Lamb Weston, a major supplier of frozen potato, sweet potato, appetizer and vegetable products to restaurants and retailers around the world, on October 7 reported a 13% rise in net sales of $112.7 million to $984 million during the first quarter of fiscal year 2022 which ended on August 29. The price/mix was up 2% relative to the previous quarter.
Income from operations, however, declined 56% to $60 million and net income fell 67% to $30 million. Diluted earnings per share declined to $0.20 from $0.61.
The welcomed uptick in sales prompted positive commentary from President and CEO Tom Werner, while at the same time he was frank about the impact on margins in fiscal 2022 that will be felt from the combination of a number of negative factors.
“Our first quarter sales results reflect the ongoing broad recovery within the frozen potato category, with overall demand in North America near pre-pandemic levels, and our shipments improving in each of our core restaurant and foodservice sales channels,” said Werner. “However, the impact of extreme summer heat that negatively affected potato crops in the US Pacific Northwest, combined with industrywide operational challenges, including highly inflationary input and transportation costs, labor availability, and upstream and downstream supply chain disruptions, will result in higher costs as the year progresses, and significantly pressure our earnings. Accordingly, we expect our gross profit margins to remain below pre-pandemic levels through fiscal 2022.”
He added: “Our experienced team is taking specific actions intended to mitigate these challenges, most notably executing pricing actions to offset commodity inflation, restructuring freight policies, modifying production and crewing schedules to reduce labor volatility, adopting new policies and practices to attract and retain manufacturing employees, and rationalizing our product portfolio. We expect our team’s focus on resolving these challenges, as well as our investments in productivity, technology and capacity to support customer growth, will have us back on track to drive profitable growth and create value for our stakeholders over the long term.”
The increase in sales volume predominantly reflected the recovery in demand for frozen potato products outside the home, which more than offset the decline in retail volume that largely resulted from lower shipments of private label products resulting from incremental losses of certain low-margin business, and as purchases for food consumed at home began to normalize to pre-pandemic levels. Pricing actions, including the benefit of higher prices charged to customers for product delivery, as well as favorable mix, drove the increase in price/mix in each of the company’s core business segments.
Income from operations fell by $75.5 million, down 56 percent versus the prior year quarter, reflecting lower gross profit and higher selling, general and administrative expenses (SG&A). Gross profit declined $62.5 million, as the benefit of increased sales volumes was more than offset by higher manufacturing and distribution costs on a per-pound basis. The higher costs per pound predominantly reflected double-digit cost inflation from key inputs, particularly edible oils, and transportation, particularly trucking and ocean freight.
In addition, Lamb Weston incurred higher manufacturing costs per pound due to volatile labor availability, which was in part a result of absenteeism related Covid-19 infections from the coronavirus pandemic (SARS-CoV-2), that affected production run-rates and throughput. The decline in gross profit also included a $5.6 million decrease in unrealized mark-to-market adjustments associated with commodity hedging contracts, which includes a $1.2 million gain in the current quarter, compared with a $6.8 million gain related to these items in the prior year quarter.
SG&A increased by $13 million compared to the prior year quarter, primarily due to investments to improve the company’s information technology, commercial and supply chain operations over the long term, as well as increased compensation and benefit expenses. These investments included more than $4 million of non-recurring charges (primarily consulting expenses) associated with a new enterprise resource planning system (ERP), compared to approximately $1 million in the prior year quarter. In addition, advertising and promotional expenses (A&P) increased $2.9 million, largely in support of the launch of new products in the retail sector.
Net income was $29.8 million, down $59.5 million versus the prior year quarter, and Diluted EPS was $0.20, down $0.41 versus the prior year quarter, driven by a decrease in income from operations and equity method investment earnings.
Adjusted EBITDA including unconsolidated joint ventures declined $78.4 million to $123.4 million, down 39 percent versus the prior year quarter, driven by lower income from operations and equity method investment earnings.
Q1 2022 Segment Highlights
Net sales for the global segment, which is generally comprised of the top 100 North America-based quick service (QSR) and full-service restaurant chain customers as well as all of the company’s international sales, rose $53.7 million to $501.2 million, up 12 percent versus the prior year quarter, with volume up 10 percent and price/mix up 2 percent. The sales volumes increase reflects the recovery in demand in the United States and in most key international markets, as well as the benefit of limited time product offerings. The increase in price/mix largely reflected favorable price, including higher prices charged for freight.
