DALLAS – The use of white fluid milk as a loss leader by some of the nation’s largest retailers to bring in customers had a negative impact on the Dean Food Co.’s second quarter earnings. Making matters worse for the company is the opening of Wal-Mart Stores, Inc.’s new Indiana milk processing plant next year that will reduce fluid milk volumes even more.
|Ralph Scozzafava, c.e.o. of Dean Foods|
"In the second quarter, we faced a challenging and rapidly evolving retail environment,” said Ralph Scozzafava, chief executive officer, during an Aug. 8 conference call with financial analysts. “We experienced volume pressure from both a macro and competitive perspective that impacted our total volume performance within the quarter, and we anticipate this will carry forward for the remainder of 2017.
“Our financial results came in well below our expectations. We are not satisfied with our performance and are determined to improve our execution. We are accelerating and expanding an aggressive set of commercial and cost productivity initiatives to address volume and mix. We expect these actions will better position our company for the future."
Net income for the quarter ended June 30 was $17,647,000, equal to 19c per share on the common stock, down from the same period of the previous year when earnings totaled $33,371,000, equal to 37c per share.
Sales for the quarter rose to $1,926,722,000 from $1,848,788,000 the previous year.
During the quarter, Dean Foods sold 615 million gallons of milk, a nearly 3% year-over-year decline compared to the same period of the previous year, according to the company. Making matters more difficult was the fact the company's branded white milk volume in all channels declined nearly 6% year-over-year vs. private label.
“Volume softness continues to weigh on the broader food industry, and the emphasis of specific retailers on private label within certain segments showed growth in Q2,” Mr. Scozzafava said. “For Dean Foods, this created a challenging environment on both volume and mix.”
Adding to the company’s troubles is the loss of some of its private label customers.
“As milk production continues to grow across many areas of the country, we're seeing surplus volume and supply that's changing some recent pricing dynamics in the category, driving aggressive pricing that we believe just isn't sustainable long term,” Mr. Scozzafava said. “For Dean Foods, this has resulted in fluid milk volume losses that will contribute to a higher-than-planned year-over-year decline in total volume. For at least the balance of the year, we expect total volume to decline in the mid-single-digit range.
“However, we're actively pursuing new volume within the normal flow of new business opportunities. We recently won a significant private label bid with a major customer and expect that volume to come on-line in our plants later this year. The benefit of that volume will fall predominantly in 2018.”
Offsetting the benefit may be the loss of approximately 90 million to 95 million gallons of fluid milk volume in 2018 and 2019 as Wal-Mart begins scaling up production at the Indiana plant.
“Dialogue between ourselves and Wal-Mart is ongoing, and we're actively taking steps to optimize our network to mitigate the impact of the volume losses,” Mr. Scozzafava said. “However, given the volume degradation we've experienced this year, we may be unable to sufficiently reduce our costs to mitigate the negative financial impact of the Wal-Mart volume loss. More to come on this as we move forward.”
Management’s strategy to counter the difficult operating environment is to take additional costs out of the company’s sales and supply chain.
“Our supply chain organization continues to drive ways out of the system in addition to driving increased efficiencies within our plants,” Mr. Scozzafava said. “Overall, we are on track to deliver our productivity target of $80 million to $100 million in savings in 2017.”
Future savings may come from a program targeting the effectiveness and efficiency of Dean Foods’ selling, general and administrative operations.
“We're well into the design phase across our organization and anticipate having actionable plans in place by the end of the third quarter,” Mr. Scozzafava said. “We're targeting a cost reduction of $40 million to $50 million on an annual run rate basis and expect to implement our plans by year-end.
“I'll be in a position to speak more about our progress on a much more detailed basis as we move through the balance of the year. I want to reinforce that maintaining a competitive cost structure is crucial to the ongoing success of our company and will make us more competitive in market, too.”
Dean Foods has been attempting to shift its production away from the processing and selling of commodity fluid milk to such higher-margin, branded products as Dairy Pure milk and sour cream and Friendly’s Ice Cream. Financial analysts on the conference call questioned whether the company could make such a pivot while at the same time continuing to remain competitive in the market for commodity fluid milk.
Mr. Scozzafava called the fluid milk side of the business “core” to the company and necessary to run the company’s plants and cover overhead.
“We want to be able to feed our plants,” he said. “We want to be able to win bid business that makes sense for us, and we want to lower the bar on that, so the business that we might have looked at in a different way in years past, we're going to look at in a positive way now. So that's part of being aggressive, but that leads to the transformation.
“And if you look at other companies, food and beverage companies that have gone through this process, it does take a certain amount of time because you need to do it with precision and care. So that's where we are. We're pivoting, but I don't expect this to be an overnight transition. But we will get there.”
For the first six months of fiscal 2017, Dean Foods earned $7,888,000, equal to 9c per share, and a significant decline compared to the same period of the previous year when the company earned $72,572,000, equal to 79c per share.Sales for the period rose to $3,922,408,000 from $3,727,616,000 the previous year.