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Snyder's-Lance (NASDAQ:LNCE)

Q4 2012 Earnings Call

February 12, 2013 9:00 am ET

Executives

Mark Carter - Vice President and Investor Relations Officer

David V. Singer - Chief Executive Officer, Director, Chairman of Banking & Contracts Committee and Member of Executive Committee

Carl E. Lee - President, Chief Operating Officer and Director

Rick D. Puckett - Chief Financial Officer, Executive Vice President, Secretary and Treasurer

Analysts

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

Heather L. Jones - BB&T Capital Markets, Research Division

Rohini Nair - Deutsche Bank AG, Research Division

Jonathan P. Feeney - Janney Montgomery Scott LLC, Research Division

Amit Sharma - BMO Capital Markets U.S.

Michael W. Gallo - CL King & Associates, Inc., Research Division

Operator

Good morning, everyone. My name is Sarah, and I will be your conference operator today. At this time, I would like to welcome you all to the fourth quarter 2012 earnings conference call. [Operator Instructions] Thank you. I'd now like to turn the call over to our host, Mr. Mark Carter, Vice President and Investor Relations Officer. Sir, you may begin your conference.

Mark Carter

Thank you very much, Sarah, and good morning, everyone. With me today are Dave Singer, our Chief Executive Officer; Carl Lee, our President and Chief Operating Officer; as well as Rick Puckett, our Executive Vice President and Chief Financial Officer. On today's call, Dave, Carl and Rick will discuss our full-year 2012 results, as well as estimates for the coming year. As a reminder, we're webcasting this conference call, including a supporting slide presentation, on our website at www.snyderslance.com.

Before we begin, I'd like to point out that during today's presentation, management may make forward-looking statements about our company's performance. Please refer to the Safe Harbor language included in each of our presentations.

I'll now turn the call over to Dave Singer, Chief Executive Officer, to begin management's comments.

David V. Singer

Thanks, Mark. Good morning, everybody, and thanks for joining the call. We're really excited to review our results for 2012 and to provide our perspective on what we believe is a very bright future.

2012 was an important and successful year for Snyder's-Lance, and I'm really pleased with our progress. Carl and Rick will speak to some details but, before they do, I'd like to make a few comments about some of the great things we accomplished last year.

During 2012, we grew our earnings by more than 35% excluding special items when compared to 2011, while we also executed several critical initiatives that were important to building our company's foundation. One of our most important accomplishments last year was the completion of our merger integration and the transition of our DSD network to an independent business owner or IBO model. This transition, which began in 2011, has put in place a national distribution network that helps drive market share for our products and allows us to reach more consumers than ever before. This integration was completed with an amazing efficiency and in an incredibly short time and everyone involved deserves our thanks and appreciation.

In 2012, we also rolled out and began to implement our strategic plan, which calls for a focus on overall quality and growth of our core brands, while reaching additional consumers and using our resources wisely. In line with this plan, and through the strength of our IBO-based DSD network, we delivered strong growth in the core branded items of Snyder's of Hanover, Lance and Cape Cod, as we executed changes in other parts of our business to improve margins.

In 2012, we also acquired Snack Factory and the fast-growing Pretzel Crisps line, which became our fourth core brand. Pretzel Crisps has performed well in the short time we've owned this brand and our outlook for 2013 is very good and in line with our expectations.

There were numerous other achievements for Snyder's-Lance in 2012, including new marketing campaigns, infrastructure investments, margin improvement strategies and a number of distributor acquisitions to more completely fill in our DSD network coverage. Carl and Rick will speak to these a little bit more in detail. In the coming year, we'll continue to build on this solid foundation as we deliver -- as we drive to deliver results that grow our top line and expand our margins.

As we recently announced, I'll step off the Board and retire from my role of CEO following our annual shareholders meeting in May of this year. It's been a great honor to be part of this company for the past decade and I'm incredibly proud of the accomplishments made by the thousands of dedicated and hard-working employees that make all our success possible.

Over the past decade, the company's revenue and earnings have tripled and the average annual return to shareholders was more than 13%, about double the return for the S&P 500. More importantly, the hard work and great improvements made over this time frame has positioned the company for even faster growth, higher profitability and strong free cash flow, which will extend our track record of excellent returns for shareholders.

