Item 2. Management’s Discussion and Analysis
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations, which we refer to as “MD&A,” should be read in conjunction with our condensed consolidated financial statements and related notes included in "Financial Information" of this Quarterly Report on Form 10-Q (this "Form 10-Q") and in “Financial Statements and Supplementary Data” of the Company's Annual Report on Form 10-K for the fiscal year ended May 29, 2022 (the “Form 10-K”), which we filed with the United States (“U.S.”) Securities and Exchange Commission (“SEC”) on July 27, 2022.
Forward-Looking Statements
This report, including the MD&A, contains forward-looking statements within the meaning of the federal securities laws. Words such as “will,” “continue,” “may,” “expect,” “would,” “believe,” “increase,” “improve,” “leverage,” “outlook,” and variations of such words and similar expressions are intended to identify forward-looking statements. Examples of forward-looking statements include, but are not limited to, statements regarding our plans, execution, capital investments, operational costs, pricing actions, cash flows, liquidity, dividends, enterprise resource planning (“ERP”) system implementation, acquisition of the remaining equity interest in Lamb-Weston/Meijer v.o.f. (“LW EMEA”), including the anticipated benefits of the transaction, and business and financial outlook and prospects, as well as supply chain constraints, inflation, our industry, and global economic conditions. These forward-looking statements are based on management’s current expectations and are subject to uncertainties and changes in circumstances. Readers of this report should understand that these statements are not guarantees of performance or results. Many factors could affect these forward-looking statements and our actual financial results and cause them to vary materially from the expectations contained in the forward-looking statements, including those set forth in this report. These risks and uncertainties include, among other things: the availability and prices of raw materials and other commodities; labor shortages and other operational challenges; an uncertain general economic environment, including inflationary pressures and recessionary concerns, any of which could adversely impact our business, financial condition or results of operations, including the demand and prices for our products; risks related to disruption of management time from ongoing business operations due to integration efforts related to the LW EMEA acquisition; failure to realize the benefits expected from the LW EMEA acquisition; the effect of the LW EMEA acquisition on our ability to retain customers and retain and hire key personnel, maintain relationships with suppliers and on our operating results and businesses generally; risks associated with integrating acquired businesses, including LW EMEA; levels of pension, labor and people-related expenses; our ability to successfully execute our long-term value creation strategies; our ability to execute on large capital projects, including construction of new production lines or facilities; the competitive environment and related conditions in the markets in which we and our joint ventures operate; political and economic conditions of the countries in which we and our joint ventures conduct business and other factors related to our international operations; disruptions in the global economy caused by the war in Ukraine and the possible related heightening of our other known risks; impacts on our business due to health pandemics or other contagious outbreaks, such as the COVID-19 pandemic, including impacts on demand for our products, increased costs, disruption of supply, other constraints in the availability of key commodities and other necessary services or restrictions imposed by public health authorities or governments; disruption of our access to export mechanisms; risks associated with other possible acquisitions; our debt levels; changes in our relationships with our growers or significant customers; the success of our joint ventures; actions of governments and regulatory factors affecting our businesses or joint ventures; the ultimate outcome of litigation or any product recalls; our ability to pay regular quarterly cash dividends and the amounts and timing of any future dividends; and other risks described in our reports filed from time to time with the SEC. We caution readers not to place undue reliance on any forward-looking statements included in this report, which speak only as of the date of this report. We undertake no responsibility for updating these statements, except as required by law.
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Overview
Lamb Weston Holdings, Inc. (“we,” “us,” “our,” “the Company,” or “Lamb Weston”), along with our joint ventures, is a leading global producer, distributor, and marketer of value-added frozen potato products. We, along with our joint ventures, are the number one supplier of value-added frozen potato products in North America and a leading supplier of value-added frozen potato products internationally, with a strong and growing presence in high-growth emerging markets. We, along with our joint ventures, offer a broad product portfolio to a diverse channel and customer base in over 100 countries. French fries represent the majority of our value-added frozen potato product portfolio.
This MD&A is provided as a supplement to the consolidated financial statements and related condensed notes included elsewhere herein to help provide an understanding of our financial condition, changes in financial condition and results of our operations. Our MD&A is based on financial data derived from the financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and certain other financial data (including product contribution margin, on a consolidated basis, Adjusted EBITDA, Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted EPS) that is prepared using non-GAAP financial measures. Refer to “Non-GAAP Financial Measures” below for the definitions of product contribution margin, Adjusted EBITDA, Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted EPS, and a reconciliation of these non-GAAP financial measures to their most directly comparable GAAP financial measures, gross profit, income from operations, net income, or diluted earnings per share, as applicable.
Executive Summary
The following highlights our financial results in the third quarter of fiscal 2023, compared with the prior year quarter. For more information, refer to the “Results of Operations” and “Non-GAAP Financial Measures” sections below.
