General Mills, Inc.

Greetings and welcome to the General Mills third quarter fiscal 2022 earnings Q&A webcast. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question and answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone. If at any time during the conference you need to reach an operator, please press star 0. As a reminder, this conference is being recorded on Wednesday, March 23, 2022. I would now like to turn the conference over to Mr. Jeff Seaman. Please go ahead.

Jeff Seaman Thank you, Frank, and good morning, everyone. Thanks for joining us today for our Q&A session on third quarter results. I hope everyone had time to review our press release, listen to our prepared remarks, and view our presentation materials, which were made available this morning on our investor relations website. As a reminder, beginning this quarter, we are reporting results under a new segment structure. You can find supplementary information on our website that shows our historical net sales and segment operating profit results recast for this new segment structure. I'll also remind you that in our Q&A session, we may make forward-looking statements that are based on management's current views and assumptions. Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call. Joining me this morning are Jeff Harmoning, our chairman and CEO, Kofi Bruce, our CFO, and John Newdy, group president of our North America retail segment. Let's go ahead and get to the first question. Frank, could you get us started, please?

Thank you. Ladies and gentlemen, if you would like to register a question, please press the 14 on your telephone. You will hear a three-tone prompt to acknowledge your request. If your question has been answered and you would like to withdraw your registration, please press the 14 by the three. One moment, please, for the first question. Our first question comes from Andrew Lazar with Barclays. Please proceed.

Good morning, everybody. All right. Morning, Andrew. Great. Thank you. So, Jeff, maybe if we put aside General Mills' comments from Cagney around sort of 3Q expectations and such, I guess the bottom line is the company still raised its full-year outlook above where that initial sort of set of company forecasts were prior to the start of 3Q, despite a very tough environment. So I guess a twofold question on that. First, what do you think enabled that? Because I think there has been still ample industry skepticism around the industry's ability to sort of deal with the current environment as it is. And then more importantly, I know you're not going to give sort of detailed guidance for next year until next quarter, but Do you think this dynamic of managing through this can hold as you move through fiscal 23? Because the concern I hear from many investors really is that the industry is just sort of kicking the can down the road, so to speak, about when the impact of certain things like costs, particularly in light of recent global events, will ultimately catch up to the group. That would be my question. Thank you.

So, Andrew, as I think about this year, I mean, importantly, we ended the Q3 with momentum. And the reason we ended with momentum is because our service levels improved. And as a result, our volume improved more than we had thought, even before we went into going into Cagney. And as we look at the fourth quarter of this year, I think it's important to realize we're still going to have inflation. In fact, inflation in the fourth quarter will be higher. Our pricing will also be higher in the fourth quarter. And in line, you know, Q3, our inflation and pricing was in line with what we expected. And so we feel as if we have a good handle on both of those items. And so then what's really driving the improvement in the fourth quarter is just a little bit better volume than what we had anticipated, given service levels a little bit higher. We're also seeing, you know, a lot's been made of elasticities. I mean, it's a pretty benign elasticity environment right now, which is not to say there's no elasticity. certainly as prices go up there will be some level of elasticity but it's also important to note that it's not in line with historical elasticities given this current environment and so you know our our raise on the fourth quarter really is confidence in our underlying assumptions around inflation and pricing we are we are as we said mostly hedged on commodities through the the calendar here which obviously includes the the fourth quarter and inflation is and pricing you know we get through. And so it really has increased confidence in our ability to service the business in the fourth quarter. Now, our service levels won't be as they have historically been. So we're not anticipating getting all the way back to that. As you look at 23, I mean, it's a pretty volatile environment. And so, you know, usually, as you well know, Andrew, we don't comment even on hedging. We don't comment on past, you know, past the current fiscal year. But these are unusual times. And so we thought we'd give a little bit of color into what we have hedged to the calendar year. And What our hedging really does is it mostly buys us time, and we'll have inflation in fiscal or fiscal 23. We'll have a significant inflation in fiscal 23. It just won't be at the level of the spot prices, at least through the calendar that you see now in the market.

Our next question comes from Ken Goldman with J.P. Morgan. Please proceed.

