Flowers Foods, Inc. — Form 10-Q Summary
Period: Second quarter and first 28 weeks of fiscal 2017, ended July 15, 2017; filed August 9, 2017. The filing is for 2017, notwithstanding the request metadata’s “2016 Q2” label. Financial statements are unaudited. Amounts below are in millions unless noted.
Business context and reporting period
Flowers Foods is a U.S. packaged bakery company with direct-store-delivery (DSD) and warehouse-delivery segments. DSD generated about 85% of year-to-date sales; warehouse delivery generated about 15%. The company announced a new structure organized around Fresh Bakery and Specialty/Snacking business units, with implementation expected during fiscal 2018.
Financial performance and position
| Metric | 12 weeks ended July 15, 2017 | Prior-year 12 weeks | 28 weeks ended July 15, 2017 | Prior-year 28 weeks |
|---|---|---|---|---|
| Sales | $926.6 | $935.0 | $2,114.3 | $2,139.4 |
| Operating income | $70.2 | $81.4 | $170.3 | $176.6 |
| Operating margin | 7.6% | 8.7% | 8.1% | 8.3% |
| Net income | $44.7 | $51.2 | $105.2 | $110.5 |
| Diluted EPS | $0.21 | $0.24 | $0.50 | $0.52 |
| Operating cash flow | Not separately reported | Not separately reported | $160.9 | $195.3 |
- Quarterly production costs were 50.5% of sales, down from 51.1%; selling, distribution and administrative expenses rose to 38.2% of sales from 36.2%.
- Year-to-date production costs were 50.9% of sales versus 51.4%; selling, distribution and administrative expenses were 38.6% versus 36.6%.
- Year-to-date investing cash flow was positive $19.9, including $41.2 in net proceeds from the Cedar Rapids mix-business sale. Capital expenditures were $31.9; the company paid $69.6 in dividends.
- Cash was $7.2 at July 15, 2017. Debt and capital lease obligations totaled $847.0, compared with $958.2 at December 31, 2016. The company reported $487.9 available under its credit facility and $180.8 under its receivables facility; availability under the latter depends on qualifying receivables.
- Total assets were $2,721.7 and stockholders’ equity was $1,264.6. The quarterly dividend was raised to $0.17 per share from $0.16.
Changes versus prior comparable periods
- Sales fell 0.9% in the quarter and 1.2% year to date. Management cited fresh-bakery category softness, competition and the mix-business divestiture, partly offset by branded organic-product growth. Quarter sales benefited from 1.9 percentage points of pricing/mix but were reduced by 2.3 points from volume and 0.5 points from the divestiture.
- DSD sales increased 0.9% in the quarter and 0.4% year to date; warehouse sales declined 10.4% and 9.3%, respectively. Warehouse performance reflected snack-cake and other volume declines and the divestiture.
- Net income declined 12.5% in the quarter and 4.8% year to date. Higher Project Centennial consulting costs and lower sales weighed on results; the year-to-date comparison also includes a $28.9 gain on the 2017 divestiture, while the prior-year comparison includes a $4.6 pension settlement loss.
- Operating cash flow fell $34.4 year over year, which management primarily attributed to higher Project Centennial costs. Net debt and capital lease obligations declined by $108.1 on a net basis during the 28-week period.
Outlook, commentary, risks and unusual items
- Project Centennial targets long-term sales growth of 2%–4% and EBITDA margins of 12%–14%. For fiscal 2017–2018, management expects sales growth of flat to 2% and EBITDA margins of 12%–13%; for 2019 onward, it expects sales growth of 3%–4% and margins of 13%–14%. These are management targets, not guaranteed results.
- Management anticipated another approximately $10–$15 million of Project Centennial consulting costs during the remainder of fiscal 2017, and forecast fiscal 2017 capital expenditures of $95–$105 million.
- The company sold its non-core Cedar Rapids mix manufacturing business in January 2017 for net proceeds of $41.2 million and recorded a $28.9 million gain.
- Subsequent to quarter-end, Flowers launched a voluntary separation incentive plan; its cost was not yet estimable. It also announced closure of a Winston-Salem snack-cake plant, expected in early October, with estimated closure costs of $4–$6 million.
- Distributor misclassification remains a material legal and business risk: the company was defending 30 distributor complaints, including 21 seeking class or collective treatment. Some FLSA collective actions had been conditionally certified. The company said losses on unresolved cases were reasonably possible but could not be estimated. A separate securities class action was pending; potential loss was also not estimable. The Department of Labor had initiated an FLSA compliance review.
- Other material risks include competition and changing consumer preferences, dependence on Walmart/Sam’s Club (20.6% of quarterly sales and 19.8% of trade receivables), commodity and interest-rate exposure, and execution of restructuring and brand initiatives. Management reported compliance with debt covenants and effective disclosure controls.
- The company hedges commodity inputs; a hypothetical 10% commodity-price move would change derivative fair value by $13.5 million, with management expecting substantial offsets from changes in underlying input costs.
Most important facts for investors to verify
- Whether core sales and volume stabilize, particularly in warehouse products, and whether organic-brand growth can offset category weakness.
- How Project Centennial costs, savings, restructuring and plant-closure charges affect operating performance and the stated growth and margin targets.
- The scope, timing and potential financial impact of distributor classification litigation and the securities class action.
- Cash generation, capital spending, debt reduction, dividend commitments and actual availability under the receivables facility.
- Whether brand rationalization or the new revenue-recognition standard leads to impairment, revenue timing or other material accounting changes.