Joseph Baty - Chief Financial Officer, Principal Accounting Officer and Executive Vice President
Tarang Amin - Chief Executive Officer, President and Director
Cathy Mattison - Lippert/Heilshorn & Associates, Inc.
Timothy Ramey - D.A. Davidson & Co.
Michael Gallo - CL King & Associates, Inc
Schiff Nutrition International (WNI) Q3 2011 Earnings Call March 22, 2011 11:00 AM ET
Good day, ladies and gentlemen. Welcome to the Fiscal Third Quarter 2011 Schiff Nutrition International Earnings Conference Call. My name is Derrick, and I'll be your operator for today. [Operator Instructions] I would now like to turn the conference over to Ms. Cathy Mattison. You may proceed.
Thank you, Derrick. Thank you all for joining us this morning for the Schiff Nutrition International fiscal 2011 third quarter results conference call. By now, you should have received a copy of the press release. But if you have not, please contact us at Lippert/Heilshorn & Associates at (415) 433-3777, and we will forward a copy to you immediately.
As a reminder, this call may contain forward-looking statements, the risks of which are the same as those described in the Safe Harbor language in the press release and those detailed in the company's SEC filings. Actual results may differ materially from those described during the call.
With us from management today are Tarang Amin, President and Chief Executive Officer; and Joe Baty, Executive Vice President and Chief Financial Officer. It is now my pleasure to turn the call over to Tarang Amin. Please go ahead, sir.
Thanks, Cathy. Good morning and welcome to our fiscal 2011 third quarter call. As many of you know, I joined the company as President and CEO on March 7. I'm truly excited to be part of the Schiff team, as I believe strongly in the company and the growth prospects.
Now before I turn the call over to Joe for a review of the third quarter, it might be helpful to provide you some background on my experiences, why I chose to join Schiff and what you can expect from me and the team. I spent the past 20 years in consumer packaged goods in a variety of leadership roles at Procter & Gamble and the Clorox Company. I've been fortunate to be entrusted with some of the greatest brands around and take pride in being able to grow every brand I've been associated with. At P&G, I was part of the team that grew Pantene from $50 million to $2 billion in over a year period, I also grew Bounty over $300 million in three years. At Clorox, I was instrumental in increasing the namesake franchise of the company, doubling its size in less than five years. And in my last role as GM of Clorox's Litter, Food and Charcoal businesses, my business units accounted for over 70% of the total company sales and profit growth. As I said, I take great pride in these results.
Now there are four characteristics that I attribute to these successes, and these are the same four factors I bring to Schiff Nutrition. First, I thrive on motivating teams and leveraging strong teamwork. I was blessed at both P&G and Clorox to be surrounded by some great people and to be able to energize our teams to drive discontinuous results. At Schiff, I've been impressed by the integrity of everyone I've met and the company's focus on quality. It truly differentiates Schiff from many of its competitors. I look forward to leveraging the current team strengths of integrity and quality and nearing that up with an aggressive growth mindset.
Second, I'm absolutely passionate about brand building. Throughout my career, I've taken well-established brands and made them even stronger with the consumer and with our customers. Schiff has great brands in Move Free, MegaRed and Tiger's Milk. I see potential to build upon these strengths and expand the channel and geographic presence as well as introduce new brands.
Third, brands are built by leading innovation. I have a strong record of innovation such as introducing a new line of treatment products for Pantene, expanding product superiority for Bounty, Kingsford and Fresh Step and redefining what business we're in for Hidden Valley. I love championing big ideas and partnering to develop a continuous stream of news. Innovation is also the best way I know to protect pricing and drive real value. Schiff has a strong track record of innovation as evidenced by the terrific success of MegaRed, which created a new segment. You will see more innovation from us.
Fourth, I have a focus on operational excellence. Well before I began working in consumer products, growing up, my family had a small motel business. We would buy distressed properties, fix them up and improve the operations. I learned a lot in those early days about the value of cash flow, of economic profit, of no waste. I've carried these lessons throughout my career. I see great potential at Schiff to apply these same operational principles to drive greater shareholder value.