Global segment product contribution margin declined $35.2 million to $42.6 million, down 45 percent versus the prior year quarter. Input and transportation cost inflation, as well as higher manufacturing costs per pound, more than offset the benefit of higher sales volumes and favorable price/mix.
Net sales for the Foodservice segment, which services North American distributors and restaurant chains generally outside the top 100 North American-based restaurant chain customers, increased $84.7 million to $321.4 million, up 36 percent versus the prior year quarter, with volume up 35 percent and price/mix up 1 percent. The continued recovery in demand at small and regional chain restaurants, as well as independently-owned restaurants, drove the increase in sales volumes.
Shipments to non-commercial customers, such as lodging and hospitality, healthcare, schools and universities, sports and entertainment venues, and workplace environments, also increased versus the prior year quarter, but remained below pre-pandemic levels. Volume growth was tempered by the inability to service full customer demand due to lower production run-rates and throughput.
The increase in price/mix largely reflected favorable price, including higher prices charged for freight.
Foodservice segment product contribution margin increased $10.6 million to $96.4 million, up 12 percent compared to the prior year quarter. Higher sales volumes and favorable price/mix drove the increase, and was partially offset by input and transportation cost inflation, as well as higher manufacturing costs per pound.
Net sales for the Retail segment, which includes sales of branded and private label products to grocery, mass merchant and club store customers in North America, declined $21.4 million to $132.5 million, down 14 percent versus the prior year quarter, with volume falling 15 percent and price/mix up 1 percent. The sales volume decline largely reflects lower shipments of private label products resulting from incremental losses of certain low-margin business, and to a lesser extent, a slight decline in branded product sales volumes as food-at-home purchases began to normalize to pre-pandemic levels.
However, total shipments of Lamb Weston branded products in the current quarter were well above pre-pandemic levels. The increase in price/mix was largely driven by favorable price, including higher prices charged for freight.
Retail segment product contribution margin declined $21.0 million to $14.8 million, down 59 percent versus the prior year quarter. Input and transportation cost inflation, higher manufacturing costs per pound, lower sales volumes and a $2.1 million increase in A&P expenses to support new product launches, drove the decline.
Fiscal 2022 Outlook
The company continues to expect fiscal 2022 net sales growth will be above its long-term target of low-to-mid single digits. It anticipates net sales growth in the second quarter of Q2 will be driven largely by higher volume, reflecting an ongoing recovery in demand for frozen potato products, as well as a favorable comparison to relatively soft shipments in the second quarter of fiscal 2021. Net sales growth in the second half of fiscal 2022 is forecast to reflect more of a balance of higher volume and improved price/mix, as recent pricing actions are fully implemented in the market.
Lamb Weston expects net income and Adjusted EBITDA including unconsolidated joint ventures will be pressured for the remainder of fiscal 2022, as it manages through significant inflation for key production inputs, packaging and transportation compared to fiscal 2021 levels, as well as industrywide operational challenges, including labor availability, and upstream and downstream supply chain disruptions, resulting from volatility in the broader supply chain as the overall economy continues to recover from the pandemic’s impact.
In addition, it is expected that potato costs on a per pound basis will likely rise as the year progresses due to the extreme summer heat that negatively affected the quality of potato crops in the Pacific Northwest of the United States. Accordingly, the Lamb Weston expects gross margins to remain below pre-pandemic levels through fiscal 2022. It previously expected earnings to gradually approach pre-pandemic levels in the second half of fiscal 2022.
The company continues to expect that ongoing investments in its information technology, commercial, and supply chain will increase operating expenses in the near term, but remains confident that these investments will improve its ability to support growth and margin improvement over the long term.
Strong Balance Sheet
Lamb Weston still believes that its strong balance sheet and ability to generate cash has it well-positioned to expand production capacity to support long-term growth, including its previously announced investments in the United States and China, as well as to make strategic investments in its information technology platform, including the second phase of its ERP project. Through the Lamb Weston/Meijer joint venture in Europe, the company also previously announced investments to expand capacity in Russia and the Netherlands.
Lamb Weston executives hosted a conference call with financial analysts and other interested parties to review first quarter fiscal 2022 results on October 7. A rebroadcast of the session will be available beginning October 8, after 2 PM EDT at https://investors.lambweston.com/events-and-presentations.