SpartanNash Company
Q1 2021 Earnings Call Transcript

Published: 3 Jun 2021

[Operator:]

Good day and welcome to the SpartanNash Company First Quarter 2021 Earnings Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Chris Mandeville, Managing Director of Investor Relations. Please go ahead.

[Chris Mandeville:]

Good morning and welcome to the SpartanNash Company first quarter 2021 earnings conference call. On the call today from the company are Tony Sarsam, President and Chief Executive Officer; and Jason Monaco, Executive Vice President and Chief Financial Officer.

[Tony Sarsam:]

Thank you, Chris and good morning. Q1 was an exciting and transitional quarter for SpartanNash. Our frontline associates continue to perform heroically in spite of the challenges associated with the COVID-19 pandemic, and we are taking steps to recognize that performance. As part of this, we raised the starting pay rate for our new retail associates by over 10%. We are doing a similar compensation review with our supply chain associates this summer. These increases represent the first of many steps we are taking to build upon our people first culture and improve the retention and think about the challenges of the current labor market. Also during the quarter, we welcome several new key leaders tell you a little bit more about shortly. Alright, turning to a couple of highlights on our financial performance. As I mentioned, this is a transitional quarter for SpartanNash. Our overall profitability is on track with our expectations at the start of the year although the results across the business segments were somewhat mixed. We knew this was going to be a challenging quarter on the top line, as we cycled last year’s pandemic surge that our industry experienced in March and April 2020. Despite this significant headwind, our retail segment performed particularly well. Comparable store sales were down 7%, but they're up significantly on a two-year basis at 9.3%. We were happy to see this trend continue consistent with how we ended 2020. In addition, we delivered gross margin expansion of 90 basis points for our total company, which included improvements in each of our business segments.

[Jason Monaco:]

Thanks, Tony. It's a pleasure to be speaking with you all on my first SpartanNash earnings call. I'm honored to have joined the company and look forward to providing you with quarterly updates on our results and progress. Now, let's dive into first quarter results. Net sales for the first quarter decreased 7% or $199 million to 2.66 billion versus 2020s first quarter sales of 2.86 billion. While we saw unfavorable results lapping prior year sales surges caused by COVID-19 we're pleased with how well our retail sales have trended as Tony mentioned earlier. Our GAAP EPS came in at $0.54 per diluted share in the quarter, compared to $0.43 per share in the first quarter of 2020. Adjusted EPS for the quarter was $0.56 per diluted share, compared to adjusted EPS of $0.67 per diluted share in the prior year quarter. While we made margin improvements in each of our segments, the decrease in our profitability from the prior year quarter on an adjusted basis was driven by lower sales volumes associated with lapping last year's pandemic related stock ups, as well as an increase in supply chain expenses. Turning to our segments, net sales in food distribution decreased by $35 million, or 2.6%, to 1.33 billion in the first quarter. In addition to the year-over-year impact of lapping the pandemic, sales were also lower due to the exit of our fresh production business, which operated for a portion of last year's first quarter. The decrease in sales was partly offset by continued growth with certain existing food distribution customers and our growth pipeline of new business. Inflation remained relatively steady for food distribution in the first quarter, but we have received notification of price increases from a number of our suppliers and anticipate further increases for the balance of the year. As you know, inflation generally has a positive impact on our distribution businesses, where we pass through price increases to our customers in both food distribution and military. However, we will work closely with our vendors to minimize the impact of these price increases on our customers. Reported operating earnings for food distribution in the first quarter totaled $21.1 million, compared to 11.4 million for the prior year quarter. The increase in reported operating earnings for the segment was due to lower asset impairment and restructuring charges.

[Tony Sarsam:]

Thank you, Jason. In closing, we are pleased with our performance and the contributions of our team while continuing to deliver results during the pandemic. We are focused on expanding our customer growth within food distribution, retain the retail momentum we acquired during the pandemic, and making investments in people and processes that will position us for improvements in our operations. We remain committed to our key initiatives and are excited for the contributions from our recently appointed leaders. With that, I like to turn the call back over to the operator and open it up for your questions.

[Operator:]

Thank you. Our first question comes from Greg Badishkanian from Wolfe Research. Please go ahead.

[Spencer Hanus:]

Good morning. This is Spencer Hanus on for Greg. Can you guys talk about what comps are running quarter to date in the retail business? And then margins were significantly better than we were expecting? How sustainable do you think that the 1Q performance will be in the back half?

