Good day and welcome to the Flowers Foods Second Quarter 2022 Results Call. [Operator Instructions] As a reminder, this call maybe recorded. I would like to turn the call over to J.T. Rieck, Senior Vice President of Finance and IR. You may begin.

Thank you, Michelle and good morning. I hope everyone had the opportunity to review our earnings release, listen to our prepared remarks and view the slide presentation that were all posted yesterday evening on our Investor Relations website. After today’s Q&A session, we will also post an audio replay of this call. Please note that in this Q&A session, we may make forward-looking statements about the company’s performance. Although we believe these statements to be reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially. In addition to what you hear in these remarks, important factors relating to Flowers Foods business are fully detailed in our SEC filings. We also provide non-GAAP financial measures for which disclosure and reconciliations are provided in the earnings release and at the end of the slide presentation on our website. Joining me today are Ryals McMullian, President and CEO and Steve Kinsey, our CFO. Ryals, I will turn it over to you.

Okay. Thanks, J.T. Good morning, everybody. Thanks for joining the second quarter call. We continue to execute well in the quarter, driving second quarter sales to record levels. Our performance in this challenging consumer environment demonstrates the resiliency of the category and the strength of our leading brands. Due to the outstanding efforts of our team, we successfully mitigated much of the supply chain pressure we discussed last quarter. As a result, we raised the bottom end of our 2022 EPS guidance by $0.05 to $1.25. I’d like to thank our exceptional Flowers team for their hard work and dedication, which has made this strong performance possible. The fundamentals of our business are strong and I have never been more optimistic about our prospects. No matter the environment, our team is focused on delivering results in line with or better than our long-term financial targets. So with that, Michelle, we are ready to start the Q&A, please.

[Operator Instructions] Our first question comes from Bill Chappell with Truist. Your line is open.

Thanks. Good morning.

Good morning.

Hey, Ryals, you had mentioned in prepared remarks a little bit about, I guess, one competitor being a little bit slower to raise prices. And I don’t know if that was just the timing issue and maybe discuss any changes in terms of competitive landscape of pricing or is everybody, for the most part, kind of moving up with commodities and input costs and what have you? And then your kind of thought as I think you also had thought that inflation would start to peak by October in terms of what you are looking at? So maybe a little more color there would be great? Thanks.

Sure. Happy to do that. I will let Steve handle the inflation question. But with regard to pricing, it wasn’t so much the other competitors were late raising price. It’s just that, Bill we went in a little bit earlier than normal. So I would say that most of the rest of the industry was relatively on time as far as typical times to raise prices in the industry. But we went in June a little bit earlier. And so which we ended up with were price gaps that were a little bit larger than historical gaps. And I think we commented that that impacted our unit share a little bit in the quarter. But since then, most of the industry has followed and raised prices as we have. Steve, do you want to touch on inflation?

Sure. Yes, Bill. So we have said that Q3, we will see our highest overall cost from an inflationary standpoint. It will moderate somewhat in Q4, but again, it still will be elevated in Q4, but the peak of that happens in Q3 and then it starts to pull back slightly.

Got it. And then separately, just on acquisition/innovation, can you give us a little more color and sorry, the name of the company is escaping the – of the investment you made in the quarter. I guess I would have expected normally you to buy outright those type of businesses, so kind of partnering with a small business and what that brings to the portfolio? And then I will leave it at that and let others ask questions on other innovation?

Sure. Thanks, Bill. Yes, the name of the company is Base Culture. There are gluten-free and grain-free baked foods company. So, it’s all keto and Paleo-certified very much on trend. The reason that we took more of a venture approach to this is that Base Culture is much, much earlier in their growth cycle than even like a Dave’s Killer Bread was back in 2015. And we have been looking for some time to start doing venture-type minority type investments to bolster our own internal agile innovation efforts. And this one just fit very nicely with our portfolio and where we are trying to go as far as healthier eating, on-trend attributes like keto and Paleo, which we don’t really have much of an offering in right now. So we are quite excited about it. Small investment, but – and small company, but we are quite excited about the prospects.

