Flowers Foods : Q2 2022 Results Pre-Recorded Remarks Transcript

SECOND QUARTER 2022 PREPARED REMARKS

August 11, 2022

FLOWERS FOODS - SECOND QUARTER 2022 EARNINGS (PREPARED REMARKS) AUGUST 11, 2022

CORPORATE PARTICIPANTS

J.T. Rieck, SVP of Finance and Investor Relations

Ryals McMullian, President and CEO

Steve Kinsey, CFO

PRESENTATION

J.T. Rieck, SVP of Finance and Investor Relations

Hello everyone and welcome to the pre‐recorded discussion of Flowers Foods' second‐quarter 2022 results. This is JT Rieck, SVP of finance and investor relations. As a reminder, we released earnings on August 11, 2022. Along with a transcript of these recorded remarks, you can find the earnings release and related slide presentation in the investor section of flowersfoods.com. We will host a live Q&A session on Friday, August 12 at 8:30 a.m. Eastern. Further details are posted in the investor section of our website.

Before we get started, keep in mind that the information presented here may include forward‐looking statements about the company's performance. Although we believe these statements to be reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially. In addition to what you hear in these remarks, important factors relating to Flowers Foods' business are fully detailed in our SEC filings.

Providing remarks today are Ryals McMullian, president and CEO, and Steve Kinsey, our CFO. Ryals, I'll turn it over to you…

Ryals McMullian, President and CEO

Thanks JT. It's a pleasure to welcome everyone to our second‐quarter call.

We continued to execute well in the first half of 2022, driving second‐quarter sales to record levels. Effective implementation of our June price increase boosted sales and helped offset inflationary pressures. And the faster‐ than‐expected mitigation of the supply chain issues we discussed last quarter led us to raise the bottom‐end of our EPS outlook.

Our leading brands performed quite well despite the fact that consumers are increasingly feeling the strain of inflationary pressures. Nature's Own grew sales dollars during the quarter more than any other brand in the category. And both Nature's Own and Canyon Bakehouse grew market share. Dave's Killer Bread gained share in the organic category despite headwinds related to regional capacity constraints and packaging shortages. We have resolved both of those issues and remain supremely confident in DKB's growth potential. The additional West Coast capacity that we discussed in our first quarter call will allow the brand to compete more aggressively in that market.

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FLOWERS FOODS - SECOND QUARTER 2022 EARNINGS (PREPARED REMARKS) AUGUST 11, 2022

Meanwhile, DKB continues to gain share in the strategically important Northeast market. And our breakfast products, which are a key area of focus for us, performed especially well in the quarter. The DKB brand resonates profoundly with consumers, and the purpose behind every loaf and unparalleled quality and taste engenders fierce loyalty. That loyalty gave us the confidence that it could move across categories and inspired the development of our DKB snack bars.

As we mentioned last quarter, we are thrilled with the initial results of the bars in test markets, which continue to exceed expectations, and we are actively working to expand distribution. The prospect of a snack item that adheres to the unique brand equities of Dave's Killer Bread excites retailers and consumers alike and expands our growth potential. Our core business is solid and growing, but we also intend to diversify and leverage the power of our number one brands to move into adjacent categories.

In the second quarter, our overall market share declined slightly, by 10 basis points, due to several factors. The packaging shortages that impacted DKB, and which we spoke about last quarter, also impacted sales across our business, though we mitigated most of the effect midway through the quarter. SKU rationalization related to the execution of our portfolio strategy reduced sales largely in cake, foodservice, and private label. And our price increases, which we took a bit earlier than usual in June, to mitigate inflation led to a temporarily less‐favorable competitive position, which also hampered revenues.

Lastly, we were comping Hurricane Elsa in the prior‐year period. As you know, we typically outperform our competition during major weather events, so this timing also contributed to the share change on a year‐over‐year basis. Although top line results were impressive given the environment, performance could have been even stronger were it not for these discrete items that we believe are temporary.

The supply chain issues we discussed on the last earnings call impacted results early in the second quarter, but strong execution by our procurement team minimized the impact of those headwinds later in the quarter. The June price increase also helped drive an EBITDA improvement in the latter part of the quarter.

Our product mix regressed slightly as the long‐term trend of share losses in the private label category paused, and the price increases in that business exceeded other categories, as we work to improve its profitability. Those efforts are paying off and as a result we expect such share shifts, should they continue, to be less dilutive to margins than in the past.

Now I'll address our four strategic priorities, which we expect to drive our results in 2022 and beyond: developing our team, focusing on our brands, prioritizing margins, and pursuing smart M&A.

First, as always, I'd like to thank our Flowers team for their hard work and dedication, which has made our strong performance possible. I just mentioned the effort our procurement group made to minimize the impact of supply chain disruptions, and that is just one example of many demonstrating the extraordinary efforts of Flowers team members. In an environment of unprecedented challenges, their execution continues to drive exceptional results.

The labor market remains challenging, particularly in our bakeries. To mitigate these pressures and help build a stronger Flowers team, we have implemented a mentor program that supports our newest team members as they begin their career journey at Flowers. New hires are matched with a compatible mentor, who meets with them regularly and checks in on their progress. Mentors act as a resource, provide encouragement and support, and intervene when a mentee faces a challenge that might lead them to leave their job. The program is relatively

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FLOWERS FOODS - SECOND QUARTER 2022 EARNINGS (PREPARED REMARKS) AUGUST 11, 2022

new, but early indications are that it is improving the onboarding process and reducing turnover, and we believe it will help improve efficiencies.

