Chiquita Brands International's CEO Discusses Q2 2012 Results - Earnings Call Transcript

Aug. 7.12 | About: Chiquita Brands (CQB)

Chiquita Brands International Inc. (NYSE:CQB)

Q2 2012 Earnings Call

August 7, 2012 4:30 pm ET

Executives

Steve Himes – Investor Relations

Fernando G. Aguirre – Chairman, President and Chief Executive Officer

Brian W. Kocher – Chief Financial Officer, Senior Vice President

Analysts

Scott A. Mushkin – Jefferies & Co., Inc.

Heather L. Jones – BB&T Capital Markets

Reza Vahabzadeh – Barclays Capital, Inc.

Carla Casella – JPMorgan Securities LLC

Bryan Hunt – Wells Fargo Securities

Mary Gilbert – Imperial Capital, LLC

Operator

Good day and welcome to the Chiquita Brands Second Quarter 2012 Earnings Call. As a reminder today's conference is being recorded. (Operator Instructions) At this time, for opening remarks and introductions, I'll like to turn the conference over to Mr. Steve Himes, Director of Investor Relations. Please go ahead, Sir.

Steve Himes

Thank you, Kevin. Welcome everyone to Chiquita Brands International's Second Quarter 2012 Earnings Conference Call. On the call today are Fernando Aguirre, Chairman and Chief Executive Officer and Brian Kocher, Chief Financial Officer. After today's prepared remarks we will take questions as time allows. A copy of today's press release is available on the Company's website at www.chiquita.com, and you may also contact Chiquita's Investor Relations department at 980-636-5637 to receive a copy. Our press release includes reconciliation's to U.S. GAAP of any non-GAAP financial measures that we mention today.

This call contains forward-looking statements, regarding operating performance or industry developments, and any such statements are intended to fall within the Safe Harbor provided under the security laws. Factors that could cause the results to differ materially are described in the forward-looking statements section of today's press release and in Chiquita's SEC filings, including its annual report on Form 10-K, and quarterly reports on Form10-Q.

And now, I'll turn the call over to Fernando.

Fernando G. Aguirre

Thank you, Steve, and good afternoon and thank you for joining us today. We several items which we would like to cover this afternoon. First, we will review, Chiquita's second quarter performance. Second, formally launch our transformation strategy, which we began laying out on the year-end call in February and is intended to increase shareholder value by singularly focusing on driving profitability in our core businesses of bananas and salads. Third, we will frame the earnings power of Chiquita going forward, quantify our long-term financial goals, and provide additional detail on the actions we are taking to support the achievement of these long-term financial goals. Last, I will also discuss my future plans with the company.

To put this in context, the actions we are announcing today are a series of initiatives, which began with the move to Charlotte, and the decision to expand our salads business by offering, private-label salads, and will result in a continued restructuring of our current organization. The move together with the changes we are announcing will lower our fixed cost base and are expected to increase Chiquita’s profitability in the next six months by reducing expenses and allowing also focus in our core businesses bananas and salads. I’m going to ask Brian to take us through our second quarter results and expand on the plans to improve our profitability short term. Brian?

Brian W. Kocher

Thank you, Fernando. Now regarding second quarter, you’ll remember that on the last couple of calls we indicated that 2012 would be a challenging year for Chiquita. Although manning of the external factors impacting our business have not changed, our results reflect improvements and in some instances even exceed our expectations particularly with regard to many of the controllable aspects of our business.

The second quarter 2012 net income on a comparable basis was $12 million or $0.27 per diluted share, versus $34 million or $0.73 per diluted share in 2011. U.S. GAAP results for Q2, 2012 were net income of $6 million or $0.12 per diluted share versus net income of $78 million or $1.68 per diluted share in 2011. The adjustments between comparable results and GAAP results are included in the table in the press release.

Looking at bananas, sales were 4% lower at $533 million, comparable operating income was $29 million or 5.5% of sales and was impacted by the absence of a product supply surcharge in North America, the weakening euro in European markets and slightly higher delivered fruit cost. Local pricing gains in Europe partially offset these impact.

Our North American banana business faced difficult comparisons the last year because of the product supply surcharge that was in affect through the end of the second quarter 2011. Banana pricing was 8% lower on essentially the same unit volumes.

In Europe, other local prices were 5% higher than in 2011. The increase was not enough to offset the large and rapid decline in the value of the euro. The euro decline alone negatively impacted our year-over-year quarterly comparisons by $26 million. In fact, excluding the impact of currency, our European operating income approximately doubled year-over-year.

In our core European market, dollar equivalent pricing – prices were 6% lower and volumes were 5% lower as we rationalized volume in areas where we could not generate a profit. Despite difficult market conditions in some of variables that we could not control, our banana business underlying performance exceeded our internal forecasts, as we effectively managed the parts of the business that we could control.

Without the unprecedented move in the euro, which we just discussed, comparable income in bananas was essentially flat. It's not for the 2011 surcharge in North America, comparable income for bananas would have increased year-over-year. Disciplined marketing spends, shipping savings, maximizing utilization of our fix infrastructure and the allocation of banana volume for the most efficient markets help drive the underlying business performance.

