Sysco Corporation Q3 2009 Earnings Call Transcript

May. 4.09 | About: SYSCO Corporation (SYY)

Sysco Corporation (NYSE:SYY)

Q3 2009 Earnings Call

May 4, 2009 10:00 am ET

Executives

Neil Russell - Vice President, Investor Relations

William J. DeLaney III - Chief Executive Officer, Chief Financial Officer, Director

Kenneth F. Spitler - Vice Chairman of the Board, President, Chief Operating

John Ivankoe - J.P. Morgan

Analysts

Simi Bhaumik - Cannacord Adams

Meredith Adler - Barclays Capital

Jason Whitmer - Cleveland Research Company

John Heinbockel - Goldman Sachs

Gregory Badishkanian - Citigroup

Andy Wolf - BB & T Capital Markets

Operator

Good morning, everyone. I would like to welcome everyone to today’s Sysco Corporation Third Quarter Fiscal Year 2009 Earnings Conference Call. As a reminder today’s call is being recorded. At this time for opening remarks and introductions I would like to turn the call over to Mr. Neil Russell, Vice President of Investor Relations.

Neil Russell

Thank you, Patrick, and good morning everyone. Thank you for joining us for Sysco’s Third Quarter 2009 Conference Call. On today’s call you will hear from Bill DeLaney our Chief Executive Officer and Chief Financial Officer and Ken Spitler our Vice Chairman, President, and Chief Operating.

Before we begin, please not that statements made in the course of this presentation that state the Company’s or managements 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 factor’s 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 28, 2008 and in the Company’s press release issued earlier this morning.

Please understand that all comparisons given during the call refer to changes between the third quarter of fiscal 2009 and the third quarter of fiscal 2008 unless otherwise noted. Also, all comments about earnings per share refer to diluted earnings per share unless otherwise noted.

With that out of the way, I will turn it over to our Chief Executive Officer Bill DeLaney.

Bill DeLaney

Thank you, Neil. This morning Sysco reported third quarter operating income of $405 million. Year-to-date operating income was $1.3 billion, a 1% increase compared to last year.

Sales for the quarter were down 4.5% and our flat for the year-to-date period.

Diluted earnings per share were $0.38 for the third quarter and $1.24 for the year-to-date period, a 1.6% decrease for the first three quarters of our fiscal year.

These results reflect the ability of our operating companies to produce quality earnings in the midst of severe market conditions. While creating operating leverage in a declining sales environment is becoming more challenging, we remain steadfast in providing value to our customers and relentlessly managing our cost structure throughout the Sysco organization.

During today’s call Ken and I will provide additional details of our third quarter and year-to-date results and update you on our plans for the business.

For now I will turn it over to Ken for a discussion of our operational results.

Ken Spitler

Okay, thanks Bill. Overall I am pleased with our ability to continue to support our customers and control expenses in what continues to be a difficult business environment. Providing excellent customer service and giving our associates the tools they need to perform the job remains priority #1 for Sysco. By focusing on the broad line business we continue to distance ourselves from the competition and expand our market leadership position. Also, the SYGMA segment continues to improve performance as evidenced by increased sales and operating income.

Without question, the key to our success in this environment is continuing to improve operational efficiency, and I am pleased with how our operations have responded. For example, for our Broadline companies during the first nine months of 2009 compared to the same period last year, our diesel gallon usage was down 7.5% compared to a mileage decrease of 5.7%; Kilowatt hours were down 8%; cases per trip were up 2%, cases per man hour have improved 5%; and sales per employee have increased 6%. Inflation as measured by our product cost increases was 3.3% during the third quarter. Inflation for the year-to-date period was 6.2%.

We experienced a steady decline of inflation through out the quarter in various categories. We are experiencing further moderation of inflation in the current quarter as input costs continue to decrease. Historically inflation of 2% to 3% has proven to be a manageable level for both Sysco and our customers.

During the quarter we entered into additional forward purchase agreements for diesel. Currently we have contracts in place for approximately 70% of planned consumption through the fourth quarter and approximately 40% of planned consumption for the next 39 weeks of next year.

