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Executives

Barry Sievert - Vice President of Investor Relations

Gregg L. Engles - Chairman, Chief Executive officer and Chairman of Executive Committee

Shaun P. Mara - Chief Financial Officer and Executive Vice President

Analysts

Robert Dickerson - Consumer Edge Research, LLC

Eric R. Katzman - Deutsche Bank AG, Research Division

Farha Aslam - Stephens Inc., Research Division

Judy E. Hong - Goldman Sachs Group Inc., Research Division

Christine McCracken - Cleveland Research Company

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

David Palmer - UBS Investment Bank, Research Division

Amit Sharma - BMO Capital Markets U.S.

Robert Moskow - Crédit Suisse AG, Research Division

Carla Casella - JP Morgan Chase & Co, Research Division

Reza Vahabzadeh - Barclays Capital Inc.

Dean Foods (DF) Q1 2012 Earnings Call May 9, 2012 9:30 AM ET

Operator

Good morning, ladies and gentlemen, and welcome to the Dean Foods Company First Quarter 2012 Earnings Conference Call. Please note that today's call is being recorded and is also being broadcast live over the Internet on Dean Foods' corporate website. This broadcast is the property of Dean Foods. Any redistribution, retransmission or rebroadcast of this call in any form without the express written consent of the company is strictly prohibited.

At this time, I'd like to turn the call over for opening remarks to the Vice President of Investor Relations, Mr. Barry Sievert. Please go ahead, sir.

Barry Sievert

Thank you, Catherine, and good morning, everyone. Thanks for joining us today for our first quarter earnings conference call. We issued an earnings press release this morning, which is available on our website at deanfoods.com. The release is also filed as an Exhibit to a Form 8-K available on the SEC's website at sec.gov. Also available during this call at the Dean Foods website is a slide presentation, which accompanies today's prepared remarks. A replay of today's call, along with the slide presentation, will be available on our website beginning this afternoon.

The earnings per share, operating income and interest expense information that will be provided today are from continuing operations, and have been adjusted to exclude the expenses related to facility closings and reorganizations, expenses related to asset writedowns, expenses related to litigation matters, gains or losses from the divestiture of assets or other nonrecurring items, in order to enable you to make a meaningful evaluation of our operating performance between periods. The earnings release contains a more detailed discussion of the reasons why these items are excluded from the consolidated result, along with a reconciliation between GAAP and adjusted earnings and between net cash flow from continuing operations and free cash flow from continuing operations.

We would also like to advise you that all forward-looking statements made on today's call are intended to fall within the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. These statements will include, among others, disclosure of earnings targets, as well as expectations regarding our branding initiatives, expected cost savings, leverage ratios and various other aspects of our business. These statements involve risks and uncertainties that may cause actual results to differ materially from the statements made on today's conference call. Information concerning those risks is contained in the company's periodic reports on Forms 10-K and 10-Q and in today's press release.

Participating with me in the prepared section of today's call are Gregg Engles, our Chairman and CEO; and Shaun Mara, our Chief Financial Officer. Gregg will start us off by providing a review of the results and business environment. Following Gregg, Shaun will offer some additional perspective on our financial results before turning the call back to Gregg for comments on the forward outlook and closing remarks. We will then open the call for your questions.

With that, I will turn the call over to Gregg for his opening remarks. Gregg?

Gregg L. Engles

Thank you, Barry, and good morning, everyone. Today, we announced strong Q1 results, driven by stronger-than-forecasted growth across each of our 3 operating segments and supported by tight expense control across the business. As a result, consolidated adjusted operating income increased 42% above year-ago levels.

Our financial performance was further bolstered by declining interest expense, resulting in Q1 adjusted diluted earnings per share of $0.31, more than double the previous year and the sixth straight quarter we've delivered EPS at or above our guidance.

As you know, our business is comprised of 3 distinct operating platforms, each with differentiated strategies and capabilities. In Q1, each of our 3 platforms executed well against their plans and delivered strong results. At WhiteWave-Alpro, strong category growth and heavier investment in brand building, marketing and product innovation drove sales and profit growth ahead of our expectations. Net sales increased 13% and our continued focus on efficiency delivered 31% growth in segment operating income. We posted this strong growth despite weaker year-over-year performance at Alpro, our European branded business. At Fresh Dairy Direct, our focus on the fundamentals of volume, cost efficiency and effective price realization, together with a favorable dairy commodity environment, led to volume outperformance versus the industry and 18% Q1 operating income growth. And finally at Morningstar, we achieved continued success through strong innovation for our customers and unique product manufacturing capabilities. This combination drove 16% core volume growth and 13% operating income growth for the quarter despite our sale last year of Morningstar's yogurt business.

While we are not prepared to declare that our recent challenges are completely behind us, we are pleased that our strong actions to control costs over the past several quarters, our focus on the fundamentals at FDD and our continued investments in WhiteWave-Alpro are currently bearing fruit. Our entire team has made enormous contributions to turning around this business, and I would be remiss if I didn't acknowledge all of their hard work and thank them for their contributions to deliver these strong results.

With that overview, let's now look at the segment results in a bit more detail, beginning with WhiteWave-Alpro. At WhiteWave-Alpro, our focus is on driving growth across our portfolio of brands through category-leading innovation, marketing and brand building. We couple that mindset with a strong culture of expense control to deliver operating income growth that we hope is well ahead of sales growth. This was particularly true in the first quarter.

In total, first quarter WhiteWave-Alpro net sales grew 13% over the prior year to $571 million, the highest quarterly sales in our history. Our categories are robust, and we continue to be the driver of category growth through brand building, marketing and innovation. Results were further bolstered by the introduction of new products in the Coffee Creamers and Beverages and Plant-based Beverages categories in Q1.

