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Lamb Weston Holdings, Inc. (NYSE:LW)
Q2 2020 Earnings Call
Jan 3, 2020, 10:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, and welcome to the Lamb Weston Second Quarter 2020 Earnings Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Dexter Congbalay, VP-Investor Relations of Lamb Weston. Please go ahead.

Dexter Congbalay -- Vice President-Investor Relations

Good morning and thank you for joining us for Lamb Weston Second Quarter 2020 Earnings Call. This morning, we issued our earnings press release, which is available on our website, lambweston.com. Please note that during our remarks, we'll make some forward-looking statements about the Company's performance. These statements are based on how we see things today. Actual results may differ materially and due to risks and uncertainties. Please refer to the cautionary statements and risk factors contained in our filings with the SEC for more details on our forward-looking statements.

Some of today's remarks include non-GAAP financial measures. These non-GAAP financial measures should not be considered a replacement for and should be read together with our GAAP results. You can find the GAAP to non-GAAP reconciliations in our earnings release.

With me today are Tom Werner, our President and Chief Executive Officer; and Rob McNutt, our Chief Financial Officer. Tom will provide an overview of our performance, some recent capital allocation actions and an update on the current operating environment. Rob will then provide the details on our second quarter results and our updated fiscal 2020 outlook.

With that, let me now turn the call over to Tom.

Tom Werner -- President & Chief Executive Officer

Thank you, Dexter. Happy New Year, everyone, and thank you for joining our call today. We delivered another strong quarter as we continued to execute well. Specifically, sales increased 12% behind strong volume growth and favorable price/mix in each of our core business segments. EBITDA, including unconsolidated joint ventures, increased 17%, while adjusted diluted earnings per share increased 19%. And in the first half of the year, we generated $345 million of cash flow from operations. Because of our strong year-to-date results and good operating momentum, we've raised our fiscal 2020 outlook for both sales and EBITDA.

As Dexter mentioned, I'd like to update you on some capital allocation actions we've recently taken as well as our thoughts on the potato crop in the current operating environment. On capital allocation, in October, we acquired a 50% ownership interest in a new joint venture in Argentina. This JV will provide us better access to a strategic and growing market where we have been underrepresented. Before this investment, our market share in South America was less than 2%. While this JV is a modest size operation today, it provides a good base for expansion to serve the broader South American market with a low-cost, high-quality product. This should enable us to drive faster share growth over the long term.

We also remain committed to reinvesting capital back in this business to support customer growth. We've added three new French fry lines since 2014. And despite these additions, our current capacity utilization is above our targeted operating rates due to recent demand growth being faster-than-historical averages. While we are not prepared to announce any capacity expansion projects today, we are aggressively evaluating opportunities to expand production capacity inside and outside North America to support our customers' growth. We look forward to sharing our expansion plans with you soon. In the meantime, we're actively working to stretch existing capacity by debottlenecking lines and driving productivity.

And finally, in addition to reinvesting back into the business, we remain committed to returning capital to shareholders. Last month, we announced a 15% increase in our quarterly dividend to $0.23 a share or $0.92 on an annual basis. That puts our dividend payout ratio at about 27% on a latest 12-month basis, which is within our target payout range of 25% to 35%.

We will continue to supplement our dividends with share repurchases. In the second quarter, we bought back about $8.5 million of stock, which is largely consistent with our goal to at least offset equity compensation dilution. To do so, we estimate that we need to buy back around $40 million of stock annually.

Now, switching to the potato crop. Recent press reports have led to market fears of raw potato and French fry shortages. As we discussed on our last earnings call, the crop in our growing areas in the Columbia Basin and Idaho where we source the vast majority of our raw potatoes and where we have most of our production facilities is consistent with historical averages in terms of both yield and quality. As a result, we expect to operate our plant there in normal utilization rates. In Alberta, Canada where we have one plant, crop yields and quality are below average as a result of adverse weather conditions during the growing season and harvest periods. However, we've been able to secure enough potatoes to operate that plant at normal rates. Nonetheless, overall potato availability in Alberta is limited.

In Minnesota, where we have a single plant through our joint venture, Lamb-Weston/RDO, crop yields and quality are below average, also due to poor weather conditions during the growing season and harvest periods. As a result, potato availability in the upper Midwest will also be limited. However, our partner in that plant is a primary supplier of raw potatoes, and they expect to provide adequate supply for the plant to operate as planned. Also, we understand that the crops in other key growing regions such as Manitoba and Prince Edward Island are below average due to adverse weather. This limits the availability of potatoes in North America. It's important to note that we do not currently source raw potatoes from these regions.

