Flowers Foods, Inc. (FLO) Q2 2017 Earnings Report, Transcript and Summary

Welcome to the Flowers Foods Second Quarter 2017 Earnings Call and Webcast. My name is Ellen, and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to J.T. Rieck, Vice President, Investor Relations and Treasurer. Mr. Rieck, you may begin.

Thank you, Ellen, and good morning, everyone. Our second quarter results were released yesterday evening, and you'll find the earnings release on the Flowers Foods website. You can find the slide presentation that supports our discussion for today posted on the conference call page in the Investor Center at flowersfoods.com. Our 10-Q was filed with the SEC yesterday evening as well. Before we begin, please be aware that our presentation today may include forward-looking statements about our Company's performance. Although, we believe those statements to be reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially. In addition to matters we'll discuss during the call, important factors relating to Flowers Foods business are fully detailed in our SEC filings. I also want to let you know, we will host an investor briefing for sell side analysts and institutional investors on Wednesday, September 27 at the New York Stock Exchange. We will detail our strategic priorities and an update on Project Centennial. We will send off the particulars for the event soon. Now let’s get started. Participating on the call today, we have Allen Shiver, Flowers Foods' President and Chief Executive Officer, and Steve Kinsey, our Executive Vice President and Chief Financial Officer. Now Allen, I'll turn the call over to you.

Thank you, J.T., and good morning, everyone. Thank you for joining the call. We have had a busy quarter. Flowers is the Company in transition and change is taking place. It’s an exciting time and we see opportunities in all areas of the business. I am proud of the way that the team is tackling challenges around and finding creative ways to improve our business and drive growth in the future. I am confident the actions that we are taking today, will make us a better and a stronger company tomorrow. So let’s get started. In the second quarter, we continue to execute on our strategic priorities. We're taking actions to lower our cost structure, reinvigorate our core business and enhance the long-term growth trajectory of our brand portfolios. Our team is driving hard to deliver on these priorities with the goal of creating greater value for shareholders. Summarizing the results for the second quarter, excluding the divestiture, sales were down 40 basis points and adjusted earnings per share were $0.24. Early wins from our costs savings initiatives along with improvements in manufacturing efficiencies helped us overcome the margin impact of softer than expected sales growth. As for category trends, the fresh packaged bread category was down 70 basis points in dollars and 1.5% in units for the quarter. Our competitive position in the category improved and we gained share in both dollars and in units. In the second quarter, our market share for the category was 15.4%, which is a record for Flowers. It's important to point out that we operate in a big market. Across the Grocery Store segment, fresh bread is the third-largest category. Many of our brands already have a strong competitive position. We're focused on opportunities to grow in segments of the categories, but we are underdeveloped, with new products and strategic acquisitions. Dave's Killer Bread is driving our share gains in the Specialty Premium segment and Breakfast segment. While Wonder and Nature's Own grew share in white and soft variety loaf segments. Our Cake Share has been under pressure for the past several quarters. This is due in part to competitiveness in the market, but we've also seen losses in commodity type products, and products that lack brand strength. We're addressing these issues by improving the manufacturing efficiency of our cake operations and developing products with clear points of difference and consumer appeal. For example, the right size or cake production capacity, we are closing our Winston-Salem facility in early October. This was a difficult decision because of the impact it will have on our team members. We're doing all we can to support them during this transition and are committed to treating all the affected employees with dignity and respect. However, this decision was absolutely necessary to protect our long-term competitive position and improve efficiency across our cake operations. With Tastykake, we're putting more support behind our brand with marketing partnerships and new varieties to grow sales, keeping the brand fresh and exciting. Consumer interest in fresh organic breads is strong and DKB is a growth driver in our portfolio. It's been a year, since we introduced DKB to our direct store delivery network and we continue to see growing units per store and steady distribution gains. During the quarter, we launched four new organic breakfast items under DKB. With this introduction, we're focused on growing our share of the almost $2 billion Breakfast segment, which for us is an undeveloped area of the category. This underlines the potential to expand into other segments of the category with the DKB brand. Still we are realistic about the current marketplace. As we're seeing across the packaged foods category overall consumption in the bakery category is down. This is putting pressure on volumes and our revised guidance reflects its reality. As a result, we are increasing the urgency of our costs cutting efforts and our focus on product innovation, which leads me to Project Centennial. We’ve reducing costs and simplifying the business to generate savings to invest in our brands and create a platform for growth. As we've said our target is to deliver net EBITDA margin expansion of at least 250 basis points by 2021. Our 2016 sales base of just under $3.9 billion that translates to approximately $100 million of annualized savings. These savings are net of investments back into the business to enhance and strengthen our operations, our brands and marketing. To capture these savings, our team is addressing cost throughout the Company, including purchase goods and services, organizational structure and operations. For purchase goods and services, we have targeted annualized savings of at least $45 million on our indirect spend. We are on track and expect to achieve our target by mid-2018. Our new organizational structure is in the process of being implemented and we will begin to realize savings starting early in 2018. Last month, we put into place a voluntary separation program that will be completed late in the third quarter. We are also gaining momentum with a number of initiatives designed to simplify operations and improve efficiencies. This includes continuous improvement in supply chain optimization. Closing the Winston-Salem facility is an example of streamlining the supply chain. Beyond cost savings, we are making progress with other initiatives under Project Centennial. We successfully contracted with third parties to expand the distribution of products in the Midwest and other areas where our distribution is limited. We are also developing a more streamlined brand assortment that will eliminate lower margin SKUs. We expect to implement the new product assortment by the end of this year. I am encouraged by the transformation that is underway here at Flowers at all levels of our Company. The world is rapidly changing and Flowers is changing as well. We are implementing new processes and actions daily and momentum is building. You'll be hearing more about Project Centennial at our investor briefing in New York on September, 27. Now I'll ask Steve to review our financials.