We saw particular strength in Q1 in our Coffee Creamers and Branded Beverages platform as our core product sales accelerated behind strong marketing support. This solid sales growth was augmented by the introduction of our new International Delight Iced Coffee product in Q1. The Coffee Creamers and Beverages platform includes coffee creamers under the International Delight, Land O'Lakes, Horizon and Silk brands. Aided by a solid category, Q1 was strong in our Creamers business.

International Delight Iced Coffee is the newest addition to this product platform. Although it's early in the launch, in fact, we really only started marketing these products in earnest in late Q1, the new products are off to a better-than-expected start and initial retailer and consumer acceptance has been encouraging. We expect these new products to be solid contributors to growth this year. For Q1, strong core SKU performance, coupled with our iced coffee launch, resulted in a net sales increase of over 20% in the Coffee Creamers and Beverages platform.

Momentum also accelerated in Plant-based Beverages in Q1. Stepped-up investment and marketing support over the past 2 quarters has helped to raise category growth rate. During Q1, Silk PureAlmond sales accelerated and Silk Soy returned to growth. The launch of Silk Fruit&Protein also contributed to sales growth in the quarter. Overall, Plant-based Beverages grew over 20% in Q1.

Turning to our Value-Added Dairy product platform. We had anticipated that tight organic milk supply would result in flat Q1 net sales. However, the mild winter resulted in higher-than-expected raw organic milk production. We also raised prices to offset an increase in the price we pay our family farmers. And as a result, Q1 net sales for Value-Added Dairy increased mid-single-digits.

On a euro basis, Alpro net sales increased mid-single-digits in the quarter, even as the European economy continues to struggle. After currency conversion, Alpro net sales were essentially flat in the quarter. As you would expect, Alpro sales growth varied significantly by region, largely reflecting the economic conditions of the individual countries in which we operate. Generally, we continue to see stronger results in northern Europe, offset by continued challenges in the south. Drawing upon the success of our expanded Silk product line, we launched Alpro Almond and Hazelnut Drinks in select European markets beginning in Q1 of this year. As we discussed on last quarter's call, spending to support this launch will reduce Alpro's profit contribution throughout 2012.

As I mentioned, strong growth across our product categories and our sharp focus on efficiency drove WhiteWave-Alpro operating results to $60 million in the quarter, an increase of 31% above year-ago results and the highest quarterly profit in segment history. This performance includes significantly increased marketing investment to support our new product launches and incremental startup costs related to our new Dallas facility. The new plant is ramping up well due to strong volume growth across WhiteWave.

So to wrap up WhiteWave-Alpro's performance in Q1, volumes were up 11%, net sales increased 13% and operating income grew 31% over year-ago results. We believe this is about as good a profit algorithm as one gets in the developed world consumer packaged goods industry these days, particularly for a $2-plus billion business. We feel very good about WhiteWave-Alpro's trajectory, and we will continue to invest in innovation, marketing and manufacturing infrastructure to support its robust growth.

We also produced solid results at Fresh Dairy Direct. A more favorable commodity environment and a sharp focus on the fundamentals of the business, volume performance, price realization and cost efficiency drove strong year-over-year growth. Our fluid milk volumes continued to outperform the industry in the first quarter. Fresh Dairy Direct fluid milk volumes increased 0.4%, which compares to the balance of the industry, which experienced a 3% decline. Adjusted for the Q3 2011 divestiture of our Waukesha facility, FDD fluid milk volumes increased approximately 2% in Q1.

The key factor in FDD's business is the cost of Class I raw milk. Raw milk accounts for roughly 65% of FDD's cost of goods sold. In Q1, the Class I raw milk price continued a decline that began in the fourth quarter of 2011, averaging $17.38 per hundredweight. This represents an 8% sequential decline but is still 6% above year-ago levels. We expect this trend to continue in Q2 and forecast an average Class I price of approximately $15.50, an 11% sequential decline from Q1. On a year-over-year basis, this would represent a decline of greater than 20%. We also continue to expect the Class I Mover to be relatively stable over the balance of 2012, with the possibility for modestly rising prices later in the year.

As raw milk prices declined in Q4 of 2011 and again in Q1, retailers have been slow to reflect this in their private label pricing. The result has been an increase of more than $0.30 in the margin over milk. This margin, which measures the spread between the cost of raw milk and the retail price of private label milk, is now back to levels not seen since 2009. Favorable commodity price trends and our efficiency programs helped drive Fresh Dairy Direct gross profit to $522 million, a 1% increase from the year-ago levels. Gross profit per gallon increased 2% from a year ago, an important factor in improving our overall profitability per gallon.

We also continued to focus on managing our cost structure to help drive operating profit growth. During the quarter, higher fuel costs resulted in a $9 million increase in distribution expense at FDD. However, this was more than offset by our efforts to reduce SG&A, which drove an $18 million decline in FDD SG&A in Q1, for a total decline in FDD operating expense of $9 million. As a result, we reported the highest quarterly Fresh Dairy Direct operating profit since Q2 of 2010. FDD operating profit totaled $101 million in Q1. This represents an 18% increase over last year and continues the trend of year-over-year profit growth for FDD that began in Q4 of 2011.

At Morningstar, we're focused on serving the needs of our foodservice and private label retail customers. Our main products are longer shelf life creamer and culture products, products such as coffee creamers, ice cream mix, sour cream and cottage cheese. The bulk of our sales are to foodservice customers, where we have a particularly strong business with quick-service restaurants. These customers value our unique innovation and broad plant network of 11 facilities, which provides us the ability to offer coast-to-coast service with optimized freight costs. These attributes make Morningstar a valuable partner to our private label retail customers as well.

Normalized for the April 2011 yogurt divestiture, Morningstar volume increased 16% in the quarter, reflecting continued strong momentum in both the foodservice and retail channels, as well as the success of new product launches with core customers. Morningstar net sales increased mid-teens in both the away-from-home and retail channels when adjusted for the divestiture. Core volume growth, combined with a favorable commodity environment and a positive mix shift in the portfolio, drove Morningstar net sales to $325 million, a 5% increase from the year-ago quarter, despite the divestiture of our yogurt business.

