Steven Sintros - Chief Financial Officer.

Joe Box - KeyBanc Capital Markets Andrew Wittmann - Robert W. Baird.

Ladies and gentlemen, thank you for standing by and welcome to the UniFirst Corporation Third Quarter Earnings Call. During the presentation, all participants will be in a listen-only mode. And afterwards, we will conduct a question-and-answer session [Operator Instructions].

I would now like to turn the conference over to Steven Sintros, Chief Financial Officer. Please go ahead, sir..

Thank you, and good morning. I’m Steven Sintros, UniFirst's Chief Financial Officer and welcome to the UniFirst Corporation Conference Call to review our third quarter results for fiscal '17 and to discuss our expectations going forward. This call will be on a listen-only mode until I complete our prepared remarks.

Before I begin, I’d like to give a brief disclaimer. This conference call may contain forward-looking statements that reflect the Company's current views with respect to future events and financial performance. These forward-looking statements are subject to certain risks and uncertainties.

The words anticipate, optimistic, believe, estimate, expect, intend and similar expressions that indicate future events and trends identify forward-looking statements. Actual future results may differ materially from those anticipated, depending on a variety of risk factors.

I refer you to our discussion of these risk factors in our most recent 10-Q and 10-K filings with the Securities and Exchange Commission. And now we will provide an overview of our quarterly results. Revenues for the third quarter were $409.8 million, up 11.4% from $367.8 million reported in the same period in fiscal ’16.

Net income was $24.4 million or $1.19 per diluted share, down from $30.1 million or $1.49 per diluted share reported in last year’s third quarter. These quarterly results included $6.5 million of stock-based compensation expense related to the April 2016 restricted stock grant to our former Chief Executive Officer, Ronald Croatti.

Of this expense, $5.4 million was the result of accelerated vesting on certain shares upon its passing this May. Excluding the effect of the accelerated vesting, adjusted net income was $27.7 million or $1.36 per diluted share, down 8.1% from a year ago.

Our core laundry operations, which make up 90% of UniFirst total business, reported revenues for the quarter at $367.1 million, up 10.8% from the revenues achieved for the prior year’s third quarter.

The impact of acquisitions on growth was estimated to be 6.2%, and was primarily related to our acquisition of our Arrow Uniform in September, as well as the impact from smaller acquisition in Chattanooga, Tennessee during the third quarter of last year.

Adjusted for the estimated effect of acquisitions as well as slightly weaker Canadian dollar compared to a year ago, core laundry revenues grew 4.8%. We continue to be encouraged by the improvement of our core laundry operation’s organic growth rate.

During the quarter, we benefited from improved ad over-reductions compared to a year ago, as well as a positive price environment and increased collections on merchandize recovery charges. In addition, overall new sales as well as customer retention trended positively compared to the first nine months of 2016.

Core laundry operating income, when adjusted to exclude the negative effect of the accelerated vesting of restricted stock I mentioned earlier, was $38.9 million for the quarter, a 9.2% decrease from the prior year. This segment's adjusted operating margin was 10.6%, down from 12.9% for the same period in fiscal '16.

The most significant drivers of the margin decline were atypically high levels of claims related to healthcare, workers' comp and auto liability. Expense related to these areas, excluding the impact of Arrow was $6.1 million higher than 2016’s third quarter and impacted the margin by 1.5%. Almost half of this increase related to a few large claims.

In addition, the impact of the Arrow Uniform acquisition, higher selling and administrative payroll costs and increased energy costs, also contributed to the margin decline.

Higher selling and administrative payroll costs are partially being driven by increases in headcount to support the Company's CRM systems project, as well as other sales and technology initiatives. These items are partially offset, however, by lower merchandize cost as a percentage of revenues.

Energy costs for our core laundry operations were approximately 4.1% of revenues in the third quarter, up from 3.8% of revenues in the same quarter a year ago.

Revenues for our specialty garment segment which delivers specialized nuclear decontamination and clean room products and services increased 24% to $29.9 million in the third quarter compared to the same period a year ago, and operating income was $4.2 million compared to $3.6 million last year.

As we've mentioned in past quarters, this segment's results can vary significantly from period-to-period due to seasonality and the timing of nuclear reactor outages and projects. The improvement in results compared to a year ago was primarily driven by planned increases and reactor outages in other products in this segment's U.S.

and Canadian nuclear operations. Our First Aid segment reported revenues and operating income of $12.9 million and $1.1 million respectively for the quarter compared to $12.5 million and $1.6 million for the same period in fiscal 2016.

It should be noted that this segment expended approximately $3 million during the quarter on a small acquisition that increased its market presence and service area in the Atlanta, Georgia market. UniFirst continues to maintain a solid balance sheet and financial position.

Cash provided by operating activities year-to-date was $155.8 million, a decrease of $5.3 million from the comparable period in the prior year, and cash provided by operating activities was $161.1 million.

