Earnings Call Transcript - USFD Q2 2020

Operator, Operator

Thank you for being here, and welcome to the US Foods second quarter performance review. I will now turn the conference over to your speaker today, Melissa Napier. Thank you. Please proceed, ma'am.

Melissa Napier, Speaker

Thank you, Vincent, and good morning, everyone. Welcome to our second quarter fiscal 2020 earnings call. Joining me on today's call are Pietro Satriano, our CEO; and Dirk Locascio, our CFO. Pietro and Dirk will provide an update on our results for the second quarter and the first six months of fiscal 2020. We'll take your questions after our prepared remarks. During today's call, unless otherwise stated, we're comparing our second quarter results to the same period in fiscal year 2019. Our earnings release issued earlier this morning, and today's presentation slides can be accessed on the Investor Relations page of our website. Also during today's call, references to organic financial results exclude contributions from the Food Group, which we acquired in September of 2019, and from Smart Foodservice, which we acquired in April of 2020. In addition to historical information, certain statements made during today's call are considered forward-looking statements. Please review the risk factors in our 2019 Form 10-K and last quarter's 10-Q filed with the SEC for potential factors that could cause our actual results to differ materially from those expressed or implied in those statements. Lastly, during today's call, we will refer to certain non-GAAP financial measures. All reconciliations to the most comparable GAAP financial measures are included in the schedules on our earnings press release and in the appendices to the presentation slides posted on our website. Pietro, I'll now turn the call over to you to get us started.