So let me be clear. Given our concentration of processing facilities in the Columbia Basin and Idaho, as well as our strong grower relationships in Alberta and the Midwest and most importantly, our decision to source open potatoes several months ago, we're confident that we have raw potatoes to deliver our volume growth targets for the remainder of our fiscal year. However, potato supply in North America is tight, and this may pressure our ability to pursue incremental volume growth opportunities both domestically and internationally for this crop year. Accordingly, we will continue to evaluate opportunities to improve price and mix in each of our business segments.

Now turning to Europe, the potato supply there is also expected to be challenging due to quality and late harvest weather conditions. Compared to last year's historically poor harvest, the potato crops in the Netherlands and Belgium this year are better, but still below average. The crop in Germany, Poland and the UK are more challenged. As a result, raw potato prices in Europe remain elevated versus historical averages, but are below prices that we experienced last year. So we expect that Lamb-Weston/Meijer's performance will continue to improve compared to last year as cost pressures ease in the second half of our fiscal year as a result of the new crop.

With respect to the operating environment, we believe that industry capacity utilization rates in North America remain elevated during the second quarter, and they will likely remain so for the remainder of our fiscal year subject to raw potato availability. We believe global demand growth for frozen potato products is generally favorable and will remain so through fiscal 2020. Similar to what we saw earlier in the year, US demand in the second quarter continued to be underpinned by positive restaurant traffic trends, and quick-service traffic growth was strong again led by growth at chicken-based outlets. Demand in our key international markets as well as in Europe continued to grow, in line with recent trends. Together, these factors helped drive our strong volume growth in the quarter, especially in our Global segment.

So in summary, we delivered a strong second quarter and first half results. We expect the overall operating environment to remain generally favorable for the balance of the year, underpinned by solid demand growth. We are well positioned with raw potatoes to deliver our volume targets and finally, our successful execution of our strategy of generating strong cash flows, which allows us to continue to reinvest in the business to support growth and step up cash return to shareholders.

Now, let me turn the call over to Rob to provide the details on our second quarter results and our updated outlook.

Robert McNutt -- Senior Vice President & Chief Financial Officer

Thanks, Tom. Good morning, everyone. As Tom noted, we delivered another strong performance in the quarter and for the first half of the year. Specifically in the quarter, net sales increased 12% to $1.019 billion with volume growth and favorable price/mix in each of our core business segments. Volume increased 10% led by growth in our Global and Foodservice segments.

Our two acquisitions in Australia, Marvel Packers and Ready Meals, added about a 1.5 points of volume growth. In addition, we had a couple of extra shipping days than we had in the second quarter of fiscal 2019, due to the timing of Thanksgiving. These extra couple of days contribute about another point of volume growth. As a result, this will pose a headwind to our Q3 results on a year-over-year basis. Price/mix was up 2% due to pricing actions and favorable mix.

Our strong sales growth drove a $36 million or 14% increase in gross profit. Favorable price/mix, volume growth along with lower transportation costs drove the increase, more than offsetting the impact of higher manufacturing costs due to inefficiencies and higher depreciation expense associated with our new production line in Hermiston. In addition, the increase in gross profit included a $4 million benefit from unrealized mark-to-market adjustments related to commodity hedging contracts that's compared to a $2 million loss in the prior year period. Our gross margin percentage increased about 65 basis points to 28%. Excluding the mark-to-market adjustments, it was up about 5 points.

While we made a lot of progress improving our planned operating performance from the first quarter, in the second quarter, we continued to incur higher-than-normal periods of unscheduled operating downtimes, which affected our production levels. This impacted fixed cost absorption, raised overall maintenance cost and lowered recovery rates. In addition, some of the costs that we realized in the second quarter was a carryover effect as we worked through finished goods inventories from the first quarter. Since our plants are now operating at more normal levels, we expect only a modest carryover effect from these manufacturing efficiencies in our fiscal third quarter results.

SG&A expense was $92 million, an increase of about $17 million. About $6 million of this increase was related to higher incentive compensation accruals based primarily on our performance. About $4 million of the change reflects an insurance settlement that we had last year, but this was partially offset by a $2 million reduction in foreign exchange losses. About $7 million of the increase related to investments in our sales, marketing and operating capabilities. Finally, more than $2 million of the increase was related to designing and implementing our new enterprise resource planning system.

