Performance Food Group Company (PFGC) Q3 2013 Earnings Report, Transcript and Summary

Welcome to the Third Quarter Investor Call. My name is Ellen and I will be your operator for today's call. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to Ms. Milton Draper. Ms. Draper, you may begin.

Thank you, Ellen, and welcome, everyone. I would now like to read the statements about the use of forward-looking statements and non-GAAP financial measures during this call. Statements made in the course of this call that state the company's or management's hopes, beliefs, expectations or predictions of the future are forward-looking statements. Actual results may differ materially from those projections. Additional information concerning factors that could cause actual results to differ materially from those in the forward-looking statements is contained in our SEC filings, including our Form 10-K, our 10-Qs and our press releases. We undertake no obligation to update these forward-looking statements. We are holding this call to review our third quarter results and to answer any questions you might have. If you have additional follow-up questions after the call, please call me at (650) 589-9445. Joining me today is the Chief Executive Officer of Core-Mark, Thomas Perkins; and the Chief Financial Officer, Stacy Loretz-Congdon. Also in the room is Chris Miller, our Chief Accounting Officer and Greg Antholzner, our Vice President of Finance and Treasurer. Our lineup for the call today is as follows: Tom will discuss the state of our businesses and our strategies going forward, followed by Stacy who will review the financial results for the third quarter. We will then open up the call for your questions. Now I would like to turn the call over to our CEO, Tom Perkins.