Pietro Satriano, CEO

Thanks, Melissa, and good morning, everyone. COVID-19 continues to have a significant impact on our industry and our company. As I did last time, I want to begin by thanking all our associates for the exemplary fashion in which they have continued to help our customers, especially amidst this challenging environment. There are three topics we will cover today: the industry, our position in the industry, and second quarter results. As summarized on Page 2, here are the main takeaways for today. First, a perspective on the industry. We believe that despite the impact of COVID-19, the prospects for our industry remain very good. Based on what we saw in the markets that we opened earlier, we believe volumes will ultimately recover close to pre-COVID levels, and both gross profit and operating costs are trending in a way that all bodes well for a return to profitability close to pre-COVID levels. Second, a reminder of our advantaged position. Our nationwide scale and differentiated value proposition remain as relevant as ever, providing customers with the innovative products, technology and business tools, as well as the expert support needed to navigate this uncertain environment. And third, a recap of the quarter. Given the environment, I would characterize our performance for the quarter as solid and promising, with margins and profitability improving sequentially throughout the quarter. In addition, we continue to make good progress in reducing our cost structure to be in line with current volumes, and lastly, our focus on collections resulted in reversing a significant part of the uncollectible account reserve we took at the end of the first quarter. Let's now take a deeper dive on the industry and move to Slide 4. Here, we show recent volume trends for sales to restaurants for both the industry and for US Foods and why we are optimistic about an eventual recovery. On the left-hand side, you can see NPD data on transactions at restaurants. This is a good proxy for restaurant sales. As you can see, transactions recovered quickly from their low in March. By June, transactions were about 15% lower than a year ago, which is where the industry has since leveled off. However, it is important to note that the industry is still far from fully reopened. According to NPD, only 78% of restaurants are in geographies that permit on-premise dining. And even when permitted to reopen dining rooms, capacity is at a fraction of what it could be. This recovery illustrates that consumers want to get back to eating from restaurants, and this bodes well for restaurant demand post-COVID. The question does remain despite a robust recovery during the quarter: will the restaurant industry continue its recovery? Here, we turn to our own sales to independent restaurants, a key determinant of the health of the restaurant industry. On the right-hand side, we have grouped our roughly 60 markets and two cohorts organized by date of reopening or restriction lifting. At the end of June, our sales to independent restaurants in markets that opened the earliest, shown by the green line, were only off 10% to 12% versus prior year, which is packed despite the fact that restaurants still had seating restrictions in many areas. This compares to markets in later phases, shown in blue and red, whose variance to prior year was greater anywhere from 20% to 30% at the end of June. Again, this shows us that once consumers feel safe, they will return to restaurants, and it's what gives us the confidence that when markets do fully reopen, we will see a recovery in volume close to pre-COVID levels. Lastly, in both industry and our own trends, we have seen QSR chains recover to a greater degree than full-service restaurants. The QSR model is more oriented to off-premise consumption that is favored in the current environment. Having said that, full-service restaurants, which include many independents, have shown a remarkable ability to adapt. A year ago, only 19% of full-service traffic was for off-premise consumption. In June, even though dining rooms were reopening in many parts of the country, 55% of traffic was off-premise. Not only does this highlight the resiliency of restaurants, it also shows that consumers still very much want the diversity that full-service restaurants offer. Let's now go to Page 5 to cover our volume across all customer types. Continuing with sales to restaurants, which includes independents and chains on this chart and is shown by the yellow line, you can see that this line very much follows the pattern we saw for the industry data on the prior page but at a slightly lower level. This is because we are slightly underweighted with QSR. Given how well chains and QSR have held up in the current environment, we have put some additional focus on targeting those customer types, and we've had good success so far. In the second and third quarter of this year, we are onboarding over $500 million of new business, several times the amount of similar business that we onboarded in the same time period last year. This business is at a good contribution margin. Our success demonstrates two things: first, a desire by many multi-geography customers to put their trust in large-scale distributors like US Foods; and secondly, our own ability to quickly pivot to a segment experiencing more favorable tailwinds. Let's now go to health care, which is represented by the orange line, and which shows that volume has partially recovered as the pace of elective surgeries have picked up through the middle of the quarter and stay-at-home restrictions began to ease. We believe with absolute certainty that this segment will ultimately recover to pre-COVID levels as health care facilities return to more normal operations in the future. Hospitality, which for us is the smaller between health care and hospitality in our portfolio, is showing a modest recovery thanks to summer travel. We expect this part of our industry will take longer to recover to pre-COVID levels as consumers potentially travel less and businesses place greater reliance on virtual work. Some of the decreases in health care, hospitality, and education have been made up by an added emphasis on retail, where a few significant large partnerships have led to meaningful volume. As mentioned in previous calls, while these volumes may not be as margin accretive as some of the lost volume, they do operate at a very low cost to serve and do provide some baseloading for underutilized facilities. This is yet another example of our ability to pivot to those customers with more favorable tailwinds. In fact, overall volume in July, when we exclude hospitality and schools, two segments that were the hardest hit, was down 13% on prior year. Our longer-term prospects for a return to pre-COVID profitability depend not only on volume, which we just discussed, but on gross profit and operating margin. And I'm now on Page 6. Category margins at the customer levels have held fairly constant, which bodes well for margins for volumes as volumes recover over time. Similarly, on the operating expense side, variable costs, which for us account for about half our operating costs, have come down proportionally with volume, except for a slight lag. And as Dirk will discuss, we have adjusted our fixed costs to be more in line with reduced volumes. These trends in gross profit and operating margins, along with the promising signs of volume recovery we saw in the early markets and our added emphasis on segments with more favorable tailwinds, are what leaves us confident that we will ultimately recover close to prior levels of volume and profitability. Moving to Page 7 and the second theme of our presentation today, a reminder of our advantaged position. As we have said in the past, part of what makes US Foods attractive is our nationwide scale and our differentiated value proposition. We expect these factors to continue to drive future market share gains. I want to spend a minute reminding us of these advantages and how we are evolving our strategy for the current environment. Our nationwide footprint and our scale give us multiple advantages over the myriad of regional and local competitors. Our scale gives us significant purchasing power, which results in better gross profit margins, and our footprint and operating model give us the ability to serve multi-geography customers in a way that is difficult for most competitors to match. And with the uncertainty created by the current environment, we can offer stability and consistency to these multi-geography customers. The fact that we are currently onboarding more chain business at the same time last year is evidence of this. We also continue to evolve our differentiated platform to ensure we continue to be seen as a leader in terms of innovative products, tools and technology, and expert resources. First, let's talk about our exclusive innovative products. Keeping up with trends is seen by operators as no less important in the post-COVID world, with 82% of operators in a recent Dataessential survey stating it is just as important or even more important to remain on trend. Our September Scoop, which is about to launch, is already expected to help operators with today's needs, with a particular focus on takeout and delivery, sanitation, and labor-saving products. Second, our tools and technology, especially those that enable restaurants to offer off-premise dining, continue to be in high demand. In just the last three months, we have doubled the number of customers who utilize the ChowNow platform for takeout and delivery. And third, team-based selling. Our army of specialists and restaurant operations consultants that support our salespeople continue to offer webinars and consultations that are very well received by restaurant operators. Since COVID began, our restaurant operation consultants have conducted roughly 125 webinars with over 20,000 customers and prospects attending virtually. In sum, our scale gives us an advantaged position, which is further reinforced by our differentiated platform, which continues to evolve to ensure we remain leaders in our industry. I will now turn the call over to Dirk for the third theme of today: our second quarter results.

