Hormel Foods Corporation

Good morning and welcome to the Hormel Foods third quarter fiscal 2020 conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing star then zero on your telephone keypad. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. Please limit yourself to one question and one follow-up, and you are invited to rejoin the queue. Please note, this event is being recorded. I would now like to turn the conference over to Nathan Ennis, Director of Investor Relations, Hormel Foods Corporation. Please go ahead.

Good morning. Welcome to the Hormel Foods conference call for the third quarter of fiscal 2020. We released our results this morning before the market opened around 6.30 a.m. Eastern. If you did not receive a copy of the release, you can find it on our website at HormelFoods.com under the investor section. On our call today is Jim Snee, Chairman of the Board, President and Chief Executive Officer, and Jim Sheehan, Executive Vice President and Chief Financial Officer. Jim Snee will provide a review of the company's current and future operating conditions commentary regarding each segment's performance for the quarter, and an update on the company's response to the COVID-19 pandemic. Jim Sheehan will provide detailed financial results and commentary regarding the company's current and future financial conditions. The line will be open for questions following Jim Sheehan's remarks. As a courtesy to the other analysts, please limit yourself to one question with one follow-up. If you have additional questions, you are welcome to get back into the queue. An audio replay of this call will be available beginning at noon today, Central Standard Time. The dial-in number is 888-317-6003, and the access code is 923-7894. It will also be posted on our website and archived for one year. Before we get started, I need to reference the Safe Harbor Statement. Some of the comments made today will be forward-looking, and actual results may differ materially from those expressed in or implied by the statements we will be making. Please refer to pages 35 through 42 in the company's Form 10-Q for the fiscal quarter ended April 26, 2020. It can be accessed on our website. Additionally, please note the company uses non-GAAP results to provide investors with a better understanding of the company's operating performance. Non-GAAP measures include organic volume, organic sales, and operating free cash flow. Discussion on non-GAAP information is detailed on our press release located on our corporate website.

I will now turn the call over to Jim Snee. Thank you, Nathan. Good morning, everyone. Before we get into the business results of the third quarter, I want to take this opportunity to say thank you. to all of our dedicated plant professionals for showing up every day in our manufacturing facilities. They are the true heroes of our company in this crisis. It has been remarkable to see our team work together to provide safe, high quality food for millions of consumers impacted by the pandemic. I'm very proud of how all our team members rose to the challenge with a sense of responsibility, purpose, and pride. From the very beginning of this pandemic, we committed to putting the safety of our team members first. I believe this safety first commitment is what has set us apart during the pandemic. Since we last updated you in May, our COVID leadership team, including operations, quality control, communications, legal, R&D, and human resources, has continued to enhance and refine our safety practices. These include expanded automated temperature screenings, the addition of more staggered production shifts, and increased training on COVID-19 best practices. Our awareness campaign, Keep COVID Out, is also helping prevent the spread of the virus in the communities where we live and work, and keep the virus out of our production facilities by outlining the various preventative measures we can all practice in order to stay safe. We partnered with the CDC to review our efforts related to COVID-19 and how we have implemented guidance from the CDC and OSHA at one of our production facilities. Their review included a multiple day visit to the facility, along with surveying employees regarding their knowledge, attitude, and practices on COVID-19. I'm pleased with their findings, namely that we had implemented virtually all recommended controls to prevent transmission of COVID-19. The survey of our diverse team found that more than 90% of our employees have a comprehensive understanding of prevention techniques and what to do if they get sick with the virus. In addition, over 98% of our team members surveyed reported that they wore a facial covering when out in public. These actions are making a difference to stop the spread of COVID-19 in our communities. You have heard me say Hormel Foods is an uncommon company, and that has never been more true than it is today. Our inclusion and diversity guiding coalition is an example of a group that has demonstrated our uncommon culture during this difficult time. As we witnessed the social unrest this summer, we knew we needed to take action as a