Good morning, everyone. I would like to discuss the state of our business and review the results of the third quarter and then discuss our core strategies. First off, I want to make sure everyone is aware of our recent dividend increase. We have recently announced an increase in our dividend of $0.03 to $0.22 per quarter, which is a 16% increase. As we said in the announcement, our intentions are to continue increasing our dividend over time as long as we can generate sufficient cash to increase shareholder value without sacrificing acquisition or other business opportunities. We hope you're happy about this news and realize that we do think about how we can best increase shareholder value on a regular basis. We also believe this is indicative of the financial strength of the organization and the sustainable earnings power we have for the foreseeable future. Speaking of our future, I am currently in the middle of the planning roadshow where we visit all of our operating divisions to review their 2014 plans and talk about their vision and strategies. I am very impressed by the leadership I am witnessing and the action plans developed and implemented by those divisions that have faced significant growth this year. The entrepreneurial spirit is intact at the division. I am encouraged to see them really owning their own plans and thinking about solutions uniquely designed for their specific operations and marketplace. This sort of creative solution-oriented thinking is a driving force in this organization's success. I liked what I saw and I'm very excited by what it means for our future. We continue to build momentum in the industry with our service-oriented culture and our ability to execute on what is important to our customers. We have had some very good market share gains, including Turkey Hill earlier in the year, followed more recently by the Rutter's win and now, a big win for our Canada divisions with Esso. In March, we signed a 5-year contract with Imperial Oil to service about 500 Esso-branded stores located in Ontario and the Western provinces of Canada beginning on October 1. We have now rolled this business out and are delivering to the stores. I am very proud of our Canadian divisions and their seamless rollout of this important Canadian retailer. I know that we have been talking about opportunities in other channels for months, so I'm happy to share the news with you that we are now delivering to over 200 large-format stores for a well-known major alternative channel retailer. This is in their very early stages with many details to iron out, but this is an exciting opportunity that we have waited a long time to see to come to fruition. This win represents the kind of opportunity that we see stemming from the blurring of the retail channels and we truly believe we have a competitive advantage from years of experience in distributing both perishable and traditional items. My one caveat to my bullish perspective of our business is my continued concern about the lack of inflation in the non-cigarette products we sell. While we did see a modest increase in the third quarter, the increase for the year is very small compared to historical norms. For most of my 20-year career in this business, we have seen about 2% to 3% inflation factor in a typical year. We haven't seen anywhere near that level in 2013. For those that are new to the story, we generally bid for business on a net variable and cost-plus basis so we benefit from inflation. Due to this pricing methodology, we price our contracts with certain assumptions about price inflation. If we determine that this lack of inflation is a permanent or semi-permanent market condition, then we will need to add inflation hedges or stipulations in our pricing models and we suspect our competitors will too. I do not mean to alarm anyone or to suggest that this is a material threat in anyway. However, we do like to share with investors our thoughts on the business, both bearish and bullish. In summary, business is good. The industry continues to grow and we are outpacing the growth rate of the industry through market share gains and by selling deeper into the stores with our core strategies. We believe it is imperative to leverage our competitive advantage and to take market share wherever the opportunities arise. We are very pleased with our very strong sales growth in the third quarter which further increases the momentum we have created in the industry. Sales for the quarter increased 13%, driven by a nearly 17% increase in non-cigarette sales. I was particularly pleased to see the robust sales for the non-cigarette products that are such a critical indicator that our core strategies and tactics are resonating and working. Same-store non-cigarette sales increased over 7% on a healthy demand by the consumers and by the positive effect of our FMI, VCI and Fresh strategies. This further confirms that our strategies are working and that our industry is in a healthy condition, both of which affirms my optimism about the future. The healthy pace of growth in sales in the third quarter generated a 15% increase in our gross profits. Non-cigarette remaining gross profits which grew over 17% was the primary driver. Non-cigarette margins were up 12 basis points, all-in or 27 basis points after excluding the compressing effects of the new Turkey Hill business. We continue to see meaningful margin improvement from our core strategies. Now our core strategies underlying consumer demand are driving a shift in our business away from cigarettes and toward non-cigarette products, particularly in the higher margin items. As we shift toward the higher margin products, we are going to incur additional operating cost, particularly as measured as a percentage of sales. This is due to the lower price points of these products relative to cigarettes and the higher handling costs associated with some of these items. That being said, operating expenses as a percent of sales were flat in the third quarter, excluding the nonrecurring items disclosed in the press release. We also look at OpEx as a percentage of gross profit dollars where we did see about a 13 basis point improvement. In addition to these metrics, we also measured cost per cubic foot data to analyze operational efficiencies. We saw an 11% increase in the total number of cubes handled and the 1.4% decrease in the cost per cubic in the third quarter. So operational leverage is occurring at the warehouse and delivery level. As a reminder, we are a very fast-growing company and we want to remain a fast-growing company well into the future. One side effect to that pace of growth is we are in constant motion where we rarely have a static period. We are either on-boarding a large chain or merging and integrating a new division or preparing due diligence on an acquisition target. There are onetime costs in any sort of these ramp-up projects and we try to identify them and carve them out when we can. As we continued our growth trajectory, we will continue to invest and spend in order to position our company for this future growth. But over time, we have historically seen increased efficiencies and more contribution to our pretax profits. The bottom line is our adjusted EBITDA grew over 11% for the quarter after excluding unusual items. I am pleased with our results and feel we are reasonably well-positioned to finish the year at the low end of the guidance or better as long as we get the cigarette price increase we expect in the fourth quarter. With or without cigarette price increase, we will be posting record results for the second year in a row as we continue to grow the business at a healthy pace. Our marketing programs and core strategies continue to resonate in the marketplace with chains and independence. After meeting with so many other divisions to review their 2014 plan, I am more confident than ever that our core strategies are the right ones. I am happy to report that we had another good quarter with our FMI program. We have completed in excess of 2,600 surveys so far this year and are on pace to exceed our 2013 goal of 3,000 stores. We continue to see churn rates significantly reduced for FMI-independent stores compared to our other independent stores. Of the changes we recommend to the stores, 60% are being accepted and implemented, resulting in an impressive non-cigarette growth rates for those stores. We are seeing our non-tobacco purchases growth 3.4X greater for survey stores in the FMI program compared to non-survey stores. As a reminder, the profit impact of the 60% acceptance rates results in roughly $25,000 per store or roughly 40% increase in their reported profits. The VCI and Fresh incremental sales have also gained momentum with more than $33 million for the quarter or $70 million year-to-date. These programs got off to a slow start at the beginning of the year but we now expect to post our largest incremental annual VCI and Fresh sales in our history. The addition of the Hostess Fresh product during the quarter and the launch of the VCI tool designed for the independent retailer both helped these results. I think the new VCI tool has also helped our territory managers to be better partners and to better help analyze their customer supply chain. As to our acquisition strategy, we will continue with this strategy for many years because the industry is still very fragmented with approximately 300 wholesale distributors in our space. We want to grow our geographic footprint through acquisitions so we can continue to grow our business and cost effectively compete for market share throughout North America. We continue to have conversations with a number of potential targets and I am confident we will have acquisitions in the future. Our latest acquisition, J.T. Davenport, is doing well. We have now converted them to our systems in October and we'll see the majority of the conversion cost in the fourth quarter. Now that we have integrated our new Carolina division onto our systems, we expect to gain efficiencies and cost reductions. We also expect the division to continue to leverage our marketing programs and our core strategies. In summary, we expect to meet or beat the low end of our revenue and EBITDA guidance which includes a planned cigarette price increase occurring in the fourth quarter. The lack of inflation this year was not helpful to our EBITDA goals as some price increases are built into our plan and into our pricing models, as I mentioned previously. In addition, some short-term investment spend was necessary to ramp up for new customers and new business opportunities. These short-term investments assist in the production of longer-term revenues so I believe these are good investment decisions. As I stated earlier, we will be posting record results in 2013 for the second year in a row. I continue to focus in making sure this organization has the tools and the people to help the independent retailer become more relevant and more profitable through the successful execution of our core strategies. I am convinced these strategies have been an integral component of our market share wins and our successful financial performance. With that, I will now turn things over to our CFO, Stacy Loretz-Congdon. Stacy?