● Net sales increased 31% to $1,253.6 million
● Income from operations increased 99% to $266.3 million
● Net income increased 64% to $175.1 million, and diluted earnings per share increased 66% to $1.21, including items impacting comparability, as discussed below, of a net loss of $43.0 million ($32.3 million after-tax, or $0.22 per share)
● Adjusted Income from Operations increased 96% to $262.0 million
● Adjusted Net Income increased 125% to $207.4 million, and Adjusted Diluted EPS increased 127% to $1.43
● Adjusted EBITDA including unconsolidated joint ventures increased 72% to $345.5 million
● We returned $35.2 million of cash to stockholders through dividends, and $12.2 million through share repurchases
We drove strong sales growth, earnings growth, and gross margin expansion in the quarter by continuing to execute pricing actions across each of our business segments to counter significant input, manufacturing, and supply chain cost inflation. Overall volume was flat as growth in shipments to large chain restaurant and retail channel customers in North America offset the impact of exiting certain lower-priced and lower-margin business as we continue to strategically manage our customer and product mix due to capacity constraints. To a lesser extent, softer traffic at casual dining and full-service restaurants in North America also tempered volume. As compared to the prior year period, demand for frozen potato products in the U.S. and most key international markets was solid, although the widespread emergence of COVID-19 variants tempered demand and restaurant traffic in the prior year period.
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The increase in net income was driven by higher sales and gross profit, and was partially offset by significantly lower equity method investment earnings and higher selling, general and administrative expenses (“SG&A”). The following items impacted comparability of our third quarter results and were excluded when providing Adjusted Income from Operations, Adjusted Net Income, Adjusted Diluted EPS, Adjusted EBITDA, and Adjusted EBITDA including unconsolidated joint ventures:
● The decrease in equity method investment earnings included a $47.3 million unrealized loss ($35.1 million after-tax, or $0.24 per share) in the third quarter of fiscal 2023 related to mark-to-market adjustments associated with natural gas and electricity hedging contracts in Europe, reflecting the volatility of those energy markets in that region, and a $19.3 million unrealized gain ($14.3 million after-tax, or $0.10 per share) in the prior year quarter.
● SG&A included a net $4.3 million gain ($2.8 million after-tax, or $0.02 per share), related to actions taken to mitigate the effect of changes in currency rates on our purchase of the remaining equity interest in LW EMEA, net of other acquisition-related costs.
On February 28, 2023, we acquired the remaining equity interest in LW EMEA for consideration consisting of €531.6 million ($564.0 million) in cash, subject to certain post-closing adjustments pursuant to the purchase agreement, and 1,952,421 shares of our common stock. With the completion of the transaction, we own 100% of LW EMEA. Starting in the fourth fiscal quarter, we will consolidate LW EMEA’s financial results in our consolidated financial statements and include LW EMEA’s operating results within our Global segment.
Outlook
During the remainder of fiscal 2023, we expect the macroeconomic environment to remain challenging. Excluding the impact of consolidating the financial results of LW EMEA, for our fiscal fourth quarter, we expect net sales growth versus the prior year period to be primarily driven by increases in price/mix in each of our core business segments. We expect volume will be pressured as we exit certain lower-priced and lower-margin business to manage customer and product mix. We also expect sales volume trends and demand will remain volatile as consumers in the U.S. and our key international markets continue to respond to the current inflationary environment. We expect our gross margins will expand as compared to the prior year period due to the carryover benefits of pricing actions taken in fiscal 2022, as well as actions being taken in fiscal 2023, to offset higher costs for raw potatoes and other key inputs, and that the resulting increase in gross profit will be partially offset by higher SG&A.
As previously noted, beginning in the fourth fiscal quarter, we will consolidate LW EMEA’s financial results in our financial statements.
We believe in the long-term health and growth outlook for the frozen potato category, and believe that Lamb Weston is well-positioned to drive sustainable, profitable growth, and to better serve customers around the world as we seek to leverage the commercial and operational benefits of our former joint venture in Europe, as well as our capacity expansion investments in the U.S., China, Argentina, and the Netherlands.
Results of Operations
We have four reportable segments: Global, Foodservice, Retail, and Other. We report net sales and product contribution margin by segment and on a consolidated basis. Product contribution margin, when presented on a consolidated basis, is a non-GAAP financial measure. Product contribution margin represents net sales less cost of sales and advertising and promotion (“A&P”) expenses. Product contribution margin includes A&P expenses because those expenses are directly associated with the performance of the Company’s segments. Net sales and product contribution margin are the primary measures reported to our chief operating decision maker for purposes of allocating resources to our segments and assessing their performance. For additional information on our reportable segments and product contribution margin, see “Non-GAAP Financial Measures” below and Note 13, Segments, of the Condensed Notes to Consolidated Financial Statements in “Part I, Item 1. Financial Statements” of this report.
