United Natural Foods, Inc.

Ladies and gentlemen, thank you for standing by and welcome to the UNFI fourth quarter fiscal 2020 earnings call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star 0. I would now like to hand the conference over to your speaker today. Steve Blomquist, Vice President, Investor Relations. Thank you. Please go ahead, sir.

Good morning, everyone. Thank you for joining us on UNFI's fourth quarter fiscal 2020 earnings conference call. By now, you should have received a copy of the earnings release issued yesterday afternoon. The press release, webcast, and the supplemental slide deck are available under the investor section of the company's website at www.unfi.com. Joining me for today's call are Steve Spinner, our Chairman and Chief Executive Officer, John Howard, our Chief Financial Officer, Chris Testa, President of UNFI, and Eric Dorn, our Chief Operating Officer. Steve, Chris, and John will provide a business update, after which we'll take your questions. Before we begin, I'd like to remind everyone that comments made by management during today's call may contain forward-looking statements. These forward-looking statements include plans, expectations, estimates, and projections that might involve significant risks and uncertainties. These risks are discussed in the company's earnings release and SEC filings. Actual results may differ materially from the results discussed in these forward-looking statements. And lastly, I'd like to point out that during today's call, management will refer to certain non-GAAP financial measures. Definitions and reconciliations to the most comparable GAAP financial measures are included in our press release. With that, I'll now turn the call over to Steve.

Thank you, Steve. Good morning, everyone, and thanks for joining us on our year-end call. As you saw, in addition to reporting our fourth quarter and fiscal year results, We also announced the succession plan for my role as CEO. I'll speak more about that shortly, but first, we'll discuss our fiscal 2020 results. We finished the fiscal year early last month, and it truly was a monumental year for UFI in many respects. Our financial results in the fourth quarter and for the year produced record sales and adjusted EBITDA, driven initially by the strength of our integration work and consumer demand driven by COVID, as well as UNFI's execution success. Fourth quarter sales grew 8%, while adjusted EBITDA grew 28%, resulting in a 50 basis point expansion in our adjusted EBITDA margin. This strong margin performance is a testament to the efficiency of our network, and our ability to generate operating leverage as we increase our top line. For the full year, we generated $284 million of free cash flow and reduced our net debt outstanding by nearly $390 million, exceeding our full-year debt reduction expectations. Our net debt to adjusted EBITDA leverage ratio finished the year at four times, about a full turn lower than at the end of last year. Now, these results wouldn't have been possible without the people and culture at UNFI. And I want to thank all UNFI associates for their outstanding focus and execution during what have been unprecedented times for our company and for our country. The passion and caring of our people and our company have been clearly demonstrated in recent months. During the early days of COVID, we proactively took action to manage the spike in demand from customers and consumers while prioritizing the health and well-being of our associates. As evidenced by our early response with heightened safety, sanitation protocols, and flexibility to our attendance and productivity policies. I'm so proud of our culture. Our response to communities in need, social injustice, diversity, and inclusion puts UNFI on the leading edge of continuing to do what's right. We have a strong diversified customer base from which we can grow sales. We have an unmatched distribution center network that we've shown can handle demand, capacity, and performance at scale. We've won new business from a variety of customers, including those who self-distribute to their stores, but recognize the value we can bring to their operations. And we believe we'll win more business going forward. Towards that goal, we've successfully hired several new leaders to further enable long-term success, including a new Chief Supply Chain Officer, a new CIO, and a new Chief Marketing Officer, all of which positions us well for the future. There is power in our scale, pride in our partnerships and people, and we have never been better positioned for future growth. We've delivered on our promise to transform the world of food throughout North America and build considerable momentum towards building a better future with better food. Let me now turn the call over to Chris to provide more context on our business performance.

