Ladies and gentlemen, thank you for standing by, and welcome to the UNFI Third Quarter Fiscal 2020 Earnings Call. [Operator Instructions] I would now like to hand the conference over to Mr. Steve Bloomquist, Vice President, Investor Relations. Please go ahead.

Good morning, everyone, and thank you for joining us on UNFI's third quarter fiscal 2020 earnings conference call. By now you should have received a copy of the earnings release issued earlier this morning. The press release, webcast and a supplemental slide deck are available under the Investors section of the company's website at www.unfi.com under the Events tab. Joining me for today's call are Steve Spinner, our Chairman and Chief Executive Officer; John Howard, our Chief Financial Officer; Chris Testa, President of UNFI and Eric Dorne, our Chief Operating Officer. Steve and John will provide a business update, after which we'll take your questions. Before we begin, I'd like to remind everyone that comments made by management during today's call may contain forward-looking statements. These forward-looking include plans, expectations, estimates and projections that might involve significant risks and uncertainties. These risks are discussed in the company's earnings release and SEC filings. Actual results may differ materially from the results discussed in these forward-looking statements. And lastly, I'd like to point out that during today's call, management will refer to certain non-GAAP financial measures. Definitions and reconciliations to the most comparable GAAP financial measures are included in our press release. I will now turn the call over to Steve.

Thank you, Steve, and good morning, everyone. There is a lot to talk about this morning. UNFI quarterly results, how we're continuing to navigate the COVID-19 pandemic, and the strategy and plans we are preparing for our new fiscal year. But before we do that, let me say this. We stand proudly with the black community in solidarity to address the system of systemic racism in America and the most important work of ending these injustices once and for all. We believe black lives matter. As you know, over the past several weeks, we've seen firsthand the horrors of George Floyd's murder in one of our largest markets and home to one of our corporate headquarters, Minneapolis. And in the aftermath and protest that occurred in other major U.S. cities, the loss of life, any life, is upsetting when it's preventable, it's even more difficult to accept. Unfortunately, this entire event again spotlights the harsh reality, racial injustice specifically toward black American men and women punctuates the inequity in our country. At UNFI, we expect diversity and inclusion to be at the core of our DNA in the people we employ, how we conduct our business, and in our essential role supporting grocery retailers everywhere. We expect it to be at the core, but we would be misguided to tell you we are doing this perfectly today. We can and must and will do more. These systemic problems of humanity will not go away until we confront them head-on. That starts with speaking up, listening, acknowledging, and empathy to understand. And right now, we're listening, learning, and holding ongoing conversations with our associates to provide them with a chance to be heard, to share ideas or concerns, and an opportunity to offer honest feedback and suggestions. We've held several of…

Thank you, Steve, and good morning, everyone. I will cover our third quarter financial performance, balance sheet, capital structure and updated outlook for fiscal 2020. Let's start with sales for the 13-week third quarter, which totaled approximately $6.7 billion, up nearly 12% versus last year, driven by COVID-19 demand, cross-selling revenue and strong private brand performance. Sales in the supermarket channel, which represents nearly two-thirds of our volume, increased by 15%. Beyond the COVID-related demand, we believe this increase reflects shifting consumer preferences towards value in this time of crisis as well as an acknowledgment of the relevance, importance and trust of the local grocer. Our supermarket channel results include sales to customers with captive distribution facilities that have been pressured by the uptick in volume, reflecting the value UNFI brings to a broad range of customers. Supernatural sales were up over 16%, continuing its strong recent trends and expanded by COVID-19. Independent sales, representing 10% of total net sales, were down about 3% including a 900 basis point headwind from the customer bankruptcies we discussed last quarter. The growth in this channel, adjusted for the bankruptcies, was impressive given the pantry loading and value-seeking behavior that we believe favor the conventional supermarket. Finally, our other channel was down 3%. Included in this total is the strong growth from our two largest e-commerce customers, which was more than offset by declines in our food service sales and military sales. Third quarter gross margin of 12.85% declined approximately 37 basis points from last year's gross margin rate. The decline was driven by a product mix shift towards lower margin products as well as a decrease in vendor funding as manufacturers became less promotional, which was partially offset by lower levels of shrink compared to last year. Cost inflation in the third…

