Lamb Weston Holdings, Inc. — Form 10-Q Summary
Reporting period: Fiscal 2017 third quarter, the 13 weeks ended February 26, 2017, and year to date, the 39 weeks ended February 26, 2017. The filing compares these periods with the corresponding periods ended February 28, 2016. Although the request labels this “2016 Q3,” the filing covers fiscal 2017 Q3.
Business context
Lamb Weston produces and markets value-added frozen potato products, with four reportable segments: Global, Foodservice, Retail, and Other. It became an independent, publicly traded company after separating from Conagra on November 9, 2016. Accordingly, prior-period results reflect the business as part of Conagra and may not represent stand-alone costs or results.
Financial performance
| Metric | Q3 FY2017 | Q3 FY2016 | 39 weeks FY2017 | 39 weeks FY2016 |
|---|---|---|---|---|
| Net sales | $768.5 million | $728.7 million | $2,335.5 million | $2,216.8 million |
| Gross profit | $207.0 million | $181.9 million | $586.5 million | $485.0 million |
| Income from operations | $145.2 million | $127.3 million | $395.7 million | $321.4 million |
| Net income attributable to Lamb Weston | $84.2 million | $107.4 million | $251.0 million | $242.7 million |
| Diluted EPS | $0.57 | $0.71 | $1.70 | $1.63 |
| Adjusted EBITDA including unconsolidated joint ventures | $190.8 million | $171.8 million | $530.7 million | $436.2 million |
Quarterly sales rose 5%, operating income 14%, and gross margin increased to approximately 26.9% from 25.0%. For the 39-week period, sales rose 5%, operating income 23%, and gross margin increased to approximately 25.1% from 21.9%. Operating margin was approximately 18.9% versus 17.5% for the quarter, and 16.9% versus 14.5% year to date.
Quarterly attributable net income fell about 22%, chiefly reflecting sharply higher interest expense following the separation, lower equity-method earnings, and higher stand-alone and incentive-compensation costs. Year-to-date attributable net income rose about 3%. Adjusted EBITDA including unconsolidated joint ventures increased 11% for the quarter and 22% year to date.
Cash flow and liquidity: Year-to-date operating cash flow was $254.1 million, versus $221.1 million; capital expenditures were $204.5 million, versus $108.6 million; and cash used in investing was $202.5 million. Cash increased $1.1 million to $37.5 million. The company had $432.2 million of available revolving-credit capacity, net of letters of credit. Management said cash, operating cash flow, available borrowing capacity, and capital-market access should cover requirements, including declared dividends, for at least 12 months.
Debt and balance sheet: Total debt and financing obligations were $2,549.3 million, including $2,380.3 million of debt and $76.5 million of financing obligations; long-term debt, net of issuance costs and current portions, was $2,372.7 million. Total debt and financing obligations were $143.0 million at May 29, 2016. The company reported a $701.6 million stockholders’ deficit after the separation. It was in compliance with credit-agreement covenants at quarter-end. Interest expense was $26.3 million for the quarter and $34.5 million year to date.
Material changes and notable items
- Sales growth was supported by favorable pricing and product/customer mix, volume gains in Global and Foodservice, and supply-chain efficiencies. Foodservice quarterly sales increased 10%; Global sales increased 3%.
- Q3 equity-method investment earnings were $12.7 million, down from $36.1 million. The prior-year comparison included a $17.7 million noncash pension-settlement gain at the Lamb-Weston/Meijer joint venture; higher European raw potato costs also reduced current-period earnings.
- Separation-related expenses were $5.1 million in Q3 and $23.8 million year to date, primarily professional fees. The company also incurred higher ongoing costs as a stand-alone public company.
- In connection with the separation, the company issued $2.341 billion of debt and paid Conagra $823.5 million in cash. The new debt materially increased interest expense and leverage.
- Capital spending supported plant expansions in Boardman, Oregon, and Richland, Washington. Property, plant, and equipment additions were $204.5 million year to date.
Outlook, risks, and contingencies
Management expected favorable conditions for the remainder of fiscal 2017, citing continued volume-demand growth and high industry manufacturing-capacity utilization. It expected higher input costs and a lower gross margin in Q4 than Q3, consistent with seasonal patterns. Fiscal 2017 effective tax rate guidance was 33%–34%, excluding unanticipated unusual tax items. The filing provides no specific full-year revenue or earnings guidance.
Key stated risks include competition and market conditions; raw-material availability and prices; foreign exchange, interest rates, and international operating conditions; customer and grower relationships; joint-venture performance; execution of capital projects and growth strategy; debt levels; labor, pension, regulatory, litigation, and product-recall matters; and the ability to pay future dividends. A 1% increase in rates on variable-rate debt would raise annual interest expense by approximately $7.9 million. Commodity-price movements may affect earnings, although management said changes in derivative values would be substantially offset by changes in underlying hedged items.
The company disclosed grower-loan guarantees of $7.3 million and tax-credit guarantees with a face value of $26.7 million; management considered required performance under both remote and recorded no liability. It also described put-option and production-shortfall exposures related to Lamb Weston BSW, and joint-and-several liability for Lamb-Weston/Meijer obligations; management did not expect material losses from these exposures. Ordinary-course legal proceedings were not expected to have a material adverse effect. Management reported effective disclosure controls and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether pricing, mix, volume growth, and supply-chain savings continued to offset input-cost inflation after Q3.
- Post-separation profitability and cash generation, recognizing that historical periods include Conagra allocations and are not necessarily comparable to stand-alone results.
- Debt-service capacity, variable-rate exposure, covenant headroom, and the use of remaining revolving-credit availability.
- Timing, cost, and expected returns of the Boardman and Richland expansions and the company’s other capacity projects.
- Joint-venture earnings and the potential financial effects of the Lamb Weston BSW put option, production shortfalls, and related guarantees.
- Whether Q4 margin seasonality and the 33%–34% tax-rate outlook were consistent with subsequent results.