As we previously discussed, we expect to spend about $10 million to $20 million of one-time cost this year on implementing a new ERP system. To date, we've spent about $4 million. So we expect spending to ramp up in the second half of the year.

Income from operations increased about $20 million or 11% to $194 million. This reflected solid sales and gross profit growth. Equity method investment earnings from our unconsolidated joint ventures, which include Lamb-Weston/Meijer in Europe, Lamb-Weston/RDO in Minnesota and our new joint venture in Argentina, were $15 million in the quarter. Excluding mark-to-market adjustments, equity earnings increased $6 million, largely reflecting lower raw potato prices in Europe.

So putting it all together, EBITDA including joint ventures increased $38 million or 17% to $261 million. Operating gains by our base business, along with contributions from the BSW consolidation and the Australian acquisitions drove about $32 million of EBITDA growth. Our unconsolidated joint ventures added about $6 million.

Moving down the income statement, interest expense was about $25 million, which is about $1 million below last year. Our effective tax rate was more than 23% or about 2 points higher than last year due to discrete items. Turning to earnings per share, adjusted diluted EPS was up $0.15 or 19% to $0.95. Operating gains in our base business and higher equity earnings drove the increase. We also had an approximately $0.04 benefit from the BSW consolidation.

Now let's review the results for each of our business segments. Sales for our Global segment, which includes the Top 100 US-based chains as well as all sales outside of North America were up 15%. Volume grew 14%. The increase was driven by higher sales, including increased sales of limited time offerings to strategic customers in the US and key international markets. It also includes a 3-point benefit from the acquisitions in Australia and a 1-point benefit from the additional shipping days related to the timing of Thanksgiving. Price/mix rose 1%, primarily reflecting pricing adjustments associated with multi-year contracts.

Global product contribution margin, which is gross profit less advertising and promotion expense, increased $17 million or 15%. Volume growth, favorable price/mix and lower transportation costs drove the increase, which was partially offset by higher manufacturing costs and higher depreciation expense associated with the Hermiston line.

Sales for our Foodservice segment, which services North American foodservice distributors and restaurant chains outside the Top 100 North American restaurant customers, increased 9%. Volume increased 5% led by growth of distributor private label and Lamb Weston branded products. About half of the volume increase was due to the additional shipping days in the quarter. Even after adjusting for the Thanksgiving shift, we delivered our fourth consecutive quarter of volume growth as our direct sales force continued to strengthen customer relationships. Price/mix increased 4%, primarily reflecting pricing actions taken in October. Foodservice's product contribution margin increased $14 million or 14%. Favorable price/mix, volume growth and lower transportation costs more than offset higher manufacturing costs and depreciation expense.

Sales in our Retail segment increased 7% driven by 4 points of volume growth behind increased sales of branded and private label products. About 2 points of the volume growth was due to the additional shipping days in the quarter. Price/mix increased 3% -- excuse me, largely due to favorable mix and pricing actions. Retail's product contribution margin increased $3 million or 10%. Favorable price/mix and volume growth drove the increase and was partially offset by higher manufacturing cost, depreciation expense and A&P spending.

Moving to our balance sheet and cash flow. Our total debt at the end of the quarter was about $2.2 billion. This puts our net debt-to-EBITDA ratio at 2.6 times. With respect to cash flow, we generated nearly $345 million of cash from operations in the first half of the year. That's up about 9% versus last year, driven by earnings growth. We used about $135 million toward acquisitions, including a $17 million initial payment for our half of the new joint venture in Argentina. We also invested nearly $110 million combined in capital expenditures and IT-related projects. In addition, we bought back more than $13 million of stock and paid $59 million of dividends to our shareholders.

Turning to our updated fiscal 2020 outlook. As Tom noted, because of our first -- strong first half performance, we've raised our sales and earnings outlook for the full year. As a reminder, our targets include the contribution of a 53rd week that will benefit the fourth quarter. Overall, we continue to be prudent when updating our annual outlook. For the full year, we're now targeting sales to grow at the high end of our original mid-to-high single-digit rate range. We continue to expect that sales will be primarily driven by volume, and it will deliver price/mix increases to offset input cost inflation.

