Flowers Foods, Inc.

Good day and thank you for standing by. Welcome to the Flowers Foods first quarter 2023 results conference call. Please be advised that today's event is being recorded. I would now like to hand the conference over to your speaker today, J.T. Rick, Executive Vice President of Finance and Investor Relations. Please go ahead.

Thank you, Shannon, and good morning. I hope everyone had the opportunity to review our earnings release, listen to our prepared remarks, and view the slide presentation that were all posted yesterday evening on our investor relations website. After today's Q&A session, we will also post an audio replay of this call. Please note that in this Q&A session, we may make forward-looking statements about the company's performance. Although we believe these statements to be reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially. In addition to what you hear in these remarks, important factors relating to Flowers Foods business are fully detailed in our SEC filings. We also provide non-GAAP financial managers for which disclosure and reconciliations are provided in the earnings release and at the end of the slide presentation and on our website. Joining me today are Riles McMullen, President and CEO, and Steve Kinsey, our CFO. Riles, I'll turn it over to you.

Okay. Thanks, JT. Good morning, everybody. Thanks for joining the call. Our results this quarter reflect the strength of our leading brands and the dedication of our Flowers team, and I do want to thank them for their hard work. It was instrumental in helping us drive record quarterly sales. We did face difficult year-over-year comparisons in the quarter due to a strong impact from the Omicron surge early last year and by some storm activity during the same time period. The macroeconomic environment remains challenging, with inflation pressuring consumer demand and input costs And demand patterns continue to shift as the impact of the pandemic wanes. We adjusted our 2023 financial guidance to reflect those factors. But we believe the current environment is temporary, and we are focused on positioning ourselves for long-term success. Our investments in innovation, including the exciting nationwide launch of the DKB snack bars and digital and supply chain initiatives, are designed to enhance our competitive position. Some of these initiatives may impact near-term results, but they are crucial for enabling our growth plans. I'm excited about our prospects, and I've really never been more confident in our ability to grow shareholder value over time. So with that, Shannon, we are ready to take questions.

Thank you. To ask a question, please press star 1-1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1-1 again. Please stand by while we compile the Q&A roster. Our first question comes from the line of Steve Powers with Deutsche Bank. Your line is now open.

Hey, thanks, and good morning, everybody. I guess picking up on those opening comments, just how much of the sort of temporary transitory nature of the headwinds that you're seeing do you expect to improve within this year? I guess that wasn't clear from from your prepared remarks last night. In other words, are you assuming that things get better, is it temporary within the year, or is it temporary over a longer period of time?

Yeah, Steve, I appreciate the question. Look, we are likely being a little bit conservative with the guidance, just given the soft start to the year. We felt it just most prudent to do that at this time. However, what we did see towards the end of the quarter was some pretty meaningful improvement And by that, I mean, you know, our branded retail units turned flat to positive in several of the last weeks of the quarter. And at the same time, private label share gains really started to come down. You know, when we started off the year, I think in the first period of the year, we saw private label gain the most unit share that we've seen during this whole, you know, trade down situation, gained 120 basis points. By the end of the quarter, it was 50. So we are starting to see that come down. It is still a tale of two channels in the sense that we're not seeing the same dynamics in grocery that we're seeing in mass. Most of the private label activity has been concentrated in mass. So that's a continuation of what we've talked about in prior quarters. So as to exactly when it's gonna happen, that's a little bit difficult to predict, but I do have at least some hope at this point that things already look like they're beginning to get better. But for the time being, we've decided to be conservative.

Okay. So I guess that's – so, you know, the soft start you called out, you know, in the year, I guess, I mean, it's evident in the data. And I guess what I'm trying to reconcile is it seems like that would have been evident also, you know, to you when you guided in early February. Things are getting better towards the end of the quarter. So what got worse? is my question.

Well, yeah, fair enough. The start to the year was softer than we expected out of the gate. And it was significant enough to make us perhaps be a little bit more cautious about the health of the consumer than we were at the start of the year. I mean, we knew it was going to be a challenging year, right? We said that. But given the really soft start, it turned out to be a little more challenging than we anticipated. Hopefully that helps.

Okay. And I'll pass it on in a second. But Just one more question, if I could. You called out the temporary imbalance between capacity and production as a result of the softer start. Can you elaborate a little bit on that in terms of what the implications are from a financial perspective and then just the timeline you expect from resolution through the supply chain optimization work?

