United Natural Foods, Inc. (UNFI) Q3 2016 Earnings Report, Transcript and Summary

Greetings and welcome to the UNFI Third Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Katie Turner. Thank you, Ms. Turner, you may begin.

Good afternoon and thank you for joining us on UNFI's third quarter fiscal 2016 earnings conference call. By now you should have received a copy of the earnings releases issued this afternoon at approximately 4:05 PM Eastern Time. This press releases and the webcast of today's call are available under the Investors section at the Company's website at www.unfi.com. On the call today are Steve Spinner, President and Chief Executive Officer; Sean Griffin, Chief Operating Officer; and Mike Zechmeister, Chief Financial Officer. Before we begin, we'd like to remind everyone that comments made by management during today's call may contain forward-looking statements. These forward-looking statements assess plans, expectations, estimates, and projections that might involve significant risks and uncertainties. Actual results may differ materially from the results discussed in these forward-looking statements. In addition, in today's earnings release and during the call today, management will provide both GAAP and non-GAAP financial measures. These non-GAAP financial measures include net sales, net income, earnings per diluted share, EBITDA and free cash flow. I'd now like to turn the call over to Steve Spinner.

Thank you, Katie, good evening everyone. Our entire team has been extremely busy over the last several months with the completion of three strategic acquisitions. As many of you know, we completed the acquisition of Global Organic and Nor-Cal in the third quarter and most recently in May, we completed the Haddon House transaction. We're excited to welcome 1,400 new associates to UNFI's family. Our latest acquisition, Haddon House, is very exciting for UNFI. David Anderson, Sr. and David Anderson, Jr. will continue to lead Haddon as we fully deploy a national specialty foods program as part of our building out the store strategy. We have thoroughly enjoyed getting to know the entire Haddon team and look forward to working together as we integrate our businesses. Additionally, during the quarter we welcome Todd Achondo from Nor-Cal and his team, serving as the basis for our drive towards the National Conventional Produce Program under our Albert's umbrella. We see terrific opportunities as this business is integrated into our national fresh distribution platform. We remain intently focused on building distribution opportunities with new customers and expanding relationships with current customers. We believe UNFI is increasingly, uniquely positioned, particularly with the addition of Global Organic, Nor-Cal and Haddon House, to provide customers across every channel of food retailing with compelling value added product and service offerings. In just the last few months we have strengthened our business across fresh, ethnic gourmet, and conventional produce, and have further enhanced our national supply chain infrastructure to support our future growth over the next several years. As many of you know, UNFI began executing a strategy of building out the stores several years ago. Our mission was and is to provide retailers, e-commerce and food service customers with the most comprehensive selection of better-for-you consumer products. We anticipate a contraction in the center of the store as to dry grocery products and began aggressively building out our fresh offering with refrigerated distribution centers, new customers and acquisitions. We also recognized the need to acquire a specialty foods business which would serve as an enabler towards national full service capabilities in this fast growing product category. With these latest acquisitions we believe UNFI is well positioned as the largest national provider of fresh produce, proteins, bakery, daily specialty and natural with a fully deployed service based sales team representing both the United States and Canada. Focusing on our quarterly performance for a moment, we are pleased with the sequential improvement in our financial results from the second quarter to the third quarter of 2016 fiscal. Net income of $38.3 million or $0.76 per diluted share improved from $22.7 million or $0.45 per diluted share in the second quarter of this year. Our $2.13 billion in net sales was a quarterly record and we are particularly pleased with our margin improvement over the second quarter. Gross margin for the third quarter increased 60 basis points to 15.1% from 14.5% the second quarter and operating profit margin increased a 106 basis points to 3.1% from 2% in the second quarter of fiscal 2016. Our team continued to manage the more controllable aspects of our business as we made strategic improvements to improve our sales growth rate and customer experience through the back half of this fiscal year and into fiscal year 2017. Third quarter also marked a second consecutive quarter of strong cash flow generation. Operating cash flow and capital expenditures were $80 million and $8.6 million respectively, resulting in free cash flow of $72.4 million for the third quarter of fiscal 2016 and on a year-to-date basis we have generated cash flow of $176.5 million representing the strongest year-to-date cash flow generation in the company's history. As a result of our third quarter and year-to-date performance, we are raising our guidance for the full fiscal year which Mike will cover in his remarks. UNFI's acquisition strategy continues to play an important role in our long-term growth. In the third quarter, integration efforts for Global Organic and Nor-Cal started off strong and we are now deep into integrating these three, as well as Haddon House. Our customers have asked us for more robust specialty assortment which we can now deliver. Once integration is complete, UNFI will have a complete offering of full service gourmet ethnic, fresh produce, grocery, wellness and e-commerce to satisfy a much wider range of customers. UNFI's fresh distribution network, capital structure, breadth of product offering and most importantly, our people, all contribute to our very unique position in the marketplace today. We now have the capacity to represent our portfolio of brands and products and service offerings under our new organizational structure beginning in August 2016. Everyone at UNFI is very excited about this new initiative as we believe it brings our teams closer to the retail operator and will serve as the primary driver towards an exemplary customer experience. And as many of you may already know, this means UNFI will soon be structured more regionally with the Pacific, Central and Atlantic region. Each region will have a President responsible for all of our products and services within the territory including fresh grocery, wellness, e-commerce, food service and ethnic gourmet. UNFI territory managers will now sell across UNFI's complete product offerings with a single point of contact for our customers. Innovative technology will help us even further enhance the customer experience as program economics and merchandizing drive operator behavior towards a greater share of the store with UNFI. We expect this to fuel even stronger customer relationships than we have today. Our continued rollout of fresh in Denver and now in Florida is moving forward as we expand our assortments to serve a wider group of customers in these markets. Our Global Organic acquisition significantly moves our timing of fresh in Florida forward. And as we enter fiscal 2017, we plan to provide further detail on fresh and the opportunity this represents for UNFI. In the third quarter costs associated with new distribution centers performing under-capacity remained a headwind. However, we believe this capacity creates opportunity for us to grow into and should serve us well as we further enhance and build out our specialty and fresh product offerings. Our distribution facility in Gilroy, California is now fully operational and serving the Bay Area of Northern California. I am very pleased with our performance in the warehouses and on our fleet, total warehouse productivity was up 7% year-over-year in the third quarter and our transportation costs as a percentage of net sales were down 9%. At the same time customer fill rates and service levels were higher than they have been in the last several years. I'm very pleased with the progress we have made year-to-date and we believe we are well positioned for future growth. Before I turn the call over to Mike, I would like to thank the thousands of UNFI team members that worked tirelessly over the last several months to complete our three strategic acquisitions. It is because of your efforts that we were able to continue to move UNFI forward as we grow our business and enhance shareholder value long-term. And now I'll turn the call over to Mike Zech. Mike is our Senior Vice President and Chief Financial Officer. Mike?

