UNFI CEO Sandy Douglas cites ‘deep disappointment’ with Q3 results

United Natural Foods Inc. (UNFI) posted higher sales for its fiscal 2023 third quarter but fell well short of Wall Street’s adjusted earnings-per-share estimate, with CEO Sandy Douglas telling analysts the company is taking steps to bolster its sagging bottom line.

For the quarter ended April 29, net sales totaled $7.51 billion, up 3.7% from $7.24 billion a year earlier, when the top line rose 9.2%, Providence, Rhode Island-based UNFI said Wednesday. The grocery distributor attributed the gain to inflation and new business, with the latter resulting from selling new or expanded categories to current customers plus new customer additions, partially offset by lower unit sales.

UNFI's Supernatural unit—consisting of Amazon-owned Whole Foods Market—turned in the strongest Q3 growth by far, with net sales up 12.2% year over year to $1.65 billion, in line with a 14.1% gain in the 2022 quarter.

The Independent grocery business segment (retail customers with fewer than 10 stores) totaled sales of $1.88 billion, with growth shrinking to 2.3% from 14.6% in the prior-year period. UNFI’s largest business unit, Chains (retail customers with more than 10 stores), tallied flattish growth, with sales inching up 0.6% to $3.13 billion, compared with a 5.2% uptick last year.

At the Other unit—encompassing international customers outside Canada, foodservice, e-commerce, conventional military and other business—sales edged up 2.4% to $640 million, down from year-ago growth of 7.9%.

Meanwhile, Q3 net sales at UNFI’s Retail segment—the Cub Foods and Shoppers supermarket chains—dipped to 0.7% to $598 million, versus a 2% increase in the 2022 quarter. Currently, the business includes 54 Cub Foods and 22 Shoppers stores.

"Inflation is moderating, but it remains high in some categories and deflationary in others," UNFI CEO Sandy Douglas said. / Photo courtesy of United Natural Foods Inc.

Challenging operating and macroeconomic backdrop

“We continue to get validation from our customers and our top-line results that we’re making the right strategic decisions and are actively building upon our customer and supplier value propositions. Our pipeline remains strong. Our high-margin service business continues to grow, and our private-brand business continues to help our customers more effectively to compete,” Douglas told analysts in a conference call on Wednesday. “We now need to accelerate our efforts to combine our unmatched market offerings with a more efficient, dynamic and digital-oriented operating model so that we can more adeptly anticipate and more efficiently respond to changing market conditions.” (Call transcript provided by AlphaSense.)

Douglas cited “deep disappointment” in UNFI’s Q3 performance and noted that the company continues “to operate in a challenging environment.”

“The worst impacts of the pandemic on our business are receding, but the fallout has created significant volatility, which has been difficult for us to anticipate,” he said. “Inflation is moderating, but it remains high in some categories and deflationary in others. Consumers are adapting to smaller basket sizes and more value-oriented items. And at the same time, supply chain performance is improving, but operating cost remains structurally higher. We again grew sales broadly across our wholesale business. However, both adjusted EBITDA, and adjusted EPS declined compared to last year and were very well below our expectations.”

At the bottom line, UNFI reported fiscal 2023 third-quarter net income (attributable to the company) of $7 million, or 12 cents per diluted share, compared with $67 million, or $1.10 per diluted share, a year ago. Net earnings reflected a $33 million LIFO charge and $7 million in business transformation costs, while the 2022 quarter included an $88 million pretax gain on sale of assets related to a distribution center, a $72 million LIFO charge and $8 million of restructuring, acquisition and integration expenses.

On an adjusted basis, UNFI’s net income came in at $33 million, or 54 cents per diluted share, versus $67 million, or $1.10 per diluted share, in the year-ago period. Analysts, on average, had projected Q3 2023 adjusted EPS of 68 cents, with estimates ranging from 50 cents to $1.11, according to Refinitiv.

Adjusted EBITDA for the 2023 third quarter totaled $159 million, down from $196 million a year earlier.

Source: United Natural Foods Inc.

Shoring up the bottom line

Douglas told analysts in the call that a melange of factors impacted UNFI’s Q3 profits. They included mass retailers taking share from natural grocery retailers via price competition, an unexpected slowdown in wholesale commodity inflation that weakened margins, a rough consumer environment that squeezed retail segment results and higher-than-expected operational costs, including higher shrinkage levels. UNFI, too, also made long-term investments to improve the customer and supplier experiences.

“We’re continuing to devote significant internal and external resources—including working with consulting groups and others—to better refine and improve our business disciplines and go-to-market strategies to benefit our customers, suppliers and UNFI, with a clear focus on raising near-term and longer-term profitability,” according to Douglas.

“We have also been focusing on our plans to address our profitability weakness and, we’re implementing actions which we expect will add over $100 million in annualized operating-margin benefits. This projected benefit is expected to help us set margin challenges that we expect in fiscal 2024, including lower procurement gains in the first half and a normalization of incentive compensation accruals. These plans include more rigorous budgeting procedures, administrative structure efficiencies, SKU rationalization and commercial contract reviews.”

Source: United Natural Foods Inc.

Lower earnings outlook

Looking ahead, UNFI cut its full-year fiscal 2023 (ending July 29) earnings guidance to reported EPS to 20 to 70 cents (from $1.50 to $2.35) and adjusted EPS to $1.80 to $2.30 (from $3.05 to $3.90). Analysts’ consensus estimate, before UNFI’s earnings report on Wednesday, was for full-year adjusted EPS of $3.32, with projections running from $3.05 to $3.53, according to Refinitiv.

UNFI reaffirmed its net sales outlook of $30.1 billion and $30.5 billion but trimmed its adjusted EBITDA forecast to $610 million to $650 million from $715 million to $785 million.

“Given our performance year-to-date and expected trends in the fourth quarter, we’re maintaining the midpoint of our outlook for sales, and we’re lowering our outlook midpoints for adjusted EBITDA and adjusted EPS,” Chief Financial Officer John Howard told analysts in the call.

“These revised expectations include an assumption that procurement gain opportunities continued to decline as a result of the macroeconomic and competitive environment, and we expect supplier promotional activity to remain below pre-pandemic levels,” Howard said. “It also reflects our assumption that the broader operating environment will remain challenging, with share shift continuing to pressure independence. Additionally, while some of the near-term cost action [CEO] Sandy [Douglas] described in his remarks may have some benefit in the fourth quarter, we do expect this benefit to be limited, with the majority of benefits impacting fiscal 2024.”

UNFI’s stock price opened at $19.98 on Wednesday after closing at $27.57 on Tuesday, but shares recovered to finish the day at $23.46.

“UNFI is facing many challenges (e.g. food disinflation/deflation, natural grocers losing share to mass merchants, low vendor promos, inventory spoilage) at a time when the company is also investing in its business,” CFRA Research analyst Arun Sundaram said in a research note on Wednesday. “As a result, profits are under intense pressure, and it is unlikely that trends will reverse in the near term, given persistent macro headwinds. However, we maintain a hold as we believe the shares reflect these risks and uncertainties. One positive is net debt is now just over $2 billion, the lowest in nearly five years.”