Seneca Foods Corp quarterly report, Q1 FY2018

Business context and reporting period

Seneca Foods Corporation is a packaged fruit and vegetable producer, selling canned, frozen and bottled produce and snack products through its brands, private labels and foodservice and industrial channels. This unaudited report covers the first quarter of fiscal 2018, the three months ended July 1, 2017; comparisons are with the three months ended July 2, 2016. Results for this seasonal quarter are not necessarily indicative of the full year.

Financial performance and liquidity

• Gross margin fell to 5.6% from 7.9%; operating margin declined to 0.3% from 0.6%. Net sales rose 10.9%, while costs and expenses increased nearly as much as sales.
• Cash and equivalents were $15.8 million. Working capital was $567.7 million and the current ratio was 4.46.
• Long-term debt, including its current portion, totaled $358.1 million; capital lease obligations, including their current portion, totaled $43.6 million. The Revolver balance was $226.0 million at an approximately 2.5% rate. Revolver capacity was $400 million through July and $500 million from August through March. The company reported compliance with financial covenants.
• Investing activities used $21.4 million, including $14.4 million paid for the Truitt acquisition and $8.7 million in property and equipment additions. Cash increased $3.8 million during the quarter.

Material changes versus the prior comparable period

• Sales increased $27.6 million, primarily reflecting $21.7 million of Truitt sales and higher canned vegetable and frozen sales; canned fruit sales declined $9.3 million. Higher volume contributed $28.6 million, partly offset by $1.0 million from lower prices and unfavorable mix.
• Gross margin contracted primarily because of lower net selling prices and a larger LIFO charge, partly offset by lower unit costs. The LIFO charge was $7.4 million versus $1.9 million; management said the increase reflected expected fiscal 2018 cost inflation.
• Interest expense increased to $3.2 million from $2.1 million, reflecting higher Revolver borrowing costs associated with the acquisition and prior-period inventory and stock purchases.
• Inventory increased $46.7 million year over year to $633.5 million, including $16.1 million attributable to Truitt; the filing attributes much of the finished-goods increase to a higher calendar-year pack.

Outlook, commentary, risks and unusual items

• No specific earnings or revenue guidance is provided. Management expects operating cash flows, Revolver availability and other financing sources to meet working-capital needs, planned capital expenditures and debt obligations for at least the next 12 months.
• In April 2017, Seneca acquired the remaining 50% of Truitt Bros. for approximately $14.4 million net of acquired cash, plus assumed liabilities, and consolidated the business. The acquisition generated a $1.1 million non-taxable bargain purchase gain; cost of sales included a $0.5 million charge for acquired-inventory step-up. The transaction was financed through the Revolver.
• Other operating income included a $1.6 million gain on unused asset sales, including $1.1 million from a closed Midwest plant. The quarter also included an $81,000 restructuring charge related to a previously closed Northwest plant.
• Key stated risks include commodity and packaging costs and availability, weather and crop yields, transportation costs, interest rates and financing access, leverage, competition, customer concentration, consumer preferences, regulation and product liability. Management also cautions that seasonal sales are typically higher in the second and third fiscal quarters.
• The company is evaluating the impact of new revenue-recognition and lease accounting standards. It expects lease adoption to result in right-of-use assets and lease liabilities that could be material.

Important facts for investors to verify

• Whether sales growth and Truitt integration can offset lower pricing, unfavorable mix and the elevated LIFO charge.
• How inventory levels, seasonal working-capital requirements and Revolver borrowings evolve through the crop and sales cycles.
• The sustainability of operating cash generation and the effect of debt and lease obligations on interest expense and liquidity.
• The acquisition’s realized operating contribution, purchase accounting and any integration or control issues; management said it was evaluating Truitt’s internal controls.
• The accounting and cash-flow significance of bill-and-hold sales to B&G; the quarter included $6.0 million of such sales, and management stated it believed the recognition criteria were met.