In our salads and healthy snacks segment, second quarter net sales were steady at $252 million. On our first quarter call, we indicated that retail salad volume comparisons could be as much as 15% below the second quarter of 2011. Salad volumes were better than expected this quarter and the quarter ended about 8% below 2011 levels. Increasing retail sales velocity on a same-store basis, the benefits of improved Salad quality and more effective promotion planning strategies led to the velocity increase. Average pricing of retail Salads was up slightly from the second quarter of 2011. Increased sales volume in both our food service and healthy snacking business offset the revenue effect of lower retail Salad volumes.

For the quarter, the Salad segment delivered $11 million in operating income on a comparable basis, versus income of $4 million a year ago. The improved results reflect manufacturing cost improvements, which eliminated certain salad quality related costs incurred in 2011. We also benefited from improved pricing and reduced marketing spend in the salad segment.

I want to comment on two important highlights related to the second quarter, which will provide us important flexibility in executing our transformation strategy. First, in June you saw the announcement that we successfully received the amendment to our credit agreement. In our current environment, the amendment provides the company with more operating flexibility to execute its strategy and to manage the volatility inherent in these businesses. The amendment period extends to the September of 2013, at which point the terms of the credit agreement largely revert to the original agreement. This support from our lending group highlights their confidence in our business and their understanding that results from this year, uniquely reflect some unprecedented issues such as the weak Euro.

Secondly, the relocation of our corporate high-quarters and consolidation of our other corporate administrative functions in Charlotte, North Carolina is ongoing. We recognize $7 million of cost related to the relocation, $4 million net of tax in the second quarter of 2012, primarily related to severance and we expect to record an additional $8 million of relocation costs during the second half of 2012. Recall that the cost of the move is essentially offset with the local incentive. Separately and in addition, Chiquita will realize ongoing operating cost savings of more than $4 million annually, from more efficient staffing, consolidation of locations, lower rent, and reduce travel costs.

I would like to provide a little color on the balance of 2012 during which Chiquita will continue to face challenges from storm of the headwinds that we’ve seen in the first half of the year. In our Banana business, we continue to expect that supply will outpace demand. The euro will continue to negatively impact Chiquita with comparisons to 2011 in particular.

In the third and fourth quarters of 2011, Chiquita realize revenues at levels of $1.41/euro and $1.40/euro respectively. These levels are comparison to the spot price today of approximately $1.24/euro. In June and July, however we entered into very hedging instruments in order to protect from the downside risk of further devaluation of the euro. Our hedges cover 85% of Chiquita's expected euro cash flow below $1.23/euro for the balance of 2012. In 2013 our hedges cover 50% of the expected euro cash flow below $1.20 and 35% of the Chiquita's expected euro exposure at a rate below $1.23.

Lastly, in terms of our salad business, we expect to see our volumes slightly down in the third quarter and improving in Q4 with the launch of several new items, continued quality improvement and potential new branded and private label customer contracts that may add to existing volumes. By the end of the year, volumes should be down only slightly to 2011 volume.

Now, let me turn to laying out how we are looking at the business over the next few years starting with specific profit targets. We do not believe the company’s recent performance is indicative of the earnings potential of our business. We are implementing a strategy to enable Chiquita to adapt and compete in the current and future marketplace.

For clarity, we are thoroughly focused on increasing shareholder value. Our number one financial goal is to increase cash flow and pay down debt, which in turn increases shareholder value. While we mentioned earlier in the year, that we would at least like to explore alternative uses of cash that maybe more accretive than debt reduction, given the current need to adjust our cost structure and changed to our strategic model, we’ve decided to focus on increasing cash flow to reduce debt and maximize our asset utilization on our core banana and salads businesses.

In other words, we are not looking to acquire any business in the foreseeable future. Even macro economic conditions changes in our own industry and to quantify the impact of our new strategy, we wanted to take this opportunity to provide our stakeholders with an understanding on Chiquita’s earnings potential. To do this, we’ve today announced long-term operating margin targets for each of our business unit.

These operating margins are EBIT margins; earnings before interest and taxes and excludes certain unallocated corporate costs that are separately disclosed in our corporate segment. While these targets are announced today and depending upon executing our transformation strategy to drive increased profitability in our core markets, we are focusing on a 2 to 3 year time horizon to achieve these results.

In terms of specific targets, for our global banana business, our goal is to average approximately 4% operating income or EBIT margin. While we cannot control the euro, our long-term financial goal is based on a euro at the current $1.24 euro rate. We believe that a 4% target EBIT margin is achievable by focusing on things that we can control. Additionally a 4% EBIT margin would rank favorably with our normalized performance over the last four years. To put this in context, on $2 billion of annual banana sales, we're targeting approximately $80 million of operating income in this segment.

