United Natural Foods, Inc. (UNFI) Earnings Call Transcript & Summary

Yes. No, that's very clear and very helpful. And we look forward to that in the back half. And I wanted to touch on 1 point you talked about. You briefly talked about the new business pipeline. And I know that's something you've always had in the background. But I just wanted to spend a little bit more time, if you could kind of dig into the status of it today, how it's been building, what you're seeing for existing versus new customers, and just opportunities out there?

Sure. One of the things that we did as a part of the reskilling of the company was we took a hard look at our sales organization and how to elevate and develop the most talented people, and we have plenty of really talented people, plus recruit strategically, because ultimately, in a value-added strategy where you're looking to fit an assortment and a set of services and brands to their strategy, your account management organization is really important to getting it done. And so we've built a much stronger sales force. And when we refer to pipeline, we just have visibility that we review each week, looking at conversations with customers about different extensions, different opportunities to do more for them and then potential new customers. And we have a set of standards about which we sort of position them in the pipeline, and as they get to higher confidence, we start to talk with you all about the fact that the pipeline is strong, and that's because we expect them to start to print. The sales cycle is pretty long, because you're having conversations and making sure that what solutions we're bringing forth would actually produce the ultimate impact that the customer wants, and you don't want to rush into that, but you also want to capture opportunity when it's there.

Absolutely. That's helpful color. You mentioned services. And I wanted to dig in that before we dig into other pieces of the business. It's part of your wholesale offering. It gets a little bit of airtime over the years and ebbs and flows. But I just want to get a status update on that. Where are the opportunities today? What's resonating now, what type of services? And then where are the biggest opportunities there and how you think about kind of top line versus margin contribution?

Sure. I mean our professional and digital services each led by a different leader are value-added services. And what I mean by that is that our pricing for this service is directly related to the value it creates. Unlike wholesale, where typically we're trying to keep our fees down. Our customers are competing in a very dynamic marketplace. They don't need us to try -- nor would they tolerate us margining up just because we decided to. So we have to earn virtually every penny of margin we get. When it comes to a service, let's say, we looked at your credit card fee program, and we said, how about this program that we could offer you based on some scale negotiation we've done with some of the credit card companies and that saved you $100,000. We could say, we think we should get $20,000 of that. Now that's nothing like our normal margins, right? But it's value we created, and it's a portion of the value that we would like to get ourselves. And so with that business model, what our services groups are doing is looking for ways, whether it's to aggregate a relationship with a technology company or to find a way, particularly, let's say, a retailer is doing a complete assortment reset. We have arms and legs that can help do that reset work much faster, or we have relationships with professional services companies that we can help us do something that would create value and everybody shares in the cost. So it's a much more entrepreneurial effort. It's completely in service to the customer strategy. And the areas that are most resonant are areas that save lots of money and areas that help propel the implementation of a strategy that the customer wants to pursue. And we continue to configure the portfolio of services to try to make sure we have something to serve whatever the customer is looking to do.

That's great. I want to go back to the operational improvements that you've made. We've talked about the strong growth over the last 2 years. You talked about the high confidence outlook for 2017 and into '28. So it's been a tailwind. You expect it to still be a tailwind. So I just want -- if you can catch us up on where we are on the runway there as you rolled out a number of initiatives, how much more optimization do you see? What are the main projects that are going to drive the growth over the next couple of years on that EBITDA margin expansion? I know specifically, you called out Lean 2.0 after you've done lean in the past couple of years. So any color there that just -- that's a new initiative that we've heard about? And just anything around AI, automation, just what are the levers that are still there for further optimization?

