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Ladies and gentlemen, thank you for standing by, and welcome to George Weston Limited 2020 Second Quarter Results. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions] I would now like to hand the conference over to Tara Speers. Thank you. Please go ahead.
Thank you, Chris, and good morning, everyone. Welcome to the George Weston Limited Second Quarter 2020 Results Conference Call. I'm joined this morning by Galen Weston, our Chairman and CEO; Richard Dufresne, our President and CFO; and Luc Mongeau, the President of Weston Foods. Before we begin today's call, I want to remind you that today's discussion will include forward-looking statements, such as the company's beliefs and expectations regarding certain aspects of its financial performance in 2020 and future years. These statements are based on assumptions and reflect management's current expectations. As such, they are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from our expectations. These risks and uncertainties are discussed in the company's materials filed with the Canadian regulators. Any forward-looking statements speak only as of the date they are made. The company disclaims any intention or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, other than what is required by law. Also, certain non-GAAP financial measures may be discussed or referred to today. Please refer to our annual report and other materials filed with the Canadian securities regulators for a reconciliation of each of these measures to the most directly comparable GAAP financial measure. Since Loblaw Companies Limited and Choice Properties have both released their second quarter results, we will focus today's call on the performance of our Weston Foods segment. I will now turn the call over to Richard.
Thank you, Tara, and good morning, everyone. We continue to navigate through this challenging and dynamic time, and our thoughts are with those who are affected by COVID-19. During the quarter, our businesses continued to respond to the challenges presented by the pandemic, and I'm proud of the great work being accomplished across our group of companies. Loblaw is ensuring it delivers services Canadians rely on in a safe and secure environment. It has made significant progress on some of its key strategic initiatives, notably in digital, where our focus on e-commerce has resulted in a significant increase in our online sales, which have reached $1.2 billion in the first half of this year versus $1 billion for all of 2019. Choice Properties is focused on proactive measures to mitigate risk in supporting its tenants who have been negatively impacted by the pandemic. Choice is well positioned going forward as it benefits from its portfolio of high-quality properties with solid tenants and has one of the best balance sheet in the real estate sector. Weston Foods remains committed to meeting and exceeding customer needs through the provision of superior bakery products and has continued to earn the praise of many of its customers over the last few months. On a consolidated basis, George Weston Limited reported revenues of $12.4 billion, an increase of 6.5% compared to last year. The company increased its spending on COVID-19 costs during the quarter, incurring costs of approximately $312 million. COVID costs are related to temporary pay premiums, pay protection safeguards, security, customer convenience and increased health and safety measures to protect colleagues, customers, tenants and other stakeholders. From a financial perspective, our businesses were negatively impacted by COVID-19 during the quarter. On an adjusted basis, adjusted net earnings available to common shareholders were $142 million. Compared to the same period last year, this represented a decrease of $121 million. The company reported adjusted diluted net earnings per share of $0.93, a decrease of $0.77 per share compared to the same period last year. On an IFRS basis, net loss available to common shareholders was $255 million compared to net earnings of $184 million last year, a decrease of $439 million. And fully diluted earnings per share was negative $1.66, a decrease of 239.5%. For the second quarter, GWL corporate free cash flow was $70 million, a decrease of $88 million over the last year driven by the decline in cash flow from Weston Foods and timing of distribution received from Choice Properties. At Loblaw, changes in customer behavior and the strength of its network resulted in higher sales. However, this combined with $282 million in COVID-related costs, put pressure on Loblaw's financial model in the quarter. While a significant percent of the Choice portfolio is anchored by necessity-based retail tenants, Choice continues to work with tenants who have been negatively impacted by the pandemic through the provision of rental assistance. Choice Properties' results reflect the stability inherent in its income-producing portfolio. And for the quarter ended June 30, Choice collected 89% of rents, and that number reached 93% in July. The second quarter was financially difficult for Weston Foods. As described on our last call, the first quarter was strong, building on the momentum established through the second half of 2019. Then COVID hit, impacting certain retail categories and foodservice channels. At the onset of the crisis, many food retailers temporarily closed in-store bakeries and bakery display cases, which negatively impact retail sales. Similarly, government-mandated closures of nonessential businesses and physical distancing protocols negatively impacted the foodservice channel. In addition to the decrease in sales, through the second quarter, Weston Foods' COVID-19-related spending continued, including temporary pay premiums and pay protection safeguards and increased health and safety measures to protect its colleagues. Weston Food sales were $412 million in the second quarter, a decrease of $67 million or negative 14% versus the same period last year. Weston Food is continuing with its transformation program, has updated its capital expenditure forecast and has reduced SG&A to mitigate costs in response to the COVID pandemic. Through the 4 weeks following the end of the second quarter, sales at Weston Foods have improved significantly. While sales for the quarter were down 14%, the last 4 weeks were down only 5% compared to last year, excluding the impact of foreign currency, as we experienced recovery in many categories. COVID-19-related costs are also dropping rapidly as they were approximately $1 million over the last 4 weeks versus $16 million in the second quarter. While Weston Foods faced significant challenges in the second quarter, the demand for quality baked goods remained strong. The business remains committed to its strategic priorities, and we believe that demand for baked goods will remain solid going forward. Across the group of companies, we continue to respond to the challenges presented by the pandemic, and we are confident in each of the operating teams' ability to navigate through this period. Although the pandemic has put near-term pressure on our financial performance, it has increased our conviction in our strategic priorities. I'll now turn the call over to Galen.
