US Foods Holding Corp. (USFD) Q1 2021 Earnings Report, Transcript and Summary

Ladies and gentleman, thank you for standing by, and welcome to the Quarterly 2021 Performance Review. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to your first speaker today, Ms. Melissa Napier. Ma’am, the floor is yours.

Thank you, Laurence. Good morning, everyone. Welcome to our first quarter earnings call. Today, we have Pietro Satriano, our CEO; and Dirk Locascio, our CFO on the call. Pietro and Dirk will provide an overview of our results for the first quarter of fiscal 2021. We’ll take your questions after our prepared remarks conclude. Please provide your name, your firm and limit yourself to one question. During today’s call and unless otherwise stated, we’re comparing our first quarter results to the same period in fiscal year 2020. References to organic financial results during today’s call exclude contributions from Smart Foodservice, which we acquired in April of 2020. Our earnings release issued earlier this morning and today’s presentation slides can be accessed on the Investor Relations page of our website. In addition to historical information, certain statements made during today’s call are considered forward-looking statements. Please review the risk factors in our 2020 Form 10-K for those potential factors which could cause our actual results to differ materially from those expressed or implied in those statements. Lastly, during today’s call, we will refer to certain non-GAAP financial measures. All reconciliations to the most comparable GAAP financial measures are included in the schedules on our earnings press release as well as in the appendices to the presentation slides posted on our website. I’ll now turn the call over to Pietro to get us started.