Dirk Locascio, CFO

Thank you, Pietro, and good morning, everyone. Business closures and social distancing measures due to COVID significantly affected our industry and business this quarter, as Pietro mentioned. This unusual quarter also showed varied results across the three months, with April experiencing substantial negative impacts as COVID started, and improvements noted in May and June. As Pietro highlighted, we, along with the industry, saw a considerable recovery in our volume and results as the quarter advanced. Total case volumes have improved from a decline of over 50% to a decrease of 20% to 25% in recent weeks. Independent restaurants faced a similar trend. We believe the volume decline we faced in late March and April represented the low point, with week-to-week improvements in case volume trends through the end of the quarter. As case volume trends improved, our financial results followed suit, showing positive adjusted EBITDA in both May and June. The sharp decline in case volume at the end of March and early April, especially in the restaurant and hospitality sectors, affected our typical gross margin and operating expense structures, which I will discuss in more detail shortly. We took quick action in the quarter to address both areas of the P&L and are now better positioned than a few months ago. I'm pleased to report that strong collection efforts from our credit and sales teams enabled us to reverse nearly half, or $75 million, of the reserve for uncollectible accounts that we discussed in our last quarterly call. The additional COVID accounts receivable reserve now stands at $95 million, and we're actively working on collecting remaining pre-COVID balances to further reduce this reserve. In addition to supporting our current customers, we're focusing on acquiring new customers. As Pietro mentioned, we signed over $500 million in new business, primarily with national chain restaurants. Much of this focus is on the quick-service restaurant (QSR) sector, which has performed better in the current climate. Some of this business has already begun shipping in the second quarter, with others set to start in the third quarter. We will continue to seek new business opportunities that are profitable and geographically sound. Our net sales for the quarter were down 29%, largely due to the lower case volume mentioned earlier. Inflation for the quarter was 190 basis points, primarily driven by beef. Our GAAP gross profit dollars decreased by 41%, with a GAAP gross margin of 14.7% for the second quarter. Adjusted gross profit dollars fell by 37%, leading to an adjusted gross margin of 16% for the quarter. Several temporary factors negatively impacted gross profit. The rapid decline in case volumes led to increased inventory write-offs and product donations, along with reduced logistics income. We also experienced a decline in gross margin due to changes in customer mix, such as a decrease in independent restaurants and hospitality, offset by more retail and chain business. Our adjusted gross margin was down 190 basis points compared to the previous year, with April contributing most significantly to this decline. For May and June, the decrease was approximately 100 basis points, with around 40 basis points attributable to the addition of acquisitions and year-over-year product inflation impact on sales. The remaining decline was due to inefficiencies in our logistics network from purchasing smaller quantities and shifts in customer and associated product mix. As Pietro noted, customer margins have remained comparable to pre-COVID levels, and a rational competitive landscape is evident. As case volumes recover, we expect our mix and logistics income to improve, leading to a general recovery in gross margins close to pre-COVID levels. Regarding operating expenses, we effectively managed our fixed and variable cost structures in line with lower case volumes. Specifically, in May and June, adjusted operating expenses as a percentage of sales aligned with prior year figures, including the approximate 40 basis point benefit from acquisitions and year-over-year product inflation impacts. The increase in Q2 operating expenses was predominantly due to April's conditions. We managed variable labor effectively, achieving better productivity levels in warehouse and delivery than pre-COVID conditions. Additionally, we took measures to address fixed costs through employee furloughs, discretionary cost reductions, and salary adjustments. As case volumes rebounded, we reinstated some fixed costs to align with the volume recovery observed. Our cost structure remains flexible, and we continue to manage expenses actively, aiming to align closely with case volumes, positioning us well to navigate this challenging environment. I was very pleased with our team's ability to operate effectively in a difficult environment and generate positive adjusted EBITDA for the quarter. After a challenging April marked by negative adjusted EBITDA, the business produced positive adjusted EBITDA for both May and June, with June being the strongest month of the quarter. We expect to continue seeing positive EBITDA moving forward. Our second-quarter adjusted EBITDA was $88 million, with year-to-date adjusted EBITDA at $265 million. The second quarter adjusted diluted earnings per share showed a loss of $0.25, while year-to-date reflected a loss of $0.10. Due to the preferred equity investment mentioned earlier, our earnings per share calculations now factor in net income or loss available to common shareholders, which includes a $5 million preferred dividend for the second quarter. For the second quarter, GAAP net income available to common shareholders was a loss of $97 million, totaling a loss of $229 million year-to-date. Adjusted net income available to common shareholders for the quarter reflected a loss of $54 million and a loss of $22 million year-to-date. It is important to note that as we are in a net loss position for the quarter and year-to-date, the total number of diluted shares outstanding does not account for the recent preferred equity investment. Once we return to net income, those additional shares will be included in the diluted share count and incorporated into our adjusted diluted EPS calculation. Our Food Group and Smart Foodservice businesses performed according to our expectations, considering the current operating landscape. The Food Group business mirrored trends of the organic business this quarter. While several markets in the Northwest have been slower to re-open, those markets also have a higher proportion of national chain restaurants, which have performed well. We have resumed integration efforts, beginning with the facility near Seattle that was prioritized in our original integration timeline. We expect to complete this initial warehouse conversion later this month and still anticipate $65 million in run-rate synergies as previously communicated, though the ramp-up may take longer due to reduced volumes. The Smart Foodservice business performed well in the quarter, with same-store sales down only slightly from the previous year, primarily because the cash and carry business model tends to thrive during economic downturns as customers seek value offerings. Additionally, the cash and carry channel has allowed us to capture some of the spending that has temporarily shifted to at-home dining. This channel is appealing in all economic conditions due to its higher profit margins and our ability to drive additional business from existing delivered customers, which helps us consolidate our share of wallet with them. Throughout the quarter, all Smart Foodservice stores remained open, and EBITDA remained robust despite the challenging external environment. Regarding our plans for this business, we still aim to double the number of stores and anticipate limited integration activities. In total, the acquisitions accounted for about 17% of our case volume and approximately 23% of our adjusted EBITDA for the second quarter, driven largely by Smart Foodservice’s performance being closer to prior year levels. I would like to briefly touch on our current liquidity position. During the second quarter, we executed several financing activities to support the Smart Foodservice acquisition and enhance our overall liquidity. These actions have put us in a very strong cash and total liquidity position. By the end of the quarter, we had $1.7 billion in cash and total liquidity of approximately $3 billion. During the second quarter, the business generated positive operating cash flow, primarily due to working capital benefits. However, we do anticipate some reversal of this benefit in the second half of the year as vendor payments normalize and we rebuild inventory levels to support our customers. Excluding the anticipated working capital reversal, I expect our operating cash flow to remain positive in the second half of the year. Our cash and liquidity places us at an advantage over smaller distributors in the industry, enabling us to better support customer needs and invest for faster growth. We are focused on winning new business through organic market share gains while also assisting our existing customers in navigating this challenging environment. Operator, with that, we can open it up for questions.

