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Lance, Inc. (NASDAQ:LNCE)

Q1 2008 Earnings Call Transcript

April 25, 2008 9:00 am ET

Executives

Russell Allen – Director of Planning and IR

Rick Puckett – EVP, CFO

Dave Singer – President, CEO

Analysts

Heather Jones – BB&T Capital Markets

Mitch Pinheiro – Janney Montgomery Scott

John Feeney – Wachovia Capital Markets

Ann Gurkin – Davenport & Co.

Diane Geissler – Merrill Lynch

Sarah Lester – Sidoti & Co.

Operator

Welcome to the Lance Inc. conference call. (Operator instructions). I would now like to turn the call over to Mr. Russell Allen, Director of Planning and Investor Relations.

Russell Allen

With me today are Dave Singer, President and Chief Executive Officer and Rick Puckett, Executive Vice President and Chief Financial Officer. In today’s call Dave and Rick will discuss our 2008 first quarter results as well as the outlook for 2008. As a reminder, we are webcasting this conference call including the supporting slide presentation on our website at www.lance.com.

Before we begin I would like to point that during today’s presentation management may make forward looking statements about our company’s performance. Actual results could differ materially from those projected in such forward looking statements. Information concerning certain factors that could cause results to differ materially from those projected in forward looking statements is contained in the company’s most recent Form 10-K filed with the Securities and Exchange Commission. I’ll now turn over the call to Rick Puckett, Executive Vice President and Chief Financial Officer to begin management’s comments.

Rick Puckett

We received quite a few calls at the end of last quarter’s call saying that the slide presentation seemed to be a pretty efficient way of communicating so we’re planning on doing this on a go forward basis and you see it again for this quarter.

Let me just start with page 4 in the presentation and talk about some highlights. We continued to see solid revenue growth in all of our core products and channels. We executed an initial round of price increases and we began the implementation of a second round on private label products. We saw a continued escalation in ingredient costs which negatively impacted margins and I’ll go through specifically wheat and oil in a few seconds.

We did see continued improvement in the supply chain and DSD operating efficiencies in spite of fuel cost increases. Our profitability was in fact in line with our expectations for the first quarter. We also acquired the Brent & Sam’s company a gourmet premium cookie manufacturer in March of this year. If we turn to page 5 and looking at wheat, you can see that quarter one of 08 was in fact very much a volatile time in terms of the wheat cost. You know that was an indication of what we expected and we saw that and we have in recent times at least saw a little bit of a reprieve from that as you can see in the second quarter of 08.

On the oil chart, soybean oil which is basically a benchmark for all of our cooking oils that we use in our bakery and also our salty snacks, similar situation in the first quarter with record high prices in soybean oil. Those came down towards the end of the first quarter but have continued their escalation in the second quarter. So we shall see some continued pressure on the soybean oil side. On page 7, just looking at some key statistics, net sales rose 8.5% in the quarter from $182.4 million to $198 million. Pricing in this amounted to about 4% points of the increase. Gross margin declines of almost 6 points was all attributed to the commodity increases.

On the SG&A side, we showed continued improvement year over year there of something like 140 basis points and that was in spite of fuel costs which cost us about 40 basis points for the quarter, higher depreciation of about 25 basis points and then we also made some investments at the beginning of this year in marketing and sales to help drive our top line going forward and that was an additional 40 basis points year over year. Our tax rate as you can see is a little higher than you might have expected at 38.5%. I will tell you by the end of the fiscal year here in December, we expect that to be about 36-36.5%.

We have some tax items that will be expiring in Q3 of this year that will drive the rate down on a full year basis. Net income at $600,000 compared to $6 million last year, again driven by the ingredients cost impact and earnings per share of $0.02 per share versus $0.19 last year. On page 8, we look at a split between branded and non-branded revenue. Our branded revenue increased by 5.4% and about 3.5-4% of this is in fact pricing. Non-branded increased 14%, 6% of this is pricing. There was in fact a little bit of buying ahead of the price increases in the non-branded side during the quarter.

On our branded side, Cape Cod’s growth continued to grow at strong double digits and Home Pack grew at high single digits. On page 9, our EBITDA decreased 12.6%, again driven by the ingredients cost for the quarter. EBITDA as a percent of sales, just under 8%. You know as pricing goes into effect, our as pricing catches up with commodities, we’ll see that come back to where we expect it. Our net debt increased primarily and totally as a result of our Brent & Sam’s acquisition. However, our net debt to EBITDA ratio is still at 1.2.