Thank you, Allen. Good morning, everyone. Since the detailed financials for the quarter are available in the release and the 10-Q was filed last night. I'll focus my comments today on the key highlights, cash flows and our outlook for the remainder of fiscal 2017. On the topline, consolidated sales decreased 90 basis points. The mix business we divested earlier this year accounted for 50 basis points of the decline. Our DSD segment increased consolidated sales by 80 basis points and the Warehouse segment decreased overall sales by 120 basis points, excluding the impact of the mix business. The Warehouse segment which mix up roughly 14% of our sales was down 7.4% in the second quarter excluding the mix business. The majority of this decline was driven by lower sales in our warehouse cake business including the Mrs. Freshley's brand and store branded snack cakes. The DSD segment was up 90 basis points in the second quarter. Strong sales of Dave's Killer Bread drove the segment topline, partially offset by lower sales of conventional breads due to primarily a softer than expected bun season and lower sales of Tastykake. For both DSD and Warehouse, volumes in our cake business have been pressured for several quarters. And as Allen mentioned, as a result we are closing the Winston-Salem cake facility in early October to lower cost. In today's environment, it's imperative that we produced our products at most efficient bakeries. Our organic business overall is performing very well. As a leading organic bread brand Dave's Killer Bread sales continue to grow benefiting for the full support of our DSD network. While we've had challenges in growing the Alpine brand, Alpine still is an important long-term portfolio role and allowing Flowers to reach consumers seeking organic bread outside the traditional bread aisle on the perimeter, the in-store bakery and the freezer case. And the bottom line organic business is performing above expectations. The investments we've made at organic bread production capacity have yielded very strong returns. Operating margin in our DSD segment was down slightly 20 basis points with 10 basis points due to higher amortization expense. Lower production cost will offset primarily higher selling expenses. The warehouse operating margins were down significantly, 180 basis points impacted primarily by lower than expected cake sales. Looking at our consolidated results, production cost as a percentage of sales declined 60 basis points resulting in higher gross margins. Relative to the prior quarter, we produced a vast majority of our organic items in-house, which reduced outside purchases significantly. Improved manufacturing efficiency is also contributed to the reduction and production cost as a percent of sales as we have been very focused on maximizing productivity in the bakery to counter the lower sales volumes. Adjusted for items affecting comparability selling, distribution and administrative expenses as a percent of sales increased 110 basis points, the main driver being distributor distribution fees. This was anticipated due to more sales going through the DSD system as a result of the rollout of Dave’s Killer Bread, which began in the second quarter of fiscal 2016. Reflecting the net of higher gross margin and higher SD&A as a percentage of sales, adjusted EBITDA decreased 50 basis points to 12.3% of sales. GAAP earnings per share for the quarter was $0.21, down $0.03 from a year ago due primarily to Project Centennial cost or $0.03 per share. Adjusted EPS in the quarter, as Allen said was $0.24, down $0.02 per share compared to the prior year. In addition to the decrease in sales and adjusted EBITDA margin, adjusted earnings per share were impacted by higher depreciation and amortization, offset by a lower tax rate. The lower tax rate in the second quarter was primarily due to our discrete, state tax benefit as a result of certain state tax credits compared to the prior year. Turning now to cash flow, operating cash flow during the quarter was $84.9 million, up $8.3 million from the prior year. Operating cash flows during the quarter were reduced a $9.4 million in Project Centennial cost. Capital expenditures were $14.5 million in the quarter as compared to $17.8 million a year ago. During the quarter we pay down debt of approximately $44 million ending the quarter with $840 million in net debt. Our net debt of trailing 12-month adjusted EBITDA decline to 1.9 times. Moving on to our outlook for the balance of fiscal 2017, given category headwinds a softer expected bun season and a more conservative outlook on the back half, we now see ourselves in the range of flat to down 1%. We also tighten the range of our earnings guidance we now expect adjusted EPS to fall in the range of $0.85 to $0.90 per share. Our guidance does include approximately 50 basis point impact of sales from the divestiture of the mixed business. Our adjusted EPS for the full-year excludes the gain on the sale the mix business in the first quarter of $0.09 per share Project Centennial cost of approximately $0.11 to $0.12 per share and a cost associated with the closing of the Winston-Salem bakery of $0.01 to $0.02 per share. We are also adjusting our expected cost related to our strategic priorities under Project Centennial. We now expect 2017 cost to be in the range of $35 million to $40 million as compared to our previous range of $25 million to $30 million. As we enter the implementation phase of several work streams we now have greater visibility into what is required to move forward, the higher costs or primarily attributable to investment in overall capability including technology investments for several initiatives. We expect the level of support to drop as we move to the back half of 2017 and fall off substantially in 2018. Year-to-date we have spent approximately $25 million with regard to the project. In summary, we continue to generate solid cash flows as we work to reduce our cost structure and position the company for enhanced returns in the future. Now, I’ll pass the call back to Allen.