[Jason Monaco:]

Hi, Spencer, thanks for the question. This is Jason Monaco. Again, pleasure to be here with you this morning. When we take a look at retail comps, we continue to run, kind of early into the second quarter. Similar to what we saw throughout the first quarter. Obviously, there was a split in the first quarter, kind of pre and post-COVID when you look at year-over-year splits, but stepping back and looking at the two-year comps we continue to run strong high single digits early in the second quarter.

[Tony Sarsam:]

Yeah, if you look at the margins, the second part of your question, a lot of that margin expansion came with a really extraordinary performance in our retail segment. Some of the contributors that included the fact we were better on revenue as Jason mentioned, we were – we also experienced a really good flow through from that revenue and good leverage from it. We sold into a mix that was more favorable, a little bit more in fresh, more of our own brands, which have again changed the mix in a favorable way into their profitability. And in our shrink was large, and our shrink was lower and driven, at least in part by the better flow through. So, some of those elements will soften perhaps as we forecast that the habits will return back to, people buying a little bit more of their food needs from restaurants as opposed to groceries as we go through the balance of the year. So, I think we'll see some softening of that, but we're really happy with the way that we performed in the first quarter versus our expectations.

[Spencer Hanus:]

Got it. And then can you quantify where inflation was running in the first quarter? And how rational have your competitors been with passing through that inflation that you've seen thus far, any signs they're holding back passing through inflation to improve their price gaps at all?

[Jason Monaco:]

Yes, Spencer. This is Jason again. If you look back, inflation has been pretty modest in the first quarter. I know there's been a lot of discussion, kind of in the public press and also in the, kind of in the forward looking space. But in the first quarter, we had relatively modest inflationary factors. Kind of stepping back and looking at the competitive environment, what we've seen has been relatively stable competitive environment, the consumer is on – in our view is on pretty solid footing and that said, we still expect an uptick in inflation going forward, as some of the price increases from our vendor community start to pass-through.

[Operator:]

The next question comes from Chuck Cerankosky from Northcoast Research. Please go ahead.

[Chuck Cerankosky:]

Good morning, everyone. You mentioned safety quite a bit in – as a focus, especially with new employees, has that been a problem in recent years? Has it impacted productivity at all, specifically, your accident rate in the distribution centers?

[Tony Sarsam:]

Yeah, it's a great question. So, there's a number of facets to this, let me cover a couple here. So one, I firmly believe that you can never ever be too good in safety. So, one of my mantras in any organization is that we're going to be the safest place to work. And we're going to work hard toward that objective. And so that I think is a great way to unify an organization, it’s a great way to communicate your people first initiatives is that you're most concerned about their safety and their personal well being. So, we have – we also experienced, as you know, pretty high turnover here in the, sort of the period really before the pandemic, but really, during the pandemic saw a lot of churn, a lot of new people, and new people are uniquely exposed to making mistakes and potentially getting hurt. So, we want to actually focus on that where we're bringing a lot of new people into the organization. So, I would suggest that probably we got a bit – certainly we have some efficiency lost, but not so much due to safety as it wasn't just due to the turnover, and those things work together a little bit, but as we look at just the difficulty in bringing new people in the organization and the burden of training a lot of new people, you're going to have some efficiency loss associated with that. That's what we talked about in those first KPIs in the spirit of people. First, we want to make sure that we focus on safety and on retention. We believe that’s the key to unlocking a lot of great performance for the company. And it's been a very strong product focus here this first quarter of the year.

[Chuck Cerankosky:]

Tony, as a follow on to that what actions can Spartan’s management team take to reduce the turnover, and is increasing wages simply a big part of that?

[Tony Sarsam:]

It's a big part of it. It's not the only part of it, but it is one we have to recognize out there too. The game has been changed now as our economy really is not just as an industry, we as a country is sort of has latent capability to really move and grow. And we find a lot of businesses are struggling to get the people they need to grow their business and the – and so that's – it has been a challenge getting great people. And so there's going to be a natural total offering, if you will, that we have to consider. So, for example, we have to consider pay increases. I mentioned in the call a minute ago that for our frontline, our entry level wages at retail, we had – we executed recently, a greater than 10% increase in those starting wages. We're looking at that for our warehouses right now. You would do that work in the late summer. And so wages will play in that. We think benefits plays as people look at what are the other benefits they need in terms of their work experience. We think the work conditions play and so that so we need to work on having predictable schedules and a great work environment. All those things work together to be, what I call, it's kind of a top quartile employer. And, you know, the mission, we fully intend to win this war for talent. And we're going to look at all those things together.

[Chuck Cerankosky:]

Thank you very much.