As you know, we delivered 10% sales growth in the first half, including a 2% higher price/mix and robust 8% volume growth. We expect our volume growth will moderate in the second half for a number of reasons. In our Global segment, volume growth in the first half of the year was faster than we had anticipated, due to domestic QSR traffic growth above historical trends, and international demand was also above our initial expectations. While we expect Global demand will remain generally favorable in the back half of the year, we expect these trends may begin to normalize toward historical growth rates.

Also in our Global segment in the third quarter, we'll be lapping strong sales of limited-time offering products. Also in the third quarter, we will realize a headwind of approximately 1 percentage point, due to a lower number of shipping days versus the prior year quarter as a result of the timing of Thanksgiving. This will affect each of our core business segments with the most pronounced impact in our Foodservice segment. Finally, in our Retail segment, we will realize the effect of losing some low margin contracts in our private label retail business. In short, we expect to drive solid sales growth in the second half, led primarily by volume growth with modestly higher price/mix.

For earnings, we've increased our full year target for adjusted EBITDA, including unconsolidated joint ventures, to a range of $965 million to $985 million. That's up from a range of $950 million to $970 million. For the second half, we expect the gross profit will rise largely in line with sales growth, with volume growth and favorable price/mix offsetting input cost inflation and higher depreciation expense. As a result, we expect that gross margin percentage will be essentially flat in the second half. However, gross margin in the third quarter may be pressured as a result of difficult prior year comparison. Gross margin in the third quarter fiscal 2019 included a $4 million benefit from unrealized gains on hedging contracts, a mix benefit due to strong sales of higher margin limited-time offering products in our Global segment and a cost benefit from the supply chain efficiencies, especially around edible oils and transportation.

Regarding SG&A, for the year, we continue to expect our base SG&A, which excludes advertising and promotional expenses as well as one-time ERP investments, will be within our target range of 8% to 8.5% of sales. A&P expense in the second half should be a bit above the $11 million we spent so far. As I previously noted, we anticipate total ERP system implementation spending to ramp up versus a $4 million of one-time expense that we incurred in the first half. We continue to target total one-time expenses related to the project between $10 million and $20 million for the full year. With respect to equity earnings, we continue to expect that it will continue to gradually improve in the second half despite that potato crop in Europe again being somewhat challenged.

To summarize, in the second half of the year, we will deliver solid growth in EBITDA, including joint ventures driven by sales and gross profit growth, as well as improved equity earnings. This growth will be tempered by higher SG&A expense as we step up spending behind our ERP implementation. In addition, it's important to note that we had an approximately $10 million year-over-year earnings benefit from the BSW consolidation in the first half of fiscal 2019 -- for 2020 excuse me. Since we note -- since we completed that transaction around mid-fiscal 2019, we will no longer have that benefit in the back half of this fiscal year.

Finally, most of our other financial targets remain the same. We continue to target total interest expense of around $110 million, total depreciation and amortization expense of approximately $175 million and total capital expenditures, which include some CapEx for our new ERP system, of around $300 million. We've updated our effective tax rate target to be about 24%. That's on the high end of our previous estimate of 23% to 24%.

Now back to Tom for some closing comments.

Tom Werner -- President & Chief Executive Officer

Thank you, Rob. Let me sum up by saying we're pleased with our strong first half performance as we continue to execute well in a generally favorable environment. We've raised our sales and EBITDA targets for the full year and remain prudent with our updated outlook. We are well positioned with our raw potato supply to deliver our volume targets and support customers' growth. And we remain focused on reinvesting in our business to drive long-term growth, return capital to shareholders and create value for all our stakeholders.

I want to thank you for your interest in Lamb Weston, and we're now happy to take your questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) We'll pause for a brief moment to allow everyone an opportunity to signal for questions. We will take our first question and that is from Andrew Lazar with Barclays. Please go ahead.

Andrew Lazar -- Barclays Capital -- Analyst

Good morning everybody and Happy New Year.

Tom Werner -- President & Chief Executive Officer

Happy New Year, Andrew.

Andrew Lazar -- Barclays Capital -- Analyst

Two questions if I could, Tom. I guess, first, as you mentioned through fiscal 1H, Lamb Weston sales running close to 10% or so even excluding the benefit of the holiday timing. To get to the high end of mid-single-digit for the full year suggests some sales growth in the back half of something like low-single-digits, maybe 2% or so. And I realize that you and Rob went through some of the factors that drove sales growth to be above your expectations through the first half, but I guess -- what I guess would drive this sort of pretty significant deceleration, particularly with favorable restaurant trends expected to continue. And I just got a follow-up.