Thanks, Tom, and good morning, everyone. We are pleased with top-line sales momentum and believe this will build a solid foundation for profit generation as we move into 2014. For the third quarter this year, adjusted EBITDA increased from $28.7 million last year to $29.8 million. There is a bit of noise in the numbers but 2012 is benefiting from a $1.4 million cost recovery related to legacy insurance claims and some modest conversion and integration costs incurred to this quarter related to market share expansion and the Carolina system conversion, collectively referred to as our eastern expansion or integration conversion activity. Excluding these items, our adjusted EBITDA increased 11.7% on a comparable basis. Year-to-date, adjusted EBITDA is $78.2 million compared to $75.2 million last year, a 4% increase or an 8.7% increase excluding $1.8 million of legacy insurance claim benefits from 2012 and $1.6 million in costs related to our eastern expansion activities this year. Our year-to-date EBITDA results, all-in, represents about 70% of our targeted annual guidance which is now expected to be between $112 million and $113 million or at the low end of our original adjusted EBITDA guidance for the year. We are counting on the fourth quarter cigarette price increase consistent with prior year practices by the manufacturers and have started building our inventory levels in anticipation. One well-respected tobacco analyst has also indicated an expected price increase by year end. Diluted EPS for the third quarter was $1.06 compared to $0.90 last year, a 17.8% increase. Excluding LIFO expense, EPS was $1.17 for the quarter compared to $1.09 last year, a 7.3% increase. Excluding conversion integration costs of about $0.04 a share this year and legacy insurance claim benefits of about $0.07 per share last year, LIFO EPS increased about 19%. Year-to-date, diluted EPS was $2.29 compared to $2.08 last year, a 10.1% increase. Excluding LIFO expense, EPS was $2.75 year-to-date this year versus $2.65 last year. A number of unusual and nonrecurring items impacted our EPS results and were provided to you in a table attached to our press release. Adjusting for these items, year-to-date EPS on a comparable basis increased over 10%. I'm sure you also notice that we have adjusted some of our underlying assumptions for diluted EPS guidance and are increasing the range to between $3.35 and $3.45 from our previous guidance of $3.10 to $3.25. Excluding LIFO expense, we are increasing the range to between $4 and $4.10 from our previous guidance of $3.90 to $4.05. We have lowered our estimates for LIFO expense from $16 million to $12 million, with the reduction translating to about $0.20 per share. We have also adjusted our tax rate to 39% and our forecasted outstanding share count to 11.6 million shares. Moving onto the details for the quarter, sales reached $2.6 billion in the third quarter, an increase of about $306 million or 13.2%, driven by a robust 16.5% increase in our non-cigarette category. Growth was driven largely by the acquisition of our new Carolina division and an additional selling day during the quarter. Excluding these items, sales were up 3.8%. For cigarettes, sales increased 11.7% in the third quarter, benefiting from cartons sold from our new Carolina division. Excluding Carolina and the excess selling day, sales were up 2% on modest price inflation and flat carton sales compared to third quarter last year. Carton volume benefited from market share gains which offset a 2.6% reduction in same-store carton sales. This decline was less than the industry trend with the 2 of the larger cigarette manufacturers, both reporting a 3.5% consumption decline for the third quarter. Our food/non-food sales was $837 million for the quarter, increasing approximately $119 million or 16.5% over the same period last year. Food/non-food net sales grew 8.2%, excluding Carolina and the extra selling day, driven by a 7.1% increase in same-store sales and market share gains. The increase in same-store sales is indicative of the successful execution of our marketing programs that are focused on selling more items into existing stores with an emphasis on higher-margin categories. General Merchandise grew over 38% or about 25%, excluding Carolina and the extra selling day. This growth was driven by the continued increase in e-cigarettes sales, up almost 9x compared to Q3 2012 and 7x on a year-to-date comparative basis. We believe e-cigarettes, along with smokeless tobacco categories, will continue to assist in offsetting declining cigarette carton sales. Within the Food category, excluding Carolina and the extra selling day, fast food is growing at a healthy 9% while Fresh category grew 30%, benefiting from the return of Hostess products and deeper sales resulting from our marketing efforts. Gross profit increased $18.6 million or 15.2% during the third quarter while remaining gross profit increased $17 million or 13.5% over the same period. Margins improved 9 basis points for gross profit and 2 basis points for remaining gross profit on higher food/non-food margins, offset by softer cigarette margins. Remember, remaining gross profit excludes cigarette holding gains and LIFO expense. We did record $0.2 million in cigarette holding gains in both periods while LIFO expense was $1.6 million lower than the same period in 2012, due primarily to lower forecasted inflation rates for cigarettes, grocery and food commodities. Cigarette remaining gross profit increased 5.9% or $2.3 million to $42.3 million and represented 29.6% of our total remaining gross profit. As a percent of sales, cigarette remaining gross profit margins were 2.37% compared to 2.51% last year, compressed by lower overall market pricing in Carolina and a large customer contract that we began servicing earlier this year. Remaining gross profit on the cents per carton basis was essentially flat for the remaining business. More importantly, food/non-food remaining gross profit increased 17.1% or $14.7 million to $100.5 million and represented 70.4% of our total remaining gross profit. As a percentage of sales, food/non-food remaining gross profit margins increased 6 basis points from 11.94% last year to 12% for the third quarter this year. Our new large contract compressed margins by 15 basis points, offset slightly by higher margins in our Carolinas division. Excluding these 2 items, food/non-food remaining gross profit margins improved 17 basis points. We also noticed approximately 8 basis points of compression with the growth of smokeless tobacco category which has slightly lower margins than the rest of the food/non-food category as a whole. We believe our core strategies, FMI, VCI and Fresh will continue to have a favorable impact on our remaining gross profit dollars and margins as we continue to focus on these core strategies to increase our customers' profits as well as our own. Moving to our operating expenses, we saw a 15.5% increase from $105 million last year to $121.3 million for the third quarter this year. Excluding the $0.7 million conversion expansion cost for this quarter and the $1.4 million of recovery of legacy insurance claims in the third quarter of last year, operating expenses increased $14.2 million or 13.3%. Our new Carolina division represented about half of this increase. As a percent of sales, operating expenses increased 9 basis points or essentially flat after adjusting for the 2 nonrecurring items. We estimate the impact from the sales shift to lower price point commodities increase operating expense percentages by approximately 10 basis points quarter-to-date and 14 basis points year-to-date, all else being equal. As we drill down into our cost, warehouse and delivery expenses were $79.4 million, an increase of $11 million or 16.1% over the third quarter of last year. Excluding Carolina, warehouse and delivery grew 9.2%, supporting a comparable 10.7% increase in cubic feet of products shipped. As a percentage of sales, warehouse and delivery costs increased 7 basis points, in part due to the shift in sales mix and some modest investment in on-boarding new business. We expect to see further efficiencies, absent further business expansion as we level our handling cost associated with the absorption of new business and from Carolina who is now on our integrated logistics system. SG&A expenses increased $5.4 million or 15%, again with Carolina contributing about half of this increase. SG&A expenses as a percentage of sales were 1.57% compared to 1.55% in the third quarter of 2012. Excluding the Eastern expansion cost, as well as the recovery of legacy insurance claims last year, our SG&A as a percentage of sales, improved 5 basis points. This is a marked improvement over Q2 despite the upward pressure on OpEx percentages as we shift sales mix. We continue to monitor this line item during the fourth quarter where we will isolate the remaining system conversion cost for Carolina. Moving further down the income statement, interest expense, which also includes some slight interest on capital leases increased modestly during the quarter. Our year-to-date increase in interest is entirely related to the capital lease on the Carolina building. Our average borrowings under our credit facility during this quarter were $15 million compared to $3.3 million in the third quarter last year, driven by a higher investment in inventory levels. Our effective tax rate was 34.9% for the third quarter of this year compared to 37.9% for the third quarter last year. The third quarter rates are usually lower due to true-up adjustments resulting from our cash filings and other discrete items. For the year, we are forecasting a tax rate of about 39%. Moving to our cash flows. For the first 9 months of the year, free cash flow was approximately $44 million compared to approximately $74 million last year. This difference is due largely to our investments in inventory to support new business and rightsize our Carolina inventory levels, which were a bit low at the end of last year. In addition, towards the end of the third quarter this year, we started taking advantage of certain inventory opportunities, including cigarettes where manufacturers have incented us through various promotional programs. These programs should benefit the fourth quarter as we sell-through the products, as well as position us favorably for an anticipated cigarette price increase. Through September, we spent approximately $13 million on capital projects, lower than expected due mostly to the timing of certain facility expansion projects in CNG stations. We currently expect CapEx to be below $25 million for the year. In addition, we used $5.7 million year-to-date to repurchase shares and spent $4.5 million on dividend payments. As previously discussed, we recently announced our fourth quarter dividend, which included a $0.03 per share or a 16% increase from $0.19 a share to $0.22 a share, payable on December 9 to shareholders of record on November 18. I echo Tom's sentiments that we are pleased to provide this increase to our shareholders and note that it reflects our confidence in our ability to generate future cash flows to support both the return of shareholder value and investment opportunities that help improve our underlying business. As a reminder, we measure free cash flow as adjusted EBITDA, plus or minus changes in working capital, less CapEx, cash taxes and cash interest. For the year, we are still targeting between $55 million and $60 million in free cash flow, an increase of over 10% compared to 2012, depending, of course, on any unusual year-end activity. To summarize, we had a good quarter building solid momentum for the rest of the year in 2014. We remain committed to growing market share and improving our operations while increasing our value to our customers and helping them be more relevant in a competitive and dynamic industry in which they operate. And with that, I'd like to thank all of our employees, our vendors, our customers and our shareholders for your continued support. Operator, you can now open the line for questions.