Yeah, sure. I mean, we're not going to quantify it, but I want to make it clear, too, that The imbalance was certainly a factor in the quarter. It is definitely not the factor. The factor is the consumer and the softness in the category. So I just want to be very clear about that. But we try to be transparent with you guys and give you as complete of a picture as we can as to what's going on, good, bad, or indifferent with the company. And when we talk about our portfolio strategy and we've talked about – not really so much the skew rationalization, that's kind of a common ongoing thing, but more of the business exits where we have elected to exit certain lines of business that were marginally profitable and really didn't have a chance to ever really meet our profitability thresholds through pricing or efficiencies or whatever. Those types of exits are what I'm referring to. Typically, those pieces of business do contribute at least a little bit of something to the business, right? So you're going to have a little bit of stranded costs when you exit those pieces of business. Now, over time, as we've talked a lot about network optimization over time, that's where that comes into play. And once again, you've seen us do this. You've seen us, you know, we exited the Phoenix Bakery recently, but we've also converted facilities to organic production, you know, all brand, that type of thing. That's what will take care of that, in addition to brain and growth over time, will take care of that imbalance.

Okay. Okay. Thanks, Riles. Appreciate it, everybody. Thank you.

Sure. My pleasure.

Thank you. Our next question comes from the line of Bill Chappell with Truist Securities. Your line is now open.

Hey, good morning. This is Stephen Lango off for Bill Chappell. Thank you for taking our question. Can you guys give us some more color regarding the price gap dynamics following another pricing round? How have the mass retailers reacted to additional pricing? Is it kind of fair to assume that maybe the gaps have started to rewiden and you might need some time to catch up? Any color there would be super helpful.

Yeah, so if you recall, last year when we implemented pricing, the gaps between brand and private label did widen. You know, some retailers were holding their retail prices down. And I believe it was late in the year or early this year, the gap started to narrow as the private label retails came back up. We have recently taken some additional branded pricing that goes into effect this month. So there could be a much smaller increase in the gap because our branded price increases this round were quite a bit smaller than what we've done the last few rounds. So that could... widen the gap temporarily, at least for a while, but it's too early to say because the pricing just went in, so we haven't seen the data yet.

Got it. Understood. Thank you. And thank you for some of the color on the DKB launch. It seems like you have to make some real progress there. Can you kind of share some high-level thoughts on how you're performing versus maybe your internal expectations?

Yeah. No, we're still really excited about it. We're in about 6,000 stores now, so call it roughly halfway to where we want to be by the end of the year. As far as us entering the retailers that we expected to, we're largely on track there. As far as the performance goes, where the bars have been in the market the longest, we're doing really, really well. Where we're newer, it's a little bit lower, but you expect that. We had... Just in one retailer in particular, we had a few executional issues just on the front end. We're getting all that taken care of, so those numbers are already starting to track better. So all in all, we're in a really good position and super excited about where we're headed with the bars.

Awesome. Thank you very much, and I'll pass it on. Thank you.

Thank you. Our next question comes from the line of Robert Dickerson with Jefferies LLC. Your line is now open.

Great. Thanks so much. A couple questions. I guess kind of, you know, first question is just, you know, with respect to that incremental pricing that's coming through, I know that was already discussed previously, just kind of where you're seeing the share trends as you're entering or sorry, as you're exiting the quarter. You know, is there a scenario that plays out such that, you know, maybe you do need to promote a little bit more? Because I know, Raul, as you've said, historically, right, it's not a very heavily promoted category. But at the same time, you know, at some point, volume growth, you know, should matter. So I'm just kind of curious how you think about that right now.

Yeah, absolutely. So, Rob, the branded pricing issue. just went in, so we can't really see any impacts from that just yet. I will tell you, we promoted a little bit more in the quarter. It wasn't terribly significant, but we did pick up a little bit as far as our activity went to your direct point. I know that particularly if you think about elasticities with our business, set the category softness aside for a second. we're still performing very, very well against our elasticity models. We're outperforming virtually everything. Now, when you look at something like Tasty Cake, for example, where we don't have a stronger brand, we've had more elasticies there and have had to promote a little bit more from that standpoint, but that probably wouldn't be a surprise to anybody. But overall, once again, we've seen some pockets of competitive activity from our competitors in the category. And our promotional level did pick up just a little bit in the category. But as of yet, Rob, I wouldn't call out anything terribly meaningful. I think we've got to continue, to your point, continue to watch the volume trends. Once again, they did start to get better, and we actually saw unit increases towards the end of the quarter. So that gives me a little bit of confidence. I just don't have enough of a trend line yet because it happened right at the end of the quarter to call it a long-term trend just yet. So once again, that's why we're a little bit conservative.