Thanks John. As I close my prepared remarks and to reiterate what John and I said, we're looking to finish this fiscal year strong, as reflected in our updated guidance. I spoke earlier about the reasons we believe sales will remain elevated for many months, the foremost being the recession we're likely heading toward and the heightened unemployment rates across the country. This will be reflected in the strong fiscal 2021 for UNFI, which will show incremental growth over a very strong 2020. We continue to believe that UNFI is the best positioned food wholesaler in North America. While COVID-19 pandemic has presented operational challenges and it's also provided a platform for us to demonstrate our true potential, UNFI has not changed, but the customer perspective of us has. COVID-19 has provided a platform for us to showcase the value of our people, our scale and our product diversity. Our customer conversations have drastically shifted from justifying the acquisition to displaying in capitalizing on the benefits of it. Our strategy is adapting to realize the full potential of the current opportunities and to further position UNFI for success beyond this period of incredible demand. We're more optimistic toward our future than ever before and look forward to updating you on our progress and accomplishments. We'll now take your questions.

[Operator Instructions] Your first question comes from Scott Mushkin with R5 Capital. Please go ahead.

So Steve, I was hoping to talk a little bit more about long-term margins and just get a feel for where you guys think that can go over time and how you get there?

You're talking about operating margins, Scott?

Yes, operating margins and EBITDA margins.

Yes. I mean, I think we are doing a lot of work finishing up the acquisition of SUPERVALU. We're still well on target to go beyond the synergies we had originally articulated. And as we look into the out years, we think that there is also more work to do about towards expense reduction, network optimization, and continued kind of activities that would just make us more efficient in the warehouse. I think, obviously we're going to have a really good year this year. Some of it's supported by COVID. But I - as I think about the current year, I think that it really proved out the acquisition of SUPERVALU, which I think we had a rough time with it in the beginning for a lot of reasons, not the least of which being the investor community. But COVID and the accelerated volume certainly proved out the fact that retailers want to buy protein, produce, general merchandise, conventional, natural, and everything else from one source of supply. They also, from an independent perspective, want services. And for those that had followed SUPERVALU, SUPERVALU had a pretty nice built out services building – business, and we're moving mountains to make it even bigger. I think we'd use the example of payroll as an example. We cut over 60,000 payroll checks a week. We have 25,000 associates. So, we're doing payroll for a lot of independents, but we're also doing a lot more than that whether it's planogram, data, e-commerce, and obviously the services business has much higher margin than wholesale. And so, over time, we'll put a lot more resources towards the growth of the services business. So, I think it would be unfair for me to comment about where the margins go. We'll certainly provide more color on that as we close out what has been a really volatile year in a good way.

And I just had - my follow-up question is more short-term. Obviously, revenues were really strong, but they did seem to be just slightly shy of what some of the other people in the industry are seeing. So, I was wondering if you could maybe shed some light on that? And maybe what's driving that, and does that change as we move over the next few quarters?

Yes. I mean, the only thing that's - that we obviously have talked about is we did have a pretty significant series of bankruptcies just before COVID hit. And so my guess is, if you adjust those bankruptcies back into the numbers, we are right where the industry is seeing the growth. What I will say is, we've done a remarkable job at seeing that revenue growth fall to the bottom line, and that's just as a result of integration, synergy, and a lot of discipline despite having spent $25 million on doing the right thing with our teams and keeping them safe and paying incentives and so on and so forth.

Next question comes from Edward Kelly with Wells Fargo.

Steve, I was curious if you could provide a bit more color on what you're seeing so far in the quarter, current quarter? And what it's saying about sustainability of food at home demand as states reopen? And specifically, I'm kind of interested in color that you may have on states that have opened earlier and what your trends are looking like there?

