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Executives

Sheila C. Reinken - Vice President - Finance, Treasurer

Peter L. Lynch - President, Chief Executive Officer, Director

Bennett L. Nussbaum - Chief Financial Officer, Senior Vice President

Analysts

Alex Bisson - FTN Midwest

Karen Howland - Lehman Brothers

Karen Short - Friedman Billings Ramsay

Winn-Dixie Stores, Inc. (WINN) F3Q08 Earnings Call May 13, 2008 8:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Q3 2008 Winn-Dixie Stores quarterly earnings call. My name is Heather and I will be your coordinator for today. (Operator Instructions) I would now like to turn the presentation over to your host for today’s conference, Sheila Reinken, Vice President of Finance and Treasurer. Please proceed.

Sheila C. Reinken

Good morning, everyone and thank you for joining us for our discussion of Winn-Dixie's financial result for the third quarter of fiscal 2008. I am Sheila Reinken, Vice President of Finance and Treasurer. Joining me this morning are Peter Lynch, Chairman, CEO, and President; Bennett Nussbaum, Senior Vice President and Chief Financial Officer; and Eric Harris, Director of Investor Relations.

Before we let me remind you that the information presented and discussed today includes forward-looking statements which are made under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The risks and uncertainties related to such statements are detailed in our SEC filings.

Today’s call is being recorded and a transcript will be archived. A replay of the call will be available on the investor relations section of our website, www.winndixie.com.

As usual, Peter and Bennett will provide some prepared remarks and afterwards, we will open up the call for your questions.

Now it is my pleasure to turn the call over to Peter Lynch.

Peter L. Lynch

Thank you, Sheila and good morning, everyone. As you will have seen from our press release, Winn-Dixie had another strong quarter. This was the fifth consecutive quarter where we’ve been able to achieve year-over-year improvements in gross margin while also growing identical store sales.

Identical store sales increased 2.2% as compared to the third quarter of fiscal 2007. Our fiscal year-to-date identical store sales increased 1% as compared to the same period last year. Comparisons of identical store sales to last year were impacted this quarter by two significant items; one, the mix shift of pharmacy sales from branded drugs to generic drugs, which had a negative impact of approximately 110 basis points for the quarter and 80 basis points year-to-date. As we mentioned on the last quarter’s call, generic drugs are more profitable to the business than branded drugs and the negative impact of the mix shift is only on identical store sales and not on earnings or script count.

And two, the timing of the Easter holiday. Last year, Easter fell in the fourth quarter of fiscal 2007, whereas this year the holiday took place during our third quarter. Easter favorably impacted ID sales by 80 basis points during the quarter.

The combination of those two factors negatively impacted ID sales by 30 basis points for the third quarter.

As a percentage of net sales, gross margin for the third quarter was 28%, an increase of 10 basis points from the third quarter of fiscal 2008. Year-to-date gross margin was 27.3%, an increase of 70 basis points over last year. These improvements in gross margin were achieved in large part through more effective management of our promotional activity. As you know, this is a top priority for the team and something which we have been working on since the second half of fiscal 2007. We are still fine-tuning the process and we will continue to do so in the fourth quarter. But so far we are generating encouraging results and I would like to congratulate the entire team on a job well done.

We also continue to make operational improvements that reduced inventory shrink during the quarter and had a positive impact on our margins. While we were always looking for ways to reduce shrink even further, I am pleased that we are currently at industry levels.

We generated adjusted EBITDA of $51.2 million during the quarter, which is an increase of $5.2 million compared with the third quarter of last year. I should note, however, that approximately $3.5 million of this improvement was the result of the early Easter holiday. Most of the remaining improvement in adjusted EBITDA resulted from higher gross profit on sales.

I would also like to note that we reported adjusted EBITDA of $92.2 million for the year-to-date fiscal period, which is a significant improvement of $56.8 million compared to the same period last year. Net income was $15 million, or $0.28 per share.

Our solid performance during the quarter is an indicator of the work we are doing to build a solid foundation for Winn-Dixie's future growth. Our long-term initiatives are gaining momentum and resonating very well with our customers.

That brings me to our store remodeling program, which is the cornerstone of our turnaround plan. This multi-year initiative, which commenced in the second half of fiscal 2007, is progressing on plan. We are moving efficiently to update, revamp, and reenergize the conditions of our stores across our entire fleet so we are able to provide Winn-Dixie customers with a shopping experience that is fresh and local.

