Lancaster Colony Corporation — Form 10-Q Summary
Filing-period note: The request identifies Marzetti Co., but the supplied filing is for Lancaster Colony Corporation (NASDAQ: LANC). This summary covers the quarter ended September 30, 2019, the first quarter of fiscal 2020. The financial statements are unaudited.
Business context and reporting period
Lancaster Colony manufactures and markets specialty food products through two reportable segments: Retail and Foodservice. More than 95% of products are sold in the United States. The company’s fiscal year runs from July 1 through June 30.
Recent acquisitions included Bantam Bagels, acquired in October 2018, and Omni Baking Company, acquired in November 2018. The company also began a major enterprise resource planning initiative and continued capacity investments.
Key financial metrics
| Metric | Q1 FY2020 | Q1 FY2019 | Change |
|---|---|---|---|
| Net sales | $337.1 million | $316.7 million | 6% |
| Gross profit | $92.1 million | $81.2 million | 13% |
| Gross margin | 27.3% | 25.6% | Up 170 basis points |
| Operating income | $51.7 million | $49.1 million | 5% |
| Operating margin | 15.3% | 15.5% | Down 20 basis points |
| Net income | $40.7 million | $39.0 million | 4% |
| Diluted EPS | $1.48 | $1.42 | 4% |
| Operating cash flow | $40.1 million | $40.9 million | Down $0.8 million |
| Capital expenditures | $43.2 million | $9.7 million | Up $33.4 million |
Gross-profit growth reflected higher volumes, lean Six Sigma savings and favorable commodity costs. SG&A increased 23% to $39.5 million, including $2.7 million of ERP spending, higher consumer promotion costs, personnel costs and incremental Bantam expenses.
The effective tax rate increased to 23.3% from 22.6%. The company reported $1.4 million of other income, net. Cash dividends were $17.9 million, or $0.65 per share.
Segment performance
| Segment | Q1 FY2020 sales | Sales growth | Operating income | Operating margin |
|---|---|---|---|---|
| Retail | $166.1 million | 2% | $35.4 million | 21.3% |
| Foodservice | $171.0 million | 11% | $23.8 million | 13.9% |
Retail sales benefited from produce dressings, dips, frozen garlic bread, shelf-stable dressings and sauces, partly offset by lower flatbread and frozen dinner roll sales and the exit from certain low-margin private-label business. Foodservice growth reflected national accounts, branded products, frozen pasta, Bantam and Omni.
Liquidity, debt and balance sheet
- Cash and equivalents were $173.5 million at September 30, 2019, compared with $196.3 million at June 30, 2019.
- Total assets were $962.3 million and shareholders’ equity was $749.7 million.
- The company had no borrowings under its unsecured revolving credit facility. The facility permits borrowings of up to $150 million, with potential expansion to $225 million subject to conditions.
- Standby letters of credit totaled $5.1 million, reducing available borrowing capacity.
- The facility expires in April 2021 and includes interest-coverage and leverage covenants. Management stated that the company was in compliance by substantial margins and expected continued compliance.
- Operating and finance lease liabilities totaled $26.4 million and $1.8 million, respectively, at quarter-end.
Material changes versus the prior comparable period
- Sales increased 6%, with reported growth partly attributable to Bantam and Omni. Excluding those acquisitions, consolidated sales increased approximately 3%.
- Gross margin improved substantially, but operating margin declined slightly because SG&A, ERP investment, restructuring charges and contingent-consideration expense grew faster than sales.
- Foodservice operating income increased 26%, while Retail operating income increased 4%.
- Operating cash flow was broadly stable, but capital expenditures rose sharply to $43.2 million due primarily to the Horse Cave, Kentucky capacity expansion and the purchase of a previously leased manufacturing facility.
- The company adopted new lease accounting guidance on July 1, 2019, recognizing an operating lease right-of-use asset of $24.6 million and operating lease liabilities of $26.4 million. The adoption did not affect reported earnings or cash flows.
- The company recorded $0.9 million of restructuring and impairment charges related primarily to cleanup and contract termination costs following the closure of its Saraland, Alabama frozen bread plant. Management did not anticipate significant additional charges.
Guidance, outlook, risks and unusual items
- The second fiscal quarter is seasonally the company’s strongest sales quarter because of the holiday season.
- Management expected continued Retail growth from licensed shelf-stable products, new products and pricing. Foodservice was expected to benefit from national accounts, branded products and Omni-related sales.
- Omni sales were subject to a temporary supply agreement expected to end no later than November 2020. Omni production costs were expected to remain above target during the second quarter while facility upgrades and operational improvements continued.
- Bantam was expected to be dilutive to second-quarter earnings, although management anticipated continued distribution and sales growth.
- ERP and other strategic initiatives were expected to continue increasing SG&A. ERP spending reduced diluted EPS by approximately $0.08 in the quarter, while the restructuring charge reduced EPS by approximately $0.02.
- Management expected second-quarter commodity costs to be similar to the prior year but moderately unfavorable in the back half of fiscal 2020.
- Fiscal 2020 capital expenditures were expected to be $80 million to $100 million. Management believed operating cash flow, cash balances and available credit would meet cash requirements through fiscal 2020.
- Key risks include acquisition integration, ERP implementation, cybersecurity and information-technology disruptions, commodity and packaging costs, customer concentration and consolidation, product recalls, regulatory and labeling requirements, labor availability, capacity constraints, competition, litigation and contingent pension liabilities.
- Bantam contingent consideration was a Level 3 liability of $9.0 million at September 30, 2019. Its ultimate amount depends on future adjusted EBITDA and has no stated minimum or maximum.
- Management stated that ordinary-course litigation was not expected to have a material effect on consolidated financial statements.
Investor verification checklist
- Confirm the issuer identity: the supplied filing is Lancaster Colony Corporation, not Marzetti Co.
- Assess whether gross-margin gains from pricing, commodities and productivity are sustainable as commodity costs become less favorable.
- Track ERP spending, implementation execution and its effect on SG&A and EPS.
- Monitor the Horse Cave capacity expansion, elevated capital expenditures and expected fiscal 2020 cash requirements.
- Evaluate Bantam’s earnings dilution, acquisition integration and the potential future earn-out liability.
- Consider the temporary nature of Omni-related Foodservice sales and the expected expiration of the supply agreement.
- Review covenant headroom and the April 2021 revolving-facility maturity, despite the company’s current net-cash position.