[Operator Instructions] The first question comes from Andrew Wolf with BB&T. Andrew P. Wolf - BB&T Capital Markets, Research Division: I wanted to ask you on the guidance for Q4, that EBITDA is going to be higher in dollars than Q3, which is a change of pattern. I mean, you gave us a lot of stuff that suggested that -- help us understand why but I just wanted to kind of scrub it down a bit. So last year, you had a little over $3 million in cigarette holding gains and this year, as part of your -- you had it as a guidance on a contingency, if you will. But I mean, do you expect that gain to be a lot higher, number one? And then I think Stacy also called out some promotional programs with the manufacturers. Are they going to be material and were they not in last year's Q4 EBITDA?

Andrew, it's Tom here. A couple of things in looking at fourth quarter of 2013 versus 2012. Last year, and we started talking about it in the first quarter, we were lapping some account losses that we had in the fourth quarter last year. And I think this year, we're in a much different position where we have a lot of sales momentum going into the fourth quarter than versus last year. Secondly, as we grow larger, we will earn higher floor gain on cigarette price increases and I think we're estimating about $4 million this year versus $3 million last year. Secondly, as again, going back to the promotional activity, we do have promotional activity but again, our size helps us garner more income from those activities. And so again, going into the fourth quarter, I'm really optimistic based on all the market share wins we've had, along with our momentum we're building in our Fresh and vendor consolidation categories, which is going to help us really grow our bottom line in the fourth quarter. Andrew P. Wolf - BB&T Capital Markets, Research Division: And I guess as other element -- the 2 other elements to that is how Esso businesses positioned in Canada. That should, I assume, be a contributor as well and as well as the 200 alternative channeled stores you mentioned?

Yes, that is correct. And that's what I say. It's a little bit different year and our years always go back and forth. But this year, going to the fourth quarter is much different than what occurred last year in the same time period. Andrew P. Wolf - BB&T Capital Markets, Research Division: So when those 500 Essos, I think you said -- 700 stores, did you get the on-boarding cost this quarter or are you going to get some of that on-boarding cost also...

There was on-boarding cost in the third quarter, for sure and there will be some carryover into the fourth quarter. Andrew P. Wolf - BB&T Capital Markets, Research Division: Will they still net out as contributors even including the on-boarding cost?

Oh, yes. Yes they will. Andrew P. Wolf - BB&T Capital Markets, Research Division: And I just wanted to see if I could tease out anything more in the 200 large format stores...

I like that word tease. I think, today, it's a little sensitive to want to share the name of the retailer. But definitely, as we progress down this path, I'll be sharing more information as we progress. So all I can say it's a major alternative channel retailer. So we're really excited by that. Andrew P. Wolf - BB&T Capital Markets, Research Division: Alternative to the convenience stores, as the reference, right?

Yes. That's the way we sort of defined that, correct. Andrew P. Wolf - BB&T Capital Markets, Research Division: I guess that's 2 questions. So if I could just get 1 more in on -- Stacy, I think I heard you say, same-store carton's down 6%? And if so, where do you think that leakage is going to? Is it going to dollar stores and so forth or into private label and lower price brands that maybe you're not delivering?

No, it's down 2 points. 6%, I believe, is what I said and it's lower than the industry trend of 3.5%, which is what the manufacturers were recording. Andrew P. Wolf - BB&T Capital Markets, Research Division: And then on the e-cigarettes growth, it appears looking at your segment numbers, category segments and what you -- your commentary, that it's actually accelerating and is that -- that's a category that really, I guess, is growing already, would be kind of pretty big for you guys. But I guess the knockout there or its fault or a lot of its trial and there hasn't been a lot of stickiness, but are you getting any sense, anecdotally, that maybe there are people converting to e-cigarette usage?

Andrew, I'm not sure if I have any evidence of that but definitely, it's growing because I think the penetration of e-cig is within the convenience store channel is growing. And secondly, as I think, we haven't seen -- the only large cigarette manufacturer that has stepped into the category today widespread is Lorillard with their Blu cigarette. And really, R.J. Reynolds and Philip Morris are testing and continue to expand their test markets. And so I think when cigarette manufacturers go after a category, I think they'd look for the long-term staying power of that category. So I think over time, I think we'll continue to see the growth and I think it will have repeat customers.

