Earnings Transcript for IMKTA - Q3 Fiscal Year 2014

Executives: Ron Freeman - CFO Robert Ingle II - CEO & Chairman Jim Lanning - President Tom Outlaw - VP, Sales

Analysts: Bryan Hunt - Wells Fargo Securities Damian Witkowski - Gabelli & Company William Reuter - Bank of America Merrill Lynch

Operator: Good day, everyone, and welcome to the Ingles Markets Incorporated Third Quarter 2014 Earnings Release Conference Call. Today’s call is being recorded. At this time for opening remarks and introductions, it is my pleasure to turn the call over to the Chief Financial Officer, Mr. Ron Freeman. Please go ahead.

Ron Freeman: Thank you. Good morning, and welcome to the Ingles Markets fiscal 2014 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 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 will refer to the company’s public filings, including the Form 10-K for the fiscal year ended September 28, 2013. In accordance with a 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’ll 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 later this week. Once filed, it will be available via our website as well. We’ll begin with our third quarter results. Net income totaled $13.8 million for the three months ended June 28, 2014. Third quarter 2014 net sales rose to $978.3 million, compared with $934 million in the previous year. This equals a 4.7% increase. Comparable store sales, gasoline excluded, in our grocery operations increased 2.1%, including the positive impact of approximately 88 basis points from Easter shifting from the second quarter last year to the third quarter this year. The number of customer transactions, average transaction size, and gasoline gallons sold were all higher for the June 2014 quarter, compared with the June 2013 quarter. Gross profit for the June 2014 quarter was $215.2 million, or 22.0% of sales. Excluding gasoline sales, grocery segment gross profit, as a percentage of sales, increased 20 basis points for the three months ended June 28 2014, compared with the same quarter of last fiscal year. Gross profit contributed by gasoline was lower this quarter, partially attributable to promotional activities involving gasoline sales. Operating and administrative expenses for the June 2014 quarter totaled $182.7 million. Excluding gasoline sales and associated operating expenses, which are primarily payroll, operating and administrative expenses, as a percentage of sales, were 22.4% for both the June 2014 and 2013 quarters. Increases in operating expenses are sales driven, improving product offerings, and our store remodeling program. Interest expense totaled $11.6 million for the three-month period ended June 28, 2014, compared with $16 million for the three-month period ended June 29, 2013. Total debt at June 28, 2014 was $909.3 million, compared with $934.5 million at June 29, 2013. During last year’s June quarter, the company incurred $43.1 million of pre-tax debt refinancing costs related to a comprehensive refinancing transaction. These transactions reduced interest rates and extended maturities on the company’s major borrowing agreements. Because of this change, the net loss for the third quarter of last year totaled $14.4 million. Basic and diluted earnings per share on the company’s publicly-traded Class A Common Stock were $0.63 and $0.61, respectively, for the June 2014 quarter. Basic and diluted loss per share for the Class A Stock were each $0.62 for the June 2013 quarter. Now, I’ll discuss our nine-month results. Net sales increased $81.5 million to $2.87 billion for the nine months ended June 28, 2014, from $2.79 billion for the nine months ended June 29, 2013. Excluding gasoline, grocery segment comparable store sales increased 0.9%. The number of customer transactions, average transaction size, and gasoline gallons sold were all higher for the June 2014 nine-month period, compared with the June 2013 nine-month period. Gross profit dollars for the June 2014 nine-month period was $624.8 million, which was 21.8% of sales. Excluding gasoline sales, grocery segment gross profit, as a percentage of sales, increased 20 basis points for the first nine months of fiscal 2014, compared with the same fiscal 2013 period. Operating and administrative expenses for the June 2014 nine-month period totaled $538.6 million. Operating expenses, as a percentage of sales, excluding gasoline, were 22.1% for both the June 2014 and June 2013 nine-month periods. Interest expense totaled $35 million for the nine-month period ended June 28, 2014, compared with $47.3 million for the nine-month period ended June 29, 2013. Summarizing our nine-month results, net income totaled $33.8 million for the nine-month period ended June 28, 2014, compared with $5.2 million for the nine-month period ended June 29, 2013. As noted earlier, the prior year amount was affected by refinancing costs. Basic and diluted earnings per share for publicly-traded Class A Common Stock were $1.54 and $1.49 for the nine months ended June 28, 2014, compared with $0.23 and $0.21, respectively, for the nine months ended June 29, 2013. Next, I’ll update our financing activities and our investing activities. Capital expenditures for the June 2014 nine-month period totaled $72.6 million, compared with $76.8 million for the June 2013 nine-month period. Capital expenditures for the entire fiscal year are expected to be approximately $100 million to $120 million, including the expenditures for stores currently under construction, as well as for the company’s ongoing remodeling program to multiple stores. At the end of June 2014, the company has a $175 million committed line of credit from the facility, with no current borrowings. This facility matures in June 2018. We believe the company has sufficient sources of liquidity for future needs. To summarize, we are pleased with our current performance and the steps we are taking to keep increasing customer satisfaction, and we will now take your questions.