Chris? Thanks, Steve, and good morning, everyone. It is my pleasure to join today's call to talk about key trends in our business, as well as the drivers that differentiate, unify, and give us confidence for long-term growth. I'll also provide brief comments on operations and our retail results. As you saw in yesterday's press release, we've changed our sales channel reporting. John will get into the details and rationale behind these changes that now focus on the size of the customer rather than the nature of the products purchased. But I'll comment on the performance of each channel in the quarter. Fourth quarter sales to chains. Our largest channel, accounting for about 40% of sales, totaled $2.7 billion, an increase of 6.9% over last year on a comparable 13-week basis. Our fourth quarter change growth rate includes a 270 basis point headwind from three customer bankruptcies that occurred in the second quarter of fiscal 20. Without that headwind, sales growth of chain customers would have been nearly 10%. Fourth quarter sales to independent retailers, our next largest channel, totaled $1.8 billion, accounting for about 26% of sales in the quarter. Independent retailer sales grew 11.4% compared to last year. Independents have benefited greatly during the past seven months, driven by a population migration from cities to suburbs and a growing consumer desire to shop in smaller footprint stores and support local businesses. Our third largest channel at 17% of sales in the fourth quarter is Supernatural and represents sales to our largest customer. Fourth quarter sales in this channel were $1.1 billion, 3.6% greater than last year. The growth in this quarter versus prior quarters is due in part to the impact of categories that have been adversely impacted by COVID, such as bulk and ingredients used for prepared foods. We expect our year-over-year sales to this customer to improve as we move through fiscal 2021. Sales within our other channel, which represents roughly 8% of our total revenue, were slightly more than $500 million, down 2.1% from last year. Strong growth in e-commerce sales, the fastest growing part of our business, were offset by anticipated declines in military and food service related to COVID. Finally, retail sales amounted to $640 million, which represents an identical or same store sales increase of over 21%. This reflects strong retail and e-com sales, particularly at Cub, who aggressively marketed its home delivery and click and collect services. both which led to year-over-year e-com sales growth rate in the triple digits. The retail team has done a great job protecting the safety of our 6,000-plus retail associates and our customers while making sure the stores are running as efficiently as possible. We are pleased with the performance from the retail operations and all the team does for its customers and its communities. Looking across all these channels, our top 100 wholesale customers grew sales by more than 12%. Our top 100 customers represent over 70% of our wholesale revenue, with an average annual purchases of at least $30 million. These customers are winning with UNFI. Part of our sales growth with the top 100 customers this quarter came from our cross-selling efforts, which we've talked about in previous calls. In fiscal 20, we realized over $250 million of cross-selling revenue, which meaningfully exceeded our goal. Customers have expressed a desire to expand their offerings, and we believe we have an unmatched selection of products and services to help them do so. Let me elaborate on the opportunities. Earlier this year, we added 1,500 to 3,500 top-selling natural and organic SKUs into our conventional distribution centers to help customers expand their offerings with on-trend products. Also, Professional Services Division made almost 1,000 new cross-selling wins into UniFi's natural customer base. As a reminder, our Professional Services Group offers turnkey retail and back-of-the-house solutions to help our customers run their businesses more efficiently. Finally, we're also using our diverse portfolio to help retailers keep their shelves full by replacing long-term out-of-stock items with alternative items that have plenty of inventory. And the good news is we're only getting started. That's cross-selling gains in fiscal 20 with a sum of many small wins, where we introduce new items or services that align with store offerings with consumer trends. Moving forward, we see greater growth opportunity within our existing customer base in displacing other wholesalers or supplementing captive distribution with UNIFI's unique ability to build out the store. Wholesale distribution remains fragmented, which means despite UNIFI's scale, we have tremendous opportunity to grow through cross-selling and expanding penetration just with our existing customers. Remember, freedom of food choice matters to our customers and their end consumers. And over the past seven months, our wholesale business proved the incredible power of scale we've built and the transformational service we provide to our partners. Another area of differentiation is e-commerce, where COVID has led to an unprecedented spike in demand for online grocery purchases. It is estimated that U.S. grocery purchases have hit e-com adoption rates that were not expected to be achieved in three years and just three months. And UNIFI has multiple ways to capitalize on these trends. First, we have several large dot-com providers as customers, and as their sales grow, our sales grow. We also have B2B businesses, Unify, Easy Options, and On a Screen, that sell grocery and wellness items direct to alternative channels, such as bakeries or fitness studios, that enjoy the flexibility of the program and our direct-to-door delivery. Finally, we have a well-established and growing turnkey program that allows traditional brick-and-mortar retailers to offer e-commerce buying solutions to their shoppers on a very similar platform used by our retail banners, Coven Shoppers. This includes website and phone app offerings, as well as leveraging our two-year relationship with leading e-commerce providers to receive preferred pricing for product selection and or delivery. As a proof of the success we're experiencing, since the beginning of COVID, we've added 300 storefronts to our e-commerce platform as many of our customers have asked us to help them with offering additional purchase options to their shoppers. Looking forward, we'll continue to leverage these business models in addition to expanding our e-comm revenue opportunities. Private brands represents another big opportunity for us. Leading into COVID, our private brands portfolio of over 5,000 SKUs across 20 brands generated over $2 billion of retail sales, which placed our private brands group at revenue levels equal to about the top 50 food and beverage companies. In the fourth quarter, our Brands Plus portfolio grew over 17%, and we believe there are sustainable trends that are going to continue to fuel growth, including an economic downturn where consumers are looking for value and quality, and the emergency consumer behavior of brand swapping. According to McKinsey, 36% of consumers tried a different brand since COVID, and 73% plan to continue this behavior. Our Brands Plus portfolio benefited from higher service level than national brands, which helped us capture consumers. We love these trends because they create loyalty for our customer stores, and they drive better margins for both you andify, as well as our retailers. We have an experienced team leading our brand's business, and we're planning on driving incremental future growth through product innovation and increasing penetration of our base business. In addition to looking at incremental sales opportunities with our customers, we're also aggressively pursuing new business. We use sophisticated CRM technology to track over 1,000 sales opportunities ranging in size and channel type from smaller independents to medium and large chains. Our diverse customer base and our unique ability to sell multiple channels is an incredible asset that we're just beginning to leverage. Switching gears to operations, we've now completed the Pacific Northwest consolidation of five distribution centers into two DCs in Ridgefield, Washington and Centralia, Washington. We will be adding automation to our Ridgefield location by the end of the fiscal year, and we have begun introducing automation in our new state-of-the-art Riverside facility in Southern California. Automation will be used primarily for each PIC technology. which will help us provide higher throughputs, better accuracy, and more efficiently service the Southern California and surrounding market that we believe has a great growth potential for UNFI. Our continued focus on managing costs balanced against the safety of our associates helped lower wholesale operating costs as a percentage of sales by nearly 35 basis points in the fourth quarter compared to last year. And we're optimistic we can realize the leverage of scale to continue to lower our OPEX rate. Going forward, we'll be placing a heavy emphasis on standardizing processes and using higher level data analytics to drive decision making and generate these incremental operating efficiencies. This is the next logical step in the transition we've previously spoken about, moving from integration to optimization. And it applies on both the revenue and the expense sides of the business. As Steve stated, the last two quarters have proven that we can leverage higher sales into expanded operating margins, even with headwinds from COVID-related costs. And finally, before I turn it over to John, I want to comment on our annual National Expo that we originally planned to host in person last month, but instead made into a virtual selling show. This is an event that historically drew thousands of customers and suppliers. It combined educational sessions with an unmatched buying show and networking capabilities. We were amazed with the participation levels at our virtual event this year and over $400 million in sales recorded at the show, a total that surpassed last year's in-person event as retailers wanted to take advantage of favorable buying opportunities and to secure inventory for the holiday season. I want to thank our suppliers and customers for such a great response. We truly appreciate the trust you place on us. Hopefully, we can all get together in person next year, but until that time, again, many thanks from all of us at UniFi. With that, I'll turn the call over to John.

