now at this point to kind of look back and understand with the green based contracts and higher egg prices kind of where from start to finish, what the – if there’s net benefit and how much you expect to kind of hold onto on a EBITDA basis as we move forward? Just trying to as we look to 2024 and things start to normalize trying to figure out what the right numbers are.

Rob Vitale: Well, I mean, I think we laid it out with as much precision as we can that there’s $40 million to $50 million of earning full year 2024, and that the normalized run rate of the business is closer to $85 million to $90 million per quarter.

Bill Chappell: Got you. I guess the difference is, I didn’t know if there was a – if that’s kind of on a normalized volume basis during COVID, that was where it was…

Rob Vitale: No, that’s what we believe with our existing volume. The baseline would be, and of course, those volumes are expected to grow both with respect to just the sheer number and potentially the mix as we have a long-term strategy of moving up the value chain.

Bill Chappell: Okay. Thanks.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of Jason English of Goldman Sachs. Your line is open.

Jason English: Hey, good morning, folks.

Rob Vitale: Hey, Jason, good morning.

Jason English: Hi, a couple quick questions. So first, the Pet – both of them on Pet, the Pet business used acquired. We’ve all viewed it as the problem child with Smucker and the business that’s been suffering sort of chronic volume metric to clients, yet, you’re talking about a business that’s capacity constrained with demand that, that, that is exceeding your ability of supply. So how do we square that? Is the narrative around the business just too bearish? Has the growth actually been much better or are there operational constraints and issues that need to be resolved?

Rob Vitale: So I think when you use the term capacity constrained, it implies that that demand has grown in capacity is not. What has happened is demand has been flat and capacity has shrunk, by virtue of some operational challenges, an array of things that we are addressing. So as the capacity has not kept pace with the flattish demand that has resulted in a situation which they’ve been unable to meet the unconstrained demand. So if it’s not a situation which demand out pay, supply, supply decline. Is that…

Jason English: Okay. Is there a lot of CapEx is needed to fix that or is it just people process…

Rob Vitale: No different that – I’m sorry. No different than we had announced back in February. I think we announced $35 million. We’ve seen no change in our expectation around that. There are changes to people and process. Some of the cultures within the plants, so there are an array of small changes and then some capital, but again, all baked into the original announcement and acquisition.

Jason English: Okay. And then one more question on Pet. Lots of conversation today around what normalized EBITDA looks like. I think a lot of us are very surprised by the EBITDA for that business. It doesn’t look normalized at all as we think about what profitability, what we believe profitability in the industry looks like. So is this business – is the margin structure, are there structural reasons why it’s so low? If so, what are those structural reasons? If not like what are the non-structural reasons that are driving it so low and how do you rectify that and how quickly can you rectify that? And I just keep piling on with a multi-part question, like what does bright look like? Thank you.

Rob Vitale: I’m going to answer the first question last and just revert to the announcement that we made in February. That bright is somewhere north of $130 million of EBITDA as we synergize the business. Now, do we think there are opportunities beyond that? Sure, we do. We think there are opportunities to improve margins that are not structural. They’re more, as you can imagine, as you deleverage the margins get hit. We think re-leveraging the plants, restore those margins, and that’s a let’s put a two-year timeline around that. To the very first part of your question, the semantics of the term normalized, we were really focusing more on making sure you understood the food service implication, not the long-term potential for improving the results of the pet food business.

Jason English: Understood. Thank you.

Rob Vitale: Thank you.

Operator: Thank you. Our next question comes from the line of Andrew Lazar of Barclays. Your line is open.

Andrew Lazar: Great. Thanks so much for the follow-up. Just Rob a more of a higher level industry question for you. It looks as though we’re sort of finally heading in earnest towards more of a normal operating environment following the past three years of all these sort of anomalous dynamics. And I guess I’m curious how you think this transition right back to normalcy will look maybe not just for Post, but more the industry as a whole, do we think this transition to normalcy can be made in a somewhat orderly way or should investors sort of have their expectations in check for maybe more uneven results for some time as sort of pricing is lapped and perhaps it takes more time for volumes to pivot more positively? I guess I’m just trying to assess whether we see like more of a hard or soft landing, if you will, for sort of the food manufacturers as we go sort of into the next phase.

Rob Vitale: Yes. I think what we’re beginning to see is a future that looks fairly close to the pre-pandemic past, and that what I would expect to see is mean reversions on volume with likely retention of the pricing that has been taken the last handful of quarters if not years. So I’m not quite sure whether that qualifies as soft, hard, or somewhere in the middle. But what I would proffer is that some of the trial benefit that we may have hoped would convert has not been a sticky, and that the – and you’re seeing it in benefit from our perspective in our food service business. I think that one of the underappreciated aspects of our food service business right now is how strong volumes are. So I think you’re seeing a – if you go back to pre-pandemic, we just hit a inflection point where half of consumption was away from home, and I think that is stickier than we expected it to be.

Andrew Lazar: Appreciate your thoughts. Thank you.

Rob Vitale: Thank you.

Operator: Thank you. We have reached our allotted time for questions. This concludes our conference. Thank you all participating and have a great day.

Rob Vitale: Thank you all.

Matt Mainer: Thank you all.