SunOpta Inc. (STKL) Earnings Call Transcript & Summary

All right. Hello, everyone. Thank you for joining us today. My name is Brian Holland, senior research analyst at D.A. Davidson. I am pleased to be joined on the stage by the leadership team from SunOpta, CEO, Brian Kocher; and CFO, Greg Gaba. SunOpta is an innovative and sustainable manufacturer fueling the future of food. In 2023, the company generated total revenues of $630 million and adjusted EBITDA from continuing operations of $79 million. 2024 year-to-date revenues and EBITDA are up 18% and 15%, respectively, powered by its competitively advantaged, scalable network, which we'll dive into this morning. Joe, Brian, Greg -- excuse me. Brian, Greg, thank you.

We needed our name tags.

I shouldn't have copy-pasted everything from last year's script. Thank you for being here. For those in the audience who might be new to the story, would you mind providing us with a brief background on SunOpta?

Sure. SunOpta has a 50-year history operating in various segments to service customers in a wide range of retail or co-manufacturing or private label alternatives. I think importantly, over the course of the last 4, 5 years, SunOpta has really diversified its portfolio, transitioned from a very heavy commodity-oriented business to now a very focused business in the private label and co-manufacturing solutions space. And we're really excited about the categories we're in and the opportunities we have.

And maybe just a little bit about, I mentioned at the top here your competitively advantaged, scalable network. What is your value proposition to customers? And what, if any, are the barriers to entry into the categories in which you compete?

Well, I think if we look at what are our value propositions, the short, quick answer is we provide solutions. We provide solutions and do not provide problems. Solutions are a wide range of activities. We may provide innovation help. We may provide surety of supply. We may provide packaging changes. We've got 21 food scientists, and they work on everything from nutritional content, to sugar content, to clean label. So our -- we offer our customers solutions, and it's in the form of an end product, but that's our main value proposition. We offer them solutions. And that's our single-biggest way that we grow share, is we solve the problems that our customers have in the supply chain.

And I think that's a bit underappreciated. The #1 question I get when people look kind of at your business is flight risk with your customers. But -- and maybe that's kind of the differentiating factor here, is the myriad services that you provide for folks. You have multiple touch points with your key customers to add value and preserve these relationships. I don't -- maybe just quickly on just looking at just a core private label co-manufacturer that maybe annualizes contracts and the customers are making the choices purely on price, is that the key differentiating factor? Is that optionality that you provide, or the services you provide, just beyond cost?

Well, I think it's absolutely a differentiating factor. We grow by a couple of different ways. One, certainly, we grow through innovation and new products. We grow -- but that's, again, on behalf of our private label and co-manufacturing customers. We certainly grow by TAM expansion. We made a recent investment in '23 to break into the ready-to-drink protein shake category. So we grow in that area, again, in a co-manufacturing environment. The single-biggest way we grow share with our existing customers, our new customers, is when we solve a problem. And that's because our R&D team is working with their R&D team. Our materials and supply team is working with their inventory team. Our order entry team is working with our customer supply chain. So you are getting an infrastructure that's much more than I need a fruit snack or I need an almond milk, you're getting a supply partner that helps you optimize your supply chain.

And then maybe just taking one more step back here. Following a period of transformation marked by material divestitures, significant capital investments. I think the company enters 2025 cleaner and more streamlined than perhaps at any point in the company's history, I'd certainly think within the past decade plus. Maybe at a high level, can you just compare and contrast the SunOpta of 2025 versus the SunOpta of, say, 2019?

Again, if I think about it, Brian, 2019, we had a lot of very heavy commodity businesses, fruit snack businesses, organic commodity trading businesses. Sunflower, still, I think, was probably in the portfolio or maybe just at the time. But very heavy businesses that were commodity-oriented, so volatile with respect to the trading markets that they operated. I think Greg would tell you, in a lot of these businesses, there were 1 or 2 chances to win and 100 chances to lose. And now we're through that. And actually, what was really interesting is when we published our 10-K for '23, and we made it finally through the divestitures and all of that legacy commodity business was now disclosed as a continuing operation -- or discontinued operation, it really unveiled the jewel that SunOpta has in it. And that's our private label and co-manufacturing solutions business that predominantly is associated with plant-based beverages, ready-to-drink shakes and then better-for-you fruit snacks. And when you look at it, when I say unveil, then you see continuing operation numbers that are 10-plus percent revenue growth, more than that on the EBITDA line, and that's what I mean by unveil. It was all hidden up until those divestitures.

Yes. And so to that point, Greg, can you frame the impact of this transformation on the company's financials?

Yes, for sure. And as Brian mentioned, the divestiture of the frozen fruit business was the big unlock for us in October '23. With that, we refinanced our debt, right? That is huge to help us fuel the growth that you're seeing today. If you look at the actual financial results, when you pull back all the discontinued operations, revenue grew from a 3-year period, from '21 to '23, 13%. Adjusted EBITDA grew on an annual basis 26%. And we've significantly been able to delever because of this and improving our operations of our more profitable business that we have today.

And Brian, so this time last year, you had just joined SunOpta. 1 year in, what has stood out most compared to any preconceived notions you might have had prior to coming on board?

When I came on board, I kind of said, look, demand generation seems to be okay. I think we have some opportunities in the supply chain, more or less. I will tell you, I'm more excited about demand generation today than I was then. We operate in categories that are growing. Let's look at plant-based -- shelf-stable plant-based beverages. A lot of times, people only have access to that retail tracked channel data which sees some softness. If you add in club channels, if you add in foodservice, that shelf-stable plant-based beverage category is growing in the mid-single digits. Ready-to-drink protein shakes, growing in double digits, closer to 20%. Our fruit snacks business has posted 17 straight quarters of double-digit growth. The category, the better-for-you segment, not the entire snacking category, but the better-for-you segment, is -- on the tracked channel basis, is growing 21%. And if you look at club, when you add it, it's more than 30%. So I'm more happy and excited about the opportunities we have because of the categories we operate in. After I say that, I'm also more impressed about the opportunity we have for supply chain enhancements. And think of it as unlocking capacity. We invested heavily in '22 and '23, a new plant in Midlothian, some new production lines. We invested heavily. So we're at a great timing. The investment is behind us. Now we have those assets to execute. Well, even inside those assets, Greg and I have worked a lot this first year on uncovering where are our bottlenecks? Where are opportunities for enhancement? Where are opportunities for improvement? And I am more excited then today that we operate better than our competitors, but still not to what best-in-class is. And so we've got all that room to fuel our growth. And we came out in the third quarter and essentially said, "Look, we think we have room to fuel our growth well into '26 and potentially longer." And that said, probably a little bit different story than what some others thought of SunOpta, which were going to be capital-intensive growth. We've got a chance to grow with our existing asset base, and I'm excited about that.

Yes. So to clarify, you talked about through '26 potentially. That's talking about just specifically off the revenue capacity you have today with...

In our existing assets with almost -- with no significant growth CapEx. Some maintenance CapEx, but no significant growth CapEx.

And with respect to the supply chain, sort of was leading into my next question, and I think you sort of hit on it at a high level. But can you talk about -- provide some examples with respect to some of the things that you're seeing, some of the opportunities that you're actually bringing to bear as you dig in deeper on that supply chain? And like what specifically are the opportunities to capture that trapped capacity?

I think we've got -- if you look at a supply chain from end to end, we've got opportunities, starting in procurement all the way through end distribution. Now how do I bring that home in such things that are tangible? I think we have opportunities to improve our equipment reliability. The more that your equipment consistently runs, the more manufacturing time in a year you have. Remember, we're a 24/7 operation, the more time you have. The more you schedule significantly, let's think about how you schedule flavors. I love chocolate, it is the worst thing to clean out of your equipment. So scheduled chocolate near your heavy intensive weekly sanitation process, not early part of the week when you're just doing it daily. That's an example of creating manufacturing time. Scheduling. Batching techniques. We -- as strange as this sounds, we were working on -- I'll just give you an example. We were working on a batching technique that required 2 people, and it took 10 hours each, so 20 hours of elapsed time. We did a little bit of design for experiments work and found out that if you did 3 people, it only took 6 hours to batch. All of a sudden, you've got less direct labor hours in the batch and less time and more manufacturing time. It's the sum of all those things, Brian. It is not one switch sitting in a closet somewhere that someone forgot to turn on. It's 1,000 steps. But I love the fact that we know what those steps are. And we've got to sequence them, and we've got to execute them, and we have to train people and do the change management. But that's what I'm most excited about. Because when you jam more units out of a fixed cost network, certainly, you should expect to see growth, but also margin enhancement.

Yes. And he gets the easy job. He gets to dream the dream for everyone and then you get to own the financials, right? So Greg, when do we start to think about that next wave? Again, right, if we look backwards here, the revenue trajectory has been among the best-in-class in packaged food, so you have nothing to apologize for there. But obviously, as the supply chain efficiencies to run through, how do we think about the impact on financials from a timing standpoint?

Yes. We spent quite a bit of time and quite a bit of resources and money in the last couple of quarters in Q3 and Q4, of investing in our supply chain to help us unlock that trapped capacity. That is by far the best use of our dollars, and we will continue to do that. We see that, that being the key unlock to hitting our 20% gross margin target here in the long term. And we think, by the end of '25, early '26, we should get it pretty close to our 20% gross profit target.

Great. Maybe going back a little bit, you talked about the solutions you provide for customers. So I kind of want to dig into that to think about kind of the runway that you have here because I do think it's a bit underappreciated. We'll double-click on some of that here as we go. But on the 3Q call, you framed distribution at your largest customer with the Dream plant brand -- plant-based beverage brand as an opportunity to provide a supply chain solution. So can you just elaborate on that? Like what was the problem you were providing a solution for?

Well, we won't talk about customers specifically, but let's give an example, and I'll weave that in. Remember, when you're a buyer, whether you're in foodservice or retail or you're at a club channel, you want to set your category, you want to make your arrangement, and you never want to worry about that again. You do not want problems. I mean, think of it, whether I'm buying a car or buying toothpaste, I just don't want a problem, right? I think those are the opportunities we really distinguish ourselves. Things like assured supply. That is significant in the foodservice area. No buyer wants to go tell their boss that you have to take hamburgers off the menu because you're short of supply, as an example. So us having assured supply, us having the right packaging format, the speed at which we could deploy. I think in this particular example, we already had a product that met the specs, that worked in for our customer, and we were very quick -- able to quickly deploy that solution. That's an example. Another example may be new product development. Someone loves their oat milk, but would like a lower-sugar alternative. So we turn our food scientists loose. They make a lower-sugar alternative. And the good news is, when you're demonstrating that solution, of course you have a discussion about price. I'm not here trying to say you don't. But it's what's our solution? How are we going to do it? What -- how are we going to affect this? What do we think it's going to lead to our customers? Oh, and by the way, what's the price? So it's fourth or fifth on the list, it's not first. And I think that's an underappreciated value proposition, is that we continue to provide solutions so that our customers do not have problems, or we solve their problems.

Interestingly, your double-digit revenue increases have been driven by your largest customers. Can you talk about that dynamic? How are you able to extract that much growth from presumably your most mature customers? And how much longer is that runway?

I think there's a couple of things. First and foremost, remember, the categories we're operating in are growing, right? The shelf-stable, plant-based, dairy category, we think that's growing mid-single digits, ready-to-drink protein shakes, better-for-you fruit snacks. Heck, even broth. We provide some broth. Even broth, that's growing. So the categories we operate in are growing. Second of all, we have what we believe is an absolute blue-chip list of customers. In general, those customers are outperforming the categories in which they operate, so you get a little bit of extra growth there. And then the other thing is, when we provide a solution, we grow share. There's no doubt we're growing share with our customers. And we grow share because, again, we're able to craft the supply chain solution for them that meets a need. I love the fact that our categories are growing. I love the fact that we've got health and wellness tailwinds, we've got ESG tailwinds still from the consumer side. We have some medicinal tailwinds. If you are lactose-intolerant in the United States, and by all indications, that number is growing, not shrinking. If you're lactose intolerance, you don't have a chance to go to the dairy. So there are a lot of tailwinds for these categories, which we believe are enduring and sustainable well into the future.

So let's talk about some of those tailwinds. Specific to your business, I think the narrative around like coffee shop channel has improved to late following Starbucks' recent announcement, it has removed the plant-based upcharge. I appreciate it's early days, but anything anecdotal you are seeing or hearing since that's been put in place?

A couple of things that I would say. And again, without respect to any one customer. We are deep in planning processes with our customers. So we're talking to them about what's your inventory level look like? What's your -- what are your product assortment 9 months from now, 18 months from now? So one thing that I would say is, by the time it gets to the public market and announced, it's not something we're surprised at, at all. We've been working with them on this. We've been preparing our customers for their changes. Generally, I would say anything that improves trial, repeat purchase or experimentation with the consumer in the plant-based dairy segment is really good for us. And traditionally, what you see in food services are the things that catches waves and trends in foodservice somehow trickle down into the retail environment. So if promotion, trial and experimentation in foodservice, we believe, is good. I would like to think, at a certain point in time, that also trickles down to the performance of the retail category.

And obviously, Starbucks is the leader, so you'll have folks follow on. I would point out that I think, quietly, Dutch Bros removed the plant-based surcharge on January 1. I went to my Oregon Dutch Bros, and they make it with Pacific Foods, my oat milk latte. I would encourage everyone to look at SunOpta's deck for their list of customers. I think you'll see Pacific Foods on there. I won't let you guys go -- I'll take that off your plate to have to address specifically.

I think we would be very comfortable in saying that, if any of you wanted to go out right now in ordered two oat milks, any brand is fine.

And just -- have you said -- I think you have said in the past what your share is of the shelf-stable plant-based beverage category.

We have. And again, there aren't publicly documents for all this, but our estimates are we're right around 70% and maybe a little north.

Fantastic. I want to make sure we touch on a couple of other segment drivers here outside of kind of the core plant-based beverages. But fruit snacks has grown volume over 30% year-to-date. An increase by 3x, I think, if we go back 5 years. It's now approaching 20% of total co. What's fueled that growth? And how do you sustain it going forward?

Well, let's talk about the category because I think there has been continued tailwinds around finding better-for-you fruit snacks that shoppers feel less guilty about and putting in either in lunch boxes or snacking occasions. If you look at our product in particular, in the segment of the fruit snacks category that is growing well over 30% once you include club channels, our segment of the category is clean label, is mostly organic. The base -- the 2 base ingredients in our fruit snack product are organic apple puree and organic apple juice. It's a pretty darn clean label when those are the 2 things that are the majority of your product. So I think from a category perspective, there is a lot of demand for that. Specifically our growth, we're fueled by some capacity investments in the third quarter of '23. And that's a perfect example of where I'm really happy, that investments in CapEx, but then importantly investments in operating efficiencies, pay off. If you think about it, we thought that, that CapEx investment would increase capacity by about 40%. We actually produced 47% more units in the third quarter than in the third quarter of '23. So again, it's not only the investment, but it's making sure you get every last ounce of efficiency out of that investment.

And one of the things I believe this company has done really well through its transformation is to identify where it can leverage core capabilities to expand its addressable market. Protein shakes are a great example of this. I think consistent with the composition across your portfolio, as you mentioned earlier, Brian, you've partnered with the leading performance nutrition brand to manufacture a portion of its product. You currently have one dedicated line, I believe, within your Midlothian, Texas facility. Where do we go from here?

Very -- it's a very similar analogy to our whole supply chain. Where we go from here is making more units better out of that one line. After that, when we talk about growth CapEx and talk about investment and talk about opportunities in the future, I think certainly, we like the idea of investing in high-growth areas where our ability to provide solutions gives us an advantage over the competitive set.

And maybe, Greg, pulling some of these pieces together here, I appreciate you're not providing specific fiscal '25 guidance here today. But perhaps you could share some of the building blocks we should be thinking about?

Yes, for sure. As we look at the trapped capacity, unlocking that trapped capacity. One of the things that we'll do, as we do have a relatively fixed cost network, the more units you get out, the better the metrics are, right? So we do expect to see continued margin growth in 2025, and we do expect to see continued revenue growth in '25. We will get a lot -- into that in a lot more detail on our next earnings call, but we do expect the same trend to continue, with both revenue and margin and EBITDA growth going forward.

And Brian, just as -- one thing that Greg and I have been very conscious of is we've communicated to the investment world that we thought we were going to be on $125 million EBITDA run rate at the end of '25 beginning of '26. And even standing here today, we still see the line of sight and confidence in that number. So it rolls into the revenue growth story. It rolls into our solutions providing for our customers. It rolls into our operational efficiency opportunities. And that's why we feel confident in still achieving that number.

And Greg, you alluded to this earlier, but you opted to reinvest some of your profit upside through '24 back into the supply chain, resulting in some operating expense deleverage throughout the year. Does that activity carry into 25%? Can OpEx ultimately be a point of leverage in the model?

Yes. I definitely think it will be a point of leverage in the model. We said we were going to spend in the Q3 and Q4 and we start to see improvement going forward. That's exactly what we expect to see. And again, we'll get into more details on our next call, but we're expecting to have a good year in '25.

And going back to the fourth quarter of last year, you communicated -- you committed, excuse me, to reevaluating free cash flow uses once the balance sheet was under 3x levered. And per the most recent earnings call, you should be just about there exiting fiscal '24. So with that, how should we expect capital allocation priorities to evolve?

Yes. Our paying down debt has been a primary goal, as you mentioned, Brian, to get under 3x levered. In addition with the capacity unlock, we've spent a lot of money there. And that's where we see the best use of our funds going forward. This is another thing that we plan on getting into more detail on our call, but we're happy with the deleverage that we've achieved, and we look forward to updating you on the next call.

Fantastic. I think we're just about time there, so we can -- we'll leave it there. But Brian and Greg, want to thank you so much for doing this. Thank you, everyone, for joining us. And best of luck in 2025.

And Brian, thanks for your help. And again, thanks for dedicating the time to come hear us tell our story. We love telling it. And hopefully, we'll get a chance to dialogue with you individually over the course of the next couple of days. Thank you all.

Thanks, everyone.

Thank you.