At the end of the third quarter and including the 20 remodels in fiscal 2007, we have completed 54 remodels or roughly 10% of our footprint. As most of you know, about 80% of our planned remodels in fiscal 2008 are offensive in nature. As of the end of the third quarter, our 41 offensive remodels had experienced a 12.3 weighted average sales lift following the grand reopening phase. Our target is to a achieve a 10% weighted average sales life in the first year of the operation following the grand reopening phase, and we are very pleased that the remodels have continued to outperform that goal. We continue to expect our store remodel program to be a primary driver of sales and traffic increases as we move forward.

Of course, with only 10% of our remodels complete, we are still in the early stages of the program but the trends are very encouraging. We are executing according to plan and the customers are responding. We now have 54 updated stores where we can greet the customers with a wide variety of quality products in a very attractive setting.

As we move forward with the program, we’ll have an increasingly strong store base from which to compete, leverage the strength of our brand, and increase sales per square foot over the long-term.

In addition to the 54 remodels completed as of the end of the third quarter, we also completed 11 so far in the fourth quarter and have another 31 underway. I also want you to know that we are focused on stores that are not scheduled to be remodeled in the near-term. We remain committed to making modest improvements throughout the chain that are less capital intensive.

Now let me briefly update you on the merchandising and marketing initiative. The goal of the program is to ensure that Winn-Dixie is the neighborhood grocer of choice, with stores that are tailored to meet the needs of the communities that we serve. This program is intertwined with our store remodeling program and we are pleased to report that we are opening newly remodeled stores that represent each of the five formats we focus on. The formats are Hispanic, urban, affluent, kosher, and resort.

Moving on to corporate brands, this program is another key component of our long-term plan. We are keenly focused on revitalizing our brand and expanding our selection of private label products. As you know, these brands are an attractive option for our consumers who are looking for quality products but have tighter restrictions on their grocery budgets. I am very excited by what we are doing with the Winn-Dixie corporate brands program and it has already been very well-received by the shopper since inception. Part of the appeal is the wide offering of three tiers of quality products that give better value and cater to our different customers and their varying needs.

At the end of the third quarter, we already had more than 1,000 private label products with a newly designed packaging on the shelf and we are on target to have approximately 1,500 SKUs on the shelf by the end of fiscal 2008. This is 500 SKUs above our original goal.

The corporate brand penetration is another indicator of the momentum we are building with this program. In fiscal 2007, our penetration rate for the categories we measure was 19.1%. In fiscal 2008, our increase in this penetration, we’ve already increased by 140 basis points and so far we have already passed our goal.

Finally, before turning the call over to Bennett, I’ll comment on our financial guidance for the remainder of the year. We continue to expect that our 2008 adjusted EBITDA will fall within our previously announced guidance range of $105 million to $125 million. Let me repeat that -- we continue to expect that our 2008 adjusted EBITDA will fall within our previously announced guidance range of $105 million to $125 million.

Looking towards the remainder of the fiscal year, we are of course monitoring the inflationary environment and competitive conditions very closely. As we’ve said many times, we are continually fine-tuning our sales and promotional practices in order to achieve the right balance on sales and margin.

When we strike that balance in the fourth quarter will likely determine where we fall within our annual guidance range. Our primary goal remains to build customer loyalty and grow profitable sales over the longer term.

And now I’d like to turn it over to Bennett to review the financial results in more detail. Bennett.

Bennett L. Nussbaum

Thank you, Peter and good morning, everyone. I will start with some key P&L items. As Peter mentioned, identical store sales increased by 2.2% in the third quarter compared to the same period last year. The increase in our identical store sales was the result of an increase in basket size of 3.9% offset by a decrease in transaction count of 1.6%. We believe the increase in basket size is due to various factors, including but not limited to the timing of the Easter holiday, which typically falls in the company’s fourth fiscal quarter, offset partially by the impact of a shift from name brand pharmaceuticals to generics. We are working to address the declining transaction count through our strategic initiatives which we believe will improve our overall identical store sales over time.

Our gross profit on sales increased $13.1 million for the third quarter compared to the same period last year. As a percentage of net sales, gross margin was 28.0% for the third quarter versus 27.9% last year, an improvement of 10 basis points. The improvement of 10 basis points in the third quarter consisted of more effective management of our promotional spending in the current fiscal year, which accounted for 30 basis points, and operational improvements that reduced inventory shrink, which accounted for 20 basis points. The combination of these improvements of 50 basis points was partially offset by an increase in the company’s LIFO charge, which had a negative impact of 20 basis points due primarily to an increase in food inflation in the current fiscal year and an increase in transportation costs, primarily fuel and other items, which had an impact of 20 basis points.