We continually manage enterprise wide headcount in a manner consistent with the sales environment. At the end of the third quarter our head count was approximately 47,000, down 6% year-over-year. We remain persistent in finding ways to increase productivity through out our business and expect these improvements to extend beyond the current environment.

As the macro environment improves we expect to be well positioned for the long-term as a result of these changes.

We have progressed further in the design phase of our enterprise resource planning or ERP project and expect to be in a position to share costs and benefit estimates by the end of the calendar year. This technology enhancement is the enabler for the future refinement of our core business model. Our focus is to implement an integrated software system that will enhance our productivity and make it easier for customers to do business with Sysco.

We have begun to experience a moderate increase in acquisition related discussions in recent weeks. We are hopeful that this trend will result in more tangible opportunities in the future. With that said, we recently completed the purchase of Palace Foods, the leading food service distributor in Ireland with approximately $200 million in annual sale. With Palace we believe we have partnered with a great Sysco type company, one known for its outstanding customer service and consistent financial performance which will extend our experience in the international marketplace.

In closing, I would like to take this opportunity to thank our associates for their ongoing commitment to support our customers and improve productivity in all aspects of our business.

With that I will turn it over to Bill for a discussion of our financial results.

Bill DeLaney

Thank you, Ken. There are a few additional items I would like to address regarding our third quarter and fiscal year-to-date results. As previously mentioned, sales of $28 billion for the first 39 weeks of fiscal 2009 were essentially flat compared to the prior year. Looking forward we believe we will continue to experience a difficult economic environment for the remainder of fiscal 2009 and therefore expect our recent sales trends will not improve during the fourth quarter. This will likely place corresponding pressure on operating earnings during the fourth quarter of ’09.

Earnings per share of $1.24 for the first nine months decreased 1.6% compared to the same period last year. Excluding the $0.11 per share negative impact of COLI in the first nine months of fiscal 2009 and the $0.02 per share negative impact of COLI in the first nine months of fiscal 2008 diluted EPS increased 5% for the first nine months of fiscal 2009 as compared to the prior year period. We believe this comparison, which removes the impact of unrealized losses resulting from financial market volatility better reflects our operating performance.

Similar to previous quarters our effective tax rate during the third quarter was unusually high at 40.6%, approximately 1 ½ to 2 percentage points higher than our typical run rate. The $8.7 million COLI loss for the quarter, which is not deductible for income tax purposes, contributed to this higher tax rate.

For the third quarter operating expenses were $85 million lower than the previous year. The decrease in operating expenses was driven by lower payroll expense of $90 million which was a result of decreased headcount and reduced incentive compensation. This reduction in operating expenses was partially offset by increased bad debt expense of $20 million for the third quarter.

We remain committed to effectively managing our credit exposure as evidenced by the fact that our accounts receivable days outstanding are comparable to that of the prior year. Nevertheless, our customers are not immune to today’s cash flow pressures, as we have experienced a $36 million increase in bad debt expense to $62 million for the first 39 weeks of fiscal 2009. While significantly higher than our experience in normal times, this represents just 0.22% of year-to-date sales. We expect a trend of increased year-over-year bad debt expense to continue in the fourth quarter.

Year-to-date cash flow from operations of $985 million remains strong through the third quarter, essentially flat with the prior year. Given both the challenges and opportunities inherent in the current market, we continually review our capital allocation priorities. As such, we have completed our stock repurchase program for this fiscal year and we will develop next year’s program in the coming months. We also have further reduced our CapEx spending plan for fiscal 2009 from approximately $600 million to about $525 million.

During the quarter we further enhanced our liquidity by issuing $500 million of unsecured notes. The bond offering was successfully executed with attractive pricing that demonstrated the investment community’s continued confidence in our financial structure. This transaction also allowed us to secure funds at historically low long-term interest rates.

In summary, we are encouraged by our overall operating performance thus far this year. Although our industry continues to experience dynamic changes, we remain focused both on contributing to the ongoing success of our customers and achieving Sysco’s long-term financial objectives.

With that operator, we will now take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Simi Bhaumik with Cannacord Adams.

Simi Bhaumik - Cannacord Adams

My question is on the demand environment. It looks like the real growth is somewhat stable or is that too early to call given that you’re going into some important months coming up ahead?