[Operator:]

The next question comes from Peter Saleh from BTIG. Please go ahead.

[Peter Saleh:]

Great, thanks. First, Jason, I wanted to ask on just overall capital structure, any sort of changes you're anticipating over the coming years? I know you've been in for a very short period of time, but anything we should be expecting on the capital structure changes to the dividend or the way you guys are thinking about capital structure?

[Jason Monaco:]

Good morning, Peter. Thanks for the question. At this stage, I don't anticipate any significant changes to the broader capital structure. We continue to focus on investments, which improve the efficiency and productivity of our supply chain and our operations and prevent – present opportunities for incremental growth and performance in our retail environment. You know, we'll continue to evaluate those alternatives and do so within our current capital structure design and strategies.

[Peter Saleh:]

Great, and then can you guys give us an update on the partnership with Amazon? Is it meeting your expectations? Any sort of changes there? Now that, you know, new leadership is in place at this point?

[Tony Sarsam:]

Yeah, so, we as you know, we're just into a new contract with Amazon. And we have, we think we're developing a really great partnership with Amazon. It's been a lot of change for us over the last several years. We've picked up additional business with this new agreement. As you may have seen, we also opened up a distribution center in Maryland that will be focused on Amazon business in the northeast. And so, we've got a lot going on with Amazon right now. And I think it's, you know, we're still early in this new agreement and learning about how to grow into that. And again it’s an exciting part of our future. So, the new leadership team is obviously also very excited about their role in driving that business.

[Peter Saleh:]

All right. Thank you very much.

[Operator:]

The next question comes from Scott Mushkin from R5 Capital. Please go ahead.

[Scott Mushkin:]

Hey, guys, thanks for taking my questions. So, my first one is regarding inflation in the distribution business. I mean, historically, that's been very good for distribution and as you see a lot of it coming through the pipeline of, you know, forward buying and that type of things, why shouldn't we think as the year goes on, that the distribution business could really start putting up some solid results, even with the volume may be coming in a little bit?

[Tony Sarsam:]

This is Tony, Scott. I think you’re dead on. We have a history of being very effective in passing through inflation. Of course, it has positive leverage effects on the overall business. So, while we're still learning about that, with those inflationary measures will be that they are not insignificant, and we believe we are net positive for the business.

[Jason Monaco:]

Yeah, adding to Tony's commentary there. You know one of the things I highlighted and you've probably seen this in the broader marketplaces, many CPGs have announced or proposed increases, some of those have exceeded 5% increases, which would be well ahead of the food CPI, which, as many of you know, has been running at, kind of over the last 12 months. As a consequence, our outlook reflects an inflation factor of, kind of 2% to 3%, which we believe is taking a conservative approach, and also reflects our historical ability to pass through that pricing onto our customers through our distribution model. That said, we needed to look to capitalize on opportunities for margin enhancement through that change.

[Scott Mushkin:]

Perfect, and then if I could have maybe two quick follow ups. The Military business, I mean, obviously continues to be a real, real struggle. I mean, what can you do with that business? And I think you've been putting some of the distribution together, is there some de-leveraging if you would exit, or try to figure out how to get out?

[Tony Sarsam:]

Well, first and foremost, our primary focus is to make that business strong. And we've taken some, I think, really encouraging steps late in the first quarter. You wouldn't see them in these current results, but what you'll see in the balance of the year is some improvements in efficiency that will make that business more profitable. So, that's our – our first place is to look to how do we make that a profitable and a sustainably profitable business? There has been, you know, we've had sort of a rough go of it, as you've mentioned, in the last few years. But I'm optimistic with some of the measures the team has taken here very recently that we're going to have a good outcome this year in the turnaround in the Military business.

[Scott Mushkin:]

Perfect, and actually, I'll yield. I have a couple more questions, but I'll yield, maybe take those offline. Thanks, guys.

[Tony Sarsam:]

Great. Thanks Scott.

[Operator:]

The next question comes from Matt Fishbein from Jefferies. Please go ahead.

[Matt Fishbein:]

Hey, good morning. Thanks for taking the questions and welcome aboard Jason. Just wanted to ask about the food away from home channels re-opening and how that impacts the retail business going forward? What are some of the initiatives your retail unit and perhaps even the food distribution category managers are working on to, kind of offset some of that reversal and keep some of the gains share that you've seen over the past year, maybe in terms of planogram changes or innovation upcoming? Thanks.

