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Sysco (NYSE:SYY)

Q2 2013 Earnings Call

February 04, 2013 10:00 am ET

Executives

Neil A. Russell - Vice President of Investor Relations

William J. DeLaney - Chief Executive Officer, President, Director, Chairman of Employee Benefits Committee, Member of Finance Committee and Member of Executive Committee

Robert C. Kreidler - Chief Financial Officer and Executive Vice President

Analysts

John Heinbockel - Guggenheim Securities, LLC, Research Division

Edward J. Kelly - Crédit Suisse AG, Research Division

Michael Kelter - Goldman Sachs Group Inc., Research Division

Mark Wiltamuth - Morgan Stanley, Research Division

Karen F. Short - BMO Capital Markets U.S.

Meredith Adler - Barclays Capital, Research Division

Ajay Jain - Cantor Fitzgerald & Co., Research Division

John W. Ivankoe - JP Morgan Chase & Co, Research Division

Andrew P. Wolf - BB&T Capital Markets, Research Division

Operator

Good morning, and welcome to Sysco's Second Quarter Fiscal 2013 Conference Call. As a reminder, today's call is being recorded. We will begin today's call with opening remarks and introductions. I would like to turn the call over to Neil Russell, Vice President of Investor Relations. Please go ahead.

Neil A. Russell

Thank you, operator, and good morning, everyone. Thank you for joining us for Sysco's Second Quarter 2013 Conference Call. On today's call you will hear from Bill DeLaney, our President and Chief Executive Officer; and Chris Kreidler, our Chief Financial Officer.

Before we begin, please note that statements made in the course of this presentation that states the company's or management's intentions, beliefs, expectations or predictions of the future are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results could differ in a material manner. Additional information concerning factors that could cause actual results to differ in a material manner from those in the forward-looking statements is contained in the company's SEC filings, including, but not limited to, risk factors contained in the company's annual report on Form 10-K for the year ended June 30, 2012, and in the company's press release issued earlier this morning, a copy of which is contained in the Investors section of our website. Non-GAAP financial measures are included in our comments today and in the presentation slides. The reconciliation of these non-GAAP measures to the applicable GAAP measures are included at the end of the presentation, which can also be found in the Investors section of the website. All comments about earnings per share refer to diluted earnings per share unless otherwise noted. In addition, all references to case volume growth including total Broadline and SYGMA combined.

Lastly, we look forward to seeing everyone at the CAGNY Conference on February 19, where we will offer a business update presentation, as well as a dinner featuring Chef Robert Irvine.

At this time, I'd like to turn the call over to our President and Chief Executive Officer, Bill DeLaney.

William J. DeLaney

Thank you, Neil. Good morning, everyone. This morning, Sysco reported sales of $10.8 billion for the second quarter and net earnings of $221 million. Earnings per share was $0.38 and adjusted EPS, representing our underlying business performance, was $0.49 or 4.3% increase year-over-year.

During the quarter, solid case volume growth contributed the highest second quarter sales level in our history. This growth was driven by both acquisition and organic growth as we were particularly successful in growing with our large regional and national customers.

Adjusted operating income grew nearly 5% for the quarter. Gross margin trends improved for the third consecutive quarter but were lower than the prior year due in part to the change in customer mix I just noted. We were especially pleased with our expense control performance in the selling and administrative areas of our business, as we benefited from successful implementation of several strategic initiatives. However, managing our expenses on the operating side of the business was challenging, as fuel and payroll costs grew at a faster rate than our productivity improvements.

To date, in fiscal year 2013, we have completed 10 acquisitions representing approximately $775 million in annualized revenue and expanding our presence in the United States, Canada and Ireland. The acquisition environment remains favorable, and we continue to have a number of additional opportunities in the pipeline. Our core market potential approximates $235 billion and grew by about 1% in real terms in calendar year 2012. Based on preliminary industry data, we believe we grew our market share this past year at a rate consistent with our strong historical performance. However, consumer sentiment and restaurant traffic trends have softened of late due to ongoing economic pressures, reinforcing the need for Sysco to aggressively transform our business so that we remain well positioned to provide greater value to our customers and reduce our overall cost pressure.

Two critical components to deepening our customer relationships are more effectively marketing the Sysco brand and gaining greater insight into our customer's value and how we can most effectively address those needs. We are making good progress in both of these areas under the leadership of Bill Goetz, Senior Vice President of Marketing, who joined Sysco about a year ago. One development that we are very excited about is our recently announced marketing relationship with the Food Network, its highly rated show Restaurant: Impossible and its chef, Robert Irvine. This is a first for Sysco, and we believe it will enhance our brand, strengthen our relationships with existing customers and extend our reach to new customers. This multi-platform relationship will include TV commercials and show product integration, digital integration and personal appearances by Chef Irvine.

Turning to the technology appointment portion of our multi-year business transformation efforts, we are making progress at our operating companies in North Texas and West Texas, where we deployed our new ERP system in November. Particularly encouraging has been the improved functionality of the order entry system compared to earlier rollouts. In addition, our shared business service center, SBS, continues to ramp up to support a broader array of administrative functions in a centralized manner. We have encountered some challenges, however, in the recent rollouts and are in the process of proceeding to make additional changes to further enhance the functionality of the system. We are confident that we will be able to resolve these matters as we move forward, and we'll refine our deployment rollout schedule accordingly. At the same time, we continue to move forward with other aspects of transforming our business.

In closing, I would like to thank all of our customers for their support as we move through our business transformation journey. I would also like to recognize all of our associates for their ongoing dedication and commitment to Sysco's success, especially those that put forth tremendous effort to service our customers in the midst of Hurricane Sandy and its aftermath. The transformational change that we are currently navigating throughout Sysco is both extraordinary and foundational to our profitable growth in the years to come.

Now I'll turn things over to Chris so he can provide additional details on our financial results for the second quarter.