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Thirteen Weeks Ended February 26, 2023 compared to Thirteen Weeks Ended February 27, 2022
Net Sales, Gross Profit, and Product Contribution Margin
Thirteen Weeks Ended
February 26,
February 27,
%
(in millions, except percentages)
2023
2022
Increase (Decrease)
Segment net sales
Global
$
648.5
$
487.9
33%
Foodservice
360.0
294.5
22%
Retail
216.0
143.6
50%
Other
29.1
29.0
0%
$
1,253.6
$
955.0
31%
Segment product contribution margin
Global
$
167.5
$
73.0
129%
Foodservice
142.9
106.7
34%
Retail
82.6
31.6
161%
Other
(4.2)
6.2
(168%)
388.8
217.5
79%
Add: Advertising and promotion expenses
9.0
3.5
157%
Gross profit
$
397.8
$
221.0
80%
Net Sales
Compared to the prior year quarter, net sales for the third quarter of fiscal 2023 increased $298.6 million, or 31%, to $1,253.6 million. Price/mix increased 31%, reflecting the benefit of pricing actions across each of our core business segments to counter input and manufacturing cost inflation. Overall volume was flat as growth in shipments to large chain restaurant customers in North America and into retail channels offset the impact of exiting certain lower-priced and lower-margin business as we continue to strategically manage our customer and product mix due to capacity constraints, and to a lesser extent, softer traffic at casual dining and full-service restaurants in North America.
Global segment net sales increased $160.6 million, or 33%, to $648.5 million. Price/mix increased 33%, driven by domestic and international pricing actions to counter inflationary pressures. Volume was flat as solid growth from key customers in North America offset the impact of exiting certain lower-priced and lower-margin business in international and domestic markets.
Foodservice segment net sales increased $65.5 million, or 22%, to $360.0 million. Price/mix increased 25%, while volume decreased 3%. The carryover benefits of pricing actions taken in the prior year, as well as actions taken in fiscal 2023, to counter inflationary pressures drove the increase in price/mix. Incremental losses of certain lower-priced and lower-margin business, and to a lesser extent, softer traffic at casual dining and full-service restaurants, drove the volume decline.
Retail segment net sales increased $72.4 million, or 50%, to $216.0 million. Price/mix increased 44%, driven by the carryover benefits of pricing actions taken in the prior year, as well as actions taken in fiscal 2023, across the branded and private label portfolios to counter inflationary pressures. Volume rose 6%, driven by strong growth in branded products as customer service rates improved, as well as more modest growth in private label products.
Other segment net sales increased $0.1 million to $29.1 million. Price/mix and sales volumes in our vegetable business were essentially flat.
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Gross Profit and Product Contribution Margin
Gross profit increased $176.8 million, or 80%, to $397.8 million, as benefits from pricing actions more than offset the impact of higher manufacturing costs on a per-pound basis. The higher costs per pound primarily reflected double-digit cost inflation from key inputs, including: raw potatoes, edible oils, ingredients such as grains and starches used in product coatings, labor, and energy. The increase in gross profit included an $8.7 million decrease in unrealized mark-to-market adjustments associated with commodity hedging contracts, which includes a $5.1 million loss in the third quarter, compared with a $3.6 million gain related to these items in the prior year quarter.
Our overall product contribution margin, defined as gross profit less A&P, increased $171.3 million, or 79%, to $388.8 million. The increase was largely driven by higher sales and gross profit (as described above).
Global segment product contribution margin increased $94.5 million, or 129%, to $167.5 million. Pricing actions drove the increase, more than offsetting higher manufacturing costs per pound. Global segment cost of sales was $478.8 million, up 16% compared to the third quarter of fiscal 2022, primarily due to higher input and manufacturing costs.
Foodservice segment product contribution margin increased $36.2 million, or 34%, to $142.9 million. Pricing actions drove the increase, which was partially offset by higher manufacturing costs per pound and the impact of lower sales volumes. Foodservice segment cost of sales was $215.1 million, up 15% compared to the third quarter of fiscal 2022, primarily due to higher input and manufacturing costs, partially offset by lower sales volumes.
Retail segment product contribution margin increased $51.0 million, or 161%, to $82.6 million. Pricing actions drove the increase, which was partially offset by higher manufacturing costs per pound and a $3.3 million increase in A&P. Retail segment cost of sales was $128.6 million, a 16% increase compared to the third quarter of fiscal 2022, primarily due to higher input and manufacturing costs and higher sales volumes.
Other segment product contribution margin decreased $10.4 million to a loss of $4.2 million in the third quarter of fiscal 2023, as compared to earnings of $6.2 million in the third quarter of fiscal 2022. These amounts include a $7.5 million loss and a $2.8 million gain related to unrealized mark-to-market adjustments and realized settlements associated with commodity hedging contracts reported in this segment in fiscal 2023 and 2022, respectively. Excluding these mark-to-market adjustments and realized settlements, Other segment product contribution margin declined $0.1 million.
Selling, General and Administrative Expenses
SG&A increased $44.3 million to $131.5 million in the third quarter of fiscal 2023, and includes a net $4.3 million gain ($2.8 million after-tax, or $0.02 per share) related to actions taken to mitigate the effect of changes in currency rates on our purchase of the remaining equity interest in LW EMEA, net of other acquisition-related costs. Excluding items impacting comparability, SG&A increased $48.6 million to $135.8 million, primarily due to higher compensation and benefits expense, and to a lesser extent, higher expenses related to improving our information systems and ERP infrastructure, as well as a $5.5 million increase in A&P.