Hi. Thanks so much. I wanted to just ask, specifically on pet.

For the margin, I think dropped to its lowest level since you bought Blue Buffalo. You talked a little bit about what caused the pressure in terms of input costs. And I assume that those are here to stay for a while. I think you also mentioned higher SG&A. So I'm just curious. How do you think about the potential for pricing to start offsetting some of these headwinds? When do you expect sort of the bottom in that margin to be reached?

Just trying to get a little bit of a better sense for how to view that progression.

Sure. Ken, I'll take that. This is Kofi. Thanks for the question. So one of the important things to also think about here is the impact of pet brands on pet margins. So that is dilutive to the margins this year. There's some specific one-time charges related to purchase accounting flowing through and weighing on the margins as well. So we expect as we both bring that more fully into our production system and get it online for HMM that we'll see those margins improve on the pet brand's business. and other acquired brands, excuse me. And then as we step forward, we expect a gap between inflation and pricing to close. So PET will be a meaningful contributor to the pricing step-up we expect in Q4.

That's great. Thanks a lot, guys.

Appreciate it. You bet.

Our next question comes from Michael Lavery with Piper Sandler. Please proceed.

Thank you. Good morning.

Good morning. I appreciate just even a little peek under the tent for fiscal 23. I guess maybe I'm pushing our luck here, but would love just to know, when you say you've got some coverage through calendar 22, It's still noted that there's significant inflation. If things are where they sit now, if that holds, would that be an acceleration in inflation, or does the coverage give any moderation? Maybe just order of magnitude, what you're seeing as far as a little bit of a further look ahead. Michael, thanks for the question. And yeah, you might be pushing your luck a little bit. I think it's fair to say we expect the inflation to be significant. I wouldn't want to go much further than that. And I think our expectation at this point in the year would be, our normal policy would be to be about 50% hedged, which is the perspective I give on why we we guided you to calendar 2022. So the goal here is to buy ourselves the time to get actions lined up and in the market and, frankly, to give ourselves time to read whether or not we see the inflation as being structural. Okay, thanks. That's still helpful. Maybe just a follow-up. On the service levels for pizza and dough and snack use, You said you kind of really pushed to get more out the door in the last couple weeks of the quarter, a short period of time, but your margin performance was still quite good in North America retail, relatively speaking, with fairly modest sequential and year-over-year declines compared to what we've been seeing. Was it just the pricing that really drove that, and obviously it was significant, or Is there some other things going on that are just good to keep in mind for how we think about your momentum and margin outlook in that segment? Yeah, I'll start and then I'll ask John to provide any color if I miss anything. So I think you've got it mostly right. So we saw pricing actions come in in the quarter, probably towards the middle to tail end of the quarter. So as we go forward, we'd expect that to be a meaningful step up in this situation. as well as a meaningful contributor, therefore, to the step up for the total company. On top of that, as Jeff referenced in his comments on the first question, we expect service levels to reform closer to in line with what they had been trending prior to the quarter. So I think the combination of those two things is what gives us a good portion of the confidence that the drover guidance raised. I think that's exactly right. So, again, pricing and service are the two big things that we're focused on across NAR. And maybe I'll spend just a minute and go a little bit deeper on service. Obviously, that's been a big challenge for us this year, and it's really evolved as well at the beginning of the year. It's really about our distribution centers and logistics on the bottleneck. We've done a nice job with staffing distribution centers up and feel good about our ability to move product now. The biggest issue we're seeing is really around material disruptions and ingredients coming into our plants to run our particularly in RPG, pizza, and hot snacks, so things like fats and oils and starch and packaging. So we spent a lot of time really working as a team to improve on those platforms. We see an improvement in our case fill and on-shelf availability, but our service levels are still quite a bit below historical levels. We target 98% to 99%. We were in the 70s overall for Q3. We expect to get better, but not near historical levels. We expect to be in the 80s. proud of the team. You know, the supply chain team is doing the yeoman's work, and it's really, you know, one business team working together. And we've pulled many levers. We've started up control towers, you know, daily at the working team level. On the senior level, we're meeting once a week on the RBG and Hudson or other constraint platforms to make sure that we're removing hurdles. We're, you know, at the senior level, getting on the phone with suppliers at senior levels to make sure that we're being prioritized for ingredients and We've adjusted formulations on some of our products. We've reformulated over 20 times year-to-date. Every time you make an ingredient change, you have to change the formulation, which is obviously a lot of work by our ITT teams. We adjusted freight lanes as well pretty significantly in a mixture that we can get to our customers on time. We've added capacity on things like OEP, fruit, cereal, potatoes. We're adding ESC. So we're spending a good chunk of our time making sure that we can service our business. We did better. We've got a lot more work to do, and we'll stay very focused on that. Okay, really helpful. Thanks so much.