Robert C. Kreidler

Thanks, Bill, and good morning, everyone. For the second quarter, sales were $10.8 billion or an increase of 5.4% compared to the prior year, driven by a case volume growth of 2.8% and food cost inflation of 2.5%. In addition, acquisitions within the last 12 months increased sales by 1.1%. Changes in foreign exchange rates increased sales by 0.3%.

Gross profit in the second quarter increased 3.9%. Gross margin in the second quarter declined 26 basis points. Roughly 1/2 of this decline was caused by a slight shift in customer mix as a result of growth in large regional and national customers. The remainder of the decline can be attributed to continued competitive pressure and a difficult sales environment that softened further during the quarter.

Operating expenses increased $116 million or 8.2% in the second quarter of fiscal 2013 compared to the prior-year period, driven mainly by a $45 million increase in business transformation expenses and a $17 million increase in salaries and related costs. In addition, during the second quarter, we recognized $22 million in charges from certain items related mainly to severance from the restructuring of our IT function, which we discussed last quarter and the restructuring of our executive retirement plan, which we discussed in the 8-K we filed on January 16. As a result of all of these items, operating income decreased $44 million or 10.4%.

Net earnings for the second quarter were $221 million, a decrease of $29 million or 11.5% compared to the prior year. Diluted EPS was $0.38, an 11.6% decrease compared to the prior year.

As you know, Hurricane Sandy had a devastating impact on a large part of the country during the second quarter. We have been deeply saddened by the tremendous personal and professional toll it has taken on our customers and the communities we serve. Our operations and crisis management team did a tremendous job protecting our assets before the storm and in helping our customers recover afterwards. In addition, as in many natural disaster events, Sysco played a key role in ensuring first responders can serve the community. While we avoided substantial asset losses, we estimate that the storm and its aftermath cost us about $0.01 a share during the quarter.

As we have discussed on previous calls, we believe it is important to focus on the performance of our underlying business, which not only excludes the $22 million in certain items I just mentioned, but also excludes business transformation expenses. To summarize the performance of our underlying business as we go through our business transformation: adjusted operating expenses increased 3.7%, slightly lower than the growth in gross profit dollars; adjusted operating income increased 4.6%; adjusted net earnings grew 4.7%; and adjusted EPS grew 4.3% to $0.49 per share.

As Bill mentioned, the acquisition environment is currently quite favorable, and we have been very active in this area. To date, in fiscal 2013, we have completed 10 acquisitions with annualized revenues totaling approximately $775 million. As a result, we have already exceeded our goal of adding 0.5% to 1% in sales from acquisitions this fiscal year, and we still have a number of additional potential transactions in the pipeline that we are working to complete over the next several quarters.

Turning to the impact of the Business Transformation Project for a moment, in the second quarter, project expenses totaled $81 million, and we capitalized $3 million related to the project. In the prior year quarter, project expenses totaled $36 million, and we capitalized $33 million related to the project. We continue to make progress on our other key business transformation initiatives. With regard to our initiatives to reduce our operating costs, we have completed the implementation of the SAP maintenance module throughout our U.S. Broadline Companies, and we have also created specific action plans for every OpCo to implement best practices in warehousing and delivery.

On our initiatives to reduce our SG&A cost, we have completed the rollout of our sales productivity initiatives, including the deployment of our new CRM tools throughout our U.S. Broadline operating companies; we've implemented substantial changes on our IT function, outsourcing our managed services work; we have begun to implement the SAP Human Resources module throughout our operating companies; we restructured the retirement benefit plans for associates and executives; and we have begun the process of centralizing some of our field finance work to our shared services center.

And finally, with regard for initiatives to reduce our product costs, we have progressed our 4 pilot categories through the category management process to the point where we are now awarding new contracts to suppliers. Even though there is a lot of hard work left ahead of us, we are pleased with our overall progress today on our key transformation initiatives.

Turning to our cash flow performance, at our Investor Day last year, we discussed our plans to reduce capital expenditures in both our underlying business, as well as for the Business Transformation Project. We've made good progress on that objective, with CapEx declining $172 million in the first half of this year compared to last year. We've seen a decline in capital spending related to the Business Transformation Project, mainly driven by the fact that we began implementation of the new technology earlier this year. In the underlying business, we've seen lower capital spending because of a reduction in the number of major facilities project this year compared to last, and a more disciplined capital allocation and approval process.

As a result of the reduction in capital spending, free cash flow increased 20% year-over-year to $125 million. We expect the effect of continued lower capital spending this year, combined with the completion of the IRS payment last year, will result in an improvement in free cash flow in fiscal 2013 compared to fiscal 2012. The other component of the free cash flow equation, cash flow from operations declined year-over-year in the first half by $152 million or 28%. Increased inventory levels drove about 1/2 of this decline. We also had an increase in certain current period tax payments mainly due to timing.

Before I close, I want to remind you of guidance we have provided previously on a few significant items that will impact the second half of the fiscal year, 2 of which we discussed in more detail in our 8-K filed in January. We believe our transformation initiatives will provide meaningful long-term benefits to Sysco. However, as we discussed at our Investor Day, some of the initiatives will result in onetime charges. I discussed a few minutes ago a $12 million charge we incurred in the second quarter related to the restructuring of our executive retirement plans. The total charges are estimated to be $24 million, and we expect to incur the remaining $12 million in charges related to this action in the second half of the year. This restructuring more closely aligns the executive retirement plan with the employee retirement plan. And we believe over the long term, will reduce the volatility retirement-related expenses, as well as the total cost of retirement-related expenses.

On our fiscal 2012 year-end call last August, we discussed the more than $100 million potential increase in pension expense we were facing as we were developing our fiscal 2013 plan. In response to this potential significant increase in expense, we restructured our employee retirement plans to freeze our defined benefit pension plan and subsequently enhance our defined contribution or 401(k) plan. As I mentioned a few moments ago, during the second quarter, we recently completed the restructuring of our retirement plans by also restructuring our executive retirement plans. The net effect of all these changes is that we now expect pension expense to be lower in fiscal 2013 by $21 million, with $15 million of this decrease occurring in the second half of fiscal 2013. The additional expense in fiscal 2013 related to the increase in 401(k) and other retirement plan changes will be in the range of $55 million to $65 million, all of which will impact the second half of this fiscal year. These 2 components together will result in a net increase in retirement-related expenses for the full year of between $35 million and $45 million. This includes amount that we categorize as certain items.