Yes. I mean, I can talk generally. I think we said in the script that the first couple of weeks of the fourth quarter have continued to show growth at around 11%. We certainly believe that the amount of meals that are eaten at home versus away from home are going to continue in a pretty significant way. I think most people are still going to be reluctant to sit in a restaurant for an extended period of time. That's part one. Part two is, COVID is not over. There are many states that have very high rates of infection. And as long as that continues, and we have every reason to believe it's going to continue until there is a vaccine, there is going to be just pressure to continue to eat more meals at home. The second part of it is we're clearly in a recession. We certainly feel that way. And history has proven many times over that during a recession, our business tends to do very well because people are much more careful about where they spend their dollars and that just means more meals at home versus away from home. So, I think we made a general statement that said we expected demand to continue, and we expect 2021 to be better than 2020, and we'll provide more clarity on where we see 2021 in September as we finalize the budget.

And then just a follow-up. I'm curious on the cross-selling and the ability to drive additional sales, obviously this period probably creates more dialog between you and your customers. Could you just provide a bit more color on how you're capitalizing on that? How does the $175 million compare to what you've seen in prior quarters? Just curious generally about the traction on the cross-selling.

Ed, this is Chris Testa. I'll take that question. Yeah, I mean look, if you look at the $175 million, that's our run rate for the year. Our Q3 accelerated because we did a couple of things. One, we put 1,500 and 3,500 natural, fast-moving natural SKUs into the conventional system, which means all those customers that wanted natural products could order them through their existing system, their existing promos, their existing invoice, their existing truck, and so forth. So we did that right before COVID. Obviously, COVID accelerated that penetration. What is ahead on the cross-selling is sort of the next level. We're taking cross-docking and moving it to actually replacing captive distribution or replacing conventional or natural distribution with our partners that are using our competitors or again captive. So, we expect that run rate to continue to accelerate through the balance of the year and into '21.

And one thing that we learned throughout all of this is, we tend to be pretty hard on ourselves, but we actually know distribution and we do it really well. And when you throw a little volatility into the system, you get a lot of people coming to UNFI for help. And whether it be for natural or conventional or general merchandise or certainly produce and protein, and we did provide a lot of help and we'll continue to provide a lot of help to even the largest retailers who relied heavily on us and continue to rely heavily on us or product throughout the system. And we just would not have been able to do that had we not done the SUPERVALU acquisition.

And just one last one for you on the integration. Can you just talk about how COVID has impacted the timing of the integration and synergy capture, if at all?

Sure, Ed. This is Eric Dorne. Our integration we did pause slightly to handle the surge in volume, but we have re-energized those efforts. We have learned how to do it in our virtual environment to maintain the safety of our associates and we are full steam ahead right now. So we anticipate no big implications from COVID and we're moving it forward.

Next question comes from John Heinbockel with Guggenheim.

Steve, two questions. If you look at double-digit top-line growth, how much of that is coming from average drop size increasing? Is that the bulk of it? And then secondly, if you look at the growth that you think you're going to continue to see, where are you with capacity? Have you particularly tightened some places? And if you are, how do alleviate that?

Yes. So let me answer the second one first. So again, one of the beauties of acquiring SUPERVALU was it gave us capacity in a lot of distribution centers around the country. And so generally speaking, we're in pretty good shape from a capacity perspective. And the amazing thing that COVID did for us was demonstrate that we could actually do more by DC than we ever thought possible and while keeping everybody safe with really rigid protocols. And so I would say generally, we're in really good shape from a capacity perspective. And a lot of that has been driven by the addition of the SUPERVALU distribution centers in the core markets, and we've been moving business around in order to make that work. As far as the drop size, as you might imagine, in our world, distribution, the bigger the drop size, the more you're putting on a truck, the more efficient everything becomes. And that certainly was the case and continues to be the case as you cube out the trucks, you weighted out the trucks, trucks are traveling less distance and that's a great call out. As far as how much of the growth was associated with just an increase in drop size, I'm not sure we've ever considered that question, but it's a good one.