Thanks, Melissa, and good morning, everyone. Today, we’re going to focus on the recovery, the recovery which has been extremely good news for our industry, the recovery that has also called in our associates to work harder than they had before. So, I do want to take this opportunity to recognize our 26,000 associates, whose tireless commitment to serving our customers over the last several months has truly been second to none. In this call, we’re going to cover three themes which are outlined on page two. First, our industry continues to recover and we are participating in that recovery in a meaningful way. During the last few months, we have seen a steady increase in volume and restaurant traffic, as in-person dying restrictions continue to be lifted. The recovery that we have seen over the last few months and our rebound in sales from markets that are mostly open, gives us the confidence that the industry will fully recover to, if not exceed 2019 case volume levels. Second, our scale and differentiated strategy is driving market share gains across most customer types as our technology, innovative products and team of industry specialists have provided customers with the necessary resources and tools to thrive in the current environment. And third, as case volumes have begun to recover, we have seen our financial results strengthen. We expect our financial results to continue to improve as the recovery continues. But, the same recovery that is driving volume gains is also driving tightness in labor for customers, distributors and manufacturers alike. We believe, however, that this tightness to be transitory and to ease in the latter part of the year. Moving to slide 3, the foodservice industry is experiencing a recovery as in-person dining restrictions ease around the country, plus COVID-19 vaccine distribution becomes more widespread. The chart on the left shows that traffic at restaurants recently exceeded traffic at grocery and convenience stores, and is very close to returning to pre-pandemic levels. The recovery has been driven not only by easing restrictions, but as importantly, by consumer sentiment. As shown by the chart on the right, consumers are becoming increasingly more comfortable eating out. A trend we expect to continue as vaccination rates increase and COVID cases continue to decline. And last, even if dining out continues to recover, we expect some of the increases in off-premise buying to become permanent, which augurs well for food-away-from-home to continue to gain share from food at many. On slide 4, you can see how the recovery trends that I just spoke about have impacted our case volumes for each of our main customer types compared to fiscal year 2019. Since the beginning of 2021, we have seen a steady increase in monthly case volume with our restaurant and hospitality customers. This is highlighted by restaurant case volume exceeding the quarter with volume levels that were above 2019. While the recovery -- while the industry recovers, certainly part of the story behind our recovering volumes, we are also gaining market share. First, let’s talk about restaurants. Chain volume for March in April was ahead of 2019. And for independents, volume for March was flat to 2019 and above 2019 for April, and a positive trend has continued. The Mother’s Day week that we just concluded on Saturday had the highest shipments to independent restaurants for legacy business of any Mother’s Day week in five years with a 6% jump over 2019 Mother’s Day week. Here, we know that consumable upsides still exist. In markets where local jurisdictions allow more than 50% seating, volume is well ahead 2019. This includes much of the south and southeast and a few other geographies. In markets where even less than 50% or less than 25% seating is allowed, like the northwest, volume is well below 2019. So, as restrictions get lifted everywhere as vaccination rates continue to increase and as consumer sentiment continues to improve, we expect that all markets to move into positive territory. Hospitality: The hotel portion of our hospitality business is recovering as leisure travel returns and occupancy rates recover, with occupancy rates now being only 500 basis points below a year ago. We expect this trend to continue. Consumer surveys highlight that travel, next to dining at restaurants, is one of the top things that consumers are looking forward to doing. Our portfolio of hotel customers leans more towards the leisure side of the industry, positioning us to take advantage of the increase in leisure travel that is expected as the economy reopens. Our health care case volumes continue to remain steady in the negative 10% range, which is where it has trended for the better part of the last year. Restrictions on visitors at hospitals are just starting to be lifted, and hospital cafeterias are just beginning to reopen. We also expect that occupancy rates of senior living facilities, which have declined over the past year, will start to normalize as vaccination rates increase. Both of these factors, plus recent wins in the health care area, will indicate that health care case volume will ultimately return to pre-COVID levels, if not higher. For nationally managed customers, which remember includes national chain, health care and hospitality, you will remember that in 2020, we added $800 million of new customer wins, which is driving some of the increases we are seeing. In the first quarter of 2021, we added $200 million of new customer wins, and our pipeline for the balance of the year is very healthy. Lastly, and for national chains specifically, the contribution margin at which we are signing new customers is well above the average for that portfolio and above the margins associated with recent wins. Turning to page 5. As I’ve discussed, an important factor behind growing case volumes has been the recovery of our industry. But an equally, if not more important factor, has been our market share gains across most customer types. The driver of our market share gains continues to be a Great Food Made Easy strategy, which aims to help customers succeed by taking advantage of our leading technology, our innovative products and our team of experts that support our sellers. Let me give a few examples of how our core programs and our strategy have evolved to meet changing customer needs and contribute to recent market share gains. First, on the technology front. Recent research and comments from new customers indicate that our technology still performs -- our technology platform still leads the industry. For example, for larger customer wins, like the $1 billion of wins in the last five quarters, we track the main reason why customer switches to US Foods. In many cases, the determining factor is a combination of our technology and our service model. We see that especially with health care and large chains where technology makes it easier to manage menus and control costs across multiple locations. Similarly, for independent restaurants, we continue to enhance the functionality to make our technology even easier to use. Some recent enhancements include mobile pay functionality and the ability for customers to see our inventory in real-time. This visibility provides real value to customers especially at a time when the industry is experiencing some volatility on the part of manufacturers. Second, on the product innovation side. I mentioned on our last call how COVID has resulted in a shift in the products that customers rely on the most. The three big trends that we observe are off-premise dining, the need to mitigate labor challenges and products that promote well-being, which includes plant-based products. Our Spring Scoop, which launched in February, featured products exclusive to US Foods but addressed all three of these operator needs. As a result, we saw a trial of these innovative products in line with historical norms, which we know contributes to increased retention and market share gains. Our upcoming Summer Scoop will similarly feature products that take labor out of the kitchen, especially ingredients or components that require intense preparation. These labor-saving products enable restaurants to maintain interesting options on their menu and continue to add innovation to their menus. We’re also expanding our range of products that support the continued growth in off-premise dining, such as tamper evident packaging and grab-and-go products. Note that our 2020 corporate social responsibility report was published two weeks ago. This is a comprehensive review of our progress in our three pillars of people, product and planet, of which our line of 900 Serve Good sustainable products is an important component. The report is available on our website, which I encourage you to visit to learn more about our... The third and final part of our Great Food Made Easy strategy is our dedicated team of industry experts that are available to help customers run their business more effectively. Since the beginning of the pandemic, we have had a dedicated team of restaurant operation consultants helping customers access CARES and Restaurant Revitalization Act funding. Starting with our first webinar in April 2020, the team has held weekly webinars and conducted over 7,500 one-on-one consultations to help customers understand and navigate available funding options. We estimate that our team has assisted customers in accessing over $1.5 billion in funding since COVID began. And as early as mid-February, this team was conducting webinars on helping customers be prepared to access the Restaurant Revitalization Fund even before the legislation was signed into law. These efforts are truly making a difference to customers. As illustrated by this email we received from a restaurant owner in St. Louis, which I’d like to read to you now. "The information you supply is a game-changer. My payroll company said they found $300,000 between both my businesses. I’m not sure how to thank you. You are literally changing people’s lives." This is what we mean by “we help you make it”. Now moving to slide 6. Another key part of our strategy has been the acquisitions of Food Group and Smart Foodservice. The Food Group acquisition allowed us to dramatically improve our distribution footprint in the Northwest, giving us a presence in this growing part of the country and making us more attractive to regional and national customers. The acquisition of Smart Foodservice enabled us to scale our entry into the cash-and-carry channel, a more profitable and faster-growing channel in the foodservice industry. Not only does this channel provide a more attractive growth and margin profile and enables growth and share of wallet with our existing delivered customers while extending our reach to target customers we weren’t previously serving. Let’s spend a few minutes talking about the progress we have made on the integration of Food Group and the future growth opportunities cash and carry presents. Starting with Food Group. The warehouse systems conversions are progressing well. Since we last spoke, we have completed two additional conversions, Portola 4, [ph] and we are on pace to have all of the Food Group warehouses converted to US Foods operating system in the second half of this year, in line with our original plan. If you recall, completing the warehouse system conversion is a key enabler to unlocking the $65 million of annual run rate synergies. In 2020, we made good progress on synergy capture, especially on the product side. And we remain on track to capture the full $65 million synergies by 2023 with 80% captured by the end of 2022. We’ve also begun to expand Food Group capabilities around meat and produce to the rest of the US Foods network. And we are excited about the enhanced product offering this will bring to customers around the country. The Smart Foodservice business continues to outperform our delivered business as it has throughout the pandemic. Same-store sales for April are ahead of 2019 as restaurant demand continues to recover, and we continue to benefit from some direct-to-consumer sales, sales that we are getting without modifying our business model. On our last call, I mentioned that we would be rebranding all Smart Foodservice locations to the US Foods CHEF’STORE brand. I’m pleased to report that the rebranding effort is now complete and customers have responded well. With the rebranding complete, we have begun to fully leverage the power combining these two channels by offering both, sellers and customers, incentives to shop the two channels. As a result, we are seeing delivered customers increase their purchases from CHEF’STORE with minimal impact on the delivered business. This multichannel offering is an advantage that no other competitor has access to. Lastly, the conversion to the CHEF’STORE brand will help facilitate our expansion into new geographic markets in which US Foods has an established presence. Having covered the first two themes of our presentation, first, the continued and expected recovery of our industry; and second, how our scale and differentiation strategy is contributing to driving market share gains, I want to spend just a couple of minutes talking about the current operating environment that I referred to in my opening comments, after which, I will turn the call over to Dirk. As I’m sure you are all too familiar, all elements of the value chain are facing labor shortages. We here have restaurants having to close one day a week to give their staff a break. In some markets, hiring drivers and selectors is taking longer than expected. And lastly, some manufacturers are having trouble meeting the growth in demand. We believe that there are a number of factors contributing to this environment, including workers who have temporary left labor force, extended unemployment and the remarkable but as yet incomplete progress on the vaccine front. We believe that all these factors will sort themselves out over the next two to three quarters. In the meantime, we are working hard to mitigate these factors, so as to meet increasing demand on the part of our customers. First, we have added significant inventory, a 25% increase in days on hand and on order, as well as working very closely with manufacturers. And second, we are making use of onetime sign-on referral and retention bonuses to avoid embedding these wage pressures into our cost structure. Lastly, we are pleased with how the recent changes to our operating model have helped mitigate some of the supplier and labor pressures the industry is experiencing. You will remember that, by reducing the number of regions to 4, we freed up some resources, which then shifted to centers of excellence, whose aim is to quickly develop and deploy best practices across the country and which has helped us in this environment. I will now turn the call over to Dirk for a discussion of our first quarter financial results and how we have positioned the business for earnings growth.