Thank you, Chris. On today's call, I'll cover our fourth quarter financial performance, balance sheet, capital structure, and outlook for fiscal 2021. Before I do that, let me address two of the accounting and reporting changes reflected in our fourth quarter and full-year financial statements found in yesterday's press release. As we discussed on our last call, we've moved our retail operations into continuing operations. As a result, the retail sales, gross profit, and operating expenses from our retail operations will now be part of our Statement of Operations, or P&L. Previously, these retail items were included within the single line entitled income from discontinued operations net of tax. There is no change to adjusted EBITDA as a result. We'll begin depreciating the fixed assets of retail, which will add incremental expense to our GAAP and adjusted earnings, which I'll elaborate on more in a moment. We've also changed our sales channel reporting to better reflect the underlying nature of our customer base. Our new channel breakdown reflects the continued move away from natural and conventional towards one UNFI and present sales based on customer size defined by store count rather than the predominant nature of products carried, meaning natural versus conventional. Customers who typically operate more than 10 stores are now presented in our chains sale channel, and those with fewer than that are presented as independent retailers. The definition of our Supernatural channel has not changed, with Whole Foods remaining the only customer currently included in this channel. The definition of our other channel remains substantially unchanged as well. This is explained in more detail in footnote one of our press release. Lastly, as a reminder, we previously reported wholesale sales to Cub under the assumption that banner would be sold with a supply agreement. Now that we're presenting CUB's retail sales, those wholesale sales to CUB are now eliminated. With that accounting backdrop, let's move to the strong results we delivered in the fourth quarter. Net sales for the 13-week fourth quarter totaled $6.8 billion. This represents an 8% increase over last year's fourth quarter on a comparable 13-week basis. You'll recall last year's fourth quarter had an additional week as part of our 53-week fiscal 2019, and that week contributed approximately $475 million in sales to the quarter and fiscal year. Fourth quarter gross margin rate was approximately 41 basis points higher than last year's fourth quarter. The largest driver was our retail operations, where sales grew at a greater rate than wholesale and where lower levels of promotional spending drove a higher retail gross margin rate. These factors contributed 29 basis points to the consolidated gross margin rate. The remaining increase came from wholesale driven by favorable inbound freight expense and a lower year-over-year LIFO charge as inflation rates came in lower than we had anticipated. These items were partially offset by decreased levels of vendor funding and slotting income. Fourth quarter operating expense rate decreased 20 basis points compared to last year's fourth quarter. Our lower operating expense rate was driven by the benefits of our synergy and integration efforts, as well as strong leverage on the fixed portions of our operating and administrative costs. It is important to note that Q4 included $31 million or 45 basis points of COVID-related expenses to promote the health, welfare, and safety of our associates. Our strong sales increases, higher gross margin rate, and focused expense management translated into very strong profit performance. Fourth quarter adjusted EBITDA was $198 million, an increase of 28% versus last year's fourth quarter on a 13-week comparable basis. Similar to Q3, the expanded adjusted EBITDA margin rate clearly demonstrates our ability to handle higher volumes and efficiently leverage those sales into higher EBITDA margins. Fourth quarter net interest expense was $46 million, a decline of $9 million from last year on a comparable 13-week basis, driven by lower average debt balances and interest rates. The effective borrowing rate for the fourth quarter was approximately 6.6%, down 20 basis points from last year's fourth quarter, primarily attributable to lower LIBOR rates compared to last year. Q4 GAAP EPS was 89 cents per share, which included net charges of 17 cents per share as broken out in our press release. Fourth quarter adjusted EPS was $1.06 per share, a 205% increase from last year's fourth quarter adjusted EPS when excluding the additional week last year. Let me go back to the retail depreciation comment I made earlier and which you'll recall I previewed on our last call due to its impact being included in the updated fiscal 2020 guidance we gave in June. Without getting too technical, when a business is placed in discontinued operations, the assets related to that business are classified as assets held for sale, and depreciation on those assets is stopped. If that business is later moved from discontinued operations back into continuing operations, like we're doing with the majority of our retail business, The accounting rules require the company to calculate the depreciation of the assets going back to the date that the assets were originally categorized as held for sale and record a charge. For our retail business, that means that we must calculate depreciation going back to the end of Q1 of fiscal 2019 and include in this quarter's gap results the entire depreciation for those seven subsequent quarters. This amounts to $50 million, or approximately 71 cents per share, when spread across the two fiscal years. This quarter's adjusted EPS includes just the 7 cents of depreciation that relates to the fourth quarter of fiscal 2020. We're applying the same approach to calculating our full-year FY20 adjusted EPS, which now includes 31 cents per share of charge for retail depreciation. The remaining 40 cents of retail depreciation is included in the full-year fiscal 2019 results, which have been recast to reflect this change. Lastly, with retail being reported within continuing operations, we are now reporting it as a separate segment. To assist investors, we've included historical quarterly segment information for fiscal 2019 and fiscal 2020 as part of the supplemental slides posted to our website. The presentation of adjusted EBITDA for retail includes the rent expense that was previously reported within continuing operations, as well as an allocation of administrative overhead costs. Turning to the balance sheet, we finished the year in a much improved financial position with total outstanding net debt of $2.6 billion and total liquidity of nearly $1.3 billion. A combination of strong free cash flows and asset sale proceeds, partially offset by an increase in finance lease obligations, led to a $390 million reduction in our net debt level versus the end of fiscal 2019. Our lower net debt balance and strong Q4 operating performance drove our leverage down to four times, which, as Steve stated, is about a full turn less than where we ended fiscal 2019. Overall, we're very pleased with our performance this year. We significantly beat our initial full-year guidance. We reduced net outstanding debt by more than we originally anticipated through stronger free cash flow, while still retaining valuable assets that we plan to sell in the future. And we're entering the new fiscal year in a significantly stronger financial position with favorable operating momentum. Turning to our outlook for fiscal 2021, as we all know, today's operating environment is changing faster than at any time in recent history and presents challenges to making financial projections. However, we are providing our outlook for fiscal 2021 based on a set of key assumptions as follows. First, our sales guidance assumes food at home consumption remains elevated and continues to outpace food purchases away from home, particularly in the winter months when outdoor dining becomes less of an option in many parts of the country. We believe this will be the case through this fiscal year, which lines up with recent CDC reports that suggest a widespread vaccine is not likely to be available until next summer, a scenario that obviously could change. At the same time, we are expecting to continue to incur some COVID-related costs, including continued safety and sanitation protocols. As we've talked about before, lower promotional spending at retail and fewer new item introductions will both adversely impact us this year. We're also not anticipating another stock-up surge like the unprecedented buying frenzy experienced in March. And finally, we're planning to make various operational and commercial investments that will be a continuation of our network integration and optimization work, as well as incurring modestly higher employee benefit costs. With all of that taken into consideration, for fiscal 2021, we expect full-year net sales to be in the range of $27 to $27.8 billion, which represents a nearly $900 million increase over fiscal 2020, or about 3.3% at the midpoint. As you'd expect, we anticipate that the first two quarters will show higher year-over-year growth rates. While we expect continued demand and strong results in the back half of the fiscal year, it's important to keep in mind that year-over-year comparisons will moderate as we lap the pantry building that occurred at the outset of COVID during March and April of 2020. And while we still expect elevated demand in the third quarter, Sales in that quarter are expected to be lower than the third quarter fiscal 2020 due to the unprecedented stock upsurge as COVID began to spread. We're expecting adjusted EBITDA for fiscal 2021 to be in the range of $690 to $730 million, an increase of 5.5% at the midpoint and a growth rate well above the rate of the sales increase. Adjusted EPS is expected to be in the range of $3.05 to $3.55 per share, an increase of 21% at the midpoint. This reflects our expectations for increase in adjusted EBITDA, lower interest expense tied to lower debt levels, and an adjusted effective tax rate of approximately 27%. We expect to reduce net outstanding debt by a minimum of $300 million, primarily through free cash flow. Capital expenditures are expected to be in the range of $200 to $250 million. We're assuming minimal asset sale proceeds beyond the monetization of the $40 million note receivable related to fiscal 2020 sale of the Tacoma Distribution Center. We expect our net leverage to be less than 3.4 times by the end of the fiscal year. In summary, we're all very pleased with our fiscal 2020 results and excited for what we believe will be an even stronger year in fiscal 2021. With that, let me turn the call back to Steve.

