Good day, ladies and gentlemen, and welcome to the John B. Sanfilippo & Son Incorporated Second Quarter Fiscal 2018 Operating Results Conference Call. At this time, all participants are in a listen only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference call may be recorded. I would now like to introduce your host for today's conference CFO, Mr. Michael Valentine. Mr. Valentine, you may begin.

All right. Thank you, Daniel. Good morning everyone, and welcome to our 2018 second quarter earnings conference call. Thank you for joining us today. On the call with me is Jeffrey Sanfilippo, our CEO; and Jasper Sanfilippo, our COO. Before we start, we want to alert you to the fact that we may make some forward-looking statements today. These statements are based on our current expectations, and they involve certain risks and uncertainties. The factors that could negatively impact results are explained in the various SEC filings that we have made, including Forms 10-K and 10-Q. We encourage you to refer to these filings to learn more about these risks and uncertainties that are inherent in our business. Starting with the income statement; net sales for the second quarter of fiscal 2018 increased by 3.9% to $259.1 million in comparison to net sales for last year's second quarter of $249.4 million. The increase in net sales was primarily attributable to increased sales of snack mix and trail mix products in our consumer distribution channels. Sales volume increased by 0.9%, as the 6.6% sales volume increase in the consumer distribution channel was offset in large part by a 14.5% decline in sales volume in the commercial ingredients channel. The sales volume declined in the commercial ingredients channel was due to the loss of an almond butter customer that occurred in the latter part of last year second quarter. Sales volume increased in the consumer channel primarily from increased sales of private brand in Orchard Valley Harvest trail mixes and snack mixes. Sales volume decreased in the contract packaging distribution channel due to the acquisition of the Squirrel Brand business at the end of November of 2017. Squirrel Brand sales volume for December and the current quarter were included in the consumer…

Thank you, Mike. Good morning, everyone. It was a strong quarter for top line sales for the company and we are courage by our significant sales growth in both branded and private brand products in our consumer distribution channel. As I have mentioned on previous calls, the company is investing in our brands and we had strong seasonal programs in place October through December. Our holiday promotional pricing commitments for Fisher recipe nut were completed by the end of fiscal 2018 second quarter. The brand gained market share and had a very successful holiday season in spite of significant changes in shelf space in one of our major customers. At retail, Fisher recipe nut pound volume increased by 3% while the total category pound volume was unchanged in the quarterly comparison according to IRI market data. We believe that this promotional pricing program supported our goal of investing in our brands and will support new distribution gains as well as continued growth for the Fisher recipe nut brand in future quarters. Following the conclusion of these holiday commitments, we have currently improved the alignment of our selling prices with our acquisition cost for walnuts and pecans. Orchard Valley Harvest brand continues to grow significantly and it is currently our second largest brand in respect to net sales. Orchard Valley Harvest performed well at retail this quarter with pound volume up by 61% while the total produce category pound volume was unchanged in the quarterly comparison. The line extensions we executed in the past year, which include omega-3 mix, antioxidant mix, had an extremely strong and driven brand growth. In addition, the launch of our OVA salad toppers is off to a great start with initial shipments beginning this fiscal year. Fisher snack nut pound volume at retail declined by 17%,…

All right. Thank you, Jeffrey. I will now turn the call over to open it up for questions. Daniel, can you please queue up the first question?

[Operator Instructions] And our first question comes from Francesco Pellegrino with Sidoti. Your line is now open.

Can you hear me?

Yes, we can.

Hi, Francesco.

Okay, perfect. So I just want to jump in right now and just touch upon I guess some of your closing comments, Jeffrey, about -- it looks as if you are going ahead and you are raising selling prices. When I look at your consumer distribution channel, at least the way I'm calculating it, I'm getting that pricing was down 4% for both private label and branded label sales, and when I just think about some of the pricing pressure, I know that you had addressed in your comments that you weren't able to get across, or you weren't able to implement price increases year-on-year, but it seems as if prices might have actually been down, and I'm wondering -- look, I know in the private label category, it's going to be weighed [ph] down by lower average selling prices for snack and trail mixes. So I understand that, but there seems as if there might be some sort of product mix happening within the branded category for you guys that sort of dragged down prices, and it could be something as simple as a change in the types of nuts you were selling, maybe OVH has a lower average selling price point, maybe you are selling more smaller bags and lower bags, so just trying to wrap my mind around what's happening with the product mix?