Thank you, Steve. I'm confident the efforts were making both to improve our operating performance and also enhance the growth of our brand portfolio is the right way for Flowers to drive shareholder value. Our team is energized they're engaged and excited about what lies ahead. We all see the potential for Flowers Foods and we have the confidence and encouraged to make the right decisions to improve those sales and increased earnings. We're excited about the long-term prospects for Flowers. As the marketplace changes we’re working to leverage our competitive advantages which are our brands, our customer relationships, our manufacturing and distribution capabilities and most importantly our dedicated team. These advantages will allow us to profitably grow our market share and a huge $30 billion category. Thank you and with I’ll open it up for questions.

Thank you. We will now begin the question-and-answer session. [Operator Instructions] The first question is from Farha Aslam with Stephens.

Hi, good morning.

Good morning, Farha.

Question about your topline, but your new guidance still implies an improvement in the back half compared to the first half on sales? So could you just provide us some color on what's going to allow the second half sales to turnaround compared to the first half?

Sure, when you look at the back half, we do have some business wins that are coming on Farha. And then traditionally summer is a tougher business for cake, so we do expect our cake comps to improve slightly in the back half as well.

Okay. And then in terms of commodity input costs, you’ve seen wheat cost and others go up recently. Will that affect Flowers this year or next year and how should we model that commodity inflation?

When you look at overall, as you know that we traditionally hedge our Flowers costs using wheat users of around four to seven months and traditionally on the long end of that. So 2017 costs were pretty much set, I don’t anticipate any impact on the overall 2017 cost from the recent run in wheatprices. 2018 is too early to say. You're still working through the drought situation, obviously there'll be a new crop planted. So from that perspective, other than saying, we're going to stick to our current hedging strategy. I can't really comment on the impact for 2018 at this point.