Thanks, John. As you heard, we will build our business in fiscal 2021 and beyond through wholesale, services, brands, protein, fresh, and so much more. We expect another year of strong growth. which we expect will incrementally expand our EBITDA margin. We plan to further deleverage the balance sheet through continued focus on generating free cash, managing CapEx, and monetizing assets where it makes sense. We also remain firmly committed to being good stewards of our planet, our communities, and our people. Over the past year, we've taken several steps to advance environmental, social, and governance practices, ESG, in our businesses, including the publication of our first SASB disclosure, which measures UNFI sustainability efforts against a series of industry-specific standards. Two, completing a materiality assessment to prioritize initiatives. And three, establishing board-level oversight of our programs, as well as an internal executive committee to provide strategic review and accountability on ESG topics. Our ESG program is aligned to three pillars, better for our world, better for our communities, and better for our people. As it relates to our world, we continue to focus on reducing our environmental impact, conserving natural resources, and promoting sustainability across our value chain and in our operations. In early 2020, UNFI joined the Climate Collaborative, solidifying commitments to energy efficiency, food waste reduction and sustainable transportation. As for communities, we believe that healthy food and food variety matter, and we play a vital role in delivering safe, quality and nutritious food options to more tables across North America. We are also working to increase access to better food, particularly for people in low-income and rural communities or in vulnerable situations. The UNFI Foundation provides grants to nonprofit organizations working to build better food systems and to nurture everyday health. As for our people, the safety and well-being of our associates is our top priority. We are focused on fostering a culture of caring throughout our organization, continuously striving towards safety in our workplace, where zero injuries and accidents is possible. We have pledged to promote equality, celebrate diversity, dismantle systemic racism, and support racial justice by activating change from the inside of UNFI and then out through listening, learning, and accountability. We will do this by increasing diversity in leadership roles, addressing food insecurity through financial, in-kind, and volunteer support, and by leading change across our industry and in the food system. All of these practices are integral to our business strategy, and we believe they deliver significant value to our stakeholders, including our shareholders, our associates, customers, suppliers, and communities. Finally, let me spend a moment talking about my decision to retire as CEO. As many of you know, I've had the privilege to lead this great company for the past 12 years. When I joined UNFI, annual sales were around $3 billion. Working with some great leaders, some amazing retail customers, we've grown the business to nearly $27 billion in sales this past year. Through it all, we've adhered to a set of principles that have defined my life and my career. Doing the right thing, treating people fairly and with dignity, helping one another, and winning together as a team. I couldn't be happier with our leadership team, old and new, and the strong governance and operating disciplines in place. I have complete confidence that UNFI will continue to grow, to innovate, and lead our industry into the future. And our future has never been brighter as we near completion of UFI integration activities and move our attention to expansion of our services, technology, e-commerce, perimeter and services businesses. 2020 demonstrated to me that all the work done during the last several years around building a holistic wholesale business was the right strategic decision. Within a year feels like the right time to turn the reins over to the next generation of leadership. I'm excited to remain involved in our continued journey as executive chairman and will work to ensure a smooth transition when my successor is named. I'll also remain involved in the search for talented new board members who share our passion for this business and who will contribute their talents to support our growing $27 billion business. The future of UNFI has never been stronger. As we think about the next decade, I'm confident that UNFI will continue to lead by remaining true to its culture while advancing investments in supply chain, services, technology, and a commitment to bring value to its customers every single day.