And when should we start to see, I guess wider distribution of their products? And then is there an option to own the company outright down the road?

Yes. I mean there is and we will be helping them not only with their production, because obviously we have that skill set and they don’t. They are a very small organization, but also sales and distribution opportunities. So we are already working in that regard.

So I would see the products in the next couple of quarters everywhere or is that too quick?

It will probably take a little bit longer than that for it to be everywhere. Again, they are really small, but we will grow them in a way that they can absorb with their production capacity, which eventually will need to be expanded.

Got it. I will turn it over. Thanks so much.

Thank you, Bill.

Our next question comes from Robert Dickerson with Jefferies. Your line is open.

Great. Thanks so much. Maybe just a question for you, Steve, first, I think you just said, I think cost may have peaked in Q2, still high Q3, Q4 and in the prepared remarks, it seems like you are essentially almost fully hedged for the year in ingredients, I am assuming. So if we think about kind of that margin cadence, I guess, inclusive of mix in the back half. Is there – there should be kind of this implied expectation for EBITDA to actually grow I guess in the second half? And then maybe just explain if that’s – it sounds like it’s a little bit more Q4 weighted? And then I have a quick follow-up.

Yes. I mean just one quick correction there. We said Q3 would be our highest cost quarter. Cost continues to – coming into Q3. It will pull back some in Q4, but for the most part, Q4 was remain – will be elevated as well, just not quite to the level as Q3 and you are right, in the back half, we have said a lot of our initiatives come into play. We have the pricing to mitigate a lot of the inflation, but we do have several cost savings initiatives as well as productivity initiatives that are in flight. And from a cadence perspective, we said those will come in Q3, Q4. So that will be a big driver of EBITDA in the back half.

And Rob, just to put a number on that, we are still in the range of that $25 million to $35 million, all of which is back half.

Okay, great. Yes. And I really just asked because I think there is a line in the prepared remarks that said as you got through the second quarter, you actually started to see EBITDA improve. So it sounds like maybe that was also a function of maybe some of the more of the pricing and some of the productivity coming through in the kind of latter part of the quarter. Is that fair?

Yes. And remember too, I don’t know if this was clear from the prepared remarks, but there is still more pricing that will continue to come in, Steve, roughly through the third quarter. Most of it is in, but there is still more rolling in, primarily include service. So that will also help too, Rob.

Okay, super. And then just quickly on DKB, obviously, there sounds like there is a little bit of supply constraint in the quarter, seems like that’s essentially been fixed now. And then you also have the new West Coast facility. So, kind of bigger picture, if we are thinking it through kind of back half of this year and then really on the go forward from there. You view – I mean, well, let’s say, you are not going to quantify what the opportunity is in the West Coast with DKB, but my assumption is that would still be kind of an ongoing driver of the business, maybe outside of what you see on the rest of the business. So any incremental color there will be great?

Yes. No question about it, Rob. I mean we are still so confident in DKB and its growth prospects. We were hampered a bit by the packaging issues that we had in the second quarter for DKB, but also those capacity constraints, which are now resolved. Those capacity constraints, we don’t promote DKB that much, but we were so constrained we weren’t able to do much at all. And so that hurt the units a bit. Now that we have Henderson up and running, we can go back to what we have been doing historically driving the growth of DKB out West. Even still, though, I do want to point out, and I don’t know if you mentioned this in the prepared remarks or not, but even though DKB was slightly pressured in the quarter from a unit standpoint, the breakfast segment for DKB was outstanding in the quarter. And as you know, that’s been a key area of focus for us since we’re underpenetrated there. So that was one highlight for DKB in the quarter that I want to call out.

Alright. Thanks so much. I will pass it on.

Thanks, Rob. Appreciate it.

Our next question comes from Ben Bienvenu with Stephens. Your line is open.

Hey, guys. Jim there on for Ben. Good morning.