Bill DeLaney

Well Simi, we chose our words carefully in this news release. Obviously we saw a bigger decline here in the third quarter than what we have seen in the later part of the second quarter and it is unclear at this point. We are certainly encouraged by some of what we’re reading, some of what we’re hearing, where people seem more optimistic, but at this point I can’t really tell you that we’ve necessarily hit a bottom.

Simi Bhaumik - Cannacord Adams

Got it and then the distribution of your sales the other business I realize is not big, but that business seems to be more sensitive to the economy, is that fair? Is that because of the nature of what it sells?

Ken Spitler

Are you referring to SYGMA or are you referring to the specialty companies?

Simi Bhaumik - Cannacord Adams

I guess the specialty, the produce, and the meat?

Ken Spitler

Yes they are particularly sensitive to the economy particularly like [Geth] Supply deals mostly with the hotel business which is significantly off. Of course what drives our meat companies is the high-end steak which we’re seeing a decline there that is greater than the market in general.

Simi Bhaumik - Cannacord Adams

Okay and a question on the expense side and I think you also alluded to this in the comments with expense dollar growth down almost 7% or so in the quarter. It does sound like you are starting to get up to sort of a feeling in terms of how much costs can be taken out absent sort of the variable changes in the business?

Ken Spitler

I am not sure what you are asking.

Simi Bhaumik - Cannacord Adams

Well I mean how much more can the cost structure be lowered without sort of, I am talking more on the fixed side, if you take the variable stuff out of the equation. Meaning, how much more flex can you go if the top line environment weakens by another couple hundred basis points?

Ken Spitler

Fortunately we are in the business that our expenses predominately are in personnel, driven pretty much by a case of productivity around moving that case in and out. So, we’ve still got room to go, but to your point we’re not significantly there yet, but there is a point where that becomes a problem.

Bill DeLaney

I think, Simi, one of the things we tried to bring out in the comments this morning is we remain very, very focused on managing our expenses and our headcount and all of that type of thing. With that said, when you get into a declining sales environment creating operating leverage does become more challenging. To Ken’s point, there is some room there, but it is getting more difficult.

Simi Bhaumik - Cannacord Adams

Then lastly along those lines about the environment, the acquisition criteria doesn’t change, but do size differences become, more manageable meaning deals that are on the smaller side that may not necessarily move the dial, but there are very contiguous distribution centers where you can leverage off the expense base a bit. Does that become more in play?

Ken Spitler

Yes. I think I understand your question. We typically don’t announce those, but in our world they are called fold-ins and the smaller distribution centers may be general broadliners, may be specific paper or something like that. Yes we are seeing a little more activity around that.

Simi Bhaumik - Cannacord Adams

And, do you think potential deals are more tilted in that regard or it is hard to say?

Ken Spitler

It is hard to say right now.

Bill DeLaney

I think right now what we’re seeing is more on the smaller side, but again over time that could change.

Simi Bhaumik - Cannacord Adams

I got it, thanks.

Operator

Your next question comes from Meredith Adler with Barclays Capital.

Meredith Adler - Barclays Capital

I would like to start with a number you gave us last quarter and I’m not sure if you gave it this quarter, which is what happened to case volume?

Bill DeLaney

I don’t recall giving a case volume number last quarter.

Meredith Adler - Barclays Capital

I thought you said it was down 4%?

Bill DeLaney

No. I am not sure. I know our sales were down about 1%, I think, last quarter Meredith. We go through our inflation methodology with you, so we had I don’t remember the exact numbers right now. I don’t have them in front of me, but we don’t disclose case line actually.

Meredith Adler - Barclays Capital

Oh, okay, because I am just trying to distinguish between trading down which is going to be visible in sales, as well as actual declines in volume, but we can move on that is not really a big deal.

I was wondering about, you obviously have bad debt. Do you feel like there is some kind of a noticeable change in the number of restaurants that are out there and then the same question for distributors? I did hear from somebody about a couple of slightly larger distributors who went out of business recently, one in San Fran and one on the East Coast, but I was just wondering what you guys are seeing.

Bill DeLaney

What we are seeing in terms of the number of restaurants or the number of distributors?

Meredith Adler - Barclays Capital

Both.

Ken Spitler

Distributors are a significant pick up and the number that have gone out as of recent times and we anticipate that continue.

