High Liner Foods Inc

TSX:HLF

Earnings Call Transcript

[Operator]

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the -- my apologies. Welcome to the High Liner Foods Inc. conference call for results of the first quarter of 2022. [Operator Instructions] This conference call is being recorded today, Wednesday, May 11, 2022, at 2:00 p.m. Eastern Time for replay purposes.

I would now like to turn the call over to Charlene Milner, Vice President of Finance for High Liner Foods. Please go ahead.

[Charlene Milner, executive]

Thank you. Good afternoon, everyone. Thank you for joining the High Liner Foods conference call today to discuss our financial results for the first quarter of 2022. On the call from High Liner Foods are Rod Hepponstall, President and Chief Executive Officer; and Paul Jewer, Executive Vice President and Chief Financial Officer.

I would like to remind listeners that we use certain non-IFRS measures and ratios when discussing our financial results as we believe these are useful in assessing the company's financial performance. These measures are fully described and reconciled to IFRS measures in our MD&A.

Listeners are also reminded that certain statements made on today's call may be forward-looking statements that are subject to risks and uncertainties. Management may use forward-looking statements when discussing the company's strategy and business in the future. Actual operating or financial results could differ materially from those anticipated in these forward-looking statements.

High Liner Foods includes a thorough discussion of the risk factors that can cause its anticipated outcomes to differ from actual outcomes in its publicly available disclosure documents, particularly in its annual report and annual information form. Please note that High Liner Foods is under no obligation to update any forward-looking statements discussed today.

Earlier today, High Liner Foods reported its financial results for the first quarter ended April 2, 2022. That news release, along with the company's MD&A and unaudited condensed interim consolidated financial statements for the first quarter of 2022 have been filed on SEDAR and can also be found in the Investor Center section of the High Liner Foods website. If you'd like to receive our news releases in the future, please visit the company's website to register.

Lastly, please note that the company reports its financial results in U.S. dollars and therefore, the results to be discussed today are also stated in U.S. dollars, unless otherwise noted. High Liner Foods' common shares trade on the Toronto Stock Exchange and are quoted in Canadian dollars.

I will now turn the call over to Rod for his opening remarks.

[Rodney Hepponstall, executive]

Hello, everyone. Thank you for joining us today to discuss our financial results for the first quarter of 2022. We are pleased to report strong first quarter performance off the back of strong sales and volume. As we grew market share across our business, we continue to increase adjusted EBITDA and gross profit, and I'm encouraged that our business remains more profitable today than prior to the onset of COVID-19 pandemic despite ongoing inflationary and supply chain pressure.

We increased sales volume by 3.6 million pounds or 5.2%. We increased sales by $51.3 million or 21.1%. We increased gross profit by $4.3 million or 7.5%, and we generated adjusted EBITDA of $28.3 million, which was $0.5 million above prior year. These numbers represent significant wins and highlight the agility and resilience of our business in a dynamic marketplace as well as the opportunity for further top line growth ahead as North America continues to emerge from the pandemic.

In our U.S. foodservice business, we finally saw a substantial reopening of our institutional customers after almost 2 years of pandemic-related restrictions. As discussed in previous quarters, we used this time to our advantage, refining our operator and deepening our operator, distributor and supplier relationship and it paid off.

Our Canadian foodservice business also performed well, but our growth was constrained slightly by Omicron-related restrictions persisting into the first quarter. Nonetheless, our foodservice business is rebounding extremely well as evidenced by how we are growing at a faster pace in the category and gaining market share in the U.S. The strong performance in foodservice helped generate our increase in gross profit during the quarter with increased sales and favorable changes in product mix despite inflationary pressures on the input cost.

In retail, the breadth of our product portfolio continues to resonate with customers and consumers. Our frozen seafood remains an attractive and competitive center-of-the-plate protein, and consumers are responding well to enhanced marketing activities and the ability to shop our portfolio for value options.

Our operators are supported by continuous improvement initiatives designed to drive efficiency and manage costs. These initiatives are not new to highlight our foods, but are growing importance as we contend with ongoing supply chain challenges, inflationary pressure and labor constraints that are putting pressure on the bottom line. Fortunately, our willingness to invest in inventory, combined with scale and diversification of our business is allowing us to weather the storm, although it has had an impact on our financial performance.