Operator, Operator

The first question comes from Chris Mandeville from Jefferies.

Christopher Mandeville, Analyst

Nice quarter. Pietro, can I ask, maybe is there a way whereby you could characterize your ability to take share with independents right now? And then separately, as it relates to that $500 million in new chain business that you're onboarding over the next quarter or two, can you comment on just the level of profitability that you're seeing with those contracts compared to what you would have otherwise observed six to nine months ago?

Pietro Satriano, CEO

Sure. So let's start with your question on independents. Look, I think going back to my second theme around our differentiated value proposition, what we're seeing is that it's as relevant as ever. As long as you meet the, what I would call, table stakes that customers require in terms of service, the work we have done in terms of evolving our support resources for independent restaurants in terms of helping them navigate these challenging times, I've mentioned 100 webinars we've done, I think those will certainly serve us well in terms of goodwill and equity to gain share. In the short term, it's a little bit harder to quantify and assess. Customer mix becomes a more significant driver in the short term. So as an example, pizza restaurants have done relatively well in the current environment. We're not as heavily weighted in those segments across the country, and so I would say that the things we have done in the past and we continue to do are what's going to drive market share gains over the future. In terms of the book of business we've been able to bring on that Dirk and I referred to, the margins are good. Look, I think the reason those customers are switching isn't because we are awarding the business at very low margin. That's because, again, our scale and our operating model give these customers the confidence that we will be around for the long term. And as I've said before, prices tend to find their equilibrium in the larger, big business. We have seen over the last few years, and I think I've mentioned this, margins slowly creep up in that larger multi-geography business.

Operator, Operator

Next question comes from the line of John Ivankoe from JPMorgan.

John Ivankoe, Analyst

First, a question on the competitive market and then a question on fixed costs. At least on the news, there has been some discussion of a Maine's bankruptcy. On the other hand, I think it was Cheney Brothers that received some private equity capital. So that's what, I guess, I've read about. I mean could you make some comments, even if you don't want to use names, just kind of the capitalization of the overall foodservice distributor industry and their ability to recover their own working capital needs as the customers recover? I mean I know you made a comment that you're seeing rational new competition. But are you beginning to see some signs that you might have some competitors go away or perhaps consolidate? This is the first question. And secondly, there were some comments made around fixed cost reductions. I think those were specific to the second quarter around furloughs, and I guess, which had also been in the first quarter as well. How do you identify any costs on a fixed cost side that could actually be permanent that won't necessarily come back as volumes come back?

Pietro Satriano, CEO

Okay. I'll take the first and let Dirk talk to the second. So there has been about half a dozen names, John, in terms of competitors, regional and smaller, that are experiencing some degree of stress. It's hard to know exactly how stressed these competitors are, and most at this point seem to be hanging on. They're all private companies, so it's hard to know the degree to which they’re well-capitalized. We gave a couple of examples, one that had an infusion and one that went through bankruptcy proceedings. Our intent is where we know those opportunities exist to really position ourselves favorably with the customers that they serve. That's the most accretive way to gain share, which is to take advantage of those situations. The more uncertainty, the more of a roller coaster there is in the short term. Like I said, the prospects for the industry longer term are good, but the more uncertainty there is in the short term, then I think the more that will present other opportunities of that nature. Dirk?

Dirk Locascio, CFO

Sure, John. As you mentioned, many of the cost reductions and actions we've implemented so far have been primarily temporary. This approach is part of our strategy to navigate through the current recovery and assess the industry's landscape. So far, we have utilized a mix of both permanent and temporary reductions and will keep leveraging both as we adjust our cost structure to fit our business needs. We will continuously evaluate this. However, the majority of our actions to date have been temporary. It's essential for us to align our costs with our future volumes, and we will remain adaptive to achieve that.

Operator, Operator

Next question comes from the line of Edward Kelly from Wells Fargo.

Edward Kelly, Analyst

I wanted to ask you, Pietro, about the independent customers. It seems that the trends for your independent customers have possibly declined a bit recently due to reopening challenges. Is the total case growth simply a result of new business compensating for that? Additionally, could you provide the percentage of your pre-COVID customer base that is currently ordering product? This will help us understand how many of these customers remain operational and how much impact has occurred so far. Lastly, how vital do you think a new round of PPP is for maintaining the stability of your customer base moving forward?