Our next question comes from Robert Moscow with Credit Suisse. Please proceed.

Hi, thank you. Just a couple of quick ones. Jeff, can you talk a little bit about your plans for capacity expansion in this calendar year? I believe you're adding more in refrigerated dough. I wanted some more specifics there and see if there's any other categories that you're going to expand in. And then secondly, I want to know, in the flour milling grain merchandising business, do you expect any kind of benefits from dislocation in the grain markets? Thanks.

So, Rob, on the two questions, in terms of capacity expansion, you know, I probably won't go product line by product line. However, I do appreciate the question. And what I will say is that we are certainly willing and will be spending capital to expand capacity on the few of our lines in the coming year. And really the businesses that we'll spend money on are the ones that perform well pre-pandemic and, you know, continue to have momentum during the pandemic. And there are actually a number of those. And so what you'll see in the coming year is that we will expand capacity on several of our major businesses. I will probably give an update at the end of the year on where we intend to do that. But your question is a fair one. And just know that we do, you know, our first call on capital is investing in our current business. We have momentum. on the number of businesses that we had pre-pandemic and we have during the pandemic. In terms of the question about flour milling and dislocations, I mean, I don't know that we're going to see any benefits. Having said that, I think we'll have full supply on our grain milling businesses. We're world-class in that. We've been milling flour since 1866, so we have a pretty long history of being able to do that effectively.

Our next question comes from Steve Powers from Deutsche Bank. Please proceed.

Hey, thanks, and good morning, everybody. I guess you performed well on HMM cost savings despite the supply constraints that we've been talking about, and I guess I'm curious just to what degree you think that HMM cost savings momentum continue but may actually be able to accelerate to some degree as those supply constraints abate and you're able to focus more on so-called business-as-usual conditions hopefully into the new year? Just some commentary around HMN would be great. I appreciate the question, and I'd love for business-as-usual conditions tomorrow if you've got that in your powers. I think our expectation is HMM is a core capability for us. And we've been at it as a discipline really since the this century. We've been pretty consistent in delivering mid-single-digit cost productivity off of it. I don't have any concerns about our ability to keep doing that. What I would expect is that if and when, or when I should say we get to, and it's hard to say when that is, when we get to more stable conditions, That will be in a position that HMM will be the lever that allows us to shed a lot of the operating costs that we put on in this environment due to disruption. And so what that will do is allow us to bring our margins, our gross margins back up as a result of the SRM actions that we've taken in this environment to deal with the extraordinary inflation. Yes, great.

Okay, thanks.

If I could, just on a totally different topic, just on PEPF. I love your perspective on how you expect the category broadly. I mean, your brand specifically, but the category broadly, you know, high-end, premium pet care, pet food, to hold up if we enter a more adverse consumer environment. Just how you think that category has evolved and solidified itself to be able to persevere through a cycle. Yeah, Steve, we anticipate the category will continue to perform well, and we think that our segment will continue to perform quite well. And even through the last recession, which was a long time ago, one of the things before we even bought Blue Buffalo, we looked at how the category performed during a recession, and it turns out it performs very well. The last thing you want to do in tough times is suboptimize what you're going to give your pet. And I would tell you that on top of that, the predominant trend in pet food now and I think will be going forward is the humanization of pet food. And we're clearly very well positioned in that area given that we're the number one natural pet food in the pet category by a long, long way. And so we believe we have the best brand and the best part of a really good segment and a really good category that holds up well during recessions. And by the way, as a result of all those things, has very low exposure to private label. Very good. Thank you so much. Take care. Thanks.

