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  1. Analysis
August 1, 2018

Amid overhaul, Weston Foods remains positive despite H1 profit fall

Amid increasing competition, Weston Foods, one of North America’s largest bakery products businesses, is undergoing what its parent company has called a "transformation programme" aimed at becoming a "premier player" in the industry and delivering "solid financial results". Yesterday, Weston Foods reported falling half-year sales and earnings. Simon Harvey had a look at the numbers.

Amid increasing competition, Weston Foods, one of North America’s largest bakery products businesses, is undergoing what its parent company has called a “transformation programme” aimed at becoming a “premier player” in the industry and delivering “solid financial results”. Yesterday, Weston Foods reported falling half-year sales and earnings. Simon Harvey had a look at the numbers.

Weston Foods, the Canada-based bakery arm of food manufacturer and retailer George Weston Ltd, yesterday (31 July) reported falling first-half sales and earnings, a challenging period that also prompted its parent to revise its outlook for the division for the rest of 2018.

On the face of it, the 6% fall in sales and 34% slide in operating income from Weston Foods during the 24 weeks to 16 June, coming after a year of a dip in sales (thanks to foreign exchange) and a tumble in earnings, did not look appetising, especially as the baker is going through a “transformation programme” to better position the business and improve its financial performance.

Nevertheless, management said it was pleased with the progress of the programme so far, even if it is having a somewhat disruptive impact on the business in the near term.

In George Weston Ltd’s 2017 annual report, the company outlined how Weston Foods had embarked on “an extensive business review to best position the business for the future”.

The company, which also owns major Canadian food retailer Loblaw, said: “Weston Foods introduced its new strategic framework with a corresponding transformation programme, centred on its ambition of becoming a premier North American bakery, all while delivering solid financial results. Weston Foods aims to redefine bakery for its consumers and customers with superior taste and experiences, enhance its level of service to customers, build on its leading brands and engage in strategic innovation.

“Critical to achieving these goals are engaging talent in its workforce, investing in a competitive integrated supply chain, executing a new go-to-market approach, and implementing new systems to support agile ways of working.”

The programme introduced to support these goals itself has the aim of boosting adjusted EBITDA from Weston Foods by CAD100m by 2020.

A central part of the transformation strategy is to cut the number of products offered by Weston Foods. Speaking to analysts yesterday after the publication of George Weston Ltd’s first-half results, chief executive Galen Weston indicated the baker may fall short of that 2020 target by six to 12 months as efforts to replace discontinued lines takes longer than management had expected.

Luc Mongeau, the former Mars executive who was appointed president of the Weston Foods division in early 2017 and who is leading the transformation push, explained the rationale behind the programme and updated investors on its progress on the call. “Some of the benefits we see are a reduction in sourcing of unique ingredients and to remove all low-volume SKUs, which disrupt our bakery’s efficiency. Eliminating these SKUs enables the business and our customers to have a focused and simplified portfolio of relevant products with a consumer.”

Mongeau said he was “pleased” with the progress of the programme so far and and insisted the strategy is starting to “generate benefits”. And despite the possible delay referred to by Galen Weston, Mongeau added: “I remain confident that our team will achieve the targeted efficiencies by the end of 2020.”  

However, it would seem there is more pain to endure for Weston Foods in terms of earnings for the rest of the year, with only 60% of the targeted SKU reduction count so far completed. 

Richard Dufresne, the president and CFO of George Weston Ltd, appeared to indicate such a scenario by telling investors on the call both sales and adjusted EBITDA would “trend in a similar fashion to the first half of 2018”.

“Sales are expected to be negatively impacted by volume declines, including the loss of sales from key customers and continued product rationalisation,” Dufresne said.

He added Weston Foods’ second-half adjusted EBITDA will be hit by “headwinds from higher input and distribution costs in an inflationary environment and minimum wage increases, partially offset by improvements from the transformation programme”.

Weston Foods’ sales dropped 6% in the six months through 16 June to CAD985m, with a more pronounced 8.1% slide in the second quarter. Dufresne said the second-quarter decline would have been 5.7% if the “unfavourable” foreign-currency impact was stripped out.

Operating income was down 34% at CAD31m, while adjusted EBITDA fell 20% to CAD92m.  

However, it could still take time for the rationalisation programme to have the desired effect on earnings, especially after Weston lost a contract in June to supply Walmart stores in Canada due to what the retailer said were “commercial reasons”.

Weston Foods’ management was asked how much of a factor the loss of the Walmart business was in the baker’s revised expectations for the rest of the year, versus the slower ramp-up in volume gains the manufacturer was seeing as the SKU rationalisation frees up capacity.

Dufresne said: “I guess the way I can answer that question is essentially we said that we’re going to have the same trend in the second half as the first half. But, in addition to the first half, now we have the de-list that you just talked about and we’re not saying it’s going to get worst. That means on a combined basis it’s somewhat getting a bit better on an overall basis. I’ll leave it at that because I don’t want to comment on [Walmart].”

More broadly, Mongeau explained the difficulties in realising success from the strategy to rationalise the Weston Foods product range. “So we have plans in place to start to rebuild, but like … you lose the sales immediately and you hope that you’re going to have new sales coming online, and it’s not coming as fast as we expected. But what we like is that we’re seeing the complexity exit the business.” 

However, while Mongeau recognised the “few de-listings” the company has seen are affecting Weston Foods, he remained “confident” in achieving the CAD100m improvement in adjusted EBITDA, albeit with a possible six-to-12 month delay.

In the same light, CFO Dufresne said there are “pressure points occurring throughout the business” as a result of the transformation plan but underlined the benefits are starting to show.   

“This [transformation strategy] is having a positive impact to cost and complexity, ultimately freeing up capacity for a more profitable business,” Dufresne noted. “However, it’s also having a negative effect on sales performance as we see the slower ramp-up of the replacement volume.” 

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