Like many food retailers, we continue to experience product cost inflation at higher levels than in the past several years. We estimate that product cost inflation was approximately 3% to 3.5% in the year-to-date fiscal period. We are pleased that so far we have been able to effectively pass along the inflation increases in our business in order to maintain gross profit margins.

Operating and administrative expenses for the third quarter increased $12.7 million compared to the same period last year. As a percentage of net sales, other operating and administrative expenses were 26.6% in the third quarter compared to 26.5% in the year-ago period. The increase of $12.7 million in operating and administrative expenses was primarily related to share-based and other compensation expenses, higher depreciation and amortization, and an increase in utility rates. These items were partially offset by a decrease in legal and professional fees and lower insurance premiums.

The company reported net income for the third quarter of $15 million, or $0.28 per diluted share, a decrease of $2.8 million, or $0.05 per diluted share compared to the third quarter of fiscal 2007. The decrease in net income for the quarter was due primarily to higher reported income tax expense and lower interest income. Operating income in the third quarter was $24.4 million, an increase of $400,000 compared to the same period last year.

Income tax expense for the third quarter was $10.4 million, as compared to $8.4 million in the year-ago period. As a reminder, we do not pay cash taxes due to our net operating loss carry-forwards. This reported tax expense reduced intangible assets.

For the year-to-date fiscal period, identical store sales increased by 1.0% during the 40-week period compared to the same period last year. The increase in our identical store sales was the result of an increase in basket size of 2.9%, offset by a decrease in transaction count of 1.9%.

Our gross profit on sales increased $60.3 million for the year-to-date fiscal period compared to the same period last year. For the year-to-date fiscal period, gross margin as a percentage of sales was 27.3% versus 26.6% for the same period of fiscal 2007, an improvement of 70 basis points. This improvement consisted of more effective management of our promotional spending in the current fiscal year that accounted for 65 basis points for the year-to-date fiscal period, operational improvements that reduced inventory shrink, which accounted for 15 basis points in the year-to-date fiscal period, and other items which accounted for 10 basis points.

These improvements of 90 basis points were partially offset by an increase in the company’s LIFO charge, which accounted for 20 basis points, due primarily to an increase in food inflation in the current year and inventory liquidations in the prior year.

Net income for the year-to-date fiscal period was $18.3 million, or $0.34 per diluted share, as compared to net income of $280 million in the prior year period. Net income for the 40 weeks of fiscal 2007 was impacted by significant non-cash items, primarily reorganization gains of $334.4 million, which occurred in the second quarter of fiscal 2007.

Operating income for the 40 weeks was $29.3 million compared to a loss of $78.4 million in the same period last year. As of April 2, 2008, our net operating loss carry-forward for federal income tax purposes, or our NOL, was approximately $500 million. We continue to expect that our NOLs will increase as we settle the remaining outstanding bankruptcy claims and distribute approximately 7.5 million shares held in reserve by the disbursing agent to satisfy remaining disputed unsecured claims. The amount of the increase will be determined based on the then current market value of our stock at the time these additional shares are distributed.

As we have noted previously, the 7.5 million shares are included in the 54.1 million shares we reported outstanding as of April 30, 2008.

We filed our 2007 federal tax return in March and made an election that will allow us to utilize fully our NOLs to offset our taxable income as we generate it.

Moving along to a balance sheet and cash flow statement, as of the end of the quarter on April 2, 2008, Winn-Dixie had $642.6 million of liquidity, comprised of $464.8 million of borrowing availability under our credit agreement and $177.8 million of cash and cash equivalents.

During the 12 weeks ended April 2, 2008, we collected $12.8 million of proceeds from insurance claims and $6.2 million of income tax refunds. For the 40 weeks ended April 2, 2008, net cash provided by operating activities was $136.6 million, due primarily to operating income and working capital changes.

I would also like to comment briefly on the progress of our store remodels. As Peter noted, we have remodeled roughly 10% of our footprint and we are pleased that we continue to exceed our 10% sales lift target on the offensive remodels.

Let me note, however, as I have in the past that it generally takes about six months before the positive sales lift from a remodeled store is apparent on our bottom line. This is due to the one-time costs associated with reopening the stores that will temporarily offset the incremental EBITDA from the sales lift we expect to achieve.

Once we get past the period in which we incur these costs at each individual store, you can expect to see the benefit of the increased sales from that remodeled store flow down through the P&L.

