Good afternoon, ladies and gentlemen, and welcome to the Premium Brands Holdings Corporation 2nd quarter 2022 earnings conference call. At this time, all participants are in a listen only mode. Following the presentation, we will conduct a question and answer session. If at any time during this call you require immediate assistance, please press star zero for the operator. This call is being recorded today, Friday, August 5, 2022. Our speakers today are George Paleologou, CEO and President of Premium Brands, and Will Kalutycz, CFO of Premium Brands. I would now like to turn the conference over to Mr. Paleologou. Please go ahead, sir.
Thank you, Michelle. Welcome everyone to our 2022 2nd quarter conference call. With me today is our CFO, Will Kalutycz. Our presentation today will follow the deck that was posted on our website this morning. You can also access it by clicking on the link on our earnings press release issued this morning. We're now on slide five, which outlines certain key highlights for the quarter. Despite the various headwinds, we reported very good results for the quarter and year to date. Our CFO, Will Kalutycz, will provide you with more color on our results later on in the presentation. Commodity cost inflation and the volatile and unpredictable environment continued to challenge our operations during the quarter. The silver lining is that for the first time in over two years, we're beginning to gradually see normality back into the market and in consumer and customer behaviors.
Our labor challenges are abating. Supply chains are catching up and are becoming a little more reliable, and inflation appears to be peaking. Consumers are now out and about, traveling, visiting friends, attending large gatherings, and consuming food outside of their homes. Once again, we're pivoting and adjusting to this new normal, which, by the way, is beginning to look very much like the old pre-pandemic normal. Our solid results for the quarter, despite the transitory headwinds, once again demonstrate the balance and resilience of our unique business model and its ability to continue to deliver above average and consistently growing returns to our shareholders. Food service demand came back strongly during the quarter as customers added sitting capacity to expanded menus and hours and hosted larger gatherings.
Our protein platform faced the perfect storm during the quarter, including bad spring weather, reduced featuring, acute inflation, some price elasticity points, and the reopening of food service, which reduced eating at home occasions. Despite these challenges, the macro trends we have been investing in over the past few years remain on track, and our charcuterie cooked protein and sandwich platforms continue to do well. Clearwater Seafoods had a record quarter and is performing ahead of plan in year to date. Clearwater Seafoods's results are benefiting from robust demand and strong pricing for most of its species. Despite weak margins in its snow crab business and substantially higher fuel costs, Clearwater Seafoods species and sales channel diversification, combined with proactive and disciplined cost management, are helping to deliver excellent results. We're pleased to announce the closing of two more strategic transactions during the 2nd quarter.
King's Command is located in Ohio, U.S., and adds capacity and market reach to our cooked meats platform, while the purchasing of the other 50% of Golden Valley that we did not previously own will enable us to more seamlessly expand our dry curing capacity in the future. We're well positioned to continue to profitably grow our various platforms, and we're pleased to see normality beginning to return in terms of consumer actions and buying behaviors. Our food service, airline, and cruise line sales are nearing pre-pandemic levels, while our export business is gaining traction. Similarly, the explosion in consumer discretionary spending, which clogged up supply chains around the world, is slowing down. This means more labor availability for the consumer staples and service industries. Overall, we're feeling very good about what lies ahead, assuming a continued return to normality.
We have come through some unusual volatile and unprecedented times, and we have demonstrated our diversification, our resilience, and our ability to pivot quickly. We're confident that our decentralized entrepreneurial business model, combined with our great people and culture, will continue to propel us to new opportunities and new growth. We're now on slides five to 11. I've included here some pictures of products manufactured and sold by our cooked protein businesses. Demand for cooked protein products continues to grow in both food service, club, and retail. The recent acquisitions of Beach Group, Maid-Rite, and King's Command provide us with more capacity and market reach in Canada and the US. Over the past five years, we have established ourselves as a leading provider of cooked protein solutions to customers in Canada and the US.
Cooked protein offers retail and food service customers solutions to their labor shortage issues while providing consumers with convenient, excellent quality food experiences. We're now on slide 12. As you can see, our acquisition pipeline remains robust and we expect to complete many more transactions in the months and in years to come. I will now pass the presentation to our CFO, Will Kalutycz, who will update you on our financial results for the quarter. Will?
Thanks, George. Before I begin, I would like to remind you that some of the statements made on today's call may constitute forward-looking information, and our future results may differ materially from what we discuss. Please refer to our MD&A for fiscal 2021, as well as other information on our website for a broader description of the risk factors that could affect our performance. Now turning to slide 14. Our sales for the quarter were CAD 1.519 billion, an increase of CAD 285 million or 23% from 2021. The key growth drivers of this increase were selling price inflation of CAD 134.4 million. I should note that over the last four quarters, we have put through price increases totaling roughly CAD 490 million.
Acquisitions accounted for CAD 114.1 million of our growth. A weaker Canadian dollar relative to the U.S. dollar, which resulted in the favorable translation of our U.S. operations, contributed CAD 20.1 million to our growth. Organic volume growth contributed CAD 16.6 million. Turning to slide 15. Our organic volume growth rate for the quarter was 1.3%. This is below our target and expectations for the quarter for five key reasons. Two of those key challenges in our specialty food groups included the sales challenges George mentioned earlier in our protein group, namely poor weather across most of Canada, less featuring by our businesses, the shift in sales from the retail segment to the food service segment, and a small amount of demand destruction in certain limited categories.