Thanks, Steve, and good evening everybody. Net sales for the third quarter of fiscal 2016 were $2.13 billion which represents growth of 0.8% or approximately $17 million over the third quarter last year. Our adjusted net sales growth for the same period was approximately 6.1% excluding the year-over-year impact of the previously disclosed termination of the customer distribution contract. Acquisitions contributed an estimated 0.9% of growth or $18.1 million of net sales in the quarter. Inflation moderated for the quarter as it decreased 90 basis points sequentially coming in at 1.25 versus last quarter. From a channel perspective, super natural net sales outpaced over our sales growth, up approximately 3.5% over the prior year's third quarter representing 35.7% of total sales. Super market sales decreased 12.5% Q3 versus the prior year and landed at 25% of total sales. Adjusted for the customer contract termination, super market sales increased 5% in Q3 over the prior year. Independent channel grew at 6.1% in the third quarter over the prior year's third quarter represented 27.8% of total net sales in the quarter. Excluding the impact of $13 million of net sales from the Nor-Cal acquisition, the independent channel grew at 3.8% in the third quarter versus last year. Food service sales were up 20% over the prior year and the rapid growth of e-commerce continued increasing approximately 31.6% over the prior year's third quarter. Gross margin for the quarter came in at 15.12%, a 29 basis points decline over the last year's third quarter. The decrease versus prior year's comparable quarter was due to continued competitive pricing pressure, a reduction in fuel surcharge, moderated supplier promotional activity and a shift towards sales in lower margin categories. Sequentially, third quarter delivered 59 basis points improvement in gross margins for the second quarter of 14.53%. The gross margin increase versus second quarter was driven primarily by a sequential improvement in supplier promotional activity and favorable foreign exchange on our Canadian business. Operating expenses as a percentage of net sales for the quarter improved 12.0% compared to 12.2% for the same period last year. Total operating expenses for the third quarter of fiscal 2016 included approximately $0.9 million of acquisition-related costs and $1.2 million of start-up costs related to the company's Gilroy, California facility. For the quarter, total fuel costs decreased by 18 basis points as a percentage of net sales in comparison to third quarter of fiscal 2015 and represented 46 basis points of distribution net sales. Our diesel fuel cost per gallon decreased by approximately 31% Q3 versus the same period fiscal 2015 while The Department of Energy's National Average [ph] was down approximately 25% or $0.65 a gallon compared to Q3 last year. Share-based compensation expense was higher on a dollar basis for the third quarter at $3.2 million compared to $2.4 million for the same period last year representing a 15 basis points of net sales compared to 11 basis points value in the third quarter of fiscal 2015. The increase in third quarter this year was due to a larger reduction in last year's third quarter share-based compensation related to a long-term equity incentive plan for members of our executive leadership team. Operating income for the third quarter was $66.0 million, a decrease of $3 million for the same period last year. Operating margin in Q3 was 3.10, a 16 basis point decline over the third quarter of fiscal 2015, driven primarily by gross margin headwinds previously noted. Operating margin increased a 106 basis points compared to second quarter of 2016 due to savings in operating expenses from expense-controlled programs across the business, favorable foreign exchange, improved strategic business unit performance and improved leverage across fixed costs. Our EBITDA as a percentage of net sales in the third quarter was 3.94% down 10 basis points versus third quarter of last year and an improvement of 112 basis points sequentially over second quarter. As we move forward, we'll place a greater emphasis on EBITDA margin versus operating profit margin to ensure proper focus on cash generation. Interest expense in the quarter was $4.4 million, 11.8% higher than Q3 of prior year, primarily due to an interest rate swap