United Natural Foods, Inc. — Fiscal 2020 Second-Quarter Form 10-Q
Reporting period: The filing covers the 13-week quarter ended February 1, 2020, and year-to-date 26-week period. Prior-year comparables ended January 26, 2019. UNFI distributes natural, organic, specialty, produce and conventional grocery and non-food products in the United States and Canada. Results include the October 2018 Supervalu acquisition, while acquired retail operations are presented as discontinued operations.
Financial performance and key metrics
| Metric | Q2 FY2020 | Q2 FY2019 | 26-week FY2020 | 26-week FY2019 |
|---|---|---|---|---|
| Net sales | $6.138 billion | $6.149 billion | $12.157 billion | $9.017 billion |
| Gross profit | $775.5 million | $761.8 million | $1.547 billion | $1.174 billion |
| Gross margin | 12.63% | 12.39% | 12.72% | 13.02% |
| Operating loss | $5.1 million | $408.1 million | $449.1 million | $427.0 million |
| Net loss attributable to UNFI | $30.7 million | $341.7 million | $414.6 million | $361.0 million |
| Diluted loss per share | $0.57 | $6.72 | $7.77 | $7.12 |
| Adjusted EBITDA | $131.1 million | $142.6 million | $252.8 million | $228.8 million |
Second-quarter sales declined 0.2%, while gross profit increased 1.8% and gross margin expanded 24 basis points, primarily from lower inbound freight costs. Operating expenses were $750.8 million, or 12.23% of sales, unchanged as a percentage of sales. Expenses included approximately $28.9 million of customer bankruptcy bad-debt expense.
Year-to-date sales increased 34.8%, primarily because fiscal 2020 included a full comparable period of Supervalu operations. Excluding approximately $3.08 billion of incremental first-quarter Supervalu sales, sales increased approximately 0.7%. Year-to-date gross margin contracted 30 basis points because of lower conventional-product margins and mix dilution from faster growth in the higher-volume supernatural channel.
Cash flow, balance sheet, debt and liquidity
- Cash flow from continuing operations was negative $8.9 million year-to-date, compared with negative $0.04 million in the prior-year period. Total operating cash flow, including discontinued operations, was $39.1 million.
- Capital expenditures were $84.6 million year-to-date versus $80.1 million, and total investing cash flow was negative $57.7 million versus negative $2.149 billion in the prior year, when Supervalu was acquired.
- Cash and cash equivalents were $40.1 million at February 1, 2020, down from $42.4 million at August 3, 2019. Working capital was $1.460 billion.
- Total debt, including the current portion, was $2.936 billion, compared with $2.906 billion at fiscal 2019 year-end. Long-term debt was $2.917 billion, excluding current maturities.
- The ABL facility had $2.088 billion of availability, $1.187 billion of U.S. borrowings, $76.8 million of letters of credit and $824.1 million of remaining availability.
- The company repaid the 364-day term loan in the first quarter. Management reported no material scheduled debt maturities until fiscal 2024, although mandatory prepayments may be required under specified conditions.
- Approximately $2.10 billion of debt was hedged through pay-fixed, receive-floating interest-rate swaps. The swaps had a net liability of approximately $87.0 million.
Material changes versus the prior comparable period
- Q2 operating loss improved by $403.1 million because the prior-year quarter included a $370.9 million goodwill impairment charge and higher restructuring and integration costs.
- Fiscal 2020 year-to-date results included $425.4 million of goodwill and asset impairment charges, including a $421.5 million impairment of U.S. Wholesale goodwill. Goodwill declined to $19.7 million from $442.3 million at fiscal 2019 year-end.
- Restructuring, acquisition and integration expense decreased to $29.7 million in the quarter and $43.9 million year-to-date, from $47.1 million and $115.1 million, respectively.
- Whole Foods Market sales increased approximately 10.0% in the quarter and 9.1% year-to-date. Supermarkets, independents and other-channel sales declined in the quarter.
- The company adopted ASC 842 lease accounting, recognizing approximately $1.1 billion of operating lease assets and a similar amount of operating lease liabilities. The adoption had no material effect on operations or cash flows.
- UNFI granted restricted stock units and performance share units representing approximately 5.8 million shares under its 2020 Equity Incentive Plan.
Outlook, management commentary and unusual items
- Management expected additional integration and restructuring costs during fiscal 2020 as it consolidated distribution centers, integrated systems and pursued Supervalu synergies.
- The Pacific Northwest distribution-center consolidation was expected to be completed during fiscal 2020. The company anticipated incremental transition costs and a $10.6 million multiemployer pension withdrawal liability, payable beginning in fiscal 2022.
- Management expected fiscal 2020 capital expenditures to remain below 1.0% of net sales and anticipated financing capital needs with operating cash flow and ABL borrowings.
- The company expected to fund near-term debt maturities through fiscal 2023 with internally generated funds, asset-sale proceeds or ABL borrowings. It paid no common-stock dividend and did not expect share repurchases during fiscal 2020.
- UNFI continued to sell or close acquired retail operations. During the quarter, it agreed to sell 13 Shoppers stores and decided to close six locations. It recorded approximately $30.5 million of pre-tax discontinued-operation costs and charges and expected additional costs in the following quarter.
- The quarter included a $664.0 million lump-sum pension settlement payment and a $10.3 million non-cash pension settlement charge.
- Significant risks include customer concentration, low industry margins, customer insolvencies, supply-chain disruption including health epidemics, fuel and foreign-exchange volatility, competition, execution of the Supervalu integration, additional impairment charges, retail divestiture costs and multiemployer pension liabilities.
- A False Claims Act qui tam proceeding involving pharmacy pricing was assessed as reasonably possible loss; management could not estimate a loss range. Relators alleged damages exceeding $100 million before trebling and statutory penalties, while the company estimated Supervalu's potential share at approximately $24 million before such amounts.
- On February 24, 2020, UNFI executed an option to acquire a distribution center under construction; the purchase price was not yet determined and the purchase could occur between fiscal 2020 and fiscal 2022.
Most important facts for investors to verify
- Whether operating cash flow and free cash flow improve sufficiently to support approximately $2.936 billion of debt and substantial lease obligations.
- The remaining availability and borrowing-base capacity under the ABL facility, including the effect of inventory, receivables and customer credit quality.
- Progress and realized savings from the Supervalu integration, warehouse consolidation and national systems implementation.
- Whether further goodwill, asset or discontinued-operation impairment charges occur, particularly for Shoppers and Cub Foods.
- The ultimate exposure from the False Claims Act litigation, opioid-related matters, multiemployer pension plans and other contingent liabilities.
- Sales and margin trends by customer channel, especially Whole Foods Market, supermarkets and independents.
- Future debt prepayments, covenant compliance and the timing and cost of the planned distribution-center acquisition.