with the guidance got it got it okay and then I guess just you know questions around input costs kind of where you know the grain markets have gone how that could potentially benefit you anything in the prepared remarks you said you know there could be some kind of back half benefit but you know not really stating that there will be looks like you're 80% covered for the year Um, and then, you know, previously it's probably about flat gross margin. So just kind of wrapping all that in, you know, gross margin was down kind of as expected, maybe a little bit more in Q1. Um, guide comes down a little bit on EBITDA, which I'm assuming is gross margin driven, um, while at the same time grains deflated. So I would assume at some point that does become a benefit, but I don't know if you're being conservative because maybe you need to kind of reinvest some of that back in. So, lot in there, but just trying to get a gauge as to how the year could play out, right, in terms of gross margin. Thanks.

I mean, the reality is, overall, we expect inflation throughout the whole year. I mean, the first half is definitely our toughest comp because we had pretty favorable hedges coming into the year last year, and then obviously the inflationary environment around wheat really didn't begin to ramp until kind of early first half and we would have been covered for most of that period last year. Looking to the full year and thinking about cadence, obviously the first half is the toughest back half. Like I said, we still expect inflation. A lot of it is driven by other buckets other than flour across the input bucket. Sugar's up. Gluten is up pretty significantly and we use quite a bit of gluten typically because of protein quality within the wheat we're also seeing the yeast is up, honey, several other smaller, minor ingredients. So while we do expect better and easier, better comps in the back half, we are expecting an inflationary environment throughout the whole year.

Okay, got it. Fair enough. It's helpful. And then, you know, look, I know it's not really your style, so to speak, to kind of speak to to the next quarter, right, a quarterly guide. But I am kind of curious, you know, maybe kind of in more general terms, you know, we saw this EBITDA step down in Q1, you know, is there any way you can frame it so we kind of understand a little bit of the cadence as it gets through the year? Like, we'll probably, again, see, you know, more of a step down in Q2 relative to,

know what we would expect in the back half um just thinking about kind of the midpoint of the updated guide that's it thanks so much yeah i mean obviously i mean you're right we don't give quarterly guidance so you know when you think about the annual guidance that we've given from an eva dot perspective you know again we do think comps get easier in the back half and Overall, from a kind of cadence perspective, hopefully, as Ryle said, too, we're seeing improvement across markets coming out of the first quarter. So not speaking specifically to any quarter, I think we should come in kind of in line with some of the comments you've made and expectations.

All right. Great. Thank you, guys. Appreciate it. Thanks, Ryle.

Thank you. Our next question comes from the line of Mitchell Pinero with Sturdivant and Company. Your line is now open.

Hey, good morning. So, you know, why do you think the environment is transitory and not, you know, and I don't know what transitory means, like is it, you know, quarter, two quarters, or is transitory, it's, you know, shorter than that, but You know, the environment looks pressured and looks pressured for longer, at least in our view. So why do you see it as transitory?

Yeah, Mitch, I think the transitory to me means temporary, right? So I don't think that this is a permanent situation that we're in. There are a variety of competing factors out there. I mean, you read the same stuff that we do. Inflation continues to tick down. The job market looks pretty strong. So I can't say with any assurance exactly when things are going to turn, but I do believe that they will. And the reason I believe that is because eventually we're going to come out of this inflationary cycle. Presumably at some point you have a recovering consumer. And when you think about our business in particular and the trade down to private label, I firmly believe that the premiumization of the category is a long-term trend. I do believe that people will come back to differentiation. I do believe that people will come back to our top brands. That's why I believe that it's temporary. Now, is that two months? Is it six months? Is it nine months? Is it a year? I don't know that. But I do believe it will come back, and I think we'll be well positioned to take advantage of it when it does. Once again, we're keeping up our brand investments. We're keeping up our market activity. We're investing in the business. We're investing in our team. So we wouldn't be doing that if we believed that this was a permanent circumstance.

You talked about taking specific steps in the short term to mitigate. you know, some of these pressures. And I heard you said that you did step up promotion a little bit in the quarter, at the end of the quarter. What else are you doing in the short term here?