Interest Expense, Net
Compared with the prior year quarter, interest expense, net was flat, as the impact of higher interest rates on our floating rate debt offset higher capitalized interest and interest income.
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Income Tax Expense
Income tax expense for the third quarter of fiscal 2023 and 2022 was $42.1 million and $31.1 million, respectively. The effective income tax rate (calculated as the ratio of income tax expense to pre-tax income, inclusive of equity method investment earnings) was 19.4% and 22.6% for the third quarter of fiscal 2023 and 2022, respectively. Excluding items impacting comparability, our effective tax rate for the third quarter of fiscal 2023 and 2022 was 20.3% and 22.0%, respectively. The effective tax rate varies from the U.S. statutory tax rate of 21%, principally due to the impact of U.S. state taxes, foreign taxes and currency, permanent differences, and discrete items.
Equity Method Investment Earnings (Loss)
We conduct business through unconsolidated joint ventures in Europe and the U.S. and include our share of the earnings (loss) based on our equity interest in them. Our share of earnings and loss from our equity method investments was a loss of $23.3 million and earnings of $29.7 million for the third quarter of fiscal 2023 and 2022, respectively. Equity method investment earnings (loss) included a $45.6 million unrealized loss related to mark-to-market adjustments associated with currency and commodity hedging contracts in the third quarter of fiscal 2023, of which $47.3 million ($35.1 million after-tax, or $0.24 per share) related to losses in natural gas and electricity derivatives as commodity markets in Europe have experienced significant volatility. Equity method investment earnings in the prior year quarter included a $19.6 million unrealized gain for mark-to-market adjustments, of which $19.3 million ($14.3 million after-tax, or $0.10 per share) related to gains in natural gas and electricity derivatives.
Excluding the items impacting comparability noted above (mark-to-market adjustments related to natural gas and electricity derivatives) and the other mark-to-market adjustments, earnings from equity method investments increased $12.2 million compared to the prior year quarter, reflecting favorable price/mix, partially offset by higher manufacturing costs, in both Europe and the U.S.
Thirty-Nine Weeks Ended February 26, 2023 compared to Thirty-Nine Weeks Ended February 27, 2022
Net Sales, Gross Profit, and Product Contribution Margin
Thirty-Nine Weeks Ended
February 26,
February 27,
%
(in millions, except percentages)
2023
2022
Increase
Segment net sales
Global
$
1,901.0
$
1,505.8
26%
Foodservice
1,084.2
929.8
17%
Retail
577.0
418.7
38%
Other
93.5
91.5
2%
$
3,655.7
$
2,945.8
24%
Segment product contribution margin
Global
$
422.2
$
196.5
115%
Foodservice
411.9
307.5
34%
Retail
197.0
67.8
191%
Other
1.5
(6.6)
123%
1,032.6
565.2
83%
Add: Advertising and promotion expenses
20.1
12.6
60%
Gross profit
$
1,052.7
$
577.8
82%
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Net Sales
Compared to the prior year period, net sales increased $709.9 million, or 24%, to $3,655.7 million. Price/mix increased 27%, reflecting the benefit of product and freight pricing actions across each of our core business segments to counter input, manufacturing, and transportation cost inflation. Volume declined 3%, primarily reflecting an inability to fully serve customer demand in our foodservice and retail channels as well as the exiting of certain lower-priced and lower-margin business to strategically manage customer and product mix. The impact of supply chain disruptions during the first three quarters of fiscal 2023, including the effects of commodities shortages and onboarding new production workers, and changes in product mix affected production run-rates and throughput in our production facilities as well as customer order fulfillment rates. To a lesser extent, softer casual dining and full-service restaurant traffic in North America as consumers face a challenging macroeconomic environment also affected shipments.
Global segment net sales increased $395.2 million, or 26%, to $1,901.0 million. Price/mix increased 26%, driven by domestic and international product and freight pricing actions to counter inflationary pressures. Volume was flat as solid growth from key customers in North America and the benefit of acquiring a controlling interest in LWAMSA in early fiscal 2023 offset the impact of exiting certain lower-priced and lower-margin business in international and domestic markets.
Foodservice segment net sales increased $154.4 million, or 17%, to $1,084.2 million. Price/mix increased 26%, driven by the carryover benefits of product and freight pricing actions taken in the prior year, as well as actions taken in fiscal 2023 to counter inflationary pressures. Volume fell 9%, reflecting a combination of: the impact on customer service rates from supply chain disruptions; incremental losses of certain lower-priced and lower-margin business; and a slowdown in traffic and consumer demand in casual dining and other full-service restaurants.
