Good day, ladies and gentlemen, and welcome to the Landec First Quarter Fiscal Year 2015 Earnings 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, today's program is being recorded. I would now like to introduce your host for today's program, Mr. Gary Steele, Chairman and CEO. Please go ahead.

Thank you and good morning. Thanks for joining Landec's first quarter and fiscal year 2015 earnings call. With me today is Greg Skinner, Landec's Chief Financial Officer; and Molly Hemmeter, Landec's Chief Operating Officer. During today's call, we may make forward-looking statements that involve certain risks and uncertainties that cause actual results to differ materially. These risks are outlined in our filings with the Securities and Exchange Commission, including the company's Form 10-K for fiscal year 2014. Our first quarter results exceeded both our revenue and operating income expectations because of strong operating results at our Apio food business, driven by sales increases in our higher-margin vegetable salad kits and stir fried kits, which we collectively refer to as our superfood products. Consolidated revenues increased 22% year-over-year and operating income increased 79% compared to the first quarter last year. Apio's first quarter strong results were led by its value-added specialty packaged vegetable business with value-added revenues up 26% and our export revenues up 24% compared to last year. Our investments over the last 18 months in new product development to create highly nutritious superfood products made from vegetables packaged in our BreatheWay technology are beginning to pay off. Molly will update us with more specifics in a few minutes. You'll also note that Apio has doubled its superfood capacity, as promised. So we are now able to meet current demand and also have room to grow. Apio's value-added business also realized an improvement in gross profit and gross margin during the first quarter relative to last year, which is directly tied to our strategic initiatives to begin changing our product mix to higher-margin products. Turning to Lifecore, we have several non-recurring events that we must live with this fiscal year. For those of you who have listened to our last…

Thank you, Gary, and good morning, everyone. We reported yesterday that for the first quarter of fiscal 2015, revenues increased 22% or $24.1 million to $133.6 million compared to $109.5 million in the year-ago quarter. This increase was due to a 26% or $20.7 million increase in revenues in Apio's value-added business, a $5.2 million or 24% increase in revenues in Apio's export business as a result of a 9% increase in sales volumes and higher market pricing. These increases were partially offset by a 21% or $1.8 million decrease in Lifecore revenues due to the expected lower sales of fermentation products primarily resulting from the previously disclosed one-time inventory reduction by one of Lifecore's customers during fiscal 2015. Net income in the first quarter of fiscal 2015 decreased by 50% to $2.4 million or $0.09 per share compared to $4.8 million or $0.18 per share in the year-ago quarter. The decrease was primarily due to a $5.2 million decrease in the change in the fair market value of the company's Windset investment to a $200,000 change in the first quarter of this year from a $5.4 million increase in the year-ago quarter and from a $1.2 million increase in the net loss at Lifecore from lower sales of higher-margin fermentation products primarily due to the one-time inventory reduction by one customer this year. These decreases in net income in the first quarter were partially offset by a $3 million or 33% increase in gross profit in Apio's value-added vegetable business due to increased revenues, a favorable product mix change to higher-margin superfood products and an extra week in the first quarter this year, and from a $1.2 million decrease in the income tax expense. Cash totaled $8.5 million at the end of the quarter. Landec generated $3.9 million in cash from operations, increased net borrowings by $5.7 million, increased its investment in Windset by $11 million and purchased $4.1 million of capital equipment for capacity expansion at both Apio and Lifecore. At the end of the quarter, the company had $35.2 million available under its line of credit. Let me turn the call over now to Molly.

Thank you, Greg. As Gary mentioned, our superfood products are driving substantial growth at Apio. Just over two years ago, we launched the Sweet Kale Salad, which has become the number one selling salad kit among club and retail stores throughout North America. During our first quarter, we completed the installation of our new salad production line and have doubled our salad capacity. With two-and-a-half salad lines now in operation, our superfoods are generating revenues in excess of $1.5 million per week and we expect to supply all superfood product demand for the next 12 to 18 months. At the end of fiscal year 2014, our superfood line consisted of four products including two salad kits and two stir fried kits. Our goal has been to aggressively launch one new product each quarter. During the first quarter of fiscal year 2015, we launched our fifth superfood product, the Wild Greens and Quinoa Salad Kit as a rotational item in club stores and as a third salad in retail grocery stores. This month, we plan to launch our sixth superfood product, the Roasted Yam Salad Kit to club stores for the salad rotation program and to retail stores throughout the US and Canada. This product features eight superfoods with a medley of fresh cut vegetables, seeds, fruit and roasted yam. This salad is both gluten-free and preservative-free. The salad kit category represents a significant growth platform for Apio. The salad kit market size in the US is $700 million in retail dollars and has experienced a 52-week volume growth rate of 30% as consumers are searching for convenient ways to eat healthy. Even with a 200% increase in salad kit volume that Apio has experienced over the last 12 months, our salads represent only 2% to 3% of this market, providing…