Carl Lee, our current President and Chief Operating Officer, will become our new CEO in May. Carl has the experience and skill to lead our company to new heights and he has my full confidence and that of our Board of Directors. I feel confident that Snyder's-Lance is very well positioned for continued growth and success for years to come and I look forward to working with Carl and the other directors to ensure a seamless transition.

Now Carl and Rick will provide some additional details about the progress we've made in 2012 and our outlook for 2013. Carl?

Carl E. Lee

Thank you, Dave. I want to take a few moments and share my appreciation for all Dave has accomplished during his time with our company. Thanks to Dave's vision and drive, we have accomplished a lot over the last few years, as we've successfully merged 2 great businesses into a stronger national company. We completed our integration on time, launched our strategic plan, acquired Snack Factory and created significant shareholder value during 2012.

Dave, I'm very grateful for your partnership, leadership and support over the past 2 years. Everyone at Snyder's-Lance is proud to have worked with you and thankful for all that you've done for our great organization.

Now as we turn to 2012 and look at our strategic plan accomplishments, I'd like to share some outlines. Let's begin with our 4 core brands: Snyder's Pretzels, Lance sandwich crackers, Cape Cod kettle chips and Snack Factory pretzel crisps. Our brands grew faster than their respective categories in the fourth quarter and gained market share across the board. Not only did our team accomplish this for the quarter, they increased our market share position during each of the quarters in 2012. We racked up sales and market share growth in very competitive categories across all 4 brands by focusing on retail execution, innovative new products and exciting consumer events.

Our team expanded our margins on core, pride and private brands by changing our sales mix and price points. We exited our improved sales programs when they did not meet our margin hurdles. We walked away from a number of marginal programs this past year and have been working to replace that business with sales that deliver our margin goals.

Regarding our consumer activities. We launched a very successful movie tie-in for our Lance sandwich crackers and we developed great new TV ads for Snyder's and Cape Cod, each of which have tested extremely well and each will be used to drive consumer activations in 2013. Our innovative new products drove profitable growth as we work to expand our consumer reach. Our Waffle Cut Cape Cod, Synder's Braided Twists and Lance Cracker Creations helped us expanded our franchise and revenue growth.

Our R&D leaders were busy in 2012, overseeing the building of our new research and develop center. It is due to open in the next 30 days and will support our aggressive innovation plans, helping us deliver category-expanding new products to deliver profitable, incremental growth for our retailers.

Our DSD leaders lead our route-integration initiatives, delivering our conversion to an IBO system on time. We are pleased with our DSD execution, margins and growth potential. Not only did we complete our DSD integration in 2012, we acquired a number of DSD businesses to strengthen our network. We are committed to another expansion of our DSD system and the long-term growth potential it provides. Our supply chain leaders consolidated our production and shipping locations to lower our cost of goods and raise their margins. Our supply chain associates were actively engaged in our Vision Stream or what we now call Fund the Future process, as they identify and execute a long list of projects to drive operating efficiency, expense reduction, quality and service enhancements.

Our team also executed a large number of major capital projects to support innovation, productivity and packaging upgrades. In 2012, we also launched a number of capability programs to improve the tools our associates use on a daily basis. These include the new trade management software that enhances our promotion budgeting, planning and tracking to better manage our ROI, as well as enhanced P&Ls for our zone and district sales leaders to help them better manage their local businesses, just to name a few.

Finally, we improved support for all of our associates with organization development programs that support their personal development, advancement opportunities and idea sharing. We saw a number of key promotions across the company as we continue to develop our team internally, helping our people grow in order to support our company growth.

Now taking a short view of Snack Factory, an update there. As you know, we acquired Snack Factory and the fast-growing Pretzel Crisps brand in October. Along with a team of very talented and driven associates, Pretzel Crisps brings significant revenue growth potential to Snyder's-Lance. Pretzel Crisps will help us push up our operating margins and our plans of reaching a 10% target. Our plans called for quick integration of Snack Factory that we wanted to complete by the end of 2012. We also wanted to do this in a way that would be seamless to our customers. I'm pleased to announce that this integration was completed on time and as planned.