Retail segment net sales increased $158.3 million, or 38%, to $577.0 million. Price/mix increased 41%, while volume decreased 3%. The carryover benefits of product and freight pricing actions taken in the prior year, as well as actions taken in fiscal 2023, across the branded and private label portfolios to counter inflationary pressures, largely drove the increase in price/mix. The decline in the segment’s overall volume was due to the impact on customer service rates from supply chain disruptions, as well as incremental losses of certain lower-priced and lower-margin private label business. Branded product volumes increased as compared to the prior year period.
Other segment net sales increased $2.0 million, or 2%, to $93.5 million. Price/mix increased 4% and was driven by higher prices in our vegetable business. Volume declined 2%, reflecting the negative effect of the extreme summer heat on the yield and quality of the vegetable crops.
Gross Profit and Product Contribution Margin
Gross profit increased $474.9 million, or 82%, to $1,052.7 million, as benefits from pricing actions more than offset the impact of higher manufacturing and distribution costs on a per-pound basis, as well as lower sales volumes. The higher costs per pound predominantly reflected double-digit cost inflation from key inputs, including: raw potatoes; edible oils; ingredients, such as grains and starches used in product coatings; labor; energy; and transportation. The increase in potato costs per pound were driven by higher contract prices, reflecting increased costs for growers, as well as the impact of extreme summer heat that negatively affected the yield and quality of potato crops in the Pacific Northwest in fall 2021. The increase in manufacturing costs per pound also reflect the effects of supply chain disruptions.
Our overall product contribution margin increased $467.4 million, or 83%, to $1,032.6 million. The increase was largely due to higher sales and gross profit (as described above).
Global segment product contribution margin increased $225.7 million, or 115%, to $422.2 million. Pricing actions drove the increase, which was partially offset by higher manufacturing and distribution costs per pound. Global segment cost of sales was $1,474.4 million, up 13% compared to the first three quarters of fiscal 2022, primarily due to higher input and manufacturing and distribution costs.
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Foodservice segment product contribution margin increased $104.4 million, or 34%, to $411.9 million. Pricing actions drove the increase, which was partially offset by higher manufacturing and distribution costs per pound, unfavorable mix, and the impact of lower sales volumes. Foodservice segment cost of sales was $667.4 million, up 8% compared to the first three quarters of fiscal 2022, due to higher input and manufacturing and distribution costs, partially offset by lower sales volumes.
Retail segment product contribution margin increased $129.2 million, or 191%, to $197.0 million. Pricing actions largely drove the increase, which was partially offset by higher manufacturing and distribution costs per pound and a $4.3 million increase in A&P. Retail segment cost of sales was $369.5 million, up 7% compared to the first three quarters of fiscal 2022, primarily due to higher input and manufacturing and distribution costs, partially offset by lower sales volumes.
Other segment product contribution margin increased $8.1 million to $1.5 million in the first three quarters of fiscal 2023, as compared to a loss of $6.6 million in the first three quarters of fiscal 2022. These amounts include losses of $14.3 million and $14.1 million related to unrealized mark-to-market adjustments and realized settlements associated with commodity hedging contracts reported in this segment in fiscal 2023 and 2022, respectively. Excluding these mark-to-market adjustments and realized settlements, Other segment product contribution margin increased $8.3 million, largely due to pricing actions in our vegetable business.
Selling, General and Administrative Expenses
SG&A increased $88.2 million to $357.6 million in the first three quarters of fiscal 2023, and includes a net $30.8 million gain ($22.0 million after-tax, or $0.15 per share) related to actions taken to mitigate the effect of changes in currency rates on our purchase of the remaining equity interest in LW EMEA, net of other acquisition-related costs. Excluding items impacting comparability, SG&A increased $119.0 million to $388.4 million, primarily due to higher compensation and benefits expense, and to a lesser extent higher expenses related to improving our information systems and ERP infrastructure, as well as a $7.5 million increase in A&P.
Interest Expense, Net
Compared with the first three quarters of fiscal 2022, interest expense, net decreased $59.7 million to $76.4 million. The first three quarters of fiscal year 2022 includes a $53.3 million ($40.5 million after-tax or $0.28 per share) loss on extinguishment of debt associated with the redemption in full of our outstanding 4.625% senior notes due 2024 (the “2024 Notes”) and 4.875% senior notes due 2026 (the “2026 Notes”). Excluding items impacting comparability, interest expense declined $6.4 million as higher capitalized interest and interest income more than offset the impact of higher interest rates on our floating rate debt.
Income Tax Expense
Income tax expense for the first three quarters of fiscal 2023 and 2022 was $152.6 million and $49.4 million, respectively. The effective income tax rate (calculated as the ratio of income tax expense to pre-tax income, inclusive of equity method investment earnings) was 23.0% and 22.6% for the first three quarters of fiscal 2023 and 2022, respectively. Excluding items impacting comparability, our effective tax rates for the first three quarters of fiscal 2023 and 2022 were 23.4% and 22.5%, respectively. The effective tax rate varies from the U.S. statutory tax rate of 21%, principally due to the impact of U.S. state taxes, foreign taxes and currency, permanent differences, and discrete items.