With that, I thank you, and we'll prepare to take your questions. At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. Your first question comes from Bill Kirk of MKM Partners. Your line is open.

Hey, thank you for taking the question. I wanted to talk a little bit about the upcoming holiday season and what you're seeing maybe in terms of actions by your retail customers. Are you seeing anything from them in terms of increasing inventory days that they're willing to hold or pulling forward some of their holiday spending or holiday assortment?

Hey, Bill, this is Chris. Good morning. So the retailers are, you know, they've got limited space. So they would probably like to increase their inventory, but they're limited in what they can do. I can tell you from our perspective two major things are happening. One, we began talking about the holidays early in the summer and began to build up on those holiday-like items, broth, cranberry sauce, pumpkin spice, and so forth. Because we think it's going to be a big holiday season with a lot of small gatherings versus big gatherings. From a retailer perspective, the one behavior that we're seeing is at our recent show, there was a huge interest from our retailers to secure inventory ahead of time. In other words, commit to the inventory to be delivered to make sure their shelves were stocked. And then finally, for any of those products that are still long-term out of stocks, and we all know what they are, we've been finding alternative supply for our retailers to make sure the shelves are full for the holiday season.

Okay, great. And I guess related, what are you seeing in terms of freight lanes or freight availability for this holiday season?

Bill, this is Eric. We are seeing increasing requests for freight lanes. We obviously have a great deal of strength in that, and we are leveraging our side to secure the lanes we need. So at this time, we do not see an issue with that, but we're watching it very carefully. Yeah, and remember, Bill, that the vast majority of the fleet we own and operate, and for the product that we move cross-country or by rail, we do have contract carriers with contracted volume. So that's not a problem that we're going to face.

Awesome. Thank you. I'll hop back into queue.

Your next question comes from Karen Short of Barclays. Your line is open.

Hi, thanks very much. Congratulations, Steve. I've been talking to you for a long time. I know we'll get a few more quarters in there. Congratulations. So I'm sorry to start off with this, but there's just so many things model related. So I do have to start with some housekeeping questions. I guess the first question I have with respect to retail EBITDA, are you burdening that EBITDA margin? So when I look at the margin, are you burdening that with distribution costs, meaning allocating for distribution costs to retail, or it's a seller- as a seller and a buyer looking at your EBITDA margins, would they need to hit that with additional distribution, assuming you didn't retain the distribution?

No, so that's a true EBITDA number. So if we were to look to sell that business today, that would be the EBITDA that we would sell it from. And the other comment that I would make about retail, just to remind everybody, that we do have some very valuable retail real estate, in other words, corporately owned stores that, when the time is right, will also sell with the sale of the battery.

Okay. So you are burdening redistribution. And then the second question, just in terms of modeling, can you give a color on what that comps were for retail in 4Q of 19?

John, do you have that offhand? I don't.

Yep. Q4 of 19 for you. Karen, when you ask that question, are you talking sales?

Well, no, just to get a sense of what the two-year comp is, right? Because obviously 21% is a very strong comp, but I'm trying to get that from a two-year basis.

okay so the account from 19 we don't for 19 with the 18 data post acquisition we don't have the 18 data okay um

Okay, and I guess switching gears to the top line, you know, obviously you gave us where you were trending in August, and this is more of a chain comment, but you gave us where you were trending on the top line, and that was that 11% number, and you saw some deceleration. Maybe can you just talk in terms of where you reported the quarter? So I guess the first question is, where did you see the deceleration happen? most prominently? And then where are you trending in the quarter to date on top line?

Well, let me take the first, cut it, and then I'll turn it over to Chris. So, again, in our chain number, we still have some of those, a couple of those bankrupt customers in there that we're not getting the revenue from. We are also seeing some retailers that are negatively impacted by COVID. In other words, those retailers that are heavily focused on bulk prepared foods. those categories that are just not selling. Obviously, food service and military are still fairly negative, even though food service has come back a bit. There's certainly no inflation in the numbers. There's no promo. We don't expect to see that. So I think those are the primary drivers in that 8% number, Chris.

No, that's good, Steve. I mean, look, the general market dynamics as well, you know, if you look at the quarter in its entirety from May through July, even if you look at retail comps that are reported out there, there's definitely been a deceleration across the entire industry. But, you know, what I would look to is our top 100. If you look at our top 100, which is over 70% of our customers, it was 12%. So I think you can use that as your comparable to what is happening at retail after you factor in retail inflation and the difference between retail and wholesale there.