For salads, we believe we can achieve 7% to 8% operating margins in the next 24 to 36 months. Similarly put, on $1 billion of salad sales, we are targeting $70 million to $80 million of operating income. After subtracting the corporate segment, based on today's revenue and assuming no movement in the euro that would equate to approximately $110 million of consolidated comparable operating income and approximately $175 million of consolidated EBITDA on an annual basis.

The changes we have outlined will result in sustainable cost reductions beginning immediately of at least $60 million after one-time charge of approximately $15 million in the second half of 2012, primarily related to severance.

The restructuring plan that we’re announcing today should – is going to effect immediately and we should start seeing at least $8 million in savings as early as the fourth quarter of 2012 and $60 million on an annualized base. More than half of the savings come from streamlining Chiquita's operating and overhead structure, including the elimination of more than 300 positions and related reductions in overhead and newly gained efficiencies.

Eliminated positions include current vacancies and extend the senior management of the company. We are reducing staff levels not just to save money, but we're doing so to strategically change our operating model. Again, we must continue to streamline our overhead and operating functions to meet or exceed the ways our competitors operate, we employee many functions and positions, which they do not.

Let me now turn it over to Fernando, who will outline some of the strategies we're using to reach these financial targets. Fernando?

Fernando G. Aguirre

Thank you, Brian. We believe the targets that Brian has laid out are aggressive, but achievable. In fact we've operated this business with those margins in the recent past. In order to reach these targets, you can expect our business to make strategic decisions to focus our efforts in increasing profitability in our core bananas and salads business to drive costs out of our supply chain to be more competitive in our core markets, to minimize our overhead structure to the bare essentials of supporting our core bananas salads business to evaluate non-core unprofitable businesses and minimize investment in diversification and innovation, and to limit our consumer marketing investments to certain European geographies and support of our pricing premium.

The entire management team has participated in the development of these long-range targets and strategic changes and everybody is committed to executing the strategy and our compensation is directly tied to the future financial success for the company. To be more specific, I’ll give you more details on why this included in this new transformation strategy.

In bananas, we will continue driving costs from all areas of the supply chain. We already have projects identified to further reduce our shipping, outsourcing, infrastructure and direct input costs. We will not invest a significant amount in our banana innovation efforts and we will reduce the R&D investments in bananas to the core areas of quality improvement and cost reduction. We will reduce the corporate structure to the appropriate size in light of reduced investment noted above. We will reduce our consumer marketing investments to those geographies in Europe, where we achieve a price premium.

In salads, the most important action that we can undertake is to grow volume. We announced, as a first step in our new strategy, the decision to offer private label salads and expand it to whole head lettuce and organic salads. Higher volume will not only increase revenues, but it will also allow us to maximize the utilization of our plants, which will increase profit margins.

We are also reducing manufacturing costs by using reverse auctions for commodity direct materials, by reducing unprofitable SKU and eliminating associated overhead by introducing new salad SKUs in a low investments R&D model and by enlarging our available pool of salad growers to promote competition.

As you will recall, in June, we broke ground on our new Midwest facility, which will replace three existing facilities in the region. The new facility will provide annual cost savings of at least $7 million as well as operating flexibility for the salad business. Production will begin in early 2013.

While we’ll maintain trade oriented marketing programs that have proven to help us improve sale velocity, we’ll reduce our overall marketing investments in consumer messaging. In order to achieve our long-term goals, which we expect to significantly improve profitability and increase shareholder value, we must also change our asset allocation decisions as well as streamline our costs.

In the past, we have invested heavily in diversification, innovation and new business lines. At this point, we’ll be fare any diversification efforts outside bananas and salads. Diversification maybe important to us in the long-, but it will not be the focus over the next two years. Our priority is to eliminate this structural cost disadvantage we have today versus our major competitors.

Going forward, we’ll also ensure our structure is consistently sized to operate competitively. Our plan is to reduce global SG&A levels to no more than 8% of net sales, which is in line with industry benchmarks. To get there, we’ll simplify our organization, eliminate jobs in areas dedicated to diversification and reduce additional staff levels by continuing our consolidation efforts to Charlotte.

We’ve made some important strategic and operational decisions toward these goals. These include reducing European headquarters operations to focus support on core businesses, realigning sales and retail operations functions to support profitable value-added customer service, refocusing marketing resources to support only retailer focused trade marketing and evaluating non-core unprofitable businesses. In short, we planned to limit future investments to areas where customers and consumers see value and pay us a profitable price.

It is important to note that the two recent long-term investments in the consolidation of salad facilities in the Midwest and the relocation of the headquarters in Charlotte included major annual savings and financial incentives that are inline with our new strategic model. We are dedicated to fulfilling commitments made to these projects. These changes are much more than cost savings, they are a fundamental strategic model change, as such they are designed to maintain high-quality customer service and best-in-class quality products. Importantly, for those Chiquita employs affected by the changes worldwide, we will treat them fairly and consistent with our core values. The restructuring is expected to be completed by the end of third quarter 2012.