Thanks, Molly. So where are we headed? In the short term, our emphasis is on investing in facility expansion and capabilities, broadening our product line in the superfoods category, changing our product mix to higher-margin products, advancing our Lifecore programs with key customers and development partners, and seeking new joint investment opportunities with Windset Farms in totally new areas that can benefit from Windset's hydroponic growing technology and Landec's processing and marketing capabilities. In the longer term, we expect to benefit from these current initiatives, first with Apio growing its food business without capacity constraints and with more retailers adopting our superfood salad lines; second with Lifecore to return to its high-growth, high-margin mode of operation next fiscal year, and third with Windset growing substantially as its broadens its product lines with products that can be cost effectively grown hydroponically year-round. We look forward to updating you on our progress and plans and we'll now open for questions.

(Operator Instructions) Our first question comes from the line of Morris Ajzenman from Griffin.

The question on the Apio business, Molly just mentioned you're walking away from lower-margin vegetable products. Can you give us a sort of dollar amount this quarter, the previous quarter, how much dollar volume you've actually walked away from, just to give us a sense of how that's playing out?

Really can't answer that at this time in all honesty, because we're not just going to automatically walk away. The first thing we're going to attempt is price increases and we just anticipate as a result of that, we could end up losing some business. None of that actually happened in the first quarter. This is what we're starting to do. So we could see this as more of a heads-up that as we start selectively asking for price increases, this could result in lost business.

Morris, what you may recall from an earlier call that often our contracts are two-year contracts with retailers and as those contracts expire and they're renewed, those are the opportunities to look at SKU pruning and also selective price increases. So that's ahead of us. That was not a main focus or had any main impact in the first quarter.

In the next couple of quarters, are there any large contracts without naming any one specifically that's come up for renewal?

There are and I'm not going to mention them by name, but yes there are, in the next three quarters, yes.

Okay, I think I’ve asked this in the past; this quarter gross margins in the Apio was 11.8% and clearly high margin than superfood. Are you willing to kind of give us an idea of multiples of - is it 100% high gross margins for the superfood versus the traditional vegetable products? Any way you can help us get a feel of that without revealing too much?

Our new products are about double the margin of our existing core products, if that helps out.

Our next question comes from the line of Chris Krueger from Lake Street Capital.

On the superfood salad kit products, I know last quarter you gave an update on some recent grocery store chain wins. Can you give us another update on that?

Well, we've greatly expanded our Wild Greens and Quinoa kit to a large number of retails. We just launched it this first quarter, and I think we're in probably over 15 retailers at this time. And it was a rotational salad in Costco Canada.

Okay, that helps. I haven't heard a whole lot about specifically breaking out the GreenLine business and I know it's been a couple of years since you acquired it. Are you still working on trying to realize cross-selling synergies, things like that? Would you talk about GreenLine a bit please?