Our projected cash capital expenditures in fiscal 2008 are expected to total approximately $220 million, of which $140 million is expected to be spent for our store remodeling program and $80 million on other capital expenditures, including maintenance and other store related projects, information technology projects, and back-up generators.

We anticipate that our capital expenditures for the remainder of fiscal 2008 will be funded substantially by cash flows from operation, working capital improvements, and cash on hand.

Now let me hand it back to Peter. Peter.

Peter L. Lynch

Thanks, Bennett. In summary, I want to thank the entire Winn-Dixie team for another great quarter. This was due in large part to our outstanding associates and what they’ve been able to accomplish and the continued support of our vendors. We have a very talented, experienced, and extremely energized team of professionals working at Winn-Dixie and I am pleased with the progress we’ve been making with the execution of our long-term plan.

Thank you again for joining us this morning. We greatly appreciate your interest and support and Operator, we are now ready for the Q&A session.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Alex [Bisson] with FTN Midwest. Please proceed.

Alex Bisson - FTN Midwest

Peter, I’m curious if you could talk a little bit more about inflation. I guess specifically your ability to pass through inflation, what you see going on in the marketplace from your competitors and their use of inflation, and also any customer reaction.

Peter L. Lynch

Alex, as I’ve noted before and it continues to be my experience, I think our competitors have acted very responsibly and I see rational approaches from competitor to competitor in response to what’s going on and their ability also to pass on the inflation.

Regarding Winn-Dixie, as I said before we’ve been passing on the cost increases. We’ve continued to pass those along in the third quarter and we will continue to do that as we move forward.

As far as our customers go, I guess I view them as becoming maybe more value orientated. Obviously what we see which is playing out very well for Winn-Dixie is the move to the private label where we are up 160 basis points on the private label penetration, obviously an indication of consumers moving for more value. We see a little bit in our meat departments, consumers more orientated towards poultry versus beef, or in the pork category moving from boneless products to bone-in products, which have more value for the consumer. So we continually see it there.

We also see it in terms of trips with our transactions being down, where the consumers are trying to modify the amount of trips that they make, which I think as I’ve said in the past can also be favorable for us because our locations are in very good locations.

And I think just overall, the whole consumer thing today is about value and we’ve got an opportunity to represent value in our circulars on a week-in and week-out basis and we will continue to do so.

So I think responsible is really the key, that our competitors have acted responsibly, we’ve acted responsibly, and I think the sectors have the ability to pass those costs along.

Alex Bisson - FTN Midwest

All right. Thank you very much.

Operator

Your next question comes from the line of Karen Howland with Lehman Brothers. Please proceed.

Karen Howland - Lehman Brothers

Good morning. I was wondering if you could give an update a little bit on how your relationships are with your vendors, now that you’ve kind of proven that you -- you are back in the game, that you are improving your stores, that you are driving sales to your remodeled stores. Are you seeing any benefit from that, any additional projects coming about with your vendors?

Peter L. Lynch

Karen, I think if you go to my very last paragraph on my remarks, one of the things I did was thank our vendors for their support. Our vendors have been a huge help to Winn-Dixie these past couple of years. I am seeing an increased interest in Winn-Dixie. We continue with our talk-to-top meetings with our key vendors on a weekly basis and one of the things they are bringing to the table is a lot of information about how we drive the categories, how we drive their products but more importantly how we can work together to drive profitable sales for both. So I continue to be encouraged. I appreciate their support and I think vendor relations have never been better than they are today at Winn-Dixie.

Karen Howland - Lehman Brothers

And could you go into perhaps a little bit more detail on how you can work with them to drive more profitable results?

Peter L. Lynch

We look at an awful lot of information but the vendors have a whole lot of networking and an awful lot of other information that they have that helps us have transparency into how their products are doing, where the margins are. More importantly, where the consumer trends are, so we spend time talking to them about all of that and we work together to put together promotions that are going to drive profitable sales for both of us.

It’s all about information, it’s all about communication, and it’s all about having respect for each and I think that’s going very, very well here at Winn-Dixie.

Karen Howland - Lehman Brothers

And following up on the last question as far as the consumers being more value-oriented, I believe over the course of the last year you’ve actually raised some of your prices to bring you a little bit more in line with the quality, perception, and more in line with Publix. I was wondering if you are getting any -- seeing any push-back at all from your consumers on that, or if people recognize that you -- you know, just to bring your prices more in line.

