Weston Foods: Reports 2016 Q4 and FY Results

Toronto / CA. (gwl) George Weston Limited (GWL) announced its consolidated unaudited results for the 12 weeks ended December 31, 2016. GWL’s 2016 Annual Report includes the Company’s audited annual consolidated financial statements and Management’s Discussion and Analysis (MD+A) for the fiscal year ended December 31, 2016. The 2016 Annual Report has been filed with SEDAR and is available at sedar.com and in the Investor Centre section of the Company’s website at weston.ca.

Galen Weston, Chairman and Chief Executive Officer, George Weston Limited, commented that «George Weston Limited’s fourth quarter results reflect the successful execution of the strategic priorities by both of the Company’s operating segments. Loblaw delivered strong results as it remained focused on its financial plan in a highly competitive environment with continued pressures of healthcare reform. Weston Foods delivered results in line with expectations driven by volume growth and productivity improvements as it continued to invest in the business».

Unaudited 2016 Fourth Quarter Highlights

(CAD in millions except where otherwise indicated) Quarters Ended Years Ended
For the periods ended as indicated December 31, 2016 December 31, 2015 Change December 31, 2016 December 31, 2015(3) Change
Sales CAD 11’519 CAD 11’248 2.4% CAD 47’999 CAD 46’894 2.4%
Operating income CAD 491 CAD 421 16.6% CAD 2’255 CAD 1’929 16.9%
Adjusted Ebitda(1) CAD 1’027 CAD 946 8.6% CAD 4’140 CAD 3’826 8.2%
Adjusted Ebitda margin(1) 8.9% 8.4% 8.6% 8.2%
Net earnings attributable to shareholders
of the Company CAD 92 CAD 148 (37.8)% CAD 550 CAD 511 7.6%
Net earnings available to common
shareholders of the Company CAD 82 CAD 138 (40.6)% CAD 506 CAD 467 8.4%
Adjusted net earnings available to common
shareholders of the Company(1) CAD 204 CAD 183 11.5% CAD 838 CAD 717 16.9%
Diluted net earnings per common share (CAD) CAD 0.64 CAD 1.08 (40.7)% CAD 3.90 CAD 3.62 7.7%
Adjusted diluted net earnings per common share(1) (CAD) CAD 1.59 CAD 1.43 11.2% CAD 6.49 CAD 5.57 16.5%

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Consolidated Results of Operations

Net earnings available to common shareholders of the Company decreased by 56 million CAD (0.44 CAD per common share) to 82 million CAD (0.64 CAD per common share) in the fourth quarter of 2016 compared to the same period in 2015. The decrease was primarily due to the unfavourable year-over-year net impact of certain adjusting items, as described below, partially offset by the increase in Loblaw Companies Limited (Loblaw) earnings and the positive contribution from the increase in the Company’s ownership interest in Loblaw, as a result of Loblaw’s share repurchases. The increase in Loblaw earnings was primarily due to improvements in the underlying operating performance of its Retail segment, including the favourable impact of a decrease in depreciation and amortization.

The unfavourable year-over-year net impact of certain adjusting items totaling 77 million CAD (0.60 CAD per common share) was primarily due to:

  • foreign currency translation of 52 million CAD (0.40 CAD per common share);
  • asset impairments, net of recoveries, of 42 million CAD (0.32 CAD per common share); and
  • a fair value adjustment of the forward sale agreement for 9.6 million Loblaw common shares of 39 million CAD (0.29 CAD per common share);

partially offset by,

  • the favourable impact of the impairment of Loblaw’s drug retail ancillary assets held for sale in the fourth quarter of 2015 of 37 million CAD (0.28 CAD per common share); and
  • the favourable impact of Loblaw’s accelerated transition of certain grocery stores to more cost effective and efficient Labour Agreements in the fourth quarter of 2015 of 18 million CAD (0.14 CAD per common share).

Adjusted net earnings available to common shareholders of the Company(1) increased by 21 million CAD (0.16 CAD per common share) to 204 million CAD (1.59 CAD per common share) in the fourth quarter of 2016 compared to the same period in 2015, primarily due to the increase in Loblaw earnings and the positive contribution from the increase in the Company’s ownership interest in Loblaw, as described above.

Reportable Operating Segments

The Company has two reportable operating segments, Loblaw and Weston Foods. The Company also holds cash, short term investments and an interest in Choice Properties Real Estate Investment Trust (Choice Properties) of 6 percent. Loblaw has three reportable operating segments including retail businesses, a bank and Choice Properties. Loblaw provides Canadians with grocery, pharmacy, health and beauty, apparel, general merchandise, retail banking, credit card services, insurance and wireless mobile products and services. Loblaw also holds an 83 percent effective interest in Choice Properties, which owns, manages and develops retail and commercial properties across Canada. The Weston Foods operating segment includes a leading fresh bakery business in Canada and frozen, artisan bakery and biscuit businesses throughout North America.

