Food service shares down

Investors worrying about slowed growth, high expansion costs

February 02, 2000|By William Patalon III | William Patalon III,SUN STAFF

Shares of U.S. Foodservice traded down by as much as a third yesterday on double-whammy concerns about slowing growth and rising costs for the Columbia-based firm, the second-largest U.S. distributor of foods to businesses, restaurants and schools.

The company's shares fell $4.125, or about 23 percent, to close at $13.9375 on trading of 6.6 million shares. The shares, which touched a 52-week low of $12.25 during trading yesterday, are down by nearly half from their 12-month high of $26.3438. The company had split its stock 2-for-1 in August -- typically a sign that management has a bullish outlook for the company.

The latest concerns surfaced after the company released its earnings Monday for its fiscal 2000 second quarter. U.S. Foodservice said it earned $27.28 million, or 27 cents per fully diluted share, during the second quarter, compared with $17.86 million, or 21 cents per share, before nonrecurring charges, for the corresponding period the year before. The year-over-year earnings per share increased 29 percent.

Net sales for the second quarter of the current fiscal year increased by 9.3 percent to $1.675 billion, according to the company. That was less than the 13 percent some analysts had been forecasting and was also less than the year-ago quarter, when sales rose 12 percent.

Key to the slowing sales growth were problems at some of its San Francisco-area businesses and "deflation" -- falling prices for the products it sells. This tag-team of factors cut the overall growth rate by 2.1 percent, the company said in its earnings report.

Kurt C. Funderburg, an analyst who follows the company for Ferris Baker Watts in Baltimore, said the problems in California were known -- but the severity wasn't. During the second quarter, the problems there caused U.S. Foodservice to "resign" about $26 million in business. The company is now saying it may exit that market altogether, Funderburg said.

"That was probably the biggest news, the biggest surprise," said Funderburg, who lowered his rating on the stock from "strong buy" to "outperform."

In addition to the issue of slowing growth, investors apparently became concerned about the potential for rising costs in another part of the company's business.

U.S. Foodservice told analysts that it intends to add more chain restaurant customers, instead of smaller, independent restaurants, to make up for slowing sales. Investors fear that will raise costs. The reason: U.S. Foodservice may have to spend more money on warehouses and other distribution-related infrastructure to meet the demands of these chains. If costs do rise, profit margins get squeezed -- a possibility that apparently scared investors.

"I have some concerns about its internal growth and its solution to that," Credit Suisse First Boston Inc. analyst Rajan Chaudhry, who cut his rating from "buy" to "hold," said yesterday.

Bonna Walker, vice president of marketing and communications for U.S. Foodservice, said she really doesn't believe this faster-than-expected growth in the firm's chain-restaurant business "will be a problem going forward."

Big, mass-market restaurant chains also don't purchase as many private-label food products, which are more profitable for U.S. Foodservice than national brands it resells -- also a margin-squeezer, according to analysts.

Despite these short-term bumps -- which will likely lead to a rocky third quarter -- Ferris Baker's Funderburg said he thinks U.S. Foodservice has excellent prospects ahead of it. For one thing, families are increasingly eating meals that aren't being prepared in the home -- meaning consumers are either eating in restaurants, or buying already-cooked meals to bring home for dinner. That trend means more business for U.S. Foodservice, the analyst said.

For another thing, the food service industry is consolidating, and U.S. Foodservice, with its No. 2 spot behind Houston-based Sysco Corp., is in a position to pick up smaller firms and grow, Funderburg said.

"The long-term story here is still very strong," he said.

Bloomberg News contributed to this article.

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