Sysco Q3 2024 Earnings Call Transcript

Quartr
Provided by Quartr
April 30, 2024

There are 11 speakers on the call.

Operator

Welcome to Sysco's 3rd Quarter Fiscal Year 20 24 Conference Call. As a reminder, today's call is being recorded. We will now begin with opening remarks and introductions. Would now like to turn the call over to Kevin Kim, Vice President of Investor Relations. Please go ahead.

Speaker 1

Good morning, everyone, and welcome to Sysco's Q3 fiscal year 2024 earnings call. On today's call, we have Kevin Hyrkin, our President and Chief Executive Officer and Kenny Cheung, our Chief Financial Officer. Before we begin, please note that statements made during this presentation that state the company's or management's intentions, beliefs, expectations or predictions of the future are forward looking statements within the meaning of the Private Securities Litigation Reform Act and actual results could differ in a material manner. Additional information about factors that could cause results to differ from those in the forward looking statements is contained in the company's SEC filings. This includes, but is not limited to, risk factors contained in our annual report on Form 10 ks for the year ended July 1, 2023, subsequent SEC filings and in the news release issued earlier this morning.

Speaker 1

A copy of these materials can be found in the section at cisco.com. Non GAAP financial measures are included in the comments today and in our presentation slides. The reconciliation of these non GAAP measures to the corresponding GAAP measures is included at the end of the presentation slides and can be found in the Investors section of our website. During the discussion today, unless otherwise stated, all results are compared to the same quarter in the prior year. To ensure we have sufficient time to answer all questions, we'd like to ask each participant to limit their time today to one question and one follow-up.

Speaker 1

At this time, I'd like to turn the call over to Kevin Hyrkin.

Speaker 2

Before I begin our call today, I'd like to take a moment to acknowledge an extraordinary event that happened during our Q3. As you may have seen, on Friday, March 1, a Cisco truck was involved in an accident on the Clark Memorial Bridge in Louisville, Kentucky. After the accident, the Cisco truck was hanging precariously over the Ohio River. A Cisco colleague was inside that truck, staring down at the river, not knowing if her truck would fall into the river before she was rescued. I bring this topic up to take a moment and recognize the Louisville Fire Department for their heroic efforts.

Speaker 2

I especially want to thank Bryce Carden, the firefighter that risked his life to rescue our colleague from her truck that day. The heroes of the Louisville Fire Department Louisville Fire Department acted with efficiency, skill and courage to rescue a Cisco family member. We are thankful for their successful efforts and for all that first responders do every day to protect our communities. I want to be very clear, business results matter. But the fact that the Louisville Fire Department saved the life of a member of our family deserves praise and pause.

Speaker 2

Now on to matters of business results and outcomes. I'd like to start with restaurant foot traffic data. Much has been written over the past few weeks as select restaurant names and select foodservice suppliers have announced their performance results. As you have heard in those communications and observed through credit card transaction data, foot traffic to restaurants is down year over year. As we have previously indicated, January restaurant traffic came out of the gate with a slow start, down high single digits to prior year due to a host of factors.

Speaker 2

February March for traffic improved to down low single digits but still posted a headwind for distributor case volume growth. While the trend of the quarter was one of sequential improvement, we had expected a stronger recovery throughout the quarter. It is our belief that restaurant menu prices have impacted foot traffic, and this is something that needs to be addressed more broadly by the industry. The industry needs to take actions to improve affordability for end consumers. At Sysco, we will be focused on helping our local restaurant customers by taking the following actions: securing the best possible cost from our suppliers and sharing in those savings with our end customers introducing new and improved Sysco brand alternatives to save restaurants' time and money introducing menu alternatives that bring lower cost food options to restaurant operators so that they can provide value offerings to their end consumers And lastly, providing restaurant operators with even more ready now and precut offerings to help them lower their labor costs.

Speaker 2

While food costs have moderated year over year, restaurants are still facing significantly elevated labor costs. So with restaurant foot traffic data as context, I will segue into Sysco's specific business outcomes with a brief highlight of the quarter on Slide 5. We were able to convert negative foot traffic for the quarter into positive 2.7 percent enterprise sales growth with USFS volumes growing 2.9%. Both of these figures were greater than the food away from home industry, which declined year over year in case volumes. Sysco's 2.9% case growth enabled a profitable market share increase for the quarter in the U.

Speaker 2

S. As I have stated previously, larger broad line players are winning in the market due to size and scale advantages, Ensysco's specialty platform is delivering outsized growth versus the specialty channel. Our local case growth was 0.4% for the quarter, stronger than the overall market. However, it is an area that must improve. We are focused on making the necessary progress.

Speaker 2

I'll speak more to this topic in a moment. For the quarter, we increased adjusted operating income by 8.4% and adjusted EPS by 6.7%. Both figures were consistent with our expectations for the quarter and are well above the S and P 500 average profit growth for the quarter. As we have said many times, we have levers we can pull in our P and L if and when volume is softer than expected. I am proud of our team for taking strong actions in the quarter to manage expenses and deliver strong gross profit margins.

Speaker 2

The agility and accountability of the leadership team enabled us to deliver our profit objectives for the quarter despite softer sales and case volumes. I'd like to pivot now to give you a brief update on our 2 biggest areas of focus: local case growth and overall expense management with supply chain productivity. Starting with local case growth. Earlier this year, I highlighted 4 actions we are taking to improve our performance as seen on Slide 8. I cautioned at the time that these actions would take time to impact the business, but that we are confident in their impact.

Speaker 2

First, sales force hiring. We plan to hire a net increase of approximately 400 sales professionals by the end of this year, and we are meaningfully on track to hit that hiring target. The quality of the new hires to date has been strong, and we are actively focused on skills development training for the new cohort. We believe this new sales staff will positively impact our 2025 growth trends. 2nd focus area, performance management.