On page 10 you’ll see the quarter by quarter increase in revenue. This is actually year over year increase by quarter, so at 8.5%, which includes Brent & Sam’s by the way, excluding Brent & Sam’s the number is 8.2%. On page 11, we see again the red line here represents a trailing four quarters and the blue column is in fact the quarter. So you can see that we were slightly better than last quarter but still being impacted by ingredients cost.

On page 12, this is the SG&A percent of net sales and this is where we would show the indication of our improvements in the supply chain and DSD operations. So even though the quarter ticked up a little bit from quarter to quarter, our downward trend is still continuing, it’s at 36% compared to about 38% at this time last year. So we’ve taken almost 200 basis points out of the SG&A cost in spite of higher fuel and depreciation and marketing spending of about 100 basis points and then also the investment to support the top line growth of about 40 basis points.

On page 13 is the operating profit margin trend and the dip that we’ve seen is what we’ve been expecting and communicating over the last several quarters as it relates to the impact of ingredients costs. We have been able to offset some of that with the SG&A improvements. But as you saw on the wheat and oil charts, it’s a very significant impact to our bottom line. On page 14, cash flow from operating activities it’s $5.9 million, cap ex at $7.1 which is pretty consistent with last year. So our subtotal free cash flow before dividends was actually a negative 1.2 for the quarter and we did pay $5 million worth of dividends.

And then on page 15, just to review the full year estimates, we are changing the net sales estimate to $805 million to $835 million to reflect the Brent & Sam’s acquisition. The EPS guidance remains unchanged for a couple of reasons, one, Brent & Sam’s will be slightly accretive but not materially accretive for the year. And the ingredients cost are still very volatile. So by the end of the second quarter we’ll have a much firmer picture of what the earnings per share will be for the year. Our capital spending is still forecast at $45-$50 million. At this point I’ll turn it over to Dave Singer for his comments.

Dave Singer

If you look at slide number 17, I’ll start off by giving you some insight into our first quarter results. As Rick mentioned, our top line grew by 8.5% in the quarter. Of this about half was due to price increases with the remaining growth driven by volume gains.

We were very pleased with the strength in our sales performance for the quarter. Our branded portfolio was up a little more than 5% in total of which about 4% was pricing and the remainder was driven by net volume increases. We saw a continuation of solid volume growth and market share gains in our most important product lines. Lance Home Pack sandwich cracker volume was up high single digits and Cape Cod volume was up double digits.

This volume growth was partially offset by declines in product lines and channels that we have deemphasized as we narrow our focus on more profitable business. To date we have not seen any material softness in our branded product sales as a result of our price increases. Although this is encouraging, it’s too early to tell exactly what the net impact will ultimately be considering the competitive environment and consumer actions long term. Sales in our non-branded portfolio were up 14% in the quarter of which about 6% was pricing and the remaining 8% driven by volume increases.

As we had discussed in our previous call, we executed an initial round of price increases to our non-branded customers, taking affect throughout the first quarter and we have executed an additional round of pricing that will take effect throughout the second quarter. Although we did experience growth in the quarter form a continuation of new customer gains and new product offerings, some of the volume increase in the quarter can be explained by some customers pulling ahead orders prior to the effective date of the second round of price increases that was scheduled for the second quarter. Overall our customer’s reactions to our price increases have been in line with our expectations.

Our outlook for pricing actions beyond the second quarter is of course based on the outlook for ingredients costs along with our assessment of the competitive environment. Our ingredients cost will be higher in the second quarter than in the first due to the timing of our purchase contracts throughout the first and second quarters and will like the first quarter be at a level higher than we had included in our pricing actions to date. At this point, we’ve planned additional pricing actions in our salty snack portfolio during the third quarter and we will continue to evaluate additional pricing actions needed in the back half of this year to assure that our margins are restored.

As previously announced on March 14, we purchased Brent & Sam’s Inc., a producer of branded and private label premium gourmet cookies. This acquisition is directly linked to our strategy to increase our presence in the premium private label cookie and cracker market. The addition of premium private label cookies will broaden and diversify our product portfolio, capitalize on the growth in premium private label products and make us a more valuable partner to our customers.

We anticipate that incremental revenue for the portion of the year that we own Brent & Sam’s will be approximately $15 million and then this acquisition will be slightly accretive to earnings per share in 2008. During the quarter we also continued to make progress on our supply chain and DSD efficiency initiatives. From a supply chain perspective we began implementing our new demand planning process this quarter which has been developed over the past several months.

This process and the related system tools will help us with production planning, leading to better manufacturing efficiency, better in stock performance, lower inventory levels and fewer stales. We also successfully completed the consolidation of our manufacturing facilities in Canada from three locations down to two. This consolidation will help streamline our overall supply chain and increase manufacturing efficiency while maintaining the capacity and flexibility needed to support continued growth.

