Good day, and thank you for standing by. Welcome to the Flowers Foods Third Quarter 2023 Results Conference Call. Please be advised that today's event is being recorded. I would now like to hand the conference over to your speaker today, J.T. Rieck, Executive Vice President of Finance and Investor Relations. Please go ahead.

Thank you, Liz, and good morning. I hope everyone had the chance to review our earnings release, listen to our prepared remarks, and view the slide presentation that were posted yesterday evening on our Investor Relations website. After today's Q&A session, we will also post an audio replay of this call. Please note that during this Q&A session, we may make forward-looking statements about the company's performance. While we believe these statements are reasonable, they are subject to risks and uncertainties that could lead to actual results differing materially. Along with what you hear in these remarks, important factors related to Flowers Foods' business are fully detailed in our SEC filings. We also provide non-GAAP financial measures for which disclosure and reconciliations are available in the earnings release and at the end of the slide presentation on our website. Joining me today are Ryals McMullian, Chairman, CEO, and President; and Steve Kinsey, our CFO. Ryals, I'll turn it over to you.

All right, great. Thanks, J.T. Good morning everybody. I appreciate you joining our third quarter call. We're very pleased with our strong third quarter results. We generated record quarterly revenues and maintained our unit share despite inflationary pressures. Sales benefited from strategic pricing initiatives that are designed to mitigate inflation and improve volume trends. Our leading brands continue to perform well and we're investing in innovation and marketing to maintain that momentum. We also continue to make progress in our digital and cost savings initiatives, which are helping to improve our efficiencies. Despite the strong results, revenues did come in a little bit less than expected due to business rationalizations that materialized sooner than we expected and a lower-than-normal amount of storm activity. It's important to note that although the timing can be unpredictable, these business exits are an integral part of our portfolio strategy as we aim to improve the profitability of our food service business. We've made great progress in that regard and we expect continued improvement moving forward. I remain extremely confident in our prospects and I've never been more confident in our ability to grow shareholder value over time. Before we move to questions, I also want to acknowledge that today is Veterans Day, and so we would like to express our heartfelt gratitude to all the men and women in service, who have chosen to risk their lives to protect our freedoms here at home. So, thank you very much for your service. With that, Liz, we're ready to take questions.

Our first question will come from Bill Chappell with Truist Securities.

Thanks. Good morning.

Hey, Bill.

Just to summarize your comments, I want to ensure I'm interpreting this correctly. Is it accurate to say that you believe the turbulence in the business post-pandemic has stabilized over the summer, and although there haven't been significant changes in the third quarter, things are starting to improve? The only notable change was that the exit of some of your businesses occurred a bit quicker than anticipated. Is that an accurate summary of the quarter?

I think that's a great summary. We're really pleased with the results this quarter. While the loss of the food service business affected our results and guidance, that was anticipated. These exits were planned as they pertain to low-margin, complex business areas. In fact, we're benefiting from reduced transportation costs, as serving this particular customer was challenging. The focus should be on the strength of our underlying business, and in that regard, we are quite pleased. The branded mix actually improved a bit this quarter, which is positive. We continue to see sequential improvement in volume on the branded retail side, along with strong share performance. Your framing is accurate; we are starting to see stabilization. Even in the early weeks of the fourth quarter, we have maintained strong unit share performance.

Great. Now that helps. And then just maybe a little bit more color on the settlement in California, not necessarily the legal, but that you're converting into an employee model. I guess I don't remember, or if you've disclosed how big California is anyways, but does that alter the margins going forward? And is there a chance that other states have to go to an employee model down the road?

Yes. California has a distinct legal environment, which places us in this situation. It's important to note that this is not something that should be generalized across the entire country. We also settled in Maine, albeit on a smaller scale, and transitioned to a company-owned model there as well. In California, as you mentioned, once the settlement is finalized—expected early next year—we will gradually shift from the independent model to a company-owned model. This will entail some changes in our cost structure. While we're not offering guidance for 2024 at this moment, we will provide more details in February. Running a company-owned model tends to be more expensive than an independent distributor model overall. However, this change does offer advantages in terms of control over store-level service, display execution, and service days, which may help balance out those additional costs.

Got it. Thanks so much.

Thank you, Bill.

Our next question will come from the line of Steve Powers with Deutsche Bank.

Hey, good morning. Can you hear me?

Yes, Steve. Good morning.

Okay, sorry, operator, there was a brief interruption. I have two questions. The first is about the ERP program and its progress since the rollout began. If I'm correct, the projected costs for 2023 have decreased from around $100 million at the midpoint to $75 million this quarter. Additionally, capitalized costs have also decreased, and the amount included in adjusted EBITDA has gone from $26 million to $17 million quarter-over-quarter. Can you confirm if these numbers are accurate? If they are, do they indicate savings you’ve achieved, or are they due to initial delays in the rollout? How should we interpret this as we look ahead? Thank you.