agreement effective August on our term. As communicated previously, we expect this swap will effectively fix interest rate on remaining term loan and will be approximately $0.03 dilutive to EPS. Other income was 6/10th of a $1 million for the quarter, a decrease of $3.8 million compared to Q3 of the prior year. As you may recall, other income in Q3 last year included a pre-tax gain of $4.2 million related to the transfer of land for our Prescott, Wisconsin facility. For the third quarter of fiscal 2016, the Company reported net income of $38.3 million, or $0.76 of diluted share, a decrease of approximately $3.5 million compared to prior year's third quarter. The impact of acquisitions was neutral to EPS for the third quarter of fiscal year 2016 including $0.9 million of related acquisition costs. Inventory was $0.98 billion at quarter-end, an increase of 4% compared to the third quarter of last year, due primarily to the start-up of the Gilroy facility and increased sales compared to the prior year. Capital expenditures were approximately $9 million, or 0.4% at sales for the quarter, the largest portion related to continued investment in our warehouse management and procurement systems. For the third quarter of fiscal 2015, capital expenditures were $42 million, or 2% increase due to the spending on the construction of our Prescott, Wisconsin and Gilroy, California facilities. At the end of Q3, the available borrowing base under our credit facility was $854 million with available liquidity of approximately $571 million including cash and cash equivalents. As previously announced, on April 29, we amended our revolving credit facility increasing the aggregate availability under the facility from $600 million to $900 million. Our debt-to-EBITDA leverage at the end of third quarter improved to 1.51 on a trailing 12-month basis which included financing the Global and Nor-Cal acquisitions. Q3 leverage represents the lowest levels since the end of third quarter of fiscal 2014, just prior to our acquisition of Tony's Fine Foods. The impact of leverage from the Haddon House acquisition which closed after the completion of third quarter on May 13 was an increase of approximately 0.7. As Steve mentioned, we generated free cash flow of $72.4 million in the third quarter driven by continued working capital improvements and reduced capital expenditures. Our year-to-date free cash flow was $176.5 million, the strongest nine-month free cash flow in Company history. We anticipate positive free cash flow for the remainder of the year, landing us in a range of approximately $200 million to $220 million for fiscal 2016. As outlined in this afternoon's press release, we are raising guidance for fiscal 2016. We expect net sales to be in the range of $8.47 billion to $8.50 billion, which represents a 3.4% to 3.8% increase in total net sales over fiscal 2015. The increased guidance is driven by net sales from acquisitions which are expected to come in at or above approximately $160 million, adding 2.0% growth to fiscal 2016 net sales. The previous guidance was $8.31 billion to $8.43 billion. In addition, we're updating our GAAP diluted earnings per share guidance for fiscal 2016 to a range of $2.47 to $2.53. Our previous GAAP earnings guidance was $2.27 to $2.37 per diluted share. As a reminder, included in our fiscal 2016 earnings guidance is approximately $4.8 million of restructuring charges and $1.9 million of acquisition costs that we incurred in the first nine months of fiscal 2016. The revised guidance includes acquisitions of Nor-Cal, Global Organic, and Haddon House, which are expected to be neutral to EPS in fiscal 2016, including acquisition-related costs. As a recap of our acquisition activity, the Global Organic acquisition closed on March 7 of 2016 at a purchase price of $20.6 million. The Nor-Cal acquisition closed on March 31 of 2016 for $68.6 million. And the Haddon House acquisition closed after the completion of the third quarter on May 13 at a price of $217.5 million. Capital expenditures for 2016 are expected to be approximately $40 million to $45 million or approximately 0.5% of estimated fiscal 2016 net sales. Finally, the company expects fiscal 2016 tax rate to be in the range of 39.4% to 39.8%. At this point, I'll turn the call over to the operator to begin the question-and-answer session.

