THOMASVILLE, GA. — Adjusted earnings at Flowers Foods, Inc. grew only modestly in 2022 despite the company’s strong performance in the marketplace and after generating significant savings from cost-cutting initiatives. Anticipating substantial further costs from the ongoing update of its enterprise resource planning (ERP) system, the company’s executives expect profits to remain nearly flat in 2023.

Flowers Foods net income in the year ended Dec. 31, 2022, was $228.4 million, equal to $1.07 per share on the common stock, up 11% from $206.2 million, or 97¢ per share, in 2021. Sales were $4.81 billion, up 11% from $4.33 billion the year before. Adjusted for numerous special items in both years, adjusted earnings per share were $1.27, up 3%. EBITDA margins were 10.4%, down 90 basis points from 2021.

For the new year, Flowers is projecting adjusted earnings per share in a range of $1.20 to $1.30, versus $1.27. Sales in 2023 were forecast at $5.18 billion to $5.24 billion, up 7.7% to 9.1% from 2022.

In pre-recorded remarks released Feb. 9, A. Ryals McMullian, president and chief executive officer, said high inflation is likely and a recession is possible in 2023.

“Despite these challenges, we intend to continue investing in our business, bringing more innovation to market while also implementing our digital transformation and supply chain initiatives,” he said. “While these investments will impact our near‐term results and contribute to a below‐algorithm year, I am confident that they will enhance an already strong foundation and position us for future growth once these headwinds subside.”

In early trading on the New York Stock Exchange Feb. 10 after the financial results and 2023 guidance were announced, Flowers shares were up as much as 2.4%, at $27.97 per share.

Elaborating on the investments Mr. McMullian referenced, R. Steve Kinsey, chief financial officer, said a large part of the impending costs relate to a multi-year upgrade of Flowers’ ERP system. He said the project’s costs are running higher than initially projected and that completion is expected in 2026.

“We expect the impact of these costs to peak in 2023 as we begin to roll‐out the system across our network,” he said. “Our adjusted EBITDA guidance incorporates approximately $26 million (or approximately 9¢ per share) of incremental costs related to this project. We anticipate these costs to moderate substantially by project completion in 2026.”

All in, the ERP project is expected to cost $350 million, up from the company’s earlier estimate of $275 million, Mr. Kinsey said. He explained that the increased cost reflects an expansion of “the project scope as we moved through the build phase, and anticipation of greater reliance on external resources for implementation and bakery deployments due to labor constraints.”

Through the end of 2022, Flowers spent $153 million on the project, which Mr. Kinsey said “remains on track.”

“We are confident in our ability to implement it as planned and within the updated financial guidance,” he said.

He said the company will spend $80 million to $90 million on the ERP project in 2023, which would leave up to $117 million remaining to be spent between 2024 and 2026.

Turning to operating expenses, Mr. Kinsey said that while flour costs have declined from recent highs, the expense of other inputs has been rising.

“In addition to flour, we are experiencing inflationary pressure in virtually all major categories of ingredients, packaging, and natural gas,” he said.

Mr. McMullian said Flowers is taking steps to “mitigate short-term inflationary pressures” and to reestablish the company as a low-cost producer in the baking industry for the long run.

“I have challenged our team to redouble their efforts with specific actions to drive savings and improve efficiencies so that we emerge from this period even stronger,” Mr. McMullian said.

Progress has been made. Mr. McMullian said Flowers has reduced the number of job openings at its plants and that the labor environment has improved.

“However, we will continue to invest in what I believe is the best team in the industry and we are working hard to ensure that Flowers continues to be recognized as a destination workplace,” he said.

Mr. McMullian also cited progress in the rollout of the company’s Bakery of the Future initiative. He said the program was implemented in 14 baking plants in 2022, and another 18 plants are expected to be added in 2023.

“As Bakery of the Future hits critical mass, we anticipate the benefits of real‐time data to begin flowing through,” Mr. McMullian said. “Importantly, in 2023 we are committed to investing further in supply chain capabilities to support these and other initiatives. We expect these added capabilities to drive a greater emphasis on preventative maintenance, waste reduction, logistics efficiencies, and overall equipment effectiveness. Furthermore, capital investments to upgrade equipment and increase automation should contribute to our gains.”