Our next question comes from Brian Spillane with Bank of America. Please proceed.

Thanks, Operator. Good morning, everybody. So my question is around elasticity, and I just wanted to just get two perspectives on it. Jeff, I think in the prepared remora, you mentioned there's a mention about the sort of expectation that this elevated level of demand, you know, is, you know, you expect it to stick. Um, and so is part of that just a function though, now given where inflation is just an expectation that, you know, consumers just be eating more at home. So we've kind of shifted from being at home because of COVID to now eating more at home because it's so expensive to go out. Um, And then maybe just a second point, maybe from John Moody, anything that you're seeing now in terms of, like, cross-elasticity between channels? So are consumers making different choices in terms of maybe avoiding, you know, food stores or convenience stores or just anything that's going on between channels as we're just watching the pricing set in? I know there's a lot there, but we appreciate it. Yeah, thanks, Brian. This is John. So maybe I'll tackle pricing writ large here and I'll get to elasticity in just a second. So obviously, I talked about subject we're spending a lot of time on, we do believe that we're pricing effectively within the market. And for each brand, it looks different. And one of the things I'm really proud of is the SRM capability or strategic revenue management capability we've built over the last five or six years under Jeff's leadership. And our SRM plans look different for every brand and really go down to the SKU level. It's an always-on capability. We're looking at what's coming at us from an inflation standpoint. We're looking at what's happening in market, and then we're leveraging the full SRM toolkit trade optimization, pack price architecture mix. And in the U.S., our measured data, our average unit prices are up a bit more than our categories, and that's really where we want to be. In many cases, we're the leaders in the category. We feel like it's on us to make sure that we have clear pricing strategies. At the end of the day, our goal is to pass as little as needed, but certainly with inflation, we need to take pricing at this point to preserve our margins. So we work closely with the retailers. We're going to have pricing is never an easy discussion. though. So again, if we can walk in and provide good rationale for why we're taking the pricing and more importantly, a coherent plan for what pricing will look like in market, we've been able to find good acceptance and more importantly, good reflection in the market. So it's been a big focus area for us. I feel great about what we've done to date. We've got a roadmap for each of our brands and down to the ski level for the future as well, if more pricing is needed. In terms of elasticity, Jeff touched on this earlier, we are seeing elasticity. So again, it's not like we're not Q4. Now granted, we're going to have more price mix in Q4, so expect to see a bit more elasticity as a result. But again, not back to historical levels. In terms of what's happening across segments and categories and channels. There's obviously a lot of noise in the data, everything from product availability to consumer mobility to government support levels and significant inflation away from home channels. It's really hard to try to parse it out, but we'll continue to try to do that. But again, elasticity has remained constant. That's the important thing to remember, and not at historical levels as well.

Okay.

Thank you.

Our next question comes from Alexia Howard with Bernstein. Please proceed.

Good morning, everyone. Good morning, Alexia. Morning. Could I ask about marketing and innovation? Obviously, there's so much disruption going on in the industry. You've talked about supply chain issues. starting to be resolved. I can imagine there's a lot of fires to put out right now. But on the underlying marketing, it sounded as though SG&A was down this quarter. Does that mean that the marketing spending was down? Is that likely to remain that way until things get easier on the supply chain? And then also on the innovation side, has that also had to be ratcheted back just because of the current state of play out there in the world? Thank you, and I'll pass it on.

Alexia, I really do appreciate that question. This is Jeff. I think the key to remember is that we've gained market share in more than 60% of our categories for four years in a row. And there's a reason why we've done that. And that's because we really haven't cut back on marketing spending or our levels of innovation. In fact, our levels of new product innovation have led most of our categories all over the world. And we've actually increased our marketing spending over time. And You can't just turn on and off marketing spending on brands and have those brands be effective, and the same will be true of innovation. So through this whole pandemic, one of the things we see is that companies that come out of rough periods like we have been through, the ones who invest in their brands, whether that's new product innovation or whether that's marketing, are the ones that are successful. With regard to the latest quarter, the reason our SG&A is down, the number one reason is that our admin costs are down. Our marketing spending is down just a touch, but that really is a reflection of a very short period in time. But broader picture, we've continued to innovate, and we've continued our marketing, and that's the reason why we're growing share pretty much everywhere in the world.