Speaker 2

Our sales consultants have responded to the sales leadership coaching and have increased their visit frequency to Cisco customers. For the remainder of fiscal 2024 and entering fiscal 2025, we are increasing the focus of our sales staff on prospecting net new customers. In a slower traffic environment, we need to increase the number of customers that we service. 3rd focus area, sales compensation. We are 2 quarters live with an updated compensation model, and the feedback from our SEs has been positive.

Speaker 2

Our top performers are seeing their earnings grow, and our extended team has ample opportunities to increase their earnings. Importantly, retention data for our SEs is at or above historical high watermark levels. Our updated compensation program better aligns the incentives of our sales teams with the P and L of Sysco. 4th focus area, total team selling. When a Cisco customer buys from Broadline, plus 1 or more of our specialty businesses, Cisco wins and the customer wins too.

Speaker 2

Why? We remove 1 or more competitors from the account and we are able to get more cases on a Cisco truck. As a result, we can increase delivery frequency, increase sales colleague coverage and invest in the customer from a buy more, save more perspective. Sysco's extensive produce, protein and now equipment and supplies specialty businesses are unmatched in the industry. We intend to better leverage this competitive differentiation in years to come domestically and internationally.

Speaker 2

In summary, we are confident in our ability to profitably grow our local business, and we are working on the right things to deliver that growth consistently. This work is a top priority and will receive the necessary focus and attention from our entire team. Let's transition to our supply chain and overall expense management at Cisco, as seen on Slide 9. I'm very pleased with the progress we are making on both fronts. Retention is greatly improving, especially within our driver population.

Speaker 2

This is resulting in better productivity, fewer accidents, reduced product shrink and improved customer service outcomes. Labor productivity is improving within our warehouse and driver populations. Both departments delivered the highest productivity rates of the past few years in March. Lastly, our transportation metrics are improving as we have increased pieces per truck, optimized our routing metrics and improved on time arrival rates. All told, these supply chain improvements are helping us lower our cost to serve and increase our net promoter scores.

Speaker 2

Even more impressive is the work we are doing in our global support center to reduce our SG and A expenses as we delivered a year over year 5.5 percent reduction in SG and A in the quarter. We displayed strong discipline and management agility by leading through a softer than anticipated customer environment. We plan to stay very focused on expense management and gross profit delivery in the quarters and years to come. It is important to note that while we are very focused on expense management, we continue to invest where it matters. Our supply chain capacity expansion projects remain on track and the investments and improvement in our customer facing technology tools continue to advance.

Speaker 2

International continues to be a bright spot for Cisco. I recently returned from a trip to Europe, and I'm very pleased with the performance of our international business segment and leadership team. Our newly formed global operating model is having an impact. International top line grew 4.5 percent and adjusted operating income grew 63.4% in the quarter. Both figures are better and higher than our U.

Speaker 2

S. Business. As I have said, international will be a top and bottom line growth catalyst for years to come at Cisco. More importantly, there are no structural impediments internationally that prevent Cisco from delivering higher EBIT as a percentage of sales in each international country. Greg Bertrand, our Global COO, has identified many examples of best practices that are being shared across the globe to help each country accelerate profit improvement progress.

Speaker 2

The proof is in the strong profit improvement results that we are delivering. At Cisco, we take a long term view in running our business, focused upon profitable and disciplined business returns. Despite the softer traffic start to calendar 2024, food away from home is a growth industry, as seen on Slide 10, taking share from the grocery channel for 17 of the past 20 years. We believe that is a macro trend that will have staying power for years decades to come. Internationally, the food away from home trend is following a similar pattern to the U.

Speaker 2

S. Business. However, it is many years behind from a penetration percentage. This fact will be a tailwind as Europe follows the food away from home percentage growth trajectory, growing sales across all three dayparts. Food away from home is a good business, a stable business, and Sysco has a diversified range of customer types that help us navigate individual segment choppiness, including a strong business in health care, hospitality, education and business and industry.

Speaker 2

As I wrap up my prepared remarks, I will echo something I have said previously. I'm very optimistic about the future of Cisco. We are confident in the strategic plan we are executing against, and we have a strong leadership team. Business plans don't always materialize the exact way you draw them up on paper. This past quarter, volume was softer than we anticipated and planned.

Speaker 2

I am proud of our team for acting with agility and delivering strong bottom line growth for the period despite the slower restaurant traffic. Additionally, we are committed to making progress in local case growth and operations efficiency. These efforts will enable us to deliver solid financial outcomes. Before I turn it over to Kenny, I welcome you to join us in New York City on May 22 for our next Investor Day. We will go deeper into each component of our business strategy, and Kenny will present a financial algorithm for Sysco to deliver against for the next 3 years.

Speaker 2

We look forward to seeing many of you in New York. And with that said, Kenny, over to you.

Speaker 3

Thank you, Kevin, and good morning, everyone. Let's start by building upon Kevin's commentary regarding the quarter. This quarter delivered strong earnings growth in a dynamic volume environment as our teams took appropriate proactive steps and delivered adjusted operating income growth of 8.4%. After the January start, we delivered sequential volume improvements each month during the quarter. Our team is focused on improving local case volume growth with several factors that provide confidence in improving results for the remainder of FY 2024 and into FY 2025.

Speaker 3

Turning to margin management. Continued execution across our operating levers resulted in improvements to both gross profit dollars and margins and lower structural and variable operating costs. This included continued progress with supply chain retention and productivity, ending the quarter with our highest monthly productivity rate for the year for both delivery partners and selectors. We are also excited today to announce that we are raising our cost out target for FY 'twenty four. We now expect to generate more than $120,000,000 of cost outs in FY 2024 based on incremental actions during the Q3.

Speaker 3

This is especially important to offset the softer than expected near term consumer backdrop while continuing our investments for growth. In addition to the structural cost out, our plan this year also include executing on synergies from our acquisitions this year. For example, with the closing of the Edward Don transaction earlier in the fiscal year, we are already realizing early post acquisition synergies that are in line with our expectations with more to come. In total, our actions resulted in positive leverage with gross profit growing at a faster rate than operating expenses for the 6th consecutive quarter as we delivered sequential improvement in cost per piece throughout the quarter. Despite the current macro environment, we are confident in our ability to efficiently flex operating expense to volume performance and achieve bottom line results.

