Sprouts Farmers Market, Inc. — Q2 2016 Form 10-Q
Reporting period: 13 weeks ended July 3, 2016; year-to-date figures cover 26 weeks. Comparisons are with the periods ended June 28, 2015. Amounts below are in millions unless otherwise indicated.
Business context and performance
Sprouts operated 240 stores in 13 states at quarter-end, selling fresh, natural and organic groceries. Management attributed growth to new stores and comparable-store sales. The business is modestly seasonal, with sales typically strongest in the first half of the fiscal year.
| Metric | Q2 2016 | Q2 2015 | 26 weeks 2016 | 26 weeks 2015 |
|---|---|---|---|---|
| Net sales | $1,031.6 | $902.2 | $2,024.9 | $1,759.7 |
| Comparable-store sales growth | 4.1% | 5.1% | 4.4% | 4.9% |
| Gross profit | $305.8 | $263.6 | $612.3 | $521.4 |
| Gross margin | 29.6% | 29.2% | 30.2% | 29.6% |
| Income from operations | $63.5 | $60.0 | $141.3 | $126.6 |
| Net income | $37.2 | $31.3 | $83.4 | $68.8 |
| Diluted earnings per share | $0.25 | $0.20 | $0.55 | $0.44 |
Financial position, cash flow and capital
- Margins and expenses: Gross margin improved 0.4 percentage points in Q2 and 0.6 points year to date. Management cited category-level deflation and, in Q2, improved shrink. Direct-store expenses rose to 20.1% of sales in Q2 from 19.7%, mainly due to planned wage increases and training costs. SG&A rose to 3.0% of sales from 2.6%, including growth-related advertising, payroll and higher equity compensation.
- Cash flow: Year-to-date operating cash flow was $147.9, versus $120.9 in 2015; investing cash outflow was $84.9, versus $74.5. Financing cash outflow was $120.7, including $124.3 of share repurchases. Cash declined to $78.4 at July 3 from $136.1 at January 3.
- Debt and liquidity: Long-term debt was $160.0, unchanged from January 3, under a $450.0 revolving credit facility maturing in April 2020. No revolving borrowings were reported during the first half of 2016; $1.7 of letters of credit reduced facility availability. The company reported compliance with its financial covenants. Management said cash and anticipated operating cash flow should cover expected needs for at least 12 months.
- Lease commitments: Estimated future operating lease payments totaled $1,344.6; capital and financing lease payments totaled $141.0. These are contractual payments, not balance-sheet debt amounts.
- Repurchases: The $150 million authorization was completed in Q2. The company repurchased 4.98 million shares for $124.3 year to date, including 2.55 million shares for $65.0 in Q2.
Changes versus prior year and unusual items
- Sales grew 14% in Q2 and 15% year to date, while comparable-store growth moderated to 4.1% and 4.4%, respectively, from 5.1% and 4.9%.
- Year-to-date net income increased 21%; results benefited from sales and gross-margin growth, lower interest expense, and the absence of the prior-year $5.5 debt-extinguishment loss. Higher payroll, advertising and equity-compensation expense partly offset these gains.
- The company opened 23 stores in the first half, compared with 18 in the prior-year period; Q2 openings were 12 versus 8.
Outlook, risks and contingencies
- Management planned 36 store openings for fiscal 2016; 26 had opened as of the report date. It stated an objective of 14% annual new-store growth for at least five years. Fiscal 2016 capital expenditures were expected to be $155–$165, net of estimated landlord tenant-improvement allowances. No specific earnings or comparable-sales forecast was provided in the filing text.
- Management cited food-price inflation or deflation, competitive pricing, consumer trends, execution of new-store expansion, labor costs and operating estimates as factors that may affect results. A 100-basis-point change in LIBOR would change annual interest expense by approximately $1.6 at the period-end debt balance.
- Two material class-action matters were described: a securities lawsuit alleging inadequate disclosure of produce-price deflation in the 2015 secondary offering, and four lawsuits alleging improper safeguarding of team members’ personal information after a phishing incident. The company said outcomes and potential liabilities could not then be reasonably estimated.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether comparable-store growth and gross-margin trends continued after the first half, and the drivers of store-level labor-cost increases.
- Actual store-opening pace and capital spending against the 36-store and $155–$165 plans.
- Cash generation, repurchase funding, remaining credit-facility availability and compliance with debt covenants.
- Developments in the securities and phishing-related lawsuits, including any change in estimated exposure.
- Reported share counts vary within the filing: the balance sheet lists 148.424 million shares outstanding at July 3, while the equity roll-forward lists 148.139 million. Verify the correct period-end share count.