Good morning.

I wanted to ask, Ryals in your prepared comments, you had mentioned you were seeing lower income consumers trade down to was expensive, which is kind of on par with what expectations but then for higher income consumers, they had actually been increasing their purchases with the premium products. Can you maybe just drill down on that a little bit and see to talk about what’s driving that? Because we would think that everyone just kind of shifts – parallel shift down to the fact that they are increasing is, I would say, countercyclical to what you would expect.

Yes. There is a lot to talk about there really. I know there is going to be a lot of questions about elasticity, so this is as good a time as they need to talk about it. There is quite a few sort of competing data points out there that we’re looking at. On one hand, we saw private label gain a little bit of unit share, 10 basis points of unit share. But if you look at the overall price level units, they were down almost 8 million units in the quarter. So a lot of that private label share growth was being driven in mass. And what we’ve seen in mass is retail prices being held down, which kind of creates a bit more of a gap than you might have historically seen. If you look at the grocery channel, sort of ex-mass private label lost share again in the quarter. And in that channel, the price gaps were much more in line with historical averages than what we’re seeing in mass. Turning to DKB specifically, DKB’s unit declines were primarily in California and the mass channel. And they work as you pointed out, they were concentrated more among lower-income households. But DKB grew units and share in the Northeast and nationwide among higher income households, which you might expect and product trips also increased nationwide among both middle and higher-income households. But then a caveat to that is we are seeing even those higher income households seek a bit more value from the mass and club channels. So you can see here there is a little bit yin and yang there when we’re looking at the data because I think it’s still early days, but the takeaway is that given the environment and everybody saw the news yesterday, grocery price is up 13.1%, the highest at 1979. And yet we still performed very, very well in that environment. Nature’s Own units were up. Canyon units were up. Yes, our volumes were down, but quite a bit of that is our own portfolio optimization and SKU rationalization we’re doing and our volume declines were right in line with our expectations. So overall, when you look at the total picture, even though there is some sort of conflicting data points out there, we were very, very pleased with how our brands and the company performed in the quarter.

If I can follow-up on it, do you think it’s because the price point is still so accessible just in dollar terms that if everything is up, a 13% change on a $2 item is obviously a lot lower than a 13% change on a $20 item. Is it just that there is nowhere else for the consumer to go and so it’s easy to make a $3 indulgent purchase than a $30 one or maybe?

Yes. Certainly, I think it’s part of it. We’ve said many, many times. I mean, when you think about an inflationary environment, bread is still a very, very economical choice just given the number of servings in a loaf, right? And furthermore, we – even though prices have increased, we play across all the price points. From Super Premium, Dave’s Killer Bread and Canyon all the way down to private label. So there is simply put, there is something for everybody there. There is something for every household income, every household budget.

Okay, great. And then if you guys could give us – you mentioned real briefly in the prepared remarks the AB Bars test. Maybe you could just give us a little more commentary on consumer reception of that, maybe channels that have worked in better or worse? And just how we’re thinking about the rollout of that?

Yes. So it’s still early days for that. We’re still in test market, but we’re working towards national distribution on the first three SKUs. And as we said in the prepared remarks, we’re wildly excited about the results that we’ve seen so far. It’s just further testament to the DKB brand and what it stands for and the quality and the story behind it, etcetera. So we’re very excited about it. And further news, not in the prepared remarks, we’ve recently launched three additional SKUs that are high protein which the original three were not to add to that, that we’re also putting in the test markets and quite excited about it as well. So not resting on our walls, we continue to innovate with DKB and one of the reasons we continue to be excited about its growth prospects going forward.

Okay, great. When do we – when should we expect to see the first handful of SKUs out kind of in stores across the country?

Yes, early next year.

Okay, perfect. Thanks. I will pass it on.

Thank you.

[Operator Instructions] Our next question comes from Connor Rattigan with Consumer Edge Research. Your line is open.

Good morning, guys. Thanks for the question.

Good morning.

