Weston Foods: expects decline in operating income 2015

Toronto / CA. (gwl) George Weston Limited announced its consolidated unaudited results for the 13 weeks ended December 31, 2014 and the release of its 2014 Annual Report. The Company´s fourth quarter 2014 results include the results of Shoppers Drug Mart Corporation as well as the associated acquisition-related accounting adjustments.

As a result of the Company´s reporting calendar, the fourth quarter and full year 2014 include an extra (53rd) week of operations compared to 2013.

«2014 was a year of transformation for George Weston Limited as we continued to grow and evolve our portfolio of businesses and strengthen our competitive position. Loblaw´s acquisition of Shoppers Drug Mart creates a unique retail footprint while providing customers best-in-class food and health and wellness offerings along with the combined Company´s trusted and most recognized brands, while focusing on convenience and value», said W. Galen Weston, Executive Chairman, George Weston Limited.

2014 Fourth Quarter Highlights

  • Sales of 11’734 million CAD, an increase of 3’815 million CAD or 48.2 percent.
  • Adjusted Ebitda of 1’022 million CAD, an increase of 468 million CAD or 84.5 percent.
  • Adjusted operating income of 736 million CAD, an increase of 393 million CAD or 114.6 percent.
  • Adjusted basic net earnings per common share of 1.58 CAD, an increase of 0.60 CAD or 61.2 percent.
  • Free cash flow of 504 million CAD for the fourth quarter and 1’033 million CAD for full year 2014.

Pavi Binning, President, George Weston Limited, commented that «We are pleased with George Weston Limited´s fourth quarter results. Loblaw delivered strong financial and operating performance in both core grocery and pharmacy despite a highly competitive retail environment. Weston Foods delivered volume growth across all business units. Financial performance was comparable with the fourth quarter of 2013 which was in-line with expectations. Loblaw and Weston Foods will continue to execute on their respective strategies in 2015 to drive sustainable, long term growth and profitability».

GWL´s fourth quarter 2014 adjusted basic net earnings per common share increased to 1.58 CAD from 0.98 CAD in the same period in 2013. The improvement of 0.60 CAD was primarily due to an increase in Loblaw Companies Limited earnings net of the dilution in the Company´s ownership as a result of shares issued by Loblaw to acquire Shoppers Drug Mart. Loblaw earnings were positively impacted in the fourth quarter of 2014 by Shoppers Drug Mart results, partially offset by higher interest expense driven by the financing associated with the acquisition of Shoppers Drug Mart and a higher adjusted income tax rate.

Basic net earnings per common share decreased by 0.13 CAD to 1.18 CAD compared to the same period in 2013, and were impacted by the following significant items:

  • the unfavourable year-over-year impact of the fair value adjustment of the forward sale agreement for 9.6 million Loblaw common shares of 93 million CAD (0.56 CAD per common share);
  • the amortization of the acquired Shoppers Drug Mart intangible assets of 124 million CAD (0.33 CAD per common share);
  • the negative impact of the recognition of the fair value increment on the acquired Shoppers Drug Mart inventory sold of 69 million CAD (0.17 CAD per common share); partially offset by
  • the favourable year-over-year impact of the restructuring of franchise fees of 40 million CAD (0.11 CAD per common share).

Reportable Operating Segments – Weston Foods

Sales: Weston Foods sales for the fourth quarter of 2014 were 469 million CAD, an increase of 56 million CAD or 13.6 percent compared to the same period in 2013. Foreign currency translation and the 53rd week positively impacted sales by approximately 4.1 percent and 7.3 percent, respectively. Excluding the impact of foreign currency translation and the 53rd week, sales increased by 2.2 percent due to an increase in volumes across all business units, partially offset by the combined negative impact of pricing and changes in sales mix.

Ebitda: Weston Foods Ebitda in the fourth quarter of 2014 increased by 35 million CAD to 91 million CAD compared to the same period in 2013. The increase was primarily driven by insurance proceeds relating to a prior quarter inventory loss in the net amount of twelve million CAD and the year-over-year favourable impact of the fair value adjustment of commodity derivatives of eleven million CAD. In addition, the increase was due to an improvement in underlying operating performance described below.

Adjusted Ebitda in the fourth quarter of 2014 was 74 million CAD, an increase of seven million CAD compared to the same period in 2013. Adjusted Ebitda margin for 2014 decreased by 0.4 percent compared to the same period in 2013. The increase in adjusted Ebitda in the fourth quarter of 2014 was primarily due to the positive impact of the 53rd week of six million CAD. Excluding the 53rd week, adjusted Ebitda was relatively flat as higher volumes were offset by new plant costs.

Operating Income: Weston Foods operating income for the fourth quarter of 2014 was 74 million CAD, an increase of 34 million CAD compared to the same period in 2013 and was positively impacted by the items described above in Ebitda.