That's helpful. And my final question is on Project Centennial. You talked about $100 million in costs savings out in 2021 and I think today you said that net. Is that net of investments that will be invested back into innovation costs savings et cetera? Is that what we should expect for the bottom line? Is that what net means? I just want to clarify that.

Yes the net $100 million of savings is without taking into consideration, reinvestment back into the business. So obviously the gross number is larger. And then we’ll – as we've talked about things like investing back in our marketing spend, those will come out of gross savings. So the 250 basis point improvement is a net number.

Farha, also I would add on sales. We have some exciting new items that are in the queue for introduction in the back half. We'll be talking more about those at our Analysts Day in September. From an investment standpoint it’s exciting to be able to really support our brands in a manner that they need to be supported to take them to the next level. And are really focusing on products that have a point of difference and brands that can carry the type of pricing and margin that we all want. So we're excited that a real byproduct of Project Centennial is being able to have sufficient marketing funds to invest back into the brands and the business.

But we're still going to get $100 million in 2021 on the…?

Correct. That is a net number.

Okay. That’s helpful. Thank you.

Thank you.

The next question is from Brett Hundley with The Vertical Group.

Thank you. Good morning, guys.

Good morning, Brett.

Allen, I just wanted to finish on that line of questioning related to brand support and whether or not, you felt like you had the ability to really support the brands the way that you wanted to maybe over the last year or so. And it’s kind of plays into a longer question that I have about the brand assortment comment that you guys made. I thought that was a very interesting comment as well and I really wanted to tie all this back to your cake business. Because with Tastykake, I think you have a really high quality product there and I'm not just saying that because I'm a Philly guy, but I think it's a really high quality product that you can seemingly organize your cake effort around if you want to while simultaneously reducing SKU count, simplifying options on the shelf for the consumer, maybe trading up from a margin standpoint internally because of your DSD effort. So it seems like there's a real opportunity present in that regard. And then secondly, you have this high quality product, but you don't really seem to be attacking at all from an innovation or a marketing perspective or you really haven't to this point. And in fact you're getting attacked by a company that has come back into the marketplace and it knows the consumer really well and they are doing a great job I think of innovating and blocking and tackling around the marketing perspective. And so I'm curious kind of where we go from here in your cake business? And as a competitor in the space why you guys have seemed to be more defensive over time with your posture and how you can start attacking going forward?

I'll take a shot at that and Steve can add to it. One of the exciting things about Project Centennial, I mentioned earlier is having the marketing funds to reinvest back into the business. And our focus with our Tastykake brand as well as our other brands and Dave's Killer Bread is a very good example. Dave's is an exciting brand. It’s well positioned. It is absolutely on top of the trend on organics and growth in that area and being able to support that brand at a high level through whatever media is appropriate for that brand is very important. And if I look in the rearview mirror, we have not been positioned to invest in those brands at levels that we needed to you. That is one of the exciting things about Project Centennial. In addition to the savings, it will be reinvested back in the business. We're also going to be able to invest in our primary brands and Tastykake is one of our primary brands at a much higher level than we've ever done in the past and through all the different forms of media. In addition, I think the bar has been raised in terms of our new product development, and again really understanding the consumer and were today’s aging millennials is a – have families of their own. Product differentiation that is really tied into those consumer changes is critical. So not only are we investing more from a dollar standpoint and marketing support, we're also going to be investing in an additional marketing talent that you'll be hearing more about in September. So again, we are not happy with where we're at. And if you look at our cake business and the decision in Winston-Salem was a difficult decision. Any time you close a facility, it is a difficult decision, but we've got to focus our product line and cake is a great example on products that have a meaningful point of difference to the consumer. In many of the products it will be discontinued in our SKU rationalization. Quite frankly our me-too products that have little if any pricing opportunity. Our focus is developed products and brands that do have the ability to provide a meaningful point of difference to our consumers. Steve?

I think Allen touched primarily on the brand, so what I would say also with regard to Project Centennial. If you look today the way our cake business – the way we go to market with cake were basically aligned by distribution method, warehouse and DSD. I think one important aspect of the new structure is moving to the business unit structure. It will allow us to combine how we look at our cake business. So that focus will change dramatically and we'll talk more about that in September at the Investor Day. But that is one of the purposes of that moving to the business unit structure is to allow that focus on cake to be really combined and more aligned.

