Ingles Markets, Incorporated
Q3 2013 Earnings Call Transcript

Published: 2 Aug 2013

[Operator:]

Good day, and welcome to the Ingles Markets, Incorporated Third Quarter Conference Call. Today’s call is being recorded. At this time for opening remarks and introductions, I would like to turn the call over to the Chief Financial Officer, Mr. Ron Freeman. Please go ahead sir.

[Ron Freeman:]

Thank you. Good morning. Welcome Ingles Markets fiscal 2013 third quarter conference call. With me today are Robert Ingle II, CEO and Chairman, Jim Lanning, President and Tom Outlaw, Vice President of Sales. Statements made on this call include forward-looking statements as defined by and subject to the Safe Harbors created by Federal Securities laws. Words such as expect, anticipate, intend, plan, likely, goal, seek, believe and similar expressions are intended to identify forward-looking statements. These statements are not guarantees of future performance and involve risks, uncertainties, and assumptions, which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed on this call. Ingles Markets, Incorporated does not undertake and declines any obligation to update publicly any forward-looking statement whether as a result of new information, future events or otherwise. For a description of factors that could cause actual results to differ materially from that anticipated by forward-looking statements, you are referred to the company’s public filings including the Form 10-K for the fiscal year ended September 29, 2012. In accordance with the longstanding company policy and in recognition of the extremely competitive nature of our industry, this call will not address individual competitors or Ingles Marketing strategies other than what is included in the company’s public filings. This morning I will provide you with a summary of our third quarter and nine month results followed by additional comments. After that, we will be pleased to take your questions. Our press release was issued this morning and is available on our website at www.ingles-markets.com. We expect to file our 10-Q for the quarter next week. Once filed, it will be available via our website as well. We will begin with our third quarter results. Third quarter 2013 net sales rose to $931.9 million compared with $917.8 million for the previous year. In June 2013, the company repaid $575 million of 9.5% debt and other borrowings with the proceeds of $700 million senior note offering due 2023 that was priced at 5.75%. The extra proceeds from the new offering we used to pay off the outstanding balance under its line of credit paid the cost of the offering and for general corporate purposes. Because of prepayment penalties and other costs associated with the repaid debt, the company incurred a $43.1 million charge to pre-tax earnings during the June 2013. Because of this charge, the net loss for the third quarter of fiscal 2013 totaled $14.4 million compared with net income of $13.1 million for the third quarter of fiscal 2012. As we will discuss later, our nine-month net income is positive even after deducting these costs. The decreased interest rate on the new senior notes is expected to provide the company’s substantial interest savings in future years. In addition, the company extended the maturities of its line of credit and on the bonds used to fund the new distribution center that opened a year ago. Net sales rise 1.5% to $931.9 million for the three months ended June 29, 2013 compared with $917.8 million for the three months ended June 23, 2012. Ingles operated 204 stores at June 29, 2013 and 203 stores at June 23, 2012. Retail square footage was approximately $11.1 million at the end of June 2013 compared with $11 million at the end of June 2012. Easter occurred during the second fiscal quarter of 2013 and the third fiscal quarter of fiscal 2012 which negatively affected the June 2013 quarter comparisons to those of June 2012. Excluding gasoline and the effect of Easter sales in last year’s June quarter, grocery segment comparable store sales increased 1.4%. The number of customer transactions, average transaction size and gasoline gallons sold were all higher for the June 2013 quarter compared with the June 2012 quarter. Gross profit for the June 2013 quarter increased 2.1% or $210.3 million compared with $205.9 million for the third quarter of the last fiscal year. Gross profit as a percentage of sales was 22.6% for the June 2013 quarter compared with 22.4% for the June 2012 quarter. Excluding gasoline sales, grocery segment gross profit as a percentage of sales increased 49 basis points for the three month ended June 29, 2013 compared with the same quarter of last fiscal year. The improvement in gross profit and margin were driven by higher sales, improved product mix and improved operating efficiencies from the distribution center which opened in June 2012. Operating and administrative expenses for the June 2013 quarter totaled $177.8 million, an increase of $5.5 million or 3.2% over the June 2012 quarter. Excluding gasoline sales and associated operating expenses which are primarily payroll, operating and administrative expenses as a percentage of sales were 22.5% for the three months ended June 29, 2013 and 22% for the three months ended June 23, 2012. Most of the increase for the June 2013 quarter was driven by the company’s store remodeling program which resulted in higher personnel costs and depreciation expense. Interest expense increased $1.1 million to the three-month period ended June 29, 2013 to $16 million to $14.9 million for the three-months period ended June 23, 2012. Total debt at June 29, 2013 was $934.5 million compared with $846.1 million at June 23, 2012. The increase in total debt took place late in June 2013 quarter in conjunction with the senior note issue and related transactions. As noted earlier the company incurred a $43.1 million charge to pretax earnings related to the bond offering during the June 2013 quarter. Because of this charge, the net loss for the third quarter of fiscal 2013 totaled $14.4 million compared with net income of $13.1 million for the third quarter of fiscal 2012. Basic and diluted loss per share for the publicly probably traded Class A common stock were each $0.62 for the June 2013 quarter compared to basic and diluted earnings per share of $0.56 and $0.54 respectively for the June 2012 quarter. Now, I will discuss our nine months results, net sales increased $65.7 million or 2.4 % to $2.78 billion for the nine months ended June 29, 2013 from $2.72 billion for the nine months ended June 23, 2012. Excluding gasoline, grocery segment comparable store sales increased 1.9%. The number of customer transactions, average transaction size and gasoline gallons sold all were higher for the June 2013 nine months period compared with the June 2012 nine months period. Gross profit dollars for the June 2013 nine months period increased $16.4 million or 2.7% to $616.5 million compared with $600.1 million for the same period of fiscal 2012. Gross profit as a percentage of sales was 22.2% and 22.1% for the nine months ended June 29, 2013 and June 23, 2012 respectively. Excluding gasoline sales, the grocery segment gross profit as a percentage of sales increased 19 basis points for the first nine months of fiscal 2013 compared with the same fiscal 2012 period. Operating expenses increased $14.4 million comparing the first nine months of fiscal 2013 to the same period of last fiscal year and were 19% of sales for the nine months ended June 2013 compared with 18.9% of sales for the nine months of fiscal 2012. Excluding gasoline sales and associated gasoline operating expenses, which are primarily payroll, operating expenses were 22.1% of sales for the nine month fiscal 2013 period compared with 22% of sales for the same period of fiscal 2012. Operating expense increases were driven by sales growth and store development activities including higher personnel and supply costs. Interest expenses totaled $47.3 million for the nine month period ended June 23, 2013 which was an increase of $2.4 million over the same period of 2012. Beginning with the opening of the new distribution facility in June 2012 interest on the bonds that financed the construction were no longer capitalized in the cost of constructing that facility. Income tax expense as a percentage of pre-tax income was 10% for the June 2013 nine-month period compared with 35.5% for the comparable June 2012 period. The previously mentioned debt extinguishment cost resulted in 2013 tax credits offsetting a greater portion of fiscal 2013 income resulting in a lower fiscal 2013 effective tax rate. Summarizing our nine-month results, net income totaled $5.2 million for the nine month period ended June 29, 2013 compared with $30.2 million for the nine month period ended June 23, 2012. Income from operations as a percentage of sales was 3.3% for each of the 2013 and 2012 nine month periods. Basic and diluted earnings per share for publicly traded Class A common stock were $0.23 and $0.21 for the nine months ended June 2013 compared with a $1.29 and $1.24 respectively for the nine months ended June 2012. Next, I will update our investing and financing activities. Capital expenditures for the June 2013 nine-month period totaled $76.8 million compared with $144.9 million for the June 2012 nine-month period. The decrease in this year’s CapEx is attributable to the completed construction of the new distribution center that opened in mid-2012. Most of 2013’s capital expenditures were related to smaller scale remodeling projects in a number of the company’s stores and the construction of the new store that opened in April 2013. Capital expenditures for the entire 2013 fiscal year are expected to be approximately $100 million to $130 million, including expenditures for stores to open in fiscal 2014, as well as for the company’s ongoing remodeling program to multiple stores. In conjunction with the senior notes issued in June 2013, the company extended a maturity of its $175 million of committed line of credit facilities and extended the maturity of the $99.7 million of bonds used to construct a distribution facility that opened in 2012. Following the close of these financing transactions, the $175 million line of credit now matures in June of 2018, the $99.7 million of warehouse financing is committed to June 2021 and the senior notes mature in June 2023. Interest rates and certain other terms on all of these instruments are more favorable than the instruments they replaced. We are pleased that our major borrowing arrangements are settled for the next 5 to 10 years. In our 51st year of operation, we are as optimistic about the company’s future as our founder was when the first Ingles supermarket opened for business. We will now take your questions.

[Operator:]

(Operator Instructions) And we’ll take our first question from Damian Witkowski from Gabelli & Company.

