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Edited Transcript of ODC earnings conference call or presentation 11-Mar-19 8:30pm GMT

Q2 2019 Oil-Dri Corporation of America Earnings Call

CHICAGO Mar 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Oil-Dri Corporation of America earnings conference call or presentation Monday, March 11, 2019 at 8:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Daniel S. Jaffee

Oil-Dri Corporation of America - Chairman, CEO & President

* Reagan B. Culbertson

Oil-Dri Corporation of America - Director of IR

* Susan M. Kreh

Oil-Dri Corporation of America - CFO

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Conference Call Participants

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* John Bair

* Robert Smith

* Ethan Starr

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Q2 2019 Oil-Dri Corporation of America Earnings Conference Call. (Operator Instructions)

I would now like to turn the call over to Dan Jaffee, President and CEO. Sir, please begin.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [2]

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All right, Mark. Thank you, and welcome everyone to the second quarter and 6-month fiscal 2019 industrial teleconference. With me in the conference room here in Chicago is Mike McPherson, our Chief Development Officer; Susan Kreh, our Chief Financial Officer; Laura Scheland, our General Counsel; Leslie Garber who will be taking over the reins to be our Director of Investor Relations and last, but not least, and a big round of applause, this is Reagan's last meeting as our Director of Investor Relations. She got promoted for good behavior. She's been promoted to focus exclusively on marketing.

So Reagan, thank you for everything and please take us through the safe harbor.

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Reagan B. Culbertson, Oil-Dri Corporation of America - Director of IR [3]

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Thanks, Dan. On today's call, comments may contain forward-looking statements regarding the company's performance in future periods. Actual results on those periods may materially differ. In our press release and our SEC filings, we highlight a number of important risk factors, trends and uncertainties that may affect our future performance. We ask that you review and consider those factors in evaluating the company's comments and in evaluating any investment in Oil-Dri stock.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [4]

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Thank you. And at this time, I'd like to call in Susan to walk us through the quarter and the 6 months.

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Susan M. Kreh, Oil-Dri Corporation of America - CFO [5]

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Sure, love to. Today, Oil-Dri reported sales of $69.9 million from second quarter of fiscal '19, which was a 1% increase over the second quarter of fiscal '18. Sales in our retail and wholesale products group were up 5% in quarter, driven by growth in cat litter, where we are experiencing strong demand in our lightweight private label products. Our Business to Business Product Group continued to see weakness in the quarter with sales down 3% compared to the second quarter of fiscal '18, as performance of our Fluids Purification products were down internationally due to price competition by local suppliers. We also experienced a continuation of the first quarter reductions in our Amlan business in Asia driven by the widespread impact of the African Swine Flu. While we do not expect an immediate turnaround in the swine industry in Asia, we do expect to see some recovery in the back half of the year as we continue to work with our customers on the trials and adoption of products such as Varium for poultries and NeoPrime for piglets to improve feed efficiency around the world.

We also reported sales of $136 million for the first 6 months of the fiscal year, which was flat to the same period last year. Our Retail and Wholesale Product Group reported sales that were up 4% over the prior year and, again, driven by the strong performance in cat litter. Our Business to Business products group reported sales that were down 5% for the first 6 months, primarily for the same reasons that I talked about in the quarter.

Our second quarter net income attributable to Oil-Dri was $2.3 million compared to a loss of $1.1 million in the second quarter a year ago. For purposes of comparability, I'll point out that during the second quarter of fiscal '18, we incurred a onetime tax expense of $5.1 million resulting from the implementation of the 2017 Tax Cut and Jobs Act that was enacted in December of 2017.

Our second quarter diluted earnings per share was $0.30 compared to a loss of $0.15 per diluted share in the second quarter of fiscal '18. And again, for comparability purposes, the second quarter of fiscal '18 continued the onetime tax charge that equated to $0.69 per share.