Yes, Steve, it's really more of a change in timing. The total cost of the project is still estimated to be in the range we’ve shared, which is about $350 million on average. We are still aiming for project completion in 2026, so the total costs remain unchanged. However, we did adjust the timeline. This change was partly due to our ERP rollout at two bakeries, and we’re close to resolving the issues from that rollout. We’ll resume the rollout at other bakeries next year. Although we had planned to continue with some bakeries in the latter half of this year, we decided to adjust the timing slightly. Additionally, in response to Bill's question about California, we are reallocating some resources within IT and the business to focus on the model we'll implement there. We felt it was wiser to adjust the ERP timeline to ensure we can effectively manage both projects.

Okay. Okay, that makes sense. Thank you for that. And then the second question I had was actually on Terry Thomas' appointment as Chief Growth Officer back in August. I know, Terry reports to you, Ryals, but love a little bit more perspective on what his team looks like and how he's integrated himself and his broader role, or how the company has just within broader business operations. How does the Chief Growth Officer sort of interface with the rest of the business, and how does that change planning and just day-to-day execution as the company goes forward?

Yes, that's a great question. We're very excited about this role. This was a direction I had hoped to pursue eventually, and fortunately, the opportunity arose sooner than I anticipated. Terry's team oversees various aspects, including brand management, marketing, consumer insights, innovation, revenue, and growth management. Essentially, all the growth initiatives are part of Terry's responsibility. Heeth, as President and Chief Operating Officer, manages all operational aspects of the business. These two will definitely be collaborating closely. Regarding planning processes, while I don't expect immediate changes, we are working on enhancements that should improve our sales execution and demand planning. Additionally, Terry will collaborate with me to identify new revenue streams, both organically and through mergers and acquisitions. He's an impressive executive, as evident from his background, and we are thrilled to have him with us.

Okay. Thanks, Ryals. And thanks, Steve as well.

Yes. Take care, Steve.

Our next question comes from the line of Mitchell Pinheiro with Sturdivant & Company.

Hey, good morning.

Hey, Mitch.

So, a couple questions. First, why do you think the promo activity is below average with the consumer kind of getting pressured? I think grocery and retail would be a little more interested in seeing some volume turn positive in the category. So, why do you think it's sort of down or below average? And wouldn't you anticipate down the road here in a quarter or two to see a little more heightened activity?

So, Mitch, it is slightly up. In the prepared remarks, we mentioned that while the category is up, it still remains below pre-pandemic levels. Your observation about it being below average is certainly accurate. Our research indicates that the main reason for this is the lack of significant lift; historically, the category has been driven primarily by base sales, with some incremental gains from promotions. Currently, we’re not seeing much lift from promotions, which suggests some consumer pressure. Consumers are mostly purchasing only what they need. Looking ahead, I might expect some increased promotional activities as we move into next year, but it's challenging to predict. Given the current macroeconomic environment, I would have anticipated a bit more of an increase by now, but we haven’t seen that, largely because there isn't much return from promotions at this time.

What is driving the higher sale rates that you mentioned in relation to margins?

Yes. So a lot of that is retailers are very keen on minimizing out stocks due to the growth of e-commerce. And so, keeping a little bit more on shelf can obviously impact your style a bit.

Okay. Is this trend seen across all categories? Is it only in traditional loaf, or are you observing it more broadly in organic and other sub-categories?

No, I would say it's more centered in traditional loaf. I mean, the stale rates for DKV and things like that are trending about where they were.

Your market share in bread has remained fairly stable, fluctuating by a few basis points over the past couple of years. I'm interested in understanding what it would take to increase your share from 17% to 19% or even 21%, given that your current share is already modest for a number two player in the category.

Yes, it's a great question. One element we're currently facing is the resurgence of private label products as consumers experience pressure, although it's important to note this trend seems to be moderating as we move forward. Additionally, our growth will be influenced by further expansion into under-developed areas. While we continue to see strong growth in the Northeast, we...

Mitch, we also have a decent chunk of the country that we don't cover in that upper Midwest area. So, gaining access to that market at the right point in time will also be nicely accretive to overall share. And look, we continue to innovate as well. And we've proven that consumers will pay a premium price for differentiated items that really lean in heavily on quality and taste, right. And our innovation efforts, whether that's in our core category or now I'm moving outside the category with snacks is focused on that. And that should also help us drive share going forward. I'd also call out breakfast. Until we brought forth Dave's Killer Bread into the breakfast category, we virtually had no presence there. And so, and we're experiencing some nice growth there. Now we've got Papa Pita online out west. We're able to deliver fresher muffins to that part of the territory and are picking up some distribution that we had lost due to quality issues shipping it across the country. So, all these things are important and ultimately add up to improve share over time.

Okay, well, yes, thanks for the answers. I'll pass it along. Thank you.

Our next question comes from the line of Connor Rattigan with Consumer Edge Research.

Hey, guys. Good morning. Thanks for the question.

Morning, Connor.

Yes. So I guess, first things first on the business exits that you mentioned. I guess, I'm just a little bit confused as to why these were ahead with the full year guidance. I mean, were these not scheduled to occur until 2024, or was this maybe more of an opportunistic cost-savings decision in 2023?