Looking forward, we are focused on leveraging the resources at Snyder's-Lance to support our Pretzel Crisps team, giving plenty of flexibility to drive this very profitable business. Our goal in 2013 is to reach more first-time buyers and to bring an even higher number of repeat customers into our franchise and keeping -- to continue to grow the business.

Now looking forward to 2013. We already have some exciting new innovative products ready for '13 that were developed through a cross-functional team effort of our marketing, R&D, sales and supply chain teams, all of which are very exciting and will help us reach our category growth targets. These teams have been busy creating a robust pipeline of new products for packaging and flavors that will enhance our current SKUs, allow us to win more consumers, while we delight our long-term consumers as well.

Our sales teams are in the process of executing a number of programs to expand our in-store merchandising, display and space allocation with good success so far. Our marketing team has robust plans in place to support our core brands with exciting consumer events. The supply chain team will be leveraging our Fund the Future programs to drive further cost improvement, as well as service and quality initiatives.

Now let me call on one of the biggest events that we have for 2013 and that's our 100-year celebration and anniversary for our Lance sandwich crackers. 2013, Lance sandwich crackers will celebrate its 100th year as the #1 sandwich cracker. Our tagline, "The Goodness is Baked In", makes a clear statement about our product quality and we're excited to be celebrating 100 years of success.

We will be introducing a very exciting new product called Xtra Fulls [ph]. It's a premium, filled sandwich cracker that gives our consumers more of what they like. You can see some of the graphics for our Lance 100-year anniversary in the online slide presentation along with image of our new Xtra Full [ph] product. In celebration of this great event, the Lance brand will see significant innovation this year as we also introduce new flavors of our Nekot cookies that we think will be a big hit.

Now and in conclusion. As Dave said, 2012 was a very important and successful year for Snyder's-Lance in many ways. We put a great foundation in place and accomplished a number of important steps in a short amount of time. I look forward to building on the success and thank everyone of our associates and partners for all of their support.

I'll now turn it over to Rick for a closer look at the numbers.

Rick D. Puckett

Thank you very much, Carl, and welcome, everybody, to our call.

I want to refer you to the slide presentation that was posted this morning. And we'll start on Page 8 of that presentation, which shows the fourth quarter revenue summary. And this does include, as footnoted, approximately $27 million of Snack Factory revenue. Branded revenue was up versus last year by 10.6%, that's excluding the IBO impact. The IBO impact, by the way, will be with us until the second -- or the end of the second quarter of 2013. We will continue to call that out as adjustment.

Excluding acquisitions, branded revenue was even with last year, with our core brands growing by 3%. Acquisitions contributed, as I have mentioned before, about $27 million in the quarter. Private brands were improved over previous quarters, as Carl mentioned, but still down versus last year which was again purposed as we exited unprofitable business. We are now in the volume rebuilding stage with new volumes being driven from new and existing customers.

On Page 9, you will see the year-to-date or the full year of revenue summary. Excluding Snack Factory, branded revenue was up 4%, while core brands are up 7.5% for the year. Again, Snack Factory was in the fourth quarter only, so it contributed about $27 million for the year. Our private brands were, again, very close to our internal targets, with our deliberate reduction there. So we're quite happy with what we've done in private brands. The Other category is impacted by a one-time bulk sale from 2011 of approximately $5.5 million. So most of that variance is the result of the bulk sale that happened last year but did not occur in 2012.

On Page 10, you'll see some key financial summary metrics for the fourth quarter. And I bring your attention to the gross margin of 34.7%, more than 34.1% last year. And approximately 170 basis points or $7 million resulted in the negative impact year-over-year related to the IBO conversion. Continued favorable manufacturing efficiency is contributing significantly to the improved gross margin for the quarter. The consolidation of facilities have been executed and are resulting in efficiencies over last year.

In addition, our work on investing in capital improvements are starting to have a favorable impact. So all of the capital that we've been putting into place over the last year or so and will continue into 2013, are driving some improved margins and efficiencies.

I would also bring your attention to the operating income percent, at 7.9% versus 6.2% last year. And I'll make some comments relative to the full year as it relates to the special items. But if we think about our operating margin, during this year we reported operating income of 5% in the first quarter, 6.3% in the second quarter, 7.8% in the third quarter and now, 7.9% in our final quarter. The integration savings have been fully realized as we expected and, quite honestly, as we talked at the last call.