The process went smoothly and we fully anticipate realizing the efficiencies and cost savings originally planned. In the area of DSD efficiency improvement, during the quarter we improved average sales per DSD route by more than 10% versus last year’s first quarter, driven by route reengineering and sales growth. We also continued to see improvements in our route sales retention rate which has been a key focus for the last year. Reducing route sales turnover is vital to our ability to execute the operational improvements we need in our DSD system over the next several years. Now if you’ll turn to slide number 18, I’d like to remind you of our key areas of focus for the remainder of the year.

In our branded business, our focus will be on continuing our growth momentum while executing additional pricing actions to restore our profit margins. We will also be focused on maintaining and extending the progress we’ve made in cost efficiency over the past few years and improving our overall product and channel sales mix. On the non-branded side of the business, we plan to restore our margins with appropriate pricing actions and grow and widen our overall margins through growth with existing and new customers and a higher mix of premium product offerings. As a note, our plan to increase our premium private label product offerings are not solely related to the Brent & Sam’s acquisition.

We’ve also begun to offer our customers a wider variety of private label cookies to incorporate premium product categories. In conclusion, our pricing actions are going as planned, our sales remain solid, and our focus on key operational initiatives continues to drive cost savings and efficiency gains. And our outlook for long term margin enhancement remains positive. As I’ve mentioned before, margin pressure we’re currently experiencing from this escalating ingredients cost is masking the impact of our solid growth in sales and progress we’re making on improving the overall efficiency of our operations.

However, we believe that once we get through the process of adjusting our pricing to be more in line with ingredients cost, our operating margins will more accurately reflect the progress we’ve made and will continue to make over the next several years. I’d like to thank you all for your continued interest in and support of Lance and I’d like to turn it over to the moderator now to start the Q&A.

Question-and-Answer Session

Operator

(Operator instructions). Your first question comes from the line of Heather Jones with BB&T Capital Markets.

Heather Jones – BB&T Capital Markets

Was wondering first, when you said $13 million in higher commodity cost for the quarter, is that just like wheat, soybean oil, or does that include natural gas and on diesel?

Rick Puckett

It does not include diesel or natural gas Heather.

Heather Jones – BB&T Capital Markets

Could you tell us how much that hit you for the quarter?

Rick Puckett

Natural gas was not a huge impact for the quarter, although for the rest of the year we’re looking at possibly some pressures there. The diesel was pretty small for the first quarter, only a couple $100,000.

Heather Jones – BB&T Capital Markets

Okay. And as far as your branded price increases for Q1 of 4%, just wondering first, well I just estimate that you have a net of just the $13 million in commodity hits, you have about a $0.12 impact from net of the pricing you took. What kind of price increase are you planning for Q2 in private label and just wondering why it’s not a definitive yet that you’ll raise pricing across all of branded for the rest of the year?

Dave Singer

Well the pricing in the first quarter on private label was more than, I guess we said 6%, it averaged 6% because it took affect during the quarter, so by the time the quarter was over, the running rate was well above 6%. The second increase, we don’t get specific with exactly what it was but we took another increase and a significant increase that will take place during the second quarter. So the average increase that we will present during the second quarter will be a combination of the average in the, the actual increase in the first quarter plus an additional increase in the second.

So by the time we get to the third quarter, both increases will be up fully in effect, so our pricing for private brands in the third quarter compared to prior year will be significantly higher than either the first or second quarter averages. We’re pretty comfortable right now that the level we have will restore our margins for private brands. On the branded side, we definitively have put in place plans for price increases in our salty snack portfolio. We believe that across the board the environment in the salty snack market will support that.

In the bakery side, we’ve taken an increase that’s not quite enough to restore our profit margin on a percentage basis, but it does restore our margins on a unit basis. Our gross margins are very high already and growing that business is important and we’re just monitoring the market. We will consider additional actions if needed, but at this point, they’re not planned. So that’s why they are not definitive but on the salty snack side, there are definitive increases coming.

Heather Jones – BB&T Capital Markets

Okay and I wanted to address, as far as your wheat cost, from what I understand your flour costs are pegged to the CBOT wheat price which has come down considerably, it’s come down, it’s in the mid 8’s and I think it was in the low 10’s at the time of your Q4 call. But because of the weak dollar, speculative interest, whatever, there’s now a huge difference between where CBOT’s trading and where local cash markets are trading and it’s on the order of $1.50 to $2.00 depending on the day, which is clearly of enormous magnitude for ya’ll. So I’m wondering if and this is not, this kind of basis spread has not been the case in the past, I’m just wondering given that this new environment, would you reconsider how you purchase your wheat?