That's really helpful commentary from both of you. Thank you. I just have one other question. Steve, I want to follow-up on a question as far as related to commodity somewhat, so your price mix in DSD was up 0.7%. That was actually on what we considered a pretty tough comp. It was actually a little bit surprising to us to see that number. And I wanted to dissect it a little bit just because of all the concern that's out there across package food or related to pricing power. You've seen that concern developed as some of the hard discounters have come in on the retail side and then also the Amazon announcement related to Whole Foods. And generally we are seeing prices kind of decline sequentially, but with packaged bread, it's feels like it's hung in there a little bit. And with the backdrop of Ross potentially moving higher into 2018, I think a lot of us are questioning what can happen from a pricing standpoint in the fresh bread category. So I would just be curious to kind of get your comments on what you think this evolving environment means for pricing in your category specifically especially against the backdrop of raw materials turning inflationary? Thank you.

Sure Brett, just a couple of things there I'd say when you look at the category a lot of been very promotional it's still very much a market-by-market category. So even though I’d say overall pricing has been impacted and down slightly as Allen said is the large category and so it's relatively stable to slightly down from an overall price perspective. When you look specifically for us in the quarter I think what you're seeing is the fact we're all in frame with organics DKB is driving a lot of the price mix improvement. So that really shows where the consumer is trending to and it really shows the power of that brand. We've moved it into breakfast we're happy with that launch. So again, I think it shows within the category there are still opportunities to find a niche where you can actually grow your business. And then finally, when you look at kind of the current condition around the wheat crop and the recent spike and wheat from a pricing perspective. Historically the category has been able to price when you've seen movements in overall commodity cost. I don't want to speculate on the future, but you know we have been able to see that historically.

And Steve, would you be okay sharing the current growth rate that DKB is experiencing or giving us a rough approximation?

When you look at that - and you look at overall organics I'd say DKB is in line with that growth rate. It’s the number one brand in the categories obviously is driving the growth. So it's a strong growth trajectory.

Okay. Thank you guys.

Thank you.

The next question is from Akshay Jagdale with Jefferies.

Good morning. Thanks for all the additional color on your long-term targets. I just wanted to go back to the gross versus net conversation we've done some analysis recently that shows food companies have been dropping down around 50% to 60% of gross savings to the net line but the range is very wide to some companies aren't able to drop anything to the bottom line and others are doing 100%. So can you give us some sense as to what the gross to net sort of conversion is that you're assuming in your plan and I understand that there is a clear sort of marketing bucket there that's going to go up, but I'm just wondering if you have other offsets that you have planned for a while including category softness and things of that sort?

So when you look at the overall from the cost perspective. I would say and I think we're ready to give the percentage of gross versus net today. The goal would be to talk about that more fully in about a month when we meet in September. But from an investment perspective what we do have the flexibility of doing if we start investing back in brands and we're not getting the return we will have the ability to come back and take the cost savings and shift that to the bottom line. I think there's going to be a balance and we have to really measure that and make sure we get in return on our investments probably better and stronger than we have in the past. So while we're talking a lot about investing back in the marketing. We're going to go those returns going forward as well that will be very mindful of that. I mean if you look year-to-date for 2017 we have about $11 million of cost savings we've benefited from so far this year and we are just really starting to push on a lot of the initiatives. So from that perspective we're still very confident in the 250 basis points of net savings over time. So. I don't want to - we're still the middle of some of the initiatives like the visit which affects the ork savings so until we have a little more clarity in visibility on some of the savings, we're kind of holding back on giving a percentage or range of what we think we're going to move for the bottom line from the gross savings. A - Allen Shiver Akshay just said in a little different way, if you think about Project Centennial is really two sides; the first side is cost reduction and the other side is reinvesting on our brands in the business. Today at this point in time, our team has a laser focus on cost reduction. That is absolutely first. That is our priority and we are going to make sure that we do a great job there and accomplish the targets that we have set forth. The other side is again just as important, but from a timing standpoint will be slightly lighter is marketing reimbursement that we've been talking about. But there's no – make no doubt that the priority right now is cost reduction.