Our Specialty Foods sales were also impacted by issues in our sandwich group's Phoenix sandwich plant that resulted from the transitioning of their production lines from Gen 1 lines to their automated Gen 3 lines, and corresponding with this transition resulted in some higher than normal customer order short shipments. Our Premium Food Distribution group's organic volume growth rate was impacted also by three challenges. First was our lobster strategy as our key lobster businesses built inventory over the quarter for future sales initiatives in their processed operations, which resulted in less trading of live lobsters in the quarter. Our seafood group experienced less featuring of their premium seafood products by both retailers and food services due to the high, record high price points.
Finally, our exports to China of live lobsters was down due to pandemic-related issues within that country, as well as the lack of air transportation. All five of these factors we see as temporary, and we are already seeing solid improvement in the 3rd quarter, particularly on the weather front. Turning to slide 16. This slide outlines the major growth initiatives across our six platforms. You can see it's a very diverse range of initiatives. The ones highlighted in yellow contributed to our organic growth in the quarter. In our seafood and distribution groups, you can see a variety of initiatives were generating good momentum in the quarter, a lot of these driven by the recovery in the food service segment.
Our sandwich group also generated good, solid growth in the quarter, driven by their frozen artisan sandwich initiatives, which continue to gain momentum both in the QSR and retail channels. Our bakery group, while being a smaller platform, had tremendous success in the US with the launch of a variety of new artisan bread products. Finally, our culinary group, the smallest of our platforms, continued to see good progress in the retail channel with a number of new product solutions. Turning to slide 17. We increased our sales guidance for 2022 to CAD 5.75 billion-CAD 6 billion, from a previous range of CAD 5.6 billion to CAD 5.85 billion.
Using the midpoint of our current guidance, which is CAD 5.875 billion, this would represent an increase of CAD 943 million from 2021 or roughly 19.1%, which is in line with our 11-year sales CAGR of 22.4%. Turning to slide 18. This slide shows our sales on a weekly basis. The gold line represents twenty 2022. You can see going into the 3rd quarter, we continue to show solid momentum in our sales. As some of the headwinds that we experienced in the 2nd quarter subside, we expect that trend to accelerate. Turning to slide 19. Our EBITDA for the quarter was CAD 130.8 million. It's an increase of CAD 18.6 million or 16.6% from 2021.
The key drivers of it were selling price inflation of CAD 134.4 million, acquisitions, organic sales growth, and reduced accruals of certain incentive-based compensation. These were offset by higher direct material wages and freight costs. This totaled about CAD 131 million. I should note the difference between our selling price inflation and our direct material wage and freight inflation was a positive CAD 3.5 million, which shows a good trend relative to the 1st quarter when that same calculation was a negative CAD 2 million. Again, showing the impact of the price increases we've been putting through.
We did see also some increased plant overhead as we invest in infrastructure for future growth, some increased outside storage costs relating to higher inventory levels, which we will discuss on a later slide, and finally, some continued investment in our SG&A infrastructure to support our growth. Turning to slide 20. Our EBITDA margin, adjusted EBITDA margin for the quarter was 8.6%. This was 50 basis points off of our EBITDA margin for the 2nd quarter of 2021 or 140 basis points off of our long-term target of 10%. The key factors impacting our EBITDA margin in the quarter were in our Specialty Foods group, delays in our pricing increases resulting from retailer notice periods.
If you normalize for selling price increases implemented over the course of the quarter that were in reaction to commodity cost inflation in the 1st quarter, assuming those had taken place at the beginning of the quarter, our EBITDA margin would have been 9.4%. Other factors impacting our sales, especially foods margins, included the sales challenges I mentioned earlier in our protein and sandwich groups, as well as the increase in our outside storage costs. Our Premium Food Distribution group's gross EBITDA margins were challenged by two structural issues, mainly pricing to recover gross profit dollars, maintain gross profit dollars and not gross profit margins. This was being done to help customers deal with extreme cost inflation and then the number of cost plus contracts within that group.
We also saw some lower margins in our lobster products as a result of extreme volatility in the pricing in that environment, and we'll talk a bit more about that on a later slide. Turning to slide 21. The next five slides outline some of the key commodities used by our different businesses. The first slide is our pork index chart, which highlights some of the key commodities purchased by our protein group. You'll note that the red line, which represents the index for 2022, was relatively stable in the quarter and sort of goes to the point of our margin challenge in the protein group in the quarter was largely as a result of the delay in the retail pricing and, not a commodity challenge. The next slide, 22, shows our beef index chart. This relates primarily to our distribution group.
You can see that the commodity was relatively stable in the quarter. Slide 23 is our chicken index chart. This was by far the most challenging commodity for our business. It's primarily relates to our protein group. You can see significant cost inflation has continued from the 1st quarter through most of the 2nd quarter. The good news is we have seen a break in this commodity, and that break seems to be continuing and could be positive upside in our outlook for 2022 if that trend continues. Turning to slide 24 in lobsters index chart. You can see the extreme decline in pricing partway through the quarter. This was a result of a variety of demand factors, including less retail featuring and menu featuring by restaurants as a result of record high prices.
Lower exports to China resulting from the shutdown of parts of that economy. On the supply side, we saw very strong landings. All of that came together to result in the price decline you see in the chart. This pressured the margins within our lobster group as their procurement costs are delayed from when they actually make their sale of their processed products. The good news is this is stabilized. We do expect to see a stabilization in the back half of the year of our margins in this category. Turning to slide 25, last of the commodities. This is our salmon index chart, relates all to our seafood group. Again, you see a bit of a break there towards the end of the quarter, but continues at record high prices.