The next question comes from Nelson Obus with Wynnefield Capital.

There have been a couple of, I would say, sort of quasi-positive articles about the changeover from diesel to natural gas and obviously, not going to happen overnight, but some progress points along the way. Can you give us an update on where that program is with your shop?

Absolutely, Nelson. I mean, I'm very optimistic about CNG and for our company. We have 1 fully operational CNG station in our Pennsylvania division. We have 1 other one under construction currently with another one under contract to be built. We have well over 100 tractors on order and we'll be starting to see these as we get into the fourth quarter and the first quarter next year. The issue we had, and I think you sort of mentioned it, it's been slow because we've been waiting for the engine manufacturer to build a larger engine which we need to pull the weight we have. But also they're behind because today, there's like 1 manufacturer that produces the CNG engine. But as more and more distribution companies or logistics companies get on board, I think, one, it's going to increase the turnaround time on when we order new tractors; and secondly, it's going to reduce the cost of those tractors. So I'm really encouraged and so we definitely are on it. I think we are ahead of the curve, but I think we're getting caught up really quick right now and I expect and anticipate great things as we head into 2014.

Now when you talk about stations or distribution, do you anticipate you're going to be responsible for building all of them or will there be other entities building and then you'll be able to utilize?

Two different -- we look at it from 2 different approaches. One is can the volume division support their own fueling stations so we get the return on investment we're looking for. Secondly, if that's not the case, then we use offsite fueling stations. And so that's where we're directing our focus to those areas that have a better infrastructure. I look at Texas, I look at Oklahoma, California, Utah, et cetera, they have a better infrastructure. And three, we're also down the path of partnering with CNG station builders and operators, to partner with them to be an anchor tenant.

Obviously, it could move the dial in a couple of years so...

Absolutely. I think so. I think there is -- we all know there's a glut of natural gas and I think it's a great opportunity for us.

The next question comes from John Lawrence with Stephens.

Tom, would you discuss a little bit, as far as some of the surveys, obviously, non-cigarette sales continue to go very well. Talk about what's going on in that account. I mean, can you look back and see where you've touched that account and offered either the survey or trying to see what makes them decide to move forward with you? Any history there? Are these more accounts that the sales cycle is very long or a lot of these wins have been more recent contacts? Can you?

It's interesting. So we go after it 2 different ways. One is we do surveys for our existing customers. And really, John, it's the story, right? Because if you look at the data for the industry, the NACS data is on average, an independent retailer will make $30,000 less annually on the bottom line than a chain account. And at the end of the day, what causes that is the lack of category management. So our focus and what we want to do is make our independents more relevant and more profitable so they stay in the game, right? And so as we go through the sale process, that's where we're helping them with demographic information on the latest trends, on Fresh products, on what items they should be carrying, what the price points should be, et cetera. So that definitely resonates with our current customers and they grab hold of it. Secondly is as we look to new accounts and they say why Core-Mark over one of our competitors, a lot of the offerings we do is we can do and we have done a sort of a shortened version of a survey of their store to really help them understand the value that Core-Mark brings to their business. And we've been very successful on that also.

The first of the year, some of that process you changed or reformulated that process a little bit, can you give us a little sense of the success of that and exactly what did you do?

Yes. So basically, we rolled out what we called a tool for Vendor Consolidation and we sort of named it the Black Box. And the intent was we believe that an average, there's 10 to 15 DSD suppliers in any independent convenience store and that we have the ability to one, match that price and save the independent retailer money on those costs. And of course, we know all the efficiencies that comes from consolidating the DSD vendors under our own truck. And so we have a tool that we use when we accumulate all of the invoices from a customer on their DSD invoices. We process it through this Black Box for better -- sort of a secret black box and it generates really, to say what our price would be to them, what their price is. And at times, we'll spit out a dividend and say listen, we'll give you a dividend on invoice to -- basically, to share that cost savings on an invoice-by-invoice basis. We have approximately 3,000 customers that we process through the black box. It's the independent retailer, it's a behavior shift for them because one, they like to DSD. We talked about that in the past. They like the DSD, they like the free labor that's given and they like to be a little bit secretive at times and so -- but we have gotten traction on it. We are growing our vendor consolidation sales and so, it's one of the tools in our arsenal to really go after those DSD vendors and consolidate vendors on our trucks.

Second question, can you -- going back to Andrew, just trying to find out a little bit more on the new business. Can you tell us, first of all, who did you displace for both the Esso business and this new out of industry client? I assume the new client is a new business.