Well, obviously, you know, cost savings activities, I think we said in the prepared remarks, we're on track for our $20 to $30 million for this year. You know, all the investments that we're making in the bakeries from a digital standpoint, Baker in the Future in particular, which I'm excited to say is really starting to show some nice returns. It took it a while to gain some momentum, but once we got through the first period or so of this year, it's really started to come on strong. And that's going to be particularly meaningful this summer during the height of the summer bun season because we did not operate well last year. Though our financial results were good last year, we really struggled in the bakeries last year. So that is going to be a good comp for us coming up. coming up this year. You may also recall we had some of the packaging issues in the second quarter last year that we'll be comping as well. We don't have those issues this year. We're in great shape from a supply chain standpoint. So all of those factors together help to mitigate not only inflation, but just kind of the overall macro environment that we're facing today. Okay.

Thank you much. Thanks, Mitch.

Thank you. Our next question comes from the line of Connor Radigan with Consumer Edge. Your line is now open.

Good morning, guys. Thanks for the question. Hey, Connor. Yeah, so it seems like you guys are doing really well in groceries. The pressure really is just coming from the mass channel. And so I guess I'm trying to better understand the dynamics here. I mean, I suppose we can assume the more budget-conscious shopper is more likely to both trade down via channel and from brand to private label. But, you know, I guess if we think about the consumer's decision to make either jump, you know, I guess have you typically seen the consumer jump right from, say, you know, a nature's own low-income grocery to private label and mass, or has this been sort of a gradual waning? And I guess also for those consumers that have already made the jump, you know, how should we sort of think about bringing them back into the branded fold?

Yeah, exactly. I think to the last part of your question, it goes back to the brand investments. Frankly, no matter where they shop, whether they're shopping in mass, whether they're shopping in club, dollar, grocery, we have an omnichannel strategy. We look at all of those different channels. The dynamics are interesting, though, because you're right. Our grocery performance has far exceeded our performance in mass for a couple of reasons. One, you know, there's been a channel shift. So, you know, people across, frankly, across the income spectrum, quite interestingly, including, you know, higher income shoppers are looking for bargains, you know, given the environment that we face. So there has been, you know, a bit of that channel shift, you know, in the mass, in the club, you know, in the dollar stores and away from grocery. So that does play into it. However, you know, for those shoppers that are still, you know, in grocery, our performance has been really good. I mean, we were up, in unit share and grocery, and we were up across the board in every category, well, flat or up, across every category, subcategory rather. So it is an interesting dynamic, but I think to your point about how do you bring them back to brands if they've traded down to private label, I think you've got to keep them front and center. We've got to be spot on with our display execution. We have to put our marketing dollars in the right places, whether that's digital or TV or whatever. to keep these brands in front of people. And then I think it's also still about innovation. We're not slowing down our innovation just because of the environment we're facing. I think it's more important than ever now. And so whether that's in our core category, in terms of our keto loaf or our Hawaiian, these new items that we're putting out, or whether it's outside of our core category in terms of the bars, keeping these brands front and center for consumers is more important than ever today.

That was great. That was really helpful. And then also just a quick follow-up, too. So on Canyon, I think it's a prepared remark that you guys commented that the track data was kind of skewed just given the sort of mixed shift in club channels. And, yeah, I think you guys quantified about 80 bits of share losses but flat unit sales. I guess how are share trends looking when accounting for the club channel mixed shift? So the ultimate question is what, Connor? Sorry. I just kind of want to get a sense for how shared trends we're looking for Canyon when accounting for that club channel mix shift. I think in track channels, you guys said share was down about 80 bits, but I assume it would be better when you account for the club channel, that is.

It is. It is, yeah. So our internal data, we're still up. We've got every confidence in Canyon. It's proven to be one of the most inelastic brands that we have, which I guess makes sense given some of the dietary restrictions you know, dietary issues with folks and gluten allergies. But, yeah, we're still really excited about Canyon. It's doing quite well. And, frankly, you know, from an innovation standpoint, we're really excited as well. You know, obviously we started with DKB from an innovation standpoint just because it's a bigger category. But I think that we've got some really nice opportunities to innovate both inside and outside the core with Canyon as well.

All right, that was great. Thank you, Rob.

Okay, thank you. Thank you. Our next question comes from the line of Jim Solera with Stevens. Your line is now open.