This decrease was primarily related to an increase in accounts receivable, which was due to several factors, including the organic rate in our core laundry operations, the timing of certain direct sales, strong revenues from our specialty garment segment in the third quarter, as well as some increase in our DSO.

The negative impact of the increase in accounts receivable was partially offset by $12.5 million we received in our first quarter related to the settlement of environmental litigation the Company entered into in the fourth quarter of fiscal 2016.

Cash and cash equivalents at the end of the quarter totaled $312.7 million, down from $363.8 million reported at the end of fiscal '16. The decline in cash is primarily the result of the acquisition of Arrow Uniform during our first quarter. Excluding the cash outflow expended at closing for Arrow, cash balances would have increased $68.8 million.

Of our cash on hand at quarter end, $55.2 million has been accumulated by our foreign subsidiaries and attended for future investments outside of the United States.

For the first nine months of the year, capital expenditures total $80.5 million as we continue to investment in our future with new facility additions, expansions, updates and automation that will help us meet our long-term strategic objectives.

We currently expect capital expenditures for the full year to come in between $100 million and $110 million. As always, we would like to take this opportunity to provide an update on our outlook for the remainder of the year.

Based on the stronger than expected top line results to-date, we now anticipate our full year revenues for fiscal 2017 will be between $1.573 billion and $1.580 billion. We also expect full year diluted earnings per share to come in between $4.85 and $5.

To be clear, this earnings guidance includes the impact of the $5.4 million of additional stock compensation expense recognized in the third quarter due to the accelerated vesting of restricted stock. At this time, I would also like to provide an update on our CRM systems project.

As we’ve alluded to you previously, this project has experienced repeated delays in completion from our original time table. In addition, we have recently experienced further delays due to significant quality issues with the stability and performance of the system’s underlying code.

As a result, the timing and cost with respect to the completion and implementation of the system are currently uncertain. We are working with our consultants to better understand the significance of and steps to resolve these issues. Overall, we continue to evaluate the situation to determine our best path moving forward.

Depending on the results of our evaluation, we may determine that some future costs, moving forward, do not qualify for capitalization. Our earnings per share guidance for the remainder of the year exclude any such cost.

In addition, should we be unsuccessful in completing or implementing our CRM system, some or all of our previously capitalized costs could be subject to impairment. And finally, I would like to address the current status of UniFirst leadership transition.

As I'm sure most of you know, our long time President and Chief Executive Officer, Ron Croatti passed the way unexpectedly in May. Our Board of Directors is now involved in the process of selecting our next Chief Executive Officer. In the mean time, the Company is being managed by our experienced executive committee.

At this point, we do not have a firm date as to when this process will be completed nor will we be publicly discussing who is being considered. But we're quite confident in our executive committee’s ability to continue to moving the Company forward in the short-term, while this important decision is being made.

During this transition, we’ll continue running the Company consistent with our core business philosophies for achieving consistent Company growth and concentrating on the primary aspects of our business that are within our control.

These include; supporting investing in our professional sales organization, locally and nationally, to make consistent gains in organic growth; counting on our thousands of team partners around the world to deliver top notch service excellence; and to focus on our customers with everything that we do to make improvements in account retention and new account referrals; and controlling our cost at all levels to preserve or bottom-line, but never at the expense of our customers or our service level.

That said, this completes our prepared remarks .And I’d now be happy to answer any questions that you may have..

Thank you [Operator Instructions]. And our first question comes from the line of Joe Box with KeyBanc Capital Markets. Please proceed with your question..

So question for you on the new revenue guidance, the new guide implies that 4Q revenues could actually be down sequentially by about 4% to 6%. And if you go back and you look at it historically, it looks like it’s been more in the range of call it down 2% sequentially from 3Q.

So I guess, is the expectation here that specialty was either artificially high in 3Q or it doesn’t repeat in 4Q? Or is there something else that actually could drag down the revenue number for 4Q?.

I think you hit on it with specialty, that’s certainly a big part of it. The plan the spring reactor outage fees in was the specialty large this year, and so the close to $30 million of revenues that that segment did, was quite a bit higher as you saw than last Q3.

Q4 is projected to be more similar to last Q4, which is causing some of that sequential decline. In addition, we did have some little bit larger direct sales in the third quarter related to the Arrow acquisition actually that likely won’t repeat at the same levels in the fourth quarter.

And then there is always some sequential drop-off in some of our core business seasonality wise in the fourth quarter as well. So all of those things together, I think, are contributing to the guidance levels we’re giving..

And then maybe just to drill into the uniform organic growth, obviously, nice to step-up there, sequentially.

Can you tell how much of that is macro driven? Ultimately, I’m trying to understand what is a positive ad quit versus if your win rate is going up and maybe you’re picking up some customer attrition from G&K?.