Finally, in the third quarter, we expect to incur a $40 million charge related to the withdrawal from an underfunded multi-employer pension plan. This withdrawal will help us mitigate our exposure to multi-employer pension plans and underfunded status.

In closing, fiscal year 2013 is a critical year for us as we work towards significant milestones in our business transformation plan and begin to realize benefits from several areas of our company. The work we are doing will favorably position us to take advantage of opportunities to continue to grow our market share and expand upon our leadership position in the industry.

With that operator, we'll now take questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from John Heinbockel with Guggenheim Securities.

John Heinbockel - Guggenheim Securities, LLC, Research Division

A couple of things. Is there any update on either the rollout schedule, where you expect to be by fiscal year end in terms of OpCos or the benefit because I think it's 25% of the ultimate benefit would be seen this year. Is there any update on either one of those?

William J. DeLaney

John, no, I don't have an update for you this morning. What we're telling you, I think, in our prepared comments is we're in somewhat of a delay here from what we originally anticipated in terms of rollouts, and we're going to take the next few weeks to continue to assess the things we need to improve in terms of the functionality of the system. I think over the next month or 2, we should have an update on the rollout time line. As far as the 25% of the benefits, I want to just keep reminding everybody, and I'll let Chris speak to this because he's the one that's really managing this pretty well, that is off of a overall targeted savings of $600 million give or take over a 3-year period, which incorporates, not just the technology side of it, but some big initiatives we have going on, which Chris referenced in detail here today on the SG&A side of the business as well as the product cost side of the business. So I think we're in a good -- pretty good place there. And I'll let Chris provide some color for you.

Robert C. Kreidler

Yes, John, with regard to both parts of your question on the rollout plan, I won't add any color to what Bill said other than the guidance that we have out there right now is 5 to 15 operating companies being converted this year. I think it's fair to say we're going to be at the lower end of that range, but as Bill said, we're working through whatever revisions we might need to make to our plans right now. But that's the current guidance. On the savings, again as Bill said, it's across all of our business transformation initiatives. I kind of walked you through where we made progress on many of the others and frankly, we feel pretty good about where we are on our overall cost saving initiatives for this year, as well as going forward.

John Heinbockel - Guggenheim Securities, LLC, Research Division

So just as a follow-up on, I guess, ERP, 2 key things, the functionality challenges are coming primarily where? And then as you've rolled out the CRM component, have you seen yet much of a benefit to how the salespeople are doing their day-to-day job, whether it's calling on more customers or anything like that or is that too early yet?

William J. DeLaney

I think we're beginning to see benefits, John, on the CRM. But it is pretty early. I mean, we've -- it's a huge rollout for us in multiple companies. But for us to be able to successfully implement some of the other initiatives in the SG&A side that we've undertaken, we're going to need to see effective implementations of CRM. So I think we're in a good place there. But that's like a lot of things. It probably takes a good year to get it out and get people to use the system and to trust it and then to hold each other accountable for results. So I'd say still early, but we're very encouraged and very pleased with the system itself that we're using. As far as the functionality, let me do this. I went back and I looked at some things we've said to you all in recent calls and I'd like to put it in context. And I think the first point I want to leave with you is we're very confident in the direction we're going in here. We're very confident that we are going to be able to resolve some of the challenges that we have right now. We're just not as confident in terms of the specifics of the near-term time line. With that said, what we've talked about in the past is concerns, issues with speed, performance, in particular with the order entry system. We had some issues with reports early on, and we spoke a little bit in the past about inventory management service levels, those types of things. I would say to you where we are today with these recent rollouts, we're pleased with the progress we've made on the order entry and the speed and the performance of that system. So we've done well there. We're very pleased with, as I said earlier, with the ramp up of SBS, and that group beginning to take on a broader array of support services, even without the technology being as further -- as far along as it will be at some point. So we're not waiting on the technology to begin to centralize the things that we believe that can be centralized effectively. Our challenges today, we've had some hardware blips, to be honest with you, around Thanksgiving time. We ran into some issues there and it took us a while to resolve that. We've had an event or 2 here of late as well. So we still got some things to work through on the hardware side, highly confident that we will be able to do that. And then on the, well, I'll call it again, the inventory management service level issues, still not clicking here at the level that we need to be. We came out of the chute pretty well after the deployments themselves, but the service levels aren't where they need to be. We've ran into some issues with connectivity and our system to our large customer systems. And those are things that we're working through today. Now I'll remind you that this deployment, we did back in early November, was very important for a couple of reasons: one, it's the first time we deployed 2 companies; but second, North Texas or -- essentially Dallas is by far and away the largest OpCo we put on the system, and it's one of our largest Opcos overall. So these challenges we're going into right now, well, some were frustrating at times, not unexpected, and we're working through them with our customers and with our people and again, really appreciate the patience of the customers and very, very appreciative of the efforts our people are putting forth.

John Heinbockel - Guggenheim Securities, LLC, Research Division

And then just one last thing, it looks like the level of price investments have moderated from where they were 9 months ago, a year ago. Is that likely to continue, or does that go the other way, given the macro and maybe a resurgence in inflation? Do you think the pace of price investments gets more intense on your end the next remainder of this year or do you continue -- think we continue to moderate?