Thank you, Pietro, and good morning. I’ll begin on slide 9, where I’ll cover a few highlights for the quarter. As Pietro referenced earlier, case volume improved as the first quarter progressed, especially with our restaurant and hospitality customers. This resulted in a corresponding improvement in adjusted EBITDA as we moved through the quarter. These volume trends have continued in the early part of the second quarter as the recovery continues to take shape. When comparing last month’s restaurant volume and trends compared to April of 2019, independent cases trended modestly ahead while chain cases were well into positive territory. Gross profit per case for the first quarter of 2021 was below Q1 of 2020. However, the recent improvement in case volume has driven an improvement in gross profit per case as our customer and product mix has started to return to pre-COVID levels. Our gross profit per case improved over the course of the first quarter as volume and mix improved. We saw higher product cost inflation in Q1 2021 than we did in prior quarters, which is negatively impacting our gross margin as a percent of sales. Much of the 2.7% product cost inflation we saw in the first quarter was in center-of-the-plate categories that may persist in coming quarters. If you recall, center-of-the-plate items such as beef and poultry, and some customer contracts are typically priced with a fixed fee per case markup. So, when we have higher inflation, gross margin as a percent of sales can compress for these product categories and customers, even if we are making the same amount of gross profit dollars in each case we sell. Comparing to Q1 of 2019 for a moment, our gross profit per case was negatively impacted by higher freight costs as well as the continued, albeit improved, negative mix impact already noted. As our case volume of corresponding mix continued to improve, we expect the gross profit per case will also continue to improve. And when we compare our gross profit per case to 2019, the gap for the first quarter was the smallest it has been since COVID began. Looking ahead, we expect to see continued headwinds in gross profit per case from the tight freight market and expect mix to improve as case volume improves. Although we expect the higher freight cost to be transitory, we do think they will remain a challenge for the next two to three quarters. On OpEx, over the last few quarters, I’ve spoken about the $180 million of fixed cost savings that we enacted in 2020. These cost savings are contributing to our results, and we are beginning to see the fixed cost leverage return as case volume recovers. We’ve begun thoughtfully reinvesting some of the 2020 savings back into the business to further enable sales growth and earnings improvement. We’re reinvesting approximately $50 million, primarily to support growth in both, our local and national selling organizations as well as within some key areas such as supply chain to further improve our results and customer experience. This equates to roughly two-thirds of the $180 million ultimately flowing through as permanent cost savings. Slide 10 shows our net sales, adjusted gross profit and our adjusted operating expense results for Q1 of 2021 and 2020. Net sales dollars for the quarter were down slightly compared to the first quarter of 2020. And you’ll recall that only the last three weeks of the first quarter of 2020 were heavily impacted by the rapid onset of COVID-19 and the business closures across the country. Our adjusted gross profit dollars for the first quarter declined 2.7%. And our adjusted gross margin was down 30 basis points compared to prior year. Freight costs, customer product mix and higher product cost inflations were headwinds to adjusted gross margin in the quarter compared to Q1 of 2020. We do expect case volume improvements with independent restaurants, health care and hospitality to have a positive impact on our adjusted gross margin going forward. Adjusted operating expenses in the first quarter decreased 2.6% in dollars and improved 30 basis points as a percent of sales. The improvement in adjusted operating expense as a percent of sales is largely due to the cost savings initiatives we’ve put in place over the past year and the sales inflation impact. On a dollar basis, the reduction in cost is primarily due to lower volume and the cost savings initiatives, partially offset by approximately $25 million higher bonus expense in Q1 2021 than Q1 2020. The first quarter of 2020 had a negligible amount of bonus expense. The lower fixed cost base that we operate from today will continue to benefit us as case volume returns, with a larger percentage of gross profit dollars flowing through to the bottom line. We do expect that supply chain cost inflation will be transitory OpEx, but will be a headwind through 2021. We expect the cost increases to be transitory until the workforce increases and the hiring demand from the recovery subsides, likely later in the year. On slide 11, adjusted EBITDA was $172 million, adjusted net income was $27 million and adjusted diluted EPS was $0.12 for the first quarter. As I mentioned earlier, adjusted EBITDA improved as we moved through the quarter and the second quarter has started out very similar to how the first quarter finished. We remained in a GAAP net loss position for the first quarter and as a result are not reflecting the additional shares from the preferred equity transaction in our adjusted diluted EPS number for the quarter. We do expect to return to positive GAAP net income in the near future and will reflect the additional shares at that time. And as Melissa noted at the beginning, reconciliations of our adjusted numbers are included in the press release and the appendix of the presentation. Just to wrap up, moving to slide 12. Share gains, cost savings initiatives and the operating model changes have and will continue to improve our effectiveness and our results. These, combined with the leverage from volume returning, have positioned us to take advantage of the recovery and drive earnings growth well into the future. Share gains with both large and small customers since the recovery began last summer have strengthened the top line, and we continue to pursue profitable new business and believe that our differentiated strategy and scale give us an advantage over many of the distributors in our industry. As I mentioned earlier, we do expect some transitory headwinds related to freight and supply chain labor over the next two to three quarters. Our business has historically produced strong operating and free cash flow. As the recovery continues, we expect to return to generating a healthy level of free cash flow. And this cash will be used to reinvest in the business and reduce our outstanding debt balance. In April, we used cash on hand to pay down $150 million of outstanding debt, and we’ll continue to make debt paydowns as the recovery unfolds further through 2021. We still expect to operate the business at a 2.5 to 3 times leverage ratio through a combination of improved EBITDA and debt paydown. Pietro said at the beginning, the recovery is underway. And our second quarter case volume is off to a good start. At this time, it’s hard to forecast the precise timing of the recovery as it may not necessarily progress in a linear manner, but we do see restaurant demand improving as more markets remove restrictions and as warmer weather allows for more outdoor dining in additional parts of the country. As a result, we expect continued improvement in Q2 adjusted EBITDA compared to Q1. Over the last 30 years, customers have shown a consistent preference for eating away from home, and we expect this trend to continue. We’re confident about the future of U.S. Foods and the industry. Operator, at this time, we can now open the call for questions.

