The Simply Good Foods: growth track remains intact (NASDAQ: SMPL)
Simply Good Foods (NASDAQ:SMPL), a nutritional snacks company with Atkins and Quest brands under its banner, posted a surprisingly strong set of quarterly sales figures. In particular, U.S. retail takeout far exceeded expectations, more than offsetting any weakness internationally. Raw margins missed consensus amid higher start-up and freight costs, but robust selling and inventory levels were a positive ahead of a weaker consumption backdrop. Overall, profitability exceeded expectations, which was much better than many had anticipated going into earnings.
Coupled with expectations of another strong sales quarter and resilient margins (helped by SMPL’s pricing power), the outlook for earnings growth looks stronger than ever, in my view. In the long run, continued innovation around product types, flavors, and sizes will help, along with adjacent monetization opportunities, also presenting a benefit to the earnings growth track. At ~21x forward P/E for a company poised to see EPS double through FY25, the current valuation looks very reasonable.
A Surprisingly Resilient Sales Update
SMPL’s sales growth for the quarter was above expectations at +5.5%, driven primarily by price growth of +9.5%, which offset a volume decline of approximately 4%. By region, North America was the main outperformer, with sales up +6.4% on the back of a retail result that beat management’s expectations. Core sales were flat year-over-year, however, with international sales falling -16.6% in the fourth quarter. By brand, Atkins and Quest stood out, reflecting convenience, function and protein demand tailwinds, all of which contributed to growth above the broader category.
On unmeasured sales, for example, Quest’s +24% growth resulted in strong overall retail sales of +12%. In terms of channels, the strength of clubs and e-commerce was also impressive, highlighting SMPL’s diverse reach.
In total, the fourth quarter result means that growth for the full year amounts to +16%, easily exceeding the initial forecast range of +8-10%. This was a positive surprise – remember only in the last quarter was the commentary quite pessimistic about high retail inventory levels and elasticity issues. The rebound in retail takeout levels this quarter should alleviate concerns over overshipments, although elasticity levels remain a risk to future volumes, particularly with SMPL having already taken additional prices. On the other hand, its key brands (Atkins and Quest) will see near-term tailwinds thanks to favorable August shelf resets at Walmart (WMT), so expect the Q4 sales rebound to continue. also continues in the next quarter.
Navigating Margin Pressures
In contrast to revenue strength, SMPL saw gross margins beat consensus expectations amid high transportation and start-up costs. That said, inventory levels were a silver lining, reversing prior quarter concerns about high retail inventory and elasticity. Better-than-expected retail takeout at +12% (led by Quest) also largely helped address these concerns, along with additional tailwinds from August shelf resets on the two key brands. EBITDA of $51 million was also above expectations, while management-defined EPS of $0.36 (i.e. excluding D&A and stock-based compensation) also outperformed thanks to a lower tax rate.
To its credit, SMPL has deployed most of its capital over the past year to reduce net debt, which now stands at 1.4x (down from 1.7x previously). After repurchasing approximately $80 million of stock, management has also expressed interest in allocating more to repurchases, although given the rising rate environment, further debt repayment should take priority, in my view .
Guidance update signals better-than-expected outlook
Despite the uncertainty heading into FY23, SMPL’s sales forecast calls for growth just ahead of its long-term target algorithm of +4-6% – even after incorporating a headwind of around 1% following the release of the Pizza Quest license. A key driver of this improved outlook is the favorable impact of Walmart’s pending storage space reset, which bodes well for a similar outcome at other major retailers such as Target (TGT) and Kroger (KR).
While the Atkins brand will likely remain a drag, Quest’s innovation pipeline is promising – upcoming product launches such as new mini bars and chocolate covered bars could help reverse the innovation gains that are have faded in recent months. The caveat to the FY23 sales forecast, however, is that it embeds potential macroeconomic and consumer uncertainty. So expect revisions (up or down) as visibility improves over the coming quarters.
Unlike the revenue guide, SMPL sees continued margin pressure in FY23. Gross margins, for example, are guided to see a year-over-year contraction, although most of the decline is concentrated in the first quarter, where year-on-year comparison is more difficult. On the other hand, adjusted EBITDA growth should be in line with revenue growth slightly above the target of +4-6% thanks to better control of expenses.
It is also assumed that high input costs will continue into the next fiscal year, which could prove conservative given that transportation costs are already falling. If costs diverge favourably, management will have additional leeway to reinvest in medium to long-term growth or accelerate deleveraging. The latter will be particularly bullish for the EPS growth trajectory for FY23, which is currently pricing in headwinds on interest expense.
The growth track remains intact
Overall, SMPL’s Q4 2022 report was as good as it gets given the macro uncertainty. Sales figures were boosted by an above-average US retail sales result, particularly in unmetered channels, while margins were supported by strong selling. The updated outlook for FY23 also held up as buying activity in the health food category continues to outperform. With the overall purchase rate also below historical pre-COVID levels and the product innovation track, as well as adjacent monetization opportunities still intact, there remains ample room for a gradual rise in the guide.
In the meantime, innovation progress for its Quest brand will be worth watching, alongside pressures on input and supply chain costs. Additionally, the recent distribution by Conyers Park sponsor SPAC of approximately 13 million SMPL shares could also be an overhang, especially with lock-up terms (if any) currently undisclosed. Nonetheless, the stock is reasonably priced at ~25x P/E (vs. expectations of roughly doubling EPS through FY25), leaving plenty of room for the upside ahead.