United Natural Foods, Inc. — Fiscal 2011 First-Quarter Form 10-Q
Reporting period: Three months ended October 30, 2010, compared with three months ended October 31, 2009. The company distributes and retails natural, organic and specialty products in the United States and Canada, serving more than 23,000 customer locations. The interim financial statements are unaudited.
Financial Performance and Position
| Metric | Q1 FY2011 | Q1 FY2010 | Change |
|---|---|---|---|
| Net sales | $1,053.0 million | $884.8 million | +19.0% |
| Gross profit | $192.3 million | $164.6 million | +16.8% |
| Gross margin | 18.3% | 18.6% | Down 30 basis points |
| Operating income | $29.7 million | $27.2 million | +9.1% |
| Operating margin | 2.8% | 3.1% | Down 30 basis points |
| Net income | $17.4 million | $15.5 million | +12.0% |
| Diluted EPS | $0.39 | $0.36 | +8.3% |
| Cash flow from operations | $(32.9) million | $17.5 million | Down $50.4 million |
Sales growth reflected organic wholesale growth, new conventional-supermarket customers, $44.7 million of sales from UNFI Canada, and approximately $14.7 million of incremental Whole Foods Market sales from the Southwest and Rocky Mountain expansion. Whole Foods Market represented approximately 35% of sales, compared with 33% in the prior-year quarter.
Operating expenses increased 18.4% to $162.7 million but declined slightly as a percentage of sales. Expenses included approximately $1.9 million of Lancaster, Texas start-up and duplicate labor costs, $0.6 million of executive severance, and $0.2 million of intangible impairment charges. Share-based compensation was $2.7 million versus $2.1 million.
At October 30, 2010, cash and cash equivalents were $10.7 million. Working capital was $336.6 million, up from $194.2 million at July 31, 2010. The increase in working capital was driven largely by higher receivables and inventory.
| Balance-sheet item | October 30, 2010 | July 31, 2010 |
|---|---|---|
| Total assets | $1,393.7 million | $1,250.8 million |
| Inventory | $536.7 million | $439.7 million |
| Notes payable | $146.1 million | $242.6 million |
| Long-term debt, including current portion | $52.2 million | $53.5 million |
| Stockholders’ equity | $789.8 million | $630.4 million |
Material Changes Versus the Prior Comparable Period
- Net sales increased $168.2 million, with the strongest growth in the supernatural chain and conventional supermarket channels. Conventional-supermarket sales increased approximately 31%, while independent-retailer sales increased approximately 11%.
- Gross and operating margins declined because of a less favorable channel mix, initial Lancaster facility costs, and other unusual operating charges.
- Operating cash flow turned negative because of a $90.1 million inventory build and a $36.8 million increase in accounts receivable, partially offset by a $50.6 million increase in accounts payable.
- The company completed a secondary offering of 4,427,500 shares at $33.00 per share, generating approximately $138.3 million of net proceeds. Proceeds were used primarily to repay revolving-credit borrowings and support the Whole Foods Distribution transaction.
- The company acquired Whole Foods Distribution’s Rocky Mountain and Southwest distribution assets and became Whole Foods Market’s primary distributor in those regions. Management expects approximately $160 million of incremental annual Whole Foods Market revenue from the transaction.
- The company continued integrating the Canadian SunOpta Distribution Group assets acquired in June 2010. Canadian acquisition-related sales were $44.7 million in the quarter.
- Net cash used in investing activities was $29.4 million, including $21.8 million for acquired businesses and $7.5 million of capital expenditures.
Liquidity, Debt and Cash Flow
The company had a $400 million secured revolving credit facility maturing November 27, 2012. At October 30, 2010, borrowings were $146.1 million, letter-of-credit commitments were $20.0 million, and reported remaining availability was approximately $233.9 million. The company also had $50.6 million outstanding under a term loan agreement.
The company was in compliance with its fixed-charge coverage covenants at quarter-end. It used an interest-rate swap to fix the effective rate on approximately $50 million of variable-rate debt at 5.70%. The swap had a fair-value liability of $2.3 million at October 30, 2010.
Management stated that cash on hand and available borrowing capacity were sufficient for operations and planned capital expenditures over the next twelve months. It expected $30 million to $50 million of annual operating cash flow in fiscal 2011 and fiscal 2012, planned fiscal 2011 capital expenditures of $42 million to $45 million, and intended to limit capital expenditures to approximately 1% of sales in fiscal 2011 and 2012.
Outlook, Commentary, Risks and Unusual Items
Management expected fiscal 2011 sales to improve over fiscal 2010, supported by new customers, expanded Whole Foods distribution, Canadian operations and additional product sales to existing customers. It expected growth to be concentrated in lower-gross-margin supernatural and conventional-supermarket channels.
Management characterized the Lancaster start-up difficulties and related costs as a short-term issue and expected supply-chain, warehouse-management and procurement-system improvements to reduce operating expenses over time. The new system was launched at Lancaster and was expected to be implemented across distribution centers by the end of calendar 2012.
- Key risks include dependence on major customers, particularly Whole Foods Market; low industry margins; economic and consumer-spending conditions; inflation; fuel costs; execution of the Canadian operations; acquisitions and integration; warehouse-management-system implementation; and capital-allocation decisions.
- The company had fixed-price fuel purchase agreements covering approximately 2.8 million gallons through July 2011, at prices ranging from $2.27 to $2.93 per gallon.
- Routine litigation was not expected to have a material adverse effect. The filing reported no material changes to previously disclosed risk factors or contractual obligations.
- The company reported no share repurchases during the quarter, and its prior repurchase authorization had expired.
- Management stated that disclosure controls were effective and that no material change had occurred in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether the Whole Foods regional expansion reaches the expected approximately $160 million of annual incremental revenue and produces targeted efficiencies.
- Whether Lancaster start-up costs and service issues normalize without further margin pressure.
- Whether inventory and receivables growth converts into operating cash flow and avoids working-capital strain.
- Whether lower-margin channel growth can be offset by supply-chain and technology efficiencies.
- Customer concentration, including Whole Foods Market’s approximately 35% share of quarterly sales and the distribution agreement’s expiration in September 2020.
- Availability, covenant compliance and refinancing requirements under the revolving facility and term loan before their 2012 maturities.
- Execution and remaining purchase-accounting issues related to the Canadian acquisition and other acquired businesses.