Meredith Adler - Barclays Capital

Okay. I had also heard that there was some fragmentation of purchases that restaurants were chasing deals and were willing to sort of go anywhere to get those deals. Are you seeing anything like that?

Ken Spitler

I think that is anecdotal information. We’re not feeling it, if you’re asking that question. Typically when people are kind of scrambling that kind of anecdotal information flows up, but I am sure there are folks out there doing that, but they’ve always been doing it.

Bill DeLaney

I think on the restaurant side, Meredith, we’ve talked for awhile now that most people that follow this industry feel that there is a fair amount of over capacity in the industry and we are seeing that in certainly closures. I don’t know exactly that we have a number here for you, but we don’t necessarily see that as a bad thing. In other words, I don’t see that as an additional problem to what’s going on in the market, it is more or less the market adjusting to the volume that is out there today. As that connects with bad debt expense, some of issues with bad debt expense are with people that are going out of business, some aren’t. It just depends. So it is not a total correlation there as far as the bad debt and the restaurant closings go.

A lot of these folks are going through some type of restructuring.

Meredith Adler - Barclays Capital

Got it and then my final question is about your own capacity. You have pretty efficient distribution centers, but if you got to the point where you couldn’t cut costs more, would it ever make sense to close any facilities?

Ken Spitler

At this point we just recently closed one in Jamestown, New York, but it was more of really just geographically not suitable. We could look at that, but we are a long ways from looking at that.

Bill DeLaney

We have very few facilities that don’t provide a very good return on investments. I think you would see us continue to do what we’re doing, which is to manage our headcount and manage our productivity as best we can. Those facilities are geographically for the most part, I am talking about our Broadline business, but for the most part those facilities are in markets that we need to be in to service customers.

Meredith Adler - Barclays Capital

Okay, great. Thank you very much.

Operator

Your next question comes from Jason Whitmer with Cleveland Research Company.

Jason Whitmer - Cleveland Research Company

Bill, you have had a few months maybe to take a step back and think about the business from a different perspective. I am curious, after you have talked to more of your employees, more of your customers, more suppliers, what some of your primary take away been, and maybe what some of the top focal points you see as you look out into fiscal 2010?

Bill DeLaney

I am doing my Ronal Reagen impersonation here, Jason! No, I would say it is similar to what you and I have talked about in the past, that even though we’ve got a transition going on here in terms of my role, the biggest thing we’re really dealing with in the Company is more of the market and what’s happened here in the last six to nine months. So, from that perspective, I don’t think a whole lot has changed. Our primary focus continues to be staying as close as we an to our customers and working with those folks to, if not grow their business, at least help them stay competitive in their respective marketplaces, and along the way to do the things we were talking about already this morning, which is to manage our costs.

That is a long way of saying that we are committed to slugging it out here in the near term and then over time, as Ken alluded to in his comments, there are some things we are working on, our technology side, to help us in other areas to improve our productivity and take some of the complexity out of this business. So, we are in the early stages of design there. That is a potentially big opportunity for us and we will talk to you more about that as time goes along.

Thirdly, as things hopefully stabilize here at some point over the next year or so, we are going to continue to look for opportunities to grow this business whether it be primarily, hopefully, through acquisitions. Initially, in our core business we really do believe just like there is pressure on the restaurant side that on the competitors side that there will and should be more opportunities. We’re having discussions and that has picked up a little bit, as we mentioned in the comments this morning. It hasn’t picked up dramatically. Quite honestly, a lot of our conversations don’t always lead to a result, because not every transaction is one that we can get done. Longer term we would hope to be able to grow through acquisitions and identify additional markets.

Jason Whitmer - Cleveland Research Company

I am curious if there has been any change in the impact of your business reviews plus or minus, or if they are just more of the same, or anything else you can add to that platform. Or, just your general sales and marketing initiatives in general to help try to drive more volume even though the market remains depressed.

Ken Spitler

The business is always evolving and improving, at least we hope so. We have concentrated more on the menu itself, on the profitability of the menu. When customers are struggling a bit that becomes increasingly more important, so our focus is and continues to be on the profitability of that individual units menu.