company. Formel's Inspired Giving platform is our response to this important cause. As a company that is inclusive in all that we do, we decided to let our team members choose how we should launch our new Inspired Giving program, and I am incredibly proud of the partnerships they selected. This team selected three organizations to make donations to. Minorities in Agriculture, Natural Resources, and Related Sciences, the NAACP Legal Defense and Education Fund, and UNCF. These organizations are all helping change the world by tackling equality and education. Today, we separately announced a milestone effort in our commitment to education. We believe education has the power to change the world and access to educational opportunities can lift up people and communities. Equality in education can be a game changer and we have decided to take on that challenge. Through a new program called Inspired Pathways, We are going to make the dream of a college education available to the children of our team members. When you think about how a college education can change a life and start a ripple effect that will be felt for generations, that's the change maker Hormel Foods wants to be. We will be finalizing the details over the next several months, but beginning in the fall of 2021, Hormel Foods will provide for every graduating senior who is the child of one of our employees the opportunity to attend community college on us. This program is one of a kind and truly uncommon. I'm excited to see the difference these two new programs, Inspired Giving and Inspired Pathways, will make in our communities. Turning to our business results this quarter, we delivered record third quarter net sales as three of our four segments delivered sales growth. This achievement is a testament to the strength of our brands, the dedication of our supply chain teams, and the balance across our business. For the quarter, volume increased 4%, and organic volume increased 3%. Sales increased 4%. and organic sales increased 2%. Before I get into the segment results, I would like to provide some channel perspectives as each of our domestic segments have exposure to the retail and food service channels. Total retail sales increased 19% during the quarter, with strength from virtually all of our brands. In many categories, we were able to, once again, capture market share by outperforming our competitors. According to IRI, during the quarter, we grew share in approximately 60% of the categories where we are the number one or number two brand. We also saw tremendous growth in e-commerce, including direct-to-customer and online grocery pickup and delivery. During the quarter, Our tracked purchases through IRI were up over 100%, and our brands continued outpaced category growth and capture market share in many categories. The investments we have made into our e-commerce capabilities are having a very positive impact on our performance in this important channel. Throughout the pandemic, we have brought millions of new households into our brands. Using a combination of IRI data, on-shelf availability data, custom research, and data science, we are gaining deep insights into the number of new consumers coming into our retail brands, along with their demographics, behaviors, and assessment of whether they will stay in our brand franchises over the long term. While we know it's unreasonable to retain 100% of the new consumers as brand stewards, It is our responsibility to keep as many consumers in our brands as possible. While we are seeing a rebound in our food service business as restaurants reopen and pipelines refill, total sales in our food service channel declined 19% compared to last year. Though many patrons are returning to their favorite establishments, it is clear the industry will be in recovery mode for quite some time. We are proud to have built strong relationships in this industry and were among the first to offer our assistance to those operators who needed our help to navigate their new reality. We hold deep competitive advantages in the food service industry, including our relationships with operators and distributors that span decades, a large direct sales force, and a balanced product portfolio. We also have the advantage of being able to quickly turn insights from our Salesforce, who are on the front lines and kitchens each day, into solutions that solve for the challenges and concerns of operators. Nowhere is this more apparent than in our pre-strategy with pre-marinated, pre-cooked, pre-sliced, and fully prepared product offerings. Brands like Bacon One, Fire Braised, Austin Blues, Cafe H, Natural Choice, Burke, Genio, Fontanini, and the recently acquired Sadler's brand have created solutions for operators in the areas of convenience, safety, versatility, and flavor. For years, many operators have slowly shifted their purchases to these types of products, and we believe the COVID-19 pandemic will accelerate the conversion. I'm confident our portfolio is well positioned to adapt and grow as the industry recovers. It is also important to note that this isn't the first time our food service business has had to emerge