It’s a little bit of all of the above, Joe. The ads reduction is certainly significantly better than a year ago. I would say it’s similar to the levels in the second quarter sequentially.

But in terms of the year-over-year impact, we’re starting to really annualize some of those real tough quarters we had last year and the year before in terms of reductions. So that’s certainly a piece of the positive. New sales and retention continue to trend a little bit better than a year ago.

And as I mentioned in my comments, price adjustments as well as merchandize recovery charges, which is just another way of saying our extra charges related to loss, damage and other garments, have all sort of picked up particularly in the quarter. Some of that is a result of the activity around additional hiring in some of our accounts as well.

So it’s really a little bit of everything that’s been contributing. As far as the G&K acquisition, I think we’re probably getting a little bit of a pull from that right now. I wouldn’t say overly dramatic, but it’s all part of the puzzle of the improvement..

And then I guess, lastly.

When do you think your review could be complete on the ERP system? Is that something that, theoretically, could be done by 4Q?.

Certainly, I think we hope to have a lot more visibility by the next time we talk in October. As you can tell by our comments, we do have some concern and have to dig into this a little bit more. And at this stage in the game, we’re not happy about having to do that.

But at the same time, I think, we should have some more visibility next quarter, for sure..

So it's reasonable to think and that the payroll expenses associated with the deployment should stick around 4Q, so kind of a similar situation to what we had in 3Q?.

Agreed, and just to be clear those costs right now aren’t deployment costs, they are more project based costs working to get toward deployment. But yes, they still will be with us in the fourth quarter..

[Operator Instructions] Our next question comes from the line of Andrew Wittmann with Baird. Please proceed with your question..

First, I just wanted to recognize Ron and Steve. I know, not only for you but the Company is very much a family feeling, so obviously very respective leader that will be missed by all..

I appreciate it, Andy..

So I guess my questions are -- my first question starts around the margin profile, as well I think couple of quarters ago you led out a number of factors that were margin headwinds; one of them was the stock compensation. Clearly, we have a better sense of how that folds in now, CRM.

Is there an uptick in spending in this one as you make this evaluation? It sounds like as we move through time here, if you elect to keep going after it, you’re going to have to put in more cost.

And I just wanted, try to get a sense of what -- how much incremental those costs could be, should you like to continue going down that path?.

So I think with respect to the expenses that are going through our P&L right now, Andy, and those are primarily internal team members, some consulting and so on. Those will continue as we move to this evaluation. Will they pick up? That remains to be seen.

I think probably the more appropriate question is the money we’re expending that’s currently being capitalized is part of the investment in the system, which is primarily external consulting cost. What happens to those and do those continue and do those pick up or they start to trail off.

And I think those are, obviously, front and centered related to the comments we made at this point given the issues we’re having in terms of uncertainty around the path, going forward. What I would say is we’re on a current run rate of how much we’re spending in capital, as well as how much is going through our P&L with respect this project.

At this point, I don’t anticipate those increasing dramatically on a quarter-to-quarter basis. It's really just a matter of determining our best path going forward in the best mix and timing of what we’re planning on doing. I wish I had more clarity to it right now.

But certainly, by year-end, I know that you would all expect and we would expect to have more clarity in terms of what it look like as we moved into next year. I think the team on the ground could increase some, it could. But at the same time, it's really more about the path and when we think we’re going to get there.

So that's a little bit long winded answer, but also that's helps a little bit..

My next question would be on the insurance line here, not the first time, we've have a couple of larger claims really swing the results here in the last year or so I guess.

But was there -- we've seen that some of our self-insured service companies in the past were -- you can be accruing for things like workers’ comp and you can change your accruals and that can be kind of a hit to any given quarter if you make an adjustment there.

Was the impact for your auto liability and your workers’ comp, any sort of a catch-up contribution that was unique to this quarter? Or is the run rate of cost for those things relatively consistent?.

It's a little bit of both. So we talked about that amount, the $6.1 million being health related as well as comp related. Let's take the two pieces. On the health side, certainly, in particular, we experienced some really significant claims that we would classify and we did describe as atypical.

In the current quarter, we had two of our largest claims that we've ever had in the last 10 years. In terms of a $1 million plus claims, so that's one thing. Other than those few claims this quarter on the health side we actually weren’t tracking too bad this year in terms of healthcare.

On the workers’ comp and auto liability side, you made a good comment about self-insured companies and their estimates around these reserves, those are continually being monitored. Throughout this year, we made comments in earlier quarters and through the third quarter.

We were certainly trending higher in our run rates of actual claims and in claim deterioration, which is old claims that have adverse developments. And so the impact on this quarter is a combination of actual new claims that have come in, as well as continued adjustments to our expected full-year outcome based on the information we have.

