Ingles Markets, Incorporated
Q4 2009 Earnings Call Transcript

Published: 7 Dec 2009

[Operator:]

(Operator Instructions) Welcome to the Ingles Markets Incorporated Fourth Quarter Conference Call. At this time for opening remarks and introductions I would like to turn the call over to the Chief Financial Officer, Mr. Ron Freeman.

[Ron Freeman:]

Welcome to Ingles Markets 2009 Fourth Quarter and Year End Conference Call. With me today are Robert Ingle, Founder of the Company and Chief Executive Officer, Robert Ingle II, Chairman of the Board, Jim Lanning, President, and Tom Outlaw, Vice President of Sales and Marketing. 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, 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 to update publicly any forward looking statements, 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 26, 2009 that will be filed later today. This morning, I’ll provide you with a summary of our annual and fourth quarter results followed by additional comments on each period. After that, we will be pleased to take your questions. Our press release issued this morning is available on our website, www.Ingles-Markets.com. Our Form 10-K will be available on the website as well after it’s filed. We are very pleased to report that this was our 45th consecutive year of record sales totaling $3.25 billion. Fourth quarter sales totaled $830.1 million. Excluding gasoline, sales grew 4.3% for the year and 1.5% for the fourth quarter. Net income totaled $5.2 million for the three months ended and $28.8 million for the fiscal year ended September 26, 2009, compared with $10.5 million and $62.1 million for the comparable three month and fiscal year periods of 2008. Net income for the fiscal 2009 fourth quarter and full fiscal year were adversely affected by higher interest expense following the company’s issuance of $575 million face value senior notes in May 2009, higher depreciation, and higher operating expenses resulted from our increased level of store development activities, and also by higher income tax expense. The full fiscal year 2009 results also include income reductions of $10.2 million and pre-payment penalties and loan cost write-offs related to the $575 million bond issuance. Given the extended recession and intensified competition for a smaller amount of consumer dollars we’re pleased with our sales growth. Our long term objective remains focused on driving top line sales through product offerings, customer satisfaction, and expanded store offerings. Although this focus can temporarily depress operating results we believe it is important to maintain customer loyalty during these difficult economic times. We believe we have been successful in this regard as evidenced by this quarter’s 9.9% increase in average weekly customer visits compared with the fourth quarter of last year. In addition, we’ve experienced a higher percentage of private label sales. Our private label products are very good quality and represent excellent value. We are continuing to add more private label products throughout our store as part of this program. First, our fourth quarter results. Net sales totaled $830.1 million for the quarter ended September 26, 2009, compared with $842.8 million for the comparable quarter in fiscal 2008. Total and comparable store sales comparisons were affected by retail gasoline prices which were approximately $0.37 lower during the fourth fiscal quarter of 2009 compared with the prior year. Grocery segment comparable store sales excluding gasoline sales rose 2.4% compared with the fourth quarter of fiscal 2008. The growth in comparable store sales have benefited from the 9.9% increase in average weekly customer visits that more than offset a $1.51 decrease in the average purchase amount compared with the fourth quarter of fiscal 2008. In effect, we are seeing our customer on a more frequent basis in our stores and we are optimistic about this trend for future sales as the economy improves. Gross profit for the fourth quarter of fiscal 2009 totaled $184.8 million an increase of $4.4 million compared with the fourth quarter fiscal 2008. Gross profit as a percentage of sales increased to 22.3% for the fourth quarter of fiscal 2009 compared with 21.4% for the fourth quarter of fiscal 2008. Grocery segment gross margins excluding gasoline were stable, while gross profit in the company’s Milkco dairy operations increased due to substantially lower milk commodity prices for the fourth fiscal quarter of 2009 compared with 2008. Gasoline margins were higher as well compared with the fourth quarter of fiscal year 2008 when we experienced higher costs due to the hurricane affect on supplies. Beginning with the fourth quarter 2009 we have included distribution costs as a component of cost of goods sold so that our results are more comparable with other publicly traded grocers. All prior periods in our press release and 10-K have been re-stated to maintain comparability across time periods. Distribution costs had formerly been included with operating and administrative expenses. Total operating expenses were $161.1 million for the fourth quarter of fiscal 2009 compared with $153.8 million for the comparable 2008 quarter. The growth in operating expenses was due in part to the 10 stores that were opened or remodeled during fiscal year 2009. Operating expenses as a percentage of sales were 19.4% and 18.3% for the fourth quarter fiscal 2009 and 2008 respectively. Bringing a larger number of stores online in a short period often results in higher personnel costs and promotional expenses to ensure a successful start for new and remodeled stores. Additions of capitalized store assets also result in higher depreciation expense. Ingles operated 200 stores at the end of fiscal year 2009 compared with 197 stores at the end of fiscal 2008. Retail square footage increased to 10.7 million square feet at September 26, 2009, compared with 10.2 million square feet at September 27, 2008. Net rental income, other income, and losses on asset disposals totaled $1.1 million and $700,000 for the fourth quarters of fiscal 2009 and 2008 respectively. This increase was primarily due to the lower rental income in 2009 partially offset by lower fiscal 2009 losses related to shopping center and store assets taken out of service in conjunction with the company’s store relocation, closing and remodeling activities. Interest expense totaled $16.5 million for the fourth quarter of fiscal 2009 compared with $12.1 million for the fourth fiscal quarter of 2008. Total debt at September 26, 2009, was $849.3 million compared with $717.2 million at September 27, 2008. The company’s effective tax rate was 37.5% for the fourth quarter of fiscal 