These four characteristics: Leveraging high-performance teamwork; building great brands; leading innovation; and driving operational excellence, is what you can expect from me and the team in the coming years. Yet these aren't the only reasons why I chose to join Schiff. I love that the demographic shifts favor this industry. The fact is there are currently 35 million people in the U.S. between the ages of 55 and 65. This is the key age group where supplement usage really increases. In the next 10 years, that 35 million becomes 80 million people for an 8.6% CAGR [compound annual growth rate]. This growth will be driven by baby boomers. Schiff is well positioned to benefit from this growth as our portfolio strength in joint care and heart health addresses their key needs. Also at around $200 million in sales, Schiff has both a good base and great upside.
I'm also excited to leverage the expertise of our investment partner, TPG Growth. I look forward to their partnership on all four factors I just discussed and especially for evaluating potential acquisitions. Texas Pacific Group brings tremendous capabilities that will truly benefit Schiff.
I look forward to updating you on the progresses made on all four of these areas when we report our fiscal year-end results in July. Meanwhile, my first 100 days is going to be focused on getting to know our people and brands, connecting with our key customers and suppliers and laying out the road map for growth. Now I'll turn the call over to Joe Baty, our CFO, for a review of third quarter results and financials.
Thank you, Tarang. Good morning, everyone. And thank you for participating this morning with us. I will now review our financial results for the quarter.
Fiscal 2011 third quarter net sales overall increased 8.3% to $57.7 million from fiscal 2010 third quarter net sales of $53.3 million. In comparison, the overall Supplements category grew at approximately 6% in the food, drug, mass, excluding Wal-Mart market, for the 12 weeks ending February 6, 2011, as measured by IRI. Schiff net sales increased primarily due to an approximate 20% increase in third quarter-over-third quarter Private Label sales and secondarily, due to a 3.9% increase in Branded sales. Private Label sales were $17.4 million for the current quarter compared to $14.5 million for the prior year quarter. While we are pleased with the quarter-over-quarter sales improvement in Private Label, the business remains volatile and under volume and margin pressures. Aggregate Branded sales amounted to $40.4 million and $38.8 million, respectively. A decline in Branded Joint Care category sales was more than offset by increases in other Branded sales, particularly MegaRed.
According to the most recent IRI data, the Joint Care subcategory continued to decline. Consistent with the overall category, our Move Free sales were down quarter-over-quarter. Offsetting the decline, MegaRed maintained its strong sales performance, especially in our big three customers.
Gross profit as a percentage of net sales was 36.2% for the fiscal 2011 third quarter as compared to 41.6% for the comparable prior year quarter. The decrease in the current quarter percentage primarily reflects a higher mix of Private Label sales and the impact of tighter margins on Private Label sales. The Branded Private Label sales mix can change on a quarter-to-quarter basis.
For our fiscal 2011 third quarter, total operating expenses were $14.5 million, including $1.9 million in transition expenses primarily relating to CEO transition costs that are included in other operating expenses. Total operating expenses for our fiscal 2010 third quarter were $13.7 million. As a percentage of net sales, selling and marketing expenses decreased to approximately 13.7% for the fiscal 2011 third quarter from 15.8% for the comparable prior year quarter, primarily due to the higher mix of Private Label sales and timing of certain marketing support.
Reported operating income was $6.4 million for the fiscal 2011 third quarter compared to operating income of $8.5 million for the fiscal 2010 third quarter. The reduction primarily reflects an expected quarter-over-quarter decrease in gross profit percentage in dollars and the $1.9 million in unusual cost.
The effective income tax rate for the fiscal 2011 third quarter was 35.1% compared to 31.8% for the fiscal 2010 third quarter. As reported, diluted net income per share was $0.14 for our fiscal 2011 third quarter compared to diluted net income per share of $0.20 for our fiscal 2010 third quarter.