That's a very multifaceted question, Leah, and a good one. Matteo Tarditi, our President and Chief Operating Officer, is here today and a great example of the talent upgrade that we've done in the company. Matteo has been our Chief Financial Officer and President for the last couple of years, and he's transitioning over to be Chief Operating Officer and his responsibility includes sales, supply chain, IT and lean. And it's a perfect way to deepen and intensify the next chapter of our improvement agenda. We always say effectiveness first, efficiency second. That's sort of a simple person's way of saying safety, quality service cost, which is the lean mantra. And Matteo is an expert in these. He's a Black Belt and Six Sigma expert, but as the CFO, he was encouraging us to implement it and driving it from his seat. And so for his development and for the benefit of our customers and our shareholders, he's now fully accountable. So what is Lean 2.0? Lean 2.0 is we built the foundation. Now we're going to start using it. And Matteo, if you know him and you do, he is very into the details and a very strong leader and we intend to maximize the process improvement and human system benefits of Lean. Alongside that, we are and have been for the last 2 years, implementing new technology. We have a North Star out there on the Hill, we talked about at the Investor Day called DC of the Future, which has modern technology, which is harmonized across our network so that we can continue to drive steps of effectiveness and efficiency and continue to make our network unparalleled in terms of its ability to operate efficiently, to operate with high quality to build that DC of the future. And I guess that's down to 1 thing that I think is important for investors to understand, which is this was a great company with an amazing heritage that began on the idea and conviction that people should eat healthier food and should have access to clean and really cared for food. But it was also a compendium of acquisitions that hadn't been integrated, including SUPERVALU, which we got somewhat interrupted midstream when COVID came in. So there's a lot of really powerful work going on here that for years, wanted to be done, but it just was overwhelming and COVID became so operationally demanding it got put off. Well, we are now 2 years into implementing on a road map that will go well past what we've formally talked about in terms of outlook or multiyears. And so the translation of that is customers have a lot to expect a management team that is completely discontent with what exists. And that $4 billion of spending with the help of Lean, with the help of technology, we'll continue to get more effective and efficient for years to come, and Lean can now start to see buckets of improvement out years. And so we kind of put it all together. You mentioned AI. The last thing I'll say about AI is AI is a very powerful tool. We're pursuing it in 3 ways. Phase 1 is embedded in technology that we're adapting. So our procurement and inventory system has a very strong AI base and runs on AI and has delivered hundreds of millions of dollars of more efficient inventory that shows up in free cash flow improvement as well as higher customer fill rates. We have a technology out there helping our drivers not turn too fast, not change lanes without a blinker, not be distracted in the cabin, huge increase in safety, which ultimately becomes cost savings, but starts with something even happier than that. That sort of embedded in was Phase 1. Phase 2 is personal productivity where we're starting to socialize AI tools within our environment in a very secure way to help our associates become more productive. And then the third one, which we are pursuing with a lot of discipline is dedicated use cases, and we have a strong governance system. We're meticulous about looking at the detail and making sure it's secure. But ultimately, use case improvement will be part of what we can unlock. And some of that productivity I talked about out there in the future. But through those 3 peer pillars, we have confidence that our AI implementation will produce benefit.

It's a lot of great detail. And we've definitely seen it in the results with improving shrink in a number of initiatives and the team that you've built to drive all that. So that's great, and great to see the runway ahead. You did mention your drivers, right? And so you do have a lot of road miles out there as you're moving these kids around the country and with that comes fuel and diesel costs. So that has been somewhat of a recent headwind for UNFI. And oil prices remain high today. So could you provide an update on what you're seeing there and how you're planning for fuel expenses into next year?

Sure. Generally, and you're familiar with concept that Matteo brought the company around high confidence planning. And what that means is that when we go out with a commitment to deliver a certain set of results, we have manage it through a process to get to what we call high confidence, which means we have multiple ways to get there. That could, if we're successful and our innovations hit, turn into a beat. But it will hopefully never turn into a miss because there's multiple ways to get there. Fuel is an example of something -- obviously, when we put our plan together last year, we didn't expect the increase in fuel to happen the way it did, nobody did. But our way of managing it is through some traditional tools like hedges and our customer contracts and our supplier contracts. And that gives us a way of sort of keeping our exposure in a reasonable place. And then probably the more exciting way to address it is to use the crisis to look at ways in which we can be more efficient with customers to reduce miles. Sensera happens to be a technology that helps with that. But that entire endeavor and looking critically with our customers, Matteo was just with 1 in the Southeast looking at how we're set up to distribute to them and trying to find ways to win through shared accountability to deliver more efficiently into their network. And so a range of levers would never put myself as an expert to forecast what's going to happen in the fuel market, but we are in a position to manage it as it goes.

That's great. And then I wanted to touch on your retail business. It is relatively small for you guys, but you do have a few banners in some regionalized markets. So could you just talk about your recent trends there? What are you seeing in the competitive environment? And how does this segment fit into your long-term strategy?

So as kind of stepping out to 200,000 feet, as you can appreciate in the -- three years ago-ish when we were going through the foundation setting and the strategy built, we had a rigorous review with our Board who are very talented and highly engaged in this. And they and we looked at all the pieces of the business and ask the question, how can we best serve a defined set of customers and a design set of needs and how can we maximize value for our shareholders. And we looked at retail inside the conventional ecosystem and separately. And what we concluded is based on the structure of the Cub brand in the Twin Cities. About 1/3 of the Cub business, a little less is franchised. And all of those franchisees, virtually all of them have separate banners that they run themselves. They're all customers of ours. So what you have in the Cub ecosystem is something that's kind of unitary to that whole distribution center and how we operate in that market. So [indiscernible] decided to be a full portfolio company. That meant we were going to be a retailer and how could we then rebuild Cub that had been somewhat adrift for 15 years. We recruited David Best, outstanding talent. We've given him room last year in our high confidence model, we had the room to say to him, "Look, you figure out how to get customers moving again and we'll give you the room to do that". He's been completely rebuilding his team. David grew up at General Mills and Target, worked as an independent retailer has a long role at ex of people who enjoyed working with him, and he has unashamedly built that team promoted from within. Too early to say that we're making concrete progress, but we'll let our results speak for ourselves. As I mentioned at Investor Day and reinforced recently, we don't have a retail turnaround in our high confidence plan. If it happens, it will add, but I'm excited about the work he's doing and the progress he's making and look forward to reporting on it in the future.

That's great. Now we saw a sequential improvement in the latest quarter, which is great. I know we're nearing our chat. So I wanted to make sure we touched on this because all the operational improvement, it drove such a tremendous improvement in the free cash flow, which you mentioned earlier, an improvement in leverage over the last few years. So with that, you're nearing your leverage target, how are you thinking about capital allocation today? How might that change once you hit your target? And then any comment on what you view around M&A and how that fits in the longer-term plans because UNFI was a consolidator historically?

Very relevant topic right now for us. We're moving into a new chapter where we're producing free cash flow every year. We're still focused on taking down that leverage. That's still in our matrix right now and investing in the business. DC of the Future will happen across the network and involve technology implementation, automation where it makes sense, and that obviously will use some capital as we go forward. Although I'd point out managerially that capital is never the restraining factor. It's the talent to do it well. And so we're focusing on making sure we have the right change management. We just launched the DC of the future in Joliet, Illinois. It's going to be fantastic for customers in that region, but it's bumpy as you implement all that and put all those DCs together. And so Matteo's task is to figure out how to make it less bumpy in the future. And as we go forward, the matrix of exactly how we'll think about the allocation of resources and returning to shareholders, we've been opportunistic buyers of our stock. We just had a new program for $200 million approved by the Board at the last meeting. And then on M&A, it's not out, but a lot of our opportunity and significant opportunity for years to come comes with things we can see that we can do better ourselves. Never say never, but that's how we're thinking about it, and we'll have more to say about it in the upcoming quarters.

Okay. Great. Yes, that's great color. And I think a great discussion of all the all the tremendous work you've been doing over the last several years and then I'll look ahead. So thank you, Sandy, for our chat today.

It was great to be with you. Thank you.