Overall, we estimate that our sales volume in the first quarter was affected approximately 4 million pounds lower as a result of the global supply chain challenges we faced. Although our results would have been even stronger without the shortfall, our customers continue to tell us that we are managing supply better than most. We don't take this for granted and are continually working to further diversify our supply chain and manage the risk related to our business.

Despite these challenges, we are confident that we are on track to generate year-over-year adjusted EBITDA growth and continue to advance our strategy to become North America's leader in branded value-added seafood.

I will now hand the call over to Paul to review our financial performance. I will speak to you again shortly to provide more color on our strategy and outlook for the year ahead.

[Paul Jewer, executive]

Thank you, Rod, and good afternoon, everyone. Please note that all comparisons provided during my financial review of the first quarter of 2022 are relative to the first quarter of 2021, unless otherwise noted. I would also note that the impact of the Canadian dollar in the first quarter of 2022 compared to the first quarter of 2021 on the value of reported U.S. dollar sales, gross profit and adjusted EBITDA from our Canadian dollar-denominated operations was minimal compared to the conversion impact last year.

Sales volume increased in the first quarter by 3.6 million pounds to 73.4 million pounds. In our foodservice business, sales volume was higher due to the impact of fewer COVID-19 restrictions on the company's foodservice customers in 2022 as compared to 2021, partially offset by the impact of global supply chain challenges on raw material supply in North America. The increase in sales volume in the first quarter of 2022 was also due to growing our retail business and new business and new product sales in both foodservice and retail.

Sales increased in the first quarter by $51.3 million to $294.7 million, reflecting higher sales volumes mentioned above, favorable changes in sales mix and pricing actions related to inflationary increases on input costs. Gross profit increased in the first quarter by $4.3 million to $62 million, and gross profit as a percentage of sales decreased by 270 basis points to 21% as compared to 23.7% in the first quarter of 2021.

The increase in gross profit dollars reflects the higher sales volume discussed previously and favorable changes in product mix, despite inflationary increases on input costs. The decline in gross profit percentage was largely driven by the impact of inflation as we took pricing action to cover higher input costs.

Adjusted EBITDA increased in the first quarter by $500,000 to $28.3 million, and adjusted EBITDA as a percentage of sales

[Audio Gap]

compared to 11.4%. The increase in adjusted EBITDA is a result of the increase in gross profit and decrease in net SG&A expenses, partially offset by the increase in distribution expenses. Reported net income decreased in the first quarter by $3.2 million to $14.6 million, and diluted earnings per share decreased by $0.10 to $0.41.

The decrease in net income reflects an increase in finance costs, primarily reflecting the $7.8 million gain on modification of debt related to the debt refinancing completed in March 2021 that did not repeat in the current year. The higher finance costs were partially offset by an increase in adjusted EBITDA and a decrease in share-based compensation expense and income tax expense.

Excluding the impact of certain non-routine or noncash expenses that are explained in our MD&A, adjusted net income in the first quarter of 2022 increased by $1 million or 7.1% to $15.1 million, and correspondingly, adjusted diluted earnings per share increased $0.03 in the first quarter of 2022 to $0.43 compared to $0.40 in the same period in the prior year.

Turning now to cash flows from operations in the balance sheet. Net cash flows used in or provided by operating activities in the first quarter of 2022 decreased by $46.3 million to an outflow of $19.7 million compared to an inflow of $26.6 million in the same period in 2021 due to unfavorable changes in noncash working capital balances, reflecting our investment in seasonal working capital and inflation in raw materials. This was partially offset by lower income taxes paid and lower interest paid.

Net debt at the end of the first quarter of 2022 increased by $24.1 million to $295.2 million compared to $271 million at the end of fiscal 2021 primarily reflecting higher bank loans and lower cash, partially offset by lower lease liabilities. Net debt to adjusted EBITDA was 3.2x at April 2, 2022, compared to 3x at the end of fiscal 2021. In the absence of any major acquisitions or unplanned capital expenditures in 2022, we expect this ratio to be below the company's long-term target of 3x at the end of fiscal 2022.

Earlier today, we disclosed that subsequent to the quarter, we amended our $150 million asset-based working capital credit facility by extending the term from April 2023 to April 2027. As a result, we do not have any impending debt maturities and remain confident in our liquidity position going forward.

I'll now turn the call back over to Rod for some remarks before opening up the call to questions. Rod?

[Rodney Hepponstall, executive]

Thank you, Paul. Now some brief remarks about how we are executing against our strategy and what lies ahead.

As I've stated before, our strategy is to generate top line growth is simple, expand where we lead today and expand our market share where we know we can. We are executing against the strategy and it's working. In foodservice, we are growing where we are already strong, such as health care and schools and are making headway and gaining market share in all segments, including growth targets of QSR and casual dining. We continue to invest in our distributor relationships, which is helping us raise the profile of our product offering in this space.

From a species perspective, we have been pleased to see year-over-year increase in our priority growth species of shrimp and salmon. Our ability to offer our customers the opportunity to move between SKUs depending on supply and inventory helps to differentiate us from our competition and is valued by our customers.

Over the course of the pandemic, you heard me talk about how we were deepening our operator relationship by providing support and solutions during a critical time for their business. This has served us extremely well, and we are now proactively driving operator engagement in our brand and product portfolio. In April, we launched a dedicated foodservice website supported by digital marketing to allow operators to engage directly with our brands and explore the solutions, especially value-added that we can provide.

Across all retail sectors, consumers are becoming more cost conscious and frozen seafood is no exception. In our retail business on both sides of the border, we continue to take pricing action keep pace with cost. While this may ultimately have an impact on seafood consumption and our financial performance, our products continue to resonate and perform well. In fact, we strengthened our market share in Canada this past quarter and outperformed the market. It is notable that prices are rising quickly in fresh and other frozen categories, which does help to underscore the value offering of frozen seafood.

The breadth of our product portfolio is increasingly becoming a point of competitive advantage and differentiation. Our products appeal to customers seeking value, those opting to prepare restaurant supplier dishes at home instead of dining out as well as those looking for quality and convenience at a variety of price points. For example, during the first quarter, we saw a strong performance of our family pack and signature offerings in Canada and also began distributing to leading U.S. -- we began distributing to a leading U.S. discount retail chain.

Meanwhile, product innovations such as miso cod continue to perform well and our restaurant-inspired sea cuisine skin pack line remains a winning proposition in the U.S. We saw notable volume gains related to this product line with a major U.S. retailer indicating that consumers continue to love the taste and quality we deliver in this compelling dinner solution. We will continue to expand distribution of this line in the U.S. and are excited about the cross-border potential here.

Our retail performance during the quarter was also supported by targeted marketing activities. After a necessary hiatus due to supply constraints, we are thrilled to return to promotional activity and marketing campaigns that have captured consumers' attention and further differentiate our offering from the competition. We continue to work closely with our retailers to capitalize on their e-commerce platforms, which has ensured ongoing prominence of our brands as consumers switch between in-store and online shopping.

To wrap up, we are off to a great start, and I'm pleased with how our business is performing in a dynamic market. We have proven the resilience of our business time and time again, and I'm confident that we will continue to navigate market conditions, mitigate risk, advance our growth strategy and deliver year-over-year adjusted EBITDA growth. As we do so, we remain focused on meeting the evolving needs of our customers and consumers, operating safely and responsibly and living our purpose of reimagining seeking to nourish life.

With that, I'll hand the call over to the operator for question and answer period. Operator, please go ahead.

[Operator]

[Operator Instructions] Your first question comes from George Doumet of Scotiabank.

[George Doumet, analyst]

Congrats on a good quarter. You mentioned expectations -- I guess you sorry you maintain expectations for adjusted EBITDA growth for the year. You put up 2% this quarter. Given the lags between pricing and inflation, how should we think of the cadence of gross margin improvement this year? Is it going to be linear? Is it going to be more back half weighted? Any color you can provide there, please?

