SYSCO CORP quarterly report, Q3 FY2017

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Business context and reporting period

Sysco Corporation distributes food and related products to foodservice customers in North America and Europe. This is the 10-Q for the 13 weeks ended April 1, 2017, and the first 39 weeks of fiscal 2017—not fiscal 2016 Q3 as stated in the request metadata. Comparisons are with the corresponding periods ended March 26, 2016.

Results include Brakes Group, acquired July 5, 2016. Accordingly, reported year-over-year growth reflects both the acquisition and underlying performance; management also presents non-GAAP comparisons excluding Brakes and specified “Certain Items.”

Financial performance and position

  • Quarter: Sales were $13.52 billion, up 12.7%; gross profit was $2.53 billion, up 18.3%; operating income was $436.0 million, up 15.5%; net earnings were $238.3 million, up 9.7%. Diluted EPS was $0.44, up from $0.38.
  • First 39 weeks: Sales were $40.95 billion, up 11.5%; operating income was $1.50 billion, up 14.7%; net earnings were $837.3 million, up 14.1%. Diluted EPS was $1.52 versus $1.26.
  • Margins: Consolidated gross margin was 18.7% versus 17.9% for the quarter; operating margin was 3.2% versus 3.1%. For 39 weeks, gross margin was 19.0% versus 17.8%, and operating margin was 3.7% versus 3.6%.
  • Cash flow: 39-week operating cash flow was $1.025 billion versus $989.0 million. Capital expenditures were $413.8 million; company-defined free cash flow was $630.1 million versus $640.7 million.
  • Liquidity and debt: At April 1, cash was $855.1 million, down from $3.92 billion at fiscal year-end, primarily reflecting the Brakes acquisition and other cash uses. Current assets were $8.33 billion and current liabilities $5.73 billion (current ratio approximately 1.45). Debt was approximately $8.55 billion, including $1.3 billion of commercial paper classified as long-term; $500 million of 5.25% notes mature in February 2018. About 59% of debt was fixed-rate, including swaps.
  • Capital returns: Sysco repurchased 29.1 million shares for $1.5 billion in the first 39 weeks and paid $521.8 million in dividends. Quarterly declared dividend was $0.33 per share.

Material changes and management commentary

  • Brakes contributed $1.2 billion of quarterly sales and $3.9 billion of 39-week sales. Its reported net earnings were $3.0 million for the quarter and $53.7 million for the 39 weeks; the filing notes that acquisition financing interest is not included in those Brakes operating results.
  • Excluding Brakes, adjusted sales increased 2.3% for the quarter and 1.0% for the 39 weeks. Adjusted diluted EPS excluding Brakes was $0.50 for the quarter, up 8.7%, and $1.64 for the 39 weeks, up 12.2%. These are non-GAAP measures.
  • Management cited local customer case growth, gross profit growth exceeding expense growth, productivity gains, and administrative cost reductions. U.S. Foodservice operating income rose 7.1% for the quarter and 8.2% for the 39 weeks. SYGMA operating income declined in both periods amid higher expenses.
  • Deflation was 0.3% for the quarter and 1.7% for the 39 weeks. Management anticipated modest overall inflation in Q4 as meat-price deflation eased and dairy and produce prices rose.
  • Sysco raised its three-year adjusted operating-income improvement target for existing businesses, excluding Brakes, from at least $500 million to approximately $600–$650 million by the end of fiscal 2018; management expects most of the incremental improvement in fiscal 2018. It expects the Brakes acquisition to be modestly accretive in fiscal 2017, with acceleration in fiscal 2018 and beyond.

Outlook, risks and unusual items

  • Management expects operating cash flows, available commercial-paper and credit facilities, and access to capital markets to meet anticipated cash needs for the next 12 months. It estimated fiscal 2017 capital expenditures, net of asset-sale proceeds, at approximately 1.0%–1.1% of sales.
  • In May 2017, after quarter-end, a subsidiary voluntarily withdrew from a multiemployer pension plan and recorded a $35.6 million withdrawal liability. The estimate may change; a mass withdrawal within the specified period could create additional liability.
  • 39-week results included $118.4 million of restructuring costs and $71.4 million of acquisition-related costs, among other adjustments used in management’s non-GAAP measures. The prior-year comparison included costs related to the abandoned US Foods merger, including an $86.5 million debt-redemption loss.
  • Key disclosed risks include food-cost inflation or deflation, competition and customer retention, execution and integration of Brakes, leverage and access to borrowing, Brexit-related uncertainty, labor and pension obligations, and technology or cybersecurity disruption. Management said pending legal matters were not expected to have a material adverse effect, while noting outcomes cannot be predicted with certainty.
  • Management concluded disclosure controls were effective at the reasonable-assurance level. Brakes’ internal controls were excluded from the assessment in the acquisition year.

Important facts for investors to verify

  1. Confirm the period: the filing is for fiscal 2017 Q3, ended April 1, 2017, despite the request metadata stating 2016 Q3.
  2. Separate Brakes’ contribution and acquisition financing effects from legacy-business results; review the company’s non-GAAP reconciliations and assumptions.
  3. Assess post-acquisition leverage, commercial-paper reliance, liquidity, and the planned funding of the February 2018 note maturity.
  4. Track whether the raised fiscal 2018 adjusted operating-income target and expected Brakes accretion are achieved, including the timing of anticipated improvements.
  5. Monitor the $35.6 million pension withdrawal liability, possible revisions, and any additional multiemployer-plan exposure.
  6. Evaluate working-capital movements, cash conversion, capital spending, share repurchases, and the effect of inflation or deflation on sales and margins.