Robert McNutt -- Senior Vice President & Chief Financial Officer

Hey, Andrew. It's Rob. Again, it's consistent. We think we're prudent with our outlook. As you say, mid -- the high end of the mid-single-digits. We may be stretch it out a little further than you do and you said 6%. I think you go to somewhere in the 7% range is more where we think that ends up. But again, going through those individual elements there, again, we're anticipating that we are going to return to more normal growth rates in the back half of the year where we had accelerated growth rates, especially in our international business in the Global segment.

Tom Werner -- President & Chief Executive Officer

And Andrew. This is Tom. I think the other thing, as we've been very consistent with our outlook to be prudent, a couple of things that I have alluded to on prior calls, the restaurant traffic trends have been favorable. The Q1 was up 2%; traffic is up 1% this last quarter, which is significant and that's an area where it's really hard to predict. So we're being conservative absolutely, but we got -- that's a trend we're monitoring going forward. And obviously, if the trends continue as is, then we could see some upside to this.

Andrew Lazar -- Barclays Capital -- Analyst

Got it. That's helpful perspective. Thanks. And then, you mentioned the 1% price/mix that you saw in the Global segment was primarily driven by multi-year contracts. And I'm curious here from given some of the pricing -- some of the incremental pricing that went into place, more recently would -- in Global, I guess, would your expectation be that price/mix there accelerates a bit sequentially as we go into the back half of the fiscal year or do I have that wrong?

Tom Werner -- President & Chief Executive Officer

Yeah. So the just to reset, Andrew, our Global contracting ended up where we projected it to end up and there is pluses and minuses net-net. As we plan this fiscal year based on what we thought the environment would allow us to price, it kind of ended up where we thought. So what you're seeing in Global relative to the pricing that we got through during the contract negotiations, it's going to be pretty stable for the balance of the year and I would say, remember when we have international volume growth like we have, it's been again ahead of where we projected, the pricing in those international markets are different than our pricing in our North American market. So you get a dilutive pricing factor in that.

Andrew Lazar -- Barclays Capital -- Analyst

Yeah. Got it. Okay, very helpful. Thanks so much.

Tom Werner -- President & Chief Executive Officer

Yeah.

Operator

Thank you. We will go and take our next question. And that is from Adam Samuelson with Goldman Sachs. Please go ahead.

Adam Samuelson -- Goldman Sachs -- Analyst

Yes, thanks. Good morning and Happy New Year, everyone.

Tom Werner -- President & Chief Executive Officer

Happy New Year, Adam.

Adam Samuelson -- Goldman Sachs -- Analyst

I guess, I was hoping maybe regarding [Phonetic] the discussion on the Global business a little bit. And if you could contrast a little bit some of the growth rates in your export business out of North America relative to domestic, I mean the volume growth, the segment put up, I mean, again, well in excess of the 1% traffic growth for QSRs that you just cited. I'm just trying to get a sense of kind of maybe geographies that are contributing if you think the US is gaining share from other export regions. Just any additional color there would be helpful.

Tom Werner -- President & Chief Executive Officer

Yeah. I'm not going to get into specific market growth rates. We don't haven't typically talked about that, but what I will tell you just reiterate is the international markets at least this last quarter have grown above historical averages. And that's true for North America as well. So as we think about the go-forward, again we're being prudent in our outlook. And we've got a strong first half of growth across the international and North American markets in the Global business unit, and we'll see how it all plays out in the next several quarters, but it's just been strong demand quite frankly.

Robert McNutt -- Senior Vice President & Chief Financial Officer

Yeah, Adam. This is Rob. The other thing I'd say related to that. Tom mentioned in his comments that well, the traffic may be 1%. Our weighting of customers in North America may be a little stronger and that we're weighted to the chicken side maybe heavily -- more heavily than the market. That's where they had outsized growth.

