United Natural Foods, Inc. (NYSE:UNFI) Q1 2024 Earnings Call Transcript

United Natural Foods, Inc. (NYSE:UNFI) Q1 2024 Earnings Call Transcript December 6, 2023

United Natural Foods, Inc. beats earnings expectations. Reported EPS is $-0.04, expectations were $-0.26.

Operator: Hello and welcome to the UNFI First Quarter Fiscal 2024 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] I will now turn the conference over to Steve Bloomquist, Vice President, Investor Relations. Please go ahead.

Steve Bloomquist: Good morning, everyone. Thank you for joining us on UNFI’s first quarter fiscal 2024 earnings conference call. By now you should have received a copy of the earnings release issued this morning. The press release and earnings presentation, which management will speak to, are available under the Investors section of the company’s website at www.unfi.com on the Events tab. We’ve also included a supplemental disclosure file in Microsoft Excel with key financial information. Joining me for today’s call are Sandy Douglas, our Chief Executive Officer; and John Howard, our Chief Financial Officer. Sandy and John will provide a strategy and business update, after which we’ll take your questions. Before we begin, I’d like to remind everyone that comments made by management during today’s call may contain forward-looking statements.

These forward-looking statements include plans, expectations, estimates and projections that might involve significant risks and uncertainties. These risks are discussed in the company’s earnings release and SEC filings. Actual results may differ materially from the results discussed in these forward-looking statements. And last, I’d like to point out that during today’s call, management will refer to certain non-GAAP financial measures. Definitions and reconciliations to the most comparable GAAP financial measures are included in our press release and the end of our earnings presentation. I’d ask you to turn to slide six of our presentation as I turn the call over to Sandy.

Sandy Douglas: Thanks, Steve. We appreciate everyone joining us for our first quarter call. In my remarks this morning, I will provide a brief overview of our results, the operating environment, and then an update on the progress we’re making resetting and restoring our profitability and enhancing the value we create for our customers, suppliers and, in parallel, our shareholders. As you saw in our release, our first quarter results exceeded our expectations and reflected a sequential improvement in adjusted EBITDA of $24 million. This resulted from improved operational execution and progress on near-term value creation initiatives, which helped deliver savings earlier in the year than we previously expected. We accomplished this despite an industry backdrop that continues to be challenging.

Inflation rates are declining sequentially, yet consumers continue to endure the impact of structurally higher food prices. We saw inflation declined by over 200 basis points compared to last fiscal year’s fourth quarter, but it remains modestly above historical levels. To manage these higher prices, consumers continue to buy less and shift their purchases away from the grocery channel. This has led to negative volumes on average across the retail food industry and share gains by mass merchandisers and discounters. These challenges create even greater urgency for us to be successful in both our short-term and longer-term transformation efforts, so that we can help our retail customers remain as competitive as possible as the environment continues to evolve.

Many of our customers are performing well even in this environment, but all of them need UNFI and our supplier partners to step up for them. Our revamped leadership team is rising to this challenge, gaining even more UNFI experience and starting to drive tangible operating improvement. We expect this will increasingly benefit our financial performance throughout the remainder of fiscal 2024 and beyond as we manage for the short term and build for the future. An encouraging area is our progress on shrink. As we’ve detailed previously, the volatility created by COVID and the post-pandemic environment created challenges managing shrink throughout our supply chain. This weighted significantly on our results as we exited last fiscal year. And while it’s still early in fiscal 2024, our strengthening operating performance reduced shrink year-over-year and sequentially.

In fact, we reduced shrink in the quarter by over $7 million more than we had previously planned and we continue to expect additional improvement as we move through the year. We’re beginning to see the benefits of improved management routines and standardized processes that we’ve implemented over the last few quarters as well as the benefits of more stabilized supply chains and labor force, with turnover in our distribution centers near a record low. Separately, we’re rapidly realizing our near-term value creation initiatives and continue to expect these will deliver about $150 million of operating efficiencies to our fiscal 2024 results. Importantly, some of these initiatives, particularly the wholesale efficiency actions we’ve taken, also helped lay the groundwork for our longer-term transformation aspirations, giving us increased confidence as we move down this path.