[Damian Witkowski:]

Good morning.

[Ron Freeman:]

Good morning, Damian.

[Damian Witkowski:]

You said you saw strength in certain categories that not really helped your gross margin here on the products side. Can you talk about which categories in particular and kind of trying to give us the sense of what does that mean, is the consumer continues feeling better and are you still seeing that?

[Ron Freeman:]

Well, I think the consumer is felling better and that is reflected in greater purchases of some higher margin products and we’ll certainly hope that trend continues.

[Damian Witkowski:]

No, as you – so is it produce, is it prepared meals, I mean is there other categories in particular that are jumping out?

[Ron Freeman:]

Yeah, certainly the perishable categories carry a higher gross profit than the non-perishable categories too and that’s where we are seeing a little bit bigger growth, you’re right.

[Damian Witkowski:]

And as a gasoline prices, I know we’ve talked about this for years now, but I think at different points in time and the economy consumers reacted differently to higher gas prices, is this time a little different, I mean as gasoline prices climb are you seeing anything different is the consumer sort of now saying well, this is normal and I’m not really going to spend less or cut back on my spending and what I buy?

[Ron Freeman:]

I think people have gotten used to volatility in gas prices and they don’t necessarily change their behavior because of changes in gas prices.

[Damian Witkowski:]

And then can I think just switch to the competition side, I know you won’t comment on anyone competitor, but just A, want to get your sense competition overall is it status quo sort of rationale, I mean, it’s always a competitive business, but is it rationale or are you seeing anyone or anything sort of changing there. And then longer term I guess with Kroger now entering your territories, do you think that A, once they complete the purchase of Harris Teeter if they are the eventual winner. These things they are going to try to expand within your territories, try to – they usually go into if – when they go into the new territory to try to build out around it and do you think this will either discourage or encourage others to come into the area?

[Ron Freeman:]

We are going to back to what you first said we never talk about individual competitors. That said, the competitive landscape right now is somewhat as it has been recently. All the names of other people that you mentioned were already competing with them and some of our marketplace and our focus is going to be what we do with our stores and how we want to improve our business and grow our sales and profits that’s where our focus has always been and that’s where it’s going to continue.

[Damian Witkowski:]

And do you have the incremental interest expense in the quarter from the distribution center loan, bond or?

[Ron Freeman:]

I don’t have that information at my fingertips, no.

[Damian Witkowski:]

Thanks Ron.

[Ron Freeman:]

You’re welcome Damian.

[Operator:]

We will now take our next question from Bryan Hunt of Wells Fargo Securities.

[Kevin McClure:]

Good morning, Ron, this is Kevin McClure standing in for Bryan. I want to just follow on Damian’s question about the gross margins, highest gross margins in almost three years and trying to get a sense, can you may be delineate for us how much of that margin improvement was related to the mix shifts that you referenced versus say the generic drugs in your pharmacies versus the operating efficiencies at the DC?

[Ron Freeman:]

Yeah, we don’t provide that type of granularity in any of our public filings in discussing our gross margins, but every factor you mentioned certainly helps that.

[Kevin McClure:]

Got it, okay. And do you think you mentioned that the consumer is feeling better. Do you believe that you could eventually restore margins to previous session levels in the 24%, 25% range?

[Ron Freeman:]

I will hate to speculate on that because there are so many factors involved in that beyond consumer sentiment, certainly we’d like to had that happen, but I don’t feel qualified to make that assumption.

[Kevin McClure:]

Fair enough. And can you provide us an update on the Mills River store that opened, I know it just opened, so maybe premature. But how is it performing so far relative to your expectations and how the sales tracking relative to some of your other stores?

[Ron Freeman:]

It’s a beautiful store, it’s exceeding our expectations and we are very, very pleased with it.

[Kevin McClure:]

Okay. And as far your 2014 store development plans, have you set a number of stores that you intend to open yet in 2014, I know you said – you sent us the CapEx guidance, but how many stores are baked into that?

[Ron Freeman:]

We are still finalizing that just because the time period is so lengthy in developing a new store, we’ll hope to have some additional guidance on that by the time the 10-Q comes out, but we are comfortable maintaining our annual CapEx range that we’ve disclosed and we’ll try to provide more detail on that later on.

[Kevin McClure:]

Got it. Last question for us, I don’t think you shared this in the past but I was curious, can you provide what the average cost is for a small scale remodel?

[Ron Freeman:]

No, we don’t disclose that level of information.

[Kevin McClure:]

Got it. Thank you for your time.

[Ron Freeman:]

Sure, thank you.