Speaker 3

Our continued balanced and consistent approach with capital allocation priorities also resulted in $753,000,000 returned back to shareholders via repurchases and dividends. Our Q3 profit performance combined disciplined use of our operational levers. We remain focused on the long term along with more consistent and normalized demand in future periods. As we navigate through transitory industry trends, our size and scale advantages and operating discipline deliver strong bottom line results this quarter, while we continue to gain market share. As the market normalizes, we will be able to use the power of our P and L to continue to deliver accretive results.

Speaker 3

As we look to finish the year strong, we remain focused on delivering our annual EPS guidance, while also executing on planned share repurchases and dividends in Q4. Now turning to a summary of our reported results for the quarter, starting on Slide 13. For the Q3, our enterprise sales grew 2.7% driven by U. S. Foodservice growing 3.4% and international growing 4.5%, partially offset by Sigma decreasing 3.5%.

Speaker 3

Enterprise inflation was 1.9%. Additionally, U. S. Broadline inflation was 1.2% and our international segment was up 4%. We expect this normal rate of inflation in line with historical averages going forward, which bodes well for the industry.

Speaker 3

The total U. S. Foodservice volume increased 2.9% and local volume increased 0.4%. Additionally, international local volumes were up over 4%, adding to our outsized international growth. As previously outlined, we have plans in place to drive more positive, consistent local volume performance.

Speaker 3

Please note, volume reporting now includes DAWN following its 1st full quarter under Sysco's leadership. Don Positive impacted U. S. Foodservice volumes by 2.7% and local volumes by 1.6%. We deliver expansion in both GP dollars and margins as we produced $3,600,000,000 in gross profit, up 5.2% and gross margin improved to 18.6%, an increase of 44 bps.

Speaker 3

This improvement during the Q3 reflected our ability to effectively manage product cost fluctuation through tight margin management, driven by incremental progress from our strategic sourcing efforts, disciplined and rational pricing, increased mix of specialty as well as improved penetration rates from Sysco brand products within local, which increased 3 bps to 46.5%. Sysco Brand continues offer superior customer value, and we expect positive momentum going forward. Overall, adjusted operating expenses were $2,800,000,000 for the quarter or 14.5 percent of sales. Expenses during the quarter included benefits from continued improvements with retention and productivity, Kevin mentioned earlier, in addition to our benefits from our variable labor planning tool and cost out commitments. Based on incremental actions during Q3, we now expect to generate over $120,000,000 of savings in FY 2024.

Speaker 3

We recently reduced 500 roles to reduce expenses and fund incremental headcount in higher growth areas like specialty. The residual savings were also used to offset a softer current macro backdrop, which is a proof point of the agility of our business and dynamic levers across the P and L. These Q3 actions position us well to enter FY 'twenty five if we're delivering incremental cost outs and operating leverage for future years. We continue to be encouraged with the progress of our International segment with adjusted operating income growing 63.4% for the 3rd quarter. This is a continuation of the robust growth and positive momentum in this segment over the past 3 years.

Speaker 3

Q3 adjusted operating income grew 8.4% to $799,000,000 for the enterprise. For the quarter, adjusted EBITDA was $977,000,000 up 8.5%. Turning to the balance sheet on Slide 17. We ended the quarter at a 2.81 times net debt leverage ratio, and we are confident we will end the year within our target range. We ended the quarter with $11,600,000,000 in net debt and approximately $3,100,000,000 in total liquidity.

Speaker 3

Approximately 96% of our debt is fixed with the floating component offset by our cash reserves. Our debt is well laddered and our strong investment grade credit rating is a competitive advantage for us. Turning to our cash flow on Slide 18. Year to date, we generated $1,400,000,000 in operating cash flow and $864,000,000 in free cash flow. The decline in free cash flow year to date was driven by timing of working capital and the Easter calendar impact along with a planned step up in cash taxes.

Speaker 3

Our cash flow is driven by continued strong conversion rates from EBITDA to operating cash and free cash flow. And importantly, we remain on track to grow free cash flow for the full year FY 'twenty four. Our strong financial position enabled us to return $753,000,000 to shareholders this quarter via share repurchases and dividends. Turning to FY 'twenty four guidance. We are reiterating adjusted EPS of $4.20 to $4.40 Our guidance at the midpoint assumes approximately 7% EPS growth on a year over year basis.

Speaker 3

Factoring in the softer overall marketplace, we also expect to end the year with net sales to be approximately $79,000,000,000 Additionally, we remain confident in delivering increased free cash flow by year end off a record performance last year. We also plan to remain diligent with operating discipline for the fiscal year and beyond. For the year, we also remain on target to return over $2,250,000,000 back to shareholders. Looking ahead to the future fiscal years, we also wanted to highlight and anticipate a step up in our FY 2025 tax rate due to the global minimum tax rate rule changes. More details will be shared in our Q4 earnings call.

Speaker 3

Furthermore, we want you to be aware that interest expense will step up from FY 2024 to fund our capital allocation priorities, while continuing to operate within our leverage ratio of 2.5 times to 2.75 times. Looking ahead to Q4 and beyond, our focus on high ROIC investments back into the business will be balanced and disciplined, supporting our industry leading margin profile. This includes operational discipline with cost out delivery and margin management. This is in addition to our strong investment grade rated balance sheet. Our size and scale advantages are meaningful positions of strength for the long term.

Speaker 3

We have successfully demonstrated our performance in a variety of operating environments in our company's long history. That remains true today as we expect to win market share profitably and continue to generate cash with strong conversion rates, ultimately beating our plans to grow and reward our shareholders on the forward. Before I conclude the call, I echo Kevin's invitation to join us for Sysco's Investor Day on May 22nd. If you are interested in attending, please reach out to Kevin Kim our Investor Relations team. Please note, this meeting will also be webcast.