Bill DeLaney

The other thing we have been pretty consistent in explaining to people is on these business reviews. When you get into an environment like we’re in today it just reemphasizes, or doubly emphasizes the importance of continuing to develop those relationships with the customers that we do have, so certainly lost business. When we talk about lost business that is basically when you lose an account that a year ago you were selling, the business reviews are very, very impactful there and we continue to see very little lost business on the accounts that we review in an effective manner.

Jason Whitmer - Cleveland Research Company

Any quick examples of how when you talk about technology transformation initiatives you have on the plate, how that will make it easier for your customers? Is there any sort of user interface that they can be approached with, or better transparency on thing? Are there any one or two items that you think can really stand out as opportunities to really penetrate your customers?

Bill DeLaney

Just generally the user interface both for our sales people as well as for the customers order direct at would be a significant one. Then hopefully over time providing better tools for the customers as well to help them manage their business, manage their purchasing, that type of thing.

Jason Whitmer - Cleveland Research Company

Great, thank you very much.

Operator

Your next question comes from John Heinbockel with Goldman Sachs.

John Heinbockel - Goldman Sachs

So Bill it sounds like you have not yet seen, what you can say is, a bottoming in volumes or tonnage? We may not have hit the bottom yet, or can you just not tell yet.

Bill DeLaney

I think what we are saying is, is that we are not ready to make that call yet at this point. I think we need to see a little bit more here over the next two or three months and hear a little more about what’s going on in some of the other parts of the economy. So, I guess at some point we’ll be able to look back and say when we saw it, but right now looking forward it’s not clear.

John Heinbockel - Goldman Sachs

If you look at the restaurant business it looked like January and February were clearly better than December and then March slipped a little bit from January to February. Did you see something similar or you are behaving a little bit differently than that?

Bill DeLaney

I guess we are different. We didn’t see that at all. We saw January, February, March all being off.

John Heinbockel - Goldman Sachs

On a unit basis?

Bill DeLaney

Yes.

John Heinbockel - Goldman Sachs

Do you think you are gaining share, maybe on a unit basis in this environment, or is it hard to tell?

Bill DeLaney

I think it is hard to tell, probably, at this point. The numbers are not that accurate in the shorter term. Historically certainly we feel we gained share. I am hesitating a little bit on the answer, because I don’t even know that that’s the most critical thing right now. The market is down. We are off a little bit. One of the things we have to do, and it kind of comes back to Meredith’s question, is you have to be a little careful you don’t gain too much share in this type of environment, because there is business out there that is potentially not the best from a credit standpoint. Our folks are doing a good job out there balancing going after new business as well as making sure that we don’t take on undue risk.

John Heinbockel - Goldman Sachs

Some of the cost cutting that you guys have done, has that contributed to any weakness in sales, or were you pretty careful to avoid that the last couple of months?

Ken Spitler

John, we are very careful with that. I can say, in fact, that that is not the case.

John Heinbockel - Goldman Sachs

All right and it looks like we probably will go to some level of deflation at least temporarily. Will that have a positive impact on units and menu prices, or probably not?

Bill DeLaney

First of all, we are not clear that we will go to deflation. We are seeing it in the diary category right now. We’re seeing kind of break even pricing in a lot of categories, but canned, dried, frozen are still up and you probably have a better handle on that John. But, clearly some of these manufacturers are not passing along the decreases for their own reasons. So, it is not clear, but what is clear is we are seeing moderating inflation.

To the second part of your question, I don’t see deflation as a good thing. What we would continue to tell you is that a relatively low-level inflation at 2% to 3% has served us well over the years and generally is pretty good for our customers.

John Heinbockel - Goldman Sachs

Inflation dropped off in this quarter. We didn’t see an improvement in unit volume. We eventually should see that. Is that going to be driven more by, I guess it will be more by the economy and less by disinflation?

Bill DeLaney

Yes, I think that is fair, John. These are not the normal times that we would go back and look at trends off of deflation and inflation and I think whether it is economy or peoples perception of their future income stream, I think that probably is going to drive it more than anything else.

John Heinbockel - Goldman Sachs

All right, then finally if you look at gross margin going forward how do you think about passing along price decreases to your customers? And, what is going to be the primary driver going forward of gross? Is it getting customer mix or the level of inflation?

