Kellanova

Good morning, and welcome to the Keller Company's third quarter 2021 earnings call. All lines have been placed on mute to prevent any background noise. At this time, I will turn the call over to John Renwick, Vice President of Investor Relations and Corporate Planning for Keller Company. Mr. Renwick, you may begin your conference call.

Good morning, and thank you for joining us today for a review of our third quarter 2021 results, as well as an update regarding our outlook for the full year 2021. I'm joined this morning by Steve Cahillane, our Chairman and CEO, and Amit Banati, our Chief Financial Officer. Slide number three shows our forward-looking statements disclaimer. As you are aware, certain statements made today, such as projections for Kellogg Company's future performance, are forward-looking statements. Actual results could be materially different from those projected. For further information concerning factors that could cause these results to differ, please refer to the third slide of this presentation as well as to our public SEC filings. This is of particular note during the current COVID-19 pandemic and supply and labor disruptions when the length and severity of these issues and resultant economic and business impacts are so difficult to predict. A recording of today's webcast and supporting documents will be archived for at least 90 days on the investor page of KelloggCompany.com. As always, when referring to our results and outlook, unless otherwise noted, We will be referring to them on an organic basis for net sales and on a currency neutral adjusted basis for operating profit and earnings per share.

And now I'll turn it over to Steve. Thanks, John, and good morning, everyone. I hope you and your families are doing well. After all, we are still managing through a pandemic and still nowhere close to what any of us would call life is normal. This is certainly true from a business perspective as well. Therefore, we remain focused on keeping our employees safe and aiding our communities is more important than ever. We also continue to supply the world with food, but as we and all companies have discussed previously, this has gotten extremely challenging. Importantly, we remain on our strategy, Deploy for Balanced Growth, which is depicted on slide number six. This strategy continues to keep us on our path for steady, balanced financial returns for shareholders. We also continue to make progress on Better Days, our ESG-oriented program. A few Better Days highlights from quarter three are shared on slide number seven. This remains a critical element of our strategy, a clear focus of management, and a part of the DNA of Kellogg Company. And we have not lost sight of this during the current pandemic and business environment. And there is no question that today's business environment is as challenging as we've ever seen it. Our organization has risen to all of these challenges using creativity, skills, and work ethic to manage through them. Slide number eight attempts to categorize these challenges into three basic buckets. First, we're all familiar with the surges in market prices for commodities, packaging, and freight, all the result of supply, demand, and balances that may take some time to work out. We're working hard to mitigate the margin impacts of these high costs, from our active hedging program, which has given us strong visibility into our commodity costs, to mitigating cost pressures with productivity initiatives and revenue growth management actions. Second, by now we're also all aware of the economy-wide bottlenecks and shortages that are not only pushing costs higher, but are also making it very difficult to supply the market. Here's where our supply chain's control tower approach has provided us agility in addressing shortages and gaps in materials, equipment, and land and ocean freight. We've also taken actions to reduce complexity in our portfolio and operations. And third, we are seeing acute shortages in labor across all spectrums of the economy. This is resulting in absenteeism, high turnover, difficulty in attaining temporary labor, and for some of us, even labor strikes. To address this, we've had to recruit continuously, and we've executed contingency plans to sustain as much supply as possible in the face of open positions and work stoppages. Simply put, we are taking important actions to manage through today's unprecedented environment. And through it all, we're executing well in market and delivering balanced financial growth, which continued in quarter three and is discussed on slide number nine. Consumption growth remains elevated as measured on a two-year compound annual growth basis, even if it continues to decelerate as expected. We're seeing particularly strong consumption growth and share performance in many of our biggest world-class brands. And we continue to sustain strong momentum in our emerging markets. This momentum has been evident for the past few years and reflects our improved geographic footprint, the strength of our portfolio, our efforts to broaden our offerings into affordable price points, and our local route to market and supply chains. From a financial standpoint, these factors led to continued balanced growth. strong organic net sales growth, strong operating profit growth, strong earnings per share growth, and cash flow that remains well above pre-COVID 2019 levels. So in spite of all the operating challenges, we continue to deliver. And today, we are even raising our full-year guidance for net sales to reflect momentum in the business. At the same time, we are also reaffirming our guidance for operating profit earnings per share, and cash flow, despite a worsened cost and labor and supply environment. I'm sure you can appreciate that even holding guidance amidst these kinds of challenges speaks to the kind of dependability we strive for, regardless of business conditions. Let me now turn it over to Amit so he can take you through our financial results and outlook in more detail.