Thank you, ladies and gentlemen, at this time we will be conducting a Question-and-Answer Session. [Operator Instructions] Now our first question comes from the line of John Heinbockel from Guggenheim Securities. Please proceed with your question.

So a couple things. Steve, I wanted to start with the new organizational structure, and the dialogue you're going to have with both existing and new accounts. So, A, how is that going to change? And then, what do you think -- how will that play out in terms of timing? Is that something that new and prospective accounts are going to have to get used to? It will take time to sell them on the new structure or it's something that can bear fruit more quickly than that?

Yes. So John, we actually announced internally the reorg structure, I want to say five months ago, four months ago. So we announced it quite some time ago, and -- so for the last four months, we'll say we've been staffing the teams, the teams are now fully staffed, we've been out talking to customers. The first thing is we're not going to disrupt the customer relationship, and so for those customers that are used to having contact with a specific person, that's not something that's going to get disrupted right out of gate. The first and most important thing that we're looking to do is to make sure that our salespeople, whether they are calling an independent or chains, are selling 100% of the brands that we have in our arsenal. So regardless of whether it's a supermarket or an independent, we want their contact to be selling fresh, fresh produce, conventional, organic, specialty, core, center-store, and that we now have in place. And so, it took us a little bit longer than I think we'd like to get there, but we feel good about the training that's taken place, changed management that's taken place. The quality of the leadership teams in each one of the regions and it formally takes effect August 1.

And then what's your -- when you do an acquisition such as you've done here, do they immediately go into the new organizational structure or you keep them aside for some period of time, just to assimilate them?

The answer is it depends; Global because of their physical location will be folded in relatively quickly. Nor-Cal has been folded up underneath Albert's Organics. Haddon, we would like to run separately for some period of time to ensure that one, they have a very high service, high touch model that we need to fully understand, we need to learn from them. And so we're not going to integrate that business until we're comfortable that we fully understand it, they fully understand it that we have identified all the risks. We know that we're converting their computer system into our system, certainly within about a year. That one given the size we're going to be careful and we'll take our time.

Alright. And then lastly, the sequential step-up in vendor promotional support, is there any way to tell if that is tactical or longer lasting? I don't know if you've seen that continue. What's your thought there?

Yes, this is Sean, John. At this stage in the game, there is so much lumpiness around the trade spend that it would be difficult to sort of forecast forward that -- what we see in Q3 is something that we would expect to continue Q4, Q1 of 2017. Some of the margin improvement was due to lapping some of the FX problems in Canada. Some fuel surcharge, but generally we were pleased with what we saw.

Okay, thank you.