[Operator Instructions] Your first question comes from the line of Kelly Bania from BMO Capital.

Hi. Good morning. Thanks for taking our questions. Wondering, first, just on the comments on freight, if you can help just -- help us understand the magnitude of the headwinds, how much you’re using third-party freight on the spot market versus contract and just how we should think about modeling that over the next couple of quarters.

Sure, Kelly. Good morning. This is Dirk. I’ll take that. And so, although we haven’t talked about the specific breakouts, we do manage -- a large portion of our freight is kind of relatively split between, where a vendor delivers it using their carrier and where we arrange for delivery either with one of our trucks or contracting directly with third parties. We do use spot rates. In a normal environment, it’s relatively small. When we use third parties, we do try to contract with them. And then, it can be using a little more as you have more volatile environments like we’re in now. What I would say is this. So, our teams are not standing still. They’re working closely with vendors on opportunities where we can continue to work with them to try to increase their freight allowances to look at our -- within our own four walls, on optimizing our freight network. And it is -- it remains a challenge. It’s not -- a little different, but kind of the same idea as 2018. But what we have seen in cycles over the years is that, when you have this tightness that additional capacity does tend to come into the market over time. And so we’re working in the short term to try to mitigate it. At the same time, if we see capacity coming back later in the year, we think that will help as well. So, remains a challenge, but not something that we expect to be sort of a permanent impact within the industry or our business for the longer term.

Okay. That’s very helpful. And just a follow-up, maybe just a little bit more color on the decision to reinvest some of the cost savings. I think it was $50 million back into the business. Just a little more color on that thought process and what you expect to get out of that reinvestment.

Sure. So, from the very beginning, we’ve said that we expect to reinvest a meaningful portion of that, and we’ve talked about how we expect the majority of the savings to remain permanent. And so today, it’s providing a little more specificity. And so, the reason that we’ve progressed in recent months and moving ahead on those things is really a few things. One is we see more opportunity in recent months for market share gains than we did pre COVID. And we really want to take advantage of that, especially in some markets, so have begun that reinvestments on the local side and then on the national side, as well as we see the demand in the pipeline. We’ve also onboarded a fair amount of business in order to support that effectively. And then, to a lesser extent, it does remain an opportunity really to continue to upgrade some talent in some cases. The new hires are typically not the same individuals, but really is to continue to support growth and accelerate share gains as we move ahead.

Your next question comes from the line of John Glass from Morgan Stanley.

Dirk, maybe just go maybe broader and talk about the costs you’ve incurred that you would view as unusual this quarter. So, you mentioned freight. Undoubtedly, there’s some hiring costs. You talked about some onetime bonuses. What are the unusual, or what do you view as kind of onetime? And as you exited the quarter, are those costs still accelerating on that as to say should we expect greater cost pressures in the next couple of quarters, or is the first quarter kind of representative of where you’re running now and you would expect to until this sort of unwinds later in the year.

Sure. Good questions. I think that a couple of things I would highlight. So freight, as you pointed out, that’s really been embedded for the last quarter or so, and I think will continue in similar magnitude for at least the next few quarters. On the gross margin, sort of mix continues to be a bit of a headwind, although as I mentioned, continues to improve as volume comes back on that. I think, from an OpEx perspective, so the main unusual things, there’s not anything necessarily large that I would call out as unusual. There’s always some incremental costs from small amounts from some of the storms in February and such. But, the things around labor that you’re getting at, when we and others talked about hiring in advance, because the recovery happened so fast, that was less of an impact in the quarter. And so, therefore, some of the retention and hiring, we’re seeing a little bit of it in the quarter. We’ll see some continued ramp-up over the next couple of quarters as we continue to hire additional individuals to support the recovery. So, a little bit higher cost, but again, expect most of those to be transitory through the balance of 2021.