Pietro Satriano, CEO

I'll do my best to address all your questions, Ed. If I overlook any, please remind me. You're correct in noting that both sides of Page 4 show a slowdown in growth, and in some instances, a slight decline. This appears to be tied to rising case numbers in certain areas, which has led governments to roll back reopening phases and has caused consumers to be more cautious or to hesitate in their spending. The main point I aimed to convey about the restaurant sector is that consumers have indeed returned to dining out and ordering from restaurants for takeout, which we were uncertain about a few months ago. Importantly, there’s no significant trend towards consumers cooking at home more than they did previously, which we find encouraging. The recovery will be driven by consumer behavior, which ties into another aspect of your inquiry concerning the health of independent restaurants. Our customer count is roughly where it was before COVID. We've gained some new business, but there's always a natural turnover in the industry. Many restaurants, despite off-premise sales, are still operating below last year's sales figures, hence we haven’t fully returned to previous levels. The adjusted count aligns with last year’s seasonal figures. There are still a number of closed restaurants, and it’s difficult to determine if they are permanently or temporarily closed, as some owners are uncertain. Conversations with our field leaders indicate that the number of permanent closures currently remains in the low single digits. That's a summary regarding consumers and independents. Ed, please remind me of the third part of your question.

Edward Kelly, Analyst

It was on PPP and another round and that is to your customers.

Pietro Satriano, CEO

Yes. Yes. So clearly, so PPP, the first time around was a little bit imperfectly designed, but still a benefit to the industry. We've tried to get a sense of what percent of our customers have benefited from PPP and the new flexible version. It's pretty high. And obviously, it's a benefit. There's an additional benefit that it provides stimulus to the economy, which drives spending. So I think to the degree that there is some form of stimulus, whether directly aimed at small business or restaurants or to the consumer, I think that will help us get through the next few months as we await either to get better control of the virus as a country or a vaccine, which is, I think, when things really return back to pre-COVID levels.

Operator, Operator

Next question comes from the line of Kelly Bania from BMO Capital.

Kelly Bania, Analyst

I wanted to see if you could clarify the EBITDA margin you mentioned was positive in June. Could you provide more insight into what that level is? Also, if sales stay at this level for a while, what would be the realistic EBITDA margin looking into Q3 and Q4 based on the current run rate?

Dirk Locascio, CFO

Sure. Kelly, this is Dirk. When we think, as I said, going from negative EBITDA to improvement in May and then further in June, I'm very pleased with the performance on that. At this point, I'm going to stay away from a number or a margin, and it's not to be cute or evasive, but I think we all know the environment continues to change almost day by day. What I will say though is if the environment stays at current levels, we would expect meaningful EBITDA in the back half of the year. So the thing I just want to be clear on is, meaning not just scraping by with positive earnings and we're going to continue to focus on the levers and the actions that we do around servicing our customers and then around optimizing our gross margin, our OpEx as we go to the back half of the year.

Kelly Bania, Analyst

Perfect. And in terms of, I think, market share, I think people are trying to get a sense of how market share is within your various customer segments. So just curious if you could talk a little bit about drop size by customer and just to think about how much is happening at the unit level versus kind of the aggregate level. I don't know if there's any color you can add there.

Pietro Satriano, CEO

Kelly, it's Pietro. I'm not sure there's a lot of color we can add, and you can probably draw some of your own conclusions, right? So sales are a little bit behind where they were last year. It varies by geography, no surprise. Customer accounts are in line with where we were last year. We continue to push for new business because, obviously, if customers are operating at a lower level of business, which they are today, then obviously, bringing on new customers helps make up for that. And as Dirk said, we've really worked well in terms of our distribution costs to ensure that those have come down in line. So whether optimizing the routing or the delivery for today's current reality, it's also helping maintain profitability where it is.

Operator, Operator

Next question comes from the line of John Heinbockel from Guggenheim Partners.

John Heinbockel, Analyst

So Pietro, two things. On the cost control front, have you done anything that might be more strategic either in the warehouses or in the routing approach, right? That's not just tweaking, but you took this opportunity to do something more substantial that lives on after a recovery, right, that makes the whole network a lot more productive and low cost than it had been before. Are there any examples of that?

Pietro Satriano, CEO

Yes. There is an ongoing effort within the company focused on ensuring that our value proposition to customers continues to evolve and remains relevant. We are also identifying opportunities to enhance our operational effectiveness and efficiency. While there have been some benefits, as Dirk mentioned regarding the environment, a portion of these advantages has arisen from reengineering our work processes. We have a range of ideas and projects underway to support this initiative. Some align with our previously shared supply chain roadmap, while others are new. However, it would be premature to discuss these publicly at this time.

John Heinbockel, Analyst

Well, then as a follow-up to that, when you think about longer term and recovery to pre-COVID levels, sales versus profitability, you might naturally say sales have to get to a pre-COVID level before profit margins do. How do you think about those two versus each other? And are we thinking about a 2-year process or much longer than that in terms of duration when you kind of put your prognosticating hat on?

Pietro Satriano, CEO

It's difficult to predict sales trends at this moment due to the fluctuations in case numbers, which certainly affect consumer behavior. On the cost side, we've gained significant insights into operating effectively in this environment. We have adapted quickly to the lower sales volume, which has resulted in clear cost savings, such as reducing the need for recruiters. We've also made permanent reductions in our salesforce in response to a potential decrease in customer demand. Additionally, we've implemented a more efficient model for serving chain customers that was developed by our food group, which was ahead of us in this area. Recently, our focus has been on identifying the most apparent opportunities for improvement. Moving forward, we will continue to explore ways to operate more leanly and flexibly as we've adapted to this changing environment.