William J. DeLaney

John, those are your words. I don't think I've used those words exactly. I will say about 1.5 years, 2 years ago, we did talk a lot about strategic pricing initiatives and there were some things we are doing there, a category or 2, that we have pretty much cycled through, and we're pleased with what we've seen there in terms of growth. I think the relative improvement you're seeing on the margin trends is a combination of 2 things. I mean we are working very hard at it, trying to strike the right balance in terms of growth and being responsive to our customers. And secondly, is because the inflation has subsided that takes a little pressure off the percentage change issue there. So we're continuing to try to grow the business aggressively but be smart about it, and we need to continue to improve on the margin side.

Operator

We'll take our next question from Edward Kelly with Crédit Suisse.

Edward J. Kelly - Crédit Suisse AG, Research Division

So if we could go back to -- just a quick follow-up on the ERP implementation. Is there any impact on the cost that you expected to incur this year, the $300 million, $350 million, as well as on capital because I know you talked about some hardware issues.

Robert C. Kreidler

The second one first. At this point, we don't really anticipate an increase in the cost of capital. And if it is, frankly, it's going to be minor. Hardware really doesn't cost that much in the grand scheme of a project like this. The capitalization of labor, which typically occurs when you're developing a system, not when you're implementing it. So I don't anticipate a significant increase in the capitalization. In terms of the overall cost, to the extent that there's a delay here, just like what we talked about the last time when we talked about the more significant delay, it's not really in the current year, it's just that additional time down the road. So while there may be some additional costs, I don't currently anticipate those being significant. But anytime you have a delay, of course, you're adding more time to the end of the deployment cycle, and you'll pick up additional cost for a longer period of time.

Edward J. Kelly - Crédit Suisse AG, Research Division

Okay. And then I'm just trying to frame sort of like the net cost of business transformation, as well as the cost savings that you talked about this year. And, I guess, the way we think about it, if there's $300 million to $350 million in business transformation, and let's call it, roughly $150 million in cost saves, you're sort of at this $175 million level net for the full year, which is lower year-over-year than last year, right, because you gross cost in those savings. Are we thinking about that the correct way?

Robert C. Kreidler

You're generally correct. We gave you a lot of guidance at our Investor Day, which I'd encourage you to pull back up, there are a couple of charts there that are pretty good. That, frankly, if you listen to our calls we try to talk in the same language as those charts every time so you can keep up. But that's how we outlined it. We just had gross business transformation cost. We netted against that, some benefits from our shared services center to get to a net business transformation cost and then we also broke it down into cash cost, and cash is where we expected to pick up some benefit this year as we slowed down the implementation and started depreciation -- sorry, slowed down development and started depreciation.

Edward J. Kelly - Crédit Suisse AG, Research Division

Now on the cost savings side, I know in the first quarter you were reluctant to, really, kind of give any color on where you stood. I don't know if you could help us understand how much you've achieved today in the first half or how much of that is back half weighted, just as kind of how we think about the model here.

Robert C. Kreidler

Yes, we're pretty -- we're going to be very cautious about giving quarter-by-quarter guidance because there's going to be a lot of timing elements to this, to be real candid with you. But look, I'm not going to dodge the fact that this whole thing was a build up from one quarter to the next all the way through 3 years. So we told you 25% in the first year, 50-ish range, around 50-ish in the second year and all of it by the third. So you can see the ramp-up. Throughout the year, they ramped up as well. So if the 25% -- yes, more than 1/2 of it is going to be the latter half of the year.

Edward J. Kelly - Crédit Suisse AG, Research Division

Okay, great. And then, Bill, could you maybe talk about just general consumer and industry trends? Maybe start with sort of volume growth, what was the cadence to that volume growth throughout the quarter? And then it sounds like things have weakened up so far in the current quarter, volume standpoint. I don't want to put words in your mouth, so if you could just help us understand what you were sort of referring to there.

William J. DeLaney

Yes, sure. I would say to you that the volume trends have softened, I think, as we went through the second quarter, in particular on the street. We're doing a really nice job with the large regional national chains that -- Kent Humphries and his group have brought in some great accounts there. We've been able to grow with some big existing customers so that's been a real positive for us. I would say on the street, we have seen some softness. And then when Hurricane Sandy came, that just exacerbated it. And things picked up after that, but not to the level that we were at before. I'm not really putting that on the hurricane, though. I just think as you read all the things that come out in terms of economics confidence and you look at some things coming out of our industry in terms of the operators and just looking at a lot of the things that you guys publish in terms of restaurant trends, I think you can say that things have softened out there and we're dealing with it. And bottom line is we're continuing to find ways to stay close to our customers, work even harder on retaining the business that we do have and going after new prospects that are good fit for Sysco. So I think it's going to be soft here for a while from everything I read and that just means that we need to work a little bit harder and continue to, as I mentioned in my comments, continue to aggressively go forward on some of the transformation initiatives and continue to develop that acquisition pipeline.

Edward J. Kelly - Crédit Suisse AG, Research Division

And i just want to ask you one last question on gross profit dollar growth. Your gross profit dollar growth exceeded your case growth this quarter for the first time in a while. Just probably an encouraging sign. Could you maybe talk about what the drivers of that were? It might be something [indiscernible] at SYGMA, but SYGMA didn't grow much. And then how sustainable that is in the back half?

William J. DeLaney

Well, to be candid, that's not exactly a high bar. But it's -- we need to at least get to that and we -- fortunately, we did. So it is encouraging. And again, I would attribute that to some modest improvement on our part in terms of managing growth and profitability, and we need to continue to improve it or to be totally candid. So it's encouraging but a lot of room to go.

Edward J. Kelly - Crédit Suisse AG, Research Division

Can you keep that up in the back half, though, do you think?

William J. DeLaney

We're planning to.

Operator

Our next question comes from Michael Kelter with Goldman Sachs.

Michael Kelter - Goldman Sachs Group Inc., Research Division

Just first off, a quick one on the recent delays on the ERP rollouts. Do you expect the delay to be measured in months or quarters?

William J. DeLaney

Right now I'm dealing with the weeks, Michael. All right, so basically we're -- as I said, we're taking a look at some of the challenges we have, and we've got some very capable people internally and externally working with us on that and we're staying close to our customers. So I think over the next several weeks, we'll have a better update for you on that.