Our operating margins of 7.9% in the fourth quarter actually included 100 basis points of additional advertising spend. So that was the advertising that we had delayed from the third quarter as we repositioned our advertising and the messaging.

I also want to talk to you about the significant special items in the quarter. These related to 3 primary categories. For the year, these are largely offset by the gains on the sale of the routes that we completed in the year. The first category is impairments of trade unions [indiscernible]. As we defined the value 2 years ago at the time of merger, we have not yet decided on where all the brands would be used. During the past year, we have determined that some of the original Snyder's brands that were revalued would, in fact, be reduced in their use and therefore we made an adjustment in their carrying values. Impairments of equipment is similar, in that it's a result of making changes for optimizing our production as a result of merger and the closing of facilities. And then the third category is the M&A activity. So this includes the costs associated with the Snack Factory acquisition and those are included as special items for the quarter.

Driving our attention to Page 11. One highlight is that we're reporting diluted earnings per share of $0.95, which is 135% -- or 35.7% better than last year. Of the $0.95, $0.02 of that is related to Snack Factory.

On Page 12 is cash flow items. Our inventory levels were elevated this year end, due primarily to a Snack Factory acquisition. Our days on hand excluding Snack Factory are still at 32 days, consistent with prior quarters. Our leverage ratio is around 3.0 at the end of the year and we have an effective interest rate below 3%. Therefore we'll continue to use cash to fund growth through M&A and other investments, as we have stated in our strategy.

On Page 12, you'll see free cash flow at $12.5 million compared to $53.8 million last year. The $53.8 million in 2011 included the $21 million tax refund, which did not reoccur in 2012. And also, you could see, on the capital expenditure line, that we spent $23 million more in CapEx this year versus last year.

Now we'll turn to Page 14 and talk briefly about our full-year estimates for 2013. We do expect net revenue to be 10% to 12% increase over 2012, which includes Snack Factory. If we exclude Snack Factory, we do estimate the increase to be approximately 4% to 6% on the base -- on the organic growth expectations. We also estimate EPS to increase by 22% to 32%, with Snack Factory accounting for approximately 10% to 14% and the remainder of the business accounting for a 12% to 18% increase. Commodities are committed to the first half, consistent with our normal practice. Capital spending estimates are at $78 million to $83 million as we continue to invest in our manufacturing facilities.

I will now turn it back over to Sarah for any questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from Heather Jones of BB&T Capital Markets.

[Technical Difficulty]

Your next question comes from Akshay Jagdale of KeyBanc.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

Can you hear me?

Carl E. Lee

We can. Good morning, Akshay.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

In terms of my questions, the first one is how do you bridge the gap between the 10% to 12% sales increase and 4% to 6% organic? Specifically, how much of a negative impact is the IBO conversion going to have? And what is the implied branded and core brand sales growth that you're assuming in those numbers?

Rick D. Puckett

Yes. I think that we would not provide that at this point, Akshay. But to the 4% to 6%, it includes only around 2% in pricing. So most of that is volume growth driven by the innovation and ACV gains that we expect on our core brands. So I don't have the core brand breakout at the moment but we'll be talking to that as we go through the year.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

Okay. That's helpful. And then just on this quarter, something that jumped out to me was your branded growth slowed down significantly and it wasn't easy to get to that. But you mentioned in your comments that branded growth was flattish, I believe. What happened there? Because it was growing around 5% coming into the quarter and it seems to have been flat if you exclude Snack Factory. So one, am I understanding that correctly? And two, why did that happen?

Carl E. Lee

Akshay, this is Carl. I'd love to work with you on the question. I think what I mentioned to you earlier was, clearly, we gained market share on all 4 of our core brands. So you know that we've got some very strong competitors, larger multinational companies that we compete with in each of our 4 categories. And we were growing faster than them and growing faster than the category during Q4 in order to achieve the market share gain I alluded to. And we drove that with some additional improvements in ACV. We drove it with some additional SKU stock per store. We also saw our base business performed quite well. And we were not relying a lot on non-promoted business for our growth. It was basically volume and base business growth. So overall, we performed quite well benchmarked against the category and then, in particular, benchmarked against our competitors. So overall, I'm pleased with Q4's progress. When you look at the dynamics of what was going on in the broader category and what was going on in the industry.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

So in other words the weakness or the deceleration in sales is driven by category dynamics. Is that correct?