Our pricing for these products tend to be very dynamic, so margins tend to be relatively stable on this product regardless of where the pricing is at. Turning to slide 26. We are maintaining our EBITDA guidance for 2022 of CAD 510 million-CAD 530 million. Using the midpoint of this guidance of CAD 520 million, that would represent growth from 2021 of CAD 89 million or roughly 20.7%, which is in line with our 11-year EBITDA CAGR of 22%. Turning to slide 27. Our earnings for the quarter were CAD 61.5 million.
This represents an increase of CAD 8 million or 15% from 2021. Our EPS for the quarter, adjusted EPS was CAD 1.38 per share, representing an increase of CAD 0.15 per share or 12.2% from 2021. The main drivers of our improved earnings performance were well was our EBITDA growth. This was offset by a little bit of additional depreciation amortization, mostly associated with acquisitions, some increased interest, mostly associated with our higher senior debt levels, and some increased income taxes associated with our increased profitability. Turning to slide 28. Talking about our 5-year 2023 sales target. On this slide, what we've done, we've used the midpoint of our 2022 guidance of CAD 5.875 billion.
We've added some nominal growth for 2023 at a rate of 6%, which is far below what we've been running for the last couple of years. That gives us a pro forma number of 6.227 billion, which is well in excess of our CAD 6 billion target. We're very confident we will meet this target. Turning to slide 28. Looking at our five-year 2023 EBITDA, adjusted EBITDA target. Similar to the previous slide, we used the midpoint of our 2022 guidance, CAD 520 million. We adjusted this for the retroactive impact of delayed pricing increases from the first and 2nd quarters, which total about CAD 28 million, giving us a normalized EBITDA of about CAD 548 million.
Adjusting for the organic growth at a conservative contribution margin of 20%, that gives us a pro forma EBITDA of CAD 619 million. Again, in excess of our CAD 600 million target and close to our 10% EBITDA margin target. Again, we feel very confident about meeting this target. Turning to slide 30. Our inventory at the end of the 2nd quarter was much higher than normally expected at CAD 836 million. This was driven by four key factors. All we see as temporary and a good portion of them reversing over the next two quarters. The first and most significant was inventory built in the first half of the year that will drive sales in the second half of the year.
In our seafood group, we expect to see about CAD 30 million of inventory reversal, primarily related to our lobster strategy and the buildup of inventory to support sales. In our protein group, about a CAD 29 million decrease, partly due to a normal seasonal buildup of inventory, but also due partly to the sales challenges from the 2nd quarter. The second major factor resulting in the decrease in our inventory will be a reduction in our safety stocks. Over the last two years, we've built up significant safety stocks to help deal with supply chain disruption issues as well as commodity inflation. As these markets normalize, supply chains normalize, and commodity markets normalize, we will be winding down those safety stocks. For the back half of the year, we're planning to wind down about CAD 38 million.
The next factor are some very specific customer supply chain challenges that will normalize in the 3rd quarter. That will contribute about CAD 8 million of the decrease. Then the balance is just the normal seasonality of our business. Overall, in the back half of the year, we expect to increase our inventory by at least CAD 110 million, which will bring it down to about CAD 726 million. That'll be roughly 55 days cost of sales and inventory. Relative to our three-year average of about 49 days, that's still high as we are still carrying safety stocks. As we see the continued normalization of supply chains and commodity markets, that could come down faster in 2022 or else it'll come down in 2023. Turning to slide 31.
We continue to maintain very strong liquidity with CAD 490 million on unused credit capacity. Our total debt to EBITDA ratio and our senior debt to EBITDA ratio did at the end of the quarter exceed our long-term targets. Our total debt to EBITDA ratio is 4.4-to-1 versus our long-term targeted range of 3.5-to-1 to 4.0-to-1. Our senior debt to EBITDA ratio was 3.3-to-1 relative to our long-term targeted range of 2.5-to-1 to 3.0-to-1. Most of the higher ratios were driven almost entirely by our inventory positions, and we do expect by year-end to be back within our targeted range in both these ratios.
Turning to slide 32 on our free cash flow. For the trailing twelve months at the end of the 2nd quarter was CAD 276.4 million. This represents an increase of CAD 13.1 million or 5% from 2021. Our free cash flow per share on a trailing twelve-month basis was CAD 6.27 per share, an increase of CAD 0.22 per share or 3.6% from 2021. Our payout ratio at the end of the trailing twelve months was 43%, and we recently declared a 3rd quarter dividend of CAD 0.70 a share, or on an annualized basis, CAD 2.80 per share.
Turning to slide 33. During the first half of 2022, we spent CAD 81.3 million on project capital expenditures. CAD 60.3 million of these were on 14 major active projects, all of which are primarily growth related and span five of our six platforms. Lots going on across the different platforms, all oriented to future growth. We spent about CAD 21 million in a variety of smaller project capital expenditure projects, many of these associated with efficiency products, automation projects. Turning to slide 34. As George mentioned, we completed two acquisitions in the quarter, increasing our interest to 100% on Golden Valley Farms from 50% and acquired King's Command. Total invested in the quarter on these two transactions was CAD 86.5 million.
I should note also, because of the nature of these acquisitions, both of which were for capacity to support, as George mentioned earlier, our cooked protein and dry cured meats initiatives, neither of these are expected to contribute EBITDA in the second half of 2022. They're really longer term capacity solutions. That concludes the financial presentation. With that, I will now pass it back to Michelle for the Q&A segment of the call. Michelle?