[Tony Sarsam:]

Great. Matt this is Tony. So, I think, you know, we would – we have anticipated as we talked previously that, as the country reopens, and people go back to restaurants and other elements of their previous habits that that will have a dampening of the growth that we saw in 2020. So, for starters, we're really pleased with the way that things worked for us in the first quarter. I would conclude that many of those habits were stickier than we may have thought. Jason mentioned a moment ago, we beat our retail – corporate retail number by about 1%. And we think that in the midst of the timeframe, when restaurants argument re-opening, we're seeing a little bit more – a little bit slower return, I guess, in a way to those habits. We have – in the timeframe that we were in the midst of the pandemic, we work pretty hard on improving our offering in our store as well. We worked hard on our own brands penetration. We improved our assortment of our own brands and got really nice lift there. As I mentioned a moment ago, we experienced better margins with those products and we’re still seeing good uptake on that. We're seeing people are still are buying more online. So, our e-commerce business is still doing very well. That's continued to do well – continued to grow, even in this period of time when the pandemic is waning so to speak. So, some of the things we did to strengthen our business in the midst of that pandemic are actually – we believe will stick, and amongst them as I mentioned the own brands, our improved offering in the fresh part of our business and some of the other elements like e-commerce. I think all those things will work together to help keep some of those habits as I mentioned a little stickier than we might have forecasted.

[Matt Fishbein:]

All right. Thanks very much.

[Operator:]

The next question comes from Damon Polistina from Deutsche Bank. Please go ahead.

[Damon Polistina:]

Good morning. I was wondering if you can provide a little bit more color around the supply chain improvement initiatives, kind of starting to put in place in 2Q, where is your area of focus, kind of the cadence around investment versus when you are going to start seeing benefit. So, just around that would be helpful. Thanks.

[Tony Sarsam:]

You bet. This is Tony again. So the investments, we’re just on the brink of making some of those investments. They are primarily around process. There will be some investments in IT upgrades, but a lot of the emphasis is going to be on strengthening our process and the way we go about that work. As we mentioned earlier, it will cover transportation, it will cover the way we think about our network, it will cover the way we think about inventory and we’re creating a sales and operations planning process that’s strengthening that I should say, and we’re looking hard at the way we manage our warehouses overall and thinking about how we make our warehouse labor more efficient and more effective in that space. So, we’re just getting on that. It is not something that we’re going to have to push the button and it’s done in a week or a month or even several months. We think this is going to be a – it’s a multi-year endeavor, but it’s absolutely critical to what we do to having a strong business as being both efficient and effective in our overall supply chain.

[Jason Monaco:]

Yeah, adding to Tony’s comments and Damon, thank you for the question. I guess maybe to put a finer point on when the benefits should begin to accrue and to give you some color as you think about the outlook, we would expect that the benefits will commence in late 2021. That said, I expect those benefits will be more than offset by some of the initial investments in this project as Tony alluded to and as I highlighted in the outlook section of my comments earlier this morning. Kind of thinking about the savings impacts and where the savings goes from the network strategy work, the transportation efficiency, the warehouse operation work, and procurement, I would expect that longer-term, we would generate somewhere between 25 basis points and 50 basis points of improvement in our supply chain expense rate on our distribution businesses. We’re confident in that. We’re excited about the transformation that we’re about to kick off here, not only for the cost savings and efficiency benefits, but becoming a more effective operator and better servicer to our customers.

[Damon Polistina:]

Thank you.

[Operator:]

The next question comes from Kelly Bania from BMO Capital Markets. Please go ahead.

[Kelly Bania:]

Hi, good morning. Kelly Bania here from BMO. Thanks for taking our questions. Curious if you can elaborate more on the pay raise at retail and what is the dollar impact of that on an annual basis? When does it take effect? Where do you think that puts you relative to competition? And I believe you mentioned thinking about some on the distribution side. Just curious if you could help frame these investments in wages for us and if that was already part of your guidance or is that part of your guidance today?

[Tony Sarsam:]

Yeah, so this is Tony. The cost of those increases are contemplated fully in our guidance. So, there will be no change because of those investments. The total cost for retail is in the neighborhood of $7 million and about $5 million of that will be realized this year. And we’re still doing the work on supply chains. I don’t have a number for you there, but that’s – we normally do our re-look at our wages in the summer time and so we are knee-deep into that exercise right now. I think we’re at a point in time now in the current phase of our economy and the labor market where we have to be very serious about the way we think about wages, maybe think about people getting talented at multiple levels into the organization. So, this will be a really core part of our people-first offering as how we think about and make those offers for wages and benefits.