Sure. So overall, Francesco, on our consumer channel, our pricing was actually up $0.05 a pound. We did see a little bit of a shift in sales mix. I think Mike alluded to that as far as some of the cheaper products that we've launched, shifting from walnuts and pecans to peanut items that have a lower average per pound sale price. So that was part of the dynamic in the category. There was a lot of pressure as we talked about this year on both competitive activity from other brands as well as the private brand pursuit of one of our large retail customers, which puts some pricing pressures as well on us.

Okay. I will go back and do that calculation and touch base with your guys again. Just jumping over to the Squirrel Brand, so on the last earnings call, you guys had outlined like four initiatives that were going to help you offset large [ph] Fisher recipe nut business, and since you acquired the Squirrel Brand, those four items that you had outlined, they are really not that relevant anymore, because getting volume growth in contract packaging while your stripping that out of contract packing and bringing it up to your commercial and consumer distribution channels, my question for you is what's the volume growth that you're expecting for the Squirrel Brand, and I guess, right now, ex the Squirrel Brand, what type of volume growth should we see for contract packing?

Try and answer that. First of all…

Then, I will take it.

Yes. Francesco, we have got great growth plans for Squirrel. We are shifting the volume from contract manufacturing as you mentioned to our commercial ingredient. So, some of the customers that Squirrel Brand sold to before, we acquired them would fit in with our commercial ingredient channel. That would mainly airlines and some of the chain accounts that they service. So, part of those volume will go to commercial ingredient and in the retailer's club stores that Squirrel Brand sold to before, we have bought them will be part of our consumer channel going forward. Strong growth plans in place, Squirrel Brand had a lot of opportunities before we acquired them that they have been working on, or we have been working on with them through our contract manufacturing channel. So, that program is in place. They have got new distribution that just went on in Q3, which we will report on after we finish Q3 results.

Okay. Yes, go ahead.

I was going to take contract packaging, Francesco. So, as we think about contract packaging ex Squirrel Brand, we expect to see meaningful volume growth going forward. It's primarily going to result from new item introductions by existing customers. Quite a few of those are already launched recently, so -- and they seem to be off to a good start.

Okay. Sticking with the Squirrel Brand, relative to the OVH, if it was on your financials in 2017, are we looking at a product that does about the same amount revenue at OVH?

I think it would match OVH's revenue last year.

Right, yes.

Right.

Okay. And when I think -- I see this Squirrel Brand and all the Starbucks here in New York, what percentage of Starbuck stores has the Squirrel Brand penetrated? What type of volume growth we look at for that branded category? And then going forward, are you going to be -- I am sorry that it's sort of a loaded question, are you going to be including this in a fourth branded breakout, or are you going to roll into like OV -- like Fisher snack?

Okay. First of all…

Then, I will take it.

We will roll it out separately, Francesco. We think it's an important brand and we are investing in the brand and we will separate it out from the other brands. So, you will see reporting on Fisher recipe, Fisher snack, OVH, and then Squirrel separately.

Yes, the only cautionary thing I would say about that is we still have to get in Squirrel Brand's records and see if we can actually come up with the prior year's sales combined with our sales so that we have the meaningful comparison. So we still have work to do there. Since it was only one month in Q2, it didn't make a lot of sense to make that comparison. But we will certainly hope to get that done here in the next quarter or two.

Okay. And last question before I jump back into queue. So when you did the acquisition, it looked as if it was something that you guys could have it in entirely on your revolver. Or, you could have just put -- taken out a bigger note? What was -- why do you put a portion on the revolver? Why do a portion through the seller financing? I would just think that the interest rates on your revolver would be lower than the no payable through the seller. Just a little bit of color there and I'll jump back in queue. Thank you.

Okay, I'll take that Francesco. When we agreed with the seller and this goes back probably into October. We weren't entirely sure what we were going to pay for pecans. So we wanted to make sure at that time that we had enough dry powder in the event that fuel price for pecans and walnuts too were higher than what we would expect, so that was really more insurance for that. And then of course, we are still committed to our regular dividend. We want to make sure that we have enough dry powder for that to create in July.

Got it. Thank you, guys.

Thanks, Francesco.

Thank you. [Operator Instructions] And our next question comes from Timothy Call with Capital Management Corp. Your line is now open.

Could you review how the new tax law affects you going forward, how much lower will your tax rate be, how much will that help you? Is there a transitionary tax period since you have the fiscal year?

Sure. And because we're at June year-end, we started what's a blended statutory, Federal statutory rate of 28%, and we will continue to use that blended rate for the remainder of the fiscal year. And then, going forward, we will reduce that down to 21% as we calculate our estimated -- our effective tax rate. So, just kind of put that in two perspectives for this year, just focusing strictly on the statutory rates and ignoring temporary differences and discrete items. We're at about 32.3%, and we expect that to drop down to roughly about 25.3% for fiscal 2019. And again, those are just the statutory rates that we'll start with, and they don't include any impact with any temporary differences or discreet items.

Thank you.

Thank you. And we do have a follow-up question from Francesco Pellegrino with Sidoti. Your line is now open.

All right. The couple other things that I want to follow-up on was your volume growth for the full-year, when I think about it, as I said on the prior call, you had outlined some four initiatives; it looks as if I guess basically the way things have changed since 1Q fiscal '18, is it possible that 50% of your volume growth in the year will be coming from branded sales? I'm not sure how you will look at it, whether you're going to be -- you want to look at it including Squirrel Brands, or you want to look at it from an organic growth rate, but when I just consider the fact that you've been able to essentially like right-size the Fisher recipe headwinds, Orchard Valley Harvest comes in with this really big quarter, you are then now going to be incorporating Squirrel Brands. It just seems that in excess of 50% of your volume growth could be coming from your branded category, however, we don't really get any insight into your broken out volume sales. So if you could just give us a little color on that, I'd appreciate it.

So, this is Jeffrey. So yes, as we've talked about, we're focused on building our brands while maintaining the key strategic partners in our private brand portfolio. We do anticipate a higher percent of our volume increase to come from our brands. We will be adding Squirrel into that brand piece of it. So you'll see the numbers reported in our total brand performance. Orchard Valley Harvest is off to a great fiscal year, not only in the quarter for Q2, but they've got a lot of new distribution gains that will start taking effect in Q3 and Q4, so, just been strong growth to continue with the Orchard Valley Harvest. And then Fisher recipe, the team has done a great job building our grocery distribution. In spite of the challenges we had with the private brand on the shelf at one of our major customers, the team has done a great job expanding distribution nationally with Fisher recipes. So, well we had a little bit of a headwind in Q2, and we'll continue some of that in Q3 and Q4. I'm confident that the team's done a great job expanding distribution to make up some of that volume. So we'll have a strong branded growth story at the end of fiscal '18. That's not to say our private brand business, there's opportunities that we've been pursuing, that we expect to hit possibly by the end of Q4 of this fiscal year. So we anticipate there's some upside opportunity on private brands as well.

And I'll just -- let me finish that off, Francesco. I don't think it will actually be 50%, and mainly because the increase in sales volume from private label trail mix is just so high. I mean, the new products that we have introduced for existing customers are just incredibly successful. So I don't think we'll actually get to that 50% mark.

Okay. When I look at the headwinds that you guys experience for pecans and walnuts in the quarter for pricing, and I think Jeffrey, you had said that by the summer price, you'll have price increases implemented. What type of headwinds can I be looking at for the second-half of 2018 as compared to the second-half of fiscal 2017?

So Franc, as we've already taken price increases in January to align our acquisition costs with the increase in some of the commodity costs, so you'll start to see that reflected already in Q3. And then, we're finishing up the harvest now on pecans. So we don't have a final average yet, and they're competent [ph] cost, but we'll anticipate possibly having some -- little bit changes there, but overall our prices as of February are well-aligned with acquisition cost at this point.

I'm sorry. I thought you said there was something trickling from 2018 that was still going to be from 2Q, 2018. It was still going to be trickling into 3Q, 2018 and 4Q, 2018, that was still going to represent a headwind. I definitely got those confused. What was that again?

Yes. So, headwinds will still be the private brand, because we're still be cycling against that lack of shelf space that we had in Q3 and Q4 for fiscal 2017. That's more of a volume challenge headwind for us, but from a pricing margin headwind, we've overcome that going into Q3 and Q4.

Okay, but relatively speaking as a percentage of total sales, your consumer distribution channel, so far through the first-half of 2018 is pretty much in line with what the first-half of 2017 was. So, it seemed that's just evolving more towards the CPG business, and may be getting lower exposure to contract packaging as you now have the Squirrel Brand, we discussed those dynamics before, it just seems as if you're becoming more of a CPG business.

Yes, that's correct. That's added in the focus. Yes, absolutely right.

Yes. All right, I just want to see how you guys are executing on it. Perfect. That's it for me. Thank you.

Thanks, Francesco.

Thank you. And our next question comes from Mitch Pinheiro with Costello Asset Management. Your line is now open.

Hi, good morning. Thanks for taking my questions. So I was curious, you know, big picture, are there any structural changes in your business? And if so, how does that compare to where your historical margins has been? You've been pretty consistent sort of with the high single-digit EBITDA margin. And is there anything in the -- any change in the categories, any changes to your business from a three to five-year perspective that's different that I should be aware of?

So, from a competitive standpoint, well first of all, retail consolidation, I guess if you look at the last three years, the major change that impacted that our company this year was the major private brand launched by one of our key retail customers in our Fisher recipe category. So that's a significant change that's been talked about for years finally was executed this year. Competitive activity, we've had some private equity come into our space purchase some of the other suppliers, not so much branded, but some of the other industrial, food service, co-packers; that's put some competitive pressure on us as well, but we anticipate as we've seen in the past this has happened, we're able to overcome that once we align our pricing with our commodity costs. And that's why the focus has been on building of our own brands, so that we can mitigate that huge risk based on commodity cost changes and competitive activity in the marketplace.

So, with -- but still if you look at your brand investment and the sales mix change may be channel mix pressures, I mean, is there -- I mean do you think that your historical margins are still valid target for your business, or do you think it's lower or higher over time?

Over time, I would say historically they should be consistent. Q2 was a big investment quarter for us as we've talked about, not only because of the competitive activity taking place in the market, but also investing in new distribution with our brands you've got to pay, sliding in some cases, you've got to increase your trade spend to get that new distribution, and we saw some of that in our Q2.

Okay. And then, as you look over the next 12 months, do you see any unusual cost items that we should be aware of? You know, forgetting about your normal, you know, the buying and selling of your broad range of nuts, is there anything unusual there, and is there any change in capital expenditure needs for the coming year?

Mitch, this is Jasper here. We don't expect to see any changes in our CapEx requirement. I think the only unknown cost that we would keep our eyes on would be transportation.

Okay. And how big is transportation as a percentage in your cost of goods…

Well, out on -- actually in our selling expense.

Okay. Is it a significant piece…

One of the things, I think it amounts to something like $50 million annually, out on freight cost.

Okay, that's helpful. And then, capacity utilization, is it a -- where are you on that? Do you have plenty of room for expansion there?

We do have certain product lines. The product lines that we've had to invest in the last three years really is to support our stand-up bag business, and our portion control. We just completed several projects over Q1 and Q2 to increase that capacity. So, obviously, as we gain new distribution and new customers, we'll continue to watch that book. We don't have any capacity constraints that we foresee over the next three quarters.

Okay. All right, thank you very much. I appreciate it. Good luck.

Hey, Mitch, thank you.

Thanks, Mitch.

Thank you. And I'm not showing any further questions at this time. I would now like to turn the call back over to Michael Valentine for any further remarks.

Okay. Thank you, Daniel. At this time, we will end our earnings call for the second quarter of fiscal 2018. And again, we thank everyone for their interest in JBSS. Have a good day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program, and you may all disconnect. Everyone have a wonderful day.