Adjusted operating income was 57 million CAD in the fourth quarter of 2014, an increase of five million CAD compared to the same period in 2013, driven by the increase in adjusted Ebitda described above, partially offset by the increase in depreciation and amortization in the fourth quarter of 2014 of two million CAD due to the investments in capital.

Reportable Operating Segments – Loblaw

Sales: Loblaw sales in the fourth quarter of 2014 were 11.4 billion CAD, an increase of 3.8 billion CAD compared to the same period in 2013, and included 3.1 billion CAD in sales related to Shoppers Drug Mart. Excluding Shoppers Drug Mart and the 53rd week sales of 574 million CAD, Retail sales increased 117 million CAD and same-store sales growth for core grocery was 2.4 percent (2013 – 0.6 percent). Loblaw´s average quarterly internal food price index was slightly higher than (2013 – lower than) the average quarterly national food price inflation of 3.5 percent (2013 – 0.9 percent) as measured by «The Consumer Price Index for Food Purchased from Stores». In the last twelve months, corporate and franchise store square footage remained flat.

Gross Profit: Loblaw´s Retail gross profit increased by 1’300 million CAD to 2’925 million CAD in the fourth quarter of 2014 from 1’625 million CAD in the same period in 2013. The increase included:

  • 1’221 million CAD of gross profit generated by Shoppers Drug Mart; partially offset by
  • the negative impact of the recognition of the fair value increment on the acquired Shoppers Drug Mart inventory sold of 69 million CAD.

Excluding the above impacts, Retail gross profit increased by 148 million CAD to 1’773 million CAD in the fourth quarter of 2014 compared to the same period in 2013, driven by higher sales, including the 53rd week. Retail gross profit percentage remained flat at 21.9 percent compared to 2013, and was positively impacted by synergies related to the acquisition of Shoppers Drug Mart and reductions in transportation costs and was negatively impacted by increased shrink.

Ebitda: Loblaw Ebitda was 898 million CAD in the fourth quarter of 2014, an increase of 408 million CAD, and was negatively impacted by a number of items, including certain items relating to the acquisition of Shoppers Drug Mart, partially offset by the restructuring of franchise fees of 40 million CAD. For a complete list of items that impacted Ebitda but that are excluded from adjusted Ebitda.

Loblaw adjusted Ebitda was 948 million CAD in the fourth quarter of 2014, an increase of 461 million CAD compared to the same period in 2013, and included 352 million CAD of adjusted Ebitda related to Shoppers Drug Mart. Excluding Shoppers Drug Mart, adjusted Ebitda increased by 109 million CAD, primarily driven by Retail including the 53rd week and net synergies. Excluding Shoppers Drug Mart, the 53rd week and net synergies, the improvement in Retail adjusted Ebitda was driven by the increase in gross profit described above, supply chain efficiencies, changes in the fair value of Loblaw´s franchise investments and lower administrative and other operating costs, partially offset by higher foreign exchange losses and higher investments in Loblaw´s franchise business. Excluding Shoppers Drug Mart, adjusted Ebitda margin was 7.1 percent compared to 6.4 percent in the same period in 2013.

Operating Income: Loblaw operating income increased by 211 million CAD to 505 million CAD compared to the fourth quarter of 2013, and was negatively impacted by the items described above in Ebitda and the amortization of intangible assets acquired with Shoppers Drug Mart. For a complete list of items which impacted operating income but that are excluded from adjusted operating income.

Adjusted operating income was 679 million CAD in the fourth quarter of 2014, an increase of 388 million CAD compared to the same period in 2013, and included 290 million CAD of adjusted operating income related to Shoppers Drug Mart. Excluding Shoppers Drug Mart, adjusted operating income increased by 98 million CAD and was positively impacted by the improvement in adjusted Ebitda as described above, partially offset by an increase in depreciation and amortization of eleven million CAD.

Net Interest Expense And Other Financing Charges

In the fourth quarter of 2014, net interest expense and other financing charges increased by 125 million CAD to 231 million CAD compared to the same period in 2013, and included the unfavourable year-over-year impact of the fair value adjustment of the forward sale agreement for 9.6 million Loblaw common shares, as well as a number of other items. For a complete list of the items that impacted net interest expense and other financing charges but that are excluded from adjusted net interest expense and other financing charges.

Adjusted net interest expense and other financing charges in the fourth quarter of 2014 increased by 51 million CAD, driven by higher interest on long term debt, primarily as a result of debt incurred by Loblaw to finance its acquisition of Shoppers Drug Mart.

Income Taxes

Income tax expense for the fourth quarter of 2014 was 95 million CAD and the effective income tax rate was 24.3 percent. Income tax expense for the fourth quarter of 2013 was 51 million CAD and the effective income tax rate was 18.9 percent, which reflects an increase in certain non-taxable amounts. The adjusted income tax expense for the fourth quarter of 2014 was 155 million CAD and the adjusted tax rate was 26.6 percent. The adjusted income tax expense for the fourth quarter of 2013 was 45 million CAD and the adjusted tax rate was 18.7 percent, which reflects an increase in certain non-taxable amounts.