Thank you, sir. Ladies and gentlemen, we will now begin the question-and-answer session. If you would like to ask a question, please press star followed by the number one on your telephone keypad. If you would like to withdraw your question, please press star followed by the number two. One moment, please, while we compile the roster. Your first question will come from Derek Lessard of TD Securities. Please go ahead.
Yeah, good afternoon, guys, and congrats on navigating tough markets.
Thanks, Derek.
Thanks, Derek.
It looks like one of the slides that you pointed to, you know, the sales trends are still pretty solid. Just wondering how quickly you expect maybe the Specialty Foods organic volume growth to get back to your longer term historical target.
Yeah, let me start, Derek, by saying, I mean, I think Will did a great job explaining kind of what's been going on. Again, you have to sort of look at the, you know, what's happened from the point of view of the operational challenges that we were facing, you know, which are well documented everywhere, right? For example, you know, we shorted a lot of orders with regards to the sandwich platform because a lot of the issues. Again, we're confident that the demand in many ways is there. Yeah, there were some offsetting factors of course, particularly with some of the weather issues, et cetera, which addressed themselves in July as the weather got better.
It's not an issue of demand for us, it's just making sure that the stars align and some of these challenges again that we've talked about go away. They have been going away, and we're really happy about that. We're really pleased to see a return to normality. You know, a lot of our plants that have been facing labor shortages are finding labor now and are getting populated again in terms of their shifts, et cetera. Lots of positive trends as we go towards normality, right? Again, no issue with regards to us feeling confident on the 4%-6% organic growth. I'll pass it to Will if he's got anything to add.
Yeah. To give you some specific numbers, Derek, you know, we, you know, for the first half of the year, the organic volume growth rate in our Specialty Foods segment was about 4%, a little over 4%. We do expect to finish the year close to the top of that, our targeted range, you know, that 5%-6% range. Like George says, you know, in Q3, those issues did continue in. You know, by the end of Q3, we saw some really good solid momentum and, you know, we're expecting that to continue by the end of July, we saw some good solid momentum, and we do expect that to continue through the year.
Okay. That's super helpful. Thanks for that. I guess maybe on the inflation side, it did look like it was starting to bite in some categories. I think you guys called out beef jerky. Just wondering if there's other categories out there that might be showing some signs of demand destruction, and if so, how do you view pricing going forward?
Actually, Derek, you know, with the exception of some expensive impulse buy items, particularly through C-store and that beef jerky, for example, which Will specifically addressed and mentioned, overall, volumes are holding with regards to other channels. You know, we've tested a lot of very high price points, given the degree of the underlying inflation and volumes health. You know, you never know how volumes are gonna do until the retail price goes to a certain level. We're very pleased with the way the volumes held overall as you've seen from our numbers. The good thing today is that, as Will mentioned, most of the underlying commodities that we're using have crested, and they're going down. Again, that'll give us lots of ability to feature, promote, innovate, et cetera, which is what we do very well. Again, lots of positives with regards to the trends there.
Yeah. Derek, you know, just to make it really clear, you know, if you take out the little bit of demand destruction we saw in jerky and you normalize for that and the short order shipments in our sandwich group relating to the Phoenix facility, you know, our Specialty Foods group would have had 2%-3% organic growth in volume terms. Like the categories are solid. There were just some specific issues there. Then, like George says, the thing that's gonna drive our growth is if we get some good weather, we get the featuring going again, we should then see some solid organic volume coming back to the business.
To add to that, Derek, in the sandwich group specifically, given some of the challenges, particularly with labor across the system, we've had lots of customers on allocation for quite a while, right? Again, they want more, and you know, we're gonna get ourselves into a position to service them better and to take orders from them. There's lots of demand in our view. It's just a matter of addressing some of these other issues that we've been facing over the last few quarters.
Thanks for that, gentlemen, and good luck.
Thank you, Derek.
Thanks, Derek.
Your next question comes from Martin Landry of Stifel GMP. Please go ahead.
Hi, good morning, George and Will.
Hey, Martin.
My first question is on the pricing delays. You know, on slide 20, you highlight that some of the delays in implementing prices at retailers had an impact of 80 basis points on your EBITDA. It's a pretty material impact this quarter. I was wondering if you still expect other pricing delays in Q3 or if you're fully caught up from a timing standpoint?
Yeah. Most of those—these pricing increases were things that were actually implemented in the 1st quarter, Martin. You know, some of these retailers require 90-day notice periods.
Mm-hmm.
They weren't taking effect until, you know, mid this quarter, late this quarter in some cases if they have been put through at the beginning of the quarter. In large part, they're mostly through now. That should not be a big factor in the 3rd quarter and, you know, assuming commodity prices continue to stabilize or normalize.
Okay. That's helpful. Just turning to your financial leverage, you know, on slide 31, you showed that, you know, you're at the highest level that you've been in a while, in probably the last five years, and a little bit above your comfort range. You did talk about the fact that, you know, inventory reduction is gonna help out and reduce your overall leverage. I'm wondering if-
Sorry about that.
Not a worry. I'm wondering if you're looking at other options to reduce your leverage in near term and if you're concerned by your leverage ratios at this point.
No, we're very comfortable with the balance sheet, Martin. You know, at this point, we're not exploring any specific options. Again, there's gonna be a range of factors that bring the margins back in line. You know, the reality is those target ranges we've set are long-term targets. You know, the reality is our banking covenants, our general risk profile certainly adjust, you know, allow for much greater targets. No, we're very comfortable with the balance sheet, very confident that the targets will be back in line by the end of the year.