And our next question comes from the line of Scott Mushkin from Wolfe Research. Please proceed with your question.

Hey guys, thanks for taking my questions. So I just wanted to make sure I understood guidance Mike, just kind of what was said on the EPS side. I know you -- it looks like on the revenue side, taking the revenues and $160 million out, I think you're kind of -- the core you're guiding to the lower end of your previous guidance. Is that correct?

Yes, so the annual guidance of -- the top-end annual guidance at 3.4 and 3.8 is increased obviously, driven primarily by the acquisitions. And on bottom-end, we took the EPS up to capture the improvement in third quarter.

So that was the other thing I was trying to understand with what you said and, kind of maintenance stuff here, are you getting any EPS benefit from ex-GAAP because I know you guided I think $2.47 million to $2.53 non-GAAP. Does that have any EPS benefit from the acquisitions in it?

Yes, what we try to articulate in the communication was that we are neutral on EPS, both, in the quarter and on the year related to the acquisitions but that includes acquisition-related costs so we've experienced $1.9 million of acquisition-related costs year-to-date and $900,000 of that was in the quarter. And we're neutral both on the quarter and the year as a result.

So as I'm reading this, adjusted earnings per diluted share, that adjustment takes that out, that's correct, right, in what you released?

Yes.

It does take it out?

Yes.

I might have to take this off-line, because I'm just trying to understand what's in there and what's not, I don't. So on the revenue side, getting back to that, this is a broader question, it seems like, are you seeing ex the acquisitions any improvement in kind of what's going on in the industry overall, and you obviously I think talked about a sequential lowering of the inflation rate. So just kind of any update you have on what's going on with the base business will be great. And then on yield, thanks.

I mean I think the base business is generally stable. We know over time as I said in my prepared remarks that I think that those are going to continue to be contraction in the center-store, nothing new there which is why we work so hard to build out the perimeter and related kind of fresh offerings. I think that the Haddon House specialty products give us an interesting opportunity to fully deploy that product category in a lot of markets that we don't currently have it. So I think we'll start to see some growth in the center-store related to that. But I think generally, it's stable -- it's not up, it's not down, it's kind of flat.

Alright perfect, thanks, guys.

Our next question comes from the line of Sean Naughton from Piper Jaffay. Please proceed with your question.

Hi, good afternoon. Just quickly on the gross margins, just in terms of the outlook, it's been a tough line item for us to forecast, should we continue to expect year-over-year decline but maybe just at a lower rate? And then, just given on the longer term the mix of the portfolio today, it does feel like we're reaching maybe a more normalized level, is that a fair way to think about gross margins moving forward or have we not come to a baseline yet on where the business is trending?

Hey Sean, it's Mike. You know, your question is about gross margin, obviously we'll come back in our fourth quarter call and give guidance to fiscal 2017 and some long range guidance as well that will help you understand the business a little bit better from that perspective. We've been articulating to looking back headwinds on gross margin, particularly related to FX and fuel, which -- we don't have a fuel surcharge today, that's material, which has certainly been a headwind on gross margin, and the FX has been as well. And then we've outlined some of the other items as well. So forward-looking, some of those elements are more difficult to forecast than others but we'll certainly give you guidance on that, come back in the fourth quarter.

But those items look like they're getting potentially a little bit easier over the next, call it six to twelve months, if things were going to stay at a steady run rate now for some of those items that you just described.

If they stay steady, you're absolutely right.

Okay. And then just a bigger question again, it know this kind of goes back to the last question as well. It's just on the growth rate of the business, your organic growth rate looks like it continues to go down just a little bit further, both on the one and two-year stacked trend but maybe how you can help us think about the industry; I think most participants have said this is a 10% grower typically on the top line but seems like most people are coming up short of that. Just any updated thoughts about how you feel about where the industry is today and where it's going based on your visibility? Thanks.

Sean, I think that in the center of the store, one of the biggest drivers certainly in the national side is private labeling in mass and conventional which is escalating at an extremely rapid pace. So certainly the larger national branded manufacturers in the natural channel, one of the biggest uphill battles they are facing is just the plethora of new private label natural brands that are finding their way into mass and drug and convenience and conventional. So certainly that's a trend that I think we've all been fighting with for some while, but again if you look back overtime, private labels tends to have a very cyclical nature to it, a lot of it comes on and then it backs off, a lot of it comes on and then backs off. I don't think there is any doubt that retailers are -- will overtime contract their center-store as perimeter and products that they can be differentiated in, become more important. And so we've adjusted our model with that and so I think what you're seeing in our sales growth is kind of this window of time where we've built the infrastructure, we've started to have contraction around, becoming penetrated in those categories, but not enough to move the needle.

Got it, thank you.

Now our next question comes from the line of Joel Edelstein from Stephens. Please proceed with your question, sir.

Hi, good afternoon, everyone. Just to stay on kind of the mass channel, FDM channel, there has been some talk about the potential for a new customer when in this segment, and I was hoping you could talk a little bit about what you feel like you need to do to start winning some business in that channel and maybe you could even talk about it in the sense of how do the service levels, the in-stock levels, compare when you would be servicing this type of customer versus a mass retailer that would be certainly looking to potentially do this on their own. They would certainly have capabilities to take full truck load size but they would have to weigh that against the benefits for what they can manager from in-stock. So is there even any sense that the in-stock levels today for a mass retailer would be more narrow than 50 years ago given the amount of availability and product today?

Well if you are talking about the fresh perimeter business where UNFI has a full product offering in organic produce, fresh produce, bakery, deli, specialty cheese, protein, etcetera, I think that we have the most built out network closest to the consumer regardless to whether the customer is mass conventional etcetera and so I think we are optimistic that there is going to continue to be business wins. We have already had a few and quite frankly I would prefer that they tend to be smaller wins that gain sequential improvement quarter-over-quarter, year-over-year. But look we are also in front of lot of big conventional or other retailers that we feel should be using some or all of the services that we offer. And when we are at a point when any of those need to be announced, you will be the first to know. But we have been working hard at building the infrastructure and having the technology and the resources and the intellectual capital to be a true national provider of cold chain. It's a lot different than channeling chips and we have put a lot of work into it and feel we are in a great place to start taking advantage of that network.

You know we speak an awful lot about categories and products and depth of a unified assortment, but we don't speak enough in terms of how the supply chain and this infrastructure evolves into a solution and when you are talking about selling cycle for a significant mass retailer, it's a quite lengthy selling cycle. However, it's about selling a solution versus selling a category or product and we are well positioned there.

Sean, Steve I appreciate the comments there, also wanted to come back to gross margin, and really the vendor support there. Was there any component that would have been break point driven from a sales standpoint or was this more fully a discretionary promotion that may not be as sticky?

I don't think there was anything in this quarter, I think that the gross margin was as we discussed primarily driven by FX but some improvements in our trade spend, some seasonality associated with it.

Okay. Thanks for the clarification there and maybe a bigger pick of the question. There has been certainly been a lot of growth in e-commerce, I think you have even called that your own business grew 31%, lots of new innovation even to the last mile delivery and I was curious how much opportunity you see at this point as you have developed the infrastructure that you spoke to Steve, but how much opportunity do you see from partnering with alternative retailers, Amazon and even the mail delivery companies or other online driven concepts here?

Yes, I mean, listen. Our strategy is to get better food products into as many consumers hands as we possibly can regardless of the channel and regardless of the mechanism by which that product ultimately gets to the consumers. So whether its click and collect direct to consumer, direct to store, we want to make it easy for a retailer to use UNFI in order to make that happen. I think that's the best explanation I can give you.

Okay. Well, thanks and good luck.

Thanks.

And our next question comes from the line of Robby Ohmes from Bank of America Merrill Lynch. Please proceed with your question sir.

Hey, thanks for taking my question. I don't know if you could but I was wondering if you could talk a little bit about the organic growth outlook for Nor-Cal and Haddon House and Global Organic both from, do you expect to grow these pretty solidly over the next several years or should we think of them more as there's really good margin improvement that you guys can generate on, now that you own them. Maybe just a color on what you are going to be doing with them now next?