Thank you. And just broader subject of pricing and price realization, obviously has been our consolidation in the industry, yet we haven't really seen a meaningful improvement in price and then when I think about Flowers specifically, it seems like you're still in the early stages of really improving visibility and effectiveness on your trade promotions and just pricing in general? So can you just comment more broadly on sort of what the category dynamics are especially given some of the new entrants that we're seeing but all the, if at all that has – how is that impacted or how does that impact your outlook over the next 12 to 24 months on pricing, for the category? And then just maybe talk a little bit more specifically about the initiatives that you are pursuing to get more effective on price realization and sort of where you are in that journey? Thank you.

Steve, if you would comment on the pricing components of Project Centennial and then I’ll add to kind of the current conditions.

Sure. I think we’ve talked about this for a couple of quarters now. We do have internally a project underway, freight promotion, management spin project, we're actually implementing new technologies to help us manage a trade has been better within the category. The goal is to have that up and running for 2018. So we are working pretty diligently on that and the project will moving forward and so far I’ve seen anything that [indiscernible] topline.

If you look at current conditions and I think we've said it earlier that the pricing environment is really very consistent with what we've seen in – on past quarters and really if you can go back for two or three years, the focus for us is in those markets where our brands are strong. We continue to be the price leader. But at the same time, we understand that we must be competitive certainly in those markets that are there expansion in nature. So our pricing continues to be very important. We're focused on pricing. But to me, the long-term solution in this category is again developing brands like Dave’s Killer Bread that has a meaningful point of difference with the consumer that can generate in demand a better price. That's exactly what we're focused on with the other segments.

Perfect, I’ll pass it on. Thank you.

Okay, thank you.

The next question is from Bill Chappell with SunTrust.

Thanks. Good morning.

Yes. Good morning, Bill.

First just looking and I'm not sure this is possible EBIT, as you look at kind of the growth in the quarter and the overall business if you take out Dave's Killer Bread, I mean are you holding share there? Are you seeing the core business getting more or less competitive? Just trying to understand I mean certainly Dave's continues to outperform. But just trying to understand the base business and if all of the growth is coming from Dave’s or if there's any additional struggles from the base business?

Again Dave’s is doing well. We had a pretty good quarter as far as our other brands. The conditions in the marketplace, I think we just talked about, they continue to be pretty much price active. But again pricing is not down. It's not up, it's the same. We are focused on our major brands Wonder, Nature's Own, Dave's Killer Bread, Tastykake and making sure that we continue to grow those brands and we had a pretty good quarter. Again I'm not going to be happy until we see significant growth in all of our major brands. That's really our priority.

But when you look at the – I guess the expectation for some distribution gains in the second half to drive your topline goals. Is that all Dave's Killer Bread or are there other areas where you're still regaining some share?

When you look – when you look at like white bread, soft variety bread, we actually are maintaining our dollar share maybe up slightly. So from a share perspective, we're holding in there. The dollar growth is on the organic side. But overall shares we’re maintaining…

Even without Dave's.

Even without Dave's, yes.

Okay. And then Allan just we've come to this a couple times, but in terms of the sense of urgency, I certainly understand trying to go and cut, but when you hear things of the reorganization won't really benefit until next year and this Q rationalization won’t benefit till next year and voluntary headcount reduction won't benefit till next year for a program that was announced now almost 18 months ago. I mean do you feel the need to accelerate some of these issues with the market slowing down or do you feel this is as fast as the company can go?

Well, again, I'm also very impatient. They also realize the magnitude and the scope of the changes that we’re about to implement. This company is almost 100 years old. We've had original structure in place for a long time. For an example, the organizational changes that we're making, they affect many individuals and we've got to make sure that we make the right decisions and if we don't, we don't get a nerdy with really important decisions like organizational structure as well as many others. But at the same time, I do feel an urgency with the soft marketplace. I do feel significant urgency to accelerate our cost reduction schedule. And again we're not in position today to talk about timelines, but we will talk more about that in September, but from an overall focus standpoint everything that we can accelerate without jeopardizing the decisions that will impact this company for the long-term, we're focused on accelerating those decisions. There's a tremendous feel of urgency, but at the same time we want to make decisions that prepare this company for the next 100 years.