Michael Kelter - Goldman Sachs Group Inc., Research Division

Okay, and then on the business trends commentary that you've given, anything you can help us with on the trends you're seeing over, let's say, the last 4 or 5 weeks in the current quarter? Are they stable or is there any evidence of an impact from the recent payroll tax increase?

Robert C. Kreidler

I -- first of all, January's hard for me to make any great commentary on, just there's a lot of volatility from 1 year to the next on weather and that kind of thing. And I don't talk a lot about weather. But keep in mind, this quarter for us, March is disproportionately large because of the seasonal changes where you'll continue to, hopefully, have good business where people go on vacations, as well as people up north getting out a little bit more. So it's hard to draw any conclusions, but generally soft. I will re-announce that. I don't know that I can attribute any of that to the payroll tax. What I would attribute it to is confidence just what the countries going through on the economic side and, I guess, the payroll tax will be a piece of that. And just everybody is, I think, continue to be pretty careful with their dollars as they start the year. But I think our operators I just saw some numbers this morning and these go up and down. And the outlook from our customer base is a little bit better, even though we're not seeing it in the numbers yet. We said this 2 or 3 years ago, and I think, unfortunately, we were right. This recovery is slow and it's uneven. And going back to your earlier question, it seems almost to be quarter-by-quarter at times. So hard to predict, but I think comparisons will be a little tough this quarter again. And I say, one more thing on weather, and I've seen in it -- some of you guys' reports we did have a very mild winter last year and that did help us, in particular, in the northern states. So a little cautious here early in the quarter and certainly hopeful that things will pick up as we get into March.

Michael Kelter - Goldman Sachs Group Inc., Research Division

And then on the SYGMA business, I know it's not the biggest chunk of your business, but it was up less than 1% in the quarter despite the 2.5% pricing, which implies that division at least temporarily is actually in decline on a real basis. Is there anything we should be aware of in terms of lost customers or anything like that, or is it just some temporary time shift of some sort of orders, anything like that?

William J. DeLaney

It's more the latter. I mean SYGMA's going to have a little bit more volatility on the pipeline because when you bring in a new account or you pick up a significant more business with an existing account that will jump your numbers for a period of time, but we've essentially wrapped some of the new business pickup there and there's been some wins within existing customers and some modest losses, that type of thing. But basically it's a function of we've wrapped some of the new business from a year ago and what you're seeing there is a pretty good reflection of the overall growth of the customer mix.

Operator

Our next question comes from Mark Wiltamuth with Morgan Stanley.

Mark Wiltamuth - Morgan Stanley, Research Division

Can you give us a little comment on what was going on with inflation during the call -- during the quarter, and also your prospective outlook for inflation here for the rest of the year?

William J. DeLaney

Yes, the way we measure it, Mark, I think we said we have about 2.5 points of inflation on our cost. It's pretty stable with most of the categories. Meat was up, I think poultry is up quite a bit, we had some deflation in seafood and the rest of the categories were not overly significant, although some were certainly larger categories than others. So pretty stable from that standpoint. I would expect certainly to see a modest increase over the second half of the year, but I don't know that we've seen enough yet to be projecting more than that. It's just -- we watch it closely, but I guess my best judgment is a modest increase.

Operator

We'll take our next question from Karen Short with BMO Capital.

Karen F. Short - BMO Capital Markets U.S.

A couple of questions just on the OpCos we rolled out -- you've already rolled to. Can you maybe talk to what's happening with volumes, in general, their attention with the customers or anything you can point to that's encouraging?

William J. DeLaney

You're talking about the last 2 rollouts, Karen?

Karen F. Short - BMO Capital Markets U.S.

Yes.

William J. DeLaney

Yes, I think it's a little early for that, but as I said really on, we did a great job. We had a record sales week in one of the companies at a rollout, and our leadership team and our sales people and our support people here in the 2012 team and SBS have done a great job supporting our sales people and our customers. As you would expect, I mean, as you do run into some of these issues, that will spring some relationships and we've had some good discussions with customers that are experiencing some of the same challenges we are. So they've been very supportive to date, and we are working very hard to get the service levels to the level that we have had historically and that they would expect. So I would say so far, good partnership with the customers but as we've noted, there are some challenges out there.

Karen F. Short - BMO Capital Markets U.S.

Okay. And then in terms of the categories where you've looked at rationalizing SKUs, what about the impact on customers in those categories or on volumes overall in those categories, any color there?

William J. DeLaney

I don't think that's had a big impact on customers. It's had an impact internally, but most of the SKUs that we rationalized were, as you would expect, pretty low velocity type SKUs. So anytime you reduce SKUs, it creates some angst and tension in the organization. But Mike Green and his team have done a great job there, and we're down about 10% in our SKUs. So I think the real test there will be as we go further on the category management work, I think Chris mentioned that we're in pilot stage right now. Part of that whole package is to put together a more optimal assortment that's broader but less redundant. And that will create some SKU pressure as well but in the right way. And so our challenge there will be to work through that with our sales force and our customers from a value added perspective. So all in all, I think we've done a good job there and there hadn't been a lot of pushback.

Karen F. Short - BMO Capital Markets U.S.

Okay. And then just last question, looking at your cash flow on the acquisition side of it, the multiple -- if that dollar amount is actually your total payment for the acquisitions that you made, it seems like a pretty attractive multiple of sales. Is there -- are there any deferred payments or anything that will be part of the acquisition price or is that the actual multiple that you paid for those acquisitions?

Robert C. Kreidler

Typically when we do acquisitions, we will have an earnout agreement, which will last 2 or 3 years, which generally just says that the former management team owners will stay around and help integrate the company and retain as many customers as we possibly can. And for that, if they're able to accomplish that, there's a portion of the purchase price that gets paid out over time. It's not a huge number. So what you're looking at in terms of multiples is fairly reflective of what we're actually paying for these things. We don't typically look at it on a multiple of sales. I know sometimes people do that. There are a lot of different types of businesses that we look at. They have a lot of different operating margins. So that sometimes will cause a pretty broad range if you look at it on a percentage of sales basis.

