SYY'S FQ3 RESULTS, A SEQUENTIAL IMPROVEMENT FROM A NEAR SHUTDOWN (BEST IDEA SHORT)
Sysco reported FQ3 EPS of $.45 missing consensus of $.58 and down from $.89 last year. Overall organic case volumes declined 5.8% while gross margins contracted 7bps. The U.S. foodservice case volumes fell 5.2% (breaking a 23 consecutive quarter streak of growth) down sequentially from +1.3% while gross margins contracted 11bps. International foodservice revenues declined 7.8% in constant currencies while gross margins contracted 50bps. FQ3 itself is very backward-looking as most of the quarter was pre-COVID. Total sales fell 60% in the last two weeks of the quarter as the impact of the pandemic had its most significant impact. The U.S. foodservice was down 60%, SYGMA was down 50%, and International was down 70%. Since the end of the quarter, sales trends have improved by about 15% points with more recovery in the U.S. than in Europe. Sequential improvement from -60% will continue as restaurants re-open, but the shares never discounted -60% remaining.
Sysco's accounts receivable balance fell by a whopping $791M sequentially. The allowance for doubtful accounts increased by $174M at the end of the quarter. Adjusted earnings excluded $153M of excess bad debt expense in the quarter. The 10Q should reveal if factoring played a part in the significant decrease in the A/R balance, but that could likely be the prudent thing to do in the current environment. An allowance of less than 5% of the receivables balance when so many restaurants are at risk of closing may seem low, but restaurants won't be able to have food unless they pay distributors. Payment terms also matter when Sysco only has a 30% share of its customer's spend. The generally stable inventory balance increased by $190M at the end of the quarter. The company is also negotiating its EBITDA to interest expense covenant in its revolver. The company had a sufficient $6B of cash and available borrowing capacity as of the earnings report.
Management said two-thirds of costs are variable, but a higher amount of costs will have to be added back when restaurants start to open their dining rooms again. When Sysco's restaurant customers operate their dining rooms at 25% and 50% of their capacity in the coming weeks, the strain on their cash flow will grow, and the shakeout will accelerate.
For our short Black Book presentation: CLICK HERE
SFM POSITIONED TO TAKE ADVANTAGE OF THE ENVIRONMENT (LONG BIAS)
Sprouts Farmers Market reported Q1 EPS of $.79 beating consensus expectations of $.54 and $.46 a year ago. SSS increased 10.6% vs. consensus expectations of 6.6%, driven by March up 26%. COVID shopping providing a 9.6% boost. Grocery, frozen, and vitamins were the strongest categories. Gross margins expanded 180bps and were well above low expectations. COVID-19's increase had an 80bps benefit. The company recently began changing its new store promotional strategy, which will benefit from the current environment, with consumers less focused on price. SG&A as a percentage of sales was flat YOY.
Management noted that many consumer trends have continued into April with SSS up 7.2% (with an Easter penalty of 3-4%). The additional costs of cleaning and compensating employees will have a more significant impact on Q2 because the initiatives only began to ramp up at the end of Q1. The pandemic has only impacted one planned new store opening, and the company remains on track to open 20 this year. The company is also reinvesting in new customer acquisition while seeing the COVID-19 impact drive new customers that are forming new shopping behaviors.
We added SFM to our long bias list a month ago, because we modeled EPS upside and a multiple that we expected to expand. Q1 results provided more visibility on both.
MEXICAN BEER PRODUCTION EXPECTED BACK IN A MONTH
Ingredion, an ingredient provider that produces mainly starches and glucose syrup, hosted its quarterly conference call yesterday. Ingredients sold to Mexican brewers is 3% of the company's sales. Due to the Mexican government shutdown of most brewers on April 5, those sales have mostly stopped. Management anticipates production to begin in late May or early June. Management said, "So beer remains available on store shelves and convenience and grocery channels. It's just that the inventories are being depleted. So there'll be a run to restock those shelves, once the government allows domestic brewing and domestic resupply." In Colombia and Brazil, the company said there had been a 70% reduction in brewing production in the 5-6 week COVID-19 period before ramping up recently in May. Last week Latin America's largest chain of convenience stores said its Oxxo stores could run out of beer in the next ten days due to the Mexican plant shutdowns. In some Mexican states, there are widespread shortages of beer. Constellation Brands has continued export production with reduced staff while Anheuser-Busch InBev and Heineken have largely halted production in Mexico.