Peter L. Lynch

Well, you know, we’ve never gotten in-depth talking about what exactly we are doing with pricing and I am not going to start here. I can tell you with whatever moves we have made, I feel very, very good about them. But I will reiterate what I said -- the consumer is value-orientated today. I filled up my car with gas the other week, it was $92. You’ve got to be value-orientated. But as I said before, we’ve got a great opportunity to talk about that value in our circulars every single week and our team has been doing a great job of understanding our consumers. And as I’ve said before, we’ve got our reward card, which helped us understand the behavior of that consumer all the time and we are in a position today where most of our competitors don’t have it. We do have it and we can see some of the trends that are going on there today. So I think our pricing is right in line, feel good about that. As I said before, we’ve got great transparency in what we are doing on pricing and as far as our consumers being more value-orientated, I think we all are today and we’ve got transparency into that and we will react appropriately as we move forward.

Karen Howland - Lehman Brothers

And one follow-up -- one additional question; with the remodels that you are going to be doing next year, do you expect those to be staggered similar to this year that they are mostly back-end loaded or will it be kind of evenly spread throughout the course of the year?

Peter L. Lynch

Karen, as you know this was really our first year getting these things going and we learned a lot and as a result, they ended up being more back-loaded than front-loaded. I think with the preparations we’ve made this year, the early starts we’ve got going on a number of them, it will be a more balanced approach during next year.

Karen Howland - Lehman Brothers

Thanks very much.

Operator

(Operator Instructions) Your next question comes from the line of Karen Short with Friedman Billings. Please proceed.

Karen Short - Friedman Billings Ramsay

A couple of questions, just on private label following up; obviously you gave some color on the penetration but I’m just wondering what the negative impacts might have been from the higher penetration on your comp.

Peter L. Lynch

You know, we don’t give that out but it is a negative impact on the comp, although it’s not significant. But at the end of the day, as you know, we make more margin, we get more penny profits on these items and we are very confident of the program and I’ve got to tell you, Karen, I’m in the stores two days a week and what the team is doing with this new packaging, I’m constantly stopping in my tracks to take a look at these products that are jumping out at me in the aisles. What’s more important, they are doing the same things for the consumers and it’s all about value, it’s all about quality, and I’m extremely pleased with this program. The next time you get a chance to come down here, I’d be happy to walk you through the stores and it’s really impressive what the team has done with these private label products.

Karen Short - Friedman Billings Ramsay

Okay, great. And do you have a sense for what say a 1% increase in private label penetration does in terms of EBITDA lift?

Peter L. Lynch

I haven’t talked about that before, Karen but I can tell you that our private label penetration is positive to our penny profits and it’s a very, very good program for us at Winn-Dixie.

Karen Short - Friedman Billings Ramsay

Okay. And then I guess -- I don’t know if you’d be prepared to comment at all on what you are seeing in sales trends in the fourth quarter so far. You know, Del Hayes had some very ominous comments to make on their call a couple of days ago, I guess, and you don’t seem to be seeing quite the doom and gloom that they are seeing, but --

Peter L. Lynch

No, I’ll reiterate that I think we understand what our consumers are doing. I’ve told you that we’ve got very good transparency into this business. We meet a couple of times a week just to make sure we are steering the ship in the right direction and I will continue to balance our promotional spend with where we want to be on sales. That’s where we are.

Karen Short - Friedman Billings Ramsay

Okay, and I guess just a last question -- is there -- do you guys have any updates on the timing or the status the shares held in escrow? I mean, I know you are constantly in negotiation to settle these claims but is there like a drop-dead date where if they are not settled, they just get distributed?

Peter L. Lynch

I’m going to pass that one on to Bennett. He’s close to that.

Bennett L. Nussbaum

Actually, Karen, we are constantly -- as you can see the numbers coming down a little. We are constantly working on settling them. There are one or two large claims that are in court and until we can clear those through the court and that process can be short or lengthy, we’re not -- we really don’t know when we are going to distribute the balance of those shares.

Karen Short - Friedman Billings Ramsay

Okay. Okay, great, I’ll get out of the queue. Thanks.

Operator

As there are no further questions in queue at this time, I would like to turn the call back over to Peter Lynch for closing remarks.

Peter L. Lynch

Well, I appreciate everybody’s time this morning. As you can see, we continue to be very encouraged by our progress. Again, I want to thank our team, I want to thank the vendors who support us and I want to thank all of you for attending this morning and I look forward to talking to you again at the end of Q4. Thank you.

Operator

Ladies and gentlemen, thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Have a great day.

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