Effective price realization to mitigate the impact of volatile commodities and a strong focus on efficiency are critical to Morningstar's success. Our first quarter results reflect solid execution in these key areas. Despite the sale of our yogurt business last year, Morningstar delivered operating income growth of 13%, a $3 million increase over Q1 of 2011. We also continue to focus on cost control at Morningstar. Our continued network optimization efforts will result in the closure of one of our Sulphur Springs, Texas plants, which we announced in Q1.

So before I turn the call over to Shaun, I'd like to reiterate how pleased we are with this quarter's results. We delivered solid growth in all 3 of our operating segments, and I firmly believe we're on a path for a strong year. With that, Shaun will provide you some additional commentary on the financials. Shaun?

Shaun P. Mara

Thanks, Gregg. Good morning, everyone. As I mentioned on the last call, early last year, we narrowed our objectives and began a concerted effort to focus on the few critical initiatives that would drive our success. We refocused the business on 3 core objectives: cost reduction, price realization and volume growth. Today, our Q1 results reflect the benefits of a more focused approach.

In Q1, we posted volume growth across all 3 businesses, excluding the impact of divestitures. On this basis, consolidated volumes increased nearly 3%, and as Gregg said, our core fluid milk volumes were up 2%. This volume growth, coupled with our cost reduction activities and focus on price realization, resulted in consolidated gross profit of $788 million, which was 5% or $38 million above the year-ago quarter.

Below the gross profit line, distribution expense was again a notable headwind, up $17 million or 5% versus the prior year. Increased distribution costs were driven by higher fuel and freight cost, as well as higher volumes. However, our initiatives to fundamentally reduce SG&A cost at FDD, Morningstar and corporate, resulted in a significant reduction in Q1 expense. Total SG&A declined $26 million to $262 million, 9% below year-ago levels. Excluding advertising and incentive compensation, SG&A declined $30 million from the year-ago quarter and approximately $100 million on a rolling 12-month basis.

In total, increased gross profit across all operating segments and our sharp focus on reducing SG&A more than offset higher distribution costs, yielding 42% growth in consolidated operating income to $152 million. This marks the third consecutive quarter of year-over-year operating profit growth for Dean Foods and our highest quarterly result since Q4 of 2009. In addition, when you look at the $45 million of operating income growth, it is encouraging that over 80% of the growth was driven by improvement in gross profit.

Below the operating line, our focus on debt and leverage reduction led to a $5 million decline in interest expense from the year-ago period. We now expect full year interest expense to be in the range of $225 million to $228 million. Net income of $57 million resulted in first quarter adjusted diluted earnings per share of $0.31, a 121% increase from a year ago.

Turning now to the cash flow and the balance sheet. Total net debt increased by $36 million from Q4 to $3.7 billion. This increase was largely driven by $61 million of payments related to our litigation settlement and a slight increase in working capital. Capital spending for the quarter totaled $45 million, resulting in negative free cash flow of $41 million. We expect positive free cash flow throughout the remainder of 2012.

Despite the slight growth in debt, with a strong growth in EBITDA, our leverage ratio of funded debt to EBITDA, as defined by our credit agreements, continued to decline, reaching 4.41x at quarter end. This is more than a full term below the 5.5x covenant and nearly 3/4 of a term below where the ratio stood a year ago. We remain comfortable with the cushion available under our covenants, and we'll continue to focus on leverage reduction in 2012. We expect total leverage to be at or below 4x by the end of the year.

By nearly every metric, the first quarter was a significant step forward for Dean Foods. Our focus on our core objectives and a more favorable commodity environment drove significant improvement in segment and consolidated results. We are working hard to build on this track record and maintain growth in these businesses.

With that, I will turn the call back to Gregg for some commentary on our forward outlook before opening the call for your questions.

Gregg L. Engles

Thank you, Shaun. Given our significant momentum in Q1, the cautious optimism that we expressed last quarter has turned less cautious. All 3 operating segments performed well in Q1, and we expect strong full year growth across the business.

At WhiteWave-Alpro, Q1 top line growth accelerated behind strength in our core products, as well as strong early consumer interest in our new product introductions. Looking ahead, we expect continued solid top and bottom line growth. Our Dallas plant startup costs and marketing spend in support of new product launches will increase in Q2 from Q1. Given Q1's strong performance however, we expect full year WhiteWave-Alpro operating income growth to be in the high-teens.

Fresh Dairy Direct continued to outperform the industry from a volume perspective. This, combined with price realization and cost reductions, resulted in strong Q1 profit growth for FDD. Looking ahead, we will continue to focus on the fundamentals of the business: volume, price realization and cost reduction. With our outlook for a relatively more stable commodity environment through 2012, we expect continued strong growth for Q2 and for the full year. For the full year, we expect low-teens operating income growth for FDD.

Morningstar's balanced business across foodservice and retail also produced solid Q1 results, as we continue to partner with winning customers. Given Morningstar's strong start, we expect full year operating income growth in the mid-teens.

In light of our more favorable operating outlook, our expectations for continued SG&A savings and lower interest expense over the balance of the year, we expect second quarter adjusted earnings per share of $0.28 to $0.33. We're also increasing our full year guidance to a range of $1.10 to $1.20 in adjusted earnings per share.

In summary, momentum across the business accelerated in the first quarter, with each of our businesses performing well. We believe we've positioned the businesses to build on this track record of growth and to deliver a strong year. We expect full year cash flow to be strong, resulting in meaningful reductions in our debt and leverage throughout the year. We believe this performance illustrates the building strength of our business and enhances our flexibility as we look to deliver superior value to our shareholders in 2012 and beyond.

And with that, I'll conclude our prepared remarks and ask Catherine to open the line for your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we'll first go to Rob Dickerson with Consumer Edge Research.