First of all, we've fully integrated GreenLine into our operations. We don't even break it out separately for our own reporting. It's just fully integrated in terms of our product mix, et cetera, reporting systems. So it's just part of our consolidated Apio results. But let me give you a little checklist that we had when we bought GreenLine and I'll tell you how we fared in that checklist. The first was that we saw the opportunity for a company in and of itself, a business that's broad line of beans to be profitable and growing. So that has checked. It's a profitable business for us. It's profitable like we expected. It's growing like we expected. Second is we were interested in getting East Coast presence and East Coast processing and logistics with their site in Ohio and Pennsylvania and South Carolina and Florida. And we achieved that. That's really been helpful to us especially since we've had some capacity constraints issues. We have modified the Ohio facility. We're looking at expanding the Hanover, Pennsylvania facility. So the facility pickup has really been helpful to us. We also wanted to have logistics that could give us next-day delivery for customers that really needed that type of capability, and we've been able to do that. We now have logistics capability including our own trucks. That really does help us with some of our customer relationships. Another important thing for us was the potential for cross-selling. We have, by example, some of our new superfood products or end customers that were GreenLine relationship, GreenLine customers, not Apio customers, and those relationships that GreenLine had made all the difference in the world for us to come in with our superfood products. So we're pretty much checking off the list of things that we hope for. We do see a trend in the green bean business that does concern us somewhat, and that is some of the major retailers are going to private label. And GreenLine has a great brand. It's a national brand and we have to keep a close eye on what impact this private label trend will mean to our results. We'll just have to see. It's a little too early for that, but so far so good with GreenLine.

The Windset business, they're currently not expanding in this current fiscal year. Are they still potentially looking into another expansion in your fiscal 2016, doing the initial permitting or whatever it takes to get there?

Yes.

Our next question comes from the line of Mitch Pinheiro from Imperial Capital.

Maybe one for Molly here is, obviously new product development is the key for Apio, but I look at the R&D spend that you do and it doesn't really foot with – it’s rather nominal R&D spend. So how does that foot with your goals of ramping up new product development or is just R&D not needed?

Most of the spend is actually in marketing is where you're going to find that incremental dollars that we're putting in. And it's really into market research, new product innovations, new culinary talent and a lot of the marketing efforts I listed earlier with our website in trying to reach consumers directly.

Our new product development at Apio, that's mostly advances and modifications to the membrane breathable packaging technology. Almost all of the new product development dollars are in marketing.

Was there any impact in this quarter of added cost depreciation from the new packaging line, the new salad line?

No, not really. It didn't really come online till late in the quarter, and it was factored into our original guidance anyway. But yeah, this quarter it wasn't much. I think the line in total was around $3 million. So you depreciate that over a 10-year period. It's not going to have that big of an annual impact.

Your gross margins increased on the Apio business, the value-add. The wage and benefit cost increases, did that play a role at all in the quarter?

Yeah, absolutely. I assume you're comparing it to the first quarter last year. That was a definite negative for the quarter. We gave that heads up end of the year that the minimal wage was going up out here. We were actually paying more than the minimal wage to retain good employees. But a year ago, we had not a good sourcing quarter in the first quarter. So the comparables, there is a lot of apples and oranges going on here. But yes, labor this year negative, sourcing positive and netted out to be positive margin year-over-year.

The issues you had last year will be an easier comparison throughout the year?

No, just explain, Mitch, why would it be easier.

Well, no. Last year paying up for the hard-to-get, further-away produce relative to the drought. So as you go forward, the drought is not an issue right now for you. Is that fair?

No, drought is, knock on wood, we have a serious drought out her, and by the way, anybody that has been in California in the last couple of weeks would have been in the '90s. But we're fortunate as of right now that drought is not a factor, because most of our growers are on aquifer well water. If we continue to have another drought year, that could certainly change. By the way, another reason why Windset is a game-changer, because they use 128th of the water that growers who grown in dirt use. So it's a big advantage. We going into the winter months with caution, and we're starting into the big holiday season and we just have to hope that the weather is reasonable. We've taken the steps that we can take to mitigate sourcing risk as much as possible, but we always are concerned going into the winter months about weather. And will this be an El Niño year, will it be a drought year, just don't know yet, but so far so good through the first quarter.

Last question on Lifecore. I had in my notes that you spent money expanding the fermentation capacity and really obviously with volumes down, you're not getting any benefit of that. I was actually curious what if you could quantify the expansion cost impact on this quarter's results?

This quarter, minimal. This was a three-year expansion plan that started back in '13. Over that three-year period, the amount that we are going to spend was $10 million to $15 million on capacity expansion. So we'll complete that this fiscal year, but that's looking out. We're looking out and saying where do we need to be now in order to expand and meet the revenue and demand we think over the next five years. And so we're spending that money now in advance.