Carl E. Lee

I think it's not driven by category dynamics, I just think it's probably driven more by just what we see in the broader macroeconomics and the marketplace in general.

David V. Singer

Rick mentioned that our core brands were up about 3 in the quarter and the overall was softer. And really, the issue, we made some conscious decisions, as we've been all year long in our allied brands, to adjust pricing and promotional strategies to build capacity and position us for better margins in the future. So that was another dynamic.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

So in your guidance for '13 you're assuming that current environment holds, correct? So in your sales guidance for your base business, you're assuming that current microeconomic dynamics hold but you'll still be able to sort of return to the growth rates that you had early in the year based on your innovation pipeline, pricing, et cetera? Is that correct?

Carl E. Lee

That sound -- yes. With the targets that Rick shared with you, we're very comfortable with those and it will require us to grow a little faster driven by some of the things that you mentioned.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

Okay. Perfect. And then just 2 questions, one on commodity inflation. Can you remind us what the impact was in the quarter for 2012? And then what your expectations are next year? And then broadly, you've had Snack Factory not for too long. But just help us -- help me understand why a warehouse-delivered product still makes sense? And does it say anything about your affinity towards DSD products going forward, as you think of acquisition pipeline? I mean, does it mean that -- because you bought Snack Factory does it mean you're not going to be doing DSD acquisitions? I don't think that's the answer but I just want to get your sense on that.

David V. Singer

Akshay, I'll take care of the commodity question and I'll let Carl handle the Snack Factory question. As I mentioned on the last call, I think we expected somewhere around $15 million to $20 million of headwind going into 2013. I think we're still comfortable with that. We don't necessarily breakout the impact on a quarterly basis.

Carl E. Lee

And the question regarding Snack Factory and DSD. I think that, that question could be answered pretty straightforward. I think, when you take a look at Snack Factory, Snack Factory's success is naturally the product itself, the very unique characteristics of the product. But what's really helped beyond that is the placement in the deli. And the deli is not a friendly place to work with DSD based on the constraints of getting in there and getting out of there and dealing with the back-door hours that we deal with. Getting over to the deli to service it in addition to the main aisles is a little difficult. So obviously servicing the deli with a direct sales force is very advantageous. So we are very committed to our DSD, we're looking for ways to continue to expand that, we'll continue to do work on acquisitions, we'll continue to work on some enhancements to grow our DSD organization. We are very, very committed to our DSD and will continue to grow it and expand it. But we also see a beautiful opportunity woven above that to get to some areas in the store that, again, are not DSD friendly. So we want to kind of divide and conquer and use our direct sales force to go after some of these unique placements in the store and then add to what we're already doing with our DSD system by covering that and continuing to expand our DSD. So we're going to leverage both organizations to grow our overall business.

Operator

Your next question comes from Heather Jones of BB&T Capital Markets.

Heather L. Jones - BB&T Capital Markets, Research Division

I want to revisit the sales growth question. First, on the branded side, I backed into roughly a $4 million to $5 million hit from IO. Is that -- the IO conversion, did I do my math correctly?

Carl E. Lee

That's $7 million, Heather.

Heather L. Jones - BB&T Capital Markets, Research Division

$7 million. $7 million in the branded section? Okay. So if it isn't a question of the deceleration from Q3 to Q4, so it sounds like a combination of you're saying that the economic environment was more challenging, which you alluded to that on your Q3 call, but also a combination of you -- did you -- did I understand that you walked away from some allied-brand business?

Carl E. Lee

We did so, yes. We did adjust our sales mix, we did adjust the business. So we didn't so much walk away from allied-brand business, what we did was reposition it to be more profitable. So there were some adjustments in promotions, adjustments in price points, a little bit of adjustment in distribution and those things to try to work on that. Private brands, however, we did intentionally walk away from some business that was not going to be able to meet our margin hurdles. So I'd say more adjustment on allied and some tough decisions on private brands led to what you were referring to.