Robert Dickerson - Consumer Edge Research, LLC

The first question I have is just regarding the Easter shift. I mean, I know we saw some companies, namely Hershey's, some on Kraft, that benefited in Q1 Easter shifts in your products. You could argue sort of Easter-y, so to speak. So with guidance for Q2 still somewhat and obviously exceeding current consensus, it doesn't seem like there is much of a bump that you're calling out, but just want to get some color on that.

Gregg L. Engles

Yes. I think Easter plays a modest role in our business from a seasonality perspective, particularly perhaps around the Morningstar business with its heavy whipping cream and half-and-half products. But it's not a huge factor in our business. And in fact, when you look at how performance calendarized across the first quarter in terms of, by month, it wasn't driven by a late March surge to serve Easter. It was really steadily above plan, beginning sort of around the late January to February timeframe. So really very strong throughout the quarter and it has continued very strong into Q2. So while I won't say Easter wasn't an effect, it certainly wasn't a big enough effect to call it out as a unique driver of the business. And for FDD, frankly, our business has such high velocity that with Easter falling on the 8th or 9th or 10th, wherever it fell in April, really, those sales were primarily driven in the first week of April as opposed to the end of March. So not a big impact on our business.

Robert Dickerson - Consumer Edge Research, LLC

Okay. Perfect, great to hear. And then the second quick follow-up was just, look, it looks like you've essentially outperformed in each of your segments, and much of the business you have deleverage as well. So there are a number of drivers boosting EPS growth. But from Q1, from your perspective, I guess, what were the 1 or 2 or 3 results that came in that really surprised you? Was it just there was a lot more volume growth than you actually really expected? Or is a sizable amount of this actually just coming because milk is back down in the $15s?

Gregg L. Engles

No, look. I think the most important takeaway from the call, from my perspective is that, really, these results were certainly influenced by the performance at FDD and it was influenced by the drop in milk prices. It's always a better environment when it goes down. But all 3 of these businesses were huge contributors to the outperformance. And frankly, this WhiteWave business is just firing on all cylinders. So again, 11% volume growth in the WhiteWave business, I think, is just stunning branded volume growth performance. And the algorithm is again, about as good as it gets. So 11% volume growth, only 13% sales growth, so very little in the way of price. This is a business that's being driven by the consumer. And really, we've just been incredibly pleasantly surprised by the strengths of our brands and the strengths of these categories. And again, that's continuing as we move into Q2. So we're extraordinarily pleased by the performance of the business that, I think, will ultimately drive the most value for this company.

Operator

And we'll continue on to Eric Katzman with Deutsche Bank.

Eric R. Katzman - Deutsche Bank AG, Research Division

I guess, my first question, Gregg, the problem last time around was with the excess capacity in the industry and the captive players and some of the local guys using the excess capacity to get more aggressive. With most traditional retailers struggling for volume, why shouldn't we be concerned that Kroger and Safeway and some of the little guys get more aggressive on pricing to drive store traffic again?

Gregg L. Engles

Well, look, if there is one big risk that you still have to call out around this business, it is soft volumes in the category and it's excess capacity in the processing industry. The specific question that you're asking around retail behavior, it's always possible that they revert to a highly promotional pattern of behavior. But I think what the retailers have realized from the past 2 years of experience is that very deep discounting of milk really served only to destroy their collective profit pool in this category and did not drive incremental volume, nor at the end of the day, when everybody gets to the bottom, does it drive share. So I think, frankly, the most encouraging thing that we've seen out of the most recent drop in milk is that retailers, to all appearances, have abandoned that strategy, and have frankly, almost fully restored the margin over milk to close to its historic highs that we hit back in the early parts of 2009. So that says to me that they've had the experience of pursuing a deeply promotional strategy with milk. They've learned that it doesn't produce incremental profitability anywhere in their store. And they're walking back to a more traditional approach to this category, which emphasizes profitability as opposed to elasticity. And I think that's good news. But you're right, the underlying industry still has soft volumes and still has excess capacity. And when pinch points occur, that can manifest itself as declining margins. And that clearly is a risk. The other thing I'd say about the change in the commodity though, is there are -- our 2 years or 2.5 years in the wilderness here coincided with 30 months of pretty much steadily increasing milk prices, over which period of time, 80% or 90% of the months were up-month and which the prices of the commodity doubled. I think we've all experienced how painful that is in terms of margin, and now we're experiencing the other side of the normal dynamics in this category of the benefit that accrues in the category when the price of milk goes down for a pretty extended period of time. So I think what's usual over the last 3 years is how long the uptrend was, not what happens during the uptrend. Because what happened during the uptrend is pretty much in line with what has happened historically in the uptrends. But this was a 30-month period of steadily rising milk prices that we hope for the time being has ended.

Eric R. Katzman - Deutsche Bank AG, Research Division

Okay. And then I don't know if this will be a quick follow-up, but the leverage has limited your, by your own comments, your financial flexibility or strategic flexibility with WhiteWave to recognize an asset that, by the comments today, is hitting on all cylinders. Can you talk a little bit about, at what leverage point WhiteWave is a potential asset to be spun off or sold? Or do you feel now that it's just -- it's worth keeping because it's doing so well and there's no need to even think about trying to force the market to recognize its value?

Gregg L. Engles

Look, I think we hit this issue head-on at CAGNY in early 2011. And our point of view with respect to the role that WhiteWave plays in our portfolio hasn't really changed. So let me start by saying we are keenly aware of the fact that -- or our belief that WhiteWave is a highly valuable property. It's got dominant brands in rapidly growing categories, it stokes by great innovation and marketing. And it is performing, I would argue, as well as almost any consumer packaged goods business in the developed world. It's just a fantastic business that is highly aligned with consumer trends towards health and well-being and organic. It's just a fabulous business. We're also keenly aware of our duty as a management team, and the board is keenly aware of its duty, to maximize value for its shareholders over time. So if we don't feel that the value of WhiteWave is being reflected in the aggregate value of Dean Foods, we understand that there is an opportunity to recognize value for our shareholders by separating it. And we again, I think, stated that very clearly 1.5 years ago. There have been some constraints on our ability to do so, which we highlighted in 2011. And those constraints were around the amount of leverage that the businesses, going separated, could sustain and what the appropriate leverage profile was for the businesses if you were to separate them, and litigation that frankly had to be resolved before you could separate the business. We've largely resolved the litigation. That's a very large net positive for this company, and our leverage level is working down. So what I would tell you is we don't have a specific leverage target at which we're going to pull the trigger, but we're mindful of the opportunity we think to perhaps accrete value for our shareholders. And it's something that our management and our board considers on a regular basis.