[Paul Jewer, executive]

Yes, nothing that I'd highlight in terms of it coming in a particular quarter, George. I think it will be more linear. And we remain confident, as you said, that we can continue to grow our adjusted EBITDA each quarter and ultimately for the year as a whole as we move forward.

[George Doumet, analyst]

Okay. And Paul, do you still expect a positive volume growth this year? And if so, how should we think, I guess, the net effect of eventually lower volumes from supply chain issues being perhaps met with potentially lower volumes from, I guess, demand destruction as we price.

[Paul Jewer, executive]

Yes. So at this stage, with the volume growth, we were pleased to deliver in the first quarter, we do believe we can continue to drive volume growth in -- for the full year despite the inflationary pressure as you've identified. We do believe that we have an opportunity to improve on the supply chain side, but we've been able to deliver the growth that you've seen despite this quarter, again, shorting approximately another 4 million pounds of volume.

And at this point, George, we have not seen much in the way of demand impact from the inflationary pressure, and we're very pleased with that. We do believe there continues to be pent-up demand for our product. We do recognize that supply challenges supports demand for our product as others may be struggling with supply. And the reality is while we're seeing inflation, everyone is seeing inflation. In fact, a number of other proteins are -- continue to be up more than seafood. So at this stage, we remain confident both in the top line volume opportunity as we look forward. And certainly, in the top line sales dollars opportunity, given what we've seen in terms of the impact of inflation.

[George Doumet, analyst]

That's really helpful. And just one more, if I may, on working capital. It was a big drag last year. Looking at this year, would you expect another big drag, a smaller drag, neutral or maybe a small reversal. Just kind of get thoughts on that.

[Paul Jewer, executive]

Yes. I think we will continue to invest in working capital to support our business, particularly through the supply chain challenges. The delivery times are certainly quite a bit longer for a number of our products. But I should also highlight part of the working capital drag that you saw in the first quarter is reflective of inflation because we've got more sales dollars sitting in receivables, and we've got more raw material dollars sitting in inventory.

But also, the first quarter was higher than we would anticipate for the full year as a whole because of some seasonality impacts. Lent was a little bit later this quarter, and we had a particularly strong finish to the first quarter, which would be sitting in the working capital.

[Operator]

Your next question comes from Kyle McPhee of Cormark Securities.

[Kyle McPhee, analyst]

I just have some revenue-oriented question. So I just want to better understand some of the moving pieces feeding that year-over-year gain. Can you provide any color on how much of that gain in Q1 was pricing? I'm just trying to isolate that from volume and the mix shift?

[Paul Jewer, executive]

Yes. Approximately 3/4 of that $51 million of top line growth would be inflation. The balance is the improved volume and some favorable mix in the business as well.

[Kyle McPhee, analyst]

Got it. Okay. And then -- so I think that's a pricing that's accelerated versus last quarter. Should we be expecting that to happen again next quarter, pricing to materially accelerate? I think inflation has continued and you're getting into higher cost inventory. So what should we expect there?

[Paul Jewer, executive]

Yes. I think you'll continue to see some inflation, but not materially more than what you've already seen. I mean we've had a lot of cost increases over the course of the last several quarters that we've had to reflect.

[Kyle McPhee, analyst]

Got it. Okay. And then we briefly talked about demand destruction. It sounds like you're largely not seeing it. Are there any green shoots of demand destruction or substitution into lower price point offerings? Just anything at all? Or is it still pretty status quo?

[Paul Jewer, executive]

We may be seeing some preliminary signs of a shift in consumer behavior between premium or discount between some of the channels that we serve within foodservice as an example, but nothing of significance. And one of the things we're pleased about in our business is the diversity of our business that covers premium and discount across retail and foodservice across many different dining occasions. So we feel comfortable that we can continue to show opportunity for volume growth going forward.

[Kyle McPhee, analyst]

Got it. Okay. And then last one for me. Just on the last sales opportunities, the 4 million pound, is that dynamic shifting at all in real time for better or worse and notably asked the question in the context of what's going on with Russia's impact on whitefish market.