from an economic downturn. During the recession in 2008 and 2009, Our direct sales force expanded their reach to the emerging channels of lodging, healthcare, and colleges and universities. This intentional pivot provided significant growth for the next decade. Today, we are leveraging many of those same strategies with an increased focus on the newest emerging segments. From a financial perspective, we delivered earnings per share of 37 cents which is flat to last year. Jim Sheehan will provide more details, but I do want to mention that our earnings fully reflect $40 million, or almost six cents per share, in increased supply chain costs related to COVID-19. Looking at the segments, grocery products volume increased 6%, and sales increased 7%. Similar to the second quarter, we saw exceptional growth from nearly every brand, especially brands such as Spam, Skippy, Herdez, Hormel Completes, and Dinty Moore. Earnings for grocery products increased 36% driven by strong volumes and improved margins due to favorable product mix. It is clear that brands still matter. and never have consumers relied on established and trusted brands to feed their families like they have during these times. Many brands within the grocery products portfolio have not only seen extraordinary growth, but they have outpaced the competition. Continuing to invest in these core brands is one of our highest priorities and responsibilities. One brand which has seen a resurgence of demand is Skippy. While the entire peanut butter category has seen growth as kids stay at home, the Skippy brand has thrived and outpaced the competition. We've also launched numerous new innovative products which are seeing early success. Skippy Squeeze, Skippy no sugar added, and Skippy peanut butter blended with plant protein each deliver a unique consumer proposition and are helping extend and grow this iconic brand. We were pleased that our Skippy Squeeze Pouch recently won an award from Food Network Magazine for smartest new packaging for a longtime favorite. International volume decreased 5%. Sales increased 2%. and segment profit increased 26%. Results from our China business were very positive during the quarter, primarily due to higher retail sales for Spam and Skippy, but also from other refrigerated products in-country. We saw continued improvement in our food service business as restaurants reopened. Similar to the past few quarters, the team in China is working through higher pork prices and are taking the necessary pricing actions to offset cost increases. Worldwide demand for Skippy Peanut Butter and Spam Lunch and Meat was strong, which drove higher exports and growth from our affiliated businesses in the Philippines, South Korea, and Europe. The dynamics we are seeing in the United States are playing out across the globe in similar ways. We did see a sharp decline in our fresh pork exports as variety meat supplies were limited because of in-plant labor shortages stemming from the COVID-19 pandemic. Genio turkey store volumes declined 9% and sales declined 4%. We saw very strong retail sales led by our Genio lean ground turkey. This growth is a continuation of the progress we made in regaining distribution prior to the pandemic, and we plan to advertise against the Genio brand in key markets later this year. While we saw strong growth in our retail business, it was not able to offset declines in our food service, commodity, and whole bird businesses. Segment profit decreased 67%, driven exclusively by the impact from three plant pauses and incremental supply chain costs related to COVID-19 safety measures. This is an important distinction as it speaks to how the earnings strength in our retail business was able to offset the declines in our food service business. We were making excellent progress in many areas. but the cascading impact of three plant pauses throughout our vertically integrated supply chain had an outsized impact on profitability this quarter. As such, the overall earnings decline this quarter is not reflective of where I believe this business is going. I'm confident we're on the right path. Refrigerated foods volume increased 8%, and organic volume increased 7%. Sales increased 5%, and organic sales increased 2%. Retail and deli demand was led by strong growth from products such as Applegate natural and organic products, Hormel black label bacon, and Columbus grab-and-go charcuterie. Fresh pork sales also increased on strong demand for retail pork. One brand I want to highlight is Applegate. Consumers are discovering the Applegate brand at a rapid rate as families are looking for options to feed their kids while at home during the pandemic. Our offerings span multiple categories, including chicken nuggets, hot dogs, burgers, and breakfast sausage. The growth we have seen from Applegate in the last few months is staggering, and we are investing in the business in order to maintain momentum. The Applegate team delivered these impressive results even as they battled disruptions in their third-party logistics system due to COVID-19 and have had to work creatively to find additional capacity in their