Our Insights from Sysco's Analyst Day
This firm's substantial competitive advantages remain intact.
Stock Strategist
On Dec. 14, 2009, we attended Sysco's (SYY) analyst day in New York City. There is no change to our fair value estimate, but the event reinforced our opinion regarding Sysco's competitive advantages and our valuation assumptions. Below we include our key takeaways from management's presentation, as well as our thoughts from follow-up conversations with CEO Bill DeLaney and CFO Chris Kreidler.
Sysco's efforts to simplify its supply chain are yielding measurable results. For example, the firm's investments have driven down the time required to unload a truck at a redistribution center from 2 hours to just 20 minutes. In addition, Sysco increased cases per trip to 711 during 2009 (up from 585 in 2000), allowing the firm to service 72 of its U.S. Broadline facilities with 15 fewer trucks, and reduce routes driven daily by 1,080. The combination of these efficiency gains has generated significant fuel and equipment savings.
A restructured and better-supported sales force adds to Sysco's potential. Sysco's massive sales team---more than 8,000 individuals---is a point of differentiation that is difficult for competitors to replicate. To reduce complexity within the sales team, Sysco plans to redefine the sales and marketing functions of associates to improve execution to standardize, centralize, and automate functions to lower the cost structure; and to capture and utilize the data received to better serve customers. At the moment, only 35% of a marketing associate's time is currently spent selling. Under the planned system, a marketing associate will be able to gravitate towards the area of customer interaction they prefer (servicing existing customers or generating new business). Moreover, administrative support will be added to allow sales people to spend more time with their customers. We believe that over the next few years this transition will enable the firm to further penetrate accounts through increased product sales and better customer service.
New customer growth should accelerate due to these efforts. According to Technomic, the U.S. restaurant industry is a $110 billion business, of which chain restaurants account for around 66% of total sales. Of the $24 billion in sales Sysco generates from restaurants, about 50% are from independent restaurants, and 50% are from chains. Sysco claims its market share potential is in excess of 20% (up from 17% currently and 12% in 1999), but the firm has been unable to target certain customers (particularly larger chains) because the business would be unprofitable. However, by taking complexity out of the organization and lowering its cost structure, a whole new window to potential customers should open for Sysco. Management is not forecasting significant profitability improvements, but rather intends to compete more effectively for large accounts based on price, an appropriate strategy, in our view.
Sysco might use debt to continue consolidating the industry. About three-quarters of the foodservice distribution market remains highly fragmented, which should lead to acquisition opportunities in the near term, as smaller competitors are suffering disproportionately from the recession. Along these lines, we asked CEO Bill DeLaney about the firm's planned use of cash, and he indicated to us that Sysco wants to keep some dry powder right now, but is open to taking on more debt if acquisition opportunities arise. Sysco believes it can assume $2.5 billion to $3 billion of additional debt while still maintaining an investment grade credit rating. Given our forecasts of the firm's credit profile, we agree that Sysco could sustain a more leveraged capital structure.
Despite significant deflation recently, Sysco expects moderate food inflation to return. While Sysco's first-quarter sales fell 8.1% year over year, partly reflecting 3.4% lower food costs, CFO Chris Kreidler expects moderate food inflation to return, which is in line with our own thinking. However, Kreidler doesn't see anything in the U.S. market that would make the firm's food costs spike dramatically, as had been the case for much of the prior year. Kreidler felt that a substantial increase in consumer demand at restaurants would drive food costs higher, but he thinks this sharp reversal of the current situation is unlikely.
We believe management's focus to expand Sysco's distribution platform, improve supply-chain efficiency, and increase sales force productivity, will be driving forces behind future growth and, more importantly, help sustain its competitive advantages. Although the company's results have softened over the last year as consumers eat more meals at home instead of at Sysco's primary customers (restaurants), we believe the firm's scale, breadth of products and services, and continued focus on cost management should ensure that Sysco's moat remains intact.
Sysco's Valuation
Our fair value estimate for Sysco's shares is $35 each.
