Oak Brook / IL. (thf) TreeHouse Foods Inc. reported third quarter GAAP earnings per fully diluted share of 0.65 USD compared to 0.65 USD reported for the third quarter of last year. The Company reported adjusted earnings per fully diluted share1 in the third quarter of 0.70 USD compared to 0.86 USD for the third quarter of last year, excluding the items described below.
The Company’s 2016 third quarter results included five items noted below that, in management’s judgment, affect the assessment of earnings. The first item was a 0.10 USD per share expense for restructuring and facility consolidation costs. The second item was a 0.08 USD per share expense for acquisition, integration, and related costs. The third item was a 0.02 USD per share expense for foreign currency losses on the re-measurement of intercompany notes. The fourth item was a 0.12 USD per share gain for mark-to-market adjustments. The final item was a 0.03 USD per share gain reflecting the tax impact of the aforementioned adjusting items.
Items Affecting Diluted EPS Comparability
| Three Months Ended | Nine Months Ended | |||||||
| September 30, | September 30, | |||||||
| 2016 | 2015 | 2016 | 2015 | |||||
| (unaudited) | (unaudited) | |||||||
| Diluted EPS per GAAP | USD 0.65 | USD 0.65 | USD 0.88 | USD 1.78 | ||||
| Restructuring/facility consolidation costs | 0.10 | – | 0.23 | 0.01 | ||||
| Acquisition, integration, and related costs | 0.08 | 0.07 | 0.90 | 0.11 | ||||
| Foreign currency loss (gain) on re-measurement of intercompany notes | 0.02 | 0.19 | (0.09) | 0.39 | ||||
| Mark-to-market adjustments | (0.12) | 0.05 | (0.07) | (0.01) | ||||
| Product recall costs | – | – | 0.27 | – | ||||
| Tax impact of adjusting items | (0.03) | (0.10) | (0.39) | (0.17) | ||||
| Adjusted Diluted EPS | USD 0.70 | USD 0.86 | USD 1.73 | USD 2.11 | ||||
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«The third quarter was a tale of two cities», said Sam K. Reed, Chairman and Chief Executive Officer. «Our legacy business continued to perform well, paced by Retail volume/mix growth of 4.6 percent and 80 basis points of direct operating income margin expansion. On the other hand, while the Private Brands business showed sequential improvement, its results fell short of our expectations for the quarter».
«We believe the underperformance of the Private Brands business is attributable to our all-encompassing efforts to smoothly integrate the operations of the new business. While we have made great progress in consolidating plants, stabilizing the workforce and reducing our reliance on the transition services, the shift in management attention led to less robust Private Brands sales than we experienced in the legacy organization», continued Reed. «We will be unveiling a new go-to-market sales structure to better align and focus our sales teams to drive new and consistent growth».
Net sales for the third quarter totaled 1’586.9 million USD compared to 798.6 million USD last year, an increase of 98.7 percent, due to the inclusion of business from the acquisition of the private brands operations of ConAgra Foods Inc. (Private Brands) and favorable volume/mix, primarily in the North American Retail Grocery segment, partially offset by lower pricing. Compared to the third quarter of last year, sales in the third quarter of 2016 for the North American Retail Grocery segment increased 118.5 percent; sales for the Food Away From Home segment increased 66.4 percent; and sales for the Industrial and Export segment increased 16.2 percent. During the second quarter of 2016, the Company announced a recall of certain products that impacted third quarter net sales by 0.1 million USD, which was not allocated to the segments. The Company expects to be fully indemnified for such amount.
Reported gross margins were 18.0 percent in the third quarter of 2016 compared to 19.9 percent in the third quarter of the prior year. The decrease in gross profit as a percent of net sales was due to lower margin products from the Private Brands acquisition, which contributed 200 bps toward the decline, partially offset by lower input costs and favorable sales mix. Included in gross margins for the third quarter was the impact of 1.2 million USD of costs related to restructuring activities and the product recall that began in the second quarter of 2016. These costs were insignificant in the prior year.
Selling and distribution expenses increased 57.3 million USD, or 127.6 percent in the third quarter of 2016 compared to 2015. This increase is primarily due to 59.7 million USD of incremental costs from the Private Brands business and additional investments in the sales force that were partially offset by favorable freight costs.
General and administrative expenses increased by 35.3 million USD in the third quarter of 2016 compared to 2015, of which 24.3 million USD pertains to continuing costs of the Private Brands business. Also contributing to the increase was 4.5 million USD of acquisition and integration costs in the third quarter of 2016 compared to 3.0 million USD in the prior year period. The remaining increase of 9.5 million USD was due to approximately 6.0 million USD in higher incentive compensation accruals compared to the prior year period and general growth of the business. In the third quarter of 2015, the Company reduced incentive compensation accruals due to operating results.
