TreeHouse Foods, Inc. (THS - Free Report) reported second-quarter 2018 results, wherein both top and bottom lines surpassed estimates for the third time in a row. However, results dropped year over year due to increased freight and commodity costs as well as soft volumes across segments.
Nonetheless, shares of TreeHouse have gained 5.8% yesterday after the solid second-quarter show. Moreover, this Zacks Rank #3 (Hold) stock has gained 12.5% in the last three months, outperforming the industry’s growth of 5.4%.
Quarter in Detail
Adjusted earnings of 37 cents per share declined 27.5% year over year. However, earnings comfortably surpassed the Zacks Consensus Estimate of 25 cents.
Net sales of $1,455.8 million topped the Zacks Consensus Estimate of $1,396 million. Though sales dropped 4.4% year over year, it was mainly owing to the divestiture of the SIF business, and efforts to simplify and rationalize low margin SKUs. Excluding the impact of divestiture and SKU rationalization efforts, sales climbed 0.9%, courtesy of favorable pricing and positive currency translations, partly offset by adverse volume/mix. Management blamed the year-over-year fall on soft volume/mix in the Meals and Baked Goods units along with SKU rationalization endeavors.
Gross margin was 16.2%, down 200 basis points (bps) from the year-ago figure due to higher cost of sales, stemming from margin improvement initiatives and restructuring activities. Further, gross margin was hurt by increased operating expenses due to a labor dispute in the Beverages segment, escalated freight and commodity costs, and elevated variable incentive compensation.
Operating expenses, as a percentage of sales, dipped 380 bps to 15.9%, on account of savings from the Structure to Win initiative, other cost-saving efforts and lower amortization costs. This was somewhat negated by escalated freight costs. Adjusted EBITDAS fell 19.9% to $119 million while the adjusted EBITDAS margin contracted 160 bps to 8.2%.
The company’s reportable segments are organized by products and are classified into Baked Goods, Beverages, Condiments, Meals, and Snacks.
Baked Goods: Sales from the segment dropped 1.6% to $319.1 million. This resulted from the company’s continued efforts to rationalize SKUs, as well as adverse volume/mix due to heightened competition, mainly in the dough category, partly negated by improved pricing and positive currency effects. Direct operating income margin for the segment contracted 40 bps to 9.6%, owing to escalated commodity, freight and warehouse expenses, somewhat cushioned by reduced operating costs, and lower SG&A expenses.
Beverages: Sales tumbled nearly 4% to $236.4 million, thanks to efforts to rationalize SKUs and unfavorable pricing due to increased competition. Excluding the rationalization efforts, volume/mix was favorable, backed by incremental distribution and category gains in broth and tea, partly compensated by the labor dispute at one of the Beverage plants as well as stiff competition. During the reported quarter, direct operating income margin declined 510 bps to 19.4%, owing to higher commodity expenses (mainly oil) as well as increased operating costs. These were partially compensated by better pricing, reduced freight costs and lower SG&A expenses.
Condiments: Sales for the segment fell 2.6% to $336.1 million as a result of SKU rationalization efforts and adverse volume/mix, which was partly negated by favorable pricing and currency tailwinds. Direct operating income margin expanded 40 bps to 10.8%, primarily due to lower operating costs, reduced SG&A expenses and better pricing. This was somewhat compensated by commodity cost increments (mostly packaging, eggs and cucumbers) and escalated freight expenses.
Meals: Net sales tanked 14.5% to $246.5 million, primarily owing to SKU rationalization efforts, impacts from the divestiture of the SIF business, along with adverse volume/mix, stemming from the competition (mostly in the pasta, ready-to-eat cereal and dry dinner categories). However, the decline was partly compensated by improved pricing. Direct operating income margin contracted 20 bps to 11.5%. The decline was mainly due to increased freight, higher SG&A and elevated commodity costs, partly negated by lower operating costs, as a result of plant closures and supply-chain optimization efforts.
Snacks: Net sales from the segment inched up 0.2% to $317.7 million, as improved pricing (related to commodity-based price increases) and favorable volume/mix were partially countered by the SKU rationalization actions. Direct operating income margin crashed 180 bps to 1.4% due to unfavorable mix, and higher freight and operating costs. These were partially compensated by lower SG&A expenses.
Other Financial Updates
The company concluded the reported quarter with cash and cash equivalents of $98.9 million, long-term debt of $2,390.8 million and shareholders’ equity of $2,185.5 million.
As of Jun 30, 2018, net cash from operating activities was $231.3 million while free cash flow was $143 million.
TreeHouse bought back about 0.3 million shares for $12.5 million in the second quarter. The company plans to repurchase shares worth $55 million under the plan in 2018.
2018 & Q3 Outlook
Management remains encouraged about exploiting the opportunities in the significant private label space. The company is focused on efficiently curtailing costs and aligning capacities as per consumer needs.
Further, management is on track with the TreeHouse 2020 initiative, which is expected to contribute operating margin growth of nearly 300 bps over the next three years. It also expects annual savings of about $55 million from its Structure to Win plan.
TreeHouse Foods has adjusted its earnings guidance and lowered its sales view for 2018 to reflect expectations of slightly lower-than-anticipated volumes in the second half of 2018. The company now projects earnings of $2.05-$2.35 per share compared with the prior guidance of $2.00 to $2.40. Moreover, sales are now expected to lower about $100 million at $5.8-$6 billion. The company anticipates the SKU rationalization efforts and soft volumes across most of its divisions to be a headwind to top-line growth in 2018.
For the third quarter, management anticipates sales of $1.39-$1.45 billion. Adjusted earnings are expected to be 50-60 cents per share. The company continues to expect SKU rationalization-related impacts and soft volumes in some businesses to continue in the third quarter. However, it anticipates pricing to fully offset the commodity and freight cost-related headwinds. Further, it estimates gains from the TreeHouse 2020 and Structure to Win savings programs to compensate for the operational shortcomings due to Pecatonica strike on the Beverages division and the timing delay related to Canadian tariffs.
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