Sure, I am not going to give you specifics around kind of how we see the actual numbers playing out but I will provide you this explanation. The reason we bought Nor-Cal is because they were 70% conventional produce and 30% organic. We really needed to have a conventional produce offering. As you might imagine, at Albert's as the largest distributor of organic produce across the country, we've been competing pretty hard with conventional distributors and started to take on organic over the last four to five years so we felt as though conventional was a very important part of strategy. Today we have it in Albert's, California. Nor-Cal serves as our base to move conventional throughout every Albert's distribution center so our expectation would be a significant amount of growth from Nor-Cal in Albert's as we move conventional into the Albert's D.C. And the same thing applies to Haddon. We had specialty gourmet ethnic, we just didn't have it in all of the right geographies and I would say that I don't think we fully understood the service portion of that business. In terms of the quality and the type of the individual that was calling on the store on a weekly basis to do the workaround order, entry, receipt, reset etcetera and so with Haddon we now have full coverage in the eastern half of the US and we will begin rapidly deploying the Haddon model across most of our major DCs and urban markets next year. So we would expect a fairly significant amount of growth associated with both conventional produce and specialty.

And Steve, just on the appetite for further acquisitions from here, is the focus sort of growing Haddon and sorry Nor-Cal or should we look for you guys to do more of these types of things over the next few years?

Yes, look we redid our credit facility. We are starting to throw up more cash than we have thrown up before. We have the capacity in certain markets to take on some new business so I think we are going to continue to be opportunistic. You know despite what's happened in the last year, 18 months we still view ourselves as a growth company and so that's where we see using our cash, that's where we see using our balance sheet. Now, having done three in the last couple months it'd be nice if we could breathe a bit but sometimes you don't have that luxury so I guess it's a long way of saying that we continue to be opportunistic when it comes to M&A.

Got it, thanks very much.

Our next question comes from the line of Andrew Wolf from BB&T. Please proceed with your question.

Thanks and congratulations on a strong quarter. So looking inside your numbers looks like 4%, 4.5% volume is kind of the new normal inside the store that has been the trend last few quarters, add inflation to that, this quarter was low. But, so based on what you have seen out of Denver with the fresh rollout, kind of what you were thinking about could happen in Florida, Nor-Cal can you give us just a sense, maybe a range of how much can that volume tick up when you start distributing throughout the store, particularly fresh where the growth rate's so much better?

I think it's kind of hard to answer that at this point in the quarter and the year Andy and I would say we'll be in a much better position to give you a more color around that in our guidance for 2017.

Okay I understand, you don't want to get in front of guidance. There are different ways of coming to what the growth rate might be on the perimeter for the industry. And I think previously you guys have said it's pretty fragmented, most of the competition is smaller than let's say Tony's or had them in. Is there any reason to think that Tony's or the produce side of things that UNFI shouldn't be able to grow with the rate of growth in the perishable side of stores?

I would say directionally that's right but again we will get into more confirmation of that or discussion of that in September.

Okay. I just wanted to follow up on inflation, I probably just missed this but what caused the slowdown sequentially? Was it perimeter stuff with diary and meat or something else?

Yes, you know the 90 basis points decline versus the second quarter down to 1.25 for inflation, there are elements of that as you know beat deflation. Cheese has been flat deflationary over time and those are driving the numbers down for sure.

So will you get the promotional money? Is that in the just the center of the stores or is it also in perishables and so forth?

It depends on the perishables, generally commodity proteins would carry no traits but any process, products of daily's, food service, bakery would probably have some -- it's harder to increase your gross margin with no inflation, right because we would typically buy into rising markets. So it's largely grocery, it can be pros and it can be dried center stores, certainly indexed to grocery versus perishables.

And last kind of follow up housekeeping on the cash flow, in a more typical year Q4 is the more cash flow generator year for the company. Obviously you have three strong quarters in a row. I think some of that is working capital released with the customer termination but should there still be the cyclical pattern where Q4 is still strong cash flow quarter?

Yes Andrew we have pointed to continue positive cash flow as we move forward to the end of the year, put the range out there at 200 – 220. We anticipate that we will continue to be where we have been year-to-date CapEx so we would be more safe there. But beyond that it really comes down to our performance on our working capital metrics and we are focusing there. We are trying to improve our working capital, we have done a nice job of that to the extent that we can do better that can prove our number going forward too but the cash generation for the business is strong and you are absolutely right that Q4 has been a good quarter for UNFI historically and we assume it will be nice, solid positive quarter again.

