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Sysco Corporation 10-Q Summary: Quarter Ended March 28, 2009

Business Context and Reporting Period

This Form 10-Q covers the 39-week period ended March 28, 2009 (Fiscal 2009 YTD) and the 13-week period ended March 28, 2009 (Third Quarter). Sysco Corporation is a leading foodservice distributor operating primarily in the United States and Canada. The company reported results during a period of deteriorating economic conditions, which impacted consumer spending and foodservice traffic. The filing includes unaudited financial statements reviewed by Ernst & Young LLP.

Key Financial Metrics

Note: All figures in thousands except per share data.

Material Changes vs. Prior Period

• Sales: Sales were flat (-0.1%) for the 39-week period but declined 4.5% in the third quarter due to reduced consumer spending and lower customer traffic. Inflation (product cost increases) was estimated at 6.2% for the 39-week period and 3.3% for the quarter.
• Operating Income: Increased 0.8% for the 39-week period despite sales pressure, driven by operating efficiencies and reduced payroll expenses. However, it decreased 3.0% in the third quarter.
• Net Earnings: Declined 4.1% for the 39-week period and 6.1% for the third quarter. The decline was exacerbated by a higher effective tax rate (41.2% vs. 38.5% prior year) due to non-deductible losses on corporate-owned life insurance and tax contingencies.
• Debt: Long-term debt increased significantly due to the issuance of $500 million in senior notes in March 2009 ($250M due 2019, $250M due 2039) to enhance liquidity and take advantage of lower interest rates.
• Receivables: The provision for losses on receivables increased by $35.7 million for the 39-week period due to customer liquidity issues stemming from the economic downturn.

Guidance, Outlook, and Risks

• Outlook: Management expects the difficult economic environment to persist through the remainder of fiscal 2009. They anticipate that the sales trend experienced in the third quarter will not improve in the fourth quarter, placing pressure on operating earnings.
• Capital Allocation: The company does not anticipate additional share repurchases in the fourth quarter of fiscal 2009. Capital expenditures for fiscal 2009 are expected to range between $500 million and $550 million.
• Key Risks:
  • Market Volatility: Continued declines in financial markets could further reduce the cash surrender values of corporate-owned life insurance policies, causing volatility in operating income.
  • Tax Contingencies: Significant exposure exists regarding the taxability of the Baugh Supply Chain Cooperative (BSCC) structure. If challenged successfully, the company could face accelerated tax payments and interest ranging from $350 million to $390 million.
  • Pension Liabilities: Estimated withdrawal liability for multi-employer pension plans is approximately $80 million, though this could increase if plan assets decline further.
  • Fuel Costs: While forward contracts lock in prices for ~70% of remaining fiscal 2009 needs, some contracts are at fixed prices higher than current market rates.

Investor Verification Checklist

• Life Insurance Valuation: Verify the magnitude of non-deductible losses on corporate-owned life insurance policies ($63.3M for 39 weeks) and their impact on the effective tax rate.
• BSCC Tax Exposure: Review the status of the IRS audit regarding the cooperative structure and the potential $350M-$390M interest liability.
• Receivables Quality: Monitor the trend in the provision for losses on receivables as a leading indicator of customer financial health.
• Debt Structure: Confirm the terms and interest rates of the new $500M senior notes issued in March 2009.
• Multi-Employer Pension Plans: Assess the risk of increased withdrawal liabilities or excise taxes associated with underfunded union plans.