Operator: (Operator Instructions) Our first question will come from Damian Witkowski with Gabelli & Company.

Damian Witkowski - Gabelli & Company: Just quickly, number of stores, is it 201 at the end of the quarter?

Ron Freeman: It was 203 at the end of the quarter. We did close a couple of stores right after the end of the quarter. So, currently it’s 201.

Damian Witkowski - Gabelli & Company: And those stores are - you actually closed them and you won’t be reopening them or is it just closed for remodeling?

Ron Freeman: They are closed with no plans to reopen in the current location.

Damian Witkowski - Gabelli & Company: And at these stores, you own the real estate on or are these stores you are leasing?

Ron Freeman: They are both owned stores.

Damian Witkowski - Gabelli & Company: Can you just give me a little bit background, I mean it’s been a while since you’ve actually closed two stores in a quarter, I mean was this planned for a while? And then, what are you going to do with the real estate that remains?

Ron Freeman: They didn’t meet our ongoing plans, and so we’ve got - since we own the property, we have some redevelopment operations or options either to lease the space that we’ve vacated or to consider a sale of the entire properties.

Damian Witkowski - Gabelli & Company: And do you have a preference or it’s too early to tell?

Ron Freeman: It depends upon what the numbers say, that can grab our preference.

Damian Witkowski - Gabelli & Company: Where do you think you will end up at the end of the year, at the end of your fiscal year, I mean are you obviously going to open in those markets where you closed those particular stores? Are you opening a new store that’s sort of is going to replace that store, but on a better corner?

Ron Freeman: No, we’ve got a store under construction that will open right around the end of the year, maybe either just before or just afterwards, but it’s in a different location.

Damian Witkowski - Gabelli & Company: So by the end of the year of around flat, 202 stores or so.

Ron Freeman: That’s correct.

Damian Witkowski - Gabelli & Company: And then, just I mean the gross margin, ex-fuel, did well in the quarter and improved 20 bps, you still have, I’m assuming you are still seeing inflation, so just your thoughts on which categories are the worst, is it still meat and produce, and then, just general thoughts on passing that along to the consumer?

Ron Freeman: They seem to be getting a little bit better in meat and produce, and that’s certainly helping out. Again, I wouldn’t necessarily say that’s inflation driven. It’s really just more what’s been happening with fee costs and then the competitive environment, but we’ve been pleased with the margin increase and it’s been pretty broad based for us.

Operator: (Operator Instructions) We’ll go next to Bryan Hunt, Wells Fargo Securities.

Bryan Hunt - Wells Fargo Securities: When you look at your customer counts that were up, if you adjust it for Easter, would you still be up on customer counts?

Ron Freeman: I don’t have those figures to adjust for the Easter numbers, but typically what we see as Easter is, it’s the same number of customers, they just come in and buy a lot more.

Bryan Hunt - Wells Fargo Securities : You are exploring the gross margin there for a minute, was there any particular driver, was there efficiency benefit or mix benefit or just better alignment, lower promotions, can you kind of explore what were the drivers behind the 20 basis points increase?

Ron Freeman: We continue to get from distribution efficiencies with our new warehouse that’s been open now for a couple of years, and as we mentioned to Damian a moment or two, we’ve got a little bit of relief in the meat areas, and there have been some favorable mix changes. We’ve really been trying to hit every aspect of margin influence that we can without raising prices wherever we can, where - we just don’t want to have to do that, if we can.

Bryan Hunt - Wells Fargo Securities: It’s where that we see that your SG&A dollars remain kind of flat year-over-year. Can you talk about what was the driver behind SG&A remaining relatively flat as a percentage of sales, and whether you can continue to leverage your SG&A, you think, going forward?

Ron Freeman: It was certainly our plan to continue to leverage the SG&A. We haven’t been adding a lot of square footage over the last year, so the headcount necessary to drive that along hasn’t been there. And in the past couple of years, we’ve devoted a lot of time and effort and cost to making some improvements inside the stores, and those improvements are starting to bear out in our higher gross margin. Our insurance costs have had good experience so far in our self-insurance programs. So we’ve had a few things making contributions, but no one overriding factor there.

Bryan Hunt - Wells Fargo Securities: And then, two more questions. When I look at the stores that you all just closed, is there any way you can give us locations and were those stores profitable?

Ron Freeman: Both stores were in the metropolitan Atlanta area, but we would never talk about individual store performance, and they were old stores, smaller size, just didn’t fit into the long-term plan for us.

Bryan Hunt - Wells Fargo Securities: And lastly, when I look at kind of your portfolio of properties, how many real estate locations do you have for future development at this time?

Ron Freeman: I had to go look at our last Q or last K. I think we’ve got maybe nine undeveloped sites out there. I could be off by one or two on that, but it’s in last year’s 10-K.