And we continue to make those environments. Typically, we don’t have large adjustments to them. But this quarter, based on how this year has been going in that regard, we've had to continue to move those reserves along..

What's the impact, the ongoing impact to the way you’re looking at rest of the year? Because presumably, that will probably the way you accrue next year.

And then like to understand what the headwind from that new rate is, if you can help quantify?.

Well, in terms of healthcare, I think to be honest my comments last quarter through six months was that some of the concerns about increases in healthcare from the beginning of the year, we were doing a little bit better than our original projections. Now, we’re probably back where maybe I had projected originally.

So on the health side I'm not sure changes are significant thoughts going forward. On the comp side, we made some comments last quarter like I said. But through nine months, this has been -- it's been the worst year in this regard and over the last year 8 to 10 years, even given our growth and so on.

And so how much of that is a normally and we had -- you haven’t heard us talk a lot about comp in the last number of years because we've had fairly good performances.

How much of that is going to trend into next year, we will probably have to start next year accruing to somewhat of a higher rate based on the experience from this year, and then we’ll adjust as we go along.

So I'm probably not prepared to say how much of a headwind it may or may not be going into next year yet until we do our year-end actuarial analysis that we do every fourth quarter..

And then maybe just one other question, as it relates to the Company's reported margins. Clearly, Arrow has been mixing your margins lower. We're coming up here in a couple of months to a year's worth of ownership.

And I guess maybe it’s an appropriate time to maybe start checking with you about the integration of this Company, and some of the long term strategic plans that you had to improve UniFirst overall franchise with it.

Can you just let us know where you are and where you might start seeing some of the benefits from Arrow? Or if you expect to see some benefits to Arrow as you work the cost structure there and integrate it further?.

At this point, we're in full swing converting Arrow into our systems and moving the different operations of Arrow and integrating them into the UniFirst operation. So that's all really in process now.

Over the next six months or so, most of that will be starting to settle down in which case we'll really be able to focus on continuing to make those improvements. I will say, over the course of the year, although, they've been some transitionary costs we're already starting to see costs come out of that operation.

At the same time, as expected, we're transitioning some of the customer product offering to our self manufactured garments, which is starting to provide some savings. So we are -- some of the transitionary costs are probably muddying some of the improvements. But at the same time, we feel good about the direction that it’s headed.

At this point, the most important thing is the customer retention and the employee retention, and that's been very positive. We haven't had any large customer defections nor any key employee concerns with the transition, so all that's positive.

As we move the operations, I think it's a matter of addressing some other operational and structural challenges that will help continue to make improvements in the margin. So I think as we move into next year and get through the mechanical aspects of the transition, we should start seeing some of that pull.

I am optimistic that it is going to be continuous improvement as we move along..

[Operator Instructions] Mr. Sintros, our next question is -- from the follow-up question from Andrew Wittmann with Baird. Please proceed..

I tried to yield the floor so other people would have a chance. But I'll just keep going, I guess. My follow-up is the same follow-up as it always is, Steve. And just wondering as before it is revaluating the direction if any approach to the balance sheet, should be known to investors, specifically.

Where does the Board stand today on the prospect of share buyback? Obviously, one of the big acquisition targets with G&K is off the table and your balance sheet is continuing to get stronger not weaker.

So how you're thinking about the buyback here today? Can we see some of the excess cash turned into a little bit of net debt? Your thoughts on that are always appreciated..

No, understood. And I think at this point, in terms of where the Board is at and we've talked about the dynamic over the years. Obviously, that dynamic is changing. One thing I will certainly say is that given the events of the last month. Right now, I do not have a new read on Board views in that area.

They’ve clearly been focused on the number one priority at hand, which is the transition of the leadership. And I do expect over the course of the Board meetings this quarter coming up and going forward, some of those questions about capital allocation will be front and center and discussed.

But I do not have a new vision that I can communicate from the Board level regarding that. Ron had talked over the years, obviously, quite a bit about his opinions on that and those were always sort of front and center as you can imagine that at the Board level.

Those will be evaluated and re-evaluated, and we would likely have more comments, going forward..

Just as it relates to the executive transition, UniFirst has always had a culture around the family style leadership, not that everyone is family, certainly, but kind of the feeling that company has. I'm just wondering if external candidates are part of the Board’s consideration as well as internal candidate.

Can you comment on that?.

As I mentioned in my script, I mean I think the process is still ongoing. And at this point, we would likely not comment on that. At the same time, I do think it is the Company's intention to keep some of the culture that’s made us successful, going forward.

How that plays out in terms of the evaluation and transition still remains to be seen and that’s just the honest answer at this point, Andy..

And we are showing no further questions, at this time..

Okay. We would like to thank everyone for joining us today to review UniFirst’s third quarter financial results. And we look forward to speaking with you again in the fall when we expect to be reporting our year-end numbers. Thank you, and have a great day..

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines..