Good morning, everyone, and thank you for joining Oppenheimer's 24th Annual Consumer Growth and E-commerce Conference. My name is Rupesh Parikh, I'm the Senior Food, Grocery, and Consumer Products Analyst here at Oppenheimer. I'm very pleased to introduce our next presenting company, United Natural Foods. We're excited to have joining us today, Sandy Douglas, CEO, and Matteo Tarditi, President and CFO. The format today's session will be fireside chat, going through a number of questions we have prepared, and then we'll move on to audience questions. So if you have any questions, please enter them in the question panel below the video. So let's get started. So first, I wanted to kick it off touching on your recent performance. UNFI seems to have stabilized the business, and the company appears to be on stable footing with the new multi-year plan, which you previewed on the earnings call.
Sandy, is that how you'd characterize the recent performance, and what messages do you hope investors took away from your call last week?
Thanks, Rupesh, and good morning, everybody. Our third quarter was another quarter that I'd characterize as doing what we said we were gonna do at the beginning of the year: to reset profitability and to begin to take action to improve. While we've done this in kind of parallel, we've been working with our board and management team on a new multi-year plan that we'll begin to implement at the beginning of our next fiscal in August. I probably would make four headlines on the quarter and on the year. First, as I mentioned, we're delivering the results that we expected to, while also executing some important short and long-term actions to improve profitability.
We actioned $150 million of cost saves in fiscal 2024, and we've made good progress in reducing shrink, to name a couple of the bigger ones. Financial improvements are beginning to improve, and we're encouraged by that. As a result, we'll probably slightly outperform our fiscal 2024 guidance. In parallel, we've been working with the board on our financial review. We've got a highly engaged board, and as a part of that review, we're coming up on the milestone of our three-year plan.
We're focusing on a $90 billion addressable market, which really fits the sweet spot of what UNFI is good at and what customers value in the environment that we're in right now, while at the same time focusing significantly on some important financial improvements, whether that's free cash flow as the kind of governing metric, optimizing capital spending, improving working capital, and generally continuing to improve our cost structure. Finally, we communicated on the call that we expect to see performance accelerate or continue to accelerate in fiscal 2025 around free cash flow generation and net leverage reduction. We communicated that we expect free cash flow to approach $100 million in fiscal 2025, which we will use for debt repayment.
Longer term, we're targeting improved capital structure with net leverage declining to 2.5 turns or below by year-end fiscal 2027, all focused ultimately on making meaningful improvements in shareholder returns.
Great. So the next question I have is for you, Matteo. Would love to hear what you have learned over the last couple of months since coming on board, and can you tell us about what you see as the biggest opportunities for UNFI?
Thanks, Rupesh, and good morning, everyone. I studied at UNFI in the industry for quite some time before joining, but in the last couple of months, I was able to really gain some traction on my knowledge and understanding of the business. I prioritized five areas in my first 60 days. The first one was diving into the strategy work that Sandy, you know, described last week. The second area was to gain a deep understanding of the operational and the financial processes. I always think that connecting with as many associates, call it 1,000 plus, is the best way to learn the business as you see it through the eyes of the operators. And with that, I did some Gemba walks and visited the distribution centers to understand the capabilities. And lastly, understanding the capital allocation model.
And I gotta say that at the end of this first 60 days, I am really impressed with the capabilities of the teams, the customers and the supplier centricity and focus, and then lastly, the expansive footprint that we have. So I came up with this process with three clear priorities and opportunities in mind, to your question. The first one is remargining the business, and when you think about remargining the business, think about capital light service growth, and then continuing to develop a supplier and customer-facing operating model that is more cost efficient, where you start embedding some of the principles of Lean Six Sigma that are part of my playbook. The second opportunity is to improve Free Cash Flow generation to deleverage.
Here, clearly, we have an opportunity to work on the four levers of EBITDA growth, reduction of inventory, more broadly working capital, but a clear opportunity in inventory, better managing our CapEx pool, and then lastly, as we continue to deleverage, we'll get the fourth leg of the improvement, which is lower interest expense. Then the third priority that clearly emerged is driving higher accountability through decentralization, through Six Sigma, and how do we better align our operational and financial target deep down into the organization, which is, again, one of the fundamental principle of Lean Six Sigma. So, really excited about the opportunity to, you know, partner with the leadership team and getting to know the investment community and creating value for the company, but it's been definitely a very, very productive 60 days.
... Great. So in listening to your call last week, it sounded like your strategy is shifting. Sandy, how would you describe UNFI's strategy, and what's your focus - what are you focused on, focusing on from here?
