OAK BROOK, ILL. — TreeHouse Foods, Inc., the largest supplier of private label products in the United States, is between a proverbial rock and a hard place. The “rock” is a bloated supply chain and infrastructure that is not geared toward operating efficiently. The “hard place” is a tremendously difficult retail environment in which retailers are expecting significant price concessions, and an efficient supply chain is necessary to maintain operating margins. The result, as demonstrated in TreeHouse Foods’ third-quarter earnings, is a business challenged on practically every front.
Adding to the difficulties facing the company was the resignation of president and chief operating officer Robert B. Aiken Jr., who was only hired this past June. One of Mr. Aiken’s primary duties involved leading the effort to optimize TreeHouse Foods’ supply chain.
|Sam K. Reed, chairman and c.e.o. of TreeHouse Foods|
“Although shaken by this turn of events, TreeHouse is a resilient structure, built upon a solid foundation, designed to withstand seismic tremors and built to weather storms from any quarter,” said Sam K. Reed, chairman and chief executive officer, of Mr. Aiken’s resignation during a conference call with financial analysts on Nov. 3. “Accordingly, our board met following Bob’s decision and confirmed their full support of our strategic vision, tactical agenda and organizational structure, all with undaunted resolve to endure any temporary setback. While our fundamental business plans are structurally sound and remain intact, we must undertake certain organizational changes to ensure that our board’s confidence is fully warranted.”
Mr. Reed has assumed the role of president responsible for directing the company’s business units. The TreeHouse Foods board of directors has begun the process of seeking a new c.e.o. Once the new c.e.o. is hired, Mr. Reed said he will discuss with the board of directors what his role with the company will be going forward.
During the conference call, Mr. Reed outlined the challenges facing TreeHouse Foods.
“We determined some time ago that there was roughly 25% of the s.k.u.s (stock-keeping units) in this company that were not contributing to the overall profitability,” Mr. Reed said. “And in doing that, we also determined that there were hundreds of nonstrategic customers that — whose current business and future prospects were such that we needed to concentrate elsewhere. As a result of this initiative, a full 20% of the production capacity of this company will be taken out of service. And the fixed costs related to these facilities will, over a period of time, drop in the magnitude of 300 basis points of our current business.
“In addition to that, we’re shifting to customers. We know that there are 34 or 35 of them that account for 80% of our business in the marketplace. And we’re concentrating on those customers and the categories that we described as being ones that are better for you and give greater growth opportunity. And, so, there’ll be a shift away from — in our business that will benefit us in that we will be — our capabilities will shine most brightly where those future opportunities offer growth.”
It is in that transitionary backdrop that TreeHouse Foods’ net income fell to $28.8 million, equal to 50c per share on the common stock, compared with net income of $37.4 million, or 66c per share, during the same period of the previous year.
Sales for the quarter dipped to $1,549 million from $1,587 million during the third quarter of fiscal 2016. The sales decline primarily was related to the divestment of the company’s soup and infant feeding businesses earlier in the year.
Of the company’s five business units — Baked Goods, Beverages, Condiments, Meals and Snacks — only Baked Goods and Meals saw improved operating income during the quarter when compared to the same period of the previous year.
In Beverages, sales rose $10 million during the quarter to $244.9 million, but operating income fell 21% to $51.7 million.
“Pricing was unfavorable in the quarter as we faced bid pressure from large retailers, new business being won at lower margins and increased competition,” said Matthew J. Foulston, chief financial officer.
Of greater concern for the Beverage business unit is the market for single-serve coffee. An analyst during the call pointed out that the category is slowing in both branded and private label with the private label share of K-Cups flattening since June.
Mr. Reed challenged the assertion, noting that market data generally count units, and there has been a shift away from measuring the market in that manner.
“If you do it on an equivalent cup basis, the private label business is still growing very strong, double digit in units, and over a broad scale,” Mr. Reed said. “The other matter is that with regards to the totality of the marketplace opportunity, while it’s not in syndicated data, we do know from other sources that household penetration has continued to rise. And in fact, our latest report is that it has — for a single-serve cup brewer, that the household penetration has passed the 30% level, which is quite a substantial improvement.”
While the market has been growing, Mr. Reed did note competition has intensified.
“It’s clear to me that private label has become a part of the Keurig strategy,” he said. “It appears to me that they’re quite disciplined and focused on customers that they believe are strategic to their branded business.”
In the Snacks business unit, sales fell $19 million to $332.6 million, and operating income totaled only $1.8 million. Mr. Foulston said the unit’s weakness stemmed from weak category trends and the exit of a legacy branded co-pack business.
“Some improved pricing took effect in July," he said. "However, bid pricing pressure muted that benefit, which we are addressing through our sales and margin management program. D.O.I. (direct operating income) declined $17 million driven by commodity costs that can't be contractually passed through until 2018; unfavorable mix, as we sold more commodity nuts versus value-added trail mix and bars; as well as incremental costs related to the largest new product launch in the company's history. Unfortunately, the customer roll-out plan was delayed, and we unexpectedly ended up with stranded costs in Q3.”
Despite the challenges facing the company, Mr. Reed expressed optimism about the future.“Although our immediate returns continue to disappoint, the new year will bear witness to exceptional go-to-market, supply chain and systems advances that are now obscured by the fog of current results,” he said. “Even as marketplace conditions remain challenged and commodity inflation returns, we will demonstrate steady progress as we revert to the foundational basics of quality, service, cost and commercialization.”