Adam Samuelson -- Goldman Sachs -- Analyst

Okay. That color is very helpful. And then, just as we think about the impact of some of the raw potato shortages in different parts of North America, how -- just tell me it's not just the fiscal 2020 per se, but all of calendar 2020. Help me think through kind of how that -- how you think the market will absorb that or handle that. And if there were pricing and mix opportunities, that would emerge. Is that something that would happen in the May quarter or is it more you think there is more pressure in August before you get to the next harvest? So, as you lay out the calendar a little bit, just how some of those raw potato issues could affect the marketplace and how some opportunities may present themselves?

Tom Werner -- President & Chief Executive Officer

Yeah, I think it's -- my experience with situations like this is you got to -- you have to be patient, and we'll see how this all plays out in the spring quite frankly. And there are several things that the industry can do to augment potato supply whether it's harvest early, plant more acres. There is a number of different things. So it's really, Adam, a little bit early to speculate on what's going to happen. We have an idea, but we have to -- the most important thing for us is we are well positioned with the raw potatoes that we've secured, we got ahead of it. So we're going to take care of all of our customers' needs. We will opportunistically evaluate opportunities that may come our way. But our focus is to execute against our customers and the plans that they have and drive their growth. That's it. And if there is things that come our way, we'll evaluate it as they happen.

Adam Samuelson -- Goldman Sachs -- Analyst

Okay. I appreciate all the color. I'll pass it on. Thanks.

Operator

Thank you. We will take our next question. And that is from Tom Palmer with JP Morgan. Please go ahead.

Tom Palmer -- JPMorgan -- Analyst

Thanks. Good morning and Happy New Year.

Tom Werner -- President & Chief Executive Officer

Happy New Year.

Tom Palmer -- JPMorgan -- Analyst

You gave a lot of helpful color on the potato crop in North America. I hope you could maybe provide a bit of quantification on your annual outlook for potato and non-potato costs and also, how you see COGS inflation in the second half of the year relative to what seemed to be low-single-digit inflation in the first half?

Robert McNutt -- Senior Vice President & Chief Financial Officer

Yeah, Tom, this is Rob. In terms of our inflation, again, as we've talked about before, we contract the vast majority, I mean, in the high 90s of our needs for the year. And as Tom mentioned in his remarks, before things started to run up, we -- our guys did a great job of getting ahead of it and contracting for the remainder of the potatoes that we needed a small amount, additional that we needed. And so, we're still targeting our COGS inflation to be really in line with what it's been in the first half of the year and so those kind of low-single-digit inflation.

Tom Palmer -- JPMorgan -- Analyst

Great, thanks for the color there. And then I just wanted to clarify something. You've mentioned a few times opportunities that may come your way on the price/mix side. I just wanted to clarify. This is more related to potentially seeing the migration of customers who might not be able to get the volumes that they might typically procure from others or are you also considering maybe a regularly timed list price increase?

Tom Werner -- President & Chief Executive Officer

It's more of the first I would say, but again like I said earlier, we'll see how that all plays out. I've seen instances when we've had situations like this with the raw in other areas of the world where everybody just manage through it. So we just again have to be patient, execute against what our plans are, take care of our customer needs and if there is customers that come to us, that are -- want us to provide product and we'll evaluate that.

Tom Palmer -- JPMorgan -- Analyst

Okay. Thank you.

Operator

Thank you. We will take our next question from Chris Growe with Stifel. Please go ahead.

Chris Growe -- Stifel -- Analyst

Hi, good morning and Happy New Year as well.

Tom Werner -- President & Chief Executive Officer

Good morning, Chris.

Chris Growe -- Stifel -- Analyst

Hi, I just had a question for you first on comment you made about capacity utilization, and we're seeing this really strong volume growth. And I just want to understand how limiting this could be to your volume growth going forward perhaps around LTOs. And then given the time it takes to build capacity, I know you're always thinking about that, but I'm just trying to understand where we are in that thought process because we see more capacity or the need for more capacity coming more quickly.

Tom Werner -- President & Chief Executive Officer

Yeah, Chris, this is Tom. A couple of things. As I said in my prepared remarks, yeah, we're aggressively evaluating capacity addition in our current footprint inside and outside North America. That's number one. And the second thing is our supply chain team has full-court press on operating efficiency and projects on unlocking capacity in our footprint today. So in terms of where we're at, I feel good about the near future, if you will, on our ability to unlock capacity and drive efficiencies to support volume growth on a normalized level, but again to your point, what you're pushing at is, we're evaluating additional capacity in our network and that's just a function of the overall category growth that we continue to see.