Our next question comes from Laura Grande with Guggenheim. Please proceed. Thank you.

Hey, good morning, everyone. I'd like to come back a bit on pets and pricing, because that's a question I've got from many investors.

So first, what is the price, what is the mix in pet food in the third quarter, if you can really understand all those things? And are you seeing pet parents trading down to smaller back sizes? as we are seeing for some of the brands, and if you could share on price elasticity, again, as it's one of the major concerns, especially for the business and from investors. And finally, could you please update us on the split between mass retail and e-commerce and pet specialty in pets, and what are the dynamics here? Thank you. Sure. This is Kofi. So I'll start with the front part of the question on price mix. Just to give you a sense here, we saw about seven points of price mix on PET in the quarter. And then our expectation is that we'll see that step up as we go forward into Q4. I think the rest of your question was about the channel split, which we may have to get back to you just to verify. I don't have that finger tip. Do you have it, Jeff? Yeah, I think, Laurent, broadly, the channel splits were at about a third, a third, a third across food, drug, and mass, probably a little bit higher in food, drug, and mass, now maybe closer to 40%, and then e-commerce and specialties. I just wanted to correct Kofi's comment on looking at maybe on the reported number. For PET, on an organic basis, price mix was plus 13 in the quarter. You've got a combination of pricing, which, you know, we did have some pricing going to the market in the quarter, so we only have a partial benefit of that in the quarter, and then some mixed benefit, as you heard us talk about at Cagney. Our tastefuls launch, for instance, on wet cat food, you know, on a price-per-pound basis. As you know, both treats and wet food are advantaged relative to dry, and those are growing faster for us, both from tastefuls as well as from the acquired brands that we've had here recently. And, you know, LaRon, you asked a couple other questions, you know, more detailed questions. In terms of elasticity, the PEG category is relatively inelastic, even in recessionary periods, it's relatively inelastic. You asked about pack sizes. One of the things we've seen is that demand has been so strong in the pack category, and we anticipate it going forward. Consumers really are buying what they can find in the shelves, and whether that's wet food or whether that's dry food, the availability really is driving consumer acquisition at this point. There's really not a trade down in and pack size for a trade-off, and pack size is really availability is the key because the category is so strong, and we believe it's going to remain strong. And as we said in our cover opening remarks, as we look at the fourth quarter, our pricing will catch up to inflation, which will have a positive impact on our pet margins in the fourth quarter.

Our next question comes from Chris Grohe with Stifel. Please proceed.

Thank you. Good morning. Good morning, Chris. Hi. Just had two quick questions. The first would just be maybe one for Kofi. As we think about this pricing cost dynamic and inflation picks up, there's going to be double digits, I should say, in the fourth quarter. The pricing is accelerating as well. Obviously, that's what's in the guidance.

Should we expect the same kind of gross rate of change in gross margin year over year, and therefore should it improve sequentially, but should it be down still year over year? Just trying to get some order of magnitude there. And then I had a second question, maybe more for John, on the undershipment in North American retail. He had that three-point gap you called out. Does that quantify the sales shortfall in the quarter from the service issues you had? And I guess also I'm curious about the rebuilding inventory. Are you still hoping to do that?

And should you be shipping ahead of consumption theoretically to keep up with demand here? Thank you.

Okay, so let me take the first part of your question.

I expect the price mix step up to be meaningful. And, you know, obviously embedded in our range, if you do the squeeze on gross margin, would be absolutely a sequential improvement in the possibility, obviously, of a gross margin increase year over year. And on the show, and Nielsen measured retail sales growth by three points in the quarter, as you mentioned, really driven by the service issues on R&G, pizza, and hot snacks. We don't expect the issuance to lag sales in Q4. We also don't expect to rebuild inventories in Q4, and that's really reflected in the guidance. If we can do a bit better and service levels improve, we might be able to rebuild a bit, but likely we'll push into fiscal 23, where hopefully we can get back to more historical inventory levels.