Operator

And we'll continue on to Farha Aslam with Stephens Inc.

Farha Aslam - Stephens Inc., Research Division

First, a question on volume. Gregg, you've noted that retailers are keeping the margins in milk high. But for you, wouldn't you want them to moderate volumes a little or margins a little bit to drive volume in your category?

Gregg L. Engles

Yes. Farha, there are crosscurrents of incentive and motivation and benefit for us in what happens at retail. There's no question about it. So when margins over milk are high, our brands are more in value. So our mix is beneficial, but it crimps the volume. When you drop the price, the volume improves, but it puts pressure on your brands. And if they drop too far, then that pressure rolls back downhill to processors. So you're right, there are reasons why it would be great for the price of milk at retail to start coming down. I believe, frankly, that if the milk price continues to weaken or as it continues to weaken, it's now almost inevitable that the retail will come down rather than the margin over milk expanding further because it is at close to historic highs here. So I think we're going to get some of that benefit of declining retails as the raw milk market softens. But I don't think we're going to go back to this highly promotional environment. And I think that will be a pretty acceptable place for the processing community if that's the way that it plays out.

Farha Aslam - Stephens Inc., Research Division

Okay. And then my one follow-up is, now that you have the business kind of stabilized and you can look forward for growth, kind of what are the growth metrics for Dean Foods going forward?

Gregg L. Engles

I think the key metrics in the FDD business are going to continue to be volume and gross profit and operating profit per gallon. It's a very large, very mature category and success there is going to be driven by being the low-cost provider to your customers, and the high-service provider. And that's what this business has been focused on for an extended period of time. In Morningstar, it's really going to be unit volume growth and what happens with the portfolio mix in terms of margins. So Morningstar is a much more innovative business than it might appear on the surface, as it collaborates with its customers, particularly in the foodservice trade, to build new products that drive their sales growth, and that builds margin for Morningstar. So as we go forward, we hope to continue to build volume there and build our operating profit per nominal unit as we move forward in that business. And then in WhiteWave, the key metrics are going to be, of course, volume in the brands, share in the brands and, frankly, the success of innovation and new product development. So we have a pretty robust pipeline of innovation going in this company. And we are tracking and should begin reporting out to you the percentage of new products of our overall sales in the WhiteWave business as we continue to drive our categories and our brand.

Farha Aslam - Stephens Inc., Research Division

And so net for the company, EPS growth targets?

Gregg L. Engles

We're in such a highly transitional period right now, Farha, that I think it'd be a little premature to sort of put a long-term target on it. We're going to be up in terms of EPS on the order of 50-plus percent this year, given our guidance. I think we need to sort of settle in for a little while around a stable EPS target before we start putting the long-term growth rate targets on it. But we would expect this is a business, given the growth profile of Morningstar and WhiteWave and the ability to continue to drive cost out of the FDD business, where we can have superior operating and earnings per share growth again. And that's our objective.

Operator

And we'll take our next question from Judy Hong with Goldman Sachs.

Judy E. Hong - Goldman Sachs Group Inc., Research Division

Gregg, just on the FDD side. So your guidance for the full year for FDD, low-teens kind of operating profit growth. I mean, Q1, you did high-teens with milk costs up year-over-year. So I guess, with milk costs now looking down, probably 20% year-over-year, in the next couple of quarters, what's holding you back just in terms of expecting even better performance from a profitability perspective for FDD for the balance of the year?

Gregg L. Engles

Judy, the real driver, the most important driver of FDD operating performance, isn't the year-over-year comp, it's the sequential comp. And so if you look at Q1 sequential and Q2 sequential, they're not all that different. So it's the period-over-period decline that really drives expanding margins and profitability. The year-over-year comp also makes some difference because it translates ultimately into price at retail which affects volume. So I think that, that is the principal reason that you don't see a large acceleration from the Q1 result as we move forward into Q2. Q2 and Q3 are also burdened by the fact that we have significantly lower volumes in milk, in FDD because schools are out. So we're going to move down from a higher-volume quarter to a lower-volume quarter as we move in through the quarters that have summer months. And that has the tendency that can strain profit growth a little bit. So I think the third factor is we have been in the wilderness in this business for an extended period of time. And I think it's just the nature of the operators of both businesses to be a little cautious as we forecast the business.

Shaun P. Mara

I think also, Judy, you've got to remember that Q4 last year for FDD was a growth quarter as well. So our comps, as we get towards the back half of the year, are a little harder than they are in the first half of the year.

Judy E. Hong - Goldman Sachs Group Inc., Research Division

Okay. And then just on the SG&A reduction efforts, I guess, Shaun you called out sort of $100 million run rate. Is this something that -- I know a few years ago you talked about kind of $100 million-plus sort of annualized cost savings program. So I guess, for the next couple of years or so, is this still kind of a good run rate to use in terms of the savings that we could continue to see? And then with, I guess, the cost environment on the raw milk side and other non-raw milk commodity inflation being relatively stable, if that is the assumption then, is it fair to assume that bulk of those cost savings should sort of flow through the bottom line?