One thing I would add, Karen, is that the interesting thing that we learned as a result of the dramatic increase as a result of COVID is that our view of building capacity is different today. than it was perhaps six months ago. We have more capacity than we thought. And so that was one of the great takeaways. And so as a result of that, we think that and we're very optimistic that our business that we thought would be constrained in many markets, we're now actively addressing um in other words we're working hard to put protein and produce and a lot of other categories into these buildings that we thought were at capacity which really aren't okay that's helpful and sorry just color on the top line in the quarter today john you want to handle that one

Yeah, I think we're not providing any information beyond the annual guidance at this point, Karen. I think, as we said in our scripts and our opening comments, we're continuing to expect the elevated demand through FY21. It's It's unprecedented. We're in uncharted territory as it relates to the pandemic, but we do believe that the FY21 guidance is sustainable. But as far as what we've seen so far in the first four or six weeks, we're not going to provide commentary on that right now.

I would just add, you know, we're not seeing anything materially different.

Okay, great. Thanks very much.

Your next question comes from Rupesh Parikh of Oppenheimer.

Your line is open. Good morning. Thanks for taking my question. And Steve, also congrats on your future retirement.

Thanks for the question.

So I guess to start out, John, so you gave some color, I think, at a high level in terms of some of the EBITDA margin drivers. If you can maybe flesh out what you think are the key positive and negative drivers as we look out for the balance of the year. And it sounds like, at least based on your guidance, you guys are expecting some very modest EBITDA margin expansion.

Yeah, I think when we think about FY21, we certainly have some tailwinds related to the foundation that we laid from the integration as we continue to go through the productivity and benefit from the synergy work that's already been done. We're going to continue to see those tailwinds. And certainly the elevated demand will provide that continued tailwinds. But at the same time, we've got some headwinds going year over year as well. So we've got, as we've talked about in previous quarters, we'll have the continued lower promotional spend and slotting fees that would normally benefit us, but they have substantially disappeared in this environment. We're also seeing, as you look through our disc ops that have been reported, we benefited in FY20. by certain shopper stores that provided EBITDA throughout the year, but have since been sold or shut down. And, you know, that's a $10 to $15 million headwind for us going into FY21. And then we've got an additional headwind related to the life insurance proceeds that we talked about earlier in FY20 to the tune of about $8 million. So we've got Certainly some tailwinds going in, but we've got some of those headwinds as well from an operational promotional spend, slotting dollars, disc ops. But we still believe with all of the work that we've done leading up to this point, we still believe very firmly on the guidance range that we provided.

Hey, Rupesh, I would just add that, you know, keep in mind that 20, even though it's behind us, was an incredible year with a lot of adversity. And obviously you see that in the results. Again, we're not gonna have a repeat of what happened in March and April. At least we don't think so. It is possible. As the restaurants start to close for the winter, people start going back inside. It is possible that we'll see some surge. But, you know, we still live in a pretty volatile environment, whether it's because of COVID election, weather, additional costs associated with all those things. So we live in a pretty volatile day. There's also no inflation. There's no promo spend that John mentioned earlier. We're growing even faster than our revenue. And as I said earlier, we realized that we actually have more capacity than we thought. And so we provided guidance because it was important for us to provide guidance. It's guidance that we believe in, but it does take into consideration all the things I just mentioned.

Okay, great. And then I guess just going to CapEx buying, so I think $200 million, $250 million for this year. Just give me your commentary just about, you know, that you guys have more capacity maybe than what you guys saw previously. Is there an opportunity, I guess, to reduce that CapEx spending number over time or just any thoughts there?

Well, our CapEx rate – I'm sorry. Go ahead, John. Go ahead, John. So our CapEx is at $250 million. It's still – it's about 80 bps of revenue for us. Some of that is some work that was targeted in FY20 that we thought we were going to be able to do, but we did have, as you might imagine, with the elevated demand, some of those projects were delayed, and we're going to be implementing those in FY21. We are still working through some of the additional synergies as we go after that last stage of the initiatives that we'll do in FY21 and 22. So I think as we think about CAPEX longer term, I think in that 80-bip range of revenue, 90-bip is probably reasonable. And then as we get on the other side of the last stage of the synergy work, I think we'll see it normalized a little bit below that.

And automation is really important to us, Rupesh, as evidenced by the couple of pretty significant projects that we had going on during COVID that are going to be completed in the not-too-distant future. services business, technology, that's where we're going to see really the primary spend of CapEx over the next couple of years.

Great. Thank you. Your next question comes from Scott Mushkin of R5 Capital.

Your line is open. Hey, guys. Thanks for taking my questions. I have a couple of them. So, I just wanted to look back a little bit on the chain's growth rate, which I know we talked about last quarter. It does seem like it's underperforming the industry a little bit, even if you take into account the 270 base point drag. And so, I was wondering what you guys think is maybe driving that. I mean, it's obviously a good number, but I just wanted to think what you think maybe is driving that, what looks like a little bit underperformance.

Hey, Scott, this is Chris. Yeah, I mean, look, we've got a diverse customer base, right? And I think looking at, again, I would point to the top 100, which includes, you know, chains predominantly as well as some of our indie co-ops. That 12% is really reflective of what you're seeing at retail, you know, minus the inflation that retail enjoys that wholesale hasn't had. But, again, you look at chains at 10% with, you know, if you included the 270 bits of the bankruptcies, it's actually a pretty strong number. And within that, we've got some chains that are growing 18%, 20%, 25%, some are 60%, 70%. And these, again, all in our top 50 or 100 customers. So I think we feel really good about the chain's growth. And if you combine our chains and Indies, you know, you're looking at a number of around 9%, and then you add in the bankruptcies and you get to over 10%. So I think what you're seeing in our larger customers is indicative to what you're seeing happening at the retail at large.

Thanks, Chris. Just to follow up on that and then get to my other question is, do you think you guys are seeing losses of customers or you're not seeing any losses?

No, we're not seeing any losses.