Speaker 3

We hope you can join either in person or virtually. Thank you for your time today. I'll now pass the call back to Kevin. Thank you, Kenny.

Speaker 2

I'd like to turn to one more important matter before we move to our question and answer session this morning. As you may have seen, earlier today, we announced that Ed Shirley has stepped down as Sysco's Chairman of the Board for personal health reasons. As a result of Ed's decision, effective immediately, I will serve as Chair of the Board and Chief Executive Officer. I am honored by this appointment, and I look forward to serving our shareholders, our customers and our colleagues in this expanded responsibility. I want to thank the full board for their continued support and guidance.

Speaker 2

More importantly, I'd like to take a moment to recognize and thank Ed Shirley for his tremendous impact on Cisco over his 8 years of exceptional service on our Board. When I joined the company in February of 2020, Ed was our Executive Chair. Ed and I spent countless hours together building what became our recipe for growth strategy and of course, navigating the early and significant impacts of COVID on the food away from home sector. Ed's wisdom, guidance and substantial business experience were invaluable to me in those early innings at the company. Roughly a year later, Ed transitioned into the independent chair of the board leadership position.

Speaker 2

He continued to provide substantial and helpful feedback and guidance to me, the Board and the entire management team from that leadership position. We are a better and more resilient company due to Ed's impact and leadership. On behalf of the entire Board, I want to thank Ed for his friendship, his mentorship and for his dedication to our company. He will be greatly missed. With that, operator, we are now ready for questions.

Operator

Thank And it appears we do have our first question from Alex Slagle with Jefferies.

Speaker 4

All right, thanks. Good morning. I guess maybe just start off, dig in a bit further on what you're seeing in the industry and the demand environment in the early April, if anything. Just I mean, it seems like a continuation of the soft traffic environment in restaurants, perhaps some more divergence between the operators that are finding ways to be successful highlighting value versus those maybe caught a bit flat footed. So interested in kind of your view and given such broad exposure what you've seen if any, divergence between chains and independents or full service, limited service and maybe just a little bit on given your strength in private label and all the offerings you have, what that means for Cisco's opportunity to gain more share in this kind of environment?

Speaker 2

Okay. Good morning, Alex. It's Kevin. That's a good question and a loaded question. So I'm going to try to unpack it to a couple of points.

Speaker 2

Just start with the headline, which is traffic to restaurants down year over year in the quarter, starting with that tough January start and sequentially improving throughout the quarter. It's important to note that traffic is what drives distributor case volume shipments, not the same store sales that they post in their revenues. Traffic is the more important of metrics for us. Cisco did gain share in total versus the food away from home sector in aggregate in the quarter, but the volume was less than what we had market conditions market conditions. Now what we're seeing in the aggregate data tied to what your second part of your question was, performance diversions by type of restaurant operator.

Speaker 2

It's more based on income strata than restaurant type. We have customers that serve restaurant highest white table cloth all the way down to QSR. Our hardest hit sector right now is QSR. You can look at our Sigma volumes. Our Sigma volumes were down roughly 3.5% for the quarter, which is an indication of that point.

Speaker 2

And those that are succeeding are those that either have a differentiated value prop and or a great product offering and or a digital app that's rewarding loyalty and great operators can be successful regardless of environmental conditions as evidenced by the quarter that we just posted an overall softer environment, but yet we were able to deliver our profit expectations and take share profitably during the quarter. What we're specifically doing about that is we're working hard to lower food costs to restaurants, so they can in fact lower menu prices. I do want to be clear about that. I believe restaurants need to lower menu prices. It starts with our negotiations with our suppliers.

Speaker 2

We need to work hard to create value by lowering cost inbound to Sysco and then share, pass on those savings to our end consumers and we're fully prepared to do that and to execute that with efficiency, number 1. Number 2 is we can provide Sysco brand offering at an even more extensive level. We did make progress in local case penetration with Sysco brand and we think we can accelerate that. We're doing a new packaging overhaul. We're doing a brand tier brand hierarchy overhaul.

Speaker 2

That work takes time, but we're bullish on Sysco brand, especially within the local segment. And as I said in my prepared remarks, my last comment, I'll toss to Kenny for any comments he'd like to make on April. We can provide our customers with value added solutions with our specialty protein business, with our specialty produce business. We can do a lot of the back office cutting, preparing, staging a product delivered to the restaurant, which takes the labor out of the kitchen. Because while food costs have moderated, labor costs at restaurants have not moderated.

Speaker 2

And we're seeing upticks from our customers ordering what we call value added services products, which tend to come at a higher margin for Sysco. So it's good for our P and L, but it really helps the restaurant take labor cost out of their model. So Kenny, I'll toss to you for

Speaker 3

any comment on April. Sure. Thanks, Kevin. Hi, Alex. This is Kenny.

Speaker 3

The growth rate from March is carrying into April. So if you take a step back and bifurcate Q3 performance, as Kevin noted, January was negative growth, mostly driven by weather. February March were positive with sequential improvement. So that growth from March is carrying into April. As Kevin mentioned in his prepared remarks, we have initiatives in place to improve volume and we have cost levers in place as well to further enhance profit margins.

Speaker 3

As a company, we are confident we can operate in any environment of improvement in Q3 and this year as we had disinflation deflation to inflationary, which is what we're seeing at the spot moment. So overall, with the softer macro backdrop, we are still confident with our guidance.

Speaker 4

Thanks. And then a follow-up on the private label and you mentioned the opportunity in local, but it would seem like there's still some opportunity on the national side. Know there's some differences there, but just kind of curious how you describe the opportunity in terms of maybe the magnitude or the timeframe of where maybe you could get some it's where the end restaurant operator, sees even

Speaker 2

it's where the end restaurant operator sees even more value from Sysco where we can provide them tremendous value for their menu at a great quality and we are very focused on making continued progress there. National is trickier, it's more complicated. As you know, large, large restaurant chains negotiate direct with suppliers for proprietary products that are on their menu that are unique to them. And then we provide the distribution cold storage, try temperature truck delivery on time and in full service for them. So it's a little bit different model.