Ken Spitler

Normal price declines we pass through. If you are talking about margins as a way of gaining business, then frankly we haven’t found that to be as powerful a tool as you might think.

Bill DeLaney

It is a pretty slippery slope, John, as you well know. What we really try to do is to work with our customers where we can identify, let’s say, some share savings opportunities, then we will work with them there. But, across the board price reductions where we don’t have cost savings to go with it has never been a good thing for Sysco and we don’t think it’s a good thing for the industry.

John Heinbockel - Goldman Sachs

Okay, thanks.

Operator

Your next question comes from Gregory Badishkanian from Citigroup.

Gregory Badishkanian - Citigroup

You made an initial comment that you haven’t seen an improvement in sale really and you could see some pressure on operating profits in the fourth quarter. So I am just wondering if it is going to be the same kind of pressure that we saw in the third quarter, or is it going to be a little bit less, or maybe a little bit more as we go forward?

Bill DeLaney

All of the above, but really Greg, we don’t know. What we are trying to tell you there is we are early in the quarter. We haven’t seen the bottom as we said. At least we can’t tell you that we’ve seen the bottom and we’re just trying to acknowledge that when you get into this level of sales decline; were it to get a little worse, it is more challenging to create any operating leverage. So, we have got still two months to go in this quarter. Even if we were to give guidance, which we don’t, it would be pretty difficult to predict.

Gregory Badishkanian - Citigroup

That is helpful and it is good to see that you are not chasing around accounts that might be distressed.

Bill DeLaney

We just try to make good business decisions.

Gregory Badishkanian - Citigroup

Absolutely and obviously bad debt expense has risen third quarter. Would you expect that to kind of stabilize over the next few quarters, or does it just get worse as the environment and the cash cushion that a lot of these restaurants, the small independent owners have dwindled, to see more and more bankruptcies? How do you see that playing out?

Bill DeLaney

I am going to default to my lagging indicator assessment here that we have been using for several quarters. I think the bad debt phenomenon could be with us for a good while.

Gregory Badishkanian - Citigroup

Yes, okay great. Thank you very much.

Operator

Your next question comes from John Ivankoe with J.P. Morgan.

John Ivankoe - J.P. Morgan

I was wondering if you could shed some light on your gross margin in the third quarter. It looks like it’s been lower than it has been for some time. Was there anything unusual there that I should focus on, whether it is your customers demanding lower prices, what have you? Was there some one-time type of things? Just continuing on with that, do you think it goes back to the 80.9 type of level 81 flat type of level where it has been over the last looks like 8 or 10 quarters?

Bill DeLaney

Just looking at the quarter you are right, we are off a little bit in margin. We have had a fuel surcharge employed out there that is indexed now for our street customers and so we fell below the index early in the quarter. We didn’t have that in the margin this quarter, so that was certainly part of it.

Clearly, in an environment like this you are competing very hard on the price line every day, so there is always good price pressure. I would say the fuel surcharge would be the only tangible thing I can think of.

John Ivankoe - J.P. Morgan

Is that worth 10, 20, 30 basis points?

Bill DeLaney

We will give you come disclosure, I think, in the Q, when we file that here in a day or two, that will quantify that to some extent. I don’t have that with me right this morning, but I don’t believe it is 20 basis points, no.

John Ivankoe - J.P. Morgan

In terms of the total number of restaurants that are out there, are you seeing an increase in the number of closures? Are you seeing stability in the number of closures? In other words, were you seeing an accelerated rate of closures over the last six months or were you at a steady state level in terms of what you see in the broad industry?

Bill DeLaney

We don’t have great data on that. I would say that we’re seeing a slowly increasing level of closures. But, again, as I said earlier, and I am not trying to minimize it, that is not necessarily a bad thing for the industry. There are too many restaurants out there and so we try to partner up with the folks that are committed to the industry and so the fact that some people are falling by the wayside is unfortunate, but it is not a bad thing for the industry.

John Ivankoe - J.P. Morgan

Understood and agreed. Thanks, that is it for me.

Operator

Your next question comes from Andy Wolf with BB & T Capital Markets.