Net sales were $161.8 million and $155.6 million, respectively for the nine months ended February 28, 2011, and 2010. Nine-month Branded sales were $118.4 million and $114 million, respectively. Diluted net income per share as reported was $0.33 and $0.55, respectively, for the nine-month periods.
In regards to the balance sheet, working capital decreased to $74.4 million at February 28, 2011, from $79.4 million at May 31, 2010. The change in working capital includes a $7.4 million reduction in cash and short-term investments. The reduction in cash resulted primarily from an aggregate special dividend distribution of $20.2 million in October 2010, partially offset by positive year-to-date cash flows from operations.
Stock-based compensation expense amounted to less than $0.1 million and $0.4 million, respectively for the fiscal 2011 and 2010 third quarters. Depreciation expense was $1 million and $0.8 million, respectively. For the respective nine-month periods, stock-based compensation expense was $3.6 million and $1.3 million. And depreciation expense was $2.6 million and $2.3 million.
Fiscal 2011 capital expenditures initiatives currently approximate $4.5 million. We are currently evaluating capital expenditure initiatives for fiscal 2012. Regarding fiscal 2011 fourth quarter guidance as compared to the prior fiscal quarter, we believe net sales will increase in the flat to low single-digit percentage range. We believe an increase in Branded sales will offset a potential decrease in quarter-over-quarter Private Label sales. The modest increase is subject to the impact of ongoing competitive pricing pressures and the effectiveness of our Branded marketing initiatives including promotions, advertising, product differentiation efforts and other considerations.
Subject to my comments regarding both Branded and Private Label sales including sales mix and other factors, we forecast gross margin to be in the 37% to 39% range for fiscal 2011 overall. We believe selling and marketing costs will approximate 15.5% to 17% of net sales.
We recognize the need for long-term innovation and differentiation to support revitalization of the Joint Care category. In the near term, we will continue to support these brands with stepped up customer specific programs, emphasized support and advertising. Marketing support will continue for MegaRed and includes primarily national TV advertising and customer specific promotions. Regarding other new product updates, we expect to gain distribution of our Mega-D3 product in Wal-Mart during the fourth quarter.
Including the CEO transition expenses, we believe other operating expenses will approximate $24.5 million to $26 million for fiscal 2011. We are currently forecasting an as-reported high single-digit operating margin. Actual results for fiscal 2011 may vary and are subject to, among other considerations, competitive conditions and the factors noted previously and in our public filings. While we expect to comment further during our fourth quarter conference call, due to ongoing and seriously price-competitive bidding activity, Private Label sales for fiscal 2012 may decline potentially significantly as compared to fiscal 2011. Furthermore, margins may be impacted. We, of course, continue to pursue opportunities to secure appropriate Private Label business and achieve long-term growth and success.
Again, thank you for joining us this morning. And I will turn the time back over to our President, Tarang.
Thanks, Joe. In summary, we delivered a strong quarter with 8% revenue growth and solid bottom line, despite ongoing pressures on our Private Label business and softness in the Joint Care category. We continue to see strong growth in MegaRed and other brands, and I'm very optimistic about our long-term prospects. And I'm committed to leveraging my experiences to work with the team here at Schiff to build a world-class company. Now, operator, we can open up the call for questions.
[Operator Instructions] And our first question is coming from the line of Michael Gallo from CL King.
Michael Gallo - CL King & Associates, Inc
Just a couple questions. Joe, what were the Move Free sales in the quarter?
Move Free sales for the most current quarter were a little under $16 million. That compares to just over $20 million for the third quarter of the prior fiscal year.
Michael Gallo - CL King & Associates, Inc
Right. Okay, great. Second question, how many stores is Mega-D3 going to be rolling out into in the quarter? And would you expect, as we go through FY '12, that we'll see along the path of MegaRed, where you'll see it expand to other retailers? Or is it just going into some of the Wal-Marts right now? Just help us understand that rollout a little better.