Karen F. Short - BMO Capital Markets U.S.

Right. Unfortunately, that's all I can look at but...

Robert C. Kreidler

I understand.

Operator

We'll take our next question from Meredith Adler with Barclays.

Meredith Adler - Barclays Capital, Research Division

I wanted to talk a little bit about what you're doing in terms of retirement expenses. You talked about a pretty big increase in 401(k) expense. Is that because it's a new program, is that kind of an initial expense or will there be continuing -- will that expense continue or will there be incremental higher expenses in the coming years?

Robert C. Kreidler

Yes. First, Meredith, we -- I've got to back up and I always have to start with where we would have been this year. We would have been $107 million more in terms of retirement plan expenses, which was obviously not something that we were looking forward to and our shareholders wouldn't have enjoyed either. For that and many other reasons, we look at restructuring our pension plans. That was something we were always looking at as part of business transformation. So we think of it in terms of that was the bogey. We had to do better than that. Now on a year-over-year basis, it is going to be higher, so the direct answer to your question is, yes, within the charges that I've read out earlier, there are some what we call certain items, which are onetime charges that will affect us this year. We talked about $24 million in terms of that, that will hit us this year and then we'll get more to a run rate. We're going to give you more color as to what that run rate is. If not, next quarter certainly in our fourth quarter reports that you can model for next year. We're trying to just give you the visibility for this year. The reason why we all set ranges around it is 401(k) expenses depend upon participation, of course, and that's somewhat hard to predict, especially with employees' paychecks going down because of tax changes. So we've got a fairly wide range in those numbers because we're not sure what the 401(k) benefits are going to look like.

Meredith Adler - Barclays Capital, Research Division

Okay. I think it's great that you froze the defined benefit. It needed it to be done, I'm afraid. I was wondering if you -- I was just wondering if you could talk about the 10 acquisitions you did and whether there is any commonality or anything in particular you're looking for? Are these filling in geographical holes or line of business, or just great opportunities?

Robert C. Kreidler

It varies depending on the acquisition. So I'm going to say they're across the board. I'll give you a little color. In Ireland, while we have a very strong business over there and it covers much of the country, we were able to find 2 other companies that together with ours now cover kind of all of the whitespace on the map. We can reach all the way up into Northern Ireland without doing long haul, et cetera. And so that gives us, we believe, coverage over most of the country, not to say we won't look for additional transactions there, but those are great transactions for filling out the map. Canada, we still have a little bit of whitespace left, and predominantly in some of the larger cities, Québec, Ontario area, there we were underpenetrated and so that gave us the opportunity to increase our penetration or market share in an area where we thought we had plenty of opportunity. Here in the U.S., most of what we're doing now are fill-ins and there are companies that's -- and families that we find that we believe have built a great business and a great name, and we like the way they operate and we enfold them into our companies.

Meredith Adler - Barclays Capital, Research Division

Great. And then maybe just my final question would be obviously inflation is pretty modest right now. I think there was a time when inflation was a lot higher than when it was just challenging to pass it all along to your customers. Is there any reason to believe that, that's still an issue? I mean 2.5% is kind of on top of big numbers last year, or would you say that this is just -- you're not having any issues passing it along?

William J. DeLaney

Meredith, it's Bill. I would say this is as good as it gets, all right? We're in that 2% to 3% zone. That's what we've historically have always signaled is best for our customers and for us. I'm not going to tell you it's easy to pass along, but I think we're doing a little better job of it. It really comes down to the pressure that the foodservice operators are feeling and their outlook. So I think we're doing a decent job right now. If inflation were to pick up materially, that would put pressure on our customers, which ultimately puts pressure on us. So we'd love for it to stay right around here and maybe tick up a little bit.

Robert C. Kreidler

Yes, the thing we have to keep reminding ourselves, though, and helping you all with is at the other end of this equation, we still have the problem of consumer demand, the ultimate restaurant patron. They're just not as -- they're not out there as much as they used to be out there. And that's the part that's never really recovered from the Great Recession, if you will. So as long as we have kind of a weak consumer demand and restauranteurs are trying to get as many customers into the restaurants as possible, you're going to have this competitive pressure in the industry. So it's inflation, yes, but it's also just weak demand on the other side.

Meredith Adler - Barclays Capital, Research Division

Great. And then just one final question about the things you're doing in your shared services facility, it sounds like you've moved a lot of new activities to that facility. Is there anything that you're doing there that perhaps you hadn't originally contemplated and you've now seen an opportunity to use that facility more effectively?

William J. DeLaney

I don't know if there's anything we hadn't contemplated. There are things we're accelerating because we're not to the point where we thought we would have been originally on the technology side. So Chris mentioned several of them, HR, finance, we're doing some things in marketing out there. I'll let Chris add to that, but it's more about acceleration, I think.

Robert C. Kreidler

Absolutely right, Meredith. As we've said and tried to explain a number of times, rather than wait to get the full technology rolled out one OpCo at a time or 6 OpCos at a time or whatever the original plan was and then bring all of those companies into SBS, we've been doing it, frankly, function by function. And we talked about maintenance, that one's done. We're starting to prepare ourselves to receive benefit from that. HR is now being rolled out, finance is underway already. We're just bringing them in function by function, everywhere that we do not need to rely upon the big system going into place. And indeed I think I mentioned and several of these, we're using the SAP modules. We're just turning them on without the overall system being in place. They work just fine coupled in with our existing systems. So it's really about accelerating everywhere we can so that we can get the benefit that we originally described.

Operator

Our next question comes from Ajay Jain with Cantor Fitzgerald.

