Chefs’ Warehouse, Inc. — Q2 2014 Form 10-Q
Business and period: Specialty food distributor serving more than 20,000 customer locations across 14 markets in the U.S. and Canada, with a direct-to-consumer meat business through Allen Brothers. The quarter was the 13 weeks ended June 27, 2014; year-to-date covers 26 weeks. Financial amounts below are in millions unless stated otherwise.
Financial performance
| Metric | Q2 2014 | Q2 2013 | First half 2014 | First half 2013 |
|---|---|---|---|---|
| Net sales | $213.1 (+25.3%) | $170.2 | $400.3 (+29.3%) | $309.6 |
| Gross profit / margin | $52.4 / 24.6% | $44.0 / 25.9% | $98.5 / 24.6% | $79.2 / 25.6% |
| Operating income / margin | $8.6 / 4.0% | $11.1 / 6.5% | $12.3 / 3.1% | $17.0 / 5.5% |
| Net income | $3.8 | $5.3 | $4.8 | $8.0 |
| Diluted EPS | $0.15 | $0.25 | $0.19 | $0.38 |
| Interest expense | $2.1 | $1.9 | $4.2 | $3.3 |
- Quarter sales growth included approximately $26.0 million from Qzina and Allen Brothers acquisitions and $16.9 million of organic growth. First-half growth included $62.4 million from acquisitions and $28.3 million organic growth.
- Gross margin fell 129 basis points in Q2 and 98 basis points year to date. Management cited protein-cost inflation, especially at Allen Brothers, which it could not fully pass through, and acquisition-related product mix.
- Operating expenses rose 32.9% in Q2 and 38.4% year to date; expense ratios increased to 20.6% and 21.5%, respectively. Drivers included Allen Brothers shipping and catalog costs, infrastructure and IT investment, acquisition integration, and Michael’s Finer Meats investigation costs.
- Net income declined 28.5% in Q2 and 39.8% year to date. Weighted-average diluted shares rose to 24.9 million from 21.0 million in both comparison periods, contributing to the per-share decline.
Cash flow, balance sheet and debt
- First-half operating cash flow was $3.0 million, down from $20.8 million. Management attributed the decline to lower earnings and greater working-capital use, including receivables, inventory, and payables.
- Investing cash outflow was $10.2 million, including $10.3 million of capital expenditures; the prior-year period included $54.0 million of acquisition payments. Financing provided $1.9 million. Cash declined $5.3 million to $14.7 million.
- At June 27, 2014, total debt was $146.1 million: $100.0 million senior secured notes, $30.0 million term loan, $11.0 million New Markets Tax Credit loan, and $5.1 million capital leases and financed software. Debt declined from $147.7 million at year-end 2013.
- Revolving credit availability was $136.2 million after reserving $3.8 million for letters of credit. The company reported compliance with its debt covenants. Management said cash and available credit were sufficient for operations and planned capital expenditures over the next 12 months.
- Current assets were $177.3 million and current liabilities $61.2 million. Accounts receivable was $83.5 million and inventory $67.0 million.
Outlook, risks and notable items
- No specific revenue or earnings guidance was provided. Management’s strategy is to expand sales territories and facilities, improve operations and purchasing, introduce products, enhance systems, and pursue selective acquisitions.
- Fiscal 2014 capital expenditures were estimated at approximately $32.3 million, excluding acquisitions. Projects include Bronx and Las Vegas facility expansions, the JD Edwards ERP implementation, and a Chicago distribution facility. The company expected to spend about $19.0 million to complete facility and system projects by mid-2015.
- Management reported food inflation of approximately 5.4% in Q2 and 5.3% in the first half, particularly in protein, dairy, and cheese. Severe first-quarter weather in the Northeast and Mid-Atlantic was estimated to have reduced first-half sales by approximately $2.0 million.
- Key risks include food-cost inflation or deflation and inability to pass costs through, customer and consumer sensitivity to economic conditions, weather and supply disruptions, low industry margins, acquisition execution and integration, and costs and outcomes related to the Michael’s Finer Meats accounting issue. The company also identified potential difficulty recovering related losses from former owners.
- The filing describes the Michael’s Finer Meats investigation as ongoing and includes investigation costs in operating expenses; it does not provide a clear estimate of potential losses or recovery. Contingent earn-out liabilities for Allen Brothers and Queensgate were $6.6 million and $1.0 million, respectively.
- After quarter-end, on July 23, 2014, the company amended credit and note agreements to permit up to $15 million of financing and liens for a Las Vegas warehouse and to increase certain permitted-indebtedness baskets. Ordinary-course legal proceedings were not expected by management to have a material adverse effect; no material amounts were accrued.
- Management concluded disclosure controls were effective, and reported no material changes in internal control over financial reporting during the period.
Important facts for investors to verify
- Whether protein-cost inflation and Allen Brothers’ product mix continue to pressure gross margin, and whether pricing actions can recover costs.
- How much of sales growth is organic versus acquisition-related, and the acquired businesses’ contribution to profit and cash generation.
- Progress, total cost, and expected returns from the Bronx, Las Vegas, Chicago, and ERP projects, including the stated capital-spending plans.
- Developments in the Michael’s Finer Meats accounting investigation, any resulting adjustments or liabilities, and the likelihood of recovering losses from former owners.
- Working-capital trends and operating cash conversion, covenant headroom, and funding needs if acquisitions or capital spending increase.