Heather L. Jones - BB&T Capital Markets, Research Division

Okay. And you're talking about the 4% to 6% organic sales growth outlook, only 2% price, so pretty substantial volume gain, which we didn't have in Q4. So I wanted to revisit Akshay's question. Do you have enough in the pipeline as far as new product development, et cetera, that causes you to be confident that you're going to achieve that, even if the economy doesn't improve from what you saw in Q4?

Carl E. Lee

I think we do have a strong sense of comfort level there because we're focused not only on the innovation you talked about and the Xtra Fulls [ph] is something we're very excited about because it gives our consumers much more peanut butter, something that they've always asked for. So that's going to be a very exciting new product. But beyond that, we continue to focus on what I call the blocking and tackling. The efforts to secure more space in our key customers is well underway. Working on our display coverage and our execution there is important. Working on the number of -- ACV coverage, working on number of items that we stock per store, all of that is well underway as well. So it's going to be driven by obviously our advertising our new products and our retail execution.

Heather L. Jones - BB&T Capital Markets, Research Division

And you may have said this and I missed it but how much are you projecting advertising up 2013 versus '12?

David V. Singer

Yes. We did not say that, Heather, so you did not miss it. It is increased over this year. We have not yet shared how much but it is a 15% increase or so.

Heather L. Jones - BB&T Capital Markets, Research Division

Okay. And then finally on the margin trends. So your guidance for 2013 looks like you're projecting EBIT margin somewhere in the 8% to 8.5% range. Should we expect margins in '13 to follow the normal seasonal pattern? Or I would assume as you make progress towards achieving the double-digit goal, should we assume that those margins accelerate as we move through the year?

David V. Singer

Yes. I think that you assume the latter. There are some start-up costs associated with these capital programs that are hitting earlier in the year and then also impacting the full-year margins. Your 8% to 8.5% is a good number.

Operator

Your next question comes from Rohini Nair of Deutsche Bank.

Rohini Nair - Deutsche Bank AG, Research Division

I guess, I wanted to go back to the question of productivity because I'd hoped we would get some more details today around the company's initiatives, especially given the commodity cost environment, the fact that a lot of your peers are talking about how cost savings are becoming a part of their algorithms going forward. I mean, you've talked in general terms about Fund the Future, how Vision Stream became Fund the Future, recently launched this year. Can you put that program into context for us? Can you let us know maybe how much that has been contributing to results and what you expect to see out of that next year?

Carl E. Lee

I think without going into a lot more detail, I think, obviously, it's an initiative led by our associates on the floor of our plants. And if anyone knows how to operate more efficiently, how to look for improvements in the way we manage our equipment, the timing that we run our products and things like that, it's our very valuable and very talented front-line folks. And by really getting some energy around and process around them sharing their ideas, us listening to them, putting together a plan jointly that goes after it, we have seen significant productivity savings, overall cost savings and initiatives that enhance our products throughout 2012. We saw some very good savings drop to the bottom line in '12, some of those initiatives are being implemented today and will continue to fund some savings in '13. And they'll continue to go forward. So the savings have indeed been significant and they are indeed helping us offset some of our investment in marketing that we're adding this year. It's also helping us offset a little bit of the commodity pressures that we've got. And we're just enthused about the progress that our team is making and just continue to encourage them to do what they've done so successfully, really, over the last 18 months.

Rohini Nair - Deutsche Bank AG, Research Division

Okay. And going back to Heather's point about margins in 2013, that you're targeting around 8% to 8.5%. Before the Pretzel Crisps acquisition, I think you had kind of pointed to similar types of numbers. So in a way I thought that Pretzel Crisps would be a way to accelerate it but it feels a bit like maybe you're pushing that further out now. Is there a reason that maybe you're being a little bit more cautious on that front?

David V. Singer

I don't think we're pushing it out any further. We never really said it was going to be 10% by 2014 or 2013. We do expect that the investments that we have made and will be making, as it relates to the capital, will start to return some efficiencies as well. And in 2013, as I mentioned a few minutes ago, there are pretty significant start-up costs associated with these large capital projects. When you put in an entire line, there's quite a few hours spent in getting the product through and getting it right and having the right quality. So we're incurring those costs as an expense in our P&L. So I think what you'll find is that 2013 will be a year where we are positioned to exponentially grow operating margins in the future.