Shaun P. Mara

If you take a step back, Judy, I think right now, we look at 2012 and say our cost-savings target is about $125 million, a little bit north of what we gave you last time as we've gotten better in Q1. I think you should think about that as probably a little more than half of that is SG&A savings and the rest of that is going to be evenly divided between distribution and plant savings, if you will, or factory savings. Going forward, I think probably $100 million a year is about the right number. We need to continue to do the work on that, as Gregg said, as we think about where we are as a business in the longer-term ratios. But we're happy with what we've gotten out and with the costs we've gotten out. And we feel good about where we are for this year.

Judy E. Hong - Goldman Sachs Group Inc., Research Division

Okay. And Shaun, what's the CapEx for the year?

Shaun P. Mara

Up $260 million to $275 million.

Operator

Christine McCracken with Cleveland Research.

Christine McCracken - Cleveland Research Company

I'm wondering, you talked a lot obviously, Gregg, about the core business as well as new products contributing to the growth in WhiteWave. And I'm curious if you could provide any color as to the breakdown between kind of how much was really pushed by marketing spend, increased marketing focus, and when that might lapse. And then -- or if you continue to -- plan on continuing that level of marketing spend and then how much was kind of that new product piece?

Gregg L. Engles

The new product are more a matter of interest than they are real drivers of the business. The vast preponderance of the growth in the business was acceleration of the core products in the category. So we just had fantastic performance in the Plant-based Beverages segment, really built around Almond performing extraordinarily well and fantastic performance in our core International Delight Coffee Creamer business. Those are the real drivers. The new products are coming on quite strong. I think we'll talk increasingly about them being drivers as we get to the back half. But we're very pleased with where they are, but really it's the core business that's performing extraordinarily well that's driving growth and profitability. In terms of marketing spend, we spent more than $7 million in this quarter in additional advertising beyond what we spent in Q1 last year. So both in Q4 of 2011 and in Q1 of this year, we've really heavied up on our advertising and marketing spend. And I think you can see we're getting a fantastic payback for it. So we're leaning in on building our brands. We like the way that it's working. We love the innovation that we're bringing to the category. And we're really excited about this business.

Christine McCracken - Cleveland Research Company

Is there any one product that stands out in terms of new products that you have hopes for building a significant piece of the portfolio? Or is it really just kind of an all-encompassing contribution from those going forward?

Gregg L. Engles

I think, looking forward, we're really excited about this Iced Coffee category. So we think it can be a big piece of our business. Of course, we've got a big business here. We've got what will be close to a $2.5 billion business in WhiteWave-Alpro as a segment this year. So it's not -- we won't be talking about it as a separate platform, but it will be a nice driver of growth, I think, for the business moving forward.

Christine McCracken - Cleveland Research Company

Is that fully distributed, ACV [ph], on that?

Gregg L. Engles

No, it's not. But it probably will be by late Q2 or Q3.

Operator

Our next question comes from Akshay Jagdale with KeyBanc Capital Markets.

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

I just wanted to get your view on the milk commodity market. Just what are you seeing there? Obviously, you've talked about prices moderating and coming down in the back half. But can you just talk about the fundamentals, and perhaps what is the risk, in your opinion, of international demand driving that price back up? So if you could talk about that. And then I have a follow-up on the gross profit margins for FDD.

Gregg L. Engles

Yes. The milk market today is interesting globally, which really drives the U.S. price anymore. So the global supply situation is about as good as it gets, frankly. We had a warm winter in the Northern Hemisphere, particularly in North America. You've seen that result in 4% and 5% sort of production volume growth in the U.S. You also had a very strong season that's just wrapped up in New Zealand and Australia that's contributed to global stocks. And the European season got off to a pretty strong start. So you've had a robust supply environment that is a little unusual in the fact that all of these markets seem to be performing above their baseline supply growth rate. So that's leading to, I think, a global increase in stocks, which is driving the prices down. On the demand side, frankly, you've seen continuing weak demand in the developed world. So in the U.S. and in Europe, weak demand. Even though they're not the high-growth markets, they are the larger markets. So when you see them soft, that also leads to surplus stocks building. And the outlook in the developed markets, while they're higher growth than the developed markets, have been maybe less frothy than they've been in the past. So China has guided to slightly lower growth, and I think you see that the bloom, a little bit off the rose, in the developing world. So all of that's conspiring to build relatively high level of stock. And what we have not yet seen is significant reductions in herds and those sorts of things. So I think that's driven as much as anything by the fact that there's a robust supply of capital out there to sustain herd sizes. So something's got to give here before too very long because I think at the margin, the higher-cost producers are not making money. But it doesn't seem to be happening very fast. So we see the marketplace as probably hitting a bottom in the June, July, maybe August, timeframe, and then starting to build some strength in terms of raw milk prices for farmers into the back half of the year. But nothing that's frothy. Out beyond the end of the year, everybody's crystal ball gets pretty fuzzy.

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

That's very helpful. And just to follow up on the FDD gross margin profile, I believe gross margins are down slightly, 40 basis points or something, this quarter year-over-year. You were talking about the retailers being a little bit more rational. Can you talk about what the trajectory of that gross margin should be over the next few quarters? And then just a little bit more longer-term, and what would it take -- I know it's very early in terms of the recovery. But what would it take for you to come out and say that perhaps you could get back to sort of wholesale milk prices that you've seen historically?

Shaun P. Mara

I think as you take a look at gross margins in the FDD business, the way we look at it internally is going to be gross margin per gallon because that, as Gregg said in his script piece of this, that, that's up about 2% year-on-year. If you look at it as a percentage of sales, it gets a little bit diluted by the cost of milk and the fact that we pass that on, and the impact of that on, on the business overall. So overall, we've actually improved our margin, and we're comfortable with, we've made a lot of progress in the 2 areas that are influencing that. One is the cost reductions at the plant and the other one is the pricing realization we have in terms of passing on our commodity costs. So we've made progress on that. In terms of the longer-term outlook for this, I think it's probably a little bit early for us to conclude on that. But we continue to focus on that on a monthly and quarterly basis.

Operator

David Palmer with UBS.