Yeah, Martin, if you again sort of, you know, accept the fact that we've been through some difficult times and we've had to make all kinds of decisions to hold inventory, to maintain service levels, to adjust for challenging supply chains and all of those things. If you normalize our inventory levels and our EBITDA level, the numbers are very in range. You know, they're not out of line, right? Both our EBITDA has been impacted by the challenges and obviously we're holding a lot more inventory at the end of the quarter than normal, right? If you adjust for that, if you normalize for that, then the numbers are very reasonable.
Yeah. Martin, you know, we had expected to be at the top end of our range 'cause we are in an intense investment period right now. You know, we've got some, a number of, as you saw in that one slide, a number of capital projects underway. You know, the acquisitions we made in the 2nd quarter both are sort of long-term investments. Like George says, this really is the inventory issue that's caused most of the variance.
Okay. My last question is on your announcement last week or last two weeks ago about putting in place an NCIB. It's something pretty rare for you guys and it's you know especially given your growth through acquisition strategy and your leverage. Wondering if you can give us a bit more color as to the reasons why you've established an NCIB? It seems to be your first since 2012.
It was really in response to, you know, at one point there, the markets were becoming incredibly irrational, incredibly volatile, and it just gives us one more tool in the event that ways to create shareholder value if the opportunities arise. You know, the reality is as things come normalize and things proceed in a normal manner, you know, it's probably unlikely will we end up using it. It's really to give us the tool if some sort of dramatic event happens.
Okay. Thank you.
Thank you, Martin.
Your next question comes from George Doumet of Scotiabank. Please go ahead.
Hey, guys. Thanks for taking my questions. I just wanted to dig a little bit.
Hey, George.
Hey, I just wanted to dig a little bit deeper on the short shipments from the Phoenix plant. I guess, how much of that is operational versus just maybe general labor issues that are faced. Can you talk a little bit about maybe if you would expect to have similar dynamics with other plants? Maybe any color around kind of what's happening there, please.
Really, George, it's a combination of factors. One being obviously the shortage of labor issues we've been facing, particularly in the U.S., which by the way have gotten a lot better. As I mentioned in my prepared remarks, the discretionary goods explosion in demand seems to be abating and, you know, there seems to be a lot more people looking for work. You know, again, we've had all kinds of labor shortage type of challenges. In regards to Phoenix, as we transitioned over to the automated lines, we had some startup issues, the normal startup issues and really lack of skilled labor for a while. We've addressed it. Again, our productivity numbers, our efficiency numbers are back up. Again, it was something that was part of the startup of the new lines.
Okay. Thanks for that. George, in your letter to shareholders, you mentioned North America as being underdeveloped in value-added and premium seafood products. Looks like there's a lot of potential targets in the pipeline in that area for your disclosure. Can you maybe talk a little bit about what areas you feel you wanna get bigger in? Ultimately, I'm just wondering if margins in that area can maybe get above those Premium Brands at a consolidated level, maybe down the road.
Yeah. You know, I think there's a couple of points there, George. One is that, you know, there's a number of companies that are up for sale these days in the value-added seafood segment. We're looking at a few of them, and I just wanna mention that Clearwater is looking at a few of them as well. The challenge for a lot of those companies is access to supply and, you know, long-term access to supply. Thankfully with our investment in Clearwater, you know, we're able to address that. With regards to value added, again, we have a sort of a broad view of what value-added means. You know, for example, we love the soup category.
Seafood soups are a big category for one of our divisions. We're selling those not just in Canada, but also in Asia as well. We're launching a number of new products into the seafood space, leveraging our supply chain, our access to supply, our access to exceptional quality raw materials. You know, we think that business will grow immensely over the next few years. You know, again, there's all types of value-added we could do. We're looking at launching an amazing lobster macaroni type of product in both Canada and the U.S. We've done a lot of the R&D. We've done a lot of the development.
We think that, you know, we wanna make it easier for consumers to consume seafood. We think that's an area where we can upgrade the consumer experience, again, leveraging our access to exceptional quality supply. That's basically a summary of what we're working on. Lots of projects on the go, lots of development, lots of trials, and anyway, we're really excited to be presenting some new products in the near future to the market.
George, from a margin perspective portion of your question, you know, the beauty of these products is, you know, the margins are much more similar to those of our Specialty Foods segment.
Right. Right.
Versus what you see in our Premium Food Distribution. You know, you're talking 500-600 basis points of improvement as you take those commodities and turn them into these wonderful branded value-added products.
That's really helpful. A last one for you, George. Just a quick clarification on the guidance with the 5%, I guess the lower end. Does that anticipate kind of spot prices or does that anticipate maybe, I guess as per the charts, maybe a further kind of deflationary environment for most of our commodities?
Yeah. Our assumption in Q1, George, when we maintained our guidance, was we did expect some deflation in certain categories, you know, particularly pork. There's some dynamics out there with what's happening in China right now and stuff. We've just taken a little more conservative approach on our outlook for commodities and sort of assumed a more stable environment versus maybe some deflation. If we do see deflation, then that'll be upside in our numbers.
Okay. We're starting to see deflation as we speak, George.
Okay, guys. That's really helpful. Thank you.
Thank you, George.
Your next question comes from Stephen MacLeod of BMO Capital Markets. Please go ahead.
Thank you. Good afternoon, guys.
Hey, Steve.
Just wanted to follow up on a couple things. Great color so far, so thank you. Especially food business, you talked a lot about the protein headwinds that you saw. Is there any way to quantify sort of what the magnitude of the volume headwind was to volume growth from those challenges?
Tough to do, right, Steven. You know, the best I can do is, you know, when we answered Derek's question earlier about, you know, you strip out those two basic factors and, of the challenges in the Phoenix plant and the, I can't remember what the other one was. You strip them out and you're sort of in that 3% organic volume growth rate. We had expected to be, you know, high single digits in the quarter. How much of that difference relates to how much of the factors is, you know, it's just too tough to determine.
The type of environment we've been in, Stephen, for the last few quarters is one whereby it's been difficult to execute, right, given the challenges, right? Basically, you know, you're dealing with shortage of labor, high absenteeism, you know, supply chains that are not functioning as they're supposed to. You also had a reopening of food service as well, right? You know, if let's say we assume that 50% of the food dollar is spent outside of the home, then obviously there'll be some impact there in terms of demand. There's a number of factors impacting that number. As I said earlier in my remarks, I know that we've short a lot of customers during the quarter or the last few quarters because of the challenges with some of the inputs there, labor and supply chain.
Okay. That's helpful. Understandable. When you look at the back half of the year, I just wanted to sort of paraphrase, make sure I'm understanding all the moving parts correctly. It sounds like based on the chart, that chart you showed, Will, you're sort of caught up on price or you were caught up on inflation with price this quarter. Do you expect to put through more price into Q3 and Q4?
Well, you'll have the continued year-over-year impact at the previous pricing pieces, right? You're still gonna see quite an inflationary factor, although we are starting to lap this quarter, you know, Q3. Q3 last year was when, you know, the significant price increases started. But, you know, outside of that, not a lot, again, on the assumption that we'll see a normalization of commodities in the quarter, Steve.
I think the most likely scenario, Stephen, as I said earlier, and Will mentioned it as well, is a lot of the commodities are coming off. You know, the most likely scenario is that a lot of our input costs will go down and that our companies will do a lot more featuring to you know promote their products, of course, and which should help volumes. A lot of our companies are already talking about that, given you know with what's happened with some of the underlying commodities more recently, right? That you're gonna see a lot more featuring activity coming up.
Right. Okay. Considering or balancing out those two factors, do you expect sort of gross margins in the back half of the year to return back to normalized levels? Or do you expect maybe a bit more pressure and then returning back to normalized levels in 2023?
I think you've got our guidance, Steven. You know, I don't think I wanna get into the specifics of.
Yeah.
Margins outside of our guidance.
Overall, Stephen, I mean, we're, you know, if we assume things are normalizing and will continue to normalize for the remainder of the year, if you look at some of the investments we've made in key parts of our business, we're feeling really good about 2023. Again, we're just hoping that things will continue to normalize in terms of supply chains, in terms of the labor situation, in terms of demand through food service and retail, et cetera, et cetera. Lots of good things to look forward to.
Yeah. Okay. That's great. Really helpful. Thanks, guys. Appreciate it.
Thank you, Steve.
Thanks, Stephen.
Your next question comes from John Zamparo of CIBC. Please go ahead.
Thank you very much. Good morning, George Paleologou and Will Kalutycz.
Hey.
Hey, John.
Wanted to hit on a couple of topics and then a couple of questions within each. On the pricing pass through, just wanna fully understand, were there also price increases taken in Q2 that we're gonna see hit kinda mid to late Q3? Or with the Q1 pricing you took, is that the most recent round?
John, there's a little bit of that, but, you know, most of it was stuff that was implemented either in Q1 or early in Q2. We don't expect a lot of carry over into Q3. Again, on the assumption that we don't see further cost inflation.
Okay. Understood. Can you quantify the Easter shift versus last year? It fell into Q2 this year versus Q1 last year on organic volume.
Yeah. Again, you know, there was so much noise around the numbers, John, and with what happened with weather and all those, you know, the freight. It just, the Easter is just such a small factor in that equation. Unfortunately not. You know, I think the bump in the 1st quarter or sorry, the impact in the 1st quarter of the year because of the later Easter was, you know, it was under CAD 10 million. It was a relatively small impact.
Okay. Understood. I wanna better understand the dynamics within featuring and specifically the language in the press release for Specialty Foods seems to suggest you're waiting for price increases to kick in before you feature items there, which is understandable. In Premium Food Distribution, the comment was that there was less featuring because of record high prices. I just wanna understand the PFD comments a bit better. In particular, if those prices don't come down, should we interpret that as you won't see featuring within that segment?
Yeah. It's a good question, John, 'cause they're really two different dynamics. In the Specialty Food segment, you know, featuring is something we drive, our businesses drive. They'll work with the retailer to go and say, "Okay, we're prepared to give you this pricing for this feature at this time," and it's driven by the retailer. That's the nature of featuring in the Specialty Foods group.
When we talk about featuring in the Premium Food Distribution group, that's kind of we make our regular sales to the customer, and then the customer decides to say, "Okay, I'm gonna put salmon on the menu as a special this week," or, "I'm going to feature this in the store this week." We don't drive that. We just provide them with the product at our normal margins, and they make that decision to feature or not to feature. There's not a margin story in it for us. It's purely a volume on the Premium Food Distribution group side.
The customers, John, are very smart, right? If the cod is very expensive, they're not gonna feature it, right? Because it's just, it won't meet that price point that will move the most volume, right? They'll generally feature something else that, yeah, a feature is more attractive to the consumer. You know, that's part of what they do all the time.
Normally it's you know if it was just a single commodity that goes up in the premium seafood world, you know, usually it's not an issue for us 'cause they'll feature something else we sell 'em as a different alternative premium product. The fact is just everything was at record high prices, and so they started featuring, you know, lesser sort of more commodity-like products like salmon or, you know, more simpler products and featuring those at lower price points versus the premium products because like I say, cost inflation, price inflation was across the entire broad group.