During the quarter, our gross profit was 22%, which compares to 28.5% in the same quarter last year. This growth margin percent was impacted by a shift in mix from our higher-margin B2B group to our Wholesale and Retail product group that we talked about earlier. We've also incurred additional increased costs and those include fuel, freight, the manufacturing cost, packaging cost and customer compliance fees. While we anticipated the increased costs in both freight and packaging, we took pricing to the market in August of '18 to help compensate for these incremental costs. The actual costs in these categories had exceeded our estimates. As such, we are increasing price of cat litter effective May 1.

We do expect some cost reduction in the back half of the year related to manufacturing and customer compliance fees as our new ERP platform becomes more efficient.

Now let's talk about the operating segments. First, Retail and Wholesale. As I mentioned earlier, sales for the Retail and Wholesale team were up 5% in the quarter and were up 4% for the first 6 months of fiscal '19 compared to fiscal '18. We continue to see strong growth in private label litter items, especially private label lightweight product. Profits for the segment in the second quarter was up $230,000 over the same quarter in the prior year after having been down by $2.3 million first quarter year-over-year. The second quarter was impacted by advertising being down $1.5 million in the quarter compared to the second quarter of fiscal '18. If we look at the B2B segment, profits for the quarter and the first 6 months were down as compared to the same periods in fiscal '18 on lower sales both in the quarter and year-to-date period. In addition to the lower volumes, B2B profitability has been impacted by increased manufacturing costs.

So now let's take a look at our balance sheet and our cash flow for fiscal '19. During the first half of the year, both were not only impacted by the shift in the mix that we just talked about from B2B to the Retail and Wholesale channel, but also by incremental costs that we mentioned earlier. In addition, our ERP implementation drove inventory and receivables to higher levels. Our inventory increased $5.6 million from the beginning of the fiscal year, primarily in finished goods and packaging. Some of this inventory build was the impact of the increased costs I mentioned earlier, but some as the result of using our new ERP system capabilities, where we now have moved from a make-to-order system to some make-to-stock planning, where we build some safety stock in order to better serve our customers during the second half of the year.

As we become more efficient in using this powerful new platform, I anticipate that we will bring safety stock levels down to more normal level. We also saw an increase in receivables of $4.7 million in the first half of the year. In addition to stronger sales in the month of January compared to July of last year, which drove receivables up, our days sales outstanding are up 4 days over that same period. Challenges in processing invoices in our new ERP have led to a delay in payments from several of our larger customers. Although not included in these reported results, we experienced strong cash collection in the month of February of 2019 as a result of working through the backlog of processing the inventory issues that were generated as we switched systems.

And with that, Dan, I'm going to turn it back over to you.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [6]

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Great. Thank you, Susan. Appreciate it. And Mark, before we open it up, I just want to remind everyone to please ask your most important question first and then go to the end of the queue just so we make sure everyone has a chance to ask at least one question. And then if time permits, we'll then bring you back for question number two.

So Mark, let's open up the lines.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Ethan Starr, a private investor.

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Ethan Starr, [2]

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Before I ask my first question, I just want to thank Reagan for all her help with Investor Relations over the years, even though she never succeeded in getting you to lengthen the conference calls.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [3]

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She tried though.

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Ethan Starr, [4]

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Okay. Good. By the way, I really don't want to be in a private prison industry, you mentioned the word parole. Okay? Anyway, my first question, Indonesia, you mentioned that I believe last quarter in the presentation, I guess, I understand it's a subsidiary you set up there or you're starting to sell into Indonesia, and I think Vietnam is also going no -- eliminating antibiotics in feed as well at some point?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [5]

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So is that a question?

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Ethan Starr, [6]

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Yes. Well, I asked you. Are you starting to sell into Indonesia?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [7]

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At this time, no. We're currently discussing the right timing to do that, whether or not it's this fiscal year or next fiscal year.

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Ethan Starr, [8]

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Okay. But you have a subsidiary set up?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [9]

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Correct.

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Operator [10]

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And our next question comes from the line of Robert Smith of Center Performance Investors (sic) [Center for Performance Investing].

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Robert Smith, [11]

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Yes. I just want to ask about some color on Amlan and the trialing process. And since you've altered your approach, how -- what's been happening with the conversion rate of the trials?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [12]

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You're talking about the new product like Varium antibiotic alternatives or...