David Palmer - UBS Investment Bank, Research Division

A question first on your guidance. You've had different comments on your commodity assumptions or how you're describing how you thought the market would play out from a commodity standpoint. Is your guidance based on stable prices through the rest of the year, meaning that the absolute commodity milk prices would remain near these current levels?

Gregg L. Engles

Yes. Look, there's a curve, if you will, a forecast to these prices that lots of economists develop, we develop our own. Again, we see milk moving within a narrow band of $1 or so, $1 or $2 from here. So we think it drifts down a little bit from here through the beginning -- through the middle of the summer, then we think it drifts back up towards the back of the year. We'd call that stable, and it is stable compared to prices that doubled or fell in half in short periods of time over the last 2 or 3 years. So milk price is going to move every month. It's not going to go to a $15.50 and stay there. But if it's moving in a band of $1 or $1.50 around today's price, we're going to call that a stable outlook for milk.

David Palmer - UBS Investment Bank, Research Division

Great. And a separate question, on your cost-reduction efforts, it looked like you did a great job on your overhead cost control than you have been. But I'd love for you to talk about what remaining cost-reduction opportunities you see in the next year or 2, not just overhead cost control but also in production, distribution and in other areas. And related to that, how you feel Dean Foods compares to other top-tier dairy processors on sort of its cost structure overall?

Gregg L. Engles

Well, look, we've taken very significant amounts of SG&A out of the business, and that is not a bottomless well, right? We are running this business, from an SG&A perspective, leaner than we've ever run it today. And so I don't think there's just lots of room to take SG&A out of the business going forward. Some room maybe, but not a lot of room. Our big opportunities continue to be rationalizing our network, right? We still have a very large network of facilities in the FDD business. There is too much capacity in the industry. These are sort of longer lead time projects because they involve investments in physical facilities. But we still have meaningful opportunities to rationalize our network, take excess capacity out and use our assets harder. And then we are in a multiyear, I'm sure it will never end, program to constantly hone the efficiency and effectiveness of our distribution network. And that continues to pay dividends to us. So those are really the big opportunities on the cost side at FDD. And the network opportunity is also an opportunity for the Morningstar business. We have 11 plants today. We've taken 1 plant out that we announced in this quarter. And there continue to be opportunities to rationalize that network down to a fewer number of facilities as well. So those are the biggest opportunities we have to take cost out going forward.

David Palmer - UBS Investment Bank, Research Division

Just to follow up on that, I mean, going forward, just on that network and the distribution, manufacturing rationalization over time, is there a certain amount of savings per year you think you could generate from something like that? Is there any sort of numerical conclusion to that, that you think we can draw?

Gregg L. Engles

Yes, I think Shaun mentioned it earlier. I think that beyond this year, the right way to think about it, at least for the next couple of years, is there's probably $100 million annual opportunity to take cost out of the overall system.

Operator

And Amit Sharma with BMO Capital Markets.

Amit Sharma - BMO Capital Markets U.S.

Shaun, distribution costs were up 5% during the quarter. Have your price increases caught up with higher diesel and non-milk prices yet?

Shaun P. Mara

I think we're getting better at that, and we've made progress in this quarter. To say we fully got that, probably is a little bit much, but we try to focus on a pricing protocol to make sure we capture as much of it as we can.

Amit Sharma - BMO Capital Markets U.S.

All right. And the second thing is, Gregg, given all the discussion about commodity prices, my understanding is that the benefit that you get from declining milk prices is simply the lag in how you price your wholesale milk, right? So if milk prices stay stable, that benefit goes away. But other than that, is there anything else from this milk environment that's benefiting you?

Gregg L. Engles

Well, I think we've touched on this topic earlier in the session. And it really goes to the fact that as milk prices come down, everybody's margins expand. So the retailer's margins expand, the processor's margins expand, and there's just not as much bidding and negotiation pressure in the system when milk prices are low as opposed to when they're high.

Amit Sharma - BMO Capital Markets U.S.

All right. Okay. So at these levels of pricing, we're not expecting -- or in other words, how much of this environment is built into the guidance? I mean, that's what I think was what people are trying to get to.

Gregg L. Engles

I mean, I think it's fully informed the guidance, right? So our guidance is based upon our view of what's going to happen in the commodity markets as it relates to FDD.

Operator

We'll take our next question from Robert Moskow with Credit Suisse.

Robert Moskow - Crédit Suisse AG, Research Division

I wanted to understand the guidance on corporate expense. Is it up versus prior guidance at $190 million, $195 million?

Shaun P. Mara

Well, I think we need to look at, Rob, is look at it more from an SG&A standpoint. We shift expenses around a little bit between the platforms. So when we look at total cost, we look more from an SG&A standpoint than we do from a corporate standpoint. So I don't know if the corporate forecast, if you will, is meaningful from that standpoint. In addition, a lot of our incentive comp is in the corporate numbers, so it's a little bit overstated from what it has been in the past because of the fact that we have these other comps going up a little bit.

Robert Moskow - Crédit Suisse AG, Research Division

Okay. Because 3 months ago, I think the guidance was that corporate cost will provide a tailwind to SG&A cost reductions. And now you're saying they're going to be up versus a year ago. So is that increase reflective of well-deserved corporate stock option expense going up?

Shaun P. Mara

Yes. I think principally in the corporate area, I think again, the SG&A costs, if you will, the savings we assumed earlier, is actually a little higher than we thought it was before. So if it's $125 million in total cost savings for the year, it's probably a little over half of that is going to be SG&A savings. So I think we're actually in the same place we were before, just a little bit different shift in where that is on the platforms.

Robert Moskow - Crédit Suisse AG, Research Division

Okay. And then the tax rate, it was higher than I thought for the quarter. Is that going to be the tax rate for the year, about 37.8%?

Shaun P. Mara

Probably between 36% and 37% for the year is the right tax rate to look at.

Operator

And we'll now hear from Carla Casella with JPMorgan.