As we’ve delivered on these near-term goals, we’ve also been making early progress on our transformation plan with advancements on network optimization and automation during the quarter. We finished the consolidation of our Logan Township facility into our Allentown distribution center, which brings our fresh and conventional businesses in the region under one roof. Separately, we also finished the expansion of our automation system to our Carlisle DC, which expands its unit pick capabilities and is expected to support increased capacity and throughput. Additionally, we continue to augment our management team by recruiting a new CEO for our retail business and a new Chief Information Officer, both of whom have helped lead successful transformations previously.

We also completed the onboarding of three new Board members during the quarter and held our first Board meeting since they joined us just last week. Their input was proactive and constructive and we strongly believe the perspectives of our new members will add meaningful value. I also want to thank our three departing directors for their contributions and their years of service to UNFI. While it’s still early in the year and in our transformation plan, we’re confident that we’re headed in the right direction to sustainably create value for our stakeholders, especially our customers, suppliers and shareholders. We remain focused on maintaining our operating and transformation momentum as we service our customers throughout the busy holiday season.

We will continue to drive operational improvement and transformation as quickly as possible. Given the tremendous long-term shareholder value creation opportunity that we see, by improving the economics of our business and enhancing the value we bring to customers and suppliers, we refuse to be incremental in our approach. With that, let me now turn the call over to John for his remarks. John?

John Howard: Thank you, Sandy, and good morning, everyone. As you heard from Sandy, our year has started ahead of our expectations and we’re reaffirming our full year outlook for sales, adjusted EBITDA, adjusted EPS, and capital and cloud implementation expenditures. This morning, I will provide commentary on first quarter results, our balance sheet and capital structure, and some considerations in our fiscal 2024 outlook. With that, let’s review our Q1 results. Turning to slide eight. Net sales increased by 0.3% to $7.6 billion, the largest first quarter sales result in our history. Wholesale growth reflected the benefit of inflation, which was nearly offset by a decline in units sold. Sales in our retail business declined by slightly more than 1% as we continued to be impacted by a difficult macro and industry environment.

As we announced in late October, we have a new CEO leading retail and remain optimistic that we’ll be able to work with our suppliers, franchisees and our associates to sustainably improve performance as we move forward. Flipping to slide nine, let’s now take a look at our profitability drivers this quarter. Our gross profit rate prior to the noncash LIFO charge in both years decreased by about 110 basis points, which was in line with our expectations. As we stated on our year-end call, we will be cycling the elevated procurement gains that benefited last year’s gross profit rate until the latter part of this year’s second quarter. As a reminder, these gains were driven by substantial supplier price increases that drove last year’s Q1 inflation rate to over 10%, which is markedly higher than this quarter’s rate of around 3%.

Partially offsetting the decline in procurement gains was improvement in shrink, which was the lowest we’ve experienced in the past seven quarters. Our operating cost as a percentage of sales were flat sequentially compared to the fourth quarter and were up 20 basis points compared with the first quarter of last year. We continue to invest in distribution center and transportation labor and in foundational initiatives of our transformation plan to provide the highest possible service levels for our customers. Importantly, within our distribution centers, the improvements in vacancy rates we’ve discussed on prior calls helped us finish the quarter with the lowest turnover rate in three years and the highest throughput rate in the past two years.

This stability in our supply chain is helping to drive tangible benefits in our operating performance. Adjusted EBITDA totaled $117 million or 1.5% of sales, compared to $207 million or 2.7% of sales last year, with the largest difference being the decline in gross profit dollars related to the previously mentioned decline in inflation-driven procurement gains. Within our retail segment, profitability in the quarter was pressured partially as a result of investments in gross margin intended to drive improvements in store traffic and basket size, which should benefit performance in future periods. Our GAAP loss was $0.67 per share, which included $0.63 in charges, primarily relating to the pending sale of our Eden Prairie, Minnesota corporate office, business transformation costs and LIFO.