Rick Puckett

Well and the answer Heather is, obviously there’s a lot of differences in the cost associated with bringing cash regional market wheat to our facilities versus bringing CBOT based wheat to our facilities from our current suppliers. So there’s some other things that will offset some of that spread. But I think your observation is correct is that the spread is now larger than it has been in the past and therefore we are actually looking at what it might take to source our wheat in different places, whether or not we can get our current suppliers to do that or whether we would have to, what kind of cost would we have to incur internally in order to manage that and to administrate that.

Because there’s a whole quality issue, there’s the mixing issue that we would have to oversee. A lot of things that we would have to oversee ourselves that we’re currently not manned to do. So we would have to add some people in order to make this work for us in any kind of magnitude. But your point is well taken and I think that we are in light of where wheat costs are and the differentials that we currently see there, we are looking at the opportunities.

Heather Jones – BB&T Capital Markets

Okay and then finally and I just don’t know if my math is correct but I think ya’ll said roughly half of the sales increase for the quarter was pricing. And so I took that number and netted against your $13 million cost hit and you still would have been down roughly $0.05 year over year and I’m just wondering given that last year you know you were taking out considerable SG&A cost, I’m just wondering what accounts for first, that $0.05 and also why net-net you wouldn’t have been up year over year? I’m wondering if you could walk me through that. And I may have done my math wrong.

Rick Puckett

You’re not too far off Heather, $0.02 of the $0.05 is actually foreign exchange difference year over year. And then fuel cost, diesel plus gasoline is another $0.02 year over year. And then we did invest pretty heavily in marketing research for the first quarter versus last first quarter, so that’s another $0.015 or $0.02. And then the incremental depreciation that we have versus last year is another couple of $0.01’s. So I think once you add all those things together you’re going to see a slight improvement year over year and in other words you’ll be being able to reconcile what you’re looking for which is improvements in the S&D piece.

Heather Jones – BB&T Capital Markets

So when ya’ll are talking about bright pricing and internal improvements, are you targeting it enough to not only offset wheat, soybean oil, et cetera, but you know the FX, diesel, higher depreciation. I guess by the end of this year, will you have gotten gross margins to the point that not only are you offsetting the higher commodity cost but you know we’re seeing net improvements in EBIT margin and setting the company up to get significant margin leverage going into 09?

Dave Singer

Our goal over time is to increase our profit margins. And we’ve done a lot of things on the SG&A side that have been very positive. The unprecedented volatility in commodity markets is such that you know it’s hard to tell exactly how quickly the level of volatility will moderate and when pricing will catch up. But we expect that the markets will support pricing that will restore our margins and then put us in a position where all the key gains we’ve been getting will fall to the bottom line.

Whether that happens exactly by the fourth quarter, I mean our goal is for that to occur so that we would actually reap the benefits from all these improvements. But frankly when we see $3.00-$4.00 movements in weeks on certain commodities, it’s pretty hard to peg exactly what’s going to happen. But our goal would be to get our margins in line as we move into the fourth quarter.

Operator

Your next question comes from the line of Mitch Pinheiro of Janney Montgomery.

Mitch Pinheiro – Janney Montgomery Scott

Looking at the sales line, if you look at the lower end of your guidance range, $805 million and I back out $15 for Brent & Sam’s, you know the implied growth rate from 07 to 08 would be about a little under 4%, 3.7%. But you’re getting, I’m trying to understand the bottom end of the range, that’s my question. Why with the type of pricing you’re getting are you forecasting a bottom end of the range volume declines in the last two, three quarters or how should we think about the bottom end of that sales range?

Dave Singer

I think our perspective on that is the level of price increases that we’re executing in cross branded and private brands are larger than we’ve ever executed by a factor of nearly three. The outcome of that on volume is uncertain and we wanted to have a range that was reasonable considering that much risk. But I would say that the way you’re looking at it is, based on what the first quarter was and the pricing that we’re taking, that low end seems low. But again that’s what’s behind it.

Mitch Pinheiro – Janney Montgomery Scott

Okay so, now speaking to sort of price increase and the elasticity, so far, so good is what you’re saying?

Dave Singer

Correct.

Mitch Pinheiro – Janney Montgomery Scott

Okay and I’d love to hear your commentary, I’ve been hearing about transaction declines in the C store channel, lower rings in the C store channel, I know and perhaps even maybe down channeling from grocery down to mass merchant down to club down to dollar stores, et cetera. My question is, what are you seeing in that regard? And two, how could that have an impact on your margins going forward?