Good morning, thanks. I guess just on the mix shift more towards private label in the quarter, I was wondering if you can address the margin implications of that shift. Just I guess how much of the 240 basis point decline was attributable to that mix shift? And I guess, also sort of just following up on Ben’s question. Would it be a reasonable assumption that maybe in the next few quarters, the portfolio remains slightly more oriented towards private label versus 2021?

So, private label definitely went up in the quarter. But remember, that’s virtually all price. I’ve already mentioned that the units were down in the category, 8 million units. And that’s a good thing. As we’ve mentioned on prior calls, we’ve been working diligently to improve the margin profile of our lower margin business, which is generally speaking, the private label and food service businesses. And we’ve taken significant price to mitigate these inflationary headwinds in both those businesses. Now certainly, there is still lower margin than branded retail and the pressures we’re feeling on gross margin from ingredients, packaging, freight, eggs, you name it, certainly impacting us on the gross margin line. But Steve can comment further. We have done a good job, I think, leveraging SG&A and that’s come down as a pre-sales.

Right. I mean I would say, overall, the inflationary pressures probably drive more of the margin pressure than the mix shift because it’s even though it’s happening, it’s still not – we said it’s still not meaningful at this point. We continue to monitor that. So a lot of the margin pressure really is coming from the inflation on input cost, transportation, labor, more than the mix itself.

The one other thing I would add to that, Connor, that’s exactly why it’s more important than ever for us to maintain our marketing and brand support investments because as we said, we said it last quarter, I mean, in this kind of environment, I mean, you’ve got to expect some amount of trade down, particularly among lower-income households. But lower income households, believe it or not, are 20% of Dave’s Killer Bread units, kind of surprising even to me when I first heard that. But continuing to support the brands continuing to be out there from a marketing standpoint, keeping those brands front and center we will get through this eventually. And when we do, we want those consumers obviously to come back to the brands they love.

Thanks. That was helpful. And then I guess just a follow-up to that, too. Just a question about the Phoenix bakery closure, so in the prepared remarks, you guys commented that I guess it’s an older, lower margin bakery that services more private label products. I guess, just why is the decision to close it now? I mean, was this like a long-running plan or I mean, just I guess given the increased private label demand you saw in the quarter?

So yes, Phoenix is an older, much less efficient bakery. This is all part of our network optimization plans that we’ve been talking about for several years now. And alongside that, we did exit some lower margin private label and foodservice business out there. And we have plenty of capacity to take over what remains and ample capacity to fund future growth. So, we can take care of all of our remaining business. But as we execute our portfolio strategy, it will – it can have network optimization implications as well, and that’s what you saw with Phoenix.

Okay. Great. Thank you. I will pass it on.

Thank you.

Our next question comes from Steve Powers with Deutsche Bank. Your line is open.

Hey guys. Good morning.

Good morning.

I wanted to go back to what you were seeing or what you have been seeing in terms of the different tactics in terms of private label pricing mass versus grocery. And how you think that evolves? Do ultimately mass prices move higher because the cost picture demands it, or does this risk creating some kind of competitive dynamic where grocery prices move lower to compete with mass and then we have sort of the downward pressure on the category. How are you thinking about that evolution?

Well, we certainly haven’t seen that yet. And I can’t speak to why certain retailers are doing what they are doing. All we can do is execute on our plans. Obviously, we hope that they will come up and some of those gaps will close a bit, but it’s certainly hard for me to predict what they are going to do. But again, as we mentioned, so far, we haven’t seen this in grocery and again, private label lost share in grocery.

Yes. And it’s not – and as you said, you still have some pricing set to come in. It’s not – nothing that you are seeing has really altered your own strategy from a pricing standpoint or your own expectations in terms of price realization.

It has not.

Okay. Very good. Thank you. Thank you very much.

Thanks Steve.

Our next question comes from Mitch Pinheiro with Sturdivant & Company. Your line is open.

Yes. Hi. Good morning.