Our second strategic priority is focusing on our brands. Last quarter we detailed our portfolio strategy, which aims to shift our sales mix to higher‐margin branded retail products, and our results this quarter demonstrate the effectiveness of that approach. Our Accelerate Growth and Learn and Prove portfolio roles are driving continued growth. Tracked channel sales of our leading brands in the quarter were strong, with Nature's Own up 12.4%, Dave's Killer Bread up 9.8%, and Canyon up 22.2%.

We've maintained many of the new consumers we gained during the height of the pandemic, and we are working to build upon that growth through continued elevated marketing and brand investments. Our 17.5% dollar share exceeded pre‐pandemic levels in the second quarter of 2019 by 80 basis points. Investments in innovation are delivering promising results from recent launches, including DKB Epic Everything breakfast bread, Nature's Own Hawaiian loaf, Canyon Bakehouse Brioche rolls, and Nature's Own Perfectly Crafted Sourdough. And we remain focused on improving profitability in our Balance Growth and Maximize Profitability portfolio roles, which I will detail shortly.

Our third strategic priority is margins, which remain a particular focus given the inflationary environment. In addition to the margin expansion we expect from our portfolio strategy‐driven mix shift, we are implementing cost savings programs and improved processes to run our business as efficiently as possible. The $25 to $35 million of savings from operational efficiencies and procurement that we are targeting for this year are on track. And those are on top of the $60 million in additional cost savings we achieved in the two prior years.

Last quarter we discussed the Dave's Killer Bread capacity we added in the West and the benefits that would have in meeting growing demand and improving efficiencies at nearby bakeries. In conjunction with that move, we recently announced the pending closure of our bakery in Phoenix, which is planned to occur in the fourth quarter. In keeping with our portfolio strategy, we expect this closure of an older, less‐efficient bakery to reduce lower‐ margin private label and foodservice production in the region, while nearby bakeries will service the remaining branded retail needs. We will maintain ample capacity to service future growth in this important market.

Our portfolio strategy calls for us to improve the profitability of our Balance Growth and Maximize Profitability portfolio roles. Consistent with that objective, as private label demand is showing initial signs of stabilizing, we are focused on enhancing the profitability of that business. We implemented price increases to mitigate inflation and continue to work with our retail partners to drive efficiencies.

Our digital transformation initiative remains on track, and we are confident in our ability to implement it as planned. We believe the investments we are making in digital technology will help drive meaningful efficiency improvements in our bakeries, and, as we have emphasized, will be a key driver of improved margins over time.

Our fourth priority is smart M&A. We hope you noted our recent investment in Base Culture, a fast‐growing, female‐founded and led baked foods company offering better‐for‐you, gluten‐free and grain‐free sliced breads and baked goods. The products are both Paleo and Keto certified and are on trend with consumers seeking those attributes. We expect our investment will allow Base Culture to grow distribution, scale marketing, and bolster its existing manufacturing capabilities to offer its products to more consumers than ever before. We have been considering venture type investments for some time as we seek to enhance our internal agile innovation efforts,

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FLOWERS FOODS - SECOND QUARTER 2022 EARNINGS (PREPARED REMARKS) AUGUST 11, 2022

and we believe this is a great first move into that space. This small investment may serve as a model for future investments in other leading‐edge companies.

In addition, we continue to monitor the deal market, actively seeking potential acquisitions that add capabilities, brands, or products to our strong existing lineup. We believe our balance sheet positions us well to act when we have financial, commercial, and operational conviction, and we remain committed to our disciplined approach.

Now, I'll turn it over to Steve to review the details of the quarter, and then I'll come back a little bit later to discuss our outlook for the current business environment. Steve?

Steve Kinsey, CFO and CAO

Thank you, Ryals - and hello everyone. I'd like to echo your comments on our incredible team and express my sincere thanks for their outstanding efforts. As Ryals mentioned, we are very pleased with our second quarter performance.

Total sales increased 11.0% from the prior‐year period. Improved price/mix drove the adjusted year‐over‐year increase, up 14.4%, primarily due to price increases to mitigate inflationary pressures. That increase was partly offset by a shift in sales mix from branded retail to store branded retail. Volume decreased 3.4%, mostly due to SKU rationalizations in cake, foodservice, and private label. Other volume headwinds included the supply chain issues related to packaging and the temporary impact of price increases on our competitive position. Overall, elasticities were in line with our expectations.

In the second quarter, gross margin as a percentage of sales, excluding depreciation and amortization, decreased 240 basis points to 48.1%. Comparisons were impacted by higher ingredient and packaging costs, partly offset by higher sales that leveraged labor expenses, and timing differences in the sell‐through of product inventories.

Selling distribution and administrative expenses decreased 130 basis points as a percentage of sales to 38.8% in the second quarter, benefitting from price increases and lower labor and marketing expenses and distributor distribution fees, partially offset by higher logistics expenses. Excluding the items affecting comparability detailed in the press release, adjusted SD&A expenses decreased 90 basis points to 37.5%.

GAAP diluted EPS for the quarter was 25 cents per share compared to 26 cents in the prior‐year period. Excluding the items affecting comparability detailed in the release, adjusted diluted EPS in the quarter was 31 cents per share, down 1 cent from the prior‐year period, due to the factors mentioned above, as well as lower interest income and a higher tax rate.

Turning now to our balance sheet, liquidity, and cash flow.

For the first half of fiscal 2022, cash flow from operating activities decreased by $39.6 million to $183.8 million. Capital expenditures increased $39.6 million to $97.9 million, largely due to the ongoing ERP upgrade, digital investments, and production capacity additions. Dividends paid increased $6.4 million to $93.4 million.

In the first quarter, our board increased the company's share repurchase authorization by 20 million shares. Year‐ to‐date, we repurchased shares for $16.5 million and invested $9 million in Base Culture. We intend to continue to use our strong balance sheet to capitalize on similar opportunities as they present themselves.

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