Operator

Your next question comes from Jonathan Feeney of Janney.

Jonathan P. Feeney - Janney Montgomery Scott LLC, Research Division

And Dave let me add my congratulations. I remember, maybe 7 or 8 years ago, being in a conference with you in Florida, sort of laying out these plans to enhance margin through more distribution efficiencies. And it's really come a long way and it's a great credit, so congratulations. I just have one question for Rick. I would love to understand maybe -- looking at the capital expenditure, what maybe is a good maintenance run rate of capital expenditure for this business? And to the extent that next year's above that level, which I understand it is, could you talk about the payback periods you sort of look at on these productivity initiatives and how we can expect those to flow into earnings in years ahead, just philosophically?

Rick D. Puckett

Yes, I mean, our maintenance capital we estimate around $30 million to $35 million, which is similar to our depreciation. The rest of that is amortization of a lot of intangibles. So it's probably closer to $35 million than $30 million. So when we look at a capital expenditure, and these are large capital expenditures, they're $20 million each and north of that, right? So it's a pretty significant investment in our business. And our hurdle rates are at least a 12% internal rate return on those. So it's got to get you a payback of somewhere around 4 -- 3 or 4 years or something like that. So we expect that after we go through the start-up process we will start to see cash flow being generated from those investments. And we're making a lot of those investments in our Charlotte facility, we're making them in other facilities as well. In our Cape Cod facility up in Mass, in Hyannis. So we'll continue to make those investments to enhance our quality and to enhance our efficiencies going forward. And so we feel that we are in a place which, coming out of 2013, we'll be closer to that. So in future years our CapEx is probably going to be a little bit lower and a little bit more like the 4% or so of revenue that you would see our peer group at.

Operator

[Operator Instructions] Your next question comes from Amit Sharma of BMO Capital Markets.

Amit Sharma - BMO Capital Markets U.S.

Just a question on the non-branded portion of the portfolio. As we look at 2013, should we assume that, that portfolio stabilizes to the point where we won't see year-over-year decline or are you still going through the process of culling out some of the unprofitable business?

Carl E. Lee

Most of the heavy lifting is behind us, so we're beginning to see some stabilization in 2013. So we're going to continue to manage that business, to really protect the franchise but, at the same time, make sure that we kind of maximize our margins. So we will see the top line improve and we'll continue to see some additional ways to try to make sure we kind of just leverage that business, to not only grow but to support our core brands as well.

Amit Sharma - BMO Capital Markets U.S.

Got it. And as I calculate margins on that business, I have, like, 3% to 4% margin in that business. Should I expect that to increase, given all the portfolio realignment that you're doing in that business, maybe 50, 60 basis point increase in operating margins in that business?

Rick D. Puckett

Yes. We obviously are not talking about margins in our specific businesses. But if you look at the peer group on private brands, it's somewhere between 7% and 9% operating margins. And we believe that we're producing and running our businesses to be consistent with that.

Amit Sharma - BMO Capital Markets U.S.

Okay. So 7% to 9% for the private label business and then probably lower margin for partner brands. Is that right?

Rick D. Puckett

Our partner brands is simply a distribution model, right? So what you have there is what you might see in other distributors, which could be anywhere from 2% to 5% depending on the distributor.

Amit Sharma - BMO Capital Markets U.S.

Got it. And then just a clarification. Carl, in response to an earlier question, you were saying that some of the growth in acquisition could be -- through acquisition could be in areas where -- that are traditionally difficult to service by DSD. As we look at going forward, is acquisition going to be driven by a desire to become bigger in your core categories or does the Snack Factory acquisition give you a flexibility of maybe going outside of the current portfolio and maybe leverage your expertise in DSD?