2009 compared with 31.1% for the fourth fiscal quarter of 2008. Net income for the September 2009 quarter totaled $5.2 million compared to net income of $10.5 million for the September 2008 quarter. Basic and diluted earnings per share for the company’s publicly traded Class A Common Stock were $0.23 and $0.22 per share respectively for the September 2008 quarter compared with $0.44 and $0.43 per share respectively for the September 2007 quarter. Now I’ll go over our annual results. Net sales totaled a record $3.25 billion for the fiscal year ended September 2009 an increase of $12.9 million or 0.4% from the $3.24 billion for the fiscal year ended September 2008. Fiscal year 2009 was Ingles 45th consecutive year of record sales. Excluding gasoline sales where the retail per gallon price was approximately 37% lower, grocery segment comparable store sales increased 5.4%. Excluding gasoline the number of customer transactions increased 7.9% and the average transaction size decreased by $0.53. The company believes customers are eating at home more often and changing purchasing habits towards private label and lower priced products. Our customers are buying a higher percentage of private label products due to the higher quality and excellent value they represent. Customer made over 122 million shopping trips to Ingles during fiscal year 2009. Gross profit for the fiscal year ended September 26, 2009, increased $36.8 million or 5.2% to $743.1 million compared with $706.3 million for the fiscal year ended September 27, 2008. The increase in gross profit dollars was primarily due to the higher sales volume, despite lower sales prices for high volume gasoline and dairy items. Gross profit as a percentage of sales, including these items, increased to 22.9% for fiscal year 2009 compared with 21.8% for fiscal year 2008. Excluding gasoline grocery segment gross profit as a percentage of total sales was 25.3% for fiscal year 2009 compared with 25.5% for the comparable fiscal 2008 period. As I noted earlier, the company has responded to the current competitive environment by keeping prices as low as possible in order to grow sales and market share. Operating and administrative expenses increased as a percentage of sales to 19.5% for the fiscal year ended September 26, 2009, compared to 18.1% for the fiscal year ended September 27, 2008. In dollars, operating and administrative expenses increased $47.5 million to $632.4 million for the year ended September 26, 2009, from $584.9 million for the year ended September 27, 2008. Excluding gasoline which does not have significant direct operating expenses, the ratio of operating expenses to sales was 21.7% for fiscal year 2009 compared with 20.9% for fiscal year 2008. Since the beginning of fiscal year 2008 the company has completed 22 new, remodel, or relocated stores. The increase in operating expenses is due in part to current unfavorable economic conditions that have extended the time needed for new and re-developed stores to reach targeted levels of sales and profitability to cover additional personnel, utility, and depreciation costs. These costs are incurred in full from the opening of new or re-developed store. Net rental income, other income and losses on asset disposals totaled $4.9 million and $5.1 million for the fourth quarters of fiscal 2009 and 2008 respectively. Lower rental income in fiscal 2009 was partially offset by fiscal 2008 losses related to shopping center and store assets taken out of service in conjunction with the company’s store relocation, closing, and remodeling activities. Interest expense totaled $59.1 million for the year ended September 26, 2009, compared with $46.9 million for the year ended September 27, 2008. The increased interest expense for fiscal year 2009 is primarily attributable to increased total debt with a higher average interest rate and less interest capitalized as a component of store construction costs. During fiscal year 2009 the company incurred $10.2 million of debt extinguishment costs. In May 2009 the company issued $575 million aggregate principal amount of senior notes due in 2017. Note proceeds were used to pay off $350 million aggregate principal amount of senior subordinated debt maturing in 2011, pay off $45.3 million of indebtedness outstanding under the company’s committed lines of credit, and pay off $77.7 million of secured indebtedness. In conjunction with these payoffs the company incurred call premiums and pre-payment penalties totaling $6.8 million and wrote off $3.4 million of unamortized capitalized loan issuance costs related with the paid off debt. The company’s effective tax rate was 37.6% for fiscal year 2009 compared with 34.6% for fiscal year 2008 due to a higher provision for deferred taxes. Net income for fiscal year 2009 totaled $28.8 million compared with net income of $52.1 million for fiscal year 2008. Basic and diluted earnings per share for the company’s publicly traded Class A Common Stock were $1.23 and $1.18 per share respectively for the year ended September 26, 2009, compared with $2.22 and $2.13 per share respectively for the year ended September 27, 2008. Now to update our investing and financing activities. Capital expenditures total $141.8 million and $248.8 million for fiscal years 2009 and 2008 respectively. During fiscal 2009 Ingles opened four new stores, closed one older store, and completed six replacements or remodeled stores. Ingles Capital Expenditure plans for fiscal 2010 including 10 new, replacement or remodeled stores, and to add three fuel stations at either new or existing stores. Current economic conditions have resulted in us reducing the scope of our 2010 projects which are expected to result in total capital expenditures of between $120 and $150 million. In conjunction with the new senior note issuance in May 2009, the company entered into a new three year $175 million syndicated line of credit facility to replace certain existing facilities. Line of credit facilities totaled $190 million of which there are now amounts outstanding at September 26, 2009. As a result of the new senior note issuance and repayment of other debt, the company extended the average maturity of its debt, decreased it letters of credit outstanding to $8.2 million and increased the amount of unencumbered real property and equipment. The net result of the new financing has put the company in a better position to take care of our financing needs in the future. At the end of September 2009 we have $77 million in cash on hand. At the close of another year, we look forward to serving our customers with more stores and more products, delivered with value and exceptional service. We will now take your questions.