And if I could just follow up, you talked about some favorable contract rates in categories versus prior. Is there pricing power in this industry? I understand independents, you might -- since things are running hot in the economy and restaurants raising prices, are you able to pass on maybe price increases greater than inflation? And when you now contract, are you getting a bit more wiggle room on pricing or is that just not the case?

Sure. So, I’ll maybe break it into local and our larger national contract customers. And so, on the local side, so with the inflation, to your point, the combination normally in an inflationary environment, you can see some compression when that inflation happens for the -- immediately, and then it gets passed through. In this environment, you have the combination of the inflation with some supply challenges in different categories across the industry and not just us. So, our teams, our commercial teams, pricing teams have worked very, very closely and have done a really nice job through here of really taking -- sort of managing that very well to be able to pass through that inflation and gain a little bit of pricing as we’ve gone through there, but again, trying to price very fairly to our customers. On the national side, we’ve continued this journey over the last few years where our national sales team has done a really nice job of really all the new business that we’re bringing in is higher margin than typical in those and continue to take advantage of the tighter pricing environment that we remain in. So, it definitely is on those customers a much stronger pricing environment than it was a few years ago. And depending on how certain things play out in the environment today, that may continue even to a greater extent. But, I think that’s where Pietro made the comment earlier. So, we try to be priced fairly to our customers. But at the same time, there are things that are different. And we work with our customers on things like our service model, our technology, et cetera, that we don’t necessarily have to be the cheapest, if it’s adding the most value to them in the environment we’re in and that balance that really helps both of us win.

Your next question comes from the line of John Heinbockel from Guggenheim.

Let me start with -- can you give us a sense of -- if you think -- if you look at drop size, average drop size now that we’re starting to cycle COVID, lines per customer, volume per line when you sort of look at the productivity of the business. So, what are you seeing with regard to those? And is drop size up nicely from maybe where it was a year -- well, certainly a year ago, but pre-COVID?

Yes. I’ll take that. So, drop size is up above what it was a year ago, John. That’s probably a combination of recovery on the part of demand and also market share gains and consolidation. It’s hard to tell how much is from each, but we are definitely in March we saw higher drop sizes compared to a year ago.

Okay. And then, maybe take a longer-term view, right? So, if you look back, so pro forma for the acquisitions, right, I think EBITDA was $1.4 billion, give or take. Between synergies and proactive cost reduction, that’s $200 million or so. When you look at where the business can be in three to five years, A is, do you think it’s substantially greater than where you were pro forma? And then, from a margin perspective, right, can this business be 50 to 100 basis points more profitable than it was pro forma, in part drop size going up as well? Just -- I know it’s a long time out there. But conceptually, where do you think this business ends up?

So, maybe I’ll start, and then Pietro, if you want to add in anything. I think -- so John, to your point, I think you’re thinking about it in the right way. So, we do think that the business is on a good trajectory now of getting back to that pro forma. And then, we think that’s, to your point, some of the -- between the synergy realization, the other cost saves as well as the new business wins, really positions the business to grow EBITDA dollars from that base to get to that stronger and higher number over time, and kind of continued EBITDA dollar growth as we’ve done in recent years. I think, from a margin perspective, as you’ve seen us pretty consistently do over the last four or five years, we really try to balance. It’s focusing on growing EBITDA dollars because that’s ultimately we take to the bank, but really taking advantage of those opportunities where you can create higher margins overall from whether it’s drop sizes, continued logistics optimizations, private brands, customer mix, all those kinds of things. And so, we do think that continues to give us opportunity for margin improvement on rate as we move ahead. So, really both, dollars and rate opportunities remain out there.

Your next question comes from the line of Alex Slagle from Jefferies.

Just following up on that last question, maybe tightening the timeframe a little bit, just want to get a feel for the sales volumes needed in the current environment versus 2019 levels to get back to a, say, 4%-plus adjusted EBITDA margin level, just knowing you have been staffing up and investing ahead of the curve, and we’re dealing with the tight labor market and freight. Just any color here or commentary on recent EBITDA margin run rate exiting the quarter would be helpful.

Sure. So, I think that we’re going to stay away from a specific number because, as some of our peers have talked about, just the exact recovery and mix of business as it comes back and have some impacts on there. But, what I will tell you is, just to kind of build on my last answer is, as we get sales volumes truly back to where they were in 2019, we expect that our business should be bigger because of the wins we’ve had. And we think that that should drive incremental dollars. I think that the other -- the thing that’s a little harder to tell in the short term was some of the freight challenges that, again, are more transitory. So, if you assume some of those normalize as we get into, say, 2022 and such, we think that as that business and the core truly recovers, that we get back to that pro forma number and grow from there. So, I know it’s not as specific as you wanted, but it’s really again because of -- not knowing as an industry exactly how things recover. But, we do firmly believe that the business is stronger and can generate more EBITDA on similar sales because of the different actions we’ve taken and the strong -- and then, grow from there with the strong customer wins that we’ve had over this past year or so.