To summarize a few points, we are focusing our strategy to drive profitability of our core businesses, bananas and salads. We want to take advantage of economy subscale to increase our consolidated cash flows, reduce debt and create value for our share holders. To that end we are reaffirming debt reduction as the number one priority for any excess cash.

We do not believe our current period results are indicative of our long-term earnings power and we set forth long-term financial targets that clarify our belief of the earnings power of our businesses over the next 24 months to 36 months. In order to achieve those long-term financial objectives, we have differed, reduced or eliminated many of the diversification, non-core innovation and consumer marketing investments, reduce the cost on infrastructure in our businesses in both SG&A, as well as cost of goods sold. We anticipate these efforts will increase consolidated earnings of the business and drive long-term shareholder value.

Given this new strategic direction on the completion of the Charlotte relocation, both the board and I believe that now is the right time to transition the role of Chairman and CEO. The board has put in place a committee and hired a firm to do an external search. While the search is under way, I will continue my current capacity and will work with the board and management team to ensure a seamless transition.

We're following a clear and smooth transition plan and I have great confidence in the team that is in place to execute our turnaround plans. We have accomplished many important things and while I won't list them all, I’m most proud of how resilient and courageous we have been to sustain many of the headwinds, somewhere inherited and some external factors we cannot control. But our shareholders, you should know that we have always tried to do the right thing to create value in the right manner.

At the end of the day I'm one of the largest shareholders in the company and as such I want to get us back to being fairly valued in the market and a smooth transition will help do that. It has been my honor and pressure to lead Chiquita almost 9 years and I look forward to ensuring the next few months we focus on executing our plans and a smooth transition to a new CEO, who can help us build and generate shareholder value.

I will continue to dedicate my heart and soul and every ounce of energy within me to deliver the results that we all want. This concludes our prepared remarks. Operator, you can please open the call for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And we’ll go first to Scott Mushkin with Jeffries & Company.

Scott A. Mushkin – Jefferies & Co., Inc.

Hey guys, thanks for taking my questions and I do – Fernando I really appreciate your words and all your handwork. The next two quarters look like they’re going to be particularly difficult with the euro where it is. And I was just wondering if you can kind of, maybe Brian you can give us a little thought process on – is $15 million of EBITDA enough to keep this company going through the end of the year. Is that even a fair question, I guess that I put out there? And it seems like that is a possibility here before we get into next year.

And then the second question I have, it seems to be like a lot of – I can’t say a lot right here, but some writing in the salads business on winning of new contracts to get the volume. And I was wondering if you could tell us what the volume will be if that does not happen?

Brian W. Kocher

Scott, let me answer a couple of those questions and let’s talk a little bit about the go forward and the next couple of quarters. We do anticipate, as we’ve said that 2012 will be a tough year, but we also know that we were able to deliver better than our internal expectations in the second quarter and that the bank amendment, the credit facility amendment provided us some flexibility and operating room to withstand the challenges that we face and some of the volatility that we face.

In addition, subsequent to that we haven’t hedged substantially, all 85% of our euro risk going forward, so we know that that we don't face anymore exposure, relatively little exposure less than 123. So I think as we look over the course of the next couple of months, we are in line actually a little bit ahead of our estimates and forecasts that we were expecting and certainly that we contemplated in bank agreement.

Let me also move to the next question you had about salad volumes. Retail salad volumes in particular, and remember a couple of things, we mentioned during the last call that our retail volumes were expected to hit the low point in the second quarter and be down 15% year-over-year, those came in at 8% lower, so we improved our retail salad velocity, it's better than we expected. That came with potentially no new distribution, so that's based on what I'll call the retained business or the income net business. And even as we look out in the second half of the year, we anticipate gaining some volume, but I think I mentioned in the first call, even when we were chasing private and our focusing on private label volume and expanding our retail salads volume, we did not anticipate that making a significant impact to the P&L, at least at that time sort of 9 months to 12 months, now it could be 6 months to 9 months.

So I hope that, although not giving you specific guidance, I hope you could frame some of the questions you may be alluding to.

Scott A. Mushkin – Jefferies & Co., Inc.

Yes that's perfect, I really appreciate it. And just sort of a clarity, because you guys are going through stuff fast, it’s been a long day, it’s strenuous for you guys too, but the hedging, what do you hedge the next two quarters, it’s 123 I think I heard, is it 50% relatively…

Brian W. Kocher

123.

Scott A. Mushkin – Jefferies & Co., Inc.

143.

Brian W. Kocher

85% hedge.

Scott A. Mushkin – Jefferies & Co., Inc.

85% hedge.

Brian W. Kocher

And our euro cash flow is hedged at 123, that's what I mean from a hedging standpoint, we've essentially hedged most of our downside risks below 123.

Scott A. Mushkin – Jefferies & Co., Inc.

And the $26 million hedge to EBIT, that you referred in the second quarter, is that the size we will in the third and fourth too? Or is it not? You don’t want to draw that out.