Operator, Operator

Next question comes from the line of Jeffrey Bernstein from Barclays.

Jeffrey Bernstein, Analyst

Great. Two questions. Just one, as we think about the new business you talked about, presumedly, it's I would assume now taking share from smaller distributors. I know you mentioned that you didn't necessarily win the business on price, but you want it more on scale and operating model. So I just wanted to clarify, first and foremost, that I guess you're talking about, I guess, taking share from smaller independent distributors who presumably would otherwise want to retain this business. And just to clarify, it does sound like it's, again, more quick service chain business, and therefore, why you didn't reduce the margin meaningfully. This is at a lower margin than presumably your more desired independent business, and then I had a follow-up.

Pietro Satriano, CEO

Yes, that's correct. So in terms of the first part of your question, the business that we've acquired has been from smaller, more regional, sometimes local, but I would clarify some more as regional distributors. Yes, the margins for that chain business, whether it's QSR or chain, tend to be a little lower than the independent business. We're still very focused on the independent business. It's one where we have an advantage, where we can make a difference, and we can get back to growth over time. All we're doing is taking advantage of opportunities that may not have been around a year ago and putting a little bit of additional focus and emphasis and resources on that business, which again, from a rate perspective, may not look as attractive, but we're adding EBITDA dollars to the bottom line, and it's attractive enough on the rate perspective that it can withstand the test of time.

Dirk Locascio, CFO

Yes. This is Dirk. I’ll take that. Unfortunately, I don’t have much more to share. As I mentioned to Kelly, it’s not about being evasive; it’s just that the environment continues to change. As we move through the third quarter and see if the environment remains stable or improves, we will be able to gain more insight for the future. For now, we need to maintain our focus and actions regarding gross profit and operating expenses to navigate the current environment and optimize our EBITDA as much as possible.

Pietro Satriano, CEO

Great. So this is Pietro again. The green line on Page 5, which shows the big jump in sales from retail, that comes from a very small number of large grocery retailers, and that's more traditional grocery. As I said, we were opportunistic about that and providing some good baseline volume for our facilities. It's margin accretive but it is at the lower end. The opportunity we talked in more detail about pre-COVID was around the home meal replacement part of the grocery store that looks more like a restaurant, right? The deli, the sit-down part of some grocery stores. That's where we see a bigger opportunity. That's in our sweet spot. A particular opportunity, we believe, is more with smaller, regional players who don't have the scale to do what some of the larger players do. It's a little bit like restaurants, right? The opportunity is more with the smaller independent in terms of making a difference and driving accretive margin. That will take some time; it's a series of business development efforts. We have a couple of markets where we've been extremely successful serving regional grocers in the home meal replacement part of the store, and what we're doing is scaling that playbook across other markets to make some inroads into that business.

Operator, Operator

Next question comes from the line of Karru Martinson from Jefferies.

Karru Martinson, Analyst

Just when we look at the strength in independents and the spike in demand, how much of that is being driven by the expansion of outdoor dining? And how should we think about that as we go into the fall and the winter?

Pietro Satriano, CEO

Sure. Some of it, for sure, is driven by off-premise, whether it's outdoor dining, takeout, or delivery. All of those are contributing. It has made up some, but not all, of the restrictions on indoor dining. In terms of the impact of weather, obviously, that does not impact takeout or delivery. But again, if you look at different parts of the country, in July in Florida and Arizona, there’s not a lot of outdoor dining going on, right? Some parts, it's a bit of a portfolio across the country. But look, I think the other thing I would say is independent restaurants have proved very creative and resilient in being able to take advantage of new opportunities. As we move forward into the winter, barring a nationwide lockdown, which, again, I don't expect, but no one really knows for sure, I would expect for a lot of that volume to continue as we go forward.

Karru Martinson, Analyst

And then just lastly, you saw a larger regional company file Chapter 11 and go into restructuring. What is the health of those smaller independents out there? Are there acquisition opportunities? Or do you feel that this is just a case of putting the sales resources behind it to take that share from them?

Pietro Satriano, CEO

I believe it's primarily about taking advantage of opportunities. As I mentioned earlier, some of the smaller regional or independent companies, while some are relatively sizable, have carried excessive leverage over time, which has put them under stress. Others have adopted a more conservative approach. Ultimately, it's about capitalizing on the opportunities in serving those customers in areas of uncertainty.

Operator, Operator

Next question comes from the line of Peter Saleh from BTIG.

Peter Saleh, Analyst

Great. I just wanted to ask about simplification and optimization, if you guys are seeing something like that. We're seeing a lot of that among the larger chains, where they're cutting much of their menu and focusing in one center or the plate. Are you seeing something similar to that at the independent restaurants? And how does that impact your product mix at least in the near term?