Chris Growe -- Stifel -- Analyst

It sounds like a good place to be in. I got that. Thank you. And then just one quick follow-on and perhaps, it relates to the strong volume growth in the quarter, but you had a much stronger gross margin performance this quarter, and pricing was just a touch below what I thought. But it sounds like that would more than compensated for the cost inflation. So, was it just the volume growth and the efficiencies in the quarter that allowed for a stronger gross margin performance?

Robert McNutt -- Senior Vice President & Chief Financial Officer

Yeah, Chris, this is Rob. We did have good gross margin performance and spot on. I mean, we had good pricing, especially in the Foodservice as you see, but really good cost control I would say. And recall in Q1, we had some headwinds that we talked about in terms of operating inefficiencies and the plants not running particularly well. And so, a lot of that is cleaned up and we operated better. We're still not all the way to bright through Q2, but a lot closer. And so, we cleaned up a lot of that. And so, input cost inflation was managed well and then, the operating level of the plants was a lot better.

Chris Growe -- Stifel -- Analyst

Okay. Thank you.

Operator

Thank you. We will take our next question from Rebecca Scheuneman with Morningstar. Please go ahead.

Rebecca Scheuneman -- Morningstar Inc. -- Analyst

Good morning and Happy New Year. So I just -- I'm really impressed with this volume growth in your Global segment and I'm -- you did mention that part of that was driven by some benefits to the chicken segment. I'm wondering also if given your relative favorable sourcing of raw potatoes in your regions, how the quality, your experience is better than some of your competitors out [Indecipherable]? Is there also some share gains possibly that is driving some of the strength?

Tom Werner -- President & Chief Executive Officer

Yeah, this is Tom. In terms of quality, your -- kind of your first question, the industry is kind of on an even playing field. There is areas that are better. There is areas that are worse in terms of raw potatoes. So I wouldn't attribute the volume growth any raw quality advantages. It's all about getting ourselves positioned over the crop year to ensure that we have the raw potatoes available for our customers' growth, and I've talked about this on this call ad nauseam, but we're in a great position.

So it's not about the raw potatoes, it's about traffic and it's about the markets. In our Global markets across the globe, the demand was just better than we expected. And so, it's really about what I talked about, previously, we've had Q1, we had good traffic; Q2, we've seen an increase in traffic year-over-year. So if that continues, then we're in a great position to support that.

Rebecca Scheuneman -- Morningstar Inc. -- Analyst

Okay, great. Thank you for clarifying there. And the second question I have is just, is it safe to assume that the negative hit in Q3 from the timing of Thanksgiving is also going to be about 1%.

Tom Werner -- President & Chief Executive Officer

Yeah. I went through those details earlier. You can follow up with Dexter again to reiterate that.

Rebecca Scheuneman -- Morningstar Inc. -- Analyst

Yeah, that's fine. Okay. Thank you so much.

Operator

Thank you. We'll take our next question from Bryan Hunt with Wells Fargo Securities. Please go ahead.

Bryan Hunt -- Wells Fargo Securities -- Analyst

Thank you. My first question -- and I'm sorry if I'm beating on the subject, but if you look at your Global sales, they accelerated sequentially and even backing out the adjustment for the calendar as well as the acquisitions, you saw acceleration and that's with a declining trend in restaurant traffic. So based on the previous comments, you saw QSR traffic up 2% and then up 1%, but yet your sequential growth accelerated. So I was wondering if you could dive into that, were there any contract wins, do you see some incremental initial benefits of the shortages in parts of the world where you all took share? Again, it's a very important topic, and I was just wondering if you could dig into it a little bit more for us.

Robert McNutt -- Senior Vice President & Chief Financial Officer

Yeah, Brian, it's Rob. Again as I talked about in prepared remarks that we did have good growth in the international side of our Global business and then good QSR growth here domestically. And then as we talked about, our weighting in QSRs is maybe some customers that had a little stronger growth rates. And so, I think that contributes a lot of it. And then, as we look forward, again went through the comps and where we had some good LTO performance last year in the third quarter that we may not see this year in the third quarter.

Bryan Hunt -- Wells Fargo Securities -- Analyst

So I guess, basically there is no reason for us to believe that there is a level of permanence that you all will grow above the industry overall?

Robert McNutt -- Senior Vice President & Chief Financial Officer

Nothing that we reflected to.

