Filing Scope and Business Context
Source discrepancy: The provided filing is Lancaster Colony Corporation’s Form 10-Q, not Marzetti Co. It covers the quarter and nine months ended March 31, 2018, corresponding to fiscal 2018 third quarter for Lancaster Colony. Lancaster Colony manufactures and markets specialty food products through Retail and Foodservice segments, primarily in the United States. The fiscal year runs from July 1 through June 30.
Effective July 1, 2017, David A. Ciesinski became CEO and principal operating decision maker. The company adopted Retail and Foodservice as its reportable segments, with historical segment information retroactively conformed.
Financial Highlights
| Metric | Three Months Ended March 31, 2018 | Three Months Ended March 31, 2017 | Nine Months Ended March 31, 2018 | Nine Months Ended March 31, 2017 |
|---|---|---|---|---|
| Net sales | $296.2 million | $293.8 million | $914.8 million | $912.0 million |
| Gross profit | $67.9 million | $71.9 million | $227.3 million | $246.3 million |
| Gross margin | 22.9% | 24.5% | 24.9% | 27.0% |
| Operating income | $37.7 million | $22.0 million | $129.3 million | $132.1 million |
| Operating margin | 12.7% | 7.5% | 14.1% | 14.5% |
| Net income | $27.6 million | $14.5 million | $102.9 million | $86.8 million |
| Diluted EPS | $1.00 | $0.53 | $3.74 | $3.16 |
- Retail sales were $152.0 million in the quarter, essentially flat, and $493.4 million year to date, up 1%. Retail operating income declined 10% in both periods to $26.3 million and $96.5 million, respectively.
- Foodservice sales increased 1% in the quarter to $144.2 million but declined 1% year to date to $421.3 million. Foodservice operating income increased 5% in the quarter to $14.3 million but declined 20% year to date to $42.4 million.
- Quarterly SG&A declined 6% to $30.2 million; year-to-date SG&A increased 2% to $98.1 million.
- Cash dividends were $0.60 per share in the quarter and $1.75 per share year to date, compared with $0.55 and $1.60, respectively, in the prior-year periods.
Cash Flow, Balance Sheet, Debt and Liquidity
- Cash provided by operating activities was $116.8 million for the nine months ended March 31, 2018, compared with $107.2 million in the prior-year period.
- Cash used in investing activities was $22.9 million, including $22.6 million of capital expenditures, versus $55.0 million in the prior year, which included the Angelic Bakehouse acquisition.
- Cash used in financing activities was $49.7 million, principally reflecting $48.0 million of dividends and $1.1 million of treasury-stock purchases.
- Cash and equivalents increased to $187.3 million at March 31, 2018, from $143.1 million at June 30, 2017.
- Total assets were $786.6 million and shareholders’ equity was $632.9 million at March 31, 2018. Total current liabilities were $94.5 million.
- The company had no borrowings under its $150 million unsecured revolving credit facility. Standby letters of credit of $5.1 million reduced available capacity. The facility expires in April 2021.
- Management stated that the company was in compliance with all facility covenants and expected cash from operations, existing cash and available credit to fund requirements through fiscal 2018 and 2019.
Material Changes Versus the Prior Comparable Period
- Quarterly sales increased 1%, but gross profit declined 6% and gross margin contracted 160 basis points because of higher commodity and freight costs, particularly eggs.
- Nine-month gross profit declined 8% and gross margin contracted 210 basis points, reflecting higher costs for eggs, soybean oil, dairy ingredients, garlic and freight. Management estimated raw-material costs reduced margins by nearly 1% of sales in the quarter and more than 1% year to date.
- Quarterly operating income increased 71% because the prior-year period included a $17.6 million multiemployer pension settlement and related charge. Excluding this unusual item, the underlying comparison was less favorable.
- Nine-month operating income declined 2%, with lower segment profitability largely offsetting the absence of the prior-year pension charge.
- The Tax Cuts and Jobs Act produced a preliminary one-time deferred-tax benefit of approximately $9.0 million in the December 2017 quarter. The nine-month effective tax rate was 21.1%, compared with 34.5% in the prior year; excluding the one-time benefit, management reported an effective rate of approximately 28.5%.
- Net income and EPS benefited materially from both the Tax Act benefit and the absence of the prior-year pension settlement charge. Management estimated the Tax Act benefit at approximately $0.33 per diluted share and the prior-year pension charge at approximately $0.42 per diluted share.
Outlook, Commentary, Risks and Unusual Items
- Management expects commodity and freight costs to remain above prior-year levels in the fiscal fourth quarter. Planned responses include pricing actions, distribution-network optimization, tactical procurement and supply-chain savings initiatives.
- Management expects volume-driven Retail growth, improved realization of recent Retail price increases and additional Retail pricing actions in the fourth quarter.
- Foodservice expectations include volume growth from selected national restaurant accounts and distributors, together with continued benefits from price increases implemented early in the third quarter.
- Fiscal 2018 capital expenditures are expected to approximate $30 million and be funded with operating cash flow.
- Management expects an effective tax rate of approximately 28.5% for the final quarter of fiscal 2018 and approximately 24% for fiscal 2019.
- Key risks include commodity, packaging, freight and energy costs; customer acceptance of price increases; restaurant-industry softness; customer and distributor concentration; capacity constraints; product recalls; labor relations; acquisitions and integration; regulatory matters; litigation; pension obligations; and loss of key customers or programs.
- The Angelic Bakehouse acquisition includes performance-based earn-out consideration. The recorded fair value was $16.5 million at March 31, 2018, but the ultimate payment has no stated minimum or maximum because it depends on Angelic’s fiscal 2021 adjusted EBITDA.
- Ordinary-course litigation was not expected to have a material effect. The company also disclosed possible contingent liabilities related to withdrawal from a multiemployer pension plan.
- Disclosure controls were deemed effective, and no material changes to internal control over financial reporting were reported.
Investor Verification Priorities
- Verify the issuer and period: the supplied document identifies Lancaster Colony Corporation, not Marzetti Co.
- Separate recurring operating performance from the $17.6 million prior-year pension charge and the approximately $9 million Tax Act deferred-tax benefit.
- Assess whether pricing actions can offset continuing commodity and freight inflation without materially reducing volumes.
- Monitor Retail and Foodservice margin recovery, particularly the year-to-date declines in operating income.
- Review the valuation and potential cash exposure associated with the Angelic Bakehouse earn-out.
- Confirm capital spending, dividend growth and cash accumulation against expected operating cash flow and acquisition plans.
- Review the credit facility’s covenant requirements, standby letters of credit and available borrowing capacity.