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Equity Method Investment Earnings
Equity method investments earnings were $44.0 million and $46.0 million for the first three quarters of fiscal 2023 and 2022, respectively. Equity method investment earnings included a $31.1 million unrealized loss related to mark-to-market adjustments associated with currency and commodity hedging contracts in the first three quarters of fiscal 2023, of which $37.8 million ($28.1 million after-tax, or $0.18 per share) related to losses in natural gas and electricity derivatives as commodity markets in Europe have experienced significant volatility. Equity method investment earnings in the first three quarters of fiscal 2022 included a $27.5 million unrealized gain for mark-to-market adjustments, of which $30.6 million ($22.7 million after-tax, or $0.16 per share) related to gains in natural gas and electricity derivatives. Equity method investment earnings in the first three quarters of fiscal 2023 also included a $15.1 million gain (before and after-tax, or $0.10 per share) recognized in connection with remeasuring our previously held 50% equity interest in LWAMSA to fair value.
Excluding the items impacting comparability noted above (mark-to-market adjustments related to natural gas and electricity derivatives and the remeasurement of our previously held 50% equity interest in LWAMSA) and the other mark-to-market adjustments, earnings from equity method investments increased $41.5 million compared to the prior year, reflecting favorable price/mix, partially offset by higher manufacturing and distribution costs, in both Europe and the U.S.
Liquidity and Capital Resources
Sources and Uses of Cash
We ended the first three quarters of fiscal 2023 with $675.0 million of cash and cash equivalents and $994.6 million of availability under our revolving credit facility, net of letters of credit. As of February 26, 2023, no borrowings were outstanding under the revolving credit facility.
We believe we have sufficient liquidity to meet projected capital expenditures, service existing debt and meet working capital requirements for at least the next 12 months with current cash balances and cash from operations, and in the longer term, supplemented as necessary by available borrowings under our currently undrawn revolving credit facility.
Cash Flows
Below is a summary table of our cash flows, followed by a discussion of the sources and uses of cash through operating, investing, and financing activities:
Thirty-Nine Weeks Ended
February 26,
February 27,
(in millions)
2023
2022
Net cash flows provided by (used for):
Operating activities
$
335.1
$
174.0
Investing activities
(535.7)
(226.2)
Financing activities
331.3
(302.2)
130.7
(354.4)
Effect of exchange rate changes on cash and cash equivalents
19.3
(0.5)
Net increase (decrease) in cash and cash equivalents
$
150.0
$
(354.9)
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Operating Activities
In the first three quarters of fiscal 2023, cash provided by operating activities increased $161.1 million to $335.1 million, compared with $174.0 million in the same period a year ago. The increase related to a $213.9 million increase in income from operations, adjusted for non-cash income and expenses, partially offset by $52.8 million of cash used for unfavorable changes in working capital. See “Results of Operations” in this MD&A for more information related to the increase in income from operations. Unfavorable changes in working capital primarily related to higher-cost finished goods inventories, due primarily to increased potato and input cost inflation. These unfavorable changes were partially offset by an increase in accrued liabilities due to higher compensation and benefits accrued in fiscal 2023, compared with the prior year period, a decrease in prepaid expenses and other current assets due to differences between contracted volumes and actual usage for grower storage as well as timing of advances to growers, an increase in accounts payable due to timing, and a decrease in receivables attributable to timing of collection of accounts receivable.
Investing Activities
Investing activities used $535.7 million of cash in the first three quarters of fiscal 2023, compared with $226.2 million in the same period in the prior year. The increase primarily relates to our investments in our chopped and formed capacity expansion and our french fry processing line in American Falls, Idaho, and our greenfield french fry processing facility in Ulanqab, Inner Mongolia, China. We expect to use approximately $700 million to $725 million in fiscal 2023, including capital expenditures at LW EMEA, but excluding the purchase price to acquire equity interests in our joint ventures in Europe and Argentina.
During the first three quarters of fiscal 2023, we also used $42.3 million to acquire an additional equity interest in our joint venture in Argentina and used $67.6 million to largely acquire assets associated with the improvement of our information and technology services infrastructure.
On February 28, 2023, we acquired the remaining equity interest in LW EMEA for €531.6 million ($564.0 million) in cash, subject to certain post-closing adjustments pursuant to the purchase agreement, and 1,952,421 shares of our common stock. With the completion of the transaction, we own 100% of LW EMEA. We funded the cash portion of the acquisition with the proceeds from a $450.0 million term loan and $114.0 million of cash on hand.
Financing Activities
During the first three quarters of fiscal 2023, financing activities primarily related to issuing a new term loan facility for net proceeds of $450.0 million and borrowing $59.1 million and $1.7 million under our RMB-denominated loan facility and other credit facilities, respectively, offset by $24.6 million of debt and financing obligation repayments, and the payment of $105.8 million of cash dividends to our common stockholders. In addition, we used $47.2 million of cash to repurchase 529,167 shares of our common stock at an average price of $76.66 per share and withheld 83,973 shares from employees to cover income and payroll taxes on equity awards that vested during the period.