Thanks, Steve, and good morning, everyone. Our financial results for the third quarter are summarized on slide number 11. As you can see, we delivered strong organic basis net sales growth of 5% in quarter three on top of similar growth in the year earlier period. This came in better than anticipated due to exceptional growth in Europe and EMEA. Currency neutral adjusted basis operating profit increased by 11% year on year. This was driven by the strong top line growth as well as lapping a year ago quarter in which incremental brand building investment had been shifted from earlier quarters. Currency-neutral adjusted basis earnings per share increased by 18% as strong operating profit growth was augmented by a decrease in average shares outstanding. And cash flow, while still below last year's unusual pandemic-related surge, remained well above the pre-pandemic 2019 level. In total, a very strong financial performance. Let's examine these results in a little more detail. We'll start with net sales on slide number 12. As you can see, the net sales growth in quarter three was driven by both volume and price mix. The 1% plus organic volume growth was driven by our international regions, most notably Europe and EMEA, where our Nigeria business had an exceptional quarter. And this volume growth comes despite supply pressures and lapping good year-ago growth. Our 4% organic basis price mix remains solidly positive in all four regions, the result of revenue growth management actions that we have been implementing since the second half of last year when input cost inflation began to accelerate. Finally, foreign currency translation was modestly favorable to net sales in quarter three, decelerating from the first half as expected. So through the first nine months, you can see that on an organic basis, our net sales were up 3%, despite lapping the pandemic-related surge. And they're up 5% on a two-year compound annual growth basis. Looking to the fourth quarter, we expect sustained price mixed growth based on the revenue growth management actions we've taken. Though we are a bit more cautious on volume, given the current labor negotiations and a prudent view towards decelerating at-home demand and emerging markets growth. Moving down the income statement, slide number 13 shows our gross profit performance. As we had anticipated, both our gross profit and gross profit margin declined year-on-year in quarter three as we lapped last year's strong operating leverage and as we faced this year's unusually high cost pressures. While our productivity and revenue growth management actions continue to cover market-driven cost inflation, there was significant incremental cost and disruption stemming from the current operating environment that came on top of that. Our gross profit margin was further weighed down by disruption and costs related to fire at one of our plants and a more pronounced than usual mixed shift towards emerging markets, most notably our distributor business in Nigeria. Importantly, though, while our gross profit percent margin decreased to below the level of pre-pandemic quarter three 2019, our gross profit dollars remained higher than that period. And if you look at the right-hand side of the slide, you can see that our gross profit dollars are up through the first nine months of this year, both on a year-on-year and on a two-year basis. In this high-cost environment, we have to focus on both margins and dollar growth. On slide number 14, we see a driver of year-on-year profit change that is really more of a phasing dynamic. SG&A expense is comprised of advertising and promotion, R&D, and overhead. Last year's quarter three was unusual in that it included incremental A&P investment delayed from the first half because of the pandemic. It also included a sizable increase in incentive compensation accruals. But comparing SG&A to the third quarter of 2019, we see it was lower both on a percentage margin and dollar basis. This two-year decrease is related to both the work we did to remove stranded costs after our divestiture, but also to our decision this year to pull back on investment behind specific supply constraint brands. You can also see that through the first nine months, our SG&A dollars are roughly flat with the same period of 2019, and that's probably how we'll finish this year. If we look at operating profit in the same way on slide number 15, we find that in dollars, our operating profit in this year's quarter three was not only higher than it was in last year's quarter three, but also higher than what it was in quarter three 2019. Again, this focus on dollar profit is important as we manage through this challenging environment. Now, we