Pietro Satriano, CEO

Yes, so we're seeing it. I think the larger chains moved more quickly, but I think some of the independents are following suit now based on what I hear when talking to the field. I think in terms of us, look, at a time of uncertainty, where you're not sure when you'll be forced to go back in terms of restrictions, it’s a smart way forward for restaurants to run their business, and it allows us to be more responsive. All distributors carry thousands of SKUs in their buildings, and that tail is harder to serve. So to the degree that restaurants simplify their menus, it's good for them in terms of reducing waste, and it's good for us in terms of reducing some supply chain waste in the system.

Peter Saleh, Analyst

Great. And then I think you guys alluded to some maybe regional disparities or just some weaknesses as some of the case volumes picked up. Can you guys give us a little bit more color on maybe what you're seeing more recently in some of the larger states as case volumes kind of tick up?

Pietro Satriano, CEO

Yes. I think what I was referring to is the chart on Page 4 where some states opened earlier. We saw more of a recovery. It’s as simple as the fact that those states had one or two weeks longer to recover. If you look at those three lines on Page 4, they all have a fairly similar pattern. It's just some states started earlier and got closer to prior year levels; that’s true across the country. By way of a general theme, some of the larger urban markets have taken longer to reopen, right? New York, Chicago, L.A., some of those big markets have taken longer. We're seeing that in our numbers, and those are big markets for us. I think I mentioned on the last call, and I think we're still seeing this, some of the more rural or suburban markets have recovered more quickly. But I think back to my first point, it really is eventually just a matter of time before all markets kind of return to close to pre-COVID levels.

Operator, Operator

Next question comes from the line of Rebecca Scheuneman from Morningstar.

Rebecca Scheuneman, Analyst

You mentioned that with some smaller independent distributors under pressure, you've managed to secure about $500 million in new business with chains. Are there also chances to gain independent business from these accounts, or are these strained distributors mainly concentrating on chain business?

Pietro Satriano, CEO

Absolutely. They vary. Some distributors generally have a wide range of business, and their size can differ. We've equipped our sales team with our CRM platform to guide them towards potential opportunities. It's challenging to assess our success so far because it's reliant on one distributor that services part of the market, and customer adoption may occur more gradually, while larger clients typically engage in a more fluctuating manner. Therefore, it's too early to provide a definitive answer, but there are certainly opportunities within both independent and larger chains.

Rebecca Scheuneman, Analyst

Okay. Great. And also, so as we look at permanent restaurant closures, we're kind of thinking that those will be concentrated more in the independent area. Do you think that there could possibly be kind of a permanent industry shift towards more chain business? Or how do you see that playing out?

Pietro Satriano, CEO

You're noticing some of that today. As I previously mentioned, customer segments that are better suited for off-premise dining, such as fast casual and quick service restaurants, have bounced back more swiftly because consumers felt safer in those settings. However, it's difficult to predict post-vaccine trends. I don’t see any strong reasons to believe there will be a lasting shift towards larger chain concepts. Many larger chains have closed recently and are not immune to the challenges posed by the current environment. On the other hand, independent restaurants tend to be quite resilient; they might close, but often they reopen elsewhere or under a different name. Therefore, I would be cautious about claiming a permanent shift will occur post-vaccine. The education segment has been quite challenging. The positive aspect for us is that education is categorized under "all others," representing the smallest segment of that group, so its impact on our overall performance is limited. It's important to differentiate between colleges and universities and K-12 education. Currently, about half of the colleges are welcoming students back, while the other half are not. For K-12, as many parents know, decisions are being made in real-time, making it difficult to predict outcomes. Our focus is on managing inventory effectively and maintaining close communication with customers to ensure we can meet their needs without incurring excessive inventory risk.

Operator, Operator

Next question comes from the line of Bryan Hunt from Wells Fargo.

Bryan Hunt, Analyst

Great. Just two questions. One, when I look at cash flow, is there any way you can give us an idea of when you go to make collections, the dollar amount or the number of accounts that just aren't responding as well as how fast do you think accounts payable will normalize on a days basis?

Dirk Locascio, CFO

Sure. It's twofold. First, regarding normalization, we expect it to largely occur in the third quarter. However, that is a shorter timeframe. Can you repeat your initial question?

Bryan Hunt, Analyst

Yes. When you look at the first part, your collection of bad debt, you all made a big, obviously, reserve in Q1. You reverse part of that in Q2 based on the success of recouping some of that reserves and receivables from customers. When you go to make collections on receivables of that remaining roughly $100 million amount, and I guess $95 million to be exact, how many of that $95 million just aren't responding or have permanently closed?

Dirk Locascio, CFO

It's actually a relatively small number. Our credit team and our sales team have worked closely together to achieve notable success. Even some of the customers that were either temporarily closed or operating on a limited basis are maintaining very good communication. Overall, it's a small amount. Most of what's left has continued to engage with us. Each week, we see that pre-COVID balance decreasing. Our teams are closely collaborating with customers to manage credit effectively, even for the post-COVID balances, as we move forward.

Bryan Hunt, Analyst

And then my last question. You talked about excluding hospitality and schools, and granted July is not a big school month, but your case volume was down about 13% in the month of July. How about when you include hospitality in schools, what's the kind of year-over-year change in tempo? And that's it for me. Best of luck.

Pietro Satriano, CEO

Well, I think if you look kind of the June timing that you would see in there, we've been running at that down 20% to 25% range overall has been pretty consistent in more recent weeks as we ended up the quarter.