Our next question comes from Ken Zaslow with Bank of Montreal. Please proceed.

Hey, good morning, guys. Morning.

And we're going to go a little deeper into the elasticity question. You said that there's been a little bit of elasticity. Is it the similar level across all your categories, or is there a spectrum of elasticity where certain categories are showing zero elasticity and some categories are showing a greater variability of elasticity. And can you talk about either the spectrum or this glass? Yeah, so this is John. we have obviously in the U.S. and our global businesses, and I can tell you every category is reacting differently. So we are seeing elasticities that vary. There's not a single category that has zero elasticity, though. So when you take price, and particularly the levels of pricing that we're seeing due to the heightened inflation, there are elasticities for sure. Again, there are changes between categories, but at this point, we are seeing elasticity in everything. As I mentioned earlier, though, those elasticities are generally holding. So again, they're not It's historical levels that are holding at lower levels than what we've seen in the past. Okay. And then my second question is on data analytics. Can you talk about the speed to which or the real-time data analytics? You know, the idea that, you know, the service levels came back quicker is obviously a positive. Was it in your understanding how quick it came back? Were you able to understand that it came back in real time? Or was there a lag in the understanding of when it actually occurred? And just kind of figuring that out. Is your data analytics on real time data analytics improved, changed, or stayed the same? And I'll leave it there. I appreciate it. So related to data analytics, this one I think was pretty simple. And it was really focused on getting as much as we could out of our plats. And the big issue, again, was not so much capacity on those platforms. It was getting the ingredients to get our lines running literally 24 hours a day. So as we got towards the end of the quarter, we put a full-court press. Our team did a great job, and we were able to pump out significantly more volume than what we had originally thought. And we shipped. So, again, it really wasn't a data analytics thing. It was more about just our ability to run product. And, again, our supply chain did a terrific job really significantly improving that situation. We have time for one more, Frank.

Our next question comes from Nick Mody with RBC Capital Markets. Please proceed.

Yeah, thank you. Good morning, everyone. Just two quick questions on the consumer. You know, you guys talked about it, Cagney, about meal prep fatigue. So just wanted to see if you had any more evolved thoughts on that and what you've been seeing. And then I guess, you know, given what's been happening with inflation and just thinking about the consumer, would you guys agree with the statement that, you know, perhaps the low-income consumer is going to, you know, maybe go into a quasi-recession, you know, sooner rather than later, just given what's going on with all the external pressures? Or, you know, is that not the way you see it?

I guess I would start by saying I think our success is going to be determined by how fast we can pivot, as witnessed by John Doody's latest comment about supply, rather than our ability to predict exactly what's going to happen in the future. I'm not trying to be opaque on purpose. It's just there are so many moving pieces. You know, we have some people returning back to the office, yet demand will be at greater than pre-pandemic levels for quite a while. There is a possibility of recession, but it's certainly not here yet. There is going to be inflation, but how much that inflation is a couple quarters from now is yet to be determined. And, you know, the state of the consumer and, you know, their financial well-being, if their consumers are in a good place now, how is that going to look for two quarters from now is difficult to say. You know, I think our ability to be successful over the last couple of years has really been predicated on not our ability to determine what's going to happen next, but our ability to react to what's happened next. And that's what I feel great about. And you'll see that in pet. You see that in North America retail. You see it all over the world. And so as we think about the future, there are a variety of outcomes that are possible. But I will tell you there have been a variety of outcomes over the last few years, and we've been successful through all of them. And so we're confident that whatever comes at us next, we'll be able to deal with that, at least as well as our competitors, if not perfectly. Great, Frank. I think that's all the time we have today. Appreciate everyone following along and appreciate the good questions this morning. Please feel free to reach out to the IR team if you have follow-ups today. Otherwise, I wish you a good day, and we'll talk next quarter.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line. Have a great day, everyone.