Carla Casella - JP Morgan Chase & Co, Research Division

I have to ask my question as usual. I think you commented that you don't have a long-term leverage target. But I'm wondering, you'd expect some decent EBIT growth from each segment this year. I'm wondering how much of that do you expect to invest back in the business. Or would you expect to delever from just the EBIT growth or also from more aggressive debt paydown above your amortization schedule?

Gregg L. Engles

We're paying down debt well beyond our amortization schedule. But as you know, much of our debt capitalization is in revolving facilities, whether they are a securitization facility or a AR facility. So to the extent we have excess cash flow, which this earnings profile will give us meaningful excess cash flow compared to our earlier guidance, that will reduce our revolving facilities. We will not make anticipatory term loan paydowns, because frankly, there's no advantage in terms of interest rate reduction for us to do so and it just reduces our flexibility. So our expectations of debt paydown will have gone up meaningfully from the guidance that we gave you coming into the year. We have slightly increased our expectations for capital spending, driven by the fact that we've got to supply this very substantial volume growth in the WhiteWave-Alpro business. So we need to put additional capital on the ground to do so. But that's not a meaningful increase, I think from $250 million to $260 million, $265 million, that sort of range. So we're spending some of the additional earnings in additional CapEx, but not a lot. So you should see paydown go up. You should see paydown in the $225 million to $250 million range for the year.

Carla Casella - JP Morgan Chase & Co, Research Division

Okay, great. And then what about potentially coming back to refinance some of your bank lines that are shorter? Do you want to put in longer-term debt? Or do you want to keep some short-term debt on the balance sheet that you can keep paying down as you reach those 2014-type maturities?

Gregg L. Engles

I think there's always going to be a meaningful role for bank indebtedness, bank debt in our capital structure. This is not a business that, I think, we can finance entirely in the bond market, just because we do generate a lot of free cash flow and we need to have the ability to pay down balances without incurring penalties out of that cash flow. So we clearly have maturities that we're going to have to refinance, the first maturities are in 2014. So that will be an activity that we'll undertake over the next several quarters as we get within a year of that maturity schedule. But I don't think you should expect to see the nature of our overall capitalization, the mix between bank and bonds, change a heck of a lot.

Carla Casella - JP Morgan Chase & Co, Research Division

Okay, great. And then just one question. On your gross profit margin, it looks like the gross profit margin was down for the Fresh Dairy Direct in the first quarter. And I'm wondering, do you expect that to reverse as we get into second quarter with where the milk costs are?

Gregg L. Engles

Yes. The comparison that you're making in profit margins is against year-ago, and that, the milk price moves every month. So the mathematical margin here, the percentage margin, is just not a good way to look at the business because milk prices were, I believe, 8% higher in the year-ago quarter. So even though we're making more gross profit per gallon in FDD on milk, it's a lower percentage margin, just because the denominator is changing. So you should be paying attention to gross profit margin per gallon in the FDD business as a way to measure performance because that percentage margin is going to move around all over the place based upon what the Class I Mover does. But your point is, with the Class I Mover going down, it will be down about 20% on a year-over-year basis. If milk does what we're expecting for 2, you'll see the margin go up substantially on a percentage basis, and you shouldn't pay any attention to that either.

Carla Casella - JP Morgan Chase & Co, Research Division

Okay, great. But on the other 2 segments, it looks like gross margin profit which, I think, you probably would say is a fair way to look at it, is up for both other segments. Or is it that WhiteWave was up more and Morningstar was more stable? Can you give us any color there on those segment margins?

Gregg L. Engles

Well, the WhiteWave business is a totally different business. It effectively doesn't use milk as an input, right, or not a meaningful input. So there, soybeans are a crop. You get a price per year. It's just a very different dynamic. There, looking at gross margins, is an appropriate way to look at the segment. But they're just very different business.

Carla Casella - JP Morgan Chase & Co, Research Division

Right, but I guess, I was asking, so were those both -- were both WhiteWave and Morningstar margins up? Or was all the margin coming from WhiteWave, the improvement?

Gregg L. Engles

The gross margins were absolutely up in WhiteWave and in Morningstar. No doubt about it.

Operator

And we'll take our final question from Reza Vahabzadeh with Barclays Capital.

Reza Vahabzadeh - Barclays Capital Inc.

As far as the European business, it sounds like Alpro is still doing well. Any concerns around weakness around the consumer over there? I recognize that the product, the sales are up. But how are you dealing with the consumer in Europe?

Gregg L. Engles

Again, it's a country-by-country story. So we've got a pretty sizable business in Spain, it's really struggling. Struggling in terms of volumes, struggling in terms of pricing power, because you have 25% unemployment there. Our business in Germany is healthy, and in the Benelux countries is healthy, our business in the U.K. is quite good. So it's really a country-by-country story. And the softer the economy, the more challenging the business is. Overall, the business is, I would say, somewhat more promotional than it has been. So as a percentage, price promotions is a higher percentage of our overall selling and marketing expense than it has been in prior periods.

Reza Vahabzadeh - Barclays Capital Inc.

Got it. And then Shaun, if you can just comment on working capital and cash taxes. Is there a chance for working capital to be a source of cash this year, given where input costs are trending? And then you didn't contribute much to federal budget deficit last year. I assume your cash taxes will more closely approximate your book taxes this year?

Shaun P. Mara

We're very proud of the fact we didn't contribute to that. But yes, we'll have cash taxes that will be largely equated to what we have in expense. And in terms of working capital, yes, we expect that to improve over the balance of the year. And that will be an improvement in our free cash flow for the year.

Operator

Ladies and gentlemen, that's all the time we have for questions. I'd like to turn things back over to Gregg Engles for additional or closing remarks.

Gregg L. Engles

Well, thank you all for attending the call, for your very good questions. And we look forward to speaking with you soon at our August call at the latest. Thank you all very much.

Operator

Thank you. And ladies and gentlemen, that does conclude today's conference. Thank you for your participation and have a good day.

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