Amortization expense increased 13.7 million USD in the third quarter of 2016 compared to 2015, primarily due to the amortization of intangible assets from the acquisition.
Other operating expense in the third quarter of 2016 was 5.3 million USD, compared to 0.2 million USD in 2015. The increase was due to higher costs associated with restructurings that were announced in recent quarters with respect to the Company’s closure of the City of Industry, California; Ayer, Massachusetts;Azusa, California; and Ripon, Wisconsin facilities.
Net interest expense increased 20.0 million USD in the third quarter of 2016 compared to 2015, due to higher debt levels and higher interest rates from financing the acquisition.
The Company’s foreign currency impact was a 1.1 million USD gain for the third quarter of 2016, compared to a loss of 9.2 million USD in 2015, primarily due to fluctuations in currency exchange rates between the U.S. and Canadian Dollar during the respective quarters.
Other income was 4.6 million USD for the third quarter of 2016, compared to expense of 2.1 million USD in 2015. The change was due to non-cash mark-to-market adjustments on derivative contracts, primarily foreign currency contracts and interest rate swap agreements, offset by the write-off of the indemnification asset discussed below.
Income tax expense was recorded at an effective rate of 29.3 percent in the third quarter of 2016 compared to 29.4 percent in the prior year’s third quarter. During the third quarter of 2016, the Company’s effective tax rate was favorably impacted by the reversal of a 2.2 million USD tax reserve assumed in a prior acquisition. The Company also recognized 2.2 million USD of non-operating expense for the write-off of the related indemnification asset, which is included in Other (income) expense, net. Our effective tax rate may change from period to period based on recurring and non-recurring factors including the jurisdictional mix of earnings, enacted tax legislation, state income taxes, settlement of tax audits, and the expiration of the statute of limitations in relation to unrecognized tax benefits.
Net income for the third quarter of 2016 increased to 37.2 million USD, compared to 28.4 million USD in the previous year. The reasons for this increase are outlined in the individual line item discussion and analysis provided in the preceding paragraphs.
Adjusted Ebitda was 169.5 million USD in the third quarter of 2016, a 69.8 percent increase compared to the same period in the prior year. The increase in adjusted Ebitda this quarter was driven by the inclusion of operating income from the Private Brands acquisition and favorable commodity costs, partially offset by higher costs due to the growth of the Company and variable compensation. Adjusted Ebitda is a non-GAAP financial measure. See «Comparison of Adjusted Information to GAAP Information» below for the definition of adjusted Ebitda and a reconciliation of adjusted Ebitda to net income, the most comparable GAAP financial measure.
Fully diluted shares outstanding for the third quarter of 2016 increased to approximately 57.5 million shares compared to 43.7 million shares in the third quarter of 2015. The increase is primarily due to the impact of 13.3 million shares issued on January 26, 2016 in a public offering of the Company’s common stock, with the net proceeds of such offering used to partially fund the Private Brands acquisition.
Segment Results
The Company has three reportable segments:
- North American Retail Grocery – This segment sells branded and private label products to customers primarily within the United States and Canada. These products include non-dairy powdered creamers; sweeteners; condensed, ready to serve, and powdered soups, broths, and gravies; refrigerated and shelf stable salad dressings and sauces; mayonnaise; pickles and related products; Mexican, barbeque, and other sauces; table and flavored syrups; jams and pie fillings; aseptic products; liquid non-dairy creamer; powdered drinks; single serve hot beverages; specialty teas; ready-to-eat and hot cereals; baking and mix powders; macaroni and cheese; pasta; skillet dinners; in-store bakery products; refrigerated dough; retail griddle waffles, pancakes and French toast; cookies, crackers, pretzels, pita chips, and candy; snack nuts, bars, trail mixes, cereal snack mixes, fruit snacks, dried fruit, and other wholesome snacks.
- Food Away From Home – This segment sells non-dairy powdered creamers; sweeteners; pickles and related products; Mexican, barbeque, and other sauces; table and flavored syrups; refrigerated and shelf stable dressings; mayonnaise; aseptic products; ready-to-eat and hot cereals; pasta; retail bakery products; cookies, crackers, pretzels, and candy; snack nuts; fruit snacks; powdered drinks; and single serve hot beverages to foodservice customers, including restaurant chains and food distribution companies, within the United States and Canada.