Brian W. Kocher

Well, we gave you what we had last quarter, our earning 2011 in the third quarter 2011 we had 141 in the fourth quarter – excuse me third quarter we had 141 and the fourth quarter we had 140. And if you look at a spot rate right now of 124, you can see the difference.

Scott A. Mushkin – Jefferies & Co., Inc.

And the second quarter '11 what was it? I mean what was your average during the second quarter '12? If it isn’t released I apologize.

Brian W. Kocher

The second quarter of ‘11 was around 144 and our second quarter of '12 was around 129.

Scott A. Mushkin – Jefferies & Co., Inc.

So it's similar, okay

Brian W. Kocher

Similarly.

Scott A. Mushkin – Jefferies & Co., Inc.

I’ll get back. The thing that I want to take away is, in spite of sort of the pressure we had from the euro, the underlying business was able to offset a lot of that and ultimately achieved more than we expected. And I think that's sometimes get lost, when you talk about the euro impact and particularly in an un-hedged environment, the euro impact – I just want to make sure that that comes too clearly.

Brian W. Kocher

No, I mean absolutely and I think that I mean I thing that’s your you are working you did over in Europe and I think there is a lot of that work with is coming through. It’s a shame that you euro is slow up, but if you’ve covered 85%, that seem to mitigate some of it, but it looks like EBITDA could go negative in the third and fourth quarter and then I’ll officially yield, is that wrong and just like it could be negative?

Fernando G. Aguirre

I don’t see it going negative. No.

Scott A. Mushkin – Jefferies & Co., Inc.

Okay, okay.

Brian W. Kocher

There’s no example of that going negative, no.

Scott A. Mushkin – Jefferies & Co., Inc.

No, okay. That’s I appreciate that. I am going to get back in the queue, I actually have few more but I’m sure other people dying to ask questions, thanks.

Operator

We’ll go next to Heather Jones with BB&T Capital markets.

Heather L. Jones – BB&T Capital Markets

Good evening.

Brian W. Kocher

Hi, Heather.

Heather L. Jones – BB&T Capital Markets

Hi. Few questions on the cost restructuring, you talk about forcing logistic changes in the press release and non-recurrence of quality issues in salads and all. Does the $60 million include the non-recurrence of quality issues in the back half of for salads or is it?

Brian W. Kocher

Yeah let me explain that. So one of the reasons that we had better year-over-year, performance in the salad segment from ‘11 to ‘12 was the result that we had better quality performance, we had better manufacturing procedures and therefore we’d both better sales velocities, as well as lower costs. Right? So let us put aside and just as an explanation – part of the explanation for year-over-year improvement in the salad segment second quarter of ’11 and the second quarter ’12. Okay?

Heather L. Jones – BB&T Capital Markets

Okay.

Brian W. Kocher

Okay if you look at our cost reduction plan, we will achieve at least $60 million of annualized savings year-over-year. I think the way that I would look at that is, you probably have somewhere in the range of $25 million or so that's SG&A related, and maybe a little at $25 million to $30 million that's SG&A related let’s call it some programs that might be SG&A related and that includes our people obviously in terms of taking out the structure. And then you also – the rest of what I would describe is more cost of goods sold related item.

So remember we still have some ships that are coming out of lease, we still have some other projects in place to drive cost out of the supply chain, and that's an area that we believe we can become more competitive and we have events that are happening in 2012 or before 2013, like ships coming off charter, to help us achieve those savings, so there are events that come up that force us to make a decision and we have the opportunity to make a decision that drives cost out of the supply chain. So I hope that explains the difference between sort of year-over-year performance and then also the cost savings program.

Heather L. Jones – BB&T Capital Markets

It does. As far as, I was shocked that salads were better in Q2 versus Q2 ‘11, given lower volumes already on depressed base, you mentioned the quality issues and I know those were called out last year, but I think it’s a sense they were that large, I mean did you dramatically reduce marketing spend or, I mean what else – how oft were you able to drive that year-on-year improvement given the lower volume?

Fernando G. Aguirre

Sure, there a couple of things that helped us in this picture, certainly we had some pricing that helped. We also had a little bit of volume pickup that came from our food service business and our healthy snacking business, remember and it was a short phrase in the script, but although we were down in retail salads, we were up in food service and that helps offset some of the volume that we lost in retail, drives the manufacturing efficiencies, eludes overhead and helps us in that area and then we did have about $3 million of marketing that was – $3 million less in 2012 than in 2011. And so those are the real components, it's a little bit of price, certainly caught the areas of production overhead. You remember last year we took some cost out and we've just been very aggressive in driving savings in our production overhead arena and that helped the salad business in the second quarter as well.

Heather L. Jones – BB&T Capital Markets

Okay, well that’s a segway to a broader question I have, I may be – but I'm looking at your volumes in this quarter and they’re down, call it 30% or so since '09. And as far as the major utilizations by one end around 60 and so it’s part of your plan to grow salad volumes, which is part of your long-term plan to achieve 7% to 8% EBIT margins, in my wildest thinking that your break even at this lower utilization rate is higher that some of your competitors and so just trying to get a sense of how you’re planning on addressing that?