[Operator:]

(Operator Instructions) Your first question comes from Emily Shanks – Barclays Capital

[Emily Shanks:]

What was the actual reason for reallocating distribution costs? What was the trigger event?

[Ron Freeman:]

We did research of most of the other publicly filing grocery companies and we were one of the few companies left that still included distribution costs in operating and administrative expenses. We just made the mere reclassification in order to allow us and to allow folks like you to better prepare our margins to our peers.

[Emily Shanks:]

Specific to trends during the quarter, can you comment on how prepared foods did specifically on a year over year and maybe even a quarter over quarter basis?

[Ron Freeman:]

In the 10-K we’ve got a table that breaks out the perishables versus the non-perishables. They did a little bit better. Again, I think that’s a continuation of the trend of people not dining out as much but yet still not having a lot of time or inclination to cook at home.

[Emily Shanks:]

Can you comment at all about how comps have trended in the months of October and November?

[Ron Freeman:]

I’m sorry, how what trended?

[Emily Shanks:]

Comparable store sales.

[Ron Freeman:]

No, we don’t talk about individual months within a quarter.

[Emily Shanks:]

Can you comment quarter to date how things are looking?

[Ron Freeman:]

No we can’t.

[Operator:]

Your next question comes from Bryan Hunt – Wells Fargo Securities

[Bryan Hunt:]

I was wondering if you could talk about some of your competitors actions; Food Lions cut prices, just had a big announcement, other companies as well, some of your competitors are triple couponing. Could you talk about what actions you’re taking to maintain your customer counts at such high levels?

[Ron Freeman:]

We’re not going to talk about any of our individual competitors; you know we don’t do that. Suffice it to say, everyone is trying to keep market share and it’s an intensely competitive environment out there right now.

[Bryan Hunt:]

That’s the first time you’ve used the word intensely in a while. Could you talk about when you saw the competitive intensity escalate? Six months ago.

[Ron Freeman:]

Yes.

[Bryan Hunt:]

Six months ago from today or the end of the quarter?

[Ron Freeman:]

Maybe we should just say back in the spring, once everybody got through the holidays last year.

[Bryan Hunt:]

Maybe more specifically, given your customer counts are growing at such a strong rate, could you maybe give us some insight into some strategy? Do you feel like it’s tied to your ability to mine your data from your customer information? What do you attribute it to?

[Ron Freeman:]

We attribute it to having a great product selection including gasoline that makes people want to come visit us even it they can’t spend quite as much as they used to.

[Bryan Hunt:]

With regards to product selection, when you talked about private label earlier, could you tell us where your private label is as a percent of mix and do you all have a strategy to hit a specific percentage mix behind private label?