And let me mention it wasn't in fermentation. It was in what we refer to as aseptic filling, meaning taking a powder or a liquid product and putting it into a syringe and it's not easy feat when that material is highly viscous and gummy. And most of those dollars went into that part. And our growth in that area will really start to kick in, in the latter part of fiscal year 2016. So we've been doing that in advance, anticipating new business in that area, and that really starts to kick in late next year.

Our next question comes from the line of Tony Brenner from ROTH Capital.

I have three questions. First is one for Molly. With five superfood products now in the market, I'm just wondering what portion of your sales for that product are kind of represented by Sweet Kale Salad?

I'd say a little over at least half of it, the volume in revenue is still coming from Sweet Kale Salad. And our efforts now are to make this not about a product, but to expand it to an entire line. And we're starting to see that as the quarters go by, that percentage is shifting towards the rest of the line.

Maybe what you should do is make sure there's kale in every product and call it gluten-free and you're home-free.

No preservatives, yeah, right.

You are projecting a 25% to a 30% increase in operating income for Apio, and you're suggesting that there could be some short-term disruption from pricing and discontinuance of some items. And I'm wondering to what extent you've factored in that warning into your operating income guidance?

Well, coming into the year, with the continued success which we're realizing in superfoods, it was going to give us an opportunity to take a good hard look at some of our SKUs, some of our business that were lower margin and make decisions as to what we want to do with those.

No, I understand the reason for doing it. I'm just wondering what assumption you're using to come up with 25% to 30%? Are you assuming no loss of business or no ability to raise prices or have you factored in a price increase?

We will assume going into the plan, we weren't going to lose any business, but we weren't going to get any price increase. So that was the assumption. But we also assumed a certain growth rate of our superfoods which we're exceeding. So now we're saying, all right, well, if we lose some business because we increased the prices, that's being offset by the increase in the superfoods. So the plan to look at increasing prices, we're probably going to accelerate that plan as a result. And that's the heads-up we're giving.

And my third question has to do with Windset Farms. Part of the explanation for the reduced guidance for increase in fair market value had to do with Canadian currency. I wonder if you could just explain that effect and how the six months increase in the Canadian dollar affected that assumption.

I'll try to make it as simple as possible. It's a little bit more complex. Basically when Windset goes into their year, they have to plan a certain currency rate and based on where they think that's going to go, they may or may not hedge. Well, going into this year, they assumed that the US and Canadian dollar were going to be on par. And so that's how they go into their contracts with their customers. That's how they go into their contracts with their vendors, which by the way a lot of their vendors that supply into Canada for them or their Canadian products come from the US. So if you're planning on one-to-one and now suddenly those input costs have gone up 10% because the Canadian dollar is now $0.90 on $1 to the US, you're paying a lot more for your input cost than you had originally thought, but your sales price hasn't changed. So as a result, your margins are impacted. And that's the bottomline impact it's had on the first six months and it will continue to have for the rest of this year. So the next question is how is this going to change going forward, I mean what impact is this going to have.

Well, the Canadian dollar has reversed completely from what it did in the first six months.

So their contracts have been locked in for the price that they're selling is a gift. The influence that they're buying in from the US to Canada have gone up 10% than what they originally planned. So it's affecting their margin.

Your release indicated that the change reflected would happen in the first half of the year, not the third quarter.

And it will continue through the rest of the year, because they already had locked in their prices for this year as far as what they're selling their product for in Canada. It's not going to change. What's going to change going forward is when they go into their next planning cycle, when they'll factor this in, but more importantly when they see this, they hedge against it. And they just did not enter into the hedges this year, because they did not see this coming.

Our next question comes from the line of Nelson Obus from Wynnefield Capital.

I have just two little minor questions about the operations. The water supply for Windset, which is a very important part of the puzzle, which I realize they use less, is that a contract that gets bid or is that a perpetual kind of agreement they have?

It's a perpetual agreement and it's a commitment from the County of Santa Maria.

Can you just give us some color exactly what that FDA issue was? Was it a problem on our side submitting it? Was it the FDA had too many empty seats or took too long a lunch?