Speaker 2

We can make progress on national. It'll be slower going and you won't see step change increases in penetration in national for the reasons that I just described. With that said, we have a change management function, which Kenny helps supervise. We can provide options to those large and national customers to at least have choice. You have your vendor direct program that you can negotiate.

Speaker 2

This is a program Cisco can offer you that's comparable or better and we work to provide that penetration opportunity. So we can make progress on national. The bigger focus is on the local customer. I think one thing

Speaker 3

to add on that piece is, as Kevin said, we will make further progress. I think it's important to call out that we are continuing to improve profitability by leveraging strategic sourcing on both Sysco Private Label and non Sysco brands, which is one of the reasons why Alex, you're seeing a nice leverage from sales to gross profit.

Speaker 2

And Victoria, our Chief Merchant is going to talk more about the Sysco brand evolution at our Investor Day on May 22. But let's Alex, thank you for the questions. Let's go to our

Speaker 3

next question,

Operator

And we have our next question from John Heinbockel with Guggenheim Securities.

Speaker 5

Kevin, start with the expansion of the sales force that looks like a 5% or so growth rate. How do you look at that as a catch up versus something that's sustainable? And then your thought on what that there's this thought right that you take that and maybe multiply by 1.5% to get local case growth. I'm not sure that still applies, but how do you think that works through the P and L? And I guess you'd say it's almost all going to be new accounts, not existing growth?

Speaker 2

Yes, John, I appreciate the question. Let's start with you. I did today for the first time actually size the prize from a headcount growth perspective in fiscal 2024. To be crystal clear for everyone who's listening, that's a net number. So there's of course churn that occurs within that population and this is a net increase in our headcount by year end of 400.

Speaker 2

We're on track to be able to hit that target. It's the start, John, of what will be a continued forward progress on hiring. Today, I'm not going to disclose the hiring target for fiscal 2025, but again, that's something that we can talk about at our Investor Day and we do intend to talk about at our Investor Day. For Q4 and frankly for all of fiscal 2024, this is an investment as below water investment, I mean the expense greater than the revenue and profit that they're contributing, but we are confident and that will continue in Q4. It's an investment in Q4.

Speaker 2

They will positively impact our fiscal 2025 financial outcomes with a positive return on investment. And again, we'll talk more about the impact of that and how it contributes to our sales growth targets at our Investor Day.

Speaker 5

Okay. And maybe as a follow-up, you talked about affordability. Maybe you speak to your thoughts on elasticity and how do you work with I know you talked about private brand and getting your costs down, but obviously you can take your costs down, you have to get your customers to pass that through to their end customer. Your confidence in that occurring and then when you think about elasticity for your customers, how do you assess that, right? And what has to be done with affordability to move the needle?

Speaker 2

That's a really good question. I'll unpack the first part, second part. First part, listen, we admire, respect, trust our customers. And I want to be clear, they are running their business to the best of their abilities. But what we are seeing, John, is we are in fact providing more value year over year to end restaurant operators and we're not seeing that show up on menu prices.

Speaker 2

That's the main point. And I believe that menu prices need to come down for foot traffic to grow. And I believe restaurant operators are going to become more aware of that reality as time progresses, because they're, as you know, benefiting from those menu price increases at this point in time. To be fair to the restaurant operator, their overall operating costs have gone up. Their labor costs are up significantly over the last 3 years, and some of that menu price taking has been necessary to offset that wage increase, especially in a state like California.

Speaker 2

So you understand how dynamic that is and they're making the best choices for their individual business P and L. What we need to focus on at Cisco is what we can control. What we can control is the price we pay for the product that we purchase and the prices that we offer that product to our customers so that we can provide value to them. So they will choose Cisco and choose us at an increased rate over time because value does matter meaningfully in this environmental condition, which segues to the second part of your question, which is price elasticity. We've gotten much better at this over the last few years tied to our strategic pricing software.

Speaker 2

It is very robust. We know at the customer level elasticity at the item level and we price accordingly. John, what we're seeing just sort from some color perspective and this will not shock you, restaurant operators need for really sharp prices on their key commodities is intense right now. So tremendous focus, let's call it their top 10 items. And we need to be right on price on those top 10 items.

Speaker 2

And it's intense out there right now, the need for restaurant operators to lower their costs for those highest volume SKUs. So we need to be sharp there. We need to be sharp and need to be right on price on those items that means relative to the market competitive. And what that means is there's a long tail of product and the long tail product is more inelastic and we will never take advantage, but we have an opportunity to be a little higher in price perhaps on some of those inelastic SKUs to fund sharper prices in the commodity space. And that's something that we're working on.

Speaker 2

That's something that we leverage our technology to deploy. The thing that we need to get better at from a pricing perspective is the ability to react in the moment at that individual customer level. If we have a competitor in the account who wants to win business from our customer, we need to enable our sales reps to make timely decisions to respond in the moment and that's something we're working to improve upon and I'm confident we can improve in that regard. Thank you. Thank you, John.

Operator

And we now have our next question from Mark Karten with UBS.

Speaker 6

Good morning. Thanks so much for taking my questions. I want to start with one that's building a bit on the last question. How has the broader distributor pricing backdrop been amid some of the industry headwinds that took place in 3Q? Are you seeing competitors being much more aggressive with upfronts in this environment?

Speaker 6

Is there still the concern obviously about avoiding a race to the bottom? Just what are you seeing on that front?

Speaker 2

Mark, I think it starts with the restaurant operator. The restaurant operator is looking for value right now because of their P and L, the labor cost point that I mentioned. So we're seeing increased activity of what I'll call price shopping. The goodness of digital penetration also creates an environment where it's easier for an end restaurant customer to be able to shop for price. So we've moved our digital order placement from 35% to over 80% over the last couple of years.

Speaker 2

And that is a, in aggregate, terrific thing for Cisco. They buy more, they buy categories they've never shopped from before. We can provide them personalized offers. We can provide them personalized pricing. The competitors have ordering websites too, and it's easier now for a customer to be able to rate shop across distributors, and they need to because their labor costs that I mentioned.