And then your comment 2021 being better than 2020, is that sort of absolute better or do you - is it even remotely possible that the growth rates could be similar or better if we stay in a recession as you suspect?

Yes. So I - look, I understand the question. We can't go there yet because we just haven't finished the complexity of the 2021 budgets. Everybody is in the same boat, trying to figure out what 2021 is going to look like once you adjust for the COVID effect. But what we do know is, we see SG&A, we see cost, we see productivity. So we know that on an absolute basis when comparing '21 to '20, the numbers will be better. To what degree, I don't know yet. But I think it's important to call out that we're not going to see a number in '21 that's less than the number in '20 and blame it on COVID. That is not going to be the case for UNFI in 2021.

Next question comes from Karen Short with Barclays.

Steve, I wanted to see actually if you could give the actual cadence of growth, top-line growth in the quarter. And then I ask in the context of the 11% into the first four weeks of the quarter because I know there is a disconnect on top-line for you versus top-line at food retail just because CPI is kind of in that high four range versus in place that you called out in the 1% range. But I guess, not to diminish what you've accomplished, but the top-line in the first four weeks does seem lower than what I would have expected. And then the top-line range for the full quarter seems a little lower than what I would have expected.

Well, let me answer the first one. Let's keep in mind that, first of all, we're a $25 billion business. So 11% or 12% growth is a staggering number, staggering. And so the second thing that I would call out is, one of the things that's just really painful right now is fill rate. Our supplier fill rate is very low on both natural and conventional. And that's just a terrible loss sale for us and for the retailer. And the fill rate is certainly the lowest that I've ever experienced by or seen by 1,000 plus basis points. Now, I think we're going to see improvement because the manufacturers aligned with us and they're aligned with the consumers and everybody wants it to get better and we're going to make it better. The other thing that's making the top-line artificially less is that the largest manufacturers had discontinued on a temporary basis thousands of items to focus solely on producing the ones that consumers need the most. And so that will also start to come back as the overall growth rate stabilize and manufacturers can get back to some state of normalcy. What will also come is, the retailers are going to demand promotional allowances to put those products back on the shelf, which will also have a benefit to us. So I think it's a long way of saying that fill rate is the number one driver to sales right now. If you add back the two bankruptcies that we had just before COVID I mean, that's 900 basis points by itself. So we're right there in terms of overall growth. Actually the 900 basis points is not quite - the math doesn't work quite that well.

Yes, it's 900 basis points on that segment, right?

Correct. But more importantly to me is that the growth certainly continues. And look at what we've accomplished on the bottom line, which again was a lot of work, it didn't come easy. As far as the cadence of growth, I think we've talked about this before. And basically we saw the growth happened first in natural. So I think that was right around mid-March. Some, John or Chris can probably me correct me there. And then about three weeks later, we saw it start to ramp up on the conventional side, and then it's been strong ever since. Natural has come off a little bit, conventional has stayed high. Chris or John, anything else you want to add there.

No, that's about right, Steve. It started in natural in the coasts and then by mid-March, it was across all DCs, all customers, high double-digit growth.

Okay. And then I guess just going back to Ed's question about what you're seeing in terms of the country and locations or states, they're reopening and are further along in the reopening process. Is there anything to point to in terms of differences and top line in those markets versus the ones that are still kind of behind on that.

I don't think so, John, Chris?

I mean, it's a great question. Karen, if we're really early on in the period here and there are so many fluctuations. We had a lot of store. We had 150 curfews in place for the last couple of weeks in certain cities. So trying to factor in the impact of that stores closed in early. So it's really dynamic, it's hard to watch. It's hard to look at the month of May and really draw any conclusions about the impact of states reopening. I will tell you that in general the demands in May was fairly equal to that in April. As Steve said, our ability to turn that demand into sales really the biggest headwind right there is supplier fill rates. But in general the raw demand has remained consistent through the month.