- Industrial and Export – This segment includes the Company’s co-pack business and non-dairy powdered creamer sales to industrial customers for use in industrial applications, including products for repackaging in portion control packages and for use as ingredients by other food manufacturers. This segment primarily sells non-dairy powdered creamer; baking and mix powders; pickles and related products; refrigerated and shelf stable salad dressings; Mexican and barbeque sauces; aseptic products; soup and infant feeding products; ready-to-eat and hot cereals; powdered drinks; single serve hot beverages; specialty teas; pasta; retail griddle waffles, pancakes, and French toast; cookies, crackers, pretzels, and candy; snack nuts; bars; and other products. Export sales are primarily to industrial customers outside of North America.
The direct operating income for the Company’s segments is determined by deducting manufacturing costs from net sales and also deducting direct operating costs, such as freight to customers, commissions, and direct selling and marketing expenses. Indirect sales and administrative expenses, including restructuring charges and other corporate costs, are not allocated to the business segments as these costs are managed at the corporate level.
North American Retail Grocery net sales for the third quarter of 2016 increased 118.5 percent to 1’305.9 million USD from 597.8 million USD during the same quarter of the previous year, driven by a 115.5 percent increase due to the Private Brands acquisition and favorable volume/mix, partially offset by lower pricing. Volume/mix was favorable 4.6 percent, as higher volume/mix in single serve beverages (where the Company gained additional distribution), carton soup, and dressings were partially offset by lower volume/mix in pickles and non-dairy creamer. Direct operating income margin in the third quarter decreased 180 bps to 12.2 percent in 2016 from 14.0 percent in 2015. This decrease is primarily due to lower margin Private Brands business which contributed 210 bps to the decline, partially offset by lower commodity costs, improved sales mix, and lower freight rates.
Food Away From Home net sales for the third quarter of 2016 increased 66.4 percent to 157.4 million USD from 94.6 million USD during the same quarter of the previous year, driven by a 69.9 percent increase due to the Private Brands acquisition, which was partially offset by declines in both volume/mix and pricing. Volume/mix was unfavorable 1.8 percent, as increases in pickles were more than offset by declines in dressings and aseptic products, reflecting competitive pressure. Direct operating income margin in the third quarter decreased to 10.5 percent in 2016 from 13.6 percent in 2015, primarily due to the impact of lower margin products from the Private Brands acquisition (impact of 550 bps), which were partially offset by favorable input costs, favorable freight rates, and higher than normal prior year costs associated with the avian flu outbreak.
Industrial and Export net sales for the third quarter of 2016 increased 16.2 percent to 123.5 million USD from 106.3 million USD during the same quarter of the prior year, primarily driven by a 30.5 percent increase from the Private Brands acquisition, partially offset by unfavorable volume/mix. Volume/mix declined 14.1 percent as most product categories showed a year-over-year decline, led by soup, non-dairy creamer, and pickles. These declines were primarily due to competitive pressure. Direct operating income margin in the third quarter decreased to 13.3 percent in 2016, from 15.2 percent in 2015. The inclusion of lower margin business from the Private Brands acquisition contributed 400 bps to this decline. Partially offsetting the impact of the Private Brands acquisition was improved sales mix, favorable commodity prices, and lower freight rates.
Outlook
«We are lowering our full year 2016 earnings expectations due to the combination of lower than expected third quarter sales from the Private Brands business, along with our belief that fourth quarter Private Brands sales will fall short of our goal to stem its year-over-year sales declines», said Reed. «We do believe this is a short term situation. Our new go-to-market sales structure is designed to improve our ability to help customers merchandise and drive their private label programs. Our resumed focus on our products and customers in the fourth quarter will quickly restore our Company to our original expectations for the combined TreeHouse Foods business».
The Company expects fourth quarter GAAP and adjusted earnings to be in the range of 1.07 USD to 1.12 USD per fully diluted share. Because the Company cannot predict some of the items included in reported GAAP results, such as the impact of foreign exchange, the fourth quarter forecast for both GAAP and adjusted earnings are the same. Please refer to the «Comparison of Adjusted Information to GAAP Information» below for further detail. With regard to the full year, TreeHouse expects GAAP earnings to be in the range of 1.95 USD to 2.00 USD per fully diluted share and adjusted earnings to be in a range of 2.80 USD to 2.85 USD per fully diluted share. The difference between the high end and low end of the full year GAAP and non-GAAP guidance ranges is consistent with the 0.85 USD impact of adjusting items per fully diluted share for the nine months ended September 30, 2016, as outlined in the chart above.