Speaker 2

So it's less activity from our competitive set. It's more customer driven. We've seen an increase in price shopping. I'm sure that's very clear and very straightforward to you. And specifically, as I mentioned in the answer to John's question on commodities.

Speaker 2

So it's an aggressive market right now from a commodities perspective. If you're not right on price, you'll lose that business and we need to be appropriately priced in that regard. And that's something given our purchasing scale, we at Cisco can drive the best possible purchasing cost and we can be credible and relevant from a price perspective to our customers in that regard. You mentioned upfront monies in your question. I want to be clear, there's upfront monies are not a bad thing.

Speaker 2

Upfront monies, if they enable you to secure a large customer win for a dedicated period of time with minimum volume guarantees, our finance team underwrites every single one of those deals. I approve personally the bigger deals. Those are good deals. So I don't want you to infer that increase in upfront monies is actually a bad thing. They tend to be a good thing and we have not to answer your question specifically seen an increase in that activity in the marketplace.

Speaker 2

Mark, back to you if you have a follow-up.

Speaker 6

Got it. That's helpful. And then as my follow-up, just amid some of the industry slowdown, have you seen any changes to the M and A backdrop? Is there any more opportunities opening up just for consolidation across the base of some of the smaller players maybe running some challenges?

Speaker 2

Yes. So in terms of

Speaker 3

M and A, what we're doing at Cisco is a couple of things, right? So number 1, we are focused very hard on the integration. By the way, the Ever Daunt integration is underway, and the synergies are being realized on both from a go to market standpoint as well as from a back office purchase standpoint. So right now, our priority is to focus on integrating and realizing synergies that we have in our portfolio today. In terms of the backdrop and how we think about M and A from a more of a macro standpoint, we have a robust pipeline.

Speaker 3

We have extremely robust pipeline right now. Given the lens of ROIC, we will keep a close eye out for accretive opportunities. But at that moment, as I mentioned, we are focused on integrating and realizing synergies. As we expect, these M and A opportunities that we have in the portfolio will be enterprise accretive from a multiple standpoint.

Speaker 6

Great. Thanks so much. Good luck, guys.

Speaker 2

Thanks, Mark. Thanks, Mark.

Operator

And our next question comes from Jake Bartlett with Truist Securities.

Speaker 7

Great. Thanks for taking the question. My first was a clarification on the comments on April trends. There's a big calendar shift of Easter and some spring break. You mentioned, I think, the kind of similar growth rate for both months.

Speaker 7

So that to me would imply a kind of underlying deceleration in April. I just want to clarify what the message is there, whether the comments are kind of adjusted for those counterships. And then my real question is really about the non local case growth. And it's not specifically given, but it looks like it implies an acceleration. The question is what is driving that non local case growth, the builders or the drivers of that?

Speaker 7

And what your expectations are in the next couple of quarters, whether you think that that momentum will continue and potentially offset some of the headwinds that we might be seeing in independents? Thank you.

Speaker 3

Okay. I'll take the first part. This is Kenny. So just to clarify, there is no deceleration into April. The growth rate from March is carrying into April.

Speaker 3

So just to be very clear, we're not seeing a deceleration in the market right now. It's similar to the exit velocity of Q3. And with that said, as Kevin mentioned, we do have action in place to stimulate volume growth further in subsequent periods. Kevin, back

Speaker 8

over to you.

Speaker 2

Yes. And I think the second part of your question is outside of local, what else do you see going on? We've had a tremendous amount of success in our corporate national CMU business over the last few years and we continue to win net new business profitably in national sales, including new customer wins signed in the quarter, Q3 that begin shipping at the end of Q4 and into fiscal 2025. And one other callout is our Sigma business, which I mentioned earlier, down 3.5 in the most recent quarter. We're now lapping week 53 of a customer exit from a year ago.

Speaker 2

That was an unprofitable customer that wasn't willing to partner with Cisco to a fair and appropriate margin profile and we exited that business. We are now lapping that, which will positively impact Sigma's growth rates in Q4. And we've signed some net new profitable business in Sigma, which will contribute positively to Sigma in Q4 and into 2025 as well. Sorry, on Sigma, one piece to add is Sigma is down on

Speaker 3

a sales basis. However, year to date, the profit margins are up 20% year on year. So we've done a nice job really focusing hard on supply chain productivity. And once volume

Speaker 2

comes in, as Kevin talked about the new deals

Speaker 3

we are signing and inking, that should

Speaker 7

If I'm still on, just a follow-up question. Is Easter a negative for you? Or how does the calendar shift just to make sure I understand how the calendar shift would impact Cisco as a whole?

Speaker 2

Yes, I don't think we're going to get into specific commentary about Easter. There's movable holidays. Easter is one of them. I think it can move 6 weeks in any calendar year. Well, Kenny's commentary was much more macro than that just one event.

Speaker 2

It was in Q3. There was a notable step up from a very tough January into more positive February. February stepped up more positive into March and we're seeing the trend of that improvement continue. And we have to take further actions in Q4 to drive a step up from Q3. And we're prepared to do that through the things that I talked about on today's call.

Speaker 2

We're confident with focusing our sales reps on new customer acquisitions in Q4 that we can improve our market share capture. And to be clear, we took profitable market share. We grew profitably versus the market in Q3. And we believe we can step up that performance in Q4 and we're focused on doing so.

Speaker 7

Great. Thank you. I appreciate

Speaker 2

it. Thank you.

Operator

And we have our next question from Edward Kelly with Wells Fargo.

Speaker 9

Hi. Good morning, guys. I wanted to ask a question just about the backdrop and the expectation and how we should be thinking about the go forward. Kevin, your tone definitely seems to have changed a bit about the backdrop. Kenny, you mentioned transitory, I think in your remarks.