Dave Singer

In our convenience store channel, our volume was relatively soft. I mean it was up modestly, very modestly, our sales dollars, excuse me. We had a slight volume decline. However, we are not operating in a kind of business as usual in convenience stores right now. Our mix is shifting significantly. We’ve been deemphasizing products that we don’t make and emphasizing products we do make, so we’re seeing a mix shift going on. So it’s hard for us to tell without having a stable product line exactly what’s going on, so I don’t know that I can provide a lot of insight.

Mitch Pinheiro – Janney Montgomery Scott

How about in the rest of your business, are you seeing any shift in business away from grocery to some of the more value channels?

Dave Singer

Frankly we don’t see that but it’s not something looking at our numbers would jump out at us.

Mitch Pinheiro – Janney Montgomery Scott

On the branded side, if we were to see a shift, would that have, what are the margin implications there?

Dave Singer

Our overall margins right now, when we consider everything, we are more profitable in grocery and mass than we are in those other channels. I think over time when we become as efficient as I anticipate we’ll be in our convenience store business, I mean our DSD business, we’ll see better margins than convenience stores. But right now, in the near term, shifts to grocery and mass are positive for us.

Mitch Pinheiro – Janney Montgomery Scott

On the non-branded side, so there was some buy in this quarter ahead of the price increase, would there be an equal amount of buy in Q2 if there’s such a, you know like a double buy in because of the upcoming price increase?

Dave Singer

The Q2 price, the buy in was in advance of the Q2 price increase. We had a little bit of a buy in December that was modest, we had a much larger buy in for our Q2 pricing, but that impacted the third period or the first quarter. We don’t anticipate at this point another price increase so that buy in is behind us. That will dampen our second quarter sales, it enhanced our first quarter sales.

Mitch Pinheiro – Janney Montgomery Scott

You averaged 6% but I thought there was another increase to take place, I guess it’s going to take place fully in Q2 so it won’t have any buy in?

Dave Singer

It was announced effective April 1 for most people and the reason it’s taking price during Q2 is people had ordered and the way our process has historically worked, the pricing when you order is the pricing that you get. So it takes a little while for it to effectively flow through.

Mitch Pinheiro – Janney Montgomery Scott

As far as your wheat and some of your large commodity purchases, typically you’re not too far forward but has that changed, are you, can you talk about maybe what your coverage is for 08?

Dave Singer

I don’t think I want to get into the specifics as to what our coverage is. But you know we’ve been developing a perspective on how best to go at this and it really is, it’s slightly different by channel. We are looking at protecting our margins and buyer forward more in the future than we have in the past. Unfortunately when you look at the first quarter and you looked at that graph where wheat had gone as high as $13.00, we don’t want to be buying too far forward at $13.00.

But we are, we feel pretty comfortable with where we’re set. We have tremendous exposure in wheat for the rest of the year, not very much in the second quarter, we’ve pretty well locked our second quarter in during the first quarter. We’ve locked in some of the third, not a lot and very little of the fourth. And in the oil, we’re slightly more hedged. But again we just don’t want to go lock in the rest of the year at incredibly high prices because if wheat falls, it’ll be difficult to maintain our pricing if it goes down too far. So we’re kind of developing a process through this level of volatility that’s different than we’ve historically done.

Operator

Your next question comes from the line of John Feeney with Wachovia.

John Feeney – Wachovia Capital Markets

I wanted to dig into the efficiency side first. SG&A as a percent of sales continues to come down which is great. It just maybe was down a little bit less than I would have thought given how much, how strong your top line has been.

Dave Singer

Part of that relates to some of the things that Rick mentioned where for example, we’ve ramped up some marketing spending, there’s a little bit of timing in there. So part of that is timing and part of it is some ramped up investments that don’t relate to the efficiency issues.

Rick Puckett

And John one of the other things, there is some seasonality to this as well as you probably got from our quarterly looks. But we’ve also from the last quarter or sorry the first quarter of 2007 versus this quarter, we’ve invested quite a bit of money in bringing in new people and resources into our sales and marketing organization. We believe that we needed to add some resources there to continue to drive the top line and in a very strong way we brought in innovation, people we’ve talked about before.

We reorganized the sales organization and that cost basically came in during the last quarter of last year and the first quarter of this year. And they’re not in place and the organization is starting to hum a bit in the sales and marketing group. Innovation is starting to occur, we’ll start to see better revenue dollars as a result of that and they’ll start paying for themselves I think as we go forward. Those are the major pieces though.

John Feeney – Wachovia Capital Markets

Specifically, I think at year end you were at 1,400 total routes, is that the sort of after this whole Tom’s efficiency increasing rationalizing routes, is that a good number now for the next few years do you think Dave?