Unaudited Wston Foods Segment Results

(CAD in millions except where otherwise indicated) Quarters Ended Years Ended
For the periods ended as indicated December 31, 2016 December 31, 2015 Change December 31, 2016 December 31, 2015 Change
Sales CAD 537 CAD 527 1.9% CAD 2’268 CAD 2’144 5.8%
Operating income CAD 38 CAD 42 (9.5)% CAD 173 CAD 177 (2.3)%
Adjusted Ebitda(1) CAD 73 CAD 67 9.0% CAD 296 CAD 285 3.9%
Adjusted Ebitda margin(1) 13.6% 12.7% 13.1% 13.3%
Depreciation and amortization(i) CAD 27 CAD 25 8.0% CAD 111 CAD 94 18.1%

(i) Depreciation and amortization in the fourth quarter of 2016 includes 3 million CAD (2015 to 6 million CAD) and year-to-date 14 million CAD (2015 – 11 million CAD) of accelerated depreciation related to restructuring and other charges.

Sales Weston Foods sales in the fourth quarter of 2016 were 537 million CAD, an increase of 10 million CAD, or 1.9 percent, compared to the same period in 2015, primarily due to an increase in volumes. Foreign currency translation had a nominal negative impact on sales compared to the same period in 2015.

Operating income  Weston Foods operating income in the fourth quarter of 2016 was 38 million CAD, a decrease of 4 million CAD, or 9.5 percent, compared to the same period in 2015. The decrease was due to the unfavourable year-over-year net impact of certain adjusting items and an increase in depreciation and amortization, partially offset by an improvement in underlying operating performance, as described below. The unfavourable year-over-year net impact of certain adjusting items was primarily due to:

  • charges associated with damaged inventory in the fourth quarter of 2016 of 5 million CAD; and
  • the fair value adjustment of derivatives of 4 million CAD;

partially offset by,

  • the favourable impact of settlement charges related to pension annuities and buy-outs in the fourth quarter of 2015 of 3 million CAD.

Adjusted Ebitda(1) Weston Foods adjusted Ebitda(1) in the fourth quarter of 2016 was 73 million CAD, an increase of 6 million CAD, or 9.0 percent, compared to the same period in 2015. The increase was driven by the positive impact of the increase in sales and productivity improvements, partially offset by continued investments in the business and higher input costs.

Adjusted Ebitda margin(1) in the fourth quarter of 2016 was 13.6 percent compared to 12.7 percent in the same period in 2015. The improvement in adjusted Ebitda margin(1) in the fourth quarter of 2016 was mainly due to the factors impacting adjusted Ebitda(1), as described above.

Depreciation and Amortization  Weston Foods depreciation and amortization was 27 million CAD in the fourth quarter of 2016, an increase of 2 million CAD compared to the same period in 2015. Depreciation and amortization in the fourth quarter of 2016 included 3 million CAD (2015 – 6 million CAD) of accelerated depreciation related to the planned closures of bread, pie and cake manufacturing facilities. Excluding these amounts, depreciation and amortization increased by 5 million CAD due to investments in capital.

Weston Foods Other Business Matters

Restructuring Weston Foods continuously evaluates strategic and cost reduction initiatives related to its manufacturing assets, distribution networks and administrative infrastructure with the objective of ensuring a low cost operating structure. Weston Foods recorded restructuring and other charges in the fourth quarter of 2016 of 7 million CAD (2015 – 8 million CAD) and year-to-date of 17 million CAD (2015 – 26 million CAD), including 3 million CAD (2015 – 6 million CAD) and 14 million CAD (2015 – 11 million CAD) of accelerated depreciation. These charges primarily relate to restructuring plans to close manufacturing facilities in Canada and the U.S. with production transferring to other facilities.

Inventory loss  In the fourth quarter of 2016 and year-to-date, Weston Foods recorded 5 million CAD (U.S. 4 million USD) and 11 million CAD (U.S. 9 million USD), respectively, related to the write-off of damaged inventory and other associated costs in selling, general and administrative expenses (SG+A) in the Company’s consolidated statement of earnings. An insurance claim is in progress and proceeds are expected to be recorded as the claim progresses.