Yes. So, this one would have occurred probably either right towards the end of the year or into 2024. So, the fact that it occurred when it did accounts for the impact that it had in the third quarter and for the rest of the year. But again, I just want to reiterate that wherever it fell, this was planned. It's a smart exit, believe me, and we'll be a lot better off for it. If you think about our portfolio strategy, and what we're trying to do, just to reiterate is to either margin up to our targets or exit this low-margin food service business. And the good news is it's working. We've been able to increase the profitability of our food service business even though we've made it smaller, and those efforts will continue. Now, if we can, through price or distribution or otherwise, get this business up to our target, then fine. We're more than happy to keep it and grow with the customers. If not, then we're also more than happy to exit it and help them transition to a new supplier.

I understand. That makes sense. Regarding the mention of storm activity as a challenge in the third quarter, I'd like to express my appreciation for the reduced storm activity this year. However, in terms of how it impacts the business, I have typically viewed hurricane activity as a factor that pulls demand forward rather than a structural increase in demand for the year. For instance, if someone buys bread in preparation for a storm, they probably won't consume it all within a short period of one to three days. Am I interpreting that correctly?

Yes, you are. It's a factor, but certainly not the only one. Storms are very difficult to predict. In terms of year-over-year comparisons, there were around 13 named storms last year, though not all of them made landfall. This year has seen significantly less storm activity than what the historical average would suggest. It was unusual to have so little storm activity in the third quarter. However, it's challenging to plan for such irregularities, but it certainly was a factor.

Got it. 13 storms, too many. Thanks, Ryals, as always.

Okay. Thanks, Connor.

Our next question will come from the line of Jim Salera with Stephens.

Hi, guys. Good morning. Thanks for taking our question. Maybe as a quick follow-up to the last question on the storm activity. Is there any way you can size up the impact? I don't know if you guys had, like an internal estimate based on what you might have thought or just to kind of give us a sense for how much of an impact that was in the quarter.

Yes, we can provide some insight, but it's not something we typically disclose. I would say that if we hadn't experienced the unexpected changes in foodservice and if storm activity had been more typical in areas with higher populations, we would have been much closer to our expected performance.

Okay, that's fair. When you talked about unit share in the prepared remarks, I don't think, DKB share gain is surprising, just given the strength that that brand has. But I was a little bit surprised that Wonder gained while Nature's Own lost. If anything, I probably would have thought it would be the inverse. So, can you just offer some color around the divergence between Wonder and Nature?

Yes. We've actually talked a little bit about this before, but I'm glad you asked. We can put a finer point on it. So, the Wonder share gains are largely going to be in the sandwich buns and roll segment, where we've actually hit some unit share highs with our focus on and execution with our Wonder Bread program. You still caught another holiday in that quarter with Labor Day, our partnership with the USO, etc. So, that accounts for a lot of the Wonder share increase, which we're really happy to see because before we bought the Wonder brand, we didn't have a national sandwich bun and roll brand that we could compete with across the country, right. But we do now. We've really made some nice progress there from a share standpoint. On the Nature's Own side. As we've said before, remember, the segment of the portfolio that is most susceptible to private label trade down is that traditional loaf category, that Nature's Own is a big player in. While we're number one and we have the number one SKU and all that, which is great. It is the least differentiated piece of the portfolio and therefore more susceptible to private label trade down. So that accounts for the drop there. Having said that, the relative performance of Nature's Own has been quite good on a relative basis. I know it's been down and pressured. But on a relative basis, we're pretty pleased with where we are and we expect the trends to continue to improve as we kind of come out of this pressured consumer cycle.

Great. That's all very helpful. Maybe one more question on kind of the share dynamics. I know, we will see when consumers trade channels from grocery to mass that they'll also trade down to private label as kind of a manifestation of that value-seeking behavior. Do you anticipate, and I know this is a little bit harder to call, but just kind of hydraulically when the consumer comes back to grocery from mass, that they'll also shift back up to branded? Or is it a slower transition where they come back to grocery but still buy private label?

No, I think you spot on as a matter of fact, if you look at private label in grocery. So, x mass channel, private label is still losing share. And that's been a trend, I think, pretty much all year, trying to remember back, but I'm pretty sure that's been the case all year. The private label trends have really been centered in the mass channel. So, to the extent that consumers that are still shopping in grocery are still shopping more premium, they're still shopping more differentiated, etc., and less private label. Those that have shifted channels to mass, you're correct, are looking more at private label. But I will also tell you that the private label share gains in mass are also coming down. I mean, they're still up, but the gains are starting to moderate. And furthermore, our overall share in mass has been improving all year. I mean, we were down 80 bps in the first quarter, 30 bps in the second, and only 10 bps in the most recent. So again, another indicator, these trends are starting to reverse themselves and get better, which is very encouraging.

Great. Thanks for the color, guys. I'll pass it on.

Okay, thanks.

We're showing no further questions in queue at this time. I'd like to turn the call back to Ryals McMullian for closing remarks.

All right. Thanks, Liz. Just want to thank everybody for taking time today and joining us for questions. As always, we appreciate your interest in our company, and we look forward to speaking with you in February. Take care.

This concludes today's conference call. Thank you for participating. You may now disconnect.