supply chain. The Hormel Deli Solutions team has also seen impacts from COVID-19 as consumers shift purchases away from behind-the-glass meats and prepared offerings to pre-packaged and pre-sliced options. During the third quarter, sales into the deli increased 4% as strength in our grab-and-go offerings more than offset declines in our prepared foods and behind-the-glass businesses. We expect this trend to continue as our Hormel Gatherings party trays and Columbus-branded items provide differentiated at-home experiences. Another brand I'd like to highlight is our Hormel Gatherings party trays. When the pandemic started, we saw a sharp decline in sales due to social distancing mandates. As always, our marketing team went to work to solve this problem. They quickly repositioned the brand from a focus on social gatherings among friends to a more family-oriented brand message. Our food service business, which represents approximately 40% of refrigerated food sales, saw double-digit declines during the quarter. However, we are very confident that as the food service industry recovers, our product lines featuring precooked, presliced, and premarinated products will thrive as operators look to simplify preparation and reduce handling of products. As I mentioned in my earlier remarks on the food service industry, it is important to remember that we have been through this before. The food service industry will reimagine itself, and we are perfectly positioned to support them during this time. This past quarter, we successfully integrated the Sadler Smokehouse organization into refrigerated foods. We received a lot of positive feedback from the prior owners who credited our team for providing access to Hormel Foods' resources and necessary support during the pandemic. Early indications are promising, especially seeing the ease at which Sadler's was able to pivot from food service to expanded retail distribution. I'm personally excited to see how our broader organization is able to leverage Sadler's unique product offerings to deliver innovative new products. Earnings declined 11% due to lower food service sales, incremental supply chain costs, and losses on strategic hog hedge positions. Setting aside the offsetting channel dynamics within refrigerated foods, incremental COVID-19 costs and losses on strategic hog hedges were the primary reasons for the earnings decline. As we look forward for the total company, we expect the fourth quarter to mirror many of the dynamics we experienced in the third quarter. We expect continued strength from our retail businesses as consumers engage with our brands at elevated rates. There remains a high level of uncertainty as to how quickly segments in the food service industry, such as casual dining, lodging, and schools, will reopen. Therefore, we expect our food service business will show declines in the fourth quarter. As I said in my opening comments, the members of our supply chain team are heroes in the pandemic. Their tireless dedication has allowed us to meet the high level of demand we are seeing across our business. In many businesses, we are producing more product than we ever have to meet the increased demands. Examples include plants where we've not had positive COVID-19 cases or plants where we had excess capacity to meet the surge in demand. In other businesses, factors such as limited labor availability and short-term inefficiencies due to COVID-19 safety measures are limiting our ability to meet the high levels of demand we are seeing. Further, The third quarter is historically when we build inventories to meet the seasonally high demand in the fourth quarter. However, the record sales in our third quarter has led to abnormally low levels of inventory, which further limits our ability to meet demand in key categories. Jim Sheehan will provide more details regarding our inventory levels. Without compromising employee safety, Our supply chain team is working to find solutions to increase production through continuous improvement, further internal production capacity, and by working with our trusted co-manufacturing partners. Consistent with the second quarter, we are incurring incremental supply chain costs related to COVID-19. During the second quarter, our costs increased by approximately $20 million, And in the third quarter, our incremental costs were approximately $40 million. These were primarily related to team member bonuses, enhanced safety measures, and lower production volumes. In the fourth quarter, we expect to incur another $20 to $40 million of incremental costs. we expect our COVID-19 related costs to be between $80 and $100 million this fiscal year. In closing, I am confident we have the right strategy, sound business fundamentals, best-in-class management, and the financial strength to thrive and grow in this dynamic marketplace. We are well equipped to weather this storm and will be stronger because of it. At this time, I will turn the call over to Jim Sheehan to discuss our financial information relating to the quarter, give an update on our financial position, and provide commentary regarding key input cost markets.