Andy Wolf - BB & T Capital Markets

In regards to Broadline, can you discuss a little bit of the slowing in the sale by mix, differentiating between independents and the other half of the business which is small chains and institutional? I guess what I am getting at are the independents, did the independents sales slow much faster than the rest of the Broadline business?

Bill DeLaney

We don’t really give a lot of detail on that, Andy, but I think just generally we would acknowledge that you can tell from the disclosures we do in terms of the MH sure sales that the street sales are off a little bit more than the program sales.

Andy Wolf - BB & T Capital Markets

Fair enough. So, at least for us outside the Company we could look to that statistic as, I guess, a coincidence indicator?

Bill DeLaney

It is a good proxy.

Andy Wolf - BB & T Capital Markets

Okay and on the gross margin, I know you have a lot of your fuel, at least at this quarter, hedged at higher costs and the surcharge came off. Is that sort of what we’re talking about? So, if that weren’t the case, you know the gross margin would have been improved by what’s not in the adverse hedge?

Bill DeLaney

No, let me be clear. What I was trying to say is in answer to why the margins were off somewhat for the quarter, I would say the one tangible thing we can look at is the fuel surcharge. There will be some additional disclosure on that in the Q. That is part of it, but that is not all of it. I would attribute a lot of the rest of it just to competitive pressures.

Andy Wolf - BB & T Capital Markets

Okay, I’m sorry; I sort of misspoke a little. It would have been improved by some amount and we will read about it in your Q, if you were just flat and not hedged.

Bill DeLaney

Correct.

Andy Wolf - BB & T Capital Markets

Lastly, on the bad debt accrual, was there an event or two in there that really you had to catch up on with some bankruptcies? I hear it is going to be at a higher level than you have ever seen, but was there something you had to catch up in there? Or, big events that you just think are going to continue? Or, is it just generally looking across the business and getting more conservative about where things are going?

Ken Spitler

It is across the business, Andy.

Andy Wolf - BB & T Capital Markets

Okay that’s it for me. Thank you.

Operator

Your next question is a follow up question from Meredith Adler from Barclays Capital.

Meredith Adler - Barclays Capital

On the gross margin would inflation of deflation in some categories, like dairy, have an impact on the gross margin?

Ken Spitler

Yes they would.

Bill DeLaney

They would in different ways to be honest with you. Meredith, we are in kind of this awkward period where we’ve got insulation in some categories and deflation in some others, so it is hard to isolate all of that for you. Generally inflation there is pressure on your downward gross margin percentages, whereas in deflation the percentages conceivably can go up a little bit. But, with that said the pressure on deflation is on your cost side, because your operating costs aren’t necessarily going down.

Meredith Adler - Barclays Capital

Okay and then a follow up to Andy’s question. I believe you put the fuel surcharge in gross margin, but the fuel expense goes in SG&A or do I have that wrong?

Bill DeLaney

No, you have that exactly right. The surcharge is in margin and the expenses in delivery expense were in SG&A, as you call it.

Meredith Adler - Barclays Capital

Then could you comment on, I know you have hedged your fuel, but just some idea for the fuel that you’re buying spot. I am trying to get a sense of what the environment looks like now. Are prices down year-over-year?

Ken Spitler

Oh yes, significantly.

Meredith Adler - Barclays Capital

And we will see that for a few months?

Ken Spitler

Yes.

Bill DeLaney

We haven’t seen a major increase in our net expense because even though we are hedged out there on a good part of our volume at higher rates, the spot prices are down considerably from last year.

Meredith Adler - Barclays Capital

My final question is about the money that you raised the $500million. Have you said anything about what you’re going to do with the proceeds? I am having trouble figuring out what you need the money for.

Bill DeLaney

I think our thoughts there were, as we said in the comments that generally you want to borrow money when you can borrow money. From a liquidity standpoint certainly we are in pretty unusual times here from a business standpoint, so we just thought it was a good time to go out and create some liquidity. Certainly the interest rates by any historical standard were very attractive as well.

With that said, I would think you would expect us over time to spend the money as we always do: invest in our business, hopefully we will have some acquisitions, and that type of thing.

Meredith Adler - Barclays Capital

Great, thank you very much.

Operator

There are no further questions in the queue. That concludes today’s question and answer session and it also concludes today’s conference. We thank everyone for their participation.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!