No, that makes sense. On the independent case growth, just wanted to dive deeper behind the drivers behind the strong rebound. Is anything specific that stands out? And I guess, just some thoughts on the potential for further acceleration ahead, I mean as, I guess, the broader supply chain issues likely create an even wider gap between the haves and have-nots and food service distribution, I guess, some of the stronger inventory positions and able to make deliveries might fare better than those that are a little bit more constrained?

Yes. So, we -- look, I think the best sign is the fact that April volumes were above 2019, and that’s despite the fact that there’s still a considerable number of markets, probably around a third, around the country that are still at 50% occupancy or maybe even below that. So, as those markets recover, we see more upside in terms of when our ability to gain market share. You’ve hit on some of the things that -- our scale, which allows us -- our balance sheet, which allows us to provide better service. We look at our net promoter scores in terms of us versus our competitors who are doing well on that front. So reducing opportunity in terms of independents to come from both the recovery in some parts of the country as well as continuing to gain share.

Your next question comes from the line of Lauren Silberman from Credit Suisse.

Another question on the independents side, really nice recovery with the case growth trend positive in April. Can you help us better understand the dynamics between new customer acquisition, expansion of wallet share and comp, I guess, declines in the case volume? And then, perhaps, are you willing to share what percentage of independent customers you’re serving today relative to pre-COVID?

Dirk...

Sure. I’ll start and maybe you can add on. So, I think from -- overall for us -- so, our customer counts on the restaurants are still down a little bit compared to 2019. But, each month that’s going by, it continues to get better. And that’s the combination of as more markets and more of our existing customers reopen as well as the net new customers that our sellers are continuing to bring on board. So we’re feeling good about the trajectory of that’s going. And then, Pietro mentioned we’ve seen some nice basket size increases from customers and really looking to continue to build on that and hold some of those gains. So, overall, both in the right direction. There’s always things you can do to continue to improve. And so, those are the things that we’re focusing on as well. And Lauren, would you mind just repeating your last part of the question versus -- about something versus 2019?

Yes. I was just -- I think you had answered it, but I was -- the two kind of parts were understanding the dynamics between what’s driving the independent case growth? And then, second to that, what percent of independent customers you’re serving today versus pre-COVID.

Okay.

And just as we think about that business in 2022, 2023, how do you envision the business mix to evolve, if at all, given some of your national wins and independent customer wins as well?

It’s harder to tell exactly in 2022 for some of the same reasons that I talked about earlier of not knowing exactly at what pace hospitality or other recovers. But, I think that over the longer term, as you -- that view, we would expect the business to be similar for the shorter term, some of the wins you hadn’t changed. That’s probably a little bit higher. But, as you can see, our independents are recovering and are growing pretty quickly. And so, in that case, that’s at the high end of the margin spectrum. So, that helps over time. So, over the longer term, our focus on the target customers is really unchanged with growing at 2x the market on independents, growing at market in health care and hospitality and then being very opportunistic on chain and other, and in this case, with chain over this past year or two been opportunistic. And as I’ve said a few different times, it’s not been about just bringing cases through the door for us. They have to be profitable cases. And the national sales team has done a really nice job of optimizing for that.

Your next question comes from the line of Edward Kelly from Wells Fargo.

I’m kind of curious on capacity. Can you just talk about where you currently stand from a capacity standpoint, given the challenges you mentioned on the labor side and the inventory side? You’ve had the best quarter-over-quarter improvement case growth-wise relative to your peers here. But, I’m just kind of curious as to how you’re positioned for the coming months. And do you think that there is some constraint around capacity or whether you’ll be able to navigate that?

Okay. So, the capacity really is on two fronts. I think that you referred to, one is drivers and selectors. And now, we are looking to extend capacity. We’re short about -- particularly about 1,000 drivers and selectors across the network from where we’d like to be as the recovery continues. And as I mentioned, we’re looking really hard to -- every week, we cut that number down to a number of factors, not just on the monetary side, said too what other things we’re doing to attract selectors and drivers, I think one of our peers said. These are good jobs. They pay well, they pay good benefits. We’re just having to ramp up the hiring machine more quickly and more than we have in the past. As we’ve said, recoveries happened really quickly. On the inventory side, I think we are working with our vendors to make sure we have the right inventory, reserve committed to us. Where we have excess capacity in our network, we’re taking advantage of that. And so, from an inventory perspective, we’re doing all the right things, as Dirk said, right, to really serve our existing customers and continue to add customers that are very profitable and accretive to our P&L.

Okay. And then, just a follow-up for -- maybe for Dirk, I guess. How are you guys going to be presenting the convertible preferred? So, it looks like the dividend came out of the $0.12 this quarter. I’m just kind of curious because I -- hopefully, we’re all going to model this correctly now going forward. But, how are you going to be presenting adjusted EPS as it relates to the converts? Thank you.

Sure, Ed. Yes. As you noted, we did make a change this quarter to show it adjusted diluted for net income, not net income available to common, sort of to be a little bit clearer on that. And also, -- so that would be sort of -- hopefully, we’re not in a position of a GAAP net loss much longer. But, while we have that, this would be the way we would show it. What will happen, as soon as we return to GAAP net income, so likely in the coming quarters, is you would not include the dividend, instead it would show the roughly 25 million shares in your diluted share count in order to get to a diluted share base. And if you guys have further questions, you can ask Scott and Melissa. But, hopefully that helps.

Your next question comes from the line of Peter Saleh from BTIG.

Great. I want to come back to your comments on the increases in off-premise dining, which you guys believe will be -- become more permanent. Can you just give us a sense on what gives you that confidence to see that those sales remain permanent? And is there any difference between chains able to retain those versus independents, or is it kind of broad-based across the segments?