[Ron Freeman:]

I don’t have the percentage numbers but again our strategy is to make sure that we give the customer a choice. With our stores being a little larger then some of our competitors it gives us some leeway to do that.

[Bryan Hunt:]

Looking at the balance sheet, your accounts payable days the way we calculate it it’s roughly 18 days and it’s the lowest it’s been in several years. Could you give us any reasoning behind why it’s at a low point over the last three to four years?

[Ron Freeman:]

A difficult number to look at because you’re looking at one point in time day. Our overall vendor management strategy is that we’re going to take payment discounts wherever we can get them, we’re going to pay electronically wherever we can because it’s the cheapest form of payment for both the vendors and for us. Both of those things can tend to drive that number down. Again, since you’re looking at one day at a point in time at the end of that day, hard to draw a lot of hard conclusions beyond that.

[Bryan Hunt:]

Given your customer count data and your continuing growing same store sales which are I would say strong relative to your peer group. Are you getting more opportunities to get promotional dollars from your vendors? Are you seeing an increase in promo dollars and marketing dollars?

[Ron Freeman:]

Anytime you have higher volumes that gives you a little bit better leverage.

[Bryan Hunt:]

Could you talk to us about how many stores you closed in fiscal 2009 and what’s the plan for that real estate if any of that is owned?

[Ron Freeman:]

That was one store that we closed and I believe it was a leased store. We just didn’t renew the lease.

[Bryan Hunt:]

Is that Q4 or for the whole year?

[Ron Freeman:]

That’s for the whole year.

[Bryan Hunt:]

Looking at your CapEx spend, $120 to $150 million, I was wondering if you could tell us what the maintenance number is within that $120 to $150 million, as well as how many are actual new stores versus replacements or remodels within that mix?

[Ron Freeman:]

As we’ve consistently said for a long time, maintenance CapEx number is a concept that we just don’t subscribe to because you have to improve your store base. Maintenance CapEx number where you don’t improve your stores is just not a number we’re ever going to bother to calculate or pay attention to. For 2010 we’ll still have a number of projects but it will be a little bit more weighted towards remodels as opposed to completely new buildings.

[Operator:]

Your next question comes from Karen Short – BMO Capital Markets

[Karen Short:]

On inflation or deflation, I didn’t catch it if you said it. Do you have a sense of what the food deflation would have been in the quarter or if there was any?

[Ron Freeman:]

Once you get past milk and gasoline which are two huge volume items that have had substantial cost decreases over the last year. The effect of most everything else on top of that tends to be muted. We have had some cost deflation in most of our product and meat items as well.

[Karen Short:]

Do you have percent off the top of your head, excluding gas obviously?

[Ron Freeman:]

No I do not.

[Karen Short:]

Talking a little bit about private label penetration, where is it in terms of percent of food sales and I guess what do you think the opportunity is?

[Ron Freeman:]

We don’t have a percent available as a percent of total food sales but you have more options in most every area of the store now then you had a few years ago. Again, we want to make sure that the customers have a choice. If they want the national brand it’s going to be just as easy for them to buy that as it is to be able to buy a private label product.

[Karen Short:]

To clarify in the competitive environment, has it gotten more competitive into your first quarter from your fourth or is it stable?

[Ron Freeman:]

We can’t talk about the first quarter at all.

[Karen Short:]

On your gross margin, other than private label what else would have been the driver of the improvements in gross margin in the fourth quarter?

[Ron Freeman:]

Gasoline we had some difficult gross margins last year fourth quarter due to the hurricane disruptions. With milk prices being down and with your volume being up your margin is going to improve there some. Most other cases it hasn’t been that appreciably different one way or the other because at the end of the day the overall margins have been pretty stable.

[Operator:]

Your next question comes from Damian Witkowski – Gabelli & Company

[Damian Witkowski:]

I wanted to dig in a little bit more on the operating expense side. For the fourth quarter the $161 million versus $154 million last year, I know you said that a lot of it was due to the fact that you’ve opened a lot of stores and it required a lot of help. Is any of it temporary or is it all just the sales haven’t caught up to the expense number yet?

[Ron Freeman:]

I think its more the sales haven’t caught up to the expense number yet. Like I said earlier in the call, you incur those costs from day one and in a recession its just taking a little bit longer for the sales volume to catch up to the level we want it to, to bring that operating expense number down a little bit.

[Damian Witkowski:]

You don’t actually disclose the number of new stores you plan on opening in your next fiscal year? In the press release it says 10 but it doesn’t break down the remodels versus new stores.