You'll be pleased to know, Nelson, that it had nothing to do with the government agency, at least not so far. First of all, this is an unnamed partner, it's confidential, and we're working with several development partners that are in the farmer space. And it has to do with patient accrual and it's a large clinical study and the patient accrual rate, this is not a surprise to anybody that knows the pharma world, has been slower than the anticipated. And therefore the date for submitting to the FDA has been pushed out. So the trials are going well. The program is going well. It's a great program. It's a great company, great leadership. It's just that the patient accrual rate has been slower. It's a big trial. And that is not uncommon. So it has nothing to do with the FDA's turnaround time at this point.

When you say patient accrual, you mean the ability to find people at this stage of the test?

Yeah, right. It's a big trial, yeah. They're doing the clinical. We are the formulator and the supplier of the product. So they do this mission. They do the clinical studies, not us.

Do you think they're using a contract research organization, they're outsourcing it or not? Are you that granular?

I'm sure they are. I couldn't tell you the name of the CRO, Nelson, but absolutely, sure. The trials are in the US.

So the one thing we really like about this company is that it's taken its fate into its own hands. It's quite clear that that's the Apio story. When we get to Lifecore, I have to tell you as a long. long-term holder, any time I hear about these joint ventures with larger companies, it conjures up, (inaudible) or whatever and Monsanto. Just what's your take? What have we learned about dealing with these behemoths, so we don't get caught off-guard with them trying to trample us, which unfortunately was a chapter before you guys took control of your own destiny?

Two things we've learned. One is to do very few of them and to put more control in our own hands. As you know, we've made major decisions in the last four years to do that where we leaned ourselves off of large number of big company partnerships. So we learned to rely very little on that. By the way, this one partner we're talking about that has the delay is a small company. They're fast on their feet. They're good folks. So I feel good about that whole program. So what we've learned is to put more in our own hands, and that's what we've done in our food business and that's what we do at Lifecore. Lifecore has great long-term customer relationships that keep getting renewed every five years. That has happened again and again. And yet, we still occasionally will look at some of these product development partnerships and we tend to do these with smaller companies, not the big behemoths as you talked about, because we've learned our lesson. I think we've learned a lesson on this, Nelson, and I think we're staying true to that.

I like the idea of dealing with people who are small and nimble, because then you don't run into all that corporate bizarreness.

Right.

Just one more thing on Lifecore. When you deconstruct your narrative carefully, it sort of falls into three categories, the way I'm reading this. One is a legacy business. One is this joint effort that's ongoing and you can actually put some kind of a timeframe around it. And then there's something dangling out there, and I'm not asking for a lot of details about other applications, et cetera, et cetera, that's in your narrative. I'm just curious from a timeline when some of that might become clear and you'll be able to opine that there really is a third leg here, if I'm reading it right; or maybe it hasn't panned out. But it's definitely in the narrative, if I read it carefully.

Legacy is here and now. It's real. It's growing. As just discussed, we have several joint development partnerships that we are enjoying and we expect that to start to pay off in the fiscal year 2016 timeframe, towards the second half. The third is new growth prospects to be determined, not well defined, don't expect those to have any material impact on Lifecore in the next two years.

Going back to the second realm, I was under the impression that it involved one joint partner. Are you telling me there's more than one now?

We have more than one. It's a small number, but it's more than one.

I assume that one of them is more important than the others in terms of impact, correct?

That's right.

Are they in the same product?

They're different.

I really do give you guys credit for giving some rather significant forward-looking sense of where things are going to be in fiscal 2016. But when you factor in, say, the second category in regard to Lifecore, I assume that the assumptions of revenue and profit enhancement in regard to Lifecore in that timeframe are more geared or significantly geared to the lead partner in regard to the new initiative that you can get your hands around, right?

Well, the first thing we expect next year is that remember the partner with the inventory adjustment, we're confident that that's coming back. So that helps big time. Then secondly, we would expect that this lead development partner will have an approval next year. It's later than we thought, but we are expecting that to happen sometime in fiscal year next year, which has us gearing up to provide commercial quantity. So we are assuming that.

So this is the one we're really focused on. And the other ones can kick in, but the lead guy is the one that gives you some confidence and we may benefit from that new initiative in fiscal 2016. Is that fair?

Correct.

This does conclude the question-and-answer session of today's program. I'd like to hand the program back for any further remarks.

I want to thank everyone for being on the call today. We look forward to keeping you apprised of our progress and plans. And thank you very much for being with us today.

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.