[Paul Jewer, executive]

Yes. So I would say at this point, the 4 million pounds is fairly consistent with what you saw in the last couple of quarters and at this stage, we expect we'll still face some of those shortages at a similar level in our upcoming couple of quarters. So nothing that I'd highlight in terms of a significant change in that trend at this stage.

[Operator]

Your next question comes from Sabahat Khan of RBC Capital Markets.

[Sabahat Khan, analyst]

I guess just maybe following a similar line of questions as the previous 2. I guess, looking at the SG&A line specifically, it looks like there was obviously uptick in costs for a lot of the things that we can presume freight, other inflation. Can you maybe talk about, is it really just through pricing can offset that? Are there efficiencies you can maybe implement or that you're working on that can maybe help margins through the back part of the year?

[Paul Jewer, executive]

Yes. No. Certainly, a big focus of what we have underway is to try to mitigate cost increases. I mean we don't want to increase the prices of our products. We would prefer to be in a position where we can hold prices or even look at opportunities to provide better prices to our customers and consumers. But given the inflationary reality that we've seen, in many areas outside of our control, we've had to take price. But rest assured, we've got a lot of work underway to try to find efficiencies in our supply chain across our -- the SG&A parts of our business to continue to try to drive the best value that we can for our customers and consumers.

[Sabahat Khan, analyst]

And I guess where are you seeing kind of most of the uptick in SG&A? Should we assume it is primarily freight of getting the product to the retailer or to the customer to make sure it's on shelf or on the plate or are there other stuff that's impacting the SG&A line?

[Paul Jewer, executive]

Yes. So 2 things I'd highlight. You're absolutely right. Freight costs are higher because there's -- we're seeing some benefit on international freight, but we're seeing increases in domestic freight, but we also are investing more in marketing, which I think is what you would see on the SG&A line primarily.

[Sabahat Khan, analyst]

Okay. Great. And then I guess just more of a broader question. I know you talked about in your release around the demand on the foodservice side is improving given some of the restrictions are easing. Can you maybe talk about just the broader dynamic, whether it's the economy, how is that affecting the mix between retail and foodservice. There's a bit of a reopening. So maybe there's a bit of shift between those 2 channels. What are you seeing from your customers in terms of where the demand is coming from at this point?

[Rodney Hepponstall, executive]

Yes, I'll take that. I think the demand is strong in both channels cores, candidly. Retail re-openings, I think the category is up 17% most recently, and we're taking full advantage of that across all sectors within the foodservice -- retail over the last 52 weeks is up 1%. So we're still holding on those consumers that came in during the pandemic, but continuing to take share in both channels.

So I would say that's a combination of a number of things. First of which is the execution sales strategies that we've put in place. Certainly, the strength of -- and resilience of our supply chain has been very beneficial to us. And then certainly, the relationships that we have built over the course of the pandemic, again, demonstrating the strength of our supply chain and willingness to certainly be agile and flexible.

[Sabahat Khan, analyst]

Okay. And then just maybe just one last follow-up for me. Just going a bit deeper on the sales demand side. I know there's been a big push towards going more branded and more value add across all channels. How is that coming along? Are you getting more traction in one channel versus the other with that strategy? And maybe if you could just comment directionally on with the U.S. being further along with the reopening versus Canada, are there any trends that are different in that market versus in kind of the Canadian side?

[Rodney Hepponstall, executive]

Yes. I would not say that there's maybe significant trends that are different historical -- of course, our branded position in Canada, second to none. Certainly ubiquitous in both foodservice and retail. But if I look at the branded performance, if I go back to -- let's go back to 2019, maybe it's a good baseline. 54% of our volume was branded and now 56% of our volume is branded. So we continue to move that branded needle forward. And again, that's all around our execution strategy, innovation platforms and the list goes on and on. So we're very comfortable in our ability to continue to have the right branded versus private label mix as well as value-added versus commodity mix in our business.

[Paul Jewer, executive]

And Rod, it's worth saying that percentage would be higher if it wasn't for that rebound in the unprocessed business, particularly in foodservice as we continue to see that recover.