Ajay Jain - Cantor Fitzgerald & Co., Research Division

Yes, actually most of my questions were already asked, but I just had a question on the payroll increase in Q2 and maybe a lot of this was already covered in the prepared comments from Chris. So I think, Chris, you mentioned that there is going to be an additional $12 million of payroll increase in the back half of the year, but I'm trying to understand the net payroll impact, like, what's been cumulative effect on payroll net of the severance charges year-to-date, and can you give any similar commentary on the outlook for the back half of the year?

Robert C. Kreidler

I believe we talked about payroll being up $17 million, if I recall correctly, quarter-over-quarter. Let's see if I've got any detail on that, that I can talk about. Yes, $17 million up for the quarter. I don't believe actually that number has any of the onetime charges in it. So what you've got going on in there is we've talked about cost being up on the labor side in our delivery area and costs being down on the SG&A side of the equation. You've got those 2 things kind of playing together and the rest, frankly, are just normal increases in payroll expenses as we move forward.

Ajay Jain - Cantor Fitzgerald & Co., Research Division

Okay, yes. I was just trying to understand the net impact of payroll expense year-to-date and what's your outlook for the balance of the year. But maybe I can follow up off-line.

Robert C. Kreidler

Yes, look, we can talk about that. I think Bill said in previous comments that we haven't been all that pleased with some of the increases on the delivery side of the equation. We had some overtime issues, some shortage of driver issues, things of that nature. Those costs have been higher than we anticipated. On the other hand, some of our initiatives are kicking in on the SG&A side and specifically the sales side, and those costs are lower. So you get a bit of an offset there. So you're going to have, hopefully, the latter continuing, the initiatives continuing to hold, and we actually start to gain said benefit or, frankly, just get some control over the delivery side of the equation. So in terms of what we would like the outlook to be, that's it. If this is where we -- we just have to operate really well.

Ajay Jain - Cantor Fitzgerald & Co., Research Division

Okay. And just as a follow-up, my understanding was that a lot of the cost savings that offset ERP spending, those -- whatever was targeted, I think $150 million for this year, that was supposed to be heavily headcount-related. So if that -- if my assumption is correct, I mean would it be reasonable to infer the payroll expense goes down even open in the back half if you look at the year-over-year comparisons?

Robert C. Kreidler

Yes, let me take that in 2 parts. Is it reasonable to expect that payroll expense will go down? It will certainly -- it should not go up as much, let me put it to you that way without giving you specific numbers. I want to be careful, though, I don't believe we ever said that the vast majority of the $150 million was going to be headcount-related. You may be confusing that with statements we've always said most of the hard dollar benefits from business transformation or the ERP systems would be headcount-related, which is a different concept. The $150 million fell into various buckets we've described, including product cost reductions, SG&A reductions and lower operating cost reductions. So it's across the board. There's a lot of payroll in it, I'm not trying to dodge that. And so we would expect it, like I said, to at least not continue to increase and hopefully go down a bit. But there are other cost savings in there as well.

William J. DeLaney

Yes, I think the only thing I'll add, Ajay, is I mean payroll doesn't have to go down for us to leverage our productivity improvement. And so I would say, yes, I would echo what Chris said, we're not quite where we want to be at this point. There's different things going on in different parts of the business. And we have a very aggressive plan for expenses this year. So if -- I'm not sure you have -- I mean, when you look at the expense growth, it's not bad. I mean if you go back and look at it historically, it's just we have a very aggressive goal, given some of the impact of the initiatives, so I don't know that it has to go down. And I think it needs -- the delta, the increase of the delta, it needs to continue to come off, and that's what we're managing, very much focused on cost per case.

Operator

We'll take our next question from John Ivankoe with JPMorgan.

John W. Ivankoe - JP Morgan Chase & Co, Research Division

Chris, I heard some of your prepared remarks regarding CapEx control in general and just some increased discipline in general, about how the money is being spent. I mean, have you been able to update kind of fiscal '14, fiscal '15 CapEx guidance? I mean, is it still the intention that those numbers continue to come down as ERP gets finished up?

Robert C. Kreidler

We typically update our 5-year capital plan as we go into the end of the year. So we haven't updated future-looking years. I will say this, alleviate maybe one of your concerns, we're not pushing off CapEx this year into next year so that we get a -- gain some benefit this year. I know sometimes you can play with the numbers that way, but we honestly don't feel like we're pushing off just to be making the numbers look better. We're just hitting a little bit, as I said, a little smarter about where we spend our money.

William J. DeLaney

I think if you look at last year and this year and pull out the technology and divide it by 2, I think that's a more representative view.

Robert C. Kreidler

Yes, so we're down $177 million on the capital line. In fact, if you double it, we're going to be well under our guidance. I don't anticipate being well under our guidance, but we're certainly running at the lower end of our guidance right now in terms of our forecast for the year. I just don't have a good view of '14 right now.

John W. Ivankoe - JP Morgan Chase & Co, Research Division

Okay. And then secondly, regarding acquisitions, I mean it seems like kind of your acquisition are being made almost kind of independent of what's going on the ERP side, especially with some of the modest delays that are happening. I mean is that the case or are you just kind of -- are you conscious of the size and the amount of acquisitions that you can make until your legacy system can be running exactly the way that you want it to be?

Robert C. Kreidler

No, so we've talked about $775 million annualized sales across 10 transactions. So just do an average of $75 million sales per transaction. They're not extremely large deals that we would worry about disrupting us. Now that being said, I don't think we would be doing a deal in the middle of Dallas right now and trying to integrate it in Dallas. There's no reason to complicate our lives when we don't need to. So it's a little of both. They're smaller transactions in general, which we feel comfortable taking on regardless of where we are with the ERP. At the same time I think we're thoughtful about where we're going to be trying to integrate deals with our ERP rollout schedule.

Operator

Our next question comes from Andrew Wolf of BB&T Capital Markets.

Andrew P. Wolf - BB&T Capital Markets, Research Division

Chris, I want to just ask you about Hurricane Sandy, the $0.01 impact you called out, is that all from forgone sales or was there some inventory involved?