So then my questions about the future are, number one, margin improvement in the distribution business. You guys tend to operate at a pretty low margin. Mr. Superdari did, too. But I do believe there's lots of low-hanging fruit there. Any thought processes on how 21 will look on getting some improvement there, and then into 22? And then also, no one's talked about it, but the replacement process for Steve. And by the way, Steve, congratulations.

Thank you Scott. So why don't I start with the replacement process. So we have gone out and hired one of the leading firms to conduct the search. And that process has begun. We have serious internal candidates. We have external candidates that we'll consider. You know, culture, experience are incredibly important to me and to the board. The good news is that You know, I want this to be a very, very smooth process. And, you know, we have a year in which to do it, which I think is more than enough time. And I certainly plan on staying on as executive chairman to continue through the transition and for as long as the company needs me to do it. So I can't think of a better circumstance or scenario by which to pass the torch to the next leader. And I feel really good about it. I think for me personally, the 2020 numbers and what I expect to happen in 2021 really proved out the acquisition of conventional. You know, we went out on a limb a little bit to do it. I think investors initially didn't like it as evidenced by the stock price, but it was right on. It was 100% right on. And you saw that in our numbers. We were able to leverage the top line into the bottom line. We're going to continue to do that. And that goes right into your first question, which is on margin improvement. I think all the work that we're doing in technology and integration and singular systems and network optimization are all going to have the net effect of improving our operating margin, reducing our expenses and improving our operating margin.

Yeah, Steve, I just want to add to that is that three big opportunities we have in the margin expansion is cross-selling, selling more products to the existing customer base, and we think there's a tremendous opportunity there, as well as our brands and services business, which are both margin-accretive to the typical wholesale margin. So just some other areas that we are aggressively pursuing to help with that margin expansion.

And our pipeline's incredible. I mean, our pipeline has never been stronger than it is today. And I think a lot of those opportunities came as a result of COVID. And certainly in the cases of the captives that relied heavily on UNFI, it helped them get product to the stores. A lot of that we think will grow. New customers and expanded relationships with existing customers, especially in light of the new capacity. You know, I'm more optimistic than I've ever been about pipeline for growth.

Thanks, guys. Appreciate the answers.

Your next question comes from Jim Solera of North Coast Research. Your line is open.

Hey, guys. Congrats on the quarter. Two questions I wanted to dig in on the cross-selling opportunity. So for the $250 million, can you guys break down how much of that is more the technology, e-commerce, professional services, How much of it is more of the organic and, you know, traditional products?

Yeah, Jim, this is Chris. Sure. The vast majority of it is food on a truck versus the services business. Services business is a lot of small wins from a revenue standpoint, although very high margins. But the vast majority of the 250 came from cross-selling products, either natural products into the conventional system or vice versa.

Okay. Yeah, I would also add that back to a comment that Chris made earlier on our brands business, I mean, we now have brands that are over $2 billion in retail, and these are all brands that we own that many of the retailers view as their own private label. And that obviously is quite margin of creative to us as well.

Yeah, can you guys actually get a little more granular both on the, kind of the margin profile for some of the professional services, and then the private labels, you know, just relative to the traditional distribution margin?

Yeah, I think that's a competitive edge for us. So we're not going to disclose what the margins are on our brands or our services, but rest assured they're considerably greater than the margins that we earn on our wholesale distribution.

Okay. And then if I can just sneak in one more question. You guys talked about the 300 or so online storefronts that you had. Just kind of generally, what do you think the opportunity is there? Because obviously we've seen a lot of people shifting to that online platform, and, you know, as you guys touched on, the online shopping has really taken off, you know, three years in less than a year's time. So what do you guys think just, you know, the overall opportunity is when you look at your existing customer base and, I guess, you know, additional customers you could pick up along the way?

Yeah, it's a good question. I mean, you know, e-comm was roughly 3% of total grocery sales going into COVID, and now it's estimated to be up around 8% or 9%. So certainly having an e-comm solution is going to be critical for us going forward. In the most case, we enjoy e-comm sales because a lot of those click and collect and deliver to homes are happening through the registers that we currently service. In other words, they're retail customers that are wholesale customers of ours that have an e-com solution. So those 300 storefronts that we've added since COVID, those are typically the independent retailers that are looking to get more competitive and adapt to consumers' needs. I think that's one of the ways that we'll capture e-com, but that's in addition to servicing some very large e-com delivery companies, customers. And so in addition to having our own e-comm platform through Honest Green and Easy Options. So we're also, Jim, looking at additional ways to capture e-comm because it's here, it's here to stay, and we're going to continue to find ways to participate in it. Thanks, guys.

Your next question comes from Edward Kelly of Wells Fargo. Your line is open.

And Steve, congrats as well. I wanted to ask you about guidance for next year. Can you just talk a bit more about the cadence of sales in EBITDA? I mean, obviously the first half will look different than the back half. Any additional color that you can provide on what you're assuming in the back half as you lap the COVID demand?

Yeah, absolutely. So I think you touched on the key points there, Ed, which is, you know, as we lap the Q3 and Q4 and that demand that we saw, that surge that happened in March and April, which is our Q3 demand, That'll be a difficult comp for us, and while we're still anticipating the elevated demand throughout FY21 as food at home stays high, it's going to be a tough comp year over year for that Q3. So as we think about it, we are expecting that the first half will be a higher growth rate, and even though demand will stay at that elevated level, and in Q3 we'll tamper down some, and in Q4 we'll we'll come back up. So as we think about that full year, that's sort of what we're thinking. And I think from a sales perspective, I don't want to lose sight of the fact that as we think about FY21 and we're anticipating that growth that we have in our guidance, We did see a Q3 and Q4 year-over-year growth of $1.2 billion, and we're still growing on top of that with FY21. So we're still seeing that elevated demand, and we're still going to benefit from that and feel very good about that growth.

