Farmer Brothers Q2 2024 Earnings Call Transcript

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February 8, 2024

Key Takeaways

  • Gross margin expanded 550 basis points year-over-year to 40.4%, the first time above 40% in over a year.
  • Adjusted EBITDA swung to a $2.3 million profit in Q2 from a $2.2 million loss a year ago.
  • Net sales of $89.5 million rose modestly by $0.6 million, boosted by higher pricing but partially offset by lower coffee volumes.
  • The company believes it can sustain gross margins above 40% and reach free cash flow positivity by early fiscal 2025.
  • Cost‐saving efforts such as SKU rationalization, brand consolidation, roasting consolidation, and Project Symphony CRM are underway to improve efficiency and customer retention.
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Earnings Conference Call
Farmer Brothers Q2 2024
00:00 / 00:00

There are 4 speakers on the call.

Operator

Good afternoon, and welcome to the Farmer Brothers' Fiscal Second Quarter 20 24 Earnings Conference Call. At this time, all participants are in a listen only mode. As a reminder, this call is being recorded. Earlier today, the company issued its quarterly shareholder letter available on the Investor Relations section of Farmer Brothers' website at farmerbros.com. The shareholder letter is also included as an exhibit on the company's Form 10 Q and is available on its website and the Securities and Exchange Commission's website atsec.gov.

Operator

A replay of this audio only webcast will be available on the company's website approximately 2 hours after the conclusion of this call. Before we begin the call, please note all of the financial information presented is unaudited Various remarks made by management during this call about the company's future expectations, plans and prospects may constitute forward looking statements for of the Safe Harbor provisions under the federal securities laws and regulations. These forward looking statements represent the company's views as of today and should not be relied upon as representing the company's views as of any subsequent date. Results could differ materially from those forward looking statements. Additional information on factors which could cause actual results and other events to differ materially from those forward looking statements available in the company's shareholder letter and public filings.

Operator

On today's call, management will also reference certain non GAAP financial measures, including adjusted EBITDA and adjusted EBITDA margin and assessing the company's operating performance. I will now turn the call over to Farmer Brothers' President and Chief Executive Officer, John Moore. Mr. Moore, please go ahead.

Speaker 1

Good afternoon, everyone, and thank you for joining us. Before we get started, I would like to thank the Board of Directors and the entire Farmer Brothers Organization for the appointment to President and Chief Executive Officer. It is an honor and privilege to lead such a storied coffee company. Today, we are just over 6 months into the transition from the sale of our direct ship business to a sole focus on direct store delivery. We are beginning to see positive momentum on both an operational and financial front.

Speaker 1

During the first half of fiscal twenty twenty four, we made strides in rightsizing our business, becoming more operationally efficient and adjusting our cost structure to support a return to sustainable profitability. Our second quarter results show some positive trend lines. While revenue gains were modest on a year over year basis, We saw meaningful improvements with gross margin and adjusted EBITDA. Boosted by improved pricing and a favorable position on our coffee costs, Our gross margin expanded 5.50 basis points versus the prior year and rose above 40% for the first time in more than a year. Even with the progress we have made on gross margin, we know we still have opportunities to improve this metric going forward.

Speaker 1

We anticipate additional gross margin upside over time as we have now sold through the majority of our older higher cost inventory. We believe the company is now positioned to generate sustainable gross margin in excess of 40%. Similarly, While we are encouraged by our adjusted EBITDA improvement in the Q2, we know we have opportunities to improve there as well. Enhancing our ability to have the right product in the right place at the right time will drive top line sales to better leverage our cost structure. Significant reduction in SKU counts and brand consolidation will reduce overhead and improve roasting efficiency for better margins.

Speaker 1

The impact of these initiatives will only be amplified as we consolidate our roasting operations and reduce complexity in our Portland facility. All of these efforts share a common purpose and goal, improvement in our customer retention and growth. Whether through better execution in every step of our supply chain, our focus on brewing equipment and service, we know giving our customers what they need most is the fastest path to success for Farmer Brothers. Through what we have internally dubbed Project Symphony, we are also working to improve our customer experience with better processes and technology. We are enhancing our point of sale management tools and have recently launched a new customer relationship management system reinforcing the theme of customer retention.