Brian W. Kocher

Yes, I'm not sure that I can comment on what the breakeven of our competitors are, but here is the way that I would look at that I think Heather. As we have over the last several years, we continue to take cost out of our business and I think I told – we talked about this even three years ago where we’re more profitable with less capacity and less volume, we’re more profitable than we ever have been because of the work that we did on the cost side. We continue to get some benefit from the cost side and continue to be focused on making our manufacturing environment the most efficient that it can.

We do want more volume, when you have plant with some capacity, volume helps to drive profits and that’s one of the reasons that we elected to offer private label, it’s one of the reasons that we want to do whole head lettuce, it’s one of the reasons we want to organics because when we can do that without any real significant expenditures in plants, in manufacturing and we might add a line or a two here and there, but more or less we can do that with our existing infrastructure. So, yes, we do want to add volume; yes, adding volume will be on the margin certainly a profit accretive effort. But we’ve done a very good job in driving fixed cost out, so that we can have some quarters like this quarter where we actually drove profits even with less volume.

Heather L. Jones – BB&T Capital Markets

Okay and that is good. The $60 million plan is excellent sounding. I guess one final question though and it’s related to this whole transition, the strict restructuring, et cetera, but we’ve heard some anecdotes here in the U.S. about Chiquita becoming more aggressive bidding for some banana contracts with relatively large retailers. Just wondering if you could speak to that, is that – because this is your best market on a global perspective. So I don’t know if that’s a function of just the internal transition going on or – if you could speak to that?

Fernando G. Aguirre

Well, I'm not sure that I can speak to any of the rumors you’re hearing and what source they are, anything of that nature. But what I will tell you is we continue to try to drive volume in the right spots, where it’s profitable for us and we can maximize some of our fixed infrastructure. So we will continue to in certain areas and then we’ve mentioned before on the call, sometimes we are underrepresented in certain geographies and we’ll continue to drive profits where they make the most sense for us and volume, where we can take the best advantage of our infrastructure.

Heather L. Jones – BB&T Capital Markets

Okay. And then my final question is I took from your press release that you are expecting margins in the back half to be up in your salad business and I’m understand that correctly, as far as up year-over-year in your salad business?

Fernando G. Aguirre

Did you say margins or…

Heather L. Jones – BB&T Capital Markets

I thought – I mean, I can’t find it now. No, margins. Let me see, I can’t find it now, but I thought I read in the second half that – yeah, here it is, operating margin should improve year-over-year, so you are expecting higher salad margins in Q3 and Q4, year-over-year?

Fernando G. Aguirre

We are and that’s mostly, again that’s where you get into a lot of the quality related costs. So if you look at last year and I think the number last year we had somewhere in the range of $13 million or $15 million of quality related costs in 2011 and those were some in the second quarter, but mostly in the third and the fourth quarter of 2011. So all other thing being normal or – excuse me, all other things being the same, you’d expect us to at least get back to that type of profitability.

Heather L. Jones – BB&T Capital Markets

Okay, all right. Thank you so much.

Fernando G. Aguirre

Does that make sense?

Heather L. Jones – BB&T Capital Markets

It does, very helpful thank you.

Operator

We’ll go next to Reza Vahabzadeh with Barclays.

Reza Vahabzadeh – Barclays Capital, Inc.

Good afternoon.

Fernando G. Aguirre

Hi, Reza.

Reza Vahabzadeh – Barclays Capital, Inc.

Just on supply and demand for Bananas, I don’t if you’ve addressed this or not, would you anticipate gradual improvement in the next six months and into 2013, do you have much visibility on that?

Brian W. Kocher

We disclosed Reza that we believe that at least for the balance of the year that supply would outpace demand.

Reza Vahabzadeh – Barclays Capital, Inc.

Got it. And is there any so even into 2013, you don’t think there is going to be any moderation in supply.

Brian W. Kocher

We didn’t really disclose any outlook on 2013 but again, you sort of think of all things remaining equal than we would expect similar type of supply situation.

Reza Vahabzadeh – Barclays Capital, Inc.

Right, and the supply from Latin America still being upwards it from the African countries?

Fernando G. Aguirre

We see very little impact from ACP countries in our market now, from time to time you will see some flow-up and flow-down and that may ripple through, but the majority of the European market is depending upon the Latin American supply the Dollar Bananas.

Reza Vahabzadeh – Barclays Capital, Inc.

Got it. And then as far as the salad business is concerned, are you seeing many more rational competition given your pricing realization or is it still fairly intense…

Brian W. Kocher

I won’t comment on particularly what our competitors are doing in rational, irrational or whatever someone adjective someone can describe, but again I think our approach, we tried to maintain and be very simple, we would like to grow volume, we would like to use our assets then the fixed infrastructure that we have and we believe we can do so in a value creating way and that's how our salespeople compete.

Reza Vahabzadeh – Barclays Capital, Inc.

I appreciate it, thank you.

Fernando G. Aguirre

All right, Reza.

