Lamb Weston Holdings, Inc. — Q1 FY2018 Form 10-Q
Business context and reporting period. Lamb Weston produces and markets value-added frozen potato products. This filing covers the 13 weeks ended August 27, 2017, compared with the 13 weeks ended August 28, 2016. Lamb Weston separated from Conagra in November 2016; the prior-period results are pre-separation combined results and may not reflect the costs or financing of a standalone company.
Financial performance and position
| Metric | Q1 FY2018 | Prior period |
|---|---|---|
| Net sales | $817.5 million | $776.3 million |
| Gross profit / margin | $196.7 million / 24.1% | $180.6 million / 23.3% |
| Operating income / margin | $137.6 million / 16.8% | $125.0 million / 16.1% |
| Net income attributable to Lamb Weston | $83.4 million | $79.6 million |
| Diluted EPS | $0.56 | $0.54 |
| Operating cash flow | $143.5 million | $115.0 million |
| Capital expenditures | $104.4 million | $59.3 million |
| Cash and cash equivalents at period end | $69.8 million | $57.1 million at May 28, 2017 |
- Net sales rose 5%, reflecting 3% favorable price/mix and 2% volume growth. Gross profit increased 9%. Equity method investment earnings rose to $20.0 million from $10.6 million, including a $3.4 million unrealized gain on currency hedges.
- Net income attributable to Lamb Weston increased 5%, while interest expense rose to $25.2 million from $1.5 million, primarily because of debt incurred at separation. The effective tax rate was approximately 33%, compared with 38%.
- Adjusted EBITDA including unconsolidated joint ventures, a non-GAAP measure, was $191.4 million, up 11% from $171.9 million. Management reported that adjusted diluted EPS declined $0.01 to $0.57 after excluding separation-related costs.
- Cash used for investing was $104.4 million, mainly for capacity expansion. Cash used for financing was $30.5 million, including $27.4 million of dividends and $9.9 million of debt repayments. Operating cash flow less capital expenditures was $39.1 million.
- At August 27, total debt and financing obligations were $2,465.5 million, including $32.3 million of short-term borrowings. The revolving credit facility had $489.3 million of availability. The company reported compliance with its debt covenants. Stockholders’ equity was negative $575.7 million.
- Current assets were $838.4 million and current liabilities $516.9 million. The filing reports cash held outside the U.S. of $53.0 million; repatriation would subject those funds to U.S. federal income taxes.
Material changes and segment results
- Foodservice sales increased 7% to $279.4 million; product contribution margin rose 14% to $90.9 million, mainly on favorable price/mix.
- Global sales increased 4% to $413.9 million; contribution margin increased 1% to $74.7 million as price/mix and volume gains were largely offset by higher costs.
- Retail sales rose 3% to $92.0 million, with volume up 9% but price/mix down 6%. Contribution margin fell 16% to $16.5 million, reflecting higher trade spending and costs.
- Standalone-company costs affected comparisons: SG&A excluding separation expenses increased 24%, or $11.0 million. Separation-related expenses were $2.2 million versus $9.7 million in the prior period.
Outlook, risks, and unusual items
- Management expected a generally favorable operating environment for the rest of FY2018, supported by continued volume demand and high industry capacity utilization. It also expected higher inflation in commodities and other inputs, manufacturing, transportation, and warehousing, as well as higher interest and standalone-company costs.
- The company planned additional production capacity: a Richland, Washington line was expected to start in Q2 FY2018, and a joint-venture facility in Lipetsk, Russia, was expected to operate in the second half of FY2018. Management described the upcoming Columbia River Basin and Idaho potato crop as preliminarily consistent with historical averages, pending further assessment.
- Key stated risks include commodity and energy prices, foreign exchange and interest rates, competition, international market conditions, customer and grower relationships, joint-venture performance, capital-project execution, debt levels, litigation, product recalls, and the ability to pay future dividends.
- The company disclosed ordinary-course legal claims and said it did not believe they would have a material adverse effect. It also disclosed potential exposures tied to a joint venture’s put option, financing support, and possible production shortfalls; management did not expect material losses, but said some maximum exposures could not be determined.
- A 10% decline in commodity contract market prices would result in an estimated $3.5 million charge to cost of sales before tax, substantially offset by changes in the underlying hedged items. A 1% increase in variable borrowing rates would raise annual interest expense by approximately $7.1 million.
Important facts for investors to verify
- Whether reported sales and margin improvements persist as input-cost inflation rises and new industry capacity comes online.
- How standalone SG&A costs, separation-related debt service, and high leverage affect earnings, cash generation, and dividend capacity.
- The sustainability of joint-venture earnings, including the impact of the $3.4 million unrealized currency-hedging gain.
- Capacity-expansion spending, project timing, potato crop yields and quality, and the resulting returns on invested capital.
- Potential joint-venture put-option, financing-support, and production-shortfall obligations, along with the company’s negative stockholders’ equity.