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Robert Smith, [13]

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Yes, yes. Yes, sure.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [14]

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The conversion rate has been very high. We're seeing continued success in the product for the companies that spend the resources to trial the product. It's more times than not showing a favorable benefit. And not just in performance, but also the ability of producers to eliminate other alternatives to antibiotics that they're using. Typically, Varium will replace 2 or 3 different feed additives that are being used like essentials oils or probiotics. So overall, it's been very successful.

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Robert Smith, [15]

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How long is the trialing process usually?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [16]

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Probably 9 months. Yes, very slow. So they do a very methodical process from typically a small trial at a research farm. Oftentimes they'll repeat it, again, at a research farm. Then they'll take it into 1 or 2 chicken houses in their production operation and then slowly scale it from there.

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Operator [17]

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And our next question comes from the line of John Bair of Ascend Wealth Advisors.

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John Bair, [18]

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Having participated in these calls for quite a while, I'd like to -- and I can't resist not saying I appreciate the higher granularity of the information in your earnings release. So my question regards the costs involved with the ERP system and it looks like that's trending down. We anticipate that trend to be ongoing and kind of when do you feel that it's going to be essentially fully operational and the operational costs will kind of wind down on that?

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Susan M. Kreh, Oil-Dri Corporation of America - CFO [19]

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No, we've still got some opportunity there to enhance the technology, but it will continue to trend down year-over-year. So in the second half of last year as opposed to the first half, almost everything we spent on it turned to expense as opposed to capital. So now the year-over-year comparisons will look flatter as we move forward in the year. But from a run rate perspective, we'll probably stay at a run rate near where we are right now at least for the rest of this fiscal year and then look at what other opportunities will be ahead of us, whether we want to enhance the technology or ramp that rate down a little bit.

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Operator [20]

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All right, and we'll move on to the follow-up questions. Our first follow-up comes from Mr. Ethan Starr.

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Ethan Starr, [21]

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Yes. So last quarter, you mentioned a couple of new products and the works that are going to be launched in fiscal '19 -- fiscal '20, I'm sorry. And I'm wondering are those tackling issues or diseases for which there are already competing products out there? Or will they have the market to themselves initially? Are they different -- totally new things, that -- nothing else just to work on?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [22]

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They are new products and new approaches to multibillion-dollar diseases that exist in the industry.

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Ethan Starr, [23]

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So there -- are already products out there dealing with the diseases or just different -- they have different approaches, they don't have -- you deal with the approaches yourself?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [24]

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Different approaches to battle the same problem.

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Operator [25]

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And our next question comes from Robert Smith of Center Performance Investments.

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Robert Smith, [26]

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Yes. So circling back to my first question. You must have a long-term planning function. I'm not sure whether it's 3 years or 5 years, but looking at Amlan, do you foresee something like a hockey stick where these products essentially take off? And is there any kind of -- the way you're planning, your planning function, do you see this in the foreseeable future if you have a 3-year or 5-year plan?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [27]

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That's what we're hoping for. We'll have a much better indication, let's say, in the next 6 to 12 months. But if the ramp rate of the new products continue, yes, we're seeing a much higher growth rate in our new products than we are in our traditional mycotoxin binders. So that's the expectation right now.

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Robert Smith, [28]

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And do you have a 3-year or 5-year plan?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [29]

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Yes.

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Robert Smith, [30]

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Okay, which one? 3 or 5?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [31]

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5.

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Operator [32]

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All right. And we have a follow-up question from John Bair of Ascend Wealth Advisors.

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John Bair, [33]

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Kind of a tag-on question with regards to ERP. Just can you elaborate a little bit or clarify a little bit more on the -- this compliance fines aspect of that? It does look like that was lower in the second quarter than the first and, again, is that a trend that you would anticipate to continue or is it something that will go away eventually?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [34]

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I'm not sure it will ever go away because there's sort of -- the bar is set up so that you are never going to clear it all the time. But we accrue and have a certain baseline level of it in our pricing as do all consumer product companies. We went way north of that in the first quarter and then we're able to cut it dramatically into the second quarter. I would say the trend will continue to improve, but it's not going to go to 0 because that's just not realistic. But yes, those were above and beyond sort of onetime startup hiccups.