Operator: At this time, we have one question remaining in queue, so I’d like to give the audience another reminder (Operator Instructions) We’ll go to William Reuter with Bank of America Merrill Lynch.

William Reuter - Bank of America Merrill Lynch: You talked in your prepared remarks about fuel margins that were a little bit lower on a year-over-year basis, and you talked about promotions. I guess, was this more due to competitive activity or just an effort to drive traffic at your stores, if you can talk a little bit about why that resulted?

Ron Freeman:

:

William Reuter - Bank of America Merrill Lynch: And then, you mentioned that you’ve seen a little bit of relief on the meat side, can you talk about in terms of your average ticket being up, I guess, 1.8%, how much of that would have been due to inflation?

Ron Freeman: No. Again, every major part of the product lines reacted a little bit differently, again I’d say we got some more positive benefits on the meat department than we did in other areas, but it’s not a correct assumption to say, we had 1.5% inflation and our ticket is up 1.8%, it’s just not that direct of a correlation for us.

William Reuter - Bank of America Merrill Lynch: And I guess one last one from me. I don’t know if you guys have mentioned how many remodels you are planning on doing as part of your CapEx budget, and how much your average remodel cost at this point?

Ron Freeman: We haven’t spoken in very precise terms on either of those, but we are in our third year of going through and looking at our store base, and as economic conditions have dictated, we’ve gotten a lot of benefit from doing relatively modest, from a cost standpoint, improvements with inside our stores, don’t involve any additional square feet that completely changes the look and the way the stores marketed, and it’s been a great program for us.

William Reuter - Bank of America Merrill Lynch: I think -- I guess what percentage of your stores do you anticipate, I guess, doing work on over the next year or alternatively do you have any data point you can give us in terms of what percentage of your stores have been touched within the last five years or 10 years, anything like that?

Ron Freeman: Probably 80% of the store base has been touched in the last three years, so we’re kind of coming to the end of the program because the other 20% of the stores are pretty much new stores that we’ve built over the last five to 10 years or so. So, we are substantially through that project. We still have a few more we wish to do. But again we’re much closer to the end of that process than we are at the beginning of it.

William Reuter - Bank of America Merrill Lynch: And then, I guess -- do you anticipate that when you are completed with this program, your CapEx would go down, or do you think you would ramp up new store growth or are there other IT projects you think at that point that would take some of your CapEx dollars?

Ron Freeman: Our long-term CapEx projections are staying in that $100 million, $140 million range. I do think you’ll see a shift in the way those dollars are spent moving from those smaller remodels to a large number of stores to where we do have more new stores on the drawing board right now that we want to execute over the next couple of years, so there will be a shift in how those dollars are spent.

Operator: And we’ll take a follow-up question from Damian Witkowski.

Damian Witkowski - Gabelli & Company: Just wanted to follow up on the two stores that you did close, I mean do you have many of those that, as you described, that are smaller and don’t meet your criteria, still remaining in your store count?

Ron Freeman: We look at every store performance every month, and as conditions change, as our priorities change and where we want to spend our CapEx money and how we want to fund that, we look at it every quarter. So these were two that we just decided that it was in our long-term best interest to exit from a store standpoint, again they are older stores, smaller stores, and I guess, if you had to look to the very short term future, we certainly have one that’s about to open and we may close one another one around the same time.

Damian Witkowski - Gabelli & Company: As you focus more on opening new stores versus remodeling new stores, will these be just more of fill-in in near current markets or are you looking at new territories in a contiguous phase?

Ron Freeman : We’re always looking. It’s a combination of new stores within our existing territory, new location and new buildings in some markets where we already are.

Damian Witkowski - Gabelli & Company: You haven’t really on a macro level ever said sort of okay, we are in six days, we have 200-plus stores, we think that what we are doing and how we approach the market, there is x amount of more opportunity for new stores in the current stage and maybe contiguous stage based on our distribution centers’ ability to handle that volume.

Ron Freeman: We’re very happy with the broad market area where we are right now, but again we’re always looking for opportunities for new locations within the existing territory, and we’ve always got our eyes out. We’ve got a number of locations identified but when and in what order we’ll work on those really just depends upon conditions as they happen.

Damian Witkowski - Gabelli & Company: On the fuel side, how many of your stores are actually - forgive me how many have a prompt in front of them?

Ron Freeman: Give me one second, I can find that out for you. We’ve been adding some station, just got to flip a couple of pages.

Damian Witkowski - Gabelli & Company: It’s about half I think and I guess that number, that’s growing.

Ron Freeman: At the end of the quarter, we had 78 fuel centers.

Operator: And Mr. Freeman, there appears to be no further questions in queue, so I’d like to turn the call back over to you for any additional or closing remarks.

Ron Freeman: Thank you very much. We appreciate everyone joining this morning. And we will be back to you in December to report on our entire fiscal 2014 results. So we hope everyone has a good day.

Operator: Thank you. That will conclude our call for today. Thank you all for your participation. You may now disconnect.