Speaker 9

And if you look at Q4 guidance, you have a $0.20 range out there. That's a pretty big range, I think, for you guys. So it does suggest some uncertainty. But I guess what I'm curious about is how you're thinking about the duration of what we are seeing today? What specific adjustments that you're making that allow you to get to your goals, how do you think that's going to actually impact next year?

Speaker 2

Yes. Good morning, Ed. It's Kevin. I'll start. Yes, Q3 from a volume and traffic to restaurant perspective was a softer macro than we had anticipated.

Speaker 2

It was negative for the industry, food away from home in total volume of cases by the food distributor network in aggregate was negative in the quarter and that's not what we would have anticipated for the quarter. So the tone that you heard is tied to that fact based the overall macro in Q3 was softer than we had anticipated. So that means we need to take share in order to be able to grow at the rate that we desire to grow at. And the good news is we can do that. We can do that by focusing on net new customer prospecting.

Speaker 2

We can do that by further penetrating our specialty businesses, which have large opportunity to grow prospective market share. And we have teams really focused in that regard. I think we'll defer comment on fiscal 2025 until our May Investor Day. But we are confident in our ability to deliver against the guidance for the year. And for that, Kenny, I'll toss you to comment on Ed's question about the guidance range for the year and for the Q4.

Speaker 3

It's Kenny. So based on our current expectation and with 3 quarters under our belt, we are more confident at the midpoint of our guidance range. And why is that? Three reasons. One is our confidence is guided by data.

Speaker 3

We partner with third parties, suppliers, institutions and we have a lot of data, we have a lot of volume running through our shop each and every day. That's point number 1. Number 2, what gives me confidence in our guidance is the fact that we have a ton of dynamic levers in our P and L. As you can see in Q3, our GP grew faster than expenses and faster than sales, which means that you can leverage on both the GP line as well as the operating expense line. We talked about a lot of levers in the GP.

Speaker 3

You have strategic sourcing, you have Cisco brand penetration within local, you have centralized pricing tool, you also have growth from our specialty business, which we saw this quarter. So GP leverage that we see. And then we're also very excited with the fact that we increased our structural SG and A cost takeout from $100,000,000 to $120,000,000 And the good news is as the market normalizes, as volume materializes, that volume will flow down nicely and accretively down to the bottom line and as these costs are structural and they will not be back in.

Speaker 2

And just to add one that we try not to do 3 part answers, but as we think about where else can sources of value come from as we go from 'twenty four to 'twenty five. There's more to be gained with supply chain productivity. We're not done. There's still gas in the tank on productivity improvement. We're really pleased with our performance in supply chain in March.

Speaker 2

It was the best performance in years. And we're seeing that carry into Q4 and that can and will carry into 2025. So supply chain productivity will continue to be a beneficial contribution going forward. And then local case growth, we can accelerate local case growth relative to our total company case growth and that's something we're very focused on for fiscal 2025, and we'll talk about how we're going to do that at Investor Day.

Speaker 1

Great. Thank you. Someone else to that

Speaker 3

question. Thank

Speaker 2

you,

Operator

Ed. And we now have our next question from Kelly Bania with BMO Capital Markets.

Speaker 10

Hi, good morning. Thanks for taking our questions. Kevin, you noted a couple of times just the need for restaurants to lower their menu prices. Just curious if you to do so? And can you also tie in just to do so?

Speaker 10

And can you also tie in just what you're seeing in California in particular in light of the recent wage dynamics there? Are you seeing restaurants pass along those higher costs in terms of menu pricing? How is California impacting the total volumes across the industry?

Speaker 2

Yes. Kelly, it's a good question. I appreciate the question. We tend not to get into conversations with our customers about the prices they should charge their end consumers. I was just making an observation on what we see in the data, just being fact based.

Speaker 2

Traffic down for the quarter, cases shipped in aggregate by the food away from home industry down year over year for the quarter and sales up at restaurants. So it's just pure math. The only way that those dynamics could be true at the same time is for menu prices to be up significantly on a year over year basis. And research indicates, we do a lot of consumer research that consumers are getting petite with the increases in menu prices. But it's not for us to tell our end customers what to do with how they run their business.

Speaker 2

What's on us is what we can control. We can provide them value. We can provide them value in Sysco brand. We can provide them value by smaller portion size. We can provide them value by doing value added cut services to take labor out of their kitchen.

Speaker 2

And that's what we focus on. We tend to focus on what we can control and help be a solution oriented company for our customers. So the second part of your question about California, it's too soon to tell. I mean, the law just passed. We are not seeing a negative impact to our business in California to discreetly and specifically answer that part of your question.

Speaker 2

I think what I've read and what I'm sure you've read is new door count openings will be muted in the state versus historical 10 year average tied to concerns that these are more these are national chain operators. As you know, the law does not impact mom and pops, it's a national chain law. And you've seen those companies announced that they're going to reduce the number of new door openings. We're seeing plenty of growth in other states, the South in particular, we're seeing lots of new door starts in the South and a lot of population moving from California, frankly, to other states and smart restaurant operators tend to follow the puck where it's going and focus their new door growth elsewhere. Kelly, back to you if you have a follow-up.

Speaker 10

Thanks. That's helpful. I guess, can you also just talk about how mix or trade down is impacting kind of net pricing or what you're seeing in the sequential basis relative to last quarter in terms of price points among the different like customer cohorts?

Speaker 2

Yeah, I think the notable call out that I provided today is that QSR in our book of business is soft versus the others and I'd point you to the Sigma data that we shared today to give that illustration. We are not seeing meaningful trades down within concepts to lower cost proteins as an example. That's something actually we think is appropriate and should occur and it's something that we can do and we can help our customers do that so that they can in fact, provide value to the customer who's coming into that restaurant. And that's something our sales force, the largest in the industry, works with customers on. We work with them on portion size.

Speaker 2

We work with them on alternative proteins. We work with them to provide alternative Cisco brand cuttings, as I mentioned earlier, that can help them save money. So we're not seeing a trade down within restaurant concepts. It's more about that lower income consumer being pinched right now, and that's showing up in the sales results.

Speaker 10

Thank you.