[Ron Freeman:]

You’ll see that in the K later on. Ten projects but with a little bit lower overall number, maybe a little bit more towards the remodel side.

[Damian Witkowski:]

When you talk about, you spelled it out in your press release for the full year but not for the quarter. When you talk about traffic being up 9.9% in the fourth quarter I assume that excludes traffic to your gas pumps.

[Ron Freeman:]

That’s correct.

[Damian Witkowski:]

Do you talk about that number at all? Just out of curiosity in terms of what’s happening there as prices have come down 37% are people actually buying more gallons of gas?

[Ron Freeman:]

Our gallon sales are up, yes.

[Damian Witkowski:]

You don’t disclose by how much though?

[Ron Freeman:]

No we do not.

[Damian Witkowski:]

Milk obviously helped your gross margins because actual milk itself it was cheaper on a year over year basis. I assume that’s kind of reversing here in the first quarter.

[Ron Freeman:]

I’m sorry; I can’t address anything about the first quarter.

[Damian Witkowski:]

Going back to gasoline one more time, I think you managed the business to profit per gallon, is that right? Ideal you’d have it lower because in theory people would buy more gallons. Do you really care either way whether gas is higher or lower?

[Ron Freeman:]

It’s certainly better for our customers when gasoline is lower because that means they’ve got more money to come inside the store.

[Damian Witkowski:]

Again, from your profitability you sort of manage it more to a profit per gallon?

[Ron Freeman:]

Correct.

[Operator:]

Your next question comes from Andrew Berg – Post Advisory Group

[Andrew Berg:]

With respect to the change in the accounting, where can we find the quarterly historical restatements? Will those be in the 10-K?

[Ron Freeman:]

You’ll certainly see ’09, ’08, and ’07 fiscal years in the K. We don’t have a separate gross profit number in the quarterly results of operations footnote. I take that back, yes we do. You’ll see the quarters for ’09 and ’08 in the 10-K as well.

[Andrew Berg:]

Roughly what’s the shift in dollars in the fourth quarter that went from O&A to cost of goods sold?

[Ron Freeman:]

Thirty something million, roughly.

[Andrew Berg:]

Revolver availability at the end of the quarter?

[Ron Freeman:]

I’m sorry, say that again please.

[Andrew Berg:]

What was available on the revolver at the end of the quarter?

[Ron Freeman:]

All of it, $190 million.

[Andrew Berg:]

Can you tell me what the breakout is on your sales between grocery and dairy? I missed that before.

[Ron Freeman:]

We include dairy as part of grocery and again we’ve got tables in the 10-K that break out three or four categories but that’s as deep as we go.

[Andrew Berg:]

When you talked about average transaction size being down I think it was $1.51, what’s that on a percentage basis?

[Ron Freeman:]

I do not have that number with me. The average number is somewhere in the 20s but I don’t know the exact percentage of that decrease.

[Andrew Berg:]

When are you guys actually going to file the K?

[Ron Freeman:]

It’ll be after the market closes this afternoon.

[Operator:]

Your next question comes from [Ken Ban] – Jefferies & Company

[[Ken Ban]:]

On the new stores that you opened last year you said that the results were I guess a little bit behind schedule. Is there anything other than the economy that you can attribute that to? Did you market them any less then you normally do on a new store or anything like that? Has that changed your outlook for new stores this next year or going forward?

[Ron Freeman:]

Three things to address there. We didn’t market them any differently. It’s overwhelmingly due to the economy. It’s also important to keep in mind that most of these ’08 and ’09 store openings were in process when the economy turned bad. It certainly wouldn’t have been cost efficient to just pull the plug and stop. The good news is that when the economy turns around and perhaps some other folks saying great I can start building stores again, we’ve already got them there. We suffered through a couple of years while we wait for them to catch up but I think that’ll put us ahead of things coming out of this.

[[Ken Ban]:]

Could you tell us how many of those new stores are on properties that you own? Going into 2010 how many of the new stores will be also on properties that you own versus lease?

[Ron Freeman:]

Substantially all of them are on owned properties, that’s far and away our preference.

[[Ken Ban]:]

Going into 2010 will that be the same?

[Ron Freeman:]

I don’t have the exact number but it should be the same.

[Operator:]

This will conclude today’s question and answer session. At this time I’d like to turn the conference back to Mr. Freeman for any additional or closing remarks.

[Ron Freeman:]

Thank you for your time and your interest and joining us today. We wish all of our customers, employees and shareholders a happy and safe holiday season. Thank you very much.

[Operator:]

This will conclude today’s conference. Thank you for your participation.