Operator, Operator

Next question comes from the line of Judah Frommer from Crédit Suisse.

Judah Frommer, Analyst

Just wanted to follow-up quickly on kind of the EBITDA recovery comments. We do see in the slide that you're talking about return to pre-COVID levels. I did think I heard a couple of times in the comments that we get close to pre-COVID levels. Is that just kind of a timing mismatch until the HR you mentioned, the vaccine. Maybe we're near a COVID level. But then after that, we're at pre-COVID levels. And then kind of beyond that, as things really do normalize, maybe again post-vaccine. Can you remind us of the drivers of EBITDA margin improvement? Obviously, the Smart Foodservice business is a higher-margin business. You have synergies in the Food Group acquisition. So anything to think of just longer term to show us that we shouldn't be capping you at your pre-COVID margins?

Pietro Satriano, CEO

Sure. Maybe I'll start, Dirk. Generally, what we've tried to say is longer term, the prospects for the industry, which are an important part for US Foods, are positive, and I've characterized that as close to pre-COVID. Whether it's exactly pre-COVID or how close to pre-COVID, it's really hard to say at this point. But when you look at the three drivers: volume and the recovery we've seen in the parts of the country that have been the earliest; our success in some segments with favorable tailwinds; our ability to maintain margins when you normalize for these onetime hits in terms of spoilage and donations; and our ability to manage our costs, again, all of that together leads us to think we can get pretty close to pre-COVID exactly how close is difficult to quantify due to the many unknowns. What we're trying to convey is our confidence that there's a good path to getting to profit levels close to pre-COVID over the eventual long term. A lot of that is probably determined by a vaccine.

Dirk Locascio, CFO

Okay. And then the only thing I would add on to that, to be your point on the drivers, is as we think about coming from all areas of the P&L that we've talked about in the past, really over time, I think you still do have a lot of taste preference for the variability that independents offer to the point whether the timing of vaccine and when that recovers, but still believe that a lot of those trends will revert. Also really drive continuing to drive gross profit gains through things like private brands, continued sourcing gains, and things like that. We don't think at all that it's necessarily where we were pre-COVID in the cap. It's a matter of whatever the external environment takes to get back to there, what we're going to continue to do is operate the business, continue to grow EBITDA dollars and EBITDA margin just like we have historically. Then finally, the point that you made that adds to both the dollars and the EBITDA margin, the most recent acquisition of Smart Foodservice where that adds dollars and then opportunities we have there, where we expect that we can more than double the stores and the fact that it's more profitable than in the broadline businesses as we continue to grow. Then the added benefit we get from further market share from those customers as we grow it. So all in, still significant opportunity on the recovery to grow dollars and margin.

Operator, Operator

Next question comes from the line of William Reuter from Bank of America.

William Reuter, Analyst

I just have two. The first is you mentioned that SG&A in the next quarter will be down, but not as much as we saw in this quarter. But it sounds like most of the costs that you reduced you said were temporary. So I guess is there some way you can help us understand what percentage of your SG&A we should be thinking about as being fixed versus variable in the back half of the year?

Dirk Locascio, CFO

We expect to maintain a strong focus on our costs. For instance, we implemented some temporary pay reductions in the second quarter, which are not continuing for our associates in the third quarter. It's important for us to be smart about our expenditures while also treating our associates fairly. As Pietro mentioned, we will explore additional areas within the business for opportunities to improve efficiency and effectiveness, both temporarily and permanently. Not knowing precisely how the marketplace will evolve, which could influence costs, is why I'm cautious about being specific. However, I want to express our positive outlook moving forward, even though it's challenging to predict the exact dollar amounts; we do see positive momentum.

William Reuter, Analyst

Okay. And then in terms of the education business, can you provide which percent is colleges versus K-12, just in big brush strokes?

Dirk Locascio, CFO

We have a diverse distribution when you analyze the segments. While we don't have exact figures, the impact is significant across all areas, including K-12 and higher education.

Operator, Operator

The next question comes from the line of Carla Casella from JPMorgan.

Carla Casella, Analyst

You commented in your prepared remarks that the reopened customers, you're seeing sales down only about 10%. Do you get a sense if that's the true sell-through? Is there some sort of a pantry loading going on there as well?

Pietro Satriano, CEO

To clarify, the customers that reopened the longest had the greatest number of weeks of activity. It's difficult to determine the exact impact, as there is usually some level of restocking after being closed. However, I believe we can observe a discernible trend in the year-on-year performance, indicating that much of what we are seeing compared to last year represents genuinely sustainable sales rather than just a temporary surge in stockpiling that happened in one week. Okay. So maybe I'll say a few words in closing. I want to thank all of you for participating today and for all your questions. I hope the call today leaves you with the three takeaways I started with: first, the outlook for industry remains positive post-COVID; second, our scale and differentiation present a genuine opportunity for market share; and third, the second quarter results highlight both our ability to stay relevant to our customers and to manage our costs in this challenging environment. For all of this, I want to thank our associates who worked tirelessly since the beginning of this crisis. Thank you for tuning in today. Have a good day, and please stay safe.

Operator, Operator

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