Okay. I'll turn it over Thanks.

Thank you.

The next question is from Tim Ramey with Pivotal Research Group.

Good morning, thanks.

Good morning, Tim.

I'm aware that at least in Jamestown, you put independent distributors on notice that after August 30 you wouldn't be buying back. The company would no longer be buying back distribution rates. And I've heard that from some other territories as well. It doesn't seem like its very broad based yet, but as you pointed out a moment ago you operate regionally. Is this kind of one of the initiatives that will come into play to sort of remove the contingent liability that the company has to buyback growth?

Tim, this is Steve. When you look kind of the distributor model and what's going now from a legal perspective, I think we said we won't discuss anything around legal matters, but as you know under our project we do have a work steam or distributor enablement. And we're looking at many things with regard to being able to strengthen the partnership with our distributors and we'll continue to work on that as the project moves forward.

Yes. I mean I don't think this is a legal matter. I think this is an operational matter. One of the strengths of the company historically is has been that it gave opportunity to distributors to have a franchise that they could sort of build wealth in and then potentially sell back to the company. Is that changing, can you say?

Tim that is not changing. You're exactly right. One of the real strength of our independence distributor model is ability to build equity in new business. I don't want to comment specifically on an area of the company, but that has not changed. And in fact Steve mentioned one of the components of Project Centennial is a work stream that is really designed to strengthen the relationship between the company and independent distributors to make their business more successful and to work closer together. We're having significant support and a lot of excitement in the partnership between the company and independent distributors to make their business even better. They were very excited about the addition of brands like Dave’s Killer Bread to their product mix. So we have a lot of really exciting things happening with our distributorship model and I can't really comment on a particular market.

And could you elaborated all on what you did in the Midwest with third-party distribution there?

Yes, that was a market where we did not have independent distributors or company routes and basically we were working through a third-party to handle distribution and they will be license to sell our brands and selected market and selected accounts and I just another way to get our branded products into market so we currently don't serve.

Our next question is from Amit Sharma with BMO.

Hi, good morning, everyone.

Yes, good morning, Amit.

Steve just a few modeling question and then I have one for Allen as well. On the SG&A cost 100 plus basis point inflation lapping the distribution exchange for DKB. As we look at the back half should we expect that it will stabilize at these levels, so you still have some inflation left there?

Since we’ve lapped the rollout I think you will begin to see that stabilize. As you recall DKB is the higher price point. So there is a higher discount associated with that.

Okay. And then can you just talk about price mix for DST, how much of that was price versus mix.

Sure, we won’t get the specifics but I would say the majority of the overall price mix for the company was driven by mix which again you know seeing good as we talk about the strength of the organic brands and the growth there. So a lot of - the same thing would be true for DST.

Got it. And then Project Centennial cost were increase is that just you are accelerating those costs or are those costs actually increasing in dollars versus your previous estimates?

When we look at the work stream some of the thing is an acceleration moving a few work streams up. And then as we moved into the kind of the implementation phase of some of the work streams we realized maybe we need some more dollars for those around capabilities. So is above the mix of some acceleration as well as just some increase in real dollars.

Got it. And then Allen one for you a lots of discussion about gross net savings or investment behind the brand. Now if you look at your long-term target for sales it's still up 3% to 4% topline growth and the category if you look at even your core business it's maybe down excluding DKB. Now do you think that still an appropriate target and that might still dictate how much of dose savings you may be more willing to invest to chase that target which may be difficult to get in this environment?

There is still like to you know our long-term sales targets or are reasonable and achievable and the reason for that is obviously we're dealing with our current category the soft down, but there's significant opportunities for this company as we look at adjacent categories. The perimeter of the supermarket is where a lot of the sales action is taking place. We have the opportunity both on the cake side and on the fresh bread butter and roll side to expand into different products segments that may come through an acquisition it may come developing internally, but they are significant opportunities looking at adjacent categories to continue to grow this company and that gives us confidence with the sales guidance that we've got out there.

So just of that be a clear on that 3% to 4% topline growth longer-term. What's the underlying category of fresh bread category growth that’s you're modeling for?

Currently the categories basically flat to slightly down. So we're assuming no improvement in that.