Robert C. Kreidler

It's a little bit of everything, so we had a little bit of asset loss. We moved as much of our equipment out of the area as we possibly could and literally ran out of storage area for some so we had a little bit of asset loss, some inventory, damage to facilities and then sales loss. In general, what happens is you lose the sales, but you don't necessarily lose the expenses. So you're effectively losing the gross profit on all of that for a period of time. So we measured it as best we can. These are more art than science for the quarter. Some of this impact will last for a while and we're probably going to feel some of the impact when the summer months roll around and some of the businesses that generally will open and thrive during the summer aren't there anymore. But we're starting to see some recovery in the area.

William J. DeLaney

But, Andy, I will tell you -- I mean, if you looked at our sales that week, and I don't think I need to tell you in this call the impact of that hurricane, but from the mid-Atlantic right up into Maine and even into the Mideast a little bit, it was dramatic and in particular in metropolitan New York, New Jersey. So that week was obviously devastating to people and our people and customers, but financially, it was a very significant event for that week.

Andrew P. Wolf - BB&T Capital Markets, Research Division

Sure. No, just as we're trying to carve out potential sales impact. That's helpful. Appreciate that. And moving onto M&A, where you helped by the change in the tax code or do you think this -- the M&A environment still remains equally favorable as it was in the quarter?

Robert C. Kreidler

No. I mean, look, we -- towards the -- we had a very busy December. The teams put in a lot of hours trying to close transactions that needed to be closed by the end of the tax year. So yes, that was the case. At the same time though, I don't think that the pipeline has continued to be rather robust. It's just the number of the deals were desperate to close by the end of the tax year.

Andrew P. Wolf - BB&T Capital Markets, Research Division

Okay. And is this environment wearing on potential sellers in terms of valuation expectations -- from what you think, is that -- if we were to take out the tax part of it, what you think of that?

Robert C. Kreidler

I would say -- I'd characterize where we are currently as more normal, which means you've got sellers that are at least somewhat reasonable. Now, look, in any normal environment, you got some sellers that are being irrational with expectations and some, frankly, that aren't asking enough for their businesses. So you've got to range. But the range is more, what I would call, traditional and normal than it was, say, 24 months ago. That's what we've been seeing. And that helps us in terms of getting to a "yes", with -- on a deal that both sides win at.

William J. DeLaney

The biggest thing though, Andy, year in, year out it's still going to be the mindset of that owner, that family or whoever the decision-maker is in terms of how they see their business over the medium term of 3, 5 years, and are they prepared to invest in that is this for the other part of the environment, which is remains pretty tough market out there. So as we've said, I think we're still confident we'll see some activity here going forward.

Andrew P. Wolf - BB&T Capital Markets, Research Division

And if I could, just a follow-up. I know you've been asked about the SAP a lot, but I just want to check my understanding. Is it the hardware issue you're now having, is that tied directly to the service level issues, or is the service level also go back to the code to the software side of thing?

William J. DeLaney

The service level is a result. And what I was trying to say is we have had some hardware issues. And again, we're confident, we're working through them and that we're confident we'll resolve those. But that will create slowdowns in the system, that will create late trucks and that type of things. So we've had some of that. But on top of that, we continue to have challenges as it relates to the functionality of the inventory management system. And that's a separate issue that needs to be addressed separately and -- but they've both result in service level variances from our typical levels.

Robert C. Kreidler

And the biggest issue in hardware is, as you might imagine, is just stability. Now if you've got hardware issues, you've got an unstable system, and that's the part that you've got to resolve before you can gain confidence in the system and then as Bill said, everything else kind of drives from that.

William J. DeLaney

So what -- I need to be careful here. Let me be clear. We're shipping groceries. The service levels are not at the level that they historically have been at, which is a very, very high level, all right? So the levels are not quite up to our norm. The challenges that we have had, in particular hardware is -- we might have a day or 2 where we have issues with slowness of the system and we have a hard time getting trucks out on time and that creates its kind of issue. The other issue is more of, if you will, steady-state issue that we're working on as well. So we're delivering groceries, it's functioning. We just have very high standards and so do our customers. And that's what we need to continue to perfect here.

Andrew P. Wolf - BB&T Capital Markets, Research Division

Yes. And the other thing, just to take your temperature on this, if I can say it that way, let's say 9 months ago when you had what's, not a similar, but you also had a delay and some challenges. How do you rank this compared to that in terms of your confidence of resolution on getting back on track on a reasonable period of time? How do you felt then? Back then it sounded like it was -- to me, it sounded more serious. I'm just trying to take your temperature on that.

William J. DeLaney

I'm actually much more confident than I was 9 months ago in terms of getting back on track and in terms of taking this system to the level it needs to be to scale it and to provide, not just the service to our customers, but the efficiencies that we need and some of these are doing business that our salespeople need. What I'm not as confident on in the short term is the time line. But that's -- those are 2 different questions. So I feel better today. We've got our -- I'm very proud of our people, not only are they working hard, we're making progress, we've brought in some good people internally and externally to help us and each day and each week, even good weeks are challenging weeks. You learn more about it. So I feel very good about where we're heading. I wish we could give you a little more definitive update on the time line, but I certainly hope we can here over the next several weeks.

Andrew P. Wolf - BB&T Capital Markets, Research Division

Just lastly on sales again because -- I understand the weather is -- are you trying to say for a January status, it's kind of too light? Too light a month to really say there's a change on trend based on to say that the payroll rate or the payroll tax going up or -- is that what you're trying to say or did you, in fact, say maybe things have softened? I'm just trying to get some clarifications.

William J. DeLaney

I think I'm trying to say 2 things, Andy. I'll help you work on it. One is -- the business has slowed, especially on the street, over the last couple of 3 months and that includes January. Two, whether we have a great January or poor January, it's not as material to the quarter as what you see in the second half of the quarter, in particular in March.

Operator

That concludes today's question-and-answer session. Thank you for your participation on today's call, and have a wonderful day.

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