Nut struggles, charges contribute to wide loss at Diamond

by Eric Schroeder
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SAN FRANCISCO — Diamond Foods, Inc. sustained a wider loss in the first quarter of fiscal 2014, falling to $42,153,000 in the quarter ended Oct. 31 from $10,729,000 in the same period a year ago. During the most recent quarter, Diamond said it incurred $23.5 million in expenses for the mark to market adjustments related to shares issuable in connection with the settlement of the securities class action lawsuit, a $5 million expense associated with the company’s estimated future impact from a potential resolution of the Securities and Exchange Commission investigation and a $17 million charge related to a change in the fair value of the Oaktree warrant liability. Excluding the charges, non-GAAP net income amounted to $5,039,000, or 18c per share, which compared with $5,218,000, or 24c per share, in the same period a year ago.

Net sales fell 9% to $234,668,000 from $258,462,000, reflecting lower walnut sales, impacted by lower supply, and prior-year stock-keeping unit reductions on the company’s Emerald business contributed to the decline.

The company’s Snacks business performed well in the quarter, though, as gross profit increased 3% to $39,424,000 and sales rose 1% to $112,589,000.

Brian Driscoll, president and chief executive officer, said during a Dec. 5 conference call to discuss first-quarter results that the company’s Pop Secret brand gained 320 basis points of market share across all outlets in the 12-week period ended Nov. 23.

“We believe this speaks to the strength of the Pop Secret brand and the loyalty we are building with consumers,” he said. “Our consistent progress illustrates again the early benefits of marketing, distribution gains and improved net price realization.”

Another strong performer in the Snacks business was Kettle U.K.

“We continue to see the benefits of cost savings being invested in brand support and more effective advertising,” Mr. Driscoll said. “In fact, household penetration and market share in the U.K. hit an all-time high in mid-November. In addition, this month we have just launched a new national ad campaign centered on the craftsmanship of Kettle chips, and reinforcing Kettle's authentic real food credentials.”

Despite top-line softness on Kettle U.S., Mr. Driscoll affirmed his belief that the trend will reverse and pick up momentum in the second quarter and beyond. He said the company already has begun to see Nielsen consumption patterns improving. For example, the company’s core fried chip line was up nearly 13% in the 12-week period ended Oct. 26.

“When you consider the growth of the potato chip category in the natural channel compared to mainstream channels, it appears that the trend is in our favor,” he said. “Interestingly, although Kettle’s market share in mainstream channels is substantially stronger in the Western U.S., its market share is much more evenly distributed across the country in the natural channel, which suggests that the brand’s appeal stretches across the country.

“While the recent Nielson retail sales growth and mainstream channel is improving, we are still developing our strategy to accelerate Kettle’s growth outside of the West. We do believe that our relative performance in the natural channel is evidence of the opportunity we have to bridge this mainstream channel gap over time.”

Looking to the future, Mr. Driscoll said a critical driver for growth at Diamond in the snacks segment in fiscal 2015 and beyond will be the continued development of its innovation pipeline, and the gradual expansion of its distribution base.

“We plan to introduce two new Kettle varieties — Sweet Chili Garlic and Sriracha, our formulated and repositioned tortilla chip line, and two new Pop Secret products we are expanding from test,” he said. “We have also launched a Kettle single-serve initiative that, while early and on a small base, is demonstrating potential.”

Gross profit in the Nuts segment was $18,509,000, down 9% from $20,259,000 in the same period a year ago. Net sales fell 17% to $122,079,000 from $147,219,000.

Mr. Driscoll did note that Diamond was encouraged by progress with the brand repositioning of Emerald.

“The new canister line that we launched in Q1 has achieved broad distribution at retail,” he said. “And our 100-calorie product line is growing at a solid pace. Importantly, we are seeing improvements in Emerald’s overall financial contribution to the company.”

In walnuts, although Diamond expects to have less supply to sell than last year, Mr. Driscoll said the company believes it has stabilized its supply base.

“As I’ve said before, we continue to take the long view on this business, and remain confident that we have the right strategy in place,” he said.
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