In the first three quarters of fiscal 2022, cash used for financing activities primarily related to issuing U.S. dollar-denominated senior notes and a RMB-denominated loan facility for combined net proceeds of $1,669.2 million, offset by $1,690.1 million of debt and financing obligation repayments, including cash used to redeem our previously outstanding 2024 Notes and 2026 Notes, the payment of $103.0 million of cash dividends to common stockholders, and the payment of an aggregate call premium of $39.6 million relating to redeeming the 2024 Notes and 2026 Notes. In addition, we used $133.7 million of cash to repurchase 2,027,891 shares of our common stock at an average price of $62.15 per share and withheld 116,780 shares from employees to cover income and payroll taxes on equity awards that vested during the period.
For more information about our debt, interest rates, maturity dates, and covenants, see Note 9, Debt and Financing Obligations, of the Condensed Notes to Consolidated Financial Statements in “Part I, Item 1. Financial Statements” of this report and Note 7, Debt and Financing Obligations of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” of the Form 10-K. At February 26, 2023, we were in compliance with the financial covenant ratios and other covenants contained in our credit agreements.
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Obligations and Commitments
Except for our acquisition of the remaining equity interest in LW EMEA, as discussed in this MD&A, and the related liabilities assumed from the acquisition, there have been no material changes to the contractual obligations disclosed in “Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Form 10-K.
Non-GAAP Financial Measures
To supplement the financial information included in this report, we have presented product contribution margin on a consolidated basis, Adjusted EBITDA, Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted EPS, each of which is considered a non-GAAP financial measure.
Product contribution margin is one of the primary measures reported to our chief operating decision maker for purposes of allocating resources to our segments and assessing their performance. Product contribution margin represents net sales less cost of sales and A&P expenses. Product contribution margin includes A&P expenses because those expenses are directly associated with the performance of our segments. Our management also uses Adjusted Income from Operations, Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures. Management uses these non-GAAP financial measures to assist in analyzing what management views as our core operating performance for purposes of business decision making. Management believes that presenting these non-GAAP financial measures provides investors with useful supplemental information because they (i) provide meaningful supplemental information regarding financial performance by excluding certain items affecting comparability between periods, (ii) permit investors to view performance using the same tools that management uses to budget, make operating and strategic decisions, and evaluate historical performance, and (iii) otherwise provide supplemental information that may be useful to investors in evaluating our results. In addition, we believe that the presentation of these non-GAAP financial measures, when considered together with the most directly comparable GAAP financial measures and the reconciliations to those GAAP financial measures, provides investors with additional tools to understand the factors and trends affecting our underlying business than could be obtained absent these disclosures.
The non-GAAP financial measures provided in this report should be viewed in addition to, and not as an alternative for, financial measures prepared in accordance with GAAP that are presented in this report. These measures are not substitutes for their comparable GAAP financial measures, such as gross profit, income from operations, net income, diluted earnings per share, or other measures prescribed by GAAP, and there are limitations to using non-GAAP financial measures. For example, the non-GAAP financial measures presented in this report may differ from similarly titled non-GAAP financial measures presented by other companies, and other companies may not define these non-GAAP financial measures the same way we do.
See “Results of Operations – Thirteen Weeks Ended February 26, 2023 compared to Thirteen Weeks Ended February 27, 2022 – Net Sales, Gross Profit, and Product Contribution Margin” and “Results of Operations – Thirty-Nine Weeks Ended February 26, 2023 compared to Thirty-Nine Weeks Ended February 27, 2022 – Net Sales, Gross Profit, and Product Contribution Margin” above for a reconciliation of product contribution margin on a consolidated basis to gross profit.
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The following table reconciles net income to Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures:
Thirteen Weeks Ended
Thirty-Nine Weeks Ended
February 26,
February 27,
February 26,
February 27,
(in millions)
2023
2022
2023
2022
Net income
$
175.1
$
106.6
$
510.1
$
168.9
Equity method investment loss (earnings)
23.3
(29.7)
(44.0)
(46.0)
Interest expense, net
25.8
25.8
76.4
136.1
Income tax expense
42.1
31.1
152.6
49.4
Income from operations
266.3
133.8
695.1
308.4
Depreciation and amortization
50.2
46.6
150.0
138.8
Items impacting comparability
Acquisition-related items, net (a)
(4.3)
—
(30.8)
—
Adjusted EBITDA
312.2
180.4
814.3
447.2
Unconsolidated Joint Ventures
Equity method investment (loss) earnings
(23.3)
29.7
44.0
46.0
Interest expense, income tax expense, and depreciation and
amortization included in equity method investment earnings
9.3
9.5
26.9
30.7
Items impacting comparability
Impact of LW EMEA natural gas and electricity derivatives (b)
47.3
(19.3)
37.8
(30.6)
Gain on acquisition of interest in joint venture (c)
—
—
(15.1)
—
Add: Adjusted EBITDA from unconsolidated joint ventures
33.3
19.9
93.6
46.1
Adjusted EBITDA including unconsolidated joint ventures
$
345.5
$
200.3
$
907.9
$
493.3
(a) Income from operations for the thirteen weeks and thirty-nine weeks ended February 26, 2023 included a net $4.3 million gain ($2.8 million after-tax, or $0.02 per share) and a net $30.8 million gain ($22.0 million after-tax, or $0.15 per share), respectively, related to actions taken to mitigate the effect of changes in currency rates on our fourth quarter purchase of the remaining equity interest in LW EMEA, net of other acquisition-related costs.