Thank you.

Our next question comes from the line of Rupesh Parikh from Oppenheimer. Please proceed with your question.

Thank you for taking my question. First on Haddon House, again I am not sure if you can provide color. As we look out to FY 2017 is there any color you can provide at this point to try and think about what that would contribute to next year or even if you can't provide forward guidance maybe just historical data on the acquisition?

Yes, I know we expected that we would get this question but I think what we provided with the aggregated acquisition numbers in the quarter and I think in the anticipated for the year and we will provide a lot more of the color in 2017. Keep in mind that it's going to be getting harder and harder to report them separately as we integrate these businesses into our business systems so Global will be integrated into our average systems relatively soon, Nor-Cal will be integrated into our business systems certainly in the third quarter next year. And then Haddon will be integrated into our systems this time next year so a lot of the business will move around as we do this so it's going to get a little bit clunky to get to that data but we will try in September.

Okay, great. And then Steve you know, we have seen the past few months the number of grocers with or actually most grocers have missed their topline trends. And some have called that a choppy back drop out there. Have you looked at your base business? Are you guys also seeing choppiness within your data?

You know, I think that our numbers have been relatively flat. Yes, they are not getting consistently better, they are not getting consistently worse. I am not sure that it's choppy per se but little yawny. But given the initiatives we have in fresh and produce and specialty, you know those are the things that get us pretty jacked about kind of moving forward.

Okay, thank you.

Our next question comes from the line of Zachary Fadem from Wells Fargo. Please proceed with your question.

Hi, on the M&A in the quarter, Global and Nor-Cal, is that all independent customer business? Or is there other conventional or other revenue segment component? And also can you give us a sense of the in-house sales mix per channel?

Yes, Global and Nor-Cal are predominantly independent and Northern California and Florida respectively, and what was the second question I am sorry?

Just what should we expect for Haddon House, the mix by channels as we look ahead?

We would, I am not sure we are going to provide that. We haven't thought about that actually but.

I mean, is it mostly dependence, conventional?

You know, I am hesitant to give the data because quite frankly I don't know the date off the top of my head and I am pretty sure nobody else does as well so we are going to have to table that one and think about how we want to deal with that question.

Okay. And just to follow-up, can you talk a little bit about the moving parts you are driving the operating expense in the quarter? Specifically the impact of Gilroy, the restructuring initiatives you guys have done and also any improvement in your fuel contracts? And then secondly, can you also talk about any investments or planned spending's for the M&A?

Yes, we outlined some of the costs that are included in the numbers for the Gilroy start-up, you know the fuel's an interesting one because while we lose the fuel surcharge which affects our gross margin, we get back a benefit on an operating expense on the reduction in fuel expense. We have seen a nice pick up there and the net fuel impact overall for us then is positive. We have done some price locking to do some hedging, some of that is in the money some of that is not in the money. But it's certainly been a tail wind for us in the quarter relative to last year and in the quarter relative to last quarter.

Great. And then on the reinvestment for the new acquisitions?

Well, I mean if your question is, is your question what is our plan regarding the free cash that we are creating?

Really more around any step up in spend to reinvest in the deals that have been closed. You know that you have closed via capacity or any other kind of reinvestments?

No, definitely not.

Great, thank you very much for taking the questions.

And our final question comes from the line of Mark Wiltamuth from Jefferies. Please proceed with your question?

Hi good afternoon. Want to ask about the 365 stores as Whole Foods rolled out more of those. Is that better for you or worse for you versus a Whole Food bannered opening?

Yes, well its neutral as it relates to Whole Foods 365 we see that as an opportunity to support Whole Foods in urban markets and so far so good as they opened up in Silver Lake. They have got a number of locations signed through the remainder of this calendar year and into 2017.

In terms of product mix and so forth it doesn't really affect you that much?

It continues to be positive, doesn't affect us negatively.

Okay. Thank you very much.

Ladies and gentlemen, we have reached the end of our question and answer session. I would like to now turn the call back over to management for any closing remarks.

Thank you very much for joining us this evening. Have a terrific summer and we will talk to you in September.

Ladies and gentlemen, this does conclude today's teleconference. We thank you for you your time and participation today. You may disconnect your line at this time and have a wonderful rest of your day.