Speaker 1

These advances are critical as we know simply cutting costs and being more efficient won't be enough to achieve sustainable profitability and free cash flow. Part of our sales growth equation includes adding innovative on trend products and continued product penetration within our existing customer base. In summary, we are pleased with the positive momentum we saw during the Q2 and believe our path to positive free cash flow by early fiscal 2025 is firmly in view. With that, I'll turn it over to Brad to discuss our financials in more detail. Brad?

Speaker 2

Thanks, John, and hello, everyone. As a reminder, results for fiscal 2024 and prior year 2nd quarter are reported on a continuing operations basis, reflecting performance of our DSD business in respective periods. Please refer to our Form 10 Q, which was filed with the SEC today for further information regarding the respective performance of our discontinued and continuing operations. Overall, we are pleased to report a strong fiscal second quarter highlighted by a meaningful uptick in gross margin and adjusted EBITDA profitability. Net sales for the Q2 of fiscal 'twenty four were $89,500,000 an increase of $600,000 compared to $88,900,000 in the prior year period.

Speaker 2

Net sales were positively impacted by higher pricing, but were offset by lower coffee volumes. Higher pricing along with favorable commodity costs enabled expansion of our gross profit margin by 550 basis points on a year over year basis to 40.4% compared to 34.9% in the Q2 of fiscal Operating expenses decreased $2,600,000 from $34,300,000 in the Q2 of fiscal 2023 to $31,700,000 in the Q2 of fiscal 'twenty four. This included a $1,100,000 increase in G and A costs, driven by lower incentive compensation expense in the prior year and a $2,500,000 increase in selling expenses, driven by increased healthcare expense and the same prior year incentive reduction. Our overall improvement in operating expense was driven by a $6,200,000 increase in net gains from the sale of branch properties and other assets during the quarter. Net income from continuing operations moved from a loss of $8,700,000 during the prior year period to a gain of $2,700,000 the Q2 of fiscal 2024, an improvement of $11,400,000 Our capital expenditures for the quarter were $3,300,000 compared to $4,700,000 in the prior year period.

Speaker 2

In fiscal 'twenty four, we anticipate between $12,000,000 $15,000,000 in capital expense. We expect to finance these expenditures through cash flow from operations and borrowings under our credit facility. Adjusted EBITDA the quarter was $2,300,000 an increase of $4,500,000 compared to a net loss of $2,200,000 in the same period a year ago. This is a significant swing, which highlights the work we have done to right size the business to support healthy DSD growth. Turning to the balance sheet.

Speaker 2

As of December 31, 2023, we had $6,900,000 of unrestricted cash and cash equivalents. We had outstanding borrowings of $23,300,000 utilized $4,600,000 of the letters of credit sub limit and had $24,500,000 of availability under our credit facility. We believe we are adequately capitalized to finance operations in fiscal 'twenty four and expect to achieve our goal to be free cash flow positive by early fiscal 'twenty five. In closing, I'll reiterate what John has said. While we recognize progress may not be linear on a quarter over quarter basis, we are feeling increasingly confident about the path we are on as we strive to generate sustainable top line growth and profitability.

Speaker 2

With that, I'll turn it back to Chuck. Chuck? Thanks, Brad. 6 months Into our pivoting of the business to focus solely on DSD, we are proud of the foundational work we

Speaker 1

have done to position the company for long term growth. While Farmer Brothers has always remained an industry leader in terms of size, service and product offerings, we needed a fresh look across the board from product lineup to operational structure to production systems. We've been able to make meaningful strides on all of these fronts in a short period of time, But we know there is still work to be done. During the second half of fiscal twenty twenty four, we will continue to focus on further improvements As we improve our cost structure and drive incremental margin improvement, drive customer growth and retention, increase market penetration for new on trend products and complete the transitional services associated with our direct ship sale. I want to take a moment to thank our entire Farmer Brothers team for their continued dedication and commitment to the company as we move through this transition.

Speaker 1

Our improvements to date would not have been possible without their hard work. Thank you also to all of you for joining this call and for your continued support of Farmer Brothers. We look forward to keeping you posted on our progress. We will now open it up for questions.

Operator

Today's first question comes from Gerry Sweeney with Roth. Please go ahead.

Speaker 3

Good afternoon. Thanks for taking my questions.

Speaker 2

Thanks, Eric.

Speaker 3

You discussed a little bit, well, I guess you mentioned, obviously, revenue was up modestly, but you also talked about volumes down slightly. I'm just curious how customer retention is going and maybe if you can discuss maybe utilization of DSD assets and how that's going to move forward?