Bryan Hunt -- Wells Fargo Securities -- Analyst

Okay. My next question is -- and thank you for that incremental color. The next question is, you obviously mentioned historically looking at capital allocation, your target leverage is 3.5 times to 4 times; you're running at 2.6 based on your comments and you will generate significant free cash flow based on our projections over and above your incremental dividend and your maybe $40 million with the share repurchase. So basically, you all have to do something meaningful to get back to within that 3.5 to 4 times bandwidth. So do you all feel like you're -- you adjust your financial targets down to something lower in terms of leverage? And if that's the case, do you feel like that makes you an investment-grade company instead of a high yield company?

Tom Werner -- President & Chief Executive Officer

Yeah. So this is Tom. Consistent with what we've talked about in the past, since we've been public, we have three priorities. First one is, we're going to continue to invest in this business and that means adding capacity and that costs $350 million to $400 million when we decide to pull that trigger. Second, we are going to actively pursue M&A and third, we're going to return capital to shareholders. And so, I'm comfortable with where our leverage is. I think our investment rating right now gives us the opportunity to pursue potential M&A as we have in the past and our granted they've been a small bolt-on acquisitions, but I want to make sure I've got plenty of balance sheet capacity to do a potential big deal that comes around. So, I feel good about where our leverage is and it gives us -- with our cash flow, we're returning shareholders -- we're returning capital to shareholders with dividend increase that we just recently announced and our share buyback program. And I want to have some balance sheet available in order to pursue opportunities in the marketplace.

Bryan Hunt -- Wells Fargo Securities -- Analyst

Yeah, I guess the only thing based on our math would get you back to 3.5 to 4 turns of leverage would be a sizable acquisition. Is there anything on the horizon or is there anything out there available for sale that is sizable in your opinion at this moment?

Tom Werner -- President & Chief Executive Officer

Well, I'm not going to get into specifics. What I will tell you is we're as active as we can be in the market.

Bryan Hunt -- Wells Fargo Securities -- Analyst

Very good. I'll hand it off to others and Happy New Year, and I appreciate your time.

Tom Werner -- President & Chief Executive Officer

Thank you.

Operator

Thank you. We will take our next question from Carla Casella with JPMorgan. Please go ahead.

Carla Casella -- JP Morgan Chase & Co. -- Analyst

Hi. On the CapEx side, I had a question, the $300 million CapEx. Can you just remind us how much of your CapEx is maintenance and do you have a sense for any other major projects beyond 2020 that we should be considering in our kind of go-forward CapEx?

Robert McNutt -- Senior Vice President & Chief Financial Officer

Yeah. Carla, this is Rob. The maintenance level of CapEx we've talked about in the past has been in the $115 million to $125 million range, somewhere in that $120 million-ish [Phonetic] range. And really, the only thing that you may think to -- think about is Tom's comment of in the not-too-distant future, we're going to have to add some capacity. And so, think about it in those terms and we've talked about that in the past.

Carla Casella -- JP Morgan Chase & Co. -- Analyst

Okay, great. And then on the Thanksgiving timing shift, you mentioned about -- you added about 1 point of growth this quarter, did you -- I don't think I heard you. Did you quantify how much you expected to take some growth in the next quarter?

Dexter Congbalay -- Vice President-Investor Relations

Yeah. Hi, it's Dexter. Carla, it's about the same -- it's a pull forward. That's all this.

Carla Casella -- JP Morgan Chase & Co. -- Analyst

Okay, great. Thanks.

Dexter Congbalay -- Vice President-Investor Relations

Right now, that's going to be our last question. So this is Dexter to everyone. If anybody who wants to have a follow-up conversation, just email me and we will set up the time. Other than that, Happy New Year to everyone and have a good weekend.

Operator

[Operator Closing Remarks]

Duration: 49 minutes

Call participants:

Dexter Congbalay -- Vice President-Investor Relations

Tom Werner -- President & Chief Executive Officer

Robert McNutt -- Senior Vice President & Chief Financial Officer

Andrew Lazar -- Barclays Capital -- Analyst

Adam Samuelson -- Goldman Sachs -- Analyst

Tom Palmer -- JPMorgan -- Analyst

Chris Growe -- Stifel -- Analyst

Rebecca Scheuneman -- Morningstar Inc. -- Analyst

Bryan Hunt -- Wells Fargo Securities -- Analyst

Carla Casella -- JP Morgan Chase & Co. -- Analyst

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