Adjusted Debt

The Company´s adjusted debt increased significantly in 2014 as a result of Loblaw´s acquisition of Shoppers Drug Mart. On closing of the acquisition, adjusted debt was 12.1 billion CAD. The Company made significant progress in meeting its debt reduction target and decreased adjusted debt by approximately 400 million CAD in the fourth quarter of 2014 and 700 million CAD since the closing of the acquisition, resulting in an adjusted debt balance of 11.4 billion CAD as at December 31, 2014. The reduction in adjusted debt since closing included the repayment of a 350 million CAD medium term note (MTN) at maturity and repayments under the unsecured term loan facility (net of Choice Properties Real Estate Investment Trust´s (Choice Properties) notes issued to third parties), partially offset by the issuance of a 200 million CAD MTN and other indebtedness.

Free Cash Flow

The Company´s free cash flow increased by 149 million CAD to 504 million CAD in the fourth quarter of 2014. The year-over-year increase in the fourth quarter of 2014 was primarily due to higher cash earnings driven by Shoppers Drug Mart, partially offset by increased capital investments as well as higher interest payments.

Acquisition Of Shoppers Drug Mart Corporation

In the fourth quarter of 2014, Loblaw realized net synergies of approximately 49 million CAD generated primarily from improved cost of inventories sold and from purchasing efficiencies in goods not for resale. The net synergies realized, year-to-date, were 101 million CAD. Loblaw continues to expect to achieve annualized synergies of 300 million CAD in the third full year following the close of the acquisition of Shoppers Drug Mart (net of related costs).

Pursuant to a Consent Agreement reached with the Competition Bureau in 2014, Loblaw was required to divest 16 Shoppers Drug Mart stores, two franchise grocery stores and nine in-store pharmacy operations.

In the fourth quarter of 2014, eleven Shoppers Drug Mart stores were sold which resulted in a divestiture loss of 14 million CAD to Loblaw recorded in operating income. On a year-to-date basis, two franchise grocery stores and 13 Shoppers Drug Mart stores were sold, and nine in-store pharmacies were licensed to unrelated parties which resulted in a net divestiture loss of twelve million CAD to Loblaw recorded in operating income. The final three Shoppers Drug Mart stores were approved for sale by the Competition Bureau and were sold subsequent to the end of 2014 for estimated proceeds of nine million CAD.

As a result of the acquisition, GWL´s ownership interest in Loblaw decreased from approximately 63 percent to approximately 46 percent. The Company remains the controlling shareholder and continues to consolidate Loblaw.

Outlook

This outlook reflects the underlying operating performance of the Company´s reportable operating segments as discussed below.

Weston Foods expects a decline in adjusted operating income in 2015 that is greater than that experienced in 2014 on an equivalent 52-week basis. Management remains committed to continuing to drive long term financial performance in Weston Foods and expects to make capital investments of approximately 300 million CAD in targeted areas of growth as well as incremental investments in innovation and capabilities. The costs associated with this level of capital and other investments as well as higher input costs will be partially offset by pricing, volume growth and productivity. The decline in adjusted operating income is expected to be greater in the first half of the year.

Loblaw´s strategic framework is focused on delivering the best in food, best in health and beauty, operational excellence and growth. This strategic framework is supported by a financial strategy of maintaining a stable trading environment which targets positive same-store sales and stable gross margin; surfacing efficiencies; delivering synergies as a result of its acquisition of Shoppers Drug Mart; and deleveraging the balance sheet.

On a full year comparative basis, reflecting 2014 financial results for Loblaw and Shoppers Drug Mart, in 2015 Loblaw expects to:

  • maintain positive same-store sales and stable gross margin (excluding synergies) in its Retail segment;
  • achieve net synergies as result of the acquisition of Shoppers Drug Mart approaching 200 million CAD;
  • continue to drive net efficiencies across the core grocery business by achieving reductions in supply chain, administrative functions and information technology (IT), while still investing in key areas, like eCommerce;
  • grow adjusted operating income in its core grocery business, excluding synergies;
  • experience a decline in adjusted operating income in its core pharmacy business, excluding synergies, as a result of investments in key projects and other factors;
  • grow consolidated adjusted net earnings (including synergies) relative to 2014, with adjusted basic net earnings per common share being moderated due to a significantly increased weighted average share count;
  • target a capital expenditure program of approximately 1.2 billion CAD; and
  • remain on track with its deleveraging targets, expecting to meet its target in the first quarter of 2016.

Loblaw´s expectations for 2015 also include the following:

  • competitive intensity expected to remain high, but relatively stable as industry square footage growth in supermarket-type merchandise moderates; and
  • continued pressure in its pharmacy business from the ongoing impact of healthcare reform.