do think that quarter four will be a little different. Contrary to our prior assumptions, we are seeing no moderation of the economy-wide bottlenecks and shortages here in the fourth quarter. In fact, we are now experiencing incremental disruption and costs further compounded by a labor strike. So, for quarter four, we are forecasting gross profit dollars and operating profit dollars to be below quarter four of 2019, even if both metrics finish the full year above 2019 levels. Moving down the P&L, Let's turn to slide number 16. While operating profit drove most of our growth in earnings per share in quarter three, we also benefited from modest net favorability in below-the-line items. In quarter three, interest expense decreased on lower debt, which will continue to be a year-on-year driver in quarter four, with quarter four's comparison also lapping the 20 million debt redemption costs we recorded last year. This decrease in interest expense was more than offset by a decline in other income, which compared against an unusually high level last year. We expect quarter four's other income to be similar to that of quarter three. Our effective tax rate in quarter three came in lower than last year. We believe quarter four's rate will come in higher than the 22% rate we are now forecasting for the full year. JV earnings and minority interest together were favorable to last year, though this mostly reflects the consolidation of a couple of our smaller investment-phase joint ventures in West Africa into operating profit. And average shares outstanding decrease year-on-year, reflecting the impact of quarter one's buybacks. We still expect full-year average shares outstanding to be around half a percent lower than 2020. Outside of the currency-neutral EPS that we manage and guide to, we did experience continued year-on-year favorability, though modest from foreign currency translation. Based on where exchange rates are today and what we are lapping, there would be little to no benefit from foreign currency translation in quarter four. Let's now discuss our cash flow and balance sheet shown on slide number 17. Year-to-date, our cash flow remains below last year's unusually high level as expected. mostly as we lap last year's timing-related increases in various accruals during the height of the pandemic. The more relevant comparisons, therefore, are the year-to-date periods of 2019 and 2018. As you can see from the slide, this year's cash flow continues to track well above those pre-COVID time periods. This is driven by higher operating profit as well as reduced restructuring outlays and continued effective management of co-working capital. Meanwhile, our balance sheet remains solid. Net debt remains roughly even with last year and lower than each of the prior two years, even despite this year's increase in cash return to share owners in the form of resumed share buybacks and increased dividend. So our financial condition remains quite strong. Slide number 18 shows where our results stand after the first nine months of 2021. Obviously, we've had a good year so far, producing strong and balanced financial results on a two-year basis and staying ahead of our own internal forecast. This year-to-date performance is all the more impressive when you consider just how challenging the business environment has been. Let's now turn to our updated guidance for the full year 2021, as shown on slide number 19. Given the better-than-expected momentum we are seeing in our international regions, we are raising our guidance for organic net sales growth to a rate of 2% to 3%. This is a solid performance, particularly given the comparisons against last year's pandemic-related surge. At the same time, we are reaffirming our guidance for currency-neutral adjusted basis operating profit and earnings per share, as well as for cash flow. While net sales are coming in higher than previously expected, we are incorporating costs and disruptions related to the current supply and labor conditions. In fact, Given this current environment, we will likely land towards the lower end of the guidance ranges for these metrics. Our guidance assumes a reasonable conclusion to the current labor stoppage at our U.S. serial plants. However, as you can appreciate, there is always uncertainty regarding labor negotiations. In the meantime, we will continue to execute our contingency plans to mitigate disruption. Despite an incredibly challenging operating environment, we remain in strong financial condition, and our full-year results are expected to sustain balanced financial delivery on a two-year basis. And with that, let me turn it back to Steve for a review of our major businesses.