Good morning Mitch.

I had a question. You talked about price increases and ahead of competition, which seem to trim a little bit of volume in the quarter. And is pricing, I mean it seems to suggest that it’s – that maybe this is certainly a commodity-type products, if merely a price increase a couple of weeks or a month ahead of the competition is going to affect volume that much. Why is it – was it a very large price increase relative to the competition, or why would it be that dramatic?

Yes. So, it’s not in terms of magnitude of our price increases versus competitors’ price increases. It was just that in this environment, when you start getting gaps that much larger, that can affect behavior somewhat. That’s not the only thing that affected units in the quarter and we talked about supply chain issues, etcetera. But it certainly was a factor. We also comped a hurricane, which we haven’t mentioned yet, and we typically perform very well. So, there were other things other than that, but it certainly had at least some effect in the quarter. But that’s all much more normalized at this point.

Okay. And how have foodservice do in the quarter?

From a top line standpoint, really, really well. So, if you look at it from a pre-pandemic standpoint year-to-date in terms of sales dollars, the foodservice business has recovered, but the units are still below pre-pandemic.

And is that – are units below across the board or in one particular segment like QSR or fast casual?

I would have to look – I want to say it was a little bit lower in quick serve.

QSR was more challenged.

Yes.

Okay. And is there a reason for that? Is it just traffic in the QSR customers, or is there anything going on underneath that?

No, I think it’s just – Mitch, I think it’s just a bit more normalization coming out of the pandemic. You remember, quick serve actually did pretty well during the pandemic just because of less contact, but now that people are more comfortable going back to restaurants, I think that’s why you are seeing that shift. But that’s also good for us because our margins are higher in those other segments.

Right. And then you have had – I don’t know, it seems like about six quarters of lower volume growth, when does that stop? When are we going to see SKU rationalization slowdown as an impact on your results? And if you could talk about that a little bit, it would be helpful.

Yes. So, I think generally speaking, we have done the bulk of what we want to do for now. I mean obviously, SKU rats are kind of a continual process. But I think in large measure, we have cleaned out most of the underperforming items that we wanted to, to simplify operations, simplify our sales execution for that matter and get to the business of growing volumes. I think innovation remains key for that. And so obviously, our goal over time is to not only grow dollars, but continue growing our units and our unit share as well. So, we are focused on that.

So, if we look at the third quarter, I mean are we going to still see some year-over-year volume declines in the overall business here?

Yes. So, Mitch, embedded in the EPS guidance is an assumption around mainly elasticities and as I have said so far year-to-date, we are running right about where we thought we would be. So, I think it’s reasonable to assume that trend to continue through the year.

Okay. And then could you talk about some – specifically about some of the cost savings programs that you are currently initiating and how they are going to flow through the second half?

Yes. So, that’s $25 million to $35 million and it’s a mix of benefits from our digital investments that we have made, which we expect in the back half. We talked a little bit about baker in the future. And then – so that’s bakery improvement in the digital sense. There are also separate bakery improvement projects, initiatives that are underway and also procurement. So, those are sort of the three big areas that the savings will come from.

And as you look next year, does any of that carry through into ‘23?

Yes, it does. We have not quantified that yet, but yes, it does.

Okay. And then I guess finally, just when it comes to regional variations in your business, is there any – which were the best-performing region and which were the worst-performing regions geographically?

So, the Northeast continues to be a call out for us. As you know, we have put a lot of focus up there and it continues to pay dividends for us. We did have a couple of regions that underperformed by our standards, but I would submit to you that was more operational performance driven than it was top line sales performance driven.

Okay. That’s all I have. Thank you for your time.

Alright. Thank you, Mitch.

There are no further questions. I would like to turn the call back over to Ryals McMullian for any closing remarks.

Okay. Michelle, thank you very much everybody for your interest in Flowers. We look forward to speaking with you again next quarter. Everybody, take care.

Thank you. This concludes the program. You may now disconnect. Everyone, have a great day.