Sure. So, look, there was a real spike in off-premise dining during the early part of COVID. I think what I was trying to say was some good portion of that incremental business will stick. I don’t know about all of it sticks. It’s hard to tell at this stage. But, the assertion is based on talking to customers and also talking to our partners. As you know, we have a good relationship with ChowNow, which helps enable off-premise dining. And based on what they’ve shared with us, it does look like some of that will definitely stick.

Great. And if I could just ask on your customers using your technology, I think you said it’s one of the top reasons why customers will switch and use your mobile pay and real-time inventory, which I think could be a real benefit to them. Can you give us a sense on how much of your customer base today is utilizing this technology and with the opportunity still ahead? And how does that compare to 2019 levels?

Sure. So, the -- just to clarify, the point I was making in terms of where we track reason for switching, that was with the large customer wins, and that was a combination of the technology and the service model, which is one point of contact, consistent offering across all our network. We don’t have to negotiate with a different OpCo for promotions. So I was referring to that part of it. We have historically talked about our e-commerce penetration as being indicative of our technology advantage with respect to smaller local customers. And that -- I believe that penetration is at or above what it was 2019 with local customers.

Your next question comes from the line of Jeffrey Bernstein from Barclays.

Great. Thank you very much. Two questions. One, just on the margins. I think, you mentioned that the new business you’re acquiring, I guess, now $1 billion over the past five quarters, is with margins well above the portfolio and maybe prior wins. I’m just wondering if you can offer more context on that, maybe what the margin upside is versus the historical, or whether or not you think you’re able to sustain those higher margin levels with further wins going forward. And then, I have one follow-up.

Sure. So just to clarify, the -- so the $1 billion is large customer wins, which includes chains, health care and hospitality. I think, I specified the more attractive margin profile is coming on the chain side. And that is really a function of the more favorable demand/supply environment than a few years ago that Dirk referred to. And, we don’t anticipate that changing in the foreseeable future.

Okay. And then, just the follow-up, as you think about the distribution category and consolidation, I’m just wondering whether you see yourselves or others pursuing more aggressive M&A, or whether specific to yourself, you might be constrained near term? Obviously, your leverage levels are well above your target. And I know in the past you’ve talked about outsized valuations, perhaps desired by potential acquirees or whether or not you’re seeing you have your own ongoing integration of your most recent acquisitions that might slow you down, whether any of those reasons would lead you to maybe just prefer to win accounts rather than actually acquiring smaller peers, whether you want to answer that for US Foods specifically or whether you think there would be consolidation through M&A for the broader category? Any thoughts would be great. Thank you.

Sure. So, I think, I’ll take that one. I think, for us, our top priority for the near term on the M&A perspective, as I commented before, is really about successfully integrating the two very strategic acquisitions that we have done for -- one for the channel and one for geography and really getting Food Group and Smart, both really well-embedded and growing within our core business. After those, for us, the near-term focus is -- after integrating those is really about delevering. I would expect over time that we would continue to see some tuck-in acquisitions, but that’s really more where I would expect it to be like we’ve done in the past, which is much, much smaller here and there. But again, I think right now, it’s a tougher time for the whole industry because of valuations and valuation disconnects and the few smaller transactions that have gotten done or more kind of private equity type of transactions there. So, over time, again, I would expect us and others to probably continue to do some acquisitions, but you probably may not see as much large scale for across the industry as you would have in the past.

Your next question comes from the line of Nicole Miller from Piper Sandler.

In thinking about the industry more or less being at 2019 levels, if you could just speak very broadly about the industry getting back to that 50-50 split it was at between grocery, eating at home and then restaurants eating out. If we keep pace here, is this more like a 6 to 12-month catch-up, a 12- to 24-month catch-up? And is there any reason your -- the industry that you sell into can’t get back, I think, it’s over like $100 billion in sales to even that out?

So, Nicole, thanks for the question. I think, as Dirk has mentioned, we feel very confident talking about where things net out. The timing is a little harder, right? Again, we’ve seen just how quickly the recovery has happened in the last month or two for a number of reasons. So, I think, the charts we showed on the traffic, which is the best day we can get at this point, between food-at-home and food-away-from-home, show that the trend is back to where we were. I think the -- however much of the off-premise dining stacks will help add to the level of food-away-from-home that we saw in the past. We’re at 2019 levels, despite some markets like the northwest being still fairly handicapped in terms of restrictions. So, I think we can be confident about getting back to or above those levels. The timing and trajectory of that is really harder to say.

Could you talk a little bit -- last question. Could you talk a little bit about the cuisine categories that are improving? Which ones are improving the most? And, is there anything that’s not keeping pace?

So, everything is improving. In the early days of pandemic, we saw the more resilient customer menu types were around Mexican and Italian and QSR. I think of late we’ve seen pretty much everything come back where in those markets that have few restrictions. And I think that’s why we feel good about the health of the industry, right? It’s independents, chains, different menu types, all kind of coming back is what we’re seeing at this point.

Your next question comes from the line of John Ivankoe from JP Morgan.

You’re not the only large company that, at least on paper, has basically financed the increase in receivables and inventories with payables. Again, I know that’s not what you’re doing directly, but that’s what the balance sheet shows. Can you comment as to whether that is unique to the largest foodservice distributors or whether that’s also being seen or realized as a benefit to the regional and smaller operators, if there’s a way for you to know that. Because obviously, working capital buildup was one of the things that we had talked about before as maybe an advantage that the larger distributors would have in the smaller ones wouldn’t. And I have a follow-up as well.