Yes. And I think that's a good point over the last - I guess it's just over a week, maybe a little more than a week. We've got a lot of stores closed. We've had to reroute delivery times because of the protests that were going on.

That's fair. Okay. And then just wondering to switch gears, I know it's been all hands on deck for obvious reasons, but any update on the supernatural contracts. Obviously there is, you may have been distracted on that front, but any color that you can provide in terms of those conversations.

Yes, I mean, I'll take that one. I mean listen everybody's got to remember, this is a contract that goes out to 2025, that's 5 years from now. We don't have another contract that has 5 years worth of life, number one. Number two, I have no doubt that the contract will get done. Obviously, we've taken a break. They've taken a break. We've had to put our attention elsewhere. And usually we start talking about the contract extension for 5 years before the termination and that is going to proceed normally

Next question comes from Rupesh Parikh with Oppenheimer.

So just going back to Q4 implied topline growth. The trends right now I think you mentioned you're running plus 11% for the quarter, but your guidance implies moderation. Is that just conservatism at this point in terms how you guys are thinking about Q4?

Yes, no, I wouldn't call it conservativeness. I think what it ties into the topics that Steve and Chris have mentioned, which is the fill rate assumptions and our ability to get those back to a normalized level. The demand is staying high as we're trying to get the full rate back up where it needs to be okay.

So has the fill rate has it deteriorated - as it gotten worse of fill rate, or maybe you can help us understand what's happening with the storage?

It stayed roughly the same. We just had certainly in Q3, we had wonderful success translating all that in the sales with the fill rate, the way it was in its, as you might have imagine with the demand out there for the suppliers, it's tapered off a little bit, it's staying relatively flat and we've seen it actually tick back up in the past week or so. So, we're hoping that continues

And then one more quick follow-up. Just on the independent channels, so you guys called out 900 basis point impact related to the bankruptcies, is that the right way to think about the headwind until we lap the bankruptcies?

I think roughly, it is, it will vary a little bit with some seasonality but roughly until we get into the lapse in Q2 next year, I think that's the right way to think about it.

Next question comes from Chuck Cerankosky with Northcoast Research.

Jim, on for Chuck, first of all, congrats on the great quarter. Wanted to touch on margin, both top line and EBIT margin. You guys had mentioned, you see the vendors pull back on some of the promotional spend. Do you see that returning it whether over the next - we'll say like six to nine as some of the restriction start to ease up and maybe some of the food away from home trends normalize? Do you think the vendor dollars will be back in the channel? And then similarly on the EBIT margin, I know you guys have invested a lot in employee wages and procuring PB in the sanitation cost. Do you see any opportunity to leverage that kind of moving through the fourth quarter into the beginning of 2021, or maybe volume still stay elevated but you have a chance to pull back on some of that spending?

Yes. I'll start that one, Jim. So the vendor dollars will certainly return as there is putting the ability for the vendors to actually produce the product, and get it delivered out into the marketplace. There will be a time when the retailers are going to demand promotional activity to re-planogram those products and get those products promoted, whether it be through end caps or buy one get one free, but that's just the way the industry works, and it's likely that that promotional spending will return and that will be a nice tailwind for us. From a perspective of wages, we had $25 million of costs that we happily spent in the quarter. That will begin to dissipate as the incentives go back to normal, as the productivity returns, and we're in the process of doing that right now. So you'll definitely see that happen throughout the next couple of quarters and we will only do that when we know our people are safe, when we can make sure that we have to building staffed appropriately, and that's when we'll make a decision. We certainly believe that we're there today. We're watching the outbreak of COVID very carefully, but I absolutely believe that moving into the fourth quarter - the latter part of the fourth quarter and into next year, those costs will dissipate.

Okay. And as a follow-up to that, I know you had mentioned earlier, you might have come some concerns about whether a resurgence of COVID or some of the states that have reopened having kind of elevated levels. Do you guys have built in kind of a snap back for the wages to go back to where they are right now with the bonus pay or does is there any way that we should look at that? Or will you just keep them where they're at right now. And then only back them off when you're certain that there isn't going to be any sort of resurgence.