Operator

And our next question comes from Jeffrey Bernstein with Barclays.

Speaker 8

Great. Thank you very much. My first question is just on the cost savings that you talked about. It sounds like we're up to $120,000,000 or more for this fiscal year. So you were able to increase it by $20,000,000 pretty quickly when you saw sales perhaps a little bit more challenged.

Speaker 8

I think you mentioned 500 roles were eliminated and yet you're still able to invest in what sounds like accelerating the sales force. So just to clarify, it sounds like all of these incremental cost savings are back of house with no customer impact. And if that's the case, what's the future opportunity for cost savings in the supply chain if sales remain challenged? I'm wondering if you have any order of magnitude in terms of the potential incremental cost savings going into next year if you were to see these sales challenges persist?

Speaker 3

Hey, Jeff, it's Kenny. I'll take that one. So first things first, and you call it, we are very proud of our leadership team taking proactive actions given the softer macro backdrop. And the good news is we have a lot of levers in our P and L. In particular to your question around the $120,000,000 of cost out, let me give a bit more color.

Speaker 3

As I mentioned, last quarter, it was roughly $100,000,000 That's increased by $20,000,000 to $120,000,000 for FY 'twenty four. If you double click on the P and L, Jeff, if you look at GSE or corporate operating expense, that was $220,000,000 for Q3 and that was down 6% year on year. If you look at it quarter over quarter between Q2 to Q3, it was down 8%. So the cost is coming out of the P and L. And you are correct, that does include most recent 500 elimination of positions, which is predominantly on the corporate side.

Speaker 3

So that is correct. We did not impact client facing roles in our U. S. FS business. In terms of outer periods, what are some of the areas of opportunities?

Speaker 3

There's more room to go. As a company, we continue to have a pipeline of initiatives and savings. I'll give you a couple of examples just to put color on it. Last quarter, meaning Q3, we rolled out the full implementation of Canada shared service center under MiROG and that has yielded accretive savings for our company. And if you think about just pure SG and A, yes, part of it is headcount, but we have a big bucket, that's what I call 3rd party indirect sourcing and we are making good strides on that one as well via vendor consolidation and the rate reduction as well.

Speaker 3

So there's still a lot of room to go. As Kevin mentioned earlier on supply chain side, we saw record level of productivity this quarter. With that said, we are not back at 'nineteen levels yet, and we still have room to go on that front as well in terms of P and L accretion from a cost standpoint.

Speaker 2

Yes. Just Jeff, this is Kevin. I'll add 2 things to that. Sales force, we're investing in our sales force. So and we're investing in specialty, as Kenny said in his prepared remarks.

Speaker 2

Within supply chain operations, we will flex our staffing to the volume. So if the volume declines, we flex staff accordingly. But we're not talking about things like furloughing drivers. I mean, their business is robust and it's healthy, it's growing. It's nothing like what we were contending with back in COVID.

Speaker 2

It's more about overtime, flex it down. It's about part time labor, flex it down. And we're getting very good at flexing our supply chain labor to match our volume. And in fact, that's why March was as strong as it was.

Speaker 8

Understood. And then just my follow-up. Kevin, I know you highlight on the slide deck, your 17% market share and I know we've talked about the big three maybe having still sub 40%. So it does seem like the focus is predominantly on taking further share from the other 60%. I know it doesn't necessarily require M and A, but just you talk about that opportunity to take market share?

Speaker 8

I would think that opportunity would accelerate if the competition is struggling. I know we've talked about the restaurant industry perhaps struggling, but can just talk about maybe the other 60% of the foodservice distribution industry and what you're seeing there in terms of your competition and maybe the greatest opportunity you see there to gain share?

Speaker 2

I think your main point is the strong gets stronger when times are tough, tougher. And yes, that is the case. And if you look at the time of COVID, we performed extremely well versus the industry at large, top and bottom line versus the industry during that period of time. And I think that would continue in a softer macro environment. I tend to focus more on the vectors of growth where we are meaningfully focused is in specialty.

Speaker 2

We have the most robust specialty offering by far in the industry coast to coast. It is unmatched by anyone in the industry and our market share in specialty is well below our U. S. Broad line market share. So we have the product offering, we have the geographic coverage, the market share growth opportunity in specialty is substantial and we're making investments in specialty to be able to bring that market share capture to life.

Speaker 2

The net 400 sales professionals that I talked about today includes increases in specialty protein and specialty produce sales experts. And we are going to talk in more detail about the opportunities in specialty at our Investor Day at the end of May.

Speaker 8

Thank you.

Speaker 2

Thank you, Jeff.

Operator

And we have our next question from Kendall Tuscano with Bank of America.

Speaker 10

Hi. Thanks for taking my question. Just a quick clarification point was on, I know you gave the impact from Edward Don. But just to make sure I understand, would it have been that the total case growth on an organic basis was plus 0.2% and local would have been down 1.2%?

Speaker 3

That's correct. Your math is correct.

Speaker 10

Okay, got it. It's helpful. And then another quick one is just when you talk about lowering menu prices and working with your suppliers on that, are there any specific products categories that you would have in mind on that? Would it be more commodities focused or non perishable items?

Speaker 2

Yes. Center of plate is what drives the purchase ticket at any restaurant. So what we're focused on is providing value, good, better, best options, alternative proteins, portion size, center plate is what drives any restaurant's purchasing cost. And then commodities is the place that a customer will go to help save themselves money and they'll price shop distributor A versus B. So we need to be, as I said earlier today, right on price on commodities.

Speaker 2

And we can do so intelligently by leveraging our pricing tool, purchasing those commodities at rates that are industry leading. And it's a basket of goods they buy from us. And as John Heinbockel asked about, it's managing the elasticity across that book and nobody is better positioned to be able to do that work than Cisco.

Speaker 10

Great. Thank you.

Speaker 2

Thank you.

Operator

And we have reached our allotted time for our question and answer session today. This does conclude today's program. Thank you for your participation. You may now disconnect.

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Earnings Conference Call
Sysco Q3 2024
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