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John Bair, [35]

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Okay. Well, forgive me for being ignorant about those were just -- can you kind of define what that involves or what that -- what they involve?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [36]

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Sure. Yes. I mean, different accounts have different rules, but in general, it's all around when the products is going to arrive from the time you say it, the promise date. If it gets there too early, they fine you. And if it gets there too late, they fine you. Because they're trying to manage their distribution centers in sort of a just-in-time way and if everybody, just all their suppliers just randomly let the trucks show up outside of an agreed upon window, it'll be complete chaos. So we'll get it. And ordinarily, you're able to stay within that window a huge percentage of the time, 95%, 96% of the time. We were nowhere near that during the first quarter, we still weren't there in the second quarter, but we were dramatically better. So it's like, I know once we get more stable, we will see the fines go down, but you are never there 100% of the time. It's just not feasible. Your drivers either get a flat tire or they miss their appointment. They don't show up. They get there too early. And thus they're fined for that, and it's kind of hard to stop that one. So that's where they come from, the compliance fines, to help them manage their business and they know that there's a cost to them when suppliers don't meet those windows and then they pass that across right back into supply.

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John Bair, [37]

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Okay, is that a pretty tight window? I mean, are we talking hours, days typically? Or does that vary from customer to customer?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [38]

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It does vary. But I would say, in general, you're talking about a 24-hour window, went down from 48.

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John Bair, [39]

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Okay. That would make sense with the tightness of the driver situation and so forth. Okay.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [40]

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Yes, and you think about all the thousands of trucks they receive.

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John Bair, [41]

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I'm sorry?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [42]

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Well, you think about all the thousands of trucks they're receiving, if everybody missed it by 3 or 4 or 5 days, they wouldn't be able to plan their business. So it's a tight enough window where it makes sense logically to both [parties].

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Operator [43]

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And our next question comes from the line of Ethan Starr.

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Ethan Starr, [44]

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Private label litter and private label lightweight litter, are more new customers launching soon? Or are you continuing to get new customers? I still see retailers out there without private label lightweight litter. And how is sell-through in the U.S. and Canada?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [45]

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Yes. I mean, we are still rolling on new business and rolling on new SKUs with existing business. And as we continue to execute our all things being equal strategy, which I've talked about in the past, which is both pricing and performance, we are seeing a dramatic increase in the ramp-up of the velocity. So just anecdotally, so a major retailer who we launched with was selling the lightweight at a significant cost premium through the heavy and our quality product wasn't -- it wasn't what it is today because we keep improving and they were outselling -- the heavy was outselling the light 7:1. Now they're at total parity. The pricing is at parity, the performance is pretty much at parity. And their velocities are at parity. We're actually going to be testing with that major retailer, having them take the lightweight below the heavy and see what it does to the movement. We think it's going to tilt the scale continuing more in favor of the lightweight. So we are absolutely seeing it. Can I call Nielsen numbers or am I not allowed to publish them? All right. So I looked at some neat stuff. I mean, we mentioned this a little bit in the release, but I got some new news and some new ways to look at it. I looked at our unit share. So this is everything we supply the retailers that are covered by Nielsen on a unit basis. So not a dollar basis, but again, when you're competing on more of a popular price brand like Cat's Pride premium and it's the opening price point at Walmart. So it's very popularly priced or cheap, 2 ways to call, whichever you want. And then private label, you are not going to get the same rating as other guys, but you're going to see a lot of unit movement. And a year ago, from the 12-week period that just ended, we're at about 13.9% of the category and now we're 15.8%, so we gained almost 2 full unit share points in the last 52 weeks on a running rate basis, a 12-week running rate basis. So to me, that just continues to validate why Oil-Dri is doing well and is thriving despite a low dollar branded share. We're in about 1 out of every 6 shopping carts that lead retailers nationwide. We're a very formidable supplier and that number is growing rapidly. So we like the working units, obviously. It's self-serving, but the retailers know all about market basket. They know that shoppers don't just come and buy units, they actually spend on average depending on the retail $109 to $120 during each shop. So grabbing that unit brings $120 to the store and they get it. So we're happy about that.