No, there is no automatic snap back. We expect like I said earlier, when we feel that it's safe and that we have an adequate amount of people in the buildings. Then throughout the distribution centers, we will remove the incentive and put back all the productivity standards. As far as whether we get a spike in a DC, which we will, I don't know that that would be enough to trigger incentives generally across the country, but we'll have to wait-and-see how it goes. I think of the way we're thinking about it Jim is, we're going to take off the incentives and the productivity standards when we feel the time is right, when it safe and there is enough people in the buildings. And we're pretty close to that point. Now a lot of retailers and wholesalers have already removed. We just haven't done yet.

Final question comes from Kelly Bania with BMO Capital.

Just wanted to talk a little bit more about retail and the decision to delay that. Just can you give us some more color on what your thinking is and why - what you're seeing in the M&A market that thinks that makes you think it's going to be delayed, so long?

Yes Kelly, I'll take that one. I mean, as you might imagine the M&A environment for retail, it's just poor, but not a lot of transactions happening especially a really healthy companies at multiples that I would say a shareholder and UNFI would be comfortable with. And so that's number one, number two is, when you look at the results of our retail banners our teams have just done spectacular work. They are an important part of the communities. The communities rely on them. And so they're just - they're doing really well. And so we don't want to own-retail forever, we've said that publicly, but we just don't feel like in the best interest of our shareholders, it's just not the right time to do it. We'll wait until there stability in the market, and there's demand for really healthy retailers and in the case of Cub was number one market share. And now it's not the right time to disturb the communities and everything that's going on with the retailing of food.

So I guess in that vein, can you understand us help us - or help us understand how healthy those businesses are, you're talking about 1.2 billion in retail sales. I'm not exactly sure how much Shoppers - how many stores are staying or going for Shoppers into discontinued ops versus continuing ops. What kind of same-store sales, those businesses were trending at? How they are now and just how can we think about what the health of those businesses?

Yes. So, John will give you some color on the second. We have a couple of Shoppers stores, a handful of stores that have yet to be sold. But they will be sold. We're just finishing up some of the work to do. So, the rest of them will be capped and be operated up underneath Cub, so Cub will actually provide the infrastructure. And to give you some clarity we're in the process of separating retail entirely from UNFI, right now it's complicated as you know. And we think it's probably going to take us better part of, might say 9 to 12 months to fully separate the two companies. But I think we can give you some color. John, do you want to take a swag at it?

Yes, Kelly. I'll tell you how I think about it, if you just looked at that combined retail business of Cub in the Shoppers stores that we're going to move to continuing ops, they do roughly $2 billion a year of sales, might be a little bit more this year with some of the COVID activity, but they do roughly 2 billion a year and the reason the 1.2 is called out is because there are some of the inter-company sales from our warehouses to those retail stores that we have to eliminate so that net increase will be roughly 1.2 give-or-take. And then just thinking about the earnings, I think if you just looked at a sort of a normalized view of a 5% EBITDA margin, I think that will give you these rates, gets in the ballpark of how we think about the earnings for that company. And the other thing just to build on Steve's comment as we think about carving out Cub, making it stand-alone over the next 9 to 12 months, we're also proactively looking for MEP solutions, so that we can make that chain even more remarkable when we get to that stage.

And I guess just the last - this is helpful, but the last one is, do you anticipate investing in these stores over the next 24 months?

Yes. So we certainly have a cadence of store renovations that we will continue to do. We're also investing in technology to update their technology platform, to give them better access to data, among other things. So there is some nominal spending that's going to take place in retail certainly over the next two years until we sell it.

Steve, I think that's the end of the callers. So I wanted to thank everybody for participating. If you have any follow-up calls, I will be in my office today. And with that we will - talk to you with our fourth quarter. Have a great day.

Thank you, everyone,

This concludes today's conference call. You may now disconnect.