Dave Singer

I believe it depends on what happens to the sales but with the efficiency improvements that we will be working on, now that we’ve gotten our retention rates in places, we’re working on getting the organization right, we’ve gotten the assets improved, it’s kind of a multi phase process. But the real, a lot of the efficiencies that we anticipate are yet to come. So depending on what your assumption is for sales growth, given the sales levels that we have now, the type of volume that we have now, I would anticipate fewer routes.

Our plan would be to have volume grow and routes not decline much, or continued volume growth. But I really anticipate over the next couple of years absent acquisitions which we would hope that we’ll find appropriate acquisitions, but absent acquisitions, we’ll see the top line grow in our DSD sales and fewer routes. But I’m not saying we will have fewer routes, I’m saying we’ll have higher sales per route hopefully driven by the sales line more than the route reductions.

John Feeney – Wachovia Capital Markets

And any sort of benchmarks like the five, ten year benchmarks that you could share with us about what kind of efficiency numbers you’d like to get to on those routes?

Dave Singer

No I don’t think we’re prepared to share that but we have internal benchmarks we’re shooting for. We’ve dramatically improved in the past three years, we’re up about 30%. But we believe that that kind of improvement can continue for years at the moment.

John Feeney – Wachovia Capital Markets

Just turning to the pricing for a minute, you talked about the non-branded price increase which is pretty large in magnitude that just got put in place and there’s not plans at the moment to take any further, would you say that if commodity costs stayed where they are, just you know say the last week or so and pricing stayed where it is the last week or so, would you be at a gross profit per unit that was consistent with you know your long term expectations and hopes?

Dave Singer

In our private brand business I would say yes.

John Feeney – Wachovia Capital Markets

And I know this might be hard for you to [overlay].

Dave Singer

Well let me say that a little differently. We would want that to grow over time as our premium percentage grows. But given the mix that we have now, we would be back where we’d want to be, our margins in private brands, our goal would be to have that grow over time but not because of expanded margin per unit but a mix shift.

John Feeney – Wachovia Capital Markets

Just finally when you think about, it sounds like your tone now is a little bit, compared to the last call, it sounds like the selling organization has gotten a little bit more focused on increasing the frequency of pricing and having those conversations. I mean is this, do you feel like you have the organization in place where people understand now, if this is the new commodity environment it’s going to be volatile, maybe we need to, maybe there’s a difference now and you need to have more conversations with retailers about price? And I know that had been a concern, you know prior practices had been a concern the last time we talked three months ago.

Dave Singer

A couple of things have happened. One, we’ve taken increases that are incredibly large compared to anything the company has ever done before. We’ve taken two increases in a very short period of time and together there are strong double digit increases and we haven’t really had any major business hits. So I think our organization has realized that this environment is really different and are much more comfortable doing that, so it is different.

Rick Puckett

Well they’re just seeing competitors pricing as well in the market, because they’re in the market everyday so I think they’re getting the comfort level that obviously they’re not the only ones out there taking pricing.

John Feeney – Wachovia Capital Markets

And are you comfortable that, on the retail branded, I’m sorry on the non-branded side, this might be hard for you to gauge but are you, do you feel like you’re gaining market share because others are pricing more than you or maintaining market share or perhaps losing market share as you price more aggressively than competitors. If you had to guess, what would you say?

Dave Singer

Well you know as it relates to gaining market share, I think we, our volume is probably, my gut tells me our volume has grown faster than the market at this moment. Now part of that could be the buy ins, but I think a combination of improving our product mix, having a better sales organization, having marketing resources attached to our private brand business is positioning us to gain a little market share. So I don’t think I would push it as pricing, our goal would not be to use pricing to gain market share by any means. We don’t want to use price to gain market share, we want to provide service and better product lines to gain market share.

Operator

Your next questions comes from the line of Ann Gurkin with Davenport.

Ann Gurkin – Davenport & Co.

I just want to start with the price gap in the marketplace between private label and branded, are you comfortable with that gap right now?

Dave Singer

At this point we are. It’s too early to tell where that all settles out because as we were taking our price increases, other people are too. So we’ll see where that settles out. But at this point we feel pretty comfortable with it.

Ann Gurkin – Davenport & Co.

Innovation, any change to your level of innovation in the back half of the year?

Dave Singer

We’ll do a little more in the back half, we’ve put together an organization that is becoming more aggressive than we have in the past, and we’ll see a little bit more in the back half and that will accelerate into 09. But in terms of, as a percentage of overall sales, the biggest growth in innovation, it’ll be bigger in the second half than the first, but it’s not going to be huge. We anticipate becoming relatively competitive with other consumer product companies within 18-24 months in terms of the percentage of sales coming from new products. But we really haven’t been recently.

Ann Gurkin – Davenport & Co.