[Rodney Hepponstall, executive]

Yes. That's a fair point.

[Sabahat Khan, analyst]

And maybe if I could just maybe squeeze in one more, maybe more for Paul and just trying the leverage, I guess, should we just assume directional earnings growth will bring the leverage down anything on the working capital side you might be walking on might be hard on the working capital side given the inflation and everything. But I just want to get your perspective on how you're thinking about deleveraging back towards your target over the next few quarters?

[Paul Jewer, executive]

Yes. No, I think you're right, Sabahat, it will come from our continued cash flow delivery from our performance in the business, less so on the working capital side, although as I said, there was more investment in Q1 than what we'll see as being required, we believe, in the back half of the year. But certainly looking forward to continuing to reduce our leverage with the strong free cash flow performance.

[Operator]

Your next question comes from Jonathan Lamers of BMO Capital Markets.

[Jonathan Lamers, analyst]

First, SG&A in the quarter ticked down from the prior year Q1. What type of growth should we be thinking about for the balance of the year there?

[Paul Jewer, executive]

Yes. I think you'll still see some investment in marketing, it would be the primary area where I believe you'll see SG&A go back up a little in the balance of the year. But to be honest, we're still experiencing savings in our business in areas such as travel, as I expect many people in the corporate world are. And as I mentioned earlier, we're doing what we can to manage our costs tightly as we deal with the inflationary environment that we face.

[Jonathan Lamers, analyst]

And Rod, just to expand on one of the last topics. So as we think about the sales mix here, clearly, the commodity products would be benefiting from the reopening in the retail channel, rather in the restaurant and food service channel. But it sounds like you're still -- you've still been able to grow the branded mix. Can you help us sort that out and maybe elaborate on where the wins are coming from?

[Rodney Hepponstall, executive]

Yes. I think there's a number of wins that are coming that -- that come both in both foodservice and retail. Again, we've been able to, with the operator strategy, we have created a pull strategy for our brands, working more closely with the scale operators to pull our brand through. But also as we look at the performance of our retail business, as I mentioned, we have secured -- began just -- began shipping a quietly probably the largest discounter -- discount retail chain in the U.S. with roughly 8,000 locations. So we anticipate continued brand growth as a result of that. That's several SKUs that we'll certainly take advantage of as well as, quite frankly, continuing to close distribution gaps on both sides of the border, but primarily in the U.S. with our brand and value offerings.

And we know we've talked about the strength of our sea cuisine skin pack line, while it's still a small of our overall portfolio growing at double digits is indicating the success we're having while getting direct communication with our consumers through our digital activity and other means.

[Jonathan Lamers, analyst]

And given the record levels of commodity cost inflation, are you expecting a greater flow-through impact to cost of sales and gross margin percentage over the coming quarters?

[Paul Jewer, executive]

There will still be some inflation that flows through, but not to the same degree that's already reflected here. And we -- of course, we would -- we don't like to see our gross profit percentage go down or adjusted EBITDA percentage go down. But the reality is that is entirely because of the higher sales dollars offsetting the higher cost. If it wasn't for that, we would be very pleased with the gross profit percentage and EBITDA percentage that we delivered.

[Jonathan Lamers, analyst]

Okay. Maybe a last question. Just in terms of timing, those customer wins that Rod highlighted. Were those late in the quarter or early in the quarter and would you see those as having a material impact to the volumes for the next quarter?

[Rodney Hepponstall, executive]

Yes. So those were just began shipping. So quite frankly, not significantly material in the quarter. We'll begin to see that materialize more rapidly in the second quarter as that product makes its way through distribution centers on shelf. So we will certainly look forward to discussing that in the next quarter's call.

[Operator]

There are no further questions from the phone lines. I would like to turn the conference back to Mr. Hepponstall for closing remarks. Please go ahead, sir.

[Rodney Hepponstall, executive]

To close, I want to thank you for joining our call today. We look forward to updating you with our results for the second quarter of 2022 on our next conference call in August. Please stay safe and well.

[Operator]

Ladies and gentlemen, this concludes your conference for this afternoon. We would like to thank you for participating and ask that you please disconnect your lines.