Speaker 1

Sure, Jerry. I can start that off and then I'm sure Brad can add a little bit more color to that We've been very deliberate in how we approach this issue. We spent a lot of time in the field first and foremost learning from The boots on the ground, so to speak, where they see the issues and then we coupled that with the utilization of our AI technology, the same one that we've utilized successfully to help us through the pricing issues that we've been working through over the last year. And it's interesting in that the resounding messages came out exactly the same. So we came out of that process with a crystal clear idea of where the opportunities are in the DSD service side.

Speaker 1

And since then we've actually acted very quickly to address what those challenges might be. And it ultimately boils down to the idea that the value proposition is simple, But it's not very easy. You show up at the right place at the right time with the right products at the right price consistently and you have a winning value proposition. And what we're doing right now is shoring up all of the systems on the back end to better equip the field to serve the customers going forward. We do see that we're leveling off on our customer rates.

Speaker 1

We're seeing a positive trend line there. And going forward that should have an amplifying effect as some of the other initiatives like the gross margin increase, the improvement in OpEx get realized then at greater scale?

Speaker 2

Yes, I can add a little color to what Jon said. Yes. Sorry, Ken. Yes, no worries. So we as we took a look at what was driving kind of this customer retention issue we've seen, it's been Really kind of gratifying to see that what our PROs in the field state is cooperated by data.

Speaker 2

John would say Data corroborates them, I would say they corroborate data, but we came to the middle there. The benefit is that coming out of it, we have seen that Our price increases we have taken have not really been predictive of losing customers. So we know that we could turn our focus to what John stated, having the right product in the right place at the right time.

Speaker 3

Got it. And when sorry, John, when you talk about leveling off with customers, do you mean leveling off As in some of the customer churn was leveling off and you're maybe accelerating the opposite direction. I just wanted to get some clarity on that.

Speaker 1

That's exactly right, Jerry. So what we've been seeing is we had some churn in the past that rate is slowing down and slowing down substantively. We see it leveling off. And we also see that coupled with the fact our sales team is beginning to get their feet under them. Let's keep in mind that the new sales infrastructure has been in place now for about 6 months or so.

Speaker 1

We're seeing some positive signs there and that the business being added is actually exceeding expectations on standpoint. So we're seeing some positive signs of that leveling off and then turning around.

Speaker 3

Okay. It's Fair to say, sales processes in place, infrastructure in place that's sort of driving this leveling off and reacceleration of Customer volume growth.

Speaker 1

I'd say that's fair to say.

Speaker 3

Got it. Talked about, I think, SKU rationalization. My understanding from the last call was That was probably later this year after the TreeHouse service agreement runs off. Is that still a fair thought process or will you be able to do that sooner?

Speaker 1

Actually, we're seeing some positive signs there as well. We've defined exactly which SKUs we are rolling forward with. As we mentioned in the previous session, This will be the first time in the company's history that all of these brands are represented throughout the estate nationwide. We've never really had that before as we grew acquisition in the past. So that streamlining should give us quite a bit of efficiency going forward.

Speaker 1

And we actually just executed training sessions with the entire state of our branch network over the last 2 weeks rolling out 60% of the overall SKU count and what we're referring to as the traditional and premium tiers.

Speaker 3

Got it. One more question for me because I know we do have a follow-up. Just inventories, I think running at $55,500,000 Just curious to maybe where that could go past once you

Speaker 1

get past the SKU rationalization

Speaker 3

TreeHouse agreement runs off, is there an opportunity maybe to unlock a little bit more cash from working capital on the inventory side?

Speaker 2

Yes, I'll take that one. So TBD on amount, Jerry, just because at this point, we're still unwinding some of the TreeHouse interactions. So Inventory is a bit of clouded through that lens. But it's easy to understand that As we minimize SKUs, we don't need to carry as much inventory.

Speaker 3

Yes. Okay. That's fair. I appreciate it. Thanks guys.

Speaker 2

Yes. Thanks,

Operator

And ladies and gentlemen, this concludes our question and answer session. I'd like to turn the conference back over to John Moore for closing remarks.

Speaker 1

Well, everyone, we certainly appreciate you joining us today. We'll have a lot more to report over the months ahead and look forward to speaking with you again next quarter.

Operator

Thank you. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines and have a wonderful day.

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