[Operator:]

We’ll take our next question from William Reuter from Bank of America/Merrill Lynch.

[William Reuter:]

Good morning.

[Ron Freeman:]

Good morning.

[William Reuter:]

I was wondering kind of off the heels of that last question, if you can talk about how your recent small remodels have been performing whether they’ve been in line or better than you would have expected?

[Ron Freeman:]

Well, the number of them that we’ve done that the expectations that we have can vary a little bit, but it’s a good program and we are going to continue to do this because we’ve been pleased with the result so far and we still got more stores we would like to execute that program on.

[William Reuter:]

Okay, do you or have you ever provided what the payback period is on those investment dollars that you don’t disclose?

[Ron Freeman:]

No, we have not.

[William Reuter:]

Okay. Is there any plans that currently you guys pay quarterly dividends any plans to change that and do a one-time dividend such like you did at the end of ’11?

[Ron Freeman:]

Well. the one that we did at the end of ’11 was primarily driven by the upcoming changes in the tax treatment of dividends. So, unless something weird happens again to the tax laws, I don’t see any changes in our current dividend policy.

[William Reuter:]

Okay and then lastly I know you guys have a – you in sourced your production of ice and I was curious whether you guys had given thought to selling this at this point to other retailers or supermarkets?

[Ron Freeman:]

We had the capacity to do that by design, our primary goal is to make sure our stores have enough ice, but we do have the capacity to do that and we’ve actually done a little bit of that in the past.

[William Reuter:]

Okay, alright, thank you very much.

[Ron Freeman:]

You’re welcome.

[Operator:]

We’ll now take a follow-up question from Damian Witkowski of Gabelli & Company.

[Damian Witkowski:]

Hi, Ron, just going back to the remodels, I mean, if you look at our 204 stores, I mean typically when we do a remodel how long does it last?

[Ron Freeman:]

How long is it takes to do?

[Damian Witkowski:]

No, I mean so if we do a remodel is it, are you good for the next 5, 10 years, I mean what was typical, how many years dos it usually size for?

[Ron Freeman:]

Damian I can’t say on that because it depends upon the store and also it depends upon the market around the store.

[Damian Witkowski:]

Okay.

[Ron Freeman:]

One of the great things about this program and one of the great ways that we try to approach our CapEx is we can change very, very quickly. So, circumstances change in effective market then we will react to that.

[Damian Witkowski:]

Can you give us an example where you maybe did some a remodel, a small remodel in the last five years and then you had a competitor open up that and you needed to do something I mean can you just talk about maybe what that something was and really just that?

[Ron Freeman:]

Well, that circumstances certainly happen but I can’t go into much details to exactly how we reacted, but we did.

[Damian Witkowski:]

Okay. And then sort of total debt that you paid off I know the fully loaded $575 million to $675 million outstanding it was about 9.5% cost. But for the rest combined what’s the – what was the average cost of that debt that you retired?

[Ron Freeman:]

Well the other debt that we retired was what we had outstanding on the line of credit and based on the various borrowing options that line of credit cost us somewhere around 4% this year.

[Damian Witkowski:]

Okay, okay, okay. And then just rental income it continues to decrease is it that you are strategically sort of renting few of these properties you maybe remodel them or something like that or what causing that?

[Ron Freeman:]

Well, we’ve always had a policy to weigh or if we believe that some tenant space might need to be used for a store expansion then we will manage the tenant space that way. So, and we also want to make sure that we don’t have any buyer that competes with on the tenant space. So, in the cases that you mentioned and especially since the economy is getting a little bit better that’s one of those things it could happen in that circumstances.

[Damian Witkowski:]

And I don’t think you disclosed these numbers but I’m just curious if you look at gasoline and milk and both of those categories, I know gasoline gallons you said were up – pennies per gallon from both categories?

[Ron Freeman:]

I don’t have that information handywith me right now there. There hasn’t been huge change in either one of those, but certainly gas and milk are always two very competitive products and that’s no different. This quarter then it’s been in flat quarter.

[Damian Witkowski:]

Alright, thanks again, Ron.

[Ron Freeman:]

Thank you, Damian.

[Operator:]

(Operator Instructions) And we have no further questions in the queue. I’d now like to turn the conference back over to your host for any additional or closing remarks.

[Ron Freeman:]

Well, thank you. We appreciate everyone joining us today. And we look forward to speaking with you next in December where we will talk about full year fiscal 2013 results. Have a great day. Thank you.

[Operator:]

This does conclude today’s conference call. Thank you all for your participation.