During a live call with analysts Feb. 10, Mr. McMullian was asked to flesh out learnings from the Bakery of the Future project with data points.

“A big one for us is scrap or waste reduction,” he said. “And so having greater data insights into how the bakeries are running allows us to be smarter about how we run the lines and reduce that waste. Waste is a big cost for us. So it’s not immaterial at all. The other thing it helps us do is it helps with preventive maintenance, understanding when breakdowns may occur so that we can plan for downtime instead of having unplanned downtime, which is costly.

“And then there’s a whole notion of micro stops on the line. You have your normal downtime for cleaning or whatever or if you have a mechanical problem, it’s the tiny stops, the 10-, 15-, 20-, 30-second, 1-minute stops that build up day by day, week by week, month by month throughout the year that become a big expense as well. So all this data that we’re able to gather is going to help us alongside of leadership capabilities and process improvements, things like that help us gain those efficiencies in the bakeries that we needed for some time now.”

Flowers also intends to make significant investments in connection with the national rollout of Dave’s Killer Bread bars, announced in December. Mr. McMullian said it was too early to share initial results but said he was excited about the product’s potential, noting that “feedback from retailers and consumers alike has been positive.”

“To support what we believe is the first step in the establishment of a DKB snack portfolio, we are placing significant marketing support behind the introduction,” he said. “That expense will contribute to the headwinds for 2023 I mentioned earlier. In addition to the bars, we have an exciting pipeline of other innovative products, including DKB Crunchy Snack Bites and Nature’s Own Breakfast Pastries.”

The latter products already are available for trial on the company’s website.

In the fourth quarter ended Dec. 31, Flowers net income was $48.6 million, equal to 23¢ per share, up 24% from $39.3 million, or 18¢, a year earlier. Sales were $1.08 billion, up 10% from $983 million. Adjusted earnings per share during the quarter rose 15%. EBITDA margins during the quarter were 8.9%, down 10 basis points from the fourth quarter of 2021.

“Nature’s Own, Dave’s Killer Bread, and Canyon Bakehouse all maintained unit share in the fourth quarter as consumers continued to recognize their differentiated attributes,” Mr. McMullian said. “That performance came despite a challenging environment where private label gained 90 basis points of share.”

From a macroeconomic perspective, Mr. McMullian said inflationary pressures and recessionary fears have eaten into consumer spending.

“Although unemployment remains low, recent signs point to an increase in layoffs, as higher interest rates may be taking a toll on economic growth,” he said. “On the other hand, as the Fed noted this week, stronger-than-expected job growth may cause inflation to be harder to tamp down.”

The developments have translated into consumers trading down to lower-priced products and a shift toward value-focused retailers, Mr. McMullian said. During the fourth quarter, specialty premium bread lost 50 basis points of unit share, more than any other category within fresh packaged bread. White and soft variety loaf categories were large gainers, up 40 and 30 basis points, respectively. The mass channel gained 130 basis points of unit share in the second half of 2022, while the grocery channel lost 170 basis points.

Private label continued to perform more strongly in mass channels than in grocery, which Mr. McMullian attributed to a wider price spread versus branded product in the mass channel.

“It’s important to note that beginning in January we have begun to see the mass channel implement price increases in private label,” he said. “Price gaps remain wider than in grocery, but we interpret the move as a positive first step for the health of branded products.”

Adding additional color to guidance for 2023, Mr. Kinsey said the first quarter would be the company’s “most difficult” in terms of year-to-year comparisons because of particularly strong results in the first quarter of 2022 due to severe storms and a COVID-19 surge.

Mr. McMullian briefly referenced the company’s December announcement it would beacquiring Papa Pita Bakery, adding that Flowers continues to “actively seek potential acquisitions and investments” and that its strong balance sheet leaves the company poised to move “when we have financial, commercial and operational conviction.”