Operator

We will go next to Carla Casella with JPMorgan.

Carla Casella – JPMorgan Securities LLC

Hi, one question on just the capital structure, as it relates to both the restructuring and your potential to exit some of your leased, free capacity as well as the bonds coming due, not too far in the future, what do you think it make senses in optimal capital structure, does it make sense to have high yield bonds, you can continue to think that, anything else that we are not thinking of?

Brian W. Kocher

We kind of always are evaluating our capital structure, we just went through a period with a very supportive bank group where they helped us on the credit facility amendment and gave us a lot of confidence to do that and when we talked at the end of the first quarter and certainly when we talked with the bank group, we talked about being optimistic with respect to the capital markets, and I think that's at the same we are now, our number one focus is to increase cash flows, use the excess proceeds to pay down debt and then at the same time we look to optimistically enter the capital markets when it makes sense for us and could create some value for us.

Carla Casella – JPMorgan Securities LLC

Okay great and then, when you look at the ships, can you just give us an update on number of ships that you are charted today and a number that you, as everything on charter and how that could change over the next three years as you get to the restructuring, if you’ve excess capacity as you can there you can move out of.

Fernando G. Aguirre

Well, here is what I’ll tell you about sort of the shipping configuration and remember a couple of years ago we sold the ships captured that balance sheet value and then paid down that to do that. And so our portfolio is now a 100% in either charter or leases or something of that nature. So some type of being between kind of midterm of for long term lease arrangement and charter arrangement. We constantly and again last year we evaluated taking some ships out of the charter pool and replacing those with container vessels and so we did that and we are able to leverage the cost advantage there. And at least five of our ships will roll off lease at the end of this year. And that’s where I’d like to at least sort of leave the discussion.

Carla Casella – JPMorgan Securities LLC

Okay great and then just one last question on the salad business; can you talk of any major wins or losses in the quarter or for the back half as it not specific customers if you are not kind of get the appetite, but it sounds like you may be moving more towards the focus on food service and away from retail. Is there a margin differential between the two is having more wins and food service than any retail.

Brian W. Kocher

I would not read into the volume figures any discussion about or believe that we are emphasizing now food service over retail. I think what I say we are emphasizing its profitable volume. And we like the retail market. We believe we have an advantage over competition in the retail market with respect to things like quality and sales velocity and shirk and we like retail grocery market. At the same time, we have been in food service for a long, long time and we have some very good customers in food service and to the extent we have opportunities to profitably add volume in food service, we will do that as well. But I would not read – I mentioned some of the volume we had in retail and food service, but I would not read into that at all some strategic shift towards food service or away from retail, not at all.

Carla Casella – JPMorgan Securities LLC

Okay, great. Thank you.

Operator

We will go next to Bryan Hunt with Wells Fargo Securities.

Bryan Hunt – Wells Fargo Securities

Thank you. Brian, just to understand maybe the opportunity of savings on R&D as well as marketing, would you haven’t have your annual spend on R&D and marketing handy?

Brian W. Kocher

The way I would look at that Brain is that’s already included in the $60 million that we gave you.

Bryan Hunt – Wells Fargo Securities

Okay.

Brian W. Kocher

That’s a component of the – at least $60 million we anticipate saving as a result of these changes. And if you remember, I had kind of described sort of $25 million of SG&A people related costs, some more programs maybe that’s another $10 million or so and then cost of goods sold on top of that. So that’s the breakout. Does it helps you?

Bryan Hunt – Wells Fargo Securities

That does. I mean that definitely does. And then if I look at your current debt level and kind of while you are on the 175 of EBITDA target that you all believe you can get on a normalized basis, that implies that the company’s is roughly 3.4 or 3.5 times leveraged given today’s debt levels. Is that a reasonable capital structure for this business, given the earnings volatility or do you think – and you obviously generate free cash flow if you get to that level and pay down debt, but what do you think the target leverage level is for the business, before you can't switch gears and think about increasing R&D and diversity and maybe MNA?

Brian W. Kocher

Yeah, here is what I will say, we reiterate that our number one priority for excess cash is to pay down debt. De-leveraging helps with a volatile business environment, de-leveraging helps with some of the variables that withstanding some of the changes in the variables that we can exercise direct control over. So make no mistake about it, we are very clear. Utilizing excess cash to pay down debt is our goal and focus. In the past, we’ve talked about three times, net debt at 3 times EBITDA is sort of a target level, I think what you'll us stick to is we're going to generate – increase our cash flow with all of the excess cash, we will pay down debt and then we'll take an opportunity to decide later if we want to go lower than 3 times.

Bryan Hunt – Wells Fargo Securities

Well, I guess looking out into next year and do you all believe at this point that you will contract for fewer bananas than you did this year?

Fernando G. Aguirre

It’s a process we go through every year where we evaluate the sales volume, own fruit, purchased fruit and then try to make the best mix of that. So that we minimize the excess fruit and we maximize available fruit when we need it and can price the most. So it's a process that we expect to (inaudible).