Adjusting for these items, our adjusted EPS totaled a loss of $0.04, compared to income of $1.13 per share last year, with the largest driver of the change being the lower level of adjusted EBITDA. Moving to slide 10. We finished the quarter with total outstanding net debt of $2.29 billion, a $336 million increase compared to year-end. This reflects the usual first quarter investment in working capital as we add inventory going into the holiday selling season in support of our customers, as well as the impact of inflation on product costs. This expected seasonal increase in working capital historically converts to cash in the second and third quarters. We retained significant balance sheet flexibility with ample liquidity and no near-term maturities.

Importantly, we have significant optionality embedded in our balance sheet to enable expeditious debt repayment as we drive operational and financial improvement. We will continue to manage our debt structure consistent with optimizing our long-term credit profile. Turning to slide 11. As stated in our press release, we’re affirming our full year outlook for fiscal 2024. Net sales of $30.9 billion to $31.5 billion. Adjusted EBITDA of $450 million to $550 million, and adjusted EPS to be in the range of an $0.88 loss to $0.38 of adjusted earnings per share. Our outlook for fiscal ’24 capital and cloud implementation expenditures remains at approximately $400 million, including critical investments in our transformation plan, with the largest component going towards network optimization and automation.

This also includes investments to continue to improve our technology infrastructure as well as drive higher profitability and growth in the future. This reaffirmed outlook also balances our first quarter progress resetting and restoring profitability and our resilient new business pipeline with a macroeconomic and industry backdrop that remains challenging. We continue to expect inflation to decline and expect a recovery in unit volume to be somewhat prolonged. Additionally, we’ve seen some recovery in supplier sponsored promotions, which benefits our ecosystem as we work to implement promotions across our 30,000 plus customer locations, but this activity remains below its pre-pandemic peak. In terms of the cadence of our results, we expect adjusted EBITDA to be relatively similar to Q1 in our second quarter.

This reflects the challenging consumer and industry environment, incremental distribution network investments, including costs associated with the new DC ahead of its opening tied to our broader network optimization, as well as our continued efforts to reset and restore profitability. In summary, as outlined on slide 12, we’re reaffirming our full year guidance for net sales, adjusted EBITDA, adjusted EPS, and expect capital and cloud implementation expenditures to remain on pace with the critical investments in our transformation plan necessary to better service our customers and partner with suppliers, which in turn will drive shareholder value. We’re encouraged with the start to the fiscal year and the improvements we’re seeing within our operations, particularly with increased efficiency and effectiveness in our supply chain.

We remain assured in the business, our updated management team and Board of Directors’ ability to increase shareholder value. While it’s still early, we are gaining confidence in our ability to execute our strategy and believe there are still significant improvement opportunities ahead of us. We look forward to updating you on our progress in March. Operator, please open the line for questions.

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Q&A Session

Operator: Thank you. [Operator Instructions] Your first question comes from the line of Andrew Wolf of CL King. You may proceed.

Andrew Wolf: Thank you and good morning. My first question here is for Sandy. Regarding your statement in the release that you also said on the preamble, about not being content, or however you said it, with just incremental progress. Historically, to me, that means some more strategic changes, whether it’s restructurings or divestitures, what have you. Is that kind of what you’re referencing, or is it something else, maybe the speed of process change, for example?

Sandy Douglas: Good morning, Andy. Thanks for joining us today. I’m really speaking about what we see as the opportunity for improvement and the opportunity to create value for our customers, our suppliers and our shareholders. We talked before about the transformation agenda and the near-term profitability opportunities. And we just see significant opportunity to grow this business and to make it a lot more profitable. And so that’s all we’re talking about when we say that. And our plan includes a number of near-term actions as well as longer-term actions to capture that opportunity.