Sure. Good morning, John. So, as you pointed out, so I think, of the three of us saw payables increases. And at least in our case, it’s not because of anything we’re doing different, as opposed to just the natural timing of purchases in there. So, I would expect the inventory build to normalize a little more as we get a little -- the next couple of quarters. And then, similar with the AP, to normalize as well. I think from a -- so there’s not anything, I guess, from a terms that I would call that I would think would be different from a larger and smaller. What I would say, though, is, I mean, you just pay for that inventory. And while you’re carrying it, it will have an impact in the nearer term still on cash. And so, I think that’s where it does advantage someone like us with the scale and the balance sheet strength we have of financing that incremental inventory. And then at the same time, as the industry is growing, your receivables are growing. So, just the natural build that happens to your point around that, that I think that is where as we continue to see where other smaller distributors will be challenged as we go through there because it is a cash and working capital investment. Because as we work through both the recovery plus the supply side challenges that they’re happening. And as they’re potentially less likely to make -- be able to make some of those investments to mitigate some of the supply challenges, I mean, those are opportunities for us to target those customers and really achieve additional growth from there as well.

Thank you. And then, secondly, I would think one of the "easier" ways for you to win customers from distributors would be to get salespeople and drivers from those distributors. I mean, is that practical? I mean, is that something that you’re seeing, or are there non-competes or other things that make it basically you go out and you get other people’s best employees in more sticky proposition?

We definitely see that. Now that we’ve -- as Dirk said, we invest a portion of the cost saves in terms of expanding our sales force. I speak to a new class of sales force every month. And there’s definitely a portion that comes from other competitors. And they’re attracted to US Foods by the things that have made us attractive in the past as well, our culture, our technology, our products, our theme-based selling, all this kind of give them the ability to earn more income than they might in other places. And so, that definitely is an opportunity that we’ve taken advantage of.

Your next question comes from the line of Jenna Giannelli from Goldman Sachs.

I just had a question. You spoke about just the technology being such a point of differentiation in helping you gain market share. Should we expect any incremental investment here that’s kind of needed or required to keep that industry-leading position? Basically, is there anything else that you’d like to do or need to do? And then, just any color on the allocation of CapEx dollars as we think about 2021 and any investment? Thanks so much.

Sure. Good morning. So, out of the $50 million, a small portion of that is some incremental investment for digital, what I’d say is on that one. I mean that’s an area where year in, year out, we’ve continued to invest in there to be able to add more capability and serve our customers better. So, there’s not a step change, so to speak, that we need over time. But again, we are investing a little bit extra there. I think, as we think through -- and that would be more on the, call it, the OpEx or P&L side. As we think through capital, not anything big or different that I would call out on our capital for this year. One of the things that I’ve talked about prior is you will see more cash CapEx in the current year because we’re spending less on fleet this year than in past and more on facilities. And that ebbs and flows from year-to-year. Sort of our all-in number, when you go together, isn’t all that different, again because we -- other than the pause last year, one of the things we try to do is consistently make sure we’re investing in the business to be able to support the growth across buildings, IT, tech and fleet.

That’s super helpful. And then, just one bigger picture question, if I can. Just on the market share gains, can you give us a sense of who you think you’re most gaining that share from? Is it from other large players or some of the smaller, more fragmented players? And then, when you think about the go-forward in your mind, the potential size of the portion of the pie that could be up for grabs, really how meaningful could further market share gains be? And that’s all for me. Thank you.

Okay. Look, to be honest, it’s hard to tell where the gains are coming from. We don’t have access to that sort of data when we talk to the field. Really, it comes from all places, small and large competitors. It really depends on the local environment and how various players are doing in terms of service and who the makeup of the players is. In terms of the longer-term outlook that you asked about, overall, we’re a 10ish share player and we got a touch below that. So, we see lots of opportunity to grow share over time, given our position. We’re the number two player, but still essential player and it’s still a very fragmented industry. So, we see lots of opportunity to gain share over time.

Your next question comes from the line of Karru Martinson from Jefferies.

I just wanted to touch on the rise of ghost kitchens and how you guys are penetrated in that? And talk is that that will continue as we recover. Folks tend to like the economics on that. Just wanted to see where you’re positioned there and what the focus is on that side of the market.

Sure. So ghost kitchens, we benefit as a distributor. We benefit from rise of ghost kitchens, the same way we do commissaries or caterers because they still have to purchase their bulk food from somewhere. And I believe in past calls we’ve talked about our ghost kitchen playbook that I think we were one of the first ones to come out with. And that’s definitely helped existing customers operate out of -- get better leverage out of their existing real estate or acquire lower-cost real estate to access new customers. Our ghost kitchen playbook has some analytics built in, some menus built in for different menu types. And we’ve had a lot of interest in participation on the part of customers in terms of ghost kitchens.

There are no more phone questions. I’ll turn back the call over to Mr. Pietro Satriano for closing comments.

Thanks, operator. If we could, brief with comments. Look, I hope that just to go back to a few takeaways that you can see after this call, the three takeaways that I talked about at the outset. The industry recovery is well underway, and we are participating in this recovering in a very meaningful way. Second, our scale and differentiation is driving the market share gains that we have talked about. And third, the continued strengthening of our financial results as the industry continues to recover. I do, again, want to take the opportunity to thank all our associates to really continue to go above and beyond to serve our customers in this environment. We look forward to speaking with everyone on our next earnings call in August. Thanks for tuning in today, and have a great day.

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