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Ethan Starr, [46]

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Okay, so 1 unit is 1 jug?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [47]

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It could be 1 jug, it could be 1 bag. Whatever is the -- yes, whatever it is, they happen to format the buying unit.

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Ethan Starr, [48]

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Okay. And so 13.9, that's all stores or 15.8 is all stores?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [49]

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That was last year and this year, it's 15.7 or 15.8, somewhere around there.

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Ethan Starr, [50]

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Okay. And the self -- you're selling more -- you're selling the lightweight private label into Canada and they sell more of it there, but just, I guess, more people use private label there?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [51]

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Well, that's the hope. It's just -- it's been lagging. So private label lightweight is launching in Canada and ultimately, private label represents about 20% of the dollars in the U.S. It represents almost 40% of the dollars in Canada. So clearly...

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Ethan Starr, [52]

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Yes, I know that.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [53]

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Yes, clearly there is a bigger pool there.

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Ethan Starr, [54]

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Okay. One other quick question. How will the ERP system save you money long term?

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Susan M. Kreh, Oil-Dri Corporation of America - CFO [55]

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Well, it's just not about saving money. I mean, if you're talking about why would our run rate costs go down, it's because we've got incremental costs in there today to do savings like moving a lot of material around because I mentioned earlier that we built inventory to support the launch. We have had to lease warehouses and add extra labor and all of that to support the peak time period, but then as we get to more normal levels, we would see some of those costs going back down, again. Was that the question you were asking?

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Ethan Starr, [56]

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No. The system itself. Forget the extra -- forget of getting rid of the extra cost to start it. How will the system itself, the software itself, save you money long term?

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Susan M. Kreh, Oil-Dri Corporation of America - CFO [57]

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Well, the software itself is going to give us more capability long term. So I'd say it is more to improve profitability than just save cost. It should help us with insights into pricing, it should help us do better transportation management. There is a lot of capabilities that we didn't have prior to implementing this. It should help us with our materials requirement planning. So I'd say there's a bundle of things that are not just costs that are really profitability, but it should help us improve.

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [58]

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And what I would talk is more on and we'll see how it all plays out, but it really provides the infrastructure and the foundation upon which we could grow. We are pretty much maxed out on the old system, and it was all Excel spreadsheets, workarounds because it was not a company-wide real-time database, where everybody had visibility into the same numbers and has one point of truth, and we've heard a lot of these euphemisms why ERPs get put in. So I would more look at it as infrastructure and once it is in and working for us and we have figured out all the opportunities to enhance the technology, then it really will form the foundation upon which the future growth is possible.

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Operator [59]

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And our last question will come from the line of Robert Smith of the Center of Performance Investments.

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Robert Smith, [60]

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I'm glad I got in some -- about your anticipated price increase in May, is this going to bring you forward ahead of the curve? Or are you going to be lagging again? So give me some color on that. In other words, you're making up the cost profile that you didn't anticipate? Or is it going to give you some wiggle room ahead?

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Daniel S. Jaffee, Oil-Dri Corporation of America - Chairman, CEO & President [61]

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I mean, I hope so, but it obviously is a moving target. You hope that if costs have stabilized, natural gas, freight, all that kind of stuff, that yes, that we'll be in good shape. If not, then you've got to hope to be in this 3-stage rationale, which it's been very rational. All our major competitors have taken price advances as well. And I think everybody was sort of caught behind on this one. So that's the hope. The hope is that, that we've gotten out in front of it, but you're just -- you're chasing a moving target.

Well, thank you, everybody. I appreciate your interest as always, appreciate your support. We'll be back at you in 3 months, and we will talk to you then. Thank you.

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Operator [62]

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Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. And you may all disconnect. Everyone, have a wonderful day.