Sure, Rupesh. I think the best way to start is with the customer base. And what we've seen through the work that we've done, the analysis that we've done, and some support we've gotten from third parties, as well as hundreds of customer meetings that I've had in years in the industry, and you put that together, what we've found as the pandemic retreated, and we look at food retail in general, that there's a segment of it, a meaningful segment, that is really focused on differentiating and changing their customer experience with product line and various services, and that UNFI's very well set up to serve that segment. And so we've kind of focused our strategy on continuing to build out our capability to serve that segment and to win in that segment going forward.
Today, a majority of our customers fit in it. For example, natural and organic is our heritage and is a huge segment of our business, and those retailers of late have done very, very well. And we continue to work to build, whether it's product diversity, innovation, building off our natural and specialty heritage, but also as Matteo mentioned, really focusing on our value-added services. Value-added services have become a significant part of our profitability and a part of our profit base that's growing faster, and we're doubling down on it. An example of a digital service that I call out is one we just launched, which is the UNFI Retail Media Network, and obviously, very early days.
But heretofore, the kind of retail media universe has been dominated by the largest four retailers, and we saw an opportunity to work with our partners at Swiftly, a technology company, to commercialize a retail media network that would be useful for suppliers connecting through to 32,000 retail stores in a very productive and efficient way. So it's early days, but think of a more focused total addressable market, UNFI playing to our strengths, working on value-added services. And then in, in parallel, and, and Matteo mentioned these, but a rigorous focus on intensifying our network optimization, reducing capital intensity, ongoing cost optimization, and increased working capital efficiency, all of which come together in a strategy focused on driving free cash flow. Matteo has a great way of summarizing it.
He says it's the deliver and deleverage strategy, and our delivery for our customer, suppliers, and associates, and deleverage and create shareholder value for our shareholders. In a nutshell, that's the strategy.
Okay, that's all. This might be a little repetitious, but if you can just, you know, help describe your customer base and maybe just go into a little more detail on all the ways that UNFI can help them be more successful.
Sure. I mean, I mentioned the $90 billion addressable market. We had in our previous strategy, talked about $140 billion, so we're focusing a little bit more. Think about it as natural, organic, specialty. Think about it as ethnic and retailers that are generally working to differentiate their business. Our agenda is to work with them and to help in any way we possibly can. That nucleus then is what we design for and what we serve, and then obviously within that, my experience is that the better you fit your customer strategy, the more likely you are to be able to have a mutually profitable relationship. And so we're in the business of helping anybody who wants to work with us and have a win-win relationship.
But we think it'll, the majority of it, as it is today, will come either from our current customer base in that $90 billion segment or potentially by growing share in that, in that general area. There's a lot of growth to be had there.
Since obviously us analysts are very detailed, so what would be your approach to retailers that aren't part of your $90 billion market segment and possibly less resilient as you define the market? Will you still work with them and pursue new business from these types of customers?
Well, first of all, we will work with anybody who wants to work with us in a win-win way. How will we approach it in a situation that's not win-win? We'll work hard to try to make it win-win or figure out some mutually agreeable way to deal with it. But as I said, the large majority of our current customer base and the customer base that we would expect to be attracted to fits in that category. So it's a little bit less of all things to all people and more to try to be the best thing for that $90 billion segment.
Okay, great. Matteo, you spoke about reducing your fixed asset base and spending less in the future. Can you elaborate on those remarks?
Yes, absolutely, Rupesh. So as part of our intensified network optimization work, we are currently and constantly assessing options to make the most effective and efficient configuration and usage of our DCs, and how we can best profitably serve our customers. Clearly, among our competitive set, we have by far the most expensive distribution network, and we see opportunities to take better advantage of our economies of scale within the business, while again, maintaining our expensive, differentiated network. So it's really a methodical work to understand how do we best profitably serve the customer and think about what is the best structure across what is today 55 distribution centers in a very expansive, you know, presence.
At the same time, when we think about the capital optimization, we also see an opportunity to reduce our capital intensity by prioritizing investments more rigorously, and think about ways to spend the maintenance more on a utilization model versus the calendar model. There is an important difference, because you start the year with 55 distribution centers that all think about certain level of utilizations, and then obviously you have dynamics throughout the year. The fact that you definitely wanna continue to address safety, quality, delivery, cost, and order based on utilization is a must-do, but also offers an opportunity to shift some dollars that are not to be spent within the calendar.
As we discussed in the call last week, we took, first of all, the 2024 guidance down from $400 million to $370 million of spending, and even more importantly, next year to $300 million, which is immediately a $70 million tailwind from a free, free cash flow generation. So we, we have clearly an opportunity to think and talk more about, you know, the, the revised strategy, but we do believe that there is a real opportunity to drive better returns based on long-term utilization expectations. And naturally, as we embed Lean Six Sigma principle, we're also gonna create more capacity and more capabilities without necessarily go out and spend, you know, big amounts in automation, which is part of our strategy, right? But has to be ran in parallel with a Lean Six Sigma process.
Okay, thank you. That makes sense. It sounds like a lot of your work is around the supplier relationship and how you can be a more effective conduit to your customers and the end shopper. What are the key areas of focus for you here?
Sure. I think a lot of my background in this is shaped in my three decades in the consumer products industry. One of the things we knew at Coca-Cola was, as we looked around the world, the more diverse and vibrant your customer base is, the more successful your growth and profitability will be in a market. It was the highest correlated variable with success. So given that background, it's a conviction that I have, that I share with our suppliers, that the healthier we can make their business with the independent channel, the more successful they'll be, and obviously, the more successful our customers will be, and in turn, UNFI will be. So we've focused our supplier services on helping with that, providing data.
We launched UNFI Media, or UNFI Media Network two weeks ago, UNFI Insights a year ago, where we're giving suppliers greater visibility into our customer base so that they can plot strategies and invest and measure their progress in a way that's more granular and more specific. The sort of legacy of wholesale has been sort of a necessary evil to the consumer products industry. And as we go forward, we wanna become a partner and help them deliver to our retailers who want to see more of them, a better and more focused and more targeted plan with higher returns for them, as their margins are the highest and they profit the most from growth, so that we can deliver unit acceleration and value in the whole ecosystem. So a significant amount of our energy has been put in modernizing our approach to the supplier community.
Great. And then just staying on the topic of the UNFI Media Network, how big can that get? And then what additional color can you add here?
Sure. It's so early, but... So we won't quantify it, obviously, but our view is that if you look at the reported data from the big four retailers around retail media, that this is an area of advertising that's rapidly growing and is important. Because from a consumer products company perspective, you get to do advertising that's equity building, and you can measure the sale on the other side, which is something that advertisers have not been able to do. And so I can only hypothesize that that's why it's growing so fast. The business case for us is, our retail base is some of the best brand-building environments for consumer products brands, much more so than large discounters.
And so to the extent that we can bring good technology and the same closed-loop measurement, that it allows us to democratize and bring the independents into that same value stream, which will be good for everybody. So very early, customer interest is high, supplier interest is high. We've got a great technology partner in Swiftly, and we're hard at work to see how big it can get.
Is this something that you think could become more material in the next couple of years? Or how do you guys think about when it could be material to the business?
Yeah, I think it'll be... There's a startup process because there's onboarding, et cetera. We'll see how it develops. We haven't given any real forecasts about it, but it really depends on where the retailer is from a technology standpoint, and that sort of governs the ramp timing. But we're hard at work at it now, and look forward to providing more specifics when we can.
Great. So switching gears to an industry question. Would love to get your thoughts on the key industry dynamic as it relates to volumes and inflation. What are you seeing currently?
Sure. So unit trends remained down year-over-year across the food space in Q3. However, we've started to see some gradual improvement as the industry lapped the annualization of the decline in federal subsidies to consumers... and generally, promotional investment continues to increase, although from our perspective, it's still a little bit below pre-COVID. But little progress. Sales, we saw our sales sequentially improve within the third quarter, and then continue to do so as we've gotten into the fourth quarter. Now, that includes our changes in our customer base, which are directionally positive, so you got a little bit of asymmetry there in the comparison of the industry versus ours. Inflation continues to moderate. I mean, at the beginning of fiscal 2023, it was at 11%.
Last quarter, it was at 2%, and we see it heading towards around 1%. Of course, that's the general number. In some commodity categories, they're more volatile. But we don't see disinflation broadly, but we see it continuing to moderate down to about 1%. Ultimately, our customer base is highly diverse, and the environment is one where we think we can manage the controllables and continue to try to win with the winners.
And two more, two more industry questions for me. So, you know, I guess we heard from Costco and Walmart in their call talk about more of a shift... you know, potential early signs of a shift back to food at home versus food away from home. Just any thoughts that, you know, or any sense of, you know, whether you guys are starting to benefit from more food at home consumption or, you know, or maybe that's still to come going forward?
Yeah, Rupesh, I think if you break it apart, that opportunity is broadly there. The flip side is the headwind around the consumer stress and the fact that while inflation rate has moderated, prices are still significantly higher. And so, you know, we think the whole picture continues to improve slightly as we go sequentially forward. But as I mentioned, I think we're in a good position to manage it. But I think the headwinds and the tailwinds are balanced at this point, and I think you'll continue to see growth improve, but still be a little bit challenged due to the broad-based kind of consumer situation.
Okay, and then as you look, you know, I guess from our perspective, cover CPG as well, it's been somewhat surprising that, you know, industry-wide, you're still seeing volume declines. Just any thoughts in terms of, you know, I guess when you could start to see positive inflection? You know, maybe not for your business, but, you know, if you could just comment more broadly. Because I know I think that's still the frustration in our investor conversations, that you haven't really seen this. We all thought you lapped the price increases and volumes return positive, but it hasn't worked out that way yet.
Yeah. And obviously, you gotta ask them. But, as I said, we remain constructive on volume improving. We believe promotions will continue to improve. And the combination of all that alongside our ability to serve customers and grow through a resilient segment is why we feel constructive about sales going forward. What I'd say about consumer products companies, it depends on the company, and it depends on the brands. You know, just as always, you don't wanna be the third or fourth brand in a category, right now, because that'll be hard to stay on the shelf. I think, you know, I think the whole industry and consumer products companies in general got in a mindset that they could keep taking price and call that growth.
But brand occasions ultimately are the key element in that successful brand, which adds up to units. And if you have weak units, generally over time... We used to ask the question, "Do consumers like our beverage because they drink it, or do they drink it because they like it?" And the answer is both. And so I think consumer products companies are gonna have to address units, and I think they will.
Great. So switching just, you know, one more, one more question just on the Whole Foods extension, which was announced in late May. Does that agreement change anything? And then just anything you... any comment you could share on that, on that extension?
Yeah, we don't. As you know, we don't like to talk about individual customers, but because of the size of that one, we did file publicly, and we're very pleased with our partnership with Whole Foods, as we are with our customers in general. That's one of the things we strengthened over the last couple of years. But our relationship with them is strong, it's growing, their business is growing, and they're giving us more to do. And I think it's generally a great development, and we worked hard to continue developing our relationship with them as we do our other customers.
Great. So we have time for some audience questions, so one just came in: "How do you plan to address the expiration, the interest swaps that are set to expire over the next three years? How much additional interest expense do you expect annually as a low fixed rate set to become higher?
Well, a couple of thoughts here. So, we have a strategy to basically maintain a good level of coverage on the variable versus fixed debt, right? And we had some expiration in the third quarter. We still have a good portion of our debt, you know, that is covered, you know, by the swaps. And again, we are obviously never, you know, speculative in that direction, but as we continue to monitor the yield curves and the opportunities to keep the level of coverage that, you know, that we like, and it's been, you know, approved with the board, we'll continue to look into that. So I would say more to monitor, more to come in that direction. The gains have been very small.
Gains or losses have been very small, so the portfolio is effective. And I would say on the interest question, as well as, as I was highlighting in the opening, we view it as, in the end, the fourth element of how we're gonna, you know, improve our free cash flow, because we're gonna apply every dollar of free cash flow to deleverage, and eventually, you know, the lower debt is gonna cause less interest expense.
... And Matteo, wouldn't you say that most of our facilities are prepayable, so that allows us the flexibility to move in the direction you said?
That is, that is correct. I mean, the majority of our facilities are prepayable, and the majority of those are prepayable with no penalties.
And then one more industry question for me. So we were at the Natural Products Expo West conference back in March, and, you know, we continue to see a lot of innovation for the smaller suppliers. But UNFI has a very unique vantage point, just given its exposure to various retailers. So how would you guys characterize the innovation that you're seeing, you know, overall in the market? Any trends that you see out there? Just anything, just to comment overall innovation and trends.
Well, that show in particular would leave you with no other conclusion than there's a tremendous amount of innovation in the market. And UNFI focuses on that, enabling small suppliers through our UpNext program. We have a facility, and we just had our largest show in the history of the company, at Mohegan Sun, within the last couple weeks. And one of the things we do with innovative suppliers is we have a Pitch Slam, where they get to pitch ideas, and we're very much focused on that. We give some of our lowest fees to the up-and-comers. And we do that for two reasons: one, because obviously innovation creates growth, but also because our customers value it so much. So I would agree with you. There's an extraordinary amount of entry-level innovation in the industry.
I think it's gonna continue to grow as companies are successful and people are able to see the possibilities.
Great. Any particular trends you would highlight? I don't know if anything stands out as, as new. At least when I went there, you know, I'd say it was more snacking. A lot of innovation in snacking, beverages, some of the vitamin areas, but not sure if-
Yeah
- anything else, add anything else onto that.
Well, I think crossing that over on health and wellness, broadly defined. I think the more people begin to think about food as medicine and all of the innovation that's taking place around healthcare and the retail democratization of healthcare, I think all that comes together into a really exciting set of pathways. And it's some of what we're seeing across our natural and organic, and wellness-oriented retailers. They're tapping into it and doing it very effectively.
Great. So another audience question just came in: "Can you provide greater clarity of the total dollar amount of working capital inventory savings?
I'll provide a framework. There is gonna be a, you know, a forum as we talk about, you know, first our 2025 case, and then the the outlook, the strategy, where we're gonna go into greater details. But our, our framework is that on working capital in general, we will continue to drive discipline with the days of sale outstanding, as well as the days to pay, right? That is the foundation of the customer-facing relationships with the suppliers, the customers, and kind of our network. On inventory, what we saw specifically is through the COVID growth and through some of the expansions that we made, we built several days on hand of inefficiency in our processes. And we definitely target as a first step to go back to the pre-COVID level, but Sean and I are introducing Kaizen continuous improvement in everything that we do.
So once, you know, we achieve that target, you know, we will continue to find more opportunities. Think about how do you apply lead times, flow, pull systems to a $2.3 billion publicly disclosed inventory balance, and you start reducing days on hand, right? In my experience, you usually get a pretty reasonable improvement right away. That's where you find, you know, the inefficiencies that are low-hanging fruit. And again, over 55 distribution centers is a large network. Then we'll work the structural improvement to make sure that as again, we will continue to look for profitable growth, we grow the service model, et cetera, the inventory levels don't go back up, and we don't have inefficiencies creeping back up.
Great. So I'm gonna wrap up with two final questions. So just on private label, you know, at least from my vantage point, you see continuing consumers and retailers, you know, focus increasingly on private label. We'd just love to hear, you know, what you guys are seeing in the private label category and the key efforts of UNFI in this area.
Sure. A couple things. Number one, the trend is... You're accurate, of course. Private brands has been an important growth area, and retailers are focused on it to give price point variation so that some consumers of all kinds can find the price point they want in a given product area. Second, there's premiumization. Within private label, you're seeing at least one very large retailer introduce a premium private label. And if you look around the world in best practices, you see multiple tiers in private labels. At UNFI, what we've done is we're streamlining our private labels into two or three main assortments based on the positioning that our retail customers would have, and we're focused on building out our top tier with two brands, and then we've got the middle tier, and then we've got some affordability tiers.
I would say it's a focusing strategy. We've eliminated some brands that were very small and were cluttering up the system, and we're focusing on differentiated portfolios with the price tiers. And I'm excited about the innovation we're doing, and more to come.
... Great, and then my final wrap-up question, you know, we're gonna be asking a number of companies regarding this area. So just on, I guess, automation, AI, you know, how do you feel about UNFI's position in both areas in terms of automation with the centers, and then just in terms of how the organization's embracing AI and some of the newer forms that we're seeing out there right now?
Sure. It's a hard one to summarize briefly, but let me give it a shot, and then I'll ask Matteo to jump in. We view automation, and AI for that matter, to be tools in the toolbox. The network optimization strategy that we have had underway and that will accelerate in the really quarters, years ahead, with significant intention, is all about maximizing the returns on our capital base to serve customers and deliver excellent returns to our shareholders. And so we'll be using various forms of technology to achieve that. From an AI perspective, of course, AI's in all the tools we're using now, and we're gonna continue to use smart technology to drive some of the broader base operating efficiency that Matteo described.
Our shared services area reports into him and touches on his experience, and we see opportunities to significantly leverage technology to get more efficient and effective there. Matteo, do you have anything else to add?
You said it very well, Sandy. I mean, I would just reinforce this idea that the combination of automation with the capability building through Lean Six Sigma is a formidable, you know, part of our go-forward strategy, and we'll continue to drive that. And as you said very well, AI goes, you know, well beyond just commercial opportunities, but it will be embedded in a lot of things that we do every day in all the functions.
Great. Thank you. Thanks, Sandy, and thanks, Matteo, for joining us today.
Yeah, thanks, Rupesh. Good to be with you.