Yes. So up in Canada, we displaced a couple of different suppliers. One in Toronto was Karrys Bros. and the second one in the Western provinces was Wallace & Carey. And so there was 2 suppliers handling that which they now have 1 supplier from Ontario all the way west to British Columbia. The other -- the alternative channel retailer, it's really about vendor consolidation because as we look out at the landscape, is a lot of these alternative channels have a myriad of DSD suppliers within their stores. So it's sort of those along with our core strategies, the vendor consolidation and Fresh.

So is it too early to disclose? I mean, how will those 700 stores will look from the rest of the business, larger drop, et cetera, too early to talk about that?

Two different ones. Esso is our traditional convenience stores in Canada. So that's more of our traditional where we definitely have opportunity for vendor consolidation in Fresh with those stores. So we'll see as we progress down the road. We will see their purchases get greater with us as we would any of our other convenience store retailer. The second thing is on the other 200 stores, I think you're exactly right. In our experience, a lot of these alternative channels have a much larger drop than our normal convenience store operator.

The next question comes from Ben Brownlow with Raymond James. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: On the guidance that you gave, can you -- it sounds like you're pretty bullish on the top-line outlook aside from inflation. Is that the entire reason for the reduction and can you give us some color on the CapEx reduction as well?

Well, top-line, definitely, we have a lot of momentum going into the fourth quarter and ending year. I think from an earnings perspective, is we definitely are investing money into our -- to onboard these new customers and to also to convert the Carolina division onto our systems. So that, in and of itself, will sort of drag down those earnings. As to what was it -- I'm sorry -- the CapEx, we definitely wanted to spend a lot more money on CNG this year than we are and that's because of just the fact that the engine manufacturers and also the stations, are just -- they're behind on getting the product and getting the equipment built. And so, that's where a lot of our CapEx decline has come from. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: And just to be clear, the EPS revision, did that play -- was the integration cost that you've had, did that play any role in the EPS revision and the same sense, was there any change in the projected cigarette inventory holding gain for the fourth quarter that played a role in that revision?

Integration costs, no, did not play a role in the revision. I think if you look at the underlying key assumptions, the share count, the LIFO expense, the tax rate, that's certainly a component of it. But the revised range with those key assumptions built-in is supporting our EBITDA forecast or revised forecast of $1.12 to $1.13. So in essence, the real shift is due to those 3 primary drivers. And again, LIFO expense being the big question mark, depending what the bureau of labor statistics does with the PPI at the end of the year. But we just haven't seen the inflation rate so far in some of those key categories that I've noted. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: So there wasn't really a change in the cigarette inventory holdings that you expect for the fourth quarter relative to prior guidance?

No, not really. I mean, other than the sales momentum should eke out a little bit greater than what we had during June or July or December of last year. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: And Tom, I want to get your bigger picture or long-term thoughts. When you look at the territories that you're in, where do you feel or what the number of territories that you feel are your under-penetrated in market share? And I'm not necessarily talking about VCI, Fresh but more from a distribution capability standpoint, where you feel you're underexposed, on an additional acquisition or maybe some expansion on warehouse? I guess another way to look at it is, are any DCs nearing capacity where additional capacity would make sense?

I think there's -- look at it a couple different couple of ways. One, look at the geography and I still look at the Midwest, Upper Midwest, is that we definitely have an opportunity there to acquire somebody that will help us with logistic synergies since today, we service that the area out of Leitchfield, Kentucky. And so that's probably from a geographic perspective, that's it. I think what we have been focused on and we sort of talked about our eastern expansion, is really the East. The Southeast, the Northeast is where the majority of the convenience stores are located. And I think with the recent Davenport acquisition, really has put us in a really good shape in the Southeast. We used to operate 1 division out of Atlanta to cover that whole area and today we have 4 to cover that area. So I think felt really confident about that and again, based on what the business is, right? So I if think today, I think from a warehouse distribution perspective, I think we have capacity. We're not up to not having the capacity to grow. But with sales and opportunities, I don't hesitate to grow a new division if we need to. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: And if I could just get one more in. Stacy, you mentioned the handling cost per cube coming down, I think around 1.4% earlier in the call. What's driving that and what opportunities do you have that remain to improve the efficiency?

Do you want me to answer?

Yes.

So we have this thing we call the magic of distribution, right? And really, the more volume, the more cubic feet you process through a warehouse, your efficiencies pick up. For instance, instead of picking 1 case at a time, you may pick 2 cases at a time or 2 boxes of candy at a time. So really, as we see our cubic volume growth, especially non-cigarettes, we tend to see efficiencies and productivity levels improve, which causes a reduction in that cost per cube. And that's really relevant to the warehouse and delivery cost in our system. Benjamin Brownlow - Raymond James & Associates, Inc., Research Division: So it's more of a leverage on your fixed costs?