Hey, one other thing, Ed, is when you think about volatility, there's still not a fair amount of volatility associated with fill rates. And while fill rate has sequentially improved, and we're now seeing fill rate on the natural side, I think it's like 600 basis points or so better than the fill rate on the conventional side. And so our expectation is that fill rate will continue to improve generally. We may see it decline around the holidays, but that's still a moving target.

Okay. And then I wanted to just take a step back, and I know you're not going to give any guidance for FY22, but this is when hopefully life is more normal again. It's probably the year that we should think about sort of valuing the company at. What, if anything, I guess, has transpired within sales and margins over this period do you think is sustainable? How would you encourage us to sort of think about, you know, the new normal for this business as we look past the pandemic?

Well, I would start by saying, well, returning to normal takes quite a few current headwinds and turns them into tailwinds, right? So promo spend, advertising, new product introductions, fill rate, those are all things that are pretty significant headwind for us that will turn into a tailwind. As we continue to complete the integration work, and that is the migration onto a singular technology platform, that turns from a headwind to a tailwind, all things we expect to happen. Capacity, certainly by 2022, we expect a considerably additional amount of customer wins through cross-selling as well as new contracts. So even though the restaurant industry will regain volume, I think we'll still be in a great position to take advantage of all those things that are currently headwinds that will then be tailwinds, led by what I said.

Yeah, the only thing I'll add to that, Ed, was in the interim, we are making permanent reductions in our debt as we're benefiting from that free cash flow. We are reducing that debt, you know, as we did in FY20, as we're forecasting and guided to in FY21. We are continuing to go after that debt.

Yeah, remember that by 22 or into 22, we're selling CUB, and you can do the math of what you expect CUB to sell for plus another, you know, probably close to $200 million on real estate. And so, you know, that in itself will help continue to reduce the load at a rate.

Great. Thank you.

Today's final question comes from Kelly Banya of BMO Capital Markets. Your line is open.

Good morning. This is Steve Caputo. I'm for Kelly. um just to start would you be able to provide us with what you achieved for synergies in 2020 and what your expectation is for 2021 and if there's any change to sort of your longer term targets and then sort of related to that on a scale one to ten how would you rate your integration in terms of the level of completeness and what should we should expect uh to see going forward and what you need to do

Sure. As a release to Synergies, we'll provide a little more color at a Q1 call. But as a release to Synergies, we have outperformed the $185 million target that we put out there, both in dollars and in the speed in which we thought it would take to get there. And we're going to provide a lot more information on that as we get to our Q1 call and get into FY21. And what was the second part of your question, Steve?

Just in terms of the integration, sort of on a scale of 1 to 10, if you can, where you sort of would rank where you've gotten to so far and where you have to go, any key sort of areas left to sort of integrate?

It's tough to rank on a one to ten. I think what we have laid out there that we expected to achieve, I would say we're at a ten. But we're still, it's evidenced by the scale value, the leveraging value we're seeing through our P&L with the elevated demand through FY20. A lot of that value was coming as a result of all the synergy work that went into place leading up to it. As we think about what's left, the last big component, and there's a thousand things that need to happen beforehand to get there, but the last big piece is that standardization of our DC that Steve mentioned a little bit earlier, and that's one that we're expecting to kick off towards the end of FY21 and into FY22 as the final stage of that synergy work.

Let me just add that the cultural integration is complete. The The completion of all of our SG&A sales, legal, finance, et cetera, has all been completed. Processes have been completed. The biggest single thing that remains is primarily from a technology platform. And that process has started. We expect that, again, to happen throughout fiscal 22. But the vast majority of the work is done.

Okay, that's very helpful. And sorry, just to clarify, you've said you've achieved greater than your expected target of synergies already, which is great. Should we be continuing to think about additional synergies in future years on top of that, or have you just achieved what you expected even faster than you thought?

I think there's still value to be had out there for synergies. I think we're also continuing to look at optimization and productivity initiatives that will allow us to expand the value that we could achieve, not just from synergies, but just into a broader productivity and initiative. And we'll talk a little bit more of this in Q1, and we are currently working on scheduling an analyst day sometime towards the middle of FY21 for us. Okay, thank you. We'll go through that in great detail.

Got it. Okay. And then just one very quick follow-up to what Karen asked earlier. On the retail side, even if you don't have specific numbers for any quarter, would you be able to give us a sense of where comp sales were trending pre-COVID? Just a general range would be really helpful for modeling purposes.

I think the way I would think about that would be it was trending. Cub is a market leader for us here in the Minneapolis market. And the way I would think about it is pre-COVID, I think it would be considered trending at or slightly above what the market would have been doing. and especially given the market standing it has here in Minneapolis, St. Paul. And then as COVID hit, as many folks saw the value in their retail business, I think Kelp was able to capitalize perhaps a little bit more because they were the market leader and a trusted retail store. And I think they also, as they went through some of the civil unrest situations, and we've talked about this on some of our non-deal roadshows, but they did a great job managing through some of the civil unrest in downtown Minneapolis, providing... Access to food, when obviously some of the stores were in total disruption and disarray, they provided access to food to many folks that needed it. We provided buses to other stores in order to provide access to food. And that helps build those relationships and give us the edge on the growth.

I would just add that not only were our indexes up over 20%, but our market share also increased significantly as well.

Okay, that's very helpful. Thank you guys very much for the call.

Hey, Chris, we appreciate your help on today's call. That concludes management comments and Q&A. I will be in my office if anybody has any follow-up questions later today. Have a nice day, everybody. Thank you.

Ladies and gentlemen, thank you for your participation. You may now disconnect.