Andrew Wolf: Okay. Have you internally, I assume you have, sized out that opportunity and have a — could you give us a timetable when you might share that with?

Sandy Douglas: Yes. At this stage, we have actually built a longer-term sense of the opportunity. We’ve talked before about the addressable market from a growth perspective. And then from a profitability standpoint, we have milestones that we’ve set out. At this stage, we’re focusing on execution and step-by-step progress. And that’s the — what we’ve shared publicly. And as we grow our credibility and our execution capability, we’ll share more in the future.

Andrew Wolf: Thank you. Got that. John, the adjusted gross margin contraction, if I look at it sequentially, obviously, it improved a lot. Last quarter was about 170 bps, versus 110, so 60 basis points. Your better-than-expected shrink, I guess, was about 10 of that. Could you just unpack a little like what sequentially improved? Was it less of a drag on procurement? Or was the absolute, well, just what was in there, if you could and that’s my last question.

John Howard: Yes. No, I appreciate it, Andrew. You hit on the big piece, which is shrink as a key driver of that, particularly obviously in our margin. And then as we continue to improve our processes, et cetera, that Sandy mentioned, we’re seeing that improvement in our OpEx.

Operator: Thank you. Your next question comes from the line of John Heinbockel of Guggenheim. Your line is open.

John Heinbockel: Hey, Sandy, I want to start with — I know you guys have two buckets of TAM, right? Existing customers and new. Maybe talk about each of those. I always sort of look at the — I think it was $40 billion of existing is the real low-hanging fruit. And then kind of staging going after growth, right, do you want to be a little more reserved until you get some of the operational issues addressed, or your sales guys are trying to get as much business as they can now in this environment?

Sandy Douglas: John, the way I describe the addressable market is, as you said, it’s both new customers and expanding our business with existing customers. And I think I said before, I have a particular passion for expanding business with existing customers because it reflects the health of our execution and our relationships and tends to be more profitable. I would say that our sales organization is actively developing opportunities that are both profitable and good for the customers that we’re talking with. But our overall priority is improving profitability of the company and improving our ability to execute, which obviously is a virtuous cycle with gaining customers for the right reasons. So top focus is execution and profitability and profitable relationships with existing customers and new.

John Heinbockel: Okay. And then maybe a follow-up to that. The automation opportunity is big, right? So we are in the very early stages, right, of Centralia. So how is that progressing? And then do you have a — I think the thought was this would be gradual, right? This would take, for logistical reasons, multiple years. I don’t know if it was five years, but quite a number of years to get rolled out. Is there any additional thought on that? And you don’t want to be incremental, so you don’t want to kind of do half-baked approaches to automation.

Sandy Douglas: Sure. So we did talk about our first installation in Centralia, Washington, which is on schedule, and we’ve talked about the importance of automation to facilitate profitable growth as we go forward. We talked about the relationship that we’ve developed with Symbotic and the five DCs that we’ve contracted for, and I mentioned in my remarks, we’re also doing some other automation around each pick. And all of that is being done systematically to take advantage of high-return projects that drive a combination of better execution for customers and good financial returns. The parallel initiative in that strategy is optimizing our DC network, which will obviously drive more efficient growth and better returns on capital.

And the two go hand-in-hand. And as we mentioned, we have to see a significant opportunity as those two elements of the supply chain strategy work to drive more profitable growth. In the quarter, we actually made some progress in closing down the Logan Township DC and moving that inventory into Allentown, and we automated the Carlisle DC for each pick. So we’re beginning to take steps along the path, and we see it as a significant opportunity to improve profitability and efficient growth going forward.

John Heinbockel: Thank you.

Operator: Your next question comes from the line of Mark Carden of UBS. Your line is open.