The next question is from Brian Holland with Consumer Edge Research.

Thanks. Good morning.

Hi, Brian.

I wanted to ask again about so it sounds like the Centennial costs on the – well I guess maybe as a point of clarification, you have investment cost tied to Centennial and you have also fees that you're paying to Accenture. Just to confirm the consulting – the Centennial consulting cost that you're pulling out that is just tied to what you're paying for the consulting and everything else as far as an investment in realizing those efficiencies are in the P&L in the operating results. Is that correct?

What we're pulling out is any costs on investment into the project. So if there is other – it's not just Accenture costs. So there were other – there is recruiting, there is other consultants and other projects. So the costs that can't be capitalize a good expense or being pulled out. It’s just – is not just Accenture.

Okay and then I guess most of my questions to this point have been answered, but what gives you – I mean so because clearly I think you've stated, if I'm not mistaken that some of this stuff is – some of the investments are being pulled forward. But also it sounds like some of the investments are increasing maybe relative to original expectations as you either move in, and see what you've got in front of you or you're also maybe operating with a little bit of urgency with what's going on in the category? But what gives you the confidence at this point that you can – that these costs savings won't be further diminished by again we're going in and we're seeing that we need to invest more dollars to get that. It sounds like you're investing more dollars to get the cost savings that you're planning out for. So that seems to be diluted and then you're talking about the incremental marketing spend that's needed. So how do you get that confidence looking out?

I mean when you look at the overall project costs, I mean we obviously – we monitor that pretty closely, even though we've had to ramp up the costs. We still feel good about the guidance as far as the 250 basis points improvement. Just not only cost, there's not only cost initiatives going on, the initiatives around topline growth and brand expansion as well. So it's just not cost. So again we feel confident in the cost targets that we've established and then you won't see leakage back into investment back into the project.

Okay

Now I just going to add to the cost, the project cost is in line with expectations and what we're looking at is, can we improve upon those expectations. So we're in line with as far as the Centennial cost and the other related since in your cost. They’re in line with what we were projected and expected.

So then you would just – so you're saying those Centennial costs are in line with what you projected maybe over the course of the project? So the fact that that charge went up or the call out that you had from the $0.07 to $0.09, to $0.11 to $0.12 whatever that was that is just a pull forward of those longer term investments?

Yes, that’s the portion of that.

Not just an increase cost that is on top of what you originally anticipated? Do I understand that correct?

I think that I mean there is some pull forward, but as I said earlier there's a mix of pulling some investments forward as well as increasing some on the investments. But overall the net goal has not changed. We're still targeting the 250 basis point margin improvement from a EBITDA perspective.

Okay. And then just last one on the pricing side. Wheat has been deflationary for the category. It seems since before host has left the market. So clearly that challenge your ability and your key competitors at the top of the market to implement pricing and I think you talked about that being an issue last year and I think Bimbo acknowledge it as well. So I clearly with this inflection point, which historically I think inflationary wheat has been a positive because the independents, which comprise about a quarter of the market probably don't have that hedging abilities or infrastructure that you do. So they probably have to take pricing quicker and more sharply than you would thereby narrowing price gaps and then ultimately allowing you to take your pricing as well and still hold on to the share. Are you seeing from – I understand how the setup is for you guys from a cost standpoint and how you're hedged out? Are you seeing activity from the independents that suggest that upwards pricing pressure that that creates that cushion for you to then price along with the underlying commodity as we look out to 2018?

Yes. When you look at the overall market, I mean we can comment on competition and how they are able to manage our business, but generally when you have commodity spikes historically, you are seeing some ability to price. But overall, we're not seeing much change in the market at this point.

But I will add that – if you look at our history, Flowers has been the price leader and in markets where our brands are strong and we have the right to price, we will continue to be the price leader. Again, we talked earlier about brands with a real meaningful point of difference and that also helps you get the overall pricing and margins where they need to be. End of Q&A

And we have no further questions at this time. I’d like to turn the call back to Allen Shiver for closing remarks.

Thank you very much for your time this morning. I think you have heard that this is not business as usual at Flowers. We have a lot of exciting things that are taking place to take this company to the next level. Thank you for your time and we look forward to seeing many of you in September. Thank you.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.