Hi, guys. Good morning. Thanks for taking our question. To just follow up on the Canyon dynamic there a little bit, I believe in the prepared remarks you mentioned some dislocation just as you're doing some SCU-RAD and some product availability. Should we think about the canyon as you kind of have a limited amount of canyon product, you shift the distribution towards club, and as the production capacity kind of comes back online and moving forward, do you have a chance to refill the SKUs in the track channels, or should we think of those as gone?

No, no. When we... you know, it's a good news, bad news situation, right? Because we are a little bit strained with Canyon, but we're strained because it's grown so much. So once we get our capacity situation resolved, which we're obviously actively working on, you know, we expect to refill that space.

Okay. And then maybe more broadly, just across the branded portfolio, we talked about kind of the price gaps narrowing, obviously consumers strained right now, but As things hopefully ease as the year progresses, do you think that the consumer will just kind of gradually come back to branded, or are you going to need to have some additional push to pull that consumer back into the branded portfolio if they've shifted towards private label?

Yeah, that's a really good question, and I'll answer it in two parts. Frankly, it depends on what brand you're talking about. If you're talking about a brand like DKB, it has tremendous consumer pull, right? So you don't have to do as much to draw people back to Dave's because they want to come back to it naturally because it is so differentiated and high quality. Frankly, when you're talking about a brand like Nature's Own, yeah, you're probably going to need a little bit more push there, hence the marketing investments. That's why we're not stopping that. And we're not waiting for the consumer to get healthy before we start that marketing. We want to keep it front and center now so that they want to come back to us. So I do think it depends on which brand you're talking about. Some will take a little bit more pushing than others will, if that makes sense.

Yeah, yeah, absolutely. Should we think about from kind of the levers that you guys have to pull to bring them back? Is it more traditional marketing, you know, kind of just – making the consumer more aware or kind of highlighting the positives of the brand or is it promotion, you know, getting them to come back with an initial lower price point and then hoping that with the inertia as you pull the promotion off, they kind of stay in the branded portfolio?

Well, we certainly hope it's not the latter, right? I mean, but, you know, sometimes you have to pull that lever. But I go back to execution as well. you know, display execution in our category, off-shelf display execution is so important in our category. And, you know, sometimes that does come with a promotion to bring people back to the brand, but we've got to be, you know, we've got to be best in class in that regard. If we can do that, and I believe we can, when the consumer's ready, I think we're well positioned to win. So it's really, you know, you've got a toolbox of things, right? You've got marketing, you've got some, you know, hopefully limited promotions, you've got, you know, display execution, you've got Minimal out-of-stocks, minimizing your nil picks for e-commerce purposes. All these things are important. It's not just one thing. You've got to be really excellent at a mix of tools to be successful. Fortunately, from a promotional standpoint, as we've said before, we're so much better positioned now with the data that we have. So when we do run promotions, we're getting a good ROI on that promotion and not just doing it for the sake of doing it and driving a week's worth of unit volume. Got it.

And maybe if I could sneak in one more question. Just looking at DKB bar launch, I know we've still got a lot of opportunity to ramp that. For the kind of initial results that you guys are seeing, are there existing DKB buyers that are just expanding their buy rate and taking it into new categories? Or have you seen incremental buyers that maybe aren't a DKB bread buyer that will buy the bar and then obviously the hope that you kind of cross-pollinate that into the traditional bread category?

Yeah, it's both. This is why the opportunity for DKB is so interesting and so fun to think about going forward. I've talked about the household penetration for DKB many times in the past, and it's actually still quite low. Matter of fact, I was actually speaking with a recently retired chief marketing officer from a major CPG company that had never heard of DKB before. And this This is a person that's in the business of marketing. So it just goes to show you that as well as that brand is done, we still have a tremendous runway ahead of us, both with the core items and with the new consumers. So to answer your question, it's both. There are people that are discovering bars that may not even know that the bread exists and vice versa. And we're also doing some things from a shopper marketing standpoint to cross-pollinate that and encourage it more.

Okay, great. Thanks, guys. I'll pass it along. Thank you.

Thank you. I'm sure no further questions at this time. I'd like to hand the call back over to Riles McMillan for closing remarks.

Okay. I want to thank everybody for taking time today and joining us for questions. Thank you very much for your interest in our company. And as always, we look forward to speaking with you again next quarter. Take care.

This concludes today's conference call. Thank you for participating. You may now disconnect.