Of course. At least in the near term, this fourth quarter as per my comments, Mega-D3 will get on the shelf in north of 3,000 of the Wal-Mart doors. So not 100% coverage, but pretty close. Obviously, on a go-forward basis, we will continue to market and push and hope to achieve further distribution in other retailers. Playing it forth through the end of the fourth quarter, the key accounts that Mega-D3 will then be in distribution in all the big drug accounts together with Wal-Mart, as well as a few smaller retailers. But the long-term growth and desires, that we achieve distribution also in the Sam's Club and Costco -- but at this time, we can't say that we have achieved that.
Michael Gallo - CL King & Associates, Inc
Right, okay. And then final questions for Tarang. Tarang, obviously, you've only been with the company a short time. Nice job for sort of laying out some of the opportunities here. I guess when you look nearer term, where do you see the greatest areas of opportunities in terms of low-hanging fruit? Is it increased distribution, either geographically or through additional channels? Is it some margin opportunities in getting more vertically integrated? Again, I know you're early on. But just put more frame around where you see some of the more significant areas near term.
Yes, what I'd tell you is I'm about three weeks in, so you're going to have to take that with that caveat. And I look forward to actually laying out the full plan in July when we have our next conference call. But what I'd tell you, short-term, some of the biggest low-hanging fruit opportunities as I think there is real opportunity to revitalize the Joint Care business. I think when I took a look at that business, it had for many years, experienced really strong growth. And the softness we see right now, I attribute to kind of three things, the need for innovation, the need for positive press and for really getting control of kind of some of the insanity on the trade promotion side. So I think our plans, low-hanging fruit, and what you’ll hear us talk about going forward is, what kind of innovation we're going to bring to that category. What kind of news that helps generate. And then ability to kind of put more in what I call consumer education versus buy-one, get-one free and some of those areas. So I think across all of our brands, Joe talked about the strength we have in MegaRed. I think there's still a lot of upside. When I take a look at that business, we're very hopeful on Mega-D3 and our other Branded business. And so I think continuing kind of momentum of Branded including revitalizing Joint Care is job number one. And then in addition to that, I think we're open to all growth areas including channel and geographic expansion as well as what other kind of business segments within this area. But I'll talk more about that at the next call.
[Operator Instructions] Your next question comes from the line of Tim Ramey from D.A. Davidson.
Timothy Ramey - D.A. Davidson & Co.
Tarang, your initial comments on brands and then Joe's comments on Private Label sales may decline in fiscal '12, makes me wonder if that's less of an area of focus for you going forward, and whether your goal may be to shift the company to greater dependence on its Branded business versus Private Label.
I'll start and I'll turn it over to Joe. What I'll tell you, we have a good Private Label business. About 25% of the company and it absorbs lot of costs. We have state-of-the-art manufacturing facility and great capability there. So there's definitely a role of our Private Label. But first and foremost, we're a Branded company. 75% of our sales, and I see the vast majority of our future growth really coming from the Branded side. So that certainly will be our focus. I think as Joe said, we're going to be competitive when it comes to some of these bidding and we'll look at the right opportunities from a Private Label standpoint. But clear emphasis that you hear from me is on Branded products and innovation as well as expansion.
Timothy Ramey - D.A. Davidson & Co.
Joe, I just wondered if you could elaborate on what the tax impact of the CEO change charges. Was that at a normal tax rate or was it a high tax rate or?
No. It was a normal tax rate of around 36% to 37%.
[Operator Instructions] At this time, I'm showing no further questions in queue. I would like to turn the call back over to Mr. Tarang Amin for any closing remarks.
Yes. I just say -- I'll just reiterate again. I'm really optimistic to work with the team here. And I look forward to speaking with you again in July when we talk about our end of our fiscal year results, as well as kind of what the road map for growth is going forward, including an update on these four areas I just talked about. Thank you, everyone.
Ladies and gentlemen, that concludes today's conference. We thank you for your participation. You may now disconnect. Have a great day.
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