Absolutely. And it's really just -- it's just higher productivity levels for where we select the orders.

[Operator Instructions] The next question is from Chris McGinnis with Sidoti & Company. Christopher McGinnis - Sidoti & Company, LLC: Just on the cost side. I know if there wasn't a -- and I know this isn't going to happen but just on the year of investment, say even your latest expansion, you're growing the cost side to help that, how long would it take if all -- like all things stayed equal until that cost comes down, you would get a little bit better leverage off of the...

So if all things being equal, let's take our recent Turkey Hill business. So we won that and we started delivering that sort of to the latter part of May. We're going into the summertime business. So on average, I would say it's about a 12-month process, is you on-board, so you spend a lot of dollars to train, to hire people as you bring that customer on. And then as you absorb that business, you see efficiencies as the employees, the new employees in particular, are better trained, they're better acclimated to what we expect from them in the warehouse. We refine our routing. And so all that sort of takes place over the next 6 months. And then really, as we get to the 9 to 12-month period is really when you start to leverage those revenues and start to really see the profit grow out of those, out of a new account like Turkey Hill. Christopher McGinnis - Sidoti & Company, LLC: And I may have missed this, but typically, you'll give like a bid market that's out there. Did you give that this time or just maybe some contracts that are up for bid?

You mean new accounts? Christopher McGinnis - Sidoti & Company, LLC: Yes, new accounts. I think usually, you'll give like a number that you're bidding on maybe like $600 million or $400 million that are out in the market.

It's interesting because we won a lot of the business we've been bidding on but I think 2014 is going to be a large, big year for opportunities and so -- but a lot of that business is in the early stages. But definitely next -- as we go into next year, we'll be able to talk about it when we review our fourth quarter with you after the early part of next year. But we definitely are winning in our small, independent accounts. We definitely are -- we have momentum there, too, on picking up independent accounts. And I think because of our core strategies and what we're bringing to market. So I'm really pleased by the performance of our divisions on growing our independent accounts. Christopher McGinnis - Sidoti & Company, LLC: And is that mostly in the Southeast where your presence is just expanding that you're seeing or if you look at your growth in your independents?

I think one, definitely there's a lot more opportunity because our market share is a lot smaller in the Southeast in the Northeast and Midwest, in particular. And so we definitely are seeing more growth in those areas because I think what we're doing and our reputation is gathering momentum. We were recently at the National Association of Convenience Stores Tradeshow that was held in Atlanta, about a month ago, 1.5 months ago. And there was a lot of buzz, a lot of momentum, a lot of -- because current customers and new customers, potential customers stopping by our booth and talking to Core-Mark. So I think what we're doing and our reputation is creating a lot of momentum within the marketplace. Christopher McGinnis - Sidoti & Company, LLC: And then just one last question. You did make that comment that you're well out on the Fresh and VCI initiatives for the year. Do you have a target? I remember in years past, it was $100 million, are you well above that already and...

We should this year, we'll exceed $100 million and probably be our highest incremental VCI and Fresh that we've been doing over the last 6 years. So we definitely have momentum on our side and I think it just continues to build upon itself.

The next question is from John Lawrence with Stephens.

Tom, obviously we've got to focus on the new stuff. The 200 test stores, can you give us a little sense of how that agreement works today as far as the test, who's responsible for what and how are you folding into an existing facility and is there any cadence of increased responsibility based on the test?

The 200 stores are the first stores we are servicing, so that will grow. Secondly, it's in our existing warehouses which we're able to fold in easily. And did I answer your points? Is there a third point there?

Just is the -- I guess, the cadence or the success factors for increased growth and are there any dates, sort of timestamps for that?

I think one of the things is I think as we enter these, what we're looking at is the future opportunity. So one, we start small and then I anticipate that the opportunity will just continue to grow. And so it's sort of you get the foot in the door, you provide a valuable service, we execute well and then -- and that will just continue to grow as we move down the future. Because again, it's all about the futures, the partnership for the future, right? And I think that's where we're about with this alternative retailer also.

And obviously, you're sensitive on the name, can you tell us, is it drug?

It's an alternative channel retailer.

We have no further questions at this time. I'd like to turn the call back over to Ms. Draper for closing remarks.

Thank you for your participation in our conference call and for your interest in Core-Mark. The third quarter was characterized by robust sales growth building towards anticipated record sales and record profit. We continue to focus on the execution of our core strategies, which we believe will drive our growth and our market share over the long-term. If you have any follow-up questions, please give me a call at (650) 589-9445. Thanks.

Thank you. Ladies and gentlemen, this concludes the third quarter investor conference call. Thank you for participating. You may now disconnect.