Greetings and welcome to The Chefs' Warehouse Second Quarter 2017 Earnings Conference Call. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Alex Aldous, General Counsel and Corporate Secretary. Please go ahead, sir.

Thank you, operator. Good afternoon, everyone. With me on today's call are Chris Pappas, Founder, Chairman and CEO; and John Austin, CFO. By now, you should have access to our second quarter 2017 earnings press release. It can also be found at www.chefswarehouse.com under the Investor Relations section. Throughout this conference call, we will be presenting non-GAAP financial measures, including among others, historical and estimated EBITDA and adjusted EBITDA, as well as both historical and estimated modified pro forma net income and modified pro forma earnings per share. These measurements are not calculated in accordance with GAAP and may be calculated differently in other company's similarly titled non-GAAP financial measures. Quantitative reconciliations of our non-GAAP financial measures to their most directly comparable GAAP financial measures appear in today's press release. Before we begin our formal remarks, I need to remind everyone that part of our discussion today will include forward-looking statements, including statements regarding our estimated financial performance. Such forward-looking statements are not guarantees of future performance. And therefore, you should not put undue reliance on them. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Some of these risks are mentioned in today's release. Others are discussed in our annual report on Form 10-K and quarterly reports on Form 10-Q which are available on the SEC website. Today, we're going to provide a business update, go over our second quarter results in detail and review our 2017 guidance. Then we will open up the call for questions. With that, I will turn the call over to Chris Pappas. Chris?

Thank you, Alex and thank you for joining our second quarter 2017 earnings call. The positive momentum we experienced in the first quarter continued into the second quarter. A few highlights from the second quarter include 10% organic growth in net sales. Specialty sales were up 11.9% over the prior year excluding the contributions from MT, our last acquisition. This was driven by unique customer growth of approximately 4.5%, placement growth of approximately 6.1% and case growth of approximately 6.4% versus the prior year second quarter. Gross margins improved 24 basis points driven by a 12 basis-point improvement in specialty and a 12 basis-point improvement in our protein division. Contrary to what many of the chains are experiencing, we're see an acceleration of growth in many of our markets. Ten years ago in Brooklyn, we had 50 customers, we now have over 500. Places like Nashville, Pittsburgh orlando have become vibrant independent restaurant scenes. To us, it seems like the whole country is embracing more of the independent chef-driven restaurants. And fortunately for us, the chefs of those independent restaurants view us as a partner and we've been able to continue to grow alongside them. The Chefs' Warehouse is the warehouse choice for over 25,000 restaurants. In addition to new customer growth, we've continued to further penetrate our existing customers using our hybrid selling model. We have expanded our category offerings. For instance, our largest market in New York where we have a tremendous presence over 100 trucks on the road everyday, thousands of deliveries being made, adding a few thousand dollars on each route is highly accretive. We've had great success so far, but there's tremendous room for growth in all of the markets we serve. Moving on to our infrastructure. We continue to be on track to move…

Great. Thank you, Chris and good afternoon, everyone. Our net sales for the quarter ended June 30, 2017, increased approximately 13.9% to $331.7 million, from the $291.2 million, for the second quarter ended June 24, 2016. The increase in net sales was the result of organic growth of approximately 10% as well as the contribution of sales from the MT acquisition which added approximately 4% to sales growth for the quarter. Inflation continued to increase sequentially during the quarter to approximately 3.8%, consisting of 4.3% inflation in our specialty division and inflation of 2.9% in our protein division. That rate of inflation is slightly ahead of our expectations when we started 2017, particularly in proteins. But that cadence of a sequentially improving inflationary environment is consistent with our overall outlook. Gross profit increased approximately 15.0% to $82.6 million for the second quarter of 2017 versus $71.8 million for the second quarter of 2016. Gross profit margins increased approximately 24 basis points to 24.9% from 24.7% which benefited from the increase in mix from our business -- derived from our specialty business. Our gross margins in our specialty division increased approximately 12 basis points, inclusive of the impact of the MT acquisition which had a slightly lower-margin profile than our chefs margins. Gross profit margins also increased by 12 basis points in our protein division. We were able to effectively manage the impact of inflation on our gross margins, although we did see a lag in passing that through in our protein division. As expected, we have seen a slight uptick in gross margins in July for most of our protein businesses, although prime continues to be a very difficult market. Overall, we're encouraged with the improvement we're seeing in that segment of our business. The total operating expense increased approximately…

[Operator Instructions]. The first question comes from Ryan Gilligan of Barclays.

Can you talk about the sales trends in the quarter and into the third quarter? And I guess, what your thoughts are for organic growth in the second half?

Sure. So I can tell you that August is really, really looking strong. It's only obviously, not even into the second week, but we're -- we're pleasantly surprised that the demand is there, the summer sometimes you get a little slow down. But our overall customer base is just performing really well and the cross-selling is performing really well. So I think we're getting the benefit. And we're optimistic for the outlook, world events being a sidebar and all the craziness that's in the news, it just seems like people are -- our clientele's clientele is spending and we're very happy about it.

Got it. And so can we assume that July is strong too or were you just talking specifically towards August?

Yes, John. July was not particularly strong, July is typically not a very strong month, that's even in my days at PFG was that way. So I don't know that I would read much into July, but you see our outlook for and the guidance for the full year and take that for what it's worth, but it's implying a pretty solid mid- to high single-digit growth rate for the rest of the year.

Yes, for whatever reason, the holiday weekends have been really bumpy this year and we can't figure out why, but overall our trends are really positive.

That's helpful. And then I guess, so just moving on the gross margins, it sounds like not being able to fully pass on the protein cost increases was a bit of a drag. Can you just update us on how we should think about the opportunity for margin recovery in protein going forward?

Sure. Again, it's a bifurcated market. Prime is only a small part of the overall beef business, it's an important part to Allen Brothers. So really, our outlook, most of our business is choice, separate choice. So we're pretty confident that we'll do well into the -- through the third quarter and fourth quarter. Really, the only -- the headwind really is it's about a $30 million -- if I had to sum it up for you, it's probably $30 million, $40 million overall of our $1 billion, almost 3 business that really has a headwind. And unfortunately, when we hit a market like that, there is a hit. We had a great second quarter, it could have been even better without that headwind, just to put things in perspective. But being optimistic, we're much better about it and we have other resources and solutions for customers and it is a small part of our business. So the overall choice business which is the majority of our beef business, we think we have a pretty good handle on it.

Got it. So what's going on in margins protein has nothing to do with what happened last year with the Del Monte ERP rollout? Those issues are completely gone.

Yes. I think that was a perfect storm.

Yes, I mean, we -- no, it doesn't. Short answer is no. When we saw margin increase in protein year-over-year, as Chris alluded to, we expected a little bit stronger margin improvement, but in the end of the day, it's still improving.

Right.

Our next question comes from Chris Mandeville who's with Jefferies.

It's actually Aaron Eisenberg on for Chris. Nice job there on keeping OpEx flat year-over-year. Just kind of want to get a sense of this actual leverage you're still expected in the coming quarter or 2 as it seems like you guys do have some solid top line momentum.

Yes, I'm sorry, so the question -- is the question is do we still see lots of leverage going forward?

Yes, on the OpEx line.

On the OpEx. Yes, we've just started really to leverage that. We've built so many new businesses over the past few years and new buildings and we're pleased to see that we're finally starting to get deleverage. But again, long term, we're building a big business. It's natural to expect the leverage as you get bigger, but our investments in people and in business is just kind of kept the leverage down. So absolutely, we're expecting leverage. Can't promise exactly when but as this thing gets bigger and bigger and it's all about throughput at this point, more boxes through our facilities and we're expecting that leverage for OpEx to really start to show itself as we get bigger.

We're pretty happy though with the rate of growth in the second quarter, as we've commented on our prepared remarks, was basically flat when you adjusted for the onetime items and that's a meaningful improvement from the first quarter, so that's good.

Understood. And then could you maybe help us out just maybe quantify what the inflation expectation now is for the back half, if that has changed at all? I'm just curious how you guys managed to still grow the gross margin percent in light of the strong inflation during the quarter?

Yes. Well, everybody wanted inflation and now they got it. Again, my wish is moderate inflation with volatility that we're able to grab a few pennies on the way down. Except for prime, it looks like overall, the choice markets have kind of calmed down. So I'm not really sure if there's going to be anymore inflation. We saw a lot of inflation in dairy, the butter prices went kind of crazy on us. So it's really hard to predict right now because nobody expected this type of inflation.

Yes, it was definitely a little ahead of our expectations. I think the cadence is similar to what we expected, but probably didn't expect it to ramp up quite so quickly. I think if you read most of the beef reports and people are still expecting beef to come off a little bit, I think at this point...

I would say the good news is that we're really diversified right now and we built these algorithms and we have pricing teams and great management. So I mean, there could be a little bumpiness, but we'd like to think that we're pretty prepared for some -- for normal volatility of some inflation and some deflation and we pray that there's not going to be any hockey stick-type of movements in the markets.

Understood. And I guess, a last one for me, it seems like you guys saw some nice sequential improvement on the free cash, just curious if you can maybe talk about how you expect to deploy that?

Yes, we've continued to show some good cash flows. If you remember, we finished the first quarter with about $36 million in cash on the books. During the second quarter, we built that to $37 million, that was inclusive of paying off $11 million of new market tax credit debt. So all in all, we feel really good about the cash flows in the business.

And deleveraging.

And deleveraging. So obviously, at some point, we do hope to deploy that $37 million in cash. Doesn't do us a lot of good sitting on the balance sheet at the moment, but ...

Nice to have the cash.

Yes, exactly.

Our next question comes from Andrew Wolf of Loop Capital Markets.

So Chris, I think you mentioned the cross-selling is happening and that's a good thing. But seeing some report of slowing in restaurants overall, even maybe an independent. You have a certain seg, a higher end segment of food service operation. So are you seeing good order rates for same item indicating that same-store sales are decent and there's still volume and traffic coming in? Or is a lot of your internal sales growth from like new customers and new lines with existing customer?

Yes, I get this asked all the time and I wish I was a better oracle of Connecticut. From my desk Andy, I saw a really strong new customer growth. I saw great penetration in our existing customers. Cross-selling, more items to the same customers. So I can't really comment on the same year-over-year sales for our existing customers. All I could tell you is we're selling more products, so we're winning and bad debt is really not moving anything significant would be a sign that the market's overheated and there's too many restaurants and now you have an excessive amount of closings. I do think there's a lot of restaurants and I do know that there is more and more openings based on what we see coming onboard and forecasted. So I think the market's pretty healthy. I think there is lots of competition. I think a lot of the chain reports are out there, the same-store comps are struggling because there's an oversupply it seems of just about everything. But again, we service over 25,000 independents who are pretty crafty and they find a way to make a pretty good living. And we've always said that that's our niche and that's what we focus on and I think we're benefiting from it.

That is helpful to me. I wanted to ask a little more as you mentioned, you're building out some e-commerce capabilities, I assume that's on the B2B side, because you're -- or is that more at Allen Brothers where you do B2C?

No, it's -- yes, it's to B2B. Again, right now, we take orders over the phone, fax, they get e-mailed, we get -- they're texted and now this is just another way customers to reach us. We have over 1,000 customers registered now who can order online. We broke the $1 million a month which is obviously small compared to our overall sales, but I absolutely feel that a huge amount of customers are going to start to switch over when they want to place their orders. We're -- and every month, we're adding to our website and making it more user-friendly. And I think it's just a matter of time where sales people will become consultants and more time out in the streets selling and the inside people will become true customer service people and inside sales people and the actual order process will be automated. So I'm almost positive that's the way it's going.

Got you. John, would you care to tell us how much MT shaved off the specialty gross margin?

I'll give you -- we don't disclose profitability by company or division and things like that. It was running about 200 to 300 basis points lower than what our typical specialty branch runs.

Okay, that's helpful. And just the last question. Sorry?

Yes, but the expectations -- just to remind you, the expectations is they will run just like every other Chefs' Warehouse.

Okay. On -- can you just remind us what's the capacity utilization for the current business -- the current facilities are? How much could the current business increase by basically on maintenance CapEx, if you will and I know you're building out 1 more facility?

Yes, it's a very difficult question to answer for two reasons. One is it varies by branch. We've got lots of room in New York, we've got a huge amount of room in Chicago, lots of room in San Francisco, a couple of other facilities are a little bit closer to capacity. But the other reason it's a difficult question to answer is it kind of depends upon what type of growth it is. If it's adding the same -- more volume of the same SKUs, you can get a lot more throughput through those facilities as opposed to if it's adding, all the growth is coming from adding new categories where you need new pick slots, then it gets a little bit more limited. I mean, we think we can meaningfully grow the business today without adding major capacity. We will at some point have to add capacity in L.A. We'll probably need to add some capacity one day in Florida. And so we've got different markets that are going to need capacity at some point, that's just a normal part of the business.

Yes. But our major, major focus right now is more throughput through New York, San Francisco, Chicago.

[Operator Instructions]. The next question comes from Kelly Bania of BMO Capital.

Just wanted to ask about gross margin a little bit more. I think you mentioned that you were kind of looking for a little bit better performance there and I think maybe some others were, too. So was just curious if that was -- how much of that was driven by inflation? Because it seems like it came in quite a bit higher than maybe expectations. And so -- and I guess, particularly against the comparisons from last year, especially in the protein and even the specialty division which were down pretty meaningful last year. So just curious how you felt about kind of recuperating some of that or how much that was inflation or other dynamics?

Yes. Kelly, the teams that we've put together here are doing a phenomenal job managing the margins. And we thought we had a great quarter, the margin was healthy. We did have a lot of headwind in protein and we managed through it. Last year, we didn't do as well, especially through our enterprise systems conversion, but shows you how far we've come because it was truly a challenging protein market. You had massive inflation and shortage of supply in prime. So I'm really pleased where the margins came in and they could have even been much better with a normalized market or a little tailwind in protein. So we think once we -- the markets will switch over eventually and we'll get the tailwinds on protein and we really think we have a great team now managing margins. So inflation was a little bit more than, I think, everybody expected, but if it's not a crazy, crazy market, we usually -- there's a little lag, but we're usually able to pass it on because again, we don't have giant, giant group accounts that are on contract. So the sales people do the pricing with their management team and the pricing leaders and they do a pretty good job passing price increases.

Okay. And can I just ask also, I think it was last quarter or a couple of months ago, you announced the new CIO and just kind of any changes that he's making or process changes that he's making for the company or anything you can tell us about that role?

Yes. Well, again, we had a great CIO for 10 years before that and Tom joined us. He's got a tall task of finishing enterprise system conversions on our JDE sites and making all the systems work more transparent and take our Canopy system which we run our meat processing facilities and work with that technology team to keep improving it. So I would say, right now, we're very pleased with Tom and his job is difficult but simple, make it easier to use, make it friendlier for all to use the system and find ways that we can continue to cut costs using technology, especially in our warehouses, okay? And our very huge amount of users on -- between telephones and computers and scanning. So big opportunity to capture points in there to lower our OpEx. So we're excited about Tom.

Great. That's helpful. And then maybe just to ask one more on M&A, I mean, you obviously talked about the opportunity with tuck-ins, but also mentioned just the vast opportunity you have with the existing networks, so how do you think about balancing those at this juncture?

Yes. Well, we like our position. Again, we just crossed the milestone, we reached a level of debt lower than 4.9, so it gives us access to our Term B credit line. We also have which -- we had $48 million and we just paid $11 million note. Again, so we have $37 million of cash sitting on the books. So I think we're in a great position to look at opportunities, but they have to be a great, great opportunity. The pipeline is always frothy, but as you could see, we're really focusing driving more throughput through our new facilities that have the capacities. So we would love to do a great accretive tuck-in or add a category to one of our facility that has capacity. So we're always entertaining it, but it has to be a great opportunity and right now, we're taking our time.

Ladies and gentlemen, we have reached the end of your question-and-answer session. I would now like to turn the call back over to Chris Pappas for any closing remarks.

Yes. Well, thank you, everybody, for joining us on our second quarter call. We had a great quarter. We think the team really stepped up and we're starting to leverage all our investments and we have an unbelievable sales team and ops team and we're really excited about the outlook for Chefs and look forward for everyone joining us on our third quarter call. Thank you and have a great night.

This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.