Cash is down to about $1 million on your balance sheet, can you comment on that?

Rick Puckett

Well obviously we made the purchase of Brent & Sam’s and we had a term loan on the balance sheet of $50 million in the past and if you will remember, in Q4 our net cash was around $36 million or so. You know subtracting out the cash, so we used that to fund the Brent & Sam’s acquisition.

Ann Gurkin – Davenport & Co.

And will we see further acquisitions this year?

Rick Puckett

Well we remain to be inquisitive and we’re looking at things that come our way. So we don’t comment on specifics but we are certainly open.

Operator

Your next question comes from the line of Diane Geissler with Merrill Lynch.

Diane Geissler – Merrill Lynch

Just wanted to clarify your statement earlier regarding the price increases and your expectation that by the back half of the year you would see restoration of margins. Were you referring to gross margins or all in EBIT or would some of the things you’ve been doing on the supply chain et cetera that should be additive to margins I would think over time. Would that be included in that statement as well?

Dave Singer

Well our goal would be to have the improvements we’re making be additive. But given the level of volatility in commodities and the pricing that we’re taking, it’s hard to tell exactly what the margins will be by the time we get to the fourth quarter. But our goal is long term margin improvement through mix, sales growth and efficiency improvements and so our pricing actions we believe will allow us to get there. But whether we’re there exactly by the fourth quarter or not is a function of a lot of different moving parts.

Rick Puckett

But its EBIT margins, Diane.

Diane Geissler – Merrill Lynch

And then question on the, you know you had commented that you were looking to be more of your revenue coming from new products, can you give us an idea about kind of where you want to be over the next 24 months in terms of revenue from products that have been in the market, whatever, less than 24 months or less than three years.

Dave Singer

Well we’re actually in the process right now of setting some internal benchmarks, it’s not something that we’ve even landed on internally for sure yet because this really, the innovation team has only been up and running for a couple of months. So we’re really not prepared to put a number out there yet.

Diane Geissler – Merrill Lynch

Okay, alright, because certainly that’s, you know just a comment here that that would be obviously different than some of the things that Lance has done in the past as far as looking to grow revenue from new products et cetera and sort of setting some benchmarks for your external shareholders and analysts or whomever, I think would be very helpful.

Dave Singer

Well when we’re comfortable with our ability we will be glad to talk about it.

Diane Geissler – Merrill Lynch

No, you know, we have this conversation every quarter.

Dave Singer

I know.

Diane Geissler – Merrill Lynch

Anyway, hopefully someday.

Dave Singer

It’s definitely greater than 1% I think.

Diane Geissler – Merrill Lynch

Could you talk a little bit also about your marketing plans for the year, how that will flow, any change year over year as you bring new products to market later in the year I would expect your marketing expense as a percentage of sales would need to go up in order to support product launches.

Dave Singer

I think over time that’s probably fair. I think in the near term sales are growing fast enough that it may not grow as a percentage of sales. It certainly did in the first period, I mean the first quarter.

Rick Puckett

Diane I would just suggest that we have internally a very high quality R&D staff with the innovation hooked up with this group of people in the manufacturing, they’re developing things internally at probably a lower cost than you might expect us to be able to do without that. So we have some resources internally here that are helping us drive our cost down on new product innovation.

Diane Geissler – Merrill Lynch

But would you say you think that your marking spend this year will mimic the quarterly pattern from last year, is there any sort of one quarter’s going to be higher than the other that we should be aware of as we’re working through our model?

Rick Puckett

I think we’ll spend more in marketing than we did last year but we’ve also incorporated that into our guidance.

Diane Geissler – Merrill Lynch

Okay, but there’s no timing, anything from the timing side that we should know about.

Dave Singer

You should put some in the first quarter for being higher than last year.

Diane Geissler – Merrill Lynch

Well yes, obviously.

Rick Puckett

And the other thing we’re doing by the way is we’re learning more about our product lines and where they are positioned, so we’re spending a little bit more on market research this year than we have in the past. And again we have, you know that focus if you will in terms of where our products are positioned and how they should be positioned and where brands can be taken, where can Cape Cod be taken, things like that that we’re really studying at the moment.

Dave Singer

And we’re really ranking the investment up as it relates to innovation because as they start to prioritize where we go first and what to do, what types of products fit best under which brand umbrellas, that’s really what we’re spending the money on to position ourselves to be effective in innovation.

Diane Geissler – Merrill Lynch

Okay and then I guess just a follow up from Ann’s question on the private label price gaps, we haven’t seen any, you know we follow that in a variety of categories in terms of private label, trade down to private label from branded, we haven’t noticed it in the market share data, are you seeing anything in your relationships with your customers that would cause you to think that there’s anything to be concerned about here as you continue to raise prices? I realize your second round of price increases is actually on the private label piece of business but.

