UNITED NATURAL FOODS INC quarterly report, Q1 FY2021

United Natural Foods, Inc. — Fiscal 2021 First-Quarter 10-Q Summary

Business Context and Reporting Period

UNFI distributes natural, organic, specialty, produce and conventional grocery and non-food products and provides retailer support services in the United States and Canada. The filing covers the 13-week quarter ended October 31, 2020, compared with the 13-week quarter ended November 2, 2019. Reportable segments are Wholesale and Retail, with additional activities reported in Other.

Retail, including the Cub Foods business and most remaining Shoppers locations, was reclassified from discontinued operations to continuing operations beginning in the fourth quarter of fiscal 2020. Prior periods were conformed. Five Shoppers locations remained classified as discontinued operations at October 31, 2020.

Financial Performance and Key Metrics

Metric	Q1 FY2021	Q1 FY2020	Change
Net sales	$6.673 billion	$6.297 billion	6.0% increase
Gross profit	$966.5 million	$907.2 million	6.5% increase
Gross margin	14.48%	14.41%	7 basis-point increase
Operating expenses	$901.0 million	$883.7 million	2.0% increase
Operating income (loss)	$49.3 million	$(416.5) million	$465.8 million improvement
Net loss attributable to UNFI	$(1.0) million	$(383.9) million	$382.9 million improvement
Diluted loss per share	$(0.02)	$(7.21)	Improved
Adjusted EBITDA	$159.0 million	$121.7 million	$37.3 million increase

Wholesale sales increased 6.0% to $6.431 billion and Wholesale Adjusted EBITDA increased 16% to $123.0 million. Retail sales increased 15.5% to $594.9 million, supported by a 15.7% increase in identical-store sales, while Retail Adjusted EBITDA increased 130% to $24.3 million. Other sales declined 14.5% to $55.6 million, primarily because foodservice sales fell 41%, or $48 million.

Operating results benefited from higher food-at-home demand during the COVID-19 pandemic, cross-selling and fixed-cost leverage. The prior-year period included $425.4 million of goodwill and asset impairment charges, including a $421.5 million goodwill impairment charge related to the U.S. Wholesale reporting unit. Fiscal 2021 included $16.4 million of restructuring, acquisition and integration expenses and $23.8 million of debt extinguishment losses.

Cash Flow, Balance Sheet, Debt and Liquidity

• Cash flow used in operating activities was $57.7 million, including $55.2 million from continuing operations, compared with $134.9 million used in the prior-year quarter.
• Capital expenditures were $41.4 million, compared with $45.0 million. Management expects fiscal 2021 capital spending of approximately $250 million to $300 million.
• Cash and cash equivalents were $49.0 million at October 31, 2020, compared with $47.0 million at August 1, 2020.
• Total debt, including the current portion, was $2.633 billion, up from $2.498 billion at August 1, 2020. Long-term debt was $2.621 billion.
• Liquidity was approximately $1.06 billion, consisting of $49.0 million of cash and $1.008 billion of unused ABL capacity.
• The ABL Credit Facility had total availability of approximately $2.092 billion, $986.7 million of borrowings, $97.2 million of outstanding letters of credit and $1.008 billion of remaining availability.
• UNFI issued $500 million of 6.750% senior unsecured notes due October 15, 2028. Proceeds, together with ABL borrowings, funded a $500 million Term Loan prepayment.
• UNFI made $608 million of Term Loan prepayments during the quarter, including a $72 million mandatory payment related to fiscal 2020 excess cash flow and a $36 million voluntary prepayment.
• After quarter-end, UNFI made an additional $150 million voluntary Term Loan prepayment funded with ABL borrowings. The company expects an accelerated financing-fee and original-issue-discount charge in the second quarter of fiscal 2021.
• UNFI had $1.486 billion of interest-rate swap notional outstanding, with fixed rates ranging from 1.795% to 2.959% and maturities from 2022 through 2025.

Material Changes Versus the Prior Comparable Period

• Sales growth reflected elevated grocery demand, higher average baskets and increased e-commerce activity associated with COVID-19, partly offset by previously lost customers and stores.
• Gross margin improved modestly, primarily because of Retail’s lower promotional spending and larger contribution to consolidated sales; lower supplier-related income reduced Wholesale margin.
• Operating expense leverage improved the operating expense ratio to 13.50% from 14.03%, despite higher distribution-center startup costs and increased share-based compensation.
• The prior-year goodwill impairment did not recur, driving the substantial improvement in operating income and net loss.
• Interest expense increased to $69.1 million from $49.7 million, primarily because of $23.8 million of debt extinguishment losses, despite lower underlying interest expense on long-term debt.
• Accounts receivable increased to $1.166 billion and inventories increased to $2.447 billion, reflecting sales growth and seasonal working-capital needs.
• Accumulated other comprehensive loss improved to $225.7 million from $237.9 million, mainly due to interest-rate swap gains.

Guidance, Outlook, Commentary and Risks

• Management expects continued benefits from higher food-at-home expenditures, e-commerce adoption, cross-selling, scale and Supervalu integration, but stated that COVID-related sales and margin benefits have moderated from the initial onset.
• UNFI announced a 10-year supply agreement with Key Food, a 315-store cooperative, with expected sales of approximately $10 billion over the term.
• The company continues to serve Whole Foods Market under a distribution agreement expiring September 28, 2025.
• Management intends to divest the Retail operations over time but cannot reasonably estimate the related costs. Potential costs include multiemployer pension withdrawal liabilities, severance, store closures and other restructuring charges.
• UNFI expects additional advisory, integration and distribution-center integration costs during fiscal 2021.
• Management expects to fund near-term debt maturities through fiscal 2023 with internally generated funds, asset-sale proceeds or ABL borrowings. No dividend is currently paid or planned.
• Key risks include the severity and duration of COVID-19, customer concentration, low operating margins, competition, loss or financial stress of customers, supply-chain disruptions, fuel and foreign-exchange volatility, interest-rate exposure, additional impairments, technology implementation, labor matters and execution of Retail divestitures.
• Legal matters include opioid-related litigation and an appealed False Claims Act case alleging more than $100 million of damages before trebling and penalties. No material accrual was recorded for these proceedings.
• Guarantees related to retailer leases and financing obligations had a maximum undiscounted exposure of $31.3 million; the recorded estimated loss was $1.0 million.
• Non-cancelable future purchase obligations were approximately $203 million. Fiscal 2021 multiemployer pension contributions are expected to be approximately $45 million, subject to various factors.

Important Facts for Investors to Verify

• Confirm the effect of reclassifying Retail from discontinued to continuing operations when comparing historical results.
• Evaluate recurring operating performance excluding the prior-year goodwill impairment, current-year restructuring costs and debt extinguishment charges.
• Monitor operating cash flow, seasonal inventory and receivables growth, ABL availability and the company’s ability to reduce leverage.
• Assess the sustainability of COVID-related demand, foodservice weakness and the effect of changing product mix on gross margin.
• Track the timing, proceeds, supply agreements and potential pension, severance and stranded-cost liabilities associated with Retail divestitures.
• Review the additional $150 million Term Loan prepayment and the expected second-quarter accelerated financing-cost charge.
• Assess exposure to Whole Foods customer concentration, interest-rate swaps and the potential cessation of LIBOR.
• Review developments in the opioid litigation, False Claims Act appeal, multiemployer pension plans and other contingent liabilities.