Unaudited Loblaw Segment Results

(CAD in millions except where otherwise indicated) Quarters Ended Years Ended
 For the periods ended as indicated December 31, 2016 December 31, 2015 Change December 31, 2016 December 31, 2015 Change
Sales CAD 11’130 CAD 10’865 2.4% CAD 46’385 CAD 45’394 2.2%
Operating income CAD 447 CAD 314 42.4% CAD 2’084 CAD 1’593 30.8%
Adjusted Ebitda(1) CAD 954 CAD 879 8.5% CAD 3’844 CAD 3’541 8.6%
Adjusted Ebitda margin(1) 8.6% 8.1% 8.3% 7.8%
Depreciation and amortization(i) CAD 365 CAD 376 (2.9)% CAD 1’543 CAD 1’592 (3.1)%

(i)Depreciation and amortization includes 124 million CAD (2015 – 124 million CAD) in the fourth quarter of 2016 and 535 million CAD (2015 – 536 million CAD) year-to-date of amortization of intangible assets acquired with Shoppers Drug Mart Corporation (Shoppers Drug Mart).

Sales, operating income and adjusted Ebitda(1) in the fourth quarter of 2016 included the impacts related to the franchises consolidated in the quarter, as set out in «Loblaw Other Business Matters».

Sales Loblaw sales in the fourth quarter of 2016 were 11’130 million CAD, an increase of 265 million CAD compared to the same period in 2015, primarily driven by Retail. Retail sales increased by 239 million CAD, or 2.3 percent, compared to the same period in 2015 and included food retail sales of 7’789 million CAD (2015 – 7’631 million CAD) and drug retail sales of 3’056 million (2015 – 2’975 million CAD).

Excluding the consolidation of franchises, Retail sales increased by 168 million CAD primarily driven by the following factors:

  • food retail same-store sales growth was 1.1 percent. The same-store sales growth includes the impact of retail promotional investments. Food retail same-store sales included the favourable impact of an extra selling day in the fourth quarter of 2016, due to the timing of New Year’s Day, of approximately 1.0 percent. Loblaw’s food retail average quarterly internal food price index declined and was slightly lower than the average quarterly national food price deflation of 2.3 percent as measured by «The Consumer Price Index for Food Purchased from Stores» (CPI). CPI does not necessarily reflect the effect of inflation on the specific mix of goods sold in Loblaw stores;
  • drug retail same-store sales growth was 3.4 percent, including same-store pharmacy sales growth of 2.5 percent and same-store front store sales growth of 4.1 percent. Drug retail same-store sales included the favourable impact of an extra selling day in the fourth quarter of 2016, due to the timing of New Year’s Day, of approximately 0.6 percent; and
  • in the last 12 months, Retail net square footage increased 0.3 million square feet, or 0.4 percent, primarily driven by new store openings, partially offset by Loblaw’s store closure plan announced in 2015 and completed in 2016.

Operating income Loblaw operating income in the fourth quarter of 2016 was 447 million CAD, an increase of 133 million CAD compared to the same period in 2015, primarily driven by the improvements in underlying operating performance of 86 million CAD and the favourable year-over-year net impact of certain adjusting items totaling 47 million CAD, as described below:

  • the improvements in underlying operating performance were primarily driven by Retail including higher sales with stable gross margins, lower SG+A, lower depreciation and amortization and the favourable impact of the consolidation of franchises; and
  • the favourable year-over-year net impact of certain Retail adjusting items totaling 47 million CAD was primarily due to:
    • the impairment of drug retail ancillary assets held for sale in the fourth quarter of 2015 of 112 million CAD;
    • the accelerated transition of certain Loblaw’s grocery stores to more cost effective and efficient Labour Agreements of 55 million CAD in the fourth quarter of 2015; and
    • a charge related to inventory measurement of 33 million CAD associated with the conversion of Loblaw’s franchised grocery stores to the new information technology (IT) systems in the fourth quarter of 2015;

partially offset by,

  • the unfavourable impact of asset impairments, net of recoveries, of 126 million CAD; and
  • the unfavourable impact of settlement charges related to pension annuities and buy-outs of 15 million CAD.

Adjusted Ebitda(1) Loblaw adjusted Ebitda(1) in the fourth quarter of 2016 was 954 million CAD, an increase of 75 million CAD compared to the same period in 2015, primarily driven by Retail. Retail adjusted Ebitda(1) was 889 million CAD, an increase of 66 million CAD driven by an increase in gross profit, partially offset by an increase in SG+A.

  • Retail gross profit percentage of 27.2 percent increased by 40 basis points compared to the fourth quarter of 2015. Excluding the consolidation of franchises, Retail gross profit percentage was 26.4 percent, a decrease of 20 basis points compared to the fourth quarter of 2015. The decrease in gross profit was driven by food retail promotional investments, partially offset by improvements in drug retail margins, due to strong front store performance, and improvements in shrink, driven by improved inventory management.
  • Retail SG+A as a percentage of sales was 19.0 percent, a decrease of 10 basis points compared to the fourth quarter of 2015. Excluding the consolidation of franchises, SG+A decreased 9 million CAD and as a percentage of sales was 18.4 percent, an improvement of 40 basis points compared to the fourth quarter of 2015, driven by the following factors:
    • lower store support costs;
    • the positive impact of Loblaw’s store closure plan announced in 2015 and completed in 2016; and
    • favourable year-over-year foreign exchange impacts;

partially offset by,

  • higher retail store costs as efficiencies achieved in retail stores were more than offset by an increase in financial support to franchises.