Okay. That's very helpful. I appreciate the color on that. I wanted to ask about leverage. I know you've talked about it a little bit. It's above where you'd like it. You do have some pretty ambitious plans when it comes to growth CapEx. Given all that, I wonder how you think about capital allocation for the next year or so. Historically, it's been M&A first and foremost, but what are your thoughts on prioritizing deleveraging at this point?
Yeah. Again, you know, those targets we've set, you know, those are always part of our decision-making with any capital allocation decision. Certainly everything that's in the pipeline today, you know, was built around those targets ultimately and we'll continue to manage that way. Like I say, we are comfortable in the short term taking it over those targeted ranges because the reality is they're relatively conservative. You know, a senior debt to EBITDA ratio for us, our target range of 2.5-3, you know, just to put it in context, our banking covenant is 4x. Again, you know, we've got good flexibility there. We're prepared in the short term as long as we see a clear line of sight to bringing it down to going over that target range. Ultimately, we'll always manage to that targeted range.
The other part, John, is that, you know, we have to remember that over the last couple of years, we've just about stress tested every aspect of our business. What happens if the whole channel shuts down, the food service channel? Well, we did okay. We managed through that. What happens if labor goes away? Well, we managed through that. What happens if you have the fastest inflationary times that we've ever lived through? Well, we've gone through that as well, right? We're, as Will said, feeling pretty good that things are normalizing. If you normalize your balance sheet and our EBITDA, there's no issues there.
Fair enough. One more clarification. Do you have any interest rate swaps in place on your CAD 1.4 billion-dollar revolver, or is that entirely variable?
It's entirely variable. We had a swap in place that recently expired. You know, today, you know, we do have a large component of fixed debt with our convertible debentures.
Outside of that, our senior facilities are pretty well all floating.
Okay, understood. That's all for me. Thank you very much.
Thank you.
Have a great job. Thanks.
Your next question comes from Vishal Shreedhar of National Bank. Please go ahead.
Hi. Thanks for taking my questions. On the-
How are you, Vishal?
Hi. On the acquisition opportunity charts that you showed, it's fluid from quarter to quarter, I understand, and I just wanna make certain. The advanced and active stage files, the sales numbers seem to be down quarter-over-quarter. Just wondering if there's anything that you'd like to call out or point out for that, or is that just regular course variability? Is it related to the way management's thinking about the opportunities or opportunities reducing as it relates to balance sheet? I don't suspect it is, but I just wanted to get your point of view.
Vishal, I would say that the left three columns are the most relevant, right? These are deals that we're working on, our group is working on steadily. A lot of times the timing is not really up to us, it's up to the other side, but you know, we have a lot of conversations. We're working on a lot of transactions. Again, you know, a lot of times the larger transactions are tough to classify in the advanced stage because you know, we're in a small universe, and people kind of make assumptions as to who they are. So we're kind of careful as to how we disclose them, but I would say that our pipeline is never been more robust.
Okay. I just wanted to change topics here on labor shortages. Encouraging to hear that they're improving. I'm wondering if in management's view, do you believe that the labor shortages experienced are those a transient issue or are those structural just given lower immigration? If they have a structural component to it, is there a way that management aims to address it? I'm focusing more on the U.S. here. Is there a way that management aims to address it, either focusing on states with more immigration or things of that nature?
Yeah. Vishal, in terms of Canada, I would say through increased immigration, I think that the situation is improving immensely. Almost all of our businesses are in pretty good shape from that perspective. You know, a lot more applications, you know, a lot more people looking for work. You know, in general terms, we're in good shape. You know, there's a positive to some of the challenges in the U.S. in that everybody's having these challenges and, you know, our Canadian-based plants are in a very good position to continue to increase their business in the U.S. Anyways, there's kind of a positive there. With regards to the U.S., you know, they're, you know, things are improving as well.
Over the last couple of years, as you know, there's been an explosion in demand for discretionary goods. You know, there's a lot of retailers today that are announcing that they're long on inventory, so of goods. You know, we know, I don't wanna mention particular states or towns, but you know, there's been layoffs in the manufacturers of discretionary goods. We're getting more applications in which is why we're feeling better about things. I know the jobs report came out in the U.S. today, and it created a lot of jobs.
In terms of what we're seeing today, we're getting a lot more applications in than we did over the last couple of years. That's a positive. You know, the other thing I would mention is that, you know, as we commented earlier, you know, we continue to make a lot of investments in automation and robotics and those type of things and those will help as well.
Okay. Just on another topic here, I just wanted to get some clarification. Will, in your prepared remarks in the slide deck, you showed you know some indexes of particular commodities and in general they seem to be moderating, and you mentioned that throughout this panel discussion as well. Just but in the past, I understood that your major commodities, particularly in the Specialty Foods group, they oftentimes deviated from those basic commodities due to higher labor requirements and other factors. Should we anticipate the commodities that you're using, do they generally follow those trends, or is there a lag of two to three quarters? How should we accommodate for the specific nature of the commodity cuts that you use?
Yeah. There's you know, they generally do follow those trends, Vishal. You know, over the last couple of years, there's been some massive distortions. Again, labor has been an issue, you know, because we tend to buy the more value-added than really base commodities. At, you know, they're trimmed and other processes done in the primary processing business. They were so short of labor, there was a massive shortage of those. As a result, you know, the prices were way distorted from what they were normally in the past. You know, as George has talked about, as labor normalizes. That issue is going away and they're going back to more sort of traditional trends of following the base commodities.
The second one has been, you know, the other market you have to sort of watch with us is we import a lot of product from Europe just because it's a much higher quality leaner product. That market has its own unique dynamics. There are no sort of public indicators we can follow for it. You know, that is something that, you know, unfortunately I can't say, "Okay, it's gonna stay stable or not," because it does have a different sort of set of supply and demand factors on a global basis from just what's happening in the North American market.
Okay. Thank you for that color.
Okay.
Thanks, Vishal.
Your next question comes from Sabahat Khan of RBC Capital. Please go ahead.
All right. Great. Thanks and good afternoon. Just may be starting with a housekeeping question. This may be more for Will. I think in the MD&A, it notes that the H1 organic growth rate for specialty foods is 4.3%. Just looking at where Q1 came in and where Q2 came in, I'm not sure if that's if I'm looking at it wrong or if that arithmetic should be a little bit lower than that. I think it was 4.3% in Q1, and I think flat to -0.5% in Q2. Just trying to reca-
I'll have to do that offline with you, Sabahat, because my notes are showing 4.3%.
Okay. No problem. We can take that offline. Then maybe just, I guess, along the lines of the conversation on this call around commodity prices and margins, I guess, you know, these headwinds have been around for a couple years now. I'm just wondering, as we look forward to your 2023 targets, you know, how confident are you enabled to get to kind of that 10% range? Like, I'm just thinking, could some of these commodity and pricing dynamics be a bit more structural just given how long kind of they've been in the market? Just wanna get some perspective on, you know, just being able to get to that 10% range over, call it the next 12 months or even just longer than that.
Again, the big driver. There is definitely some normalization in our margins, right, Sabat? If you go to that chart on our five-year EBITDA margin target, you know, that's kind of that retroactive pricing impact. Like, those pricing increases are real. That's been done. The big driver that gets us ultimately to our 10% target and beyond is sales growth, contribution margin, right? Particularly in our Specialty Foods segment. You know, as those sales come through, that will just naturally drive up the margin.
Okay. I guess maybe I'm getting a bit nitpicky, but as we think about maybe the deflation and at some point over the coming quarters, would you have to give back some of that pricing potentially, or do you find it tends to be stickier?
It depends a lot on the product category. You know, as you move up the differentiation level in the product category, so when you go into products like some of our meat snacks and charcuterie products, we tend to set new consumer price points. Those are held, and what the business will do then is they'll use that high price point to do a lot more featuring, so you get the benefit of volume. It's kind of a win-win situation.
As you get less differentiated in the products, maybe some of our grilling products, things like that, what happens is the prices are sticky, so as the commodity come down, you do have some expanded margins, but they do over time sort of go back to normal levels. You know, the traditional inventory cycle or margin cycle for the industry or the less differentiated products is you lose some margin on the way up, and then you gain it on the way down, and you're kinda neutral over the cycle.
Again, you know, we monitor the velocities very carefully, and we make decisions based on those velocities. Right? Again, as Will said, if let's say, the underlying commodity goes down, then we tend to do a lot more featuring, which moves volume, which helps obviously, the economics of the business, right? That's generally what happens.
Okay. Thanks. Just one last quick one. You know, there's been a lot of focus in on the call and just generally, I think, on your protein business and seafood. Just, I guess, through the pandemic, some of the sandwich businesses might have slowed down due to structural stuff, but are you still kind of pursuing some of those initiatives with new retailers, new channels? Obviously, you know, there's capacity constraints given the environment right now, but, you know, does that become a bigger focus as we look out one, two, three years from here?
You know, you cut out at the beginning. Can you repeat the first part of your question, please?
Yep. Just asking about your sandwiches business. You know, before kind of the pandemic took hold, there was a lot of focus on pursuing new channels. Obviously capacity constraints right now, but how do you look at that, you know, as we kinda move to some sort of normalized manufacturing environment and you have capacity?
Well, as I mentioned before, our sandwich business is in a situation where it provides labor savings solutions to customers, retail, food service, and club, right? If you make the assumption that labor is scarce and will remain scarce, in terms of QSR, in terms of club, in terms of retail, then you can assume that our sandwich division is going to be, you know, very busy. This is what we're seeing. You know, we've made tremendous progress in terms of developing new channels. I believe in the 2nd quarter, we had record sales through the club channel, and a lot more demand from various customers. I read a statistic that the breakfast sandwich category in retail and club is like up 20% year-over-year. This is an overall statistic, right?
That bodes well for us because, you know, we're a low cost producer. You know, we're very well positioned to benefit from that growth in demand. Our sandwich group, you know, we call it the sandwich group, they're not just sandwiches. They're basically one of the best assemblers in North America. Their charcuterie business is doing extremely well, taking advantage, of course, of the growth in charcuterie demand. We are the assembler for most brands out there. And you know, we're doing extremely well there as well. Some of the challenges that we face there are not demand oriented. They are labor oriented. Obviously, as we solve those issues, then you know, the division will deliver better growth and better numbers. They've been growing quite substantially over the last, even in the last couple of years.
Great. Thanks very much for the color.
Yeah. Thank you.
There are no more questions on the phone lines. At this time, I would like to turn the conference back to your hosts for closing remarks. Gentlemen, please go ahead.
I'd like to thank everybody for attending. Have a great rest of the summer. Thank you very much.
Ladies and gentlemen, this does conclude the conference call for this afternoon. We would like to thank you all for your participation and ask that you please disconnect your lines.