Bryan Hunt – Wells Fargo Securities

Is that more like a Q4 event then?

Fernando G. Aguirre

Well, typically that’s the timing when you start getting into your purchased fruit contracts, your shipping contracts, and those types of things, but I would tell you, it's not something that we take our eyes off any quarter. We are constantly trying to evaluate our fruit position.

Bryan Hunt – Wells Fargo Securities

And then lastly, just to look fundamentally, maybe no one asked the question, I usually do, there is parts of the world that’s definitely experiencing the drought that we are experiencing here in North America and my understanding is availability – certain markets competing fruit, they would normally be there on a seasonal basis, is unavailable in many markets. How are banana prices performing in a local currency, kind of quarter-to-date in parts of the Middle East and in Europe relative to normal seasonal patterns?

Fernando G. Aguirre

Let me give you the Europe business because that's certainly more significant. So I mean we see pricing up on a U.S. dollar basis in the Middle East, in the Med, but Europe is more significant to us and as we look through July, our local currency pricing is up let's call it the high-single digits.

Bryan Hunt – Wells Fargo Securities

Thank you for your time and the depth of detail. Best of luck.

Fernando G. Aguirre

Yeah, no problem.

Operator

And we have time for one more question. Our final question will come from Mary Gilbert with Imperial Capital, LLC

Mary Gilbert – Imperial Capital, LLC

Follow-up on the questions surrounding the salads business and get into private-label the whole head lettuce, can you give us some idea of the timing, is this where you're going to have some contracts, major contracts coming up in the fourth quarter and then also in the first quarter or at the end of the first quarter, so is this really a 2013 benefit that will start to see private label, organics and whole head lettuce?

Fernando G. Aguirre

Yeah, it’s a great question, when we talked about this at the end of the first quarter, we talked about this being meaningful.

So some of the customer contracts coming open for renewal and available for bid in sort of the end of the year first part of the next year. And that in a meaningful bases at that time we thought it would be meaningful in the financial statements in sort of nine to twelve months and we are three months later, so now that is sort of six to nine months before we see a meaningful impact.

Mary Gilbert – Imperial Capital, LLC

Got it, yeah. So it’s really not going to – it’s not going to impact 2012 it’s the bottom line right.

Brian W. Kocher

No and look we have not projected and set expectation if there is meaningful impact in 2012. I will tell you that everyday we’ll send our sales people out in the streets to go find profitable meaningful volume.

Mary Gilbert – Imperial Capital, LLC

Okay, okay that is helpful. All right okay I think how should we look at working capital year-over-year with a lot of the initiatives that we are looking out for this year and also I’m assuming for next year will see some increases, how should we look at that.

Brian W. Kocher

I would look at I think so far this year we are about free cash flow right around free cash flow break-even. And more or less that is our expectation for the balance of the year, as we improve operations, free cash flow goes up, and as we improve operations, I think we’ve got an opportunity to continue driving working capital efficiencies. But I would look at and right now we are above free cash flow break even through the second quarter for the second quarter as well as year-to-date through June.

Mary Gilbert – Imperial Capital, LLC

Okay, the other thing this is just like housekeeping adding, but I wanted to find out, what your start comp expense was in the quarter and I’m assuming that the ship amortization is the same as it was a year ago in the quarter?

Fernando G. Aguirre

When you say ship amortization, you mean the amortization of the deferred gain, right?

Mary Gilbert – Imperial Capital, LLC

Correct

Fernando G. Aguirre

Yes that's right, it's about the same and stock option compensation is right around $2 million or so.

Mary Gilbert – Imperial Capital, LLC

$2 million for the quarter?

Fernando G. Aguirre

For the quarter

Mary Gilbert – Imperial Capital, LLC

Okay perfect, okay great, is there any cash restructuring costs that flow through year-to-date?

Fernando G. Aguirre

There is, I mean we've disclosed and I encourage you to look to the earnings release as well, we disclosed the charges we have for the relocation to Charlotte, we've got some certainly some charges for, non-cash charges for some exit activities, but all of that is detailed in our reconciliation from comparable to U.S. GAAP figures in the press release.

Mary Gilbert – Imperial Capital, LLC

Okay yes I saw the total charge that flow through the income statement, but just wondered if there is a difference in terms of the cash component. I think you it was $7 million.

Fernando G. Aguirre

There is some timing differences of course, but I wouldn't say it's meaningful to think of it in terms of huge swings.

Mary Gilbert – Imperial Capital, LLC

Okay great that's helpful thank you.

Fernando G. Aguirre

Okay.

Operator

And ladies and gentlemen that does conclude our question-and-answer session. I would now like to turn the call back over to Fernando Aguirre, for any additional or closing remarks.

Fernando G. Aguirre

Thank you and thank you very much for your questions today and thank you all to our shareholders for the support you have given us over the years and we certainly are looking forward to continue to rebound the Company's results. Thank you very much.

Operator

And ladies and gentlemen, once again that does conclude today's call, we do appreciate everyone’s participation.

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