Carl E. Lee

I think it's a little bit more the latter. I think that the key for us is we're very in tuned to building distribution. We clearly see distribution as a driver for overall business and we see it as a way to really support our brands. But we're also come to the realization that, while we're committed to our DSD distribution, we'll continue to expand it, continue to grow, continue to look for acquisitions and distribution, we have to realize that not everything is going to be able to go through that system to hit the store shelves as we see it today. So it does create some flexibility for us to have a world-class DSD system to continue to bring new product innovation through and/or new brands that we acquire or build. It also gives us the added flexibility to fill in where DSD cannot get with our direct sales organization. So we see it as an incremental opportunity for us, over and above DSD, to have an item like Snack Factory and the flexibility to have a distribution in place to support it and other brands that we may work with over time.

Operator

Your next question comes from Michael Gallo of CL King.

Michael W. Gallo - CL King & Associates, Inc., Research Division

My question is just on the private brands business. Should we expect to see some moderation in the declines there in 2013? At this point, is the portfolio where you want it to be in terms of being able to get adequate pricing and margins or do you expect we'll see further rationalization this year?

Carl E. Lee

The rationalization for the most part is behind us. We went through a lot of heavy lifting throughout 2012 with a pretty deep dive on where we're making money and how we could improve it. And so most of the rationalization is behind us and we'll just continue to watch commodity costs, input costs and then, if we have to make future adjustments, we will. But overall we're in pretty good shape as we look into 2013 based on everything we know today with input costs and commodities.

Operator

Your next question comes from Akshay Jagdale of KeyBanc.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

This question is more philosophical or longer term, looking at acquisitions. The way I look at your business -- I just want to make sure I'm not misunderstanding the opportunity. But when I look at your business from our perspective, I see that there's a lot of room on the manufacturing side in terms of utilization, as evidenced by the volume you have flowing through on private label, as well as co-manufacturing. And I also, similarly, see a lot of room to expand through your DSD network because, from what I understand, there's a lot more room for more product to flow-through each of the trucks that operate in your DSD network. So if that's the right understanding, I would also assume that if you were to acquire a DSD brand, it would tend to be more accretive than, let's say, a warehouse product. So am I thinking of this, generally speaking, correctly? I mean, I know you can't go out there and buy something that is not available, right? You have to be opportunistic and that seems to be what you did with Snack Factory. But is that really where the leverage is the way I understand it or am I understanding your business model incorrectly?

Carl E. Lee

I think your overall understanding of our business model is correct. I think that when we do look for targets, clearly, the #1 criteria is that it will be accretive. And I think what we've been able to demonstrate is that Snack Factory is accretive. And to your point, we can always expand our DSD system and put more products through that, so that could also be a way to leverage that infrastructure and add additional margin. So I think that we've really opened up some unique flexibility to be able to fully leverage a DSD system where it's really good and then use a direct model to fill in where we can't get with DSD. So I would expect anything that we can do to expand either one of those distribution systems would be to our advantage.

Akshay S. Jagdale - KeyBanc Capital Markets Inc., Research Division

Okay. And just to that end, from the financial standpoint, can you remind us sort of where your leverage is today? Where you expect it to go post this acquisition? How quickly you could get leverage down? And in the short term, if you still have flexibility and the appetite to continue to expand if the right thing comes along?

David V. Singer

Yes. Our leverage is around 3.0 right now, Akshay. And we do believe we have capacity to do and to be able to react to things or proactively look at things today. And to Carl's point, we would look at things that are accretive right away, as we have done in the past. So we do believe that we have that capacity. As far as paying down our debt, that is where all of our free cash flow goes right now. So that, plus the dividend and that's our strategy. We expect to drive that down much more in line with 2x to 2.5x leverage throughout this year, probably closer to 2.5x as we pay down that debt. But the industry average right now is probably around 3.0. We're comfortable right where we are. We'd not be comfortable too much higher than that. So our goal would be to reduce that leverage over time.

Operator

There are no further questions at this time. I'll turn the call back over to Mr. Dave Singer, Chief Executive Officer, for closing remarks.

David V. Singer

Sarah, thank you very much and thanks, everybody, for joining the call. I appreciate all the support and really look forward to watching Carl and the management team and the organization go forward. It's been a great decade involved with the company, a great 8 years as CEO. And I'm really proud of what's been accomplished and incredibly optimistic that the foundation is built to really continue to drive this business going forward. So thanks for everything and I look forward to the future. Thank you.

Operator

This concludes today's conference call. You may now disconnect.

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