Thank you, Richard. During the second quarter, our teams faced into the challenges of COVID-19 with confidence, and we confirmed the fundamental strength of each of our businesses. Loblaw demonstrated operational excellence, Choice Properties delivered stability and growth and Weston Foods benefited from the progress it's made on its transformational journey. In each case, we kept our customers and tenants safe and ensured they had the essential goods and services they needed during an uncertain time. At Loblaw, our core business was strong as more Canadians turn to us to stay healthy and well-fed than any other grocer. And as consumers changed how they cared for their families during the pandemic, recent investments in e-commerce and virtual health care allowed us to quickly scale up and meet the surging demand for both. Choice Properties' conservative balance sheet and its necessity-based portfolio provided steady income as we collected 89% of rents during a volatile quarter, outperforming many other Canadian REITs. And during a time when restaurants and in-store bakeries were mostly closed, improved processes at Weston Foods allowed us to quickly adapt production to support increased demand in retail categories, such as fresh bread, all of this while maintaining a no-compromise approach to keeping our people safe and meeting consumers' continued appetite for high-quality baked goods. Looking ahead, the underlying operating performance of our companies remains strong. We are propelling our strategic initiatives forward and are well positioned to serve our customers today and into the future. We remain determined to do so with long-term value creation as our primary objective. Thank you. We'll now take any questions.
[Operator Instructions] Our first question comes from Irene Nattel with RBC Capital Markets.
I was wondering if we could get a little bit more color on demand trend, both in Q2 and particularly as we've moved into Q3, for the different categories of your business and what the implications are on the margin profile going forward.
If you look at the situation right now, overall, the consumer demand for baked goods remains very strong, actually, as strong as before the crisis. What's happened is COVID has modified the way consumers get their hands on those baked goods. So in retail, we've seen temporary closures of display cases, display bins. And in foodservice, we've seen closures -- government-mandated closures of restaurants and some venues. What we're seeing on a -- both in retail and foodservice, as the economy reopens, the demand is really strong. And we're seeing a nice recovery in retail as donut showcase will be open, for example. And in foodservice, we're seeing a very strong recovery in QSR. So we're -- as Richard mentioned, we've seen our sales performance improve significantly in the 4 -- first 4 weeks following the end of the quarter. From a cost standpoint and margin impact, so as you can imagine, margin is impacted. It's impacted by 3 factors, and they're pretty much all equal. First, there's the margin loss driven by the drop in volumes, and we know this is temporary. Second, there are incremental costs. We did experience incremental costs in the quarter related directly to COVID, so whether it's pay premium, pay protection. And we know that these costs are coming down as well. And finally, there are stranded fixed costs in bakeries that we can't eliminate as volume -- when volume comes down rapidly. And again, these costs, I mean, we will get the reverse impact. We'll get leverage of these costs when volume comes back in the bakeries.
Irene, let me just add just a little bit more detail to this. For Q2, we saw that EBITDA was down $42 million, and we've mentioned that COVID costs were $16 million. So the balance is $26 million. And of that $26 million, like, about $17 million is because of volumes, and the rest is like the stranded costs that Luc was mentioning. So that gives you a sense. So as the sales recover, our stranded costs, like, are now being absorbed by the business, our volume comes back and COVID costs are falling rapidly.
Okay. That's really helpful. Interesting though, one of the things that you didn't mention was the shift in mix. So presumably, notwithstanding the fact that you sold lower volume of some of the in-store bakery types of products that tend to have a higher absolute price point, we should see that sort of the margin mix impact normalize in the back half of the year.
Yes. We should.
Our next question is from Mark Petrie with CIBC.
I'm just wondering if you could give a little bit more color on the extent of any sort of manufacturing shutdowns and then the current status. I mean it sounds like everything is basically back up and running, but could you just sort of clarify that and give any clarity on Q2, exactly what happened?
Yes. Everything is back off and running. During Q2, we had a few temporary shutdowns, as we were balancing production with demand. But as of this morning, everything is running.
Okay. And then as I understand it, you had sort of some capacity expansion plan for, I guess, back half of 2020 or by end of year with some new technologies as part of that. What's the current status of that initiative? And when do you expect that this is going to begin to show up or contribute to results?
Yes. We had new capacity scheduled to come up online in 2020 in artisan and donuts and bagels. All of these are on track. And in the back half of the year, we've got new capacity coming up on decorated cupcakes, and all of these things are on schedule.
Okay. So those will be contributing in 2021 then?
Yes. Most likely.
Yes. Assuming everything continues as expected. And then with regards to the $16 million, is -- could you give us a sense of most of that is labor, I would assume. And so by virtue of the fact that that's now almost nil or very minimal, that's just a reflection of the manufacturing being back online. Is that fair?
As Richard mentioned, the COVID-related costs for the quarter were $16 million. In the first 4 weeks following the end of the quarter, they were roughly $1 million. The bulk of the $16 million was driven by pay premium and pay protection to ensure that we could get the network up and going and our employees safe.
Okay. And then just last. Obviously, there's been a lot of disruption in the bakery industry. I'm just curious if that alters your view with regards to potential consolidation in that industry at all. Or does it present some near-term opportunities that maybe weren't there 6 months ago? What's your current view on consolidation in bakery?
As mentioned in the past, Mark, like we continue to believe that the biggest opportunity to create shareholder value is by stabilizing the Weston Foods business, and we were well on our way at Q1. So that remains the area of focus. Like, we do acknowledge that disruption can lead to opportunities, but right now, we remain focused on the strategic initiatives of each of our business.
Our next question is from Peter Sklar with BMO Capital Markets.
Richard, when you reconcile the $42 million EBITDA change year-over-year, $16 million were COVID costs, $17 million were volumes. And I didn't quite catch, what were the -- what was the remainder, the $9 million?
Yes. Those are the fixed costs, essentially, that you can't -- we couldn't get rid of despite the loss in volume. So...
I don't quite get that because fixed costs are unchanged year-over-year.
I know, but like, essentially, like if you were to combine volume and fixed costs, essentially, like when you get loss in volume, like it hits at the marginal rate, so the marginal rate is much higher. There is a variable margin, and there's a fixed component in our gross profit. So the $17 million relates purely to what we call our variable margin, and the balance is essentially the plant overhead.
Yes. Okay. I get that. The other thing I wanted to ask you strategically, I mean, you've talked about in the past that you're -- like you're quite positive on the very-long-term outlook for the REIT, given that there's maybe a multi-decade opportunity of redevelopment opportunities. And so I'm just wondering with what you've gone through over the last few months in terms of COVID, and is that in any way challenged or changed your perspective on real estate? And are you thinking about the real estate development potential in Choice any differently than you were before?
No. Like our strategy on -- with Choice remains focused on quality real estate, and we believe that long-term quality real estate will always do well. And most of our development potential is extremely well-located in urban centers. So therefore, we feel quite positive about the future of real estate.
And what about the employment preference to work at home? Some of that's going to be sticky. No idea what's your...
Yes. That is a good question. Like, I'm sure there's tons of articles coming out speculating about whether or not we're going back to offices and all that stuff. Like, my personal opinion would be that maybe we see maybe like a slower growth in demand for office. But as I was noticing in our organization, like, since March, okay, about a week from now when all the new hires that we have planned to come in are going to be in, we're going to have like 15% of the employees at George Weston that have not set foot in this office. So we're still growing. So I'm assuming businesses are still growing. So there might be sort of a leveling of demand for corporate space for a while, but as businesses grow, you'll need to put people in places. So I suspect it's going to be fine, but that's my personal opinion.
[Operator Instructions] Your next question is from Chris Li with Desjardins.
Thanks for the comment on the fixed cost. That was very helpful. Just maybe one follow-up. Just on the COVID cost of $1 million in the first 4 weeks of the current quarter, is it fair to say that's a pretty good run rate for the rest of the quarter?
Yes. It is.
Okay. And can you also maybe provide us with an update on some of the key cost reduction and the efficiency-improvement initiatives that you're currently working on?
Yes. So -- and part of the transformation program, it's a simplification of our network of bakeries and DCs, which we continue to make progress on. I'm sure you're familiar with the closures we announced. The simplification of our supplier network as well, that allows us to drive economies of scale, simplification of our portfolio. So all these initiatives continue to move forward and provide benefits.
Okay. That's helpful. And is it fair to say the majority of the 5% sales decline in the first 4 weeks of the quarter, is that mostly coming from the foodservice segment? Or are you still seeing some decline in parts of your retail segments?
Yes. It's mostly in part driven by foodservice. We're still seeing a bit of negative impact in retail. But as mentioned, these business are recovering very well, and the trends are positive.
Okay. That's helpful. And my last question is it was reported in the media, I think this past weekend, that one of the large food retailers in Canada is increasing their fees charged to the suppliers to help fund investment in-store and online. Generally speaking, do you expect this to be a headwind for Weston Foods in the other retail channels that you -- that it sells to?
For us, we -- through the crisis, we continued to work very closely with our retailers. E-commerce is something that we've been investing ahead of the curve, and we intend on winning in this -- on this platform.
And ladies and gentlemen, this concludes the Q&A period. I'll now turn it back over to Tara Speers.
Thank you, Chris, and thank you, everyone, for joining us this morning. If you have any follow-up questions, please don't hesitate to contact Roy or myself. And please mark your calendars for November 17 when we will report our third quarter 2020 results. Thank you.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation, and you may now disconnect.