(b) Equity method investment earnings (loss) for the thirteen weeks ended February 26, 2023 and February 27, 2022 included a $47.3 million unrealized loss ($35.1 million after-tax, or $0.24 per share) and a $19.3 million unrealized gain ($14.3 million after-tax, or $0.10 per share), respectively; and for the thirty-nine weeks ended February 26, 2023 and February 27, 2022, included unrealized losses of $37.8 million ($28.1 million after-tax, or $0.18 per share) and unrealized gains of $30.6 million ($22.7 million after-tax, or $0.16 per share), respectively, related to mark-to-market adjustments associated with changes in natural gas and electricity derivatives as commodity markets in Europe have experienced significant volatility.
(c) Equity method investment earnings for the thirty-nine weeks ended February 26, 2023 included a $15.1 million gain (before and after-tax, or $0.10 per share) recognized in connection with our acquisition of an additional 40% equity interest in our Argentina joint venture, increasing our equity ownership from 50% to 90%. The gain related to remeasuring our previously held 50% equity interest to fair value.
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The following tables reconcile income from operations to Adjusted Income from Operations, net income to Adjusted Net Income, and diluted EPS to Adjusted Diluted EPS:
For the Thirteen Weeks Ended
February 26,
February 27,
February 26,
February 27,
February 26,
February 27,
2023
2022
2023
2022
2023 (a)
2022 (a)
(in millions, except per share amounts)
Income from Operations
Net Income
Diluted EPS
As reported
$
266.3
$
133.8
$
175.1
$
106.6
$
1.21
$
0.73
Items impacting comparability:
Impact of LW EMEA natural gas and electricity derivatives (b)
—
—
35.1
(14.3)
0.24
(0.10)
Acquisition-related items, net (c)
(4.3)
—
(2.8)
—
(0.02)
—
Total items impacting comparability
(4.3)
—
32.3
(14.3)
0.22
(0.10)
Adjusted
$
262.0
$
133.8
$
207.4
$
92.3
$
1.43
$
0.63
For Thirty-Nine Weeks Ended
February 26,
February 27,
February 26,
February 27,
February 26,
February 27,
2023
2022
2023
2022
2023 (a)
2022 (a)
(in millions, except per share amounts)
Income from Operations
Net Income
Diluted EPS
As reported
$
695.1
$
308.4
$
510.1
$
168.9
$
3.53
$
1.16
Items impacting comparability:
Impact of LW EMEA natural gas and electricity derivatives (b)
—
—
28.1
(22.7)
0.18
(0.16)
Acquisition-related items, net (c)
(30.8)
—
(22.0)
—
(0.15)
—
Gain on acquisition of interest in joint venture (d)
—
—
(15.1)
—
(0.10)
—
Loss on extinguishment of debt (e)
—
—
—
40.5
—
0.28
Total items impacting comparability
(30.8)
—
(9.0)
17.8
(0.07)
0.12
Adjusted
$
664.3
$
308.4
$
501.1
$
186.7
$
3.46
$
1.28
(a) Diluted weighted average common shares were 144.8 million and 145.5 million for the thirteen weeks ended February 26, 2023 and February 27, 2022, respectively, and 144.7 million and 146.2 million for the thirty-nine weeks ended February 26, 2023 and February 27, 2022, respectively .
(b) See footnote (b) to the reconciliation of net income to Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures above for a discussion of the item impacting comparability.
(c) See footnote (a) to the reconciliation of net income to Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures above for a discussion of the item impacting comparability.
(d) See footnote (c) to the reconciliation of net income to Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures above for a discussion of the item impacting comparability. There was no tax on the gain associated with the acquisition of an additional 40% equity interest in our Argentina joint venture.
(e) The thirty-nine weeks ended February 27, 2022, include a loss on the extinguishment of debt of $53.3 million ($40.5 million after-tax), which consists of an aggregate redemption premium of $39.6 million related to the redemption of the 2024 Notes and 2026 Notes and the write-off of $13.7 million of debt issuance costs associated with those notes.
Off-Balance Sheet Arrangements
There have been no material changes to the off-balance sheet arrangements disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in the Form 10-K.
Critical Accounting Policies and Estimates
A discussion of our critical accounting policies and estimates can be found in "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in the Form 10-K. There were no material changes to these critical accounting policies and estimates during the first three quarters of fiscal 2023.
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New and Recently Adopted Accounting Pronouncements
There were no accounting pronouncements recently issued that had or are expected to have a material impact on our consolidated financial statements. For a list of our new and recently adopted accounting pronouncements, see Note 1, Nature of Operations and Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” included in the Form 10-K.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.