Loblaw adjusted Ebitda(1) in the fourth quarter of 2016 also included an increase in Financial Services adjusted Ebitda(1) of 5 million CAD, primarily driven by growth in credit card receivables and higher Mobile Shop sales, and an increase in Choice Properties adjusted Ebitda(1) of 4 million CAD, primarily due to the expansion of the portfolio through development of properties and an increase in base rent from existing properties.

Depreciation and Amortization Loblaw’s depreciation and amortization was 365 million CAD in the fourth quarter of 2016, a decrease of 11 million CAD compared to the same period in 2015. The decline in depreciation and amortization was primarily attributable to a change in the estimated useful life of certain equipment and fixtures in the second quarter of 2016.

Depreciation and amortization in the fourth quarter of 2016 included 124 million CAD (2015 – 124 million CAD) of amortization of intangible assets acquired with Shoppers Drug Mart.

Loblaw Other Business Matters

Impairment of Ancillary Healthcare Business In the fourth quarter of 2016, a Shoppers Drug Mart ancillary healthcare business was triggered for impairment testing due to impacts of Ontario healthcare reform implemented in the long term care industry. Loblaw recorded a charge of 88 million CAD related to the impairment of fixed assets of 15 million CAD and a customer relationship intangible asset of 73 million CAD.

Consolidation of Franchises  Loblaw has more than 500 franchise food retail stores in its network. As at year end 2016, 200 of these stores were consolidated for accounting purposes under a new, simplified franchise agreement (Franchise Agreement) implemented in 2015.

Loblaw will convert franchises to the Franchise Agreement as existing agreements expire, at the end of which all franchises will be consolidated. The following table presents the number of franchises consolidated in the fourth quarter of 2016 and year-to-date, and the total impact of the consolidation of franchises included in the consolidated results of the Company:

(unaudited) Quarters Ended Years Ended
(CAD in millions except where otherwise indicated) December 31, 2016 December 31, 2015 December 31, 2016 December 31, 2015
Number of Consolidated Franchise stores,
beginning of period 165 43 85
Add: Number of Consolidated Franchise stores
in the period 35 42 115 85
Number of Consolidated Franchise stores, end
of period 200 85 200 85
Sales CAD 99 CAD 28 CAD 363 CAD 56
Operating income (loss) 21 (7) (1) (17)
Adjusted Ebitda(1) 27 (4) 20 (12)
Depreciation and amortization 6 3 21 5
Net earnings (loss) attributable to
Non-Controlling Interest 28 (4) 7 (9)

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Operating income included in the table above does not significantly impact net earnings available to common shareholders of the Company as this amount is largely attributable to Non-Controlling Interests.

Loblaw expects that the estimated impact in 2017 of new and current consolidated franchises will be revenue of approximately 680 million CAD, adjusted Ebitda(1) of approximately 55 million CAD, depreciation and amortization of approximately 45 million CAD and net earnings attributable to Non-Controlling Interests of approximately 10 million CAD.

Outlook(2)

Weston Foods expects sales growth generated by incremental capacity and productivity improvements to drive an increase in adjusted Ebitda(1) in 2017 when compared to 2016. However, this improvement will be partially offset by a challenging environment in our Canadian fresh bakery business and incremental investments required to meet new more stringent regulatory requirements in food safety and labelling. The increase in adjusted Ebitda(1) is expected to be greater in the second half of the year. Management expects to make capital investments of approximately 250 million CAD in 2017 related to growth, regulatory and maintenance. Depreciation is projected to increase in 2017 when compared to 2016, and more than offset the improvement in adjusted Ebitda(1).

Loblaw remains focused on its strategic framework, delivering the best in food, best in health and beauty, operational excellence and growth. This framework is supported by a financial plan of maintaining a stable trading environment that targets positive same-store sales and stable gross margin, surfacing efficiencies to deliver operating leverage, and returning capital to shareholders. In 2017, on a full year comparative basis, despite the current deflationary environment, Loblaw expects to:

  • deliver positive same-store sales and stable gross margin in its Retail segment in a highly competitive grocery market with continued negative pressure from healthcare reform;
  • grow adjusted net earnings(1);
  • invest approximately 1.3 billion CAD in capital expenditures, including 1.0 billion CAD in its Retail segment; and
  • return capital to shareholders by allocating a significant portion of free cash flow to share repurchases.

For 2017, the Company expects growth in net earnings to be driven by an increase in net earnings at Loblaw, and the positive impact of the Company’s increased ownership in Loblaw as a result of Loblaw’s share repurchases.

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