[Kelly Bania:]

Okay, that’s helpful. And then going back to the comment on the savings from the supply chain initiatives. So, 25 basis points to 50 basis points, would that be across the wholesale and Military businesses or just wholesale and can you help us think about the cost for implementing these initiatives. And I guess those are – the costs and the benefits are outside the guidance at this point. Is there an expectation that those will be adjusted out, are they one-time-ish or is the magnitude just still not yet determined? Just help us understand how you’re thinking about that?

[Jason Monaco:]

Sure. Thanks, Kelly and this is Jason again. I’ll kind of take these on, kind of one-by-one to make sure we answer all the questions here. I guess, first and foremost, the 25 basis points to 50 basis points is both on the Food Distribution and the Military business, so you should think about that touching both pieces of the business and this is – this program is also reflective of the change in management practice that we’ve had with the addition of Dave Petko to the team, and Dave’s responsibilities span all of our supply chain responsibilities across the warehousing businesses and as a result we’ll be focusing on both of those businesses there. With respect to the expense load and the impact to outlook, I would expect that it will be – the net impact in 2021 will be modestly dilutive. However, I don’t expect that the impact will change the range of profitability that we guided – I guided earlier this morning. So, it would be within that range and it would be modestly dilutive. However, we’re pretty early in the blueprinting process and a few things may move around with respect to the timing and sequencing of the programs within this initiative, but net-net, we fully expect to be within the range of profitability that we guided today.

[Kelly Bania:]

Okay. That is helpful. And I guess just another one on the inventory, so I think you mentioned maybe building some of the inventory given the inflation and the benefit that you can see there. So, just curious, are you still building inventory ahead of some of the price increases that you’re hearing from your vendors and is the benefit of what you anticipate from that already built into your guidance at this point?

[Jason Monaco:]

Yeah, if you think about the forward-looking inventory profile I would expect that we will see – it will be likely a little bit lumpy and that we’ll be targeting specific opportunities to create incremental margin through the distribution process. That said, at the same time, one of the pieces of work we’ll be doing with respect to the supply chain improvement initiative is tightening our belts with respect to the inventory required for the ongoing operation of the business and pressure testing that. So, I expect we’ll be pulling the inventory out in some places and reinvesting in others, but it may be a little lumpy as we go through this price increase cycle.

[Kelly Bania:]

Okay and then just one last one from me, if you don’t mind. So, in terms of the gross margin, so that was quite strong for the quarter and I believe that sounded like it was mostly driven by the retail business, but that all channels. It sounded like did contribute to that. So, just curious if you could explain how at Military in particular, the gross margin is increasing and also at distribution, what’s driving the increase in gross margin?

[Jason Monaco:]

Yeah, Kelly and happy to answer the question. So, yes, margins are expanding in all three – gross margins are expanding in all three business units. We’ve talked a little bit about the retail piece, kind of speaking to Military and Food Distribution. We’ve been taking actions to enhance our margins by targeting specific sub segments and growth areas, which allow us to expand their margin profile in those spaces. We’ve also taken initiatives in our businesses to create pricing opportunities where we can and capitalizing on those opportunities. I would expect going forward that we’ll continue to target those while balancing it with growth needs of the business.

[Kelly Bania:]

Thank you.

[Operator:]

The next question is a follow-up from Chuck Cerankosky from Northcoast Research. Please go ahead.

[Chuck Cerankosky:]

Thanks guys. I’d like to return to the comments you made about the stickiness of food at home dining, if you compare your retail stores in Michigan where it seems the restrictions on – the COVID restrictions lasted a little longer to say your stores in Greater Omaha, could you draw any conclusions from that. Were there great differences in the food away versus food at home trends?

[Tony Sarsam:]

Yeah, sure, this is Tony, and you’ve picked probably the two best endpoints in our business. So, we had a really strong performance in Michigan in the first quarter and not quite as strong in Omaha. And in the rest of our geography though, was more mixed in that. There wasn’t as clear of a correlation across the rest of SpartanNash between constrictions and in restaurant service or other elements of the pandemic and the sales in our stores, but clearly we performed better than Michigan, performed better than northern part of Michigan in particular we have where we serve a lot of smaller communities. So that was where our business was the strongest.

[Chuck Cerankosky:]

Thank you.

[Operator:]

There are no more questions in the queue. This concludes our question-and-answer session. I’d like to turn the conference back over to Tony Sarsam for any closing remarks.

[Tony Sarsam:]

All right. Well, I just want to thank everybody for their participation today and appreciate all the fine questions we’ve got. We look forward to speaking with you again when we report our second quarter results and we’re looking forward to a great quarter. So, I wish you all a great day with that. Thank you.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.