United Natural Foods, Inc. — Form 10-Q Summary
Business Context and Reporting Period
United Natural Foods, Inc. is a distributor and retailer of natural, organic and specialty foods and related products in the United States and Canada. The filing covers the quarter and nine months ended April 28, 2012, compared with the comparable periods ended April 30, 2011. The company serves more than 23,000 customer locations and operates wholesale, retail and manufacturing businesses. Whole Foods Market represented approximately 36% of net sales in both comparable periods.
Financial Performance and Key Metrics
| Metric | Three Months Ended April 28, 2012 | Prior Year | Nine Months Ended April 28, 2012 | Prior Year |
|---|---|---|---|---|
| Net sales | $1.388 billion | $1.204 billion | $3.892 billion | $3.371 billion |
| Gross profit | $244.5 million | $218.5 million | $684.8 million | $609.5 million |
| Gross margin | 17.6% | 18.2% | 17.6% | 18.1% |
| Operating income | $48.6 million | $38.9 million | $112.2 million | $100.3 million |
| Operating margin | 3.5% | 3.2% | 2.9% | 3.0% |
| Net income | $29.0 million | $23.4 million | $66.2 million | $59.5 million |
| Diluted EPS | $0.59 | $0.48 | $1.35 | $1.25 |
Quarterly sales increased 15.3%, operating income increased 25.0%, and net income increased approximately 24%. Nine-month sales increased 15.5%, operating income increased 11.9%, and net income increased approximately 11.3%. The effective tax rate was 39.4% for both nine-month periods and 39.4% in the current quarter versus 40.0% in the prior-year quarter.
For the nine months, cash used in operating activities was $34.9 million, compared with $32.8 million used in the prior-year period. Working-capital investment was significant, including increases of $123.3 million in inventories and $81.5 million in accounts receivable, partially offset by a $30.5 million increase in accounts payable. Cash used in investing activities was $23.0 million, including $20.0 million of capital expenditures. Cash provided by financing activities was $55.6 million, primarily from $50.0 million of net borrowings under notes payable. Cash and cash equivalents were $14.2 million at April 28, 2012, compared with $16.9 million at July 30, 2011.
At April 28, 2012, current assets were $1.038 billion and current liabilities were $566.0 million, resulting in working capital of approximately $472.1 million. Notes payable were $165.0 million, current long-term debt was $43.9 million, and long-term debt excluding the current portion was $0.7 million. The company reported $209.6 million of remaining availability under its $400 million revolving credit facility, after borrowings, letters of credit and reserves. The company was in compliance with applicable fixed-charge coverage covenants.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven by organic growth, food-price inflation of approximately 4.4% in the quarter and 4.2% for the nine months, expanded Whole Foods distribution, and new and existing conventional supermarket customers.
- Conventional supermarket sales increased 28% in the quarter and 26% for the nine months, reaching approximately 24% of total sales versus 22% in the prior-year periods. Whole Foods and other “supernatural chain” sales increased approximately 15%.
- Gross margin declined because sales growth was concentrated in conventional supermarket and supernatural channels, which generally carry lower gross margins than independent retailers. Nine-month gross margin was also affected by higher-than-average perishable inventory losses and improper storage in certain categories.
- Operating expenses as a percentage of sales improved to 14.1% from 14.9% in the quarter and to 14.7% from 15.1% for the nine months, reflecting labor, routing, fuel-management and scale efficiencies.
- Nine-month operating expenses included approximately $5.3 million of severance and other costs related to the divestiture of conventional non-food and general merchandise lines, approximately $1.7 million of customer onboarding costs, $0.3 million of severance for a former executive, and $1.4 million related to customer bankruptcy and note-receivable default issues.
- The company completed the divestiture of its conventional non-food and general merchandise businesses, closed its Harrison, Arkansas distribution center, and classified $2.6 million of related property and equipment as held for sale.
- The company acquired substantially all assets of an Ontario specialty-food distributor for $3.0 million during the second quarter, with potential earn-outs of up to $1.95 million through November 2014.
Guidance, Outlook, Risks and Unusual Items
Management expected fiscal 2012 sales to continue growing, supported by new customers, increased product penetration and moderate food-price inflation. It expected growth to remain strongest in the lower-margin Whole Foods and conventional supermarket channels. Management intended to offset lower gross margins through supply-chain efficiencies, warehouse-management and procurement-system improvements, and IT infrastructure investments.
The national warehouse-management and procurement-system rollout was expected to reach all distribution centers by the end of fiscal 2014. The company also signed a lease for a new Aurora, Colorado distribution center expected to be completed in the fourth quarter of fiscal 2013, allowing consolidation of two existing facilities.
Management projected average operating cash flow of $75 million to $110 million per year for fiscal 2012 and 2013 and fiscal 2012 capital requirements of approximately $35 million to $40 million. It believed cash on hand and available credit were sufficient for the next twelve months.
On May 24, 2012, after quarter-end, the company replaced its $400 million revolving facility with a $500 million senior secured facility maturing May 24, 2017. The facility included $450 million of U.S. availability and $50 million for UNFI Canada. The company borrowed approximately $217.7 million to repay the prior term loan and refinance existing revolving-facility debt. The $43.6 million term loan was repaid in full, and the related interest-rate swap was settled for approximately $0.3 million.
Principal risks include customer concentration, economic and consumer-spending conditions, lower margins from conventional supermarket growth, execution of the warehouse-management rollout, fuel costs, inflation or deflation, low industry margins, acquisition execution and capital-allocation decisions. The company also used fixed-price fuel agreements covering approximately 3.6 million gallons through July 2012, at prices ranging from $3.56 to $3.90 per gallon.
Routine litigation was not expected to have a material adverse effect. Management reported effective disclosure controls and no material changes in internal control over financial reporting. The filing stated that there were no material changes to previously disclosed risk factors or contractual obligations.
Important Facts for Investors to Verify
- Whether the company converts strong sales growth into sustainable cash generation after inventory and receivable investment.
- The effect of continued channel mix shifts on gross margin, particularly the growing exposure to Whole Foods and conventional supermarkets.
- Execution and cost savings from the warehouse-management and procurement-system rollout.
- Customer concentration and the continuing dependence on Whole Foods Market, which accounted for approximately 36% of sales.
- Borrowing-base availability, covenant compliance, interest-rate exposure and leverage following the May 2012 refinancing.
- The resolution and financial impact of customer bankruptcy, note-receivable default, perishable inventory losses and other unusual operating costs.
- Whether projected operating cash flow of $75 million to $110 million annually and planned capital expenditures of $35 million to $40 million are achieved.