Dave Singer

Are you saying are we worried from a [overlay] on our branded business will trade down. We really are, not at this point, we’ve seen very strong growth in our branded business so that’s not something that’s concerning us at the moment.

Diane Geissler – Merrill Lynch

Okay, well we’re not seeing it either but obviously you would be a better, you would see it more on a leading basis than we would from the market share data, so I did want to ask.

Rick Puckett

And I think the other point to that is our products tend to be still a very good value from a snack perspective, even on the branded side.

Operator

Your next question comes from the line of Sarah Lester with Sidoti & Co.

Sarah Lester – Sidoti & Co.

I just have one question though about the selling, marketing and delivery costs, can you separate that out from the G&A costs. On the press release it’s just one line but I think in the Q it’s usually two.

Rick Puckett

Well we actually have consolidated that line in the Q, starting in Q1 to be consistent with our conversation to you as a matter of fact so we don’t cause confusion. So we’re not separating it out at this point but I will tell you that G&A is actually a little favorable to last year.

Operator

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

Heather Jones – BB&T Capital Markets

HiFirst on the G&A you said a little favorable to last year, are you talking about on an absolute amount or relative to sales?

Rick Puckett

Absolute.

Heather Jones – BB&T Capital Markets

Then going back to my Q1 question and asking what else impacted the quarter you had said there was some timing issues as far as cost, I was wondering if you could quantify those as far as what costs fell into Q1 that we shouldn’t expect to repeat during the year?

Rick Puckett

Well there was some relocation costs and some recruiting costs on the headcount side. You know, they’re not significant in terms of that. There’s, thins like depreciation continues throughout the year. Fuel cost looks like they’re going to continue throughout the year and maybe even get a little worse as we get into the second and third quarters. But on the SG&A side there’s really not that much that was one time.

Heather Jones – BB&T Capital Markets

As far as going back to your fuel comment, I mean, as far as magnitude relative to your sales and all, I mean it looks like it’s going to be a significant hit going through the rest of the year and I’m just wondering, have you bought ahead some because it sounds like you’re not as concerned as the price increase would necessarily dictate.

Dave Singer

I think we are concerned. Each quarter is about $2 million annualized I think, a quarter increase gasoline or diesel together is a lot of money and we are concerned. I think that you know if there’s any reason we’re not really running the flag up on this is that compared to commodities, it’s such a small number that we’re so focused on the other. But it definitely will squeeze us and we have not, we don’t have a significant amount purchased forward, so we’re going to be hit with whatever happens.

Heather Jones – BB&T Capital Markets

$2 million a quarter, so $8 million annualized or $2 million annualized.

Dave Singer

No, not $2 million a quarter, its $2 million annualized, $2 million for each $0.25 move in the price. So $4.00 diesel as opposed to $3.00 last year or $3.50 gasoline versus $2.50 last year, that, each quarter, $0.25 costs us about $2 million on an annualized basis.

Heather Jones – BB&T Capital Markets

So $1.00 increase would be $8 million on an annual basis?

Rick Puckett

Heather, when we do our pricing analysis, we look at everything, not just wheat and oil.

Heather Jones – BB&T Capital Markets

What about your Canadian dollar exposure, I mean do you, first of all consider that and secondly do you have it hedged?

Rick Puckett

We do and I will tell you that from a plan perspective or from an expectation perspective, we’re pretty much in line with what we expected.

Heather Jones – BB&T Capital Markets

Okay and then finally your branded sales you know it continues to be the case that crackers and Cape Cod, salty snacks, et cetera are doing great. When do you anticipate a tailing off of the impact of the declines in schools, up and down the street food services, et cetera, where that robust growth that you’re seeing in those other product lines shows through more?

Dave Singer

We are, as each quarter passes, we’re getting closer to when that tails off. The businesses have been declining at a pretty good rate so the percentages of decline hasn’t changed much. So it’s applying to a smaller number. You know we’re still, we’re probably another year or so away from that having a material leveling. So if we can continue to drive Cape Cod and our sandwich cracker business at the rates we’ve had, about a year or so from now, year and a half from now, those drags ought to slow significantly.

Heather Jones – BB&T Capital Markets

I mean is it fair to say if you didn’t have those drags that your branded sales growth would be high single digit?

Dave Singer

It’s probably pretty close.

Russell Allen

Dave I see that’s our last question from investors.

Dave Singer

Okay, well thank you very much for coming and we look forward to talking to you next quarter.

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Source: Lance, Inc. Q1 2008 Earnings Call Transcript
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