Thanks, Amit. I'll start by emphasizing the broad-based nature of our sales growth. Slide number 21 shows the two-year compound annual growth rates in net sales across our four regions. It's in North America where we've had the most supply disruption and most significantly in cereal. This has restrained our overall growth in quarter two and quarter three this year. But as we'll see in a minute, our snacks continue to grow nicely year on year, and frozen breakfast and plant-based foods have continued to post good growth on a two-year CAGR basis. Europe sustained impressive growth in quarter three. Pringles has driven exceptional growth for us in snacks, and cereal sales have remained strong there as well. In our Latin America and EMEA regions, we are clearly demonstrating exceptional momentum, collectively sustaining double-digit growth on a two-year and one-year basis in the third quarter. In fact, if you turn to slide number 22, you can see that this emerging markets growth is anything but new. Collectively, our emerging markets had already been growing consistently at or above our long-term target of mid-single-digit growth for these businesses. This year, we've seen double-digit growth, Elasticities to our cost-related price increases have run lower than historical levels. We have continued to expand Pringles across these markets with especially strong growth in Russia and Brazil. We have also continued to grow cereal across our emerging markets with particular strength this year in Asia. And our growth in Africa this year has been nothing short of spectacular, driven by noodles, cereal, and snacks. Equally important to our long-term prospects is the health of our big, world-class brands. And in quarter three, their momentum was sustained as much in developed markets as in emerging markets. Slide number 23 shows the two-year CAGRs for consumption growth for Pringles in the U.S. This brand continued to gain share in the third quarter, propelled by incremental innovation, effective brand-building campaigns, and strength in multipacks. And slide number 24 shows that Pringles' momentum is truly global. Similar to the U.S., the brand's strong growth and share performance is being driven by incremental innovation, like the Sizzlin platform in Europe, or local flavors like seaweed in Asia, and by very effective brand building, particularly its 360-degree campaigns around soccer and electronic gaming. On top of that, it continues to gain distribution, particularly in emerging markets. So this $2 billion global retail sales brand continues to perform well. Let's check in on another world-class brand, Cheez-It, shown on slide number 25. In the U.S., this brand continued to grow consumption and gain share in the third quarter, sparked by strong brand-building activity and growth in multipacks. Meantime, it continues to gain distribution and share in its newly launched markets, Canada and Brazil. This is a billion-dollar-plus brand that continues its long track record of consistent growth. Pop-Tarts is another world-class brand that is performing well. Its two-year growth has well outpaced the portable wholesome snacks category, as shown on slide number 26. Another big brand with over $750 million sales at retail in the U.S. alone, it's showing good momentum. To give you an idea of how relevant this brand is, our latest ad has generated nearly 40 million views on YouTube. Our What Would Pop-Tarts Do hashtag has shown up 5.7 billion times in TikTok. and the brand has enjoyed more than 2 billion earned impressions this year. And big growth has continued for us on Rice Krispies treats, shown on slide number 27. This brand even accelerated its consumption growth and share gains during the third quarter, aided by effective brand building and the success of innovation like home-style treats. This brand generates close to $350 million in retail sales in the U.S., and it continues to grow. In cereal, the performance of key brands in the U.S. has been impacted by supply complications in North America, but internationally, we're seeing good growth. On slide number 28, our two world-class brands in Europe are worth highlighting. Trezor, also known as Crave in some markets, is a taste segment brand that has become the number one cereal brand in Europe and has dramatically outpaced the category this year in key markets like France and Germany. Extra, meanwhile, is geared more towards adults, and it too has strongly outpaced the category this year in markets like Italy and Spain. Over in the frozen aisle, Eggo is clearly a world-class brand, and it is performing well. Slide number 29 shows that it is sustaining solid mid-single-digit consumption growth in spite of capacity constraints. Yet another big brand with close to $900 million in retail sales in the U.S. continuing to grow. Morningstar Farms, our leading plant-based proteins brand, is shown on slide number 30. This is another world-class brand that is sustaining strong consumption growth, even as the category decelerates as expected, and even as we run up against capacity limits in some of our product segments. This is a $400 million retail sales brand with momentum and strong prospects. In fact, as you've seen, the fundamentals, momentum, and growth prospects for many of our biggest world-class brands remain solid. Now let's review each of our regions, starting with North America in slide number 31. Net sales were flat year-on-year in the third quarter, with underlying consumption growth well exceeding our shipments due to supply constraints. Many of these constraints were economy-wide, including shortages of materials, labor, and freight. But we had some internal challenges as well. As you know, we entered this year tight on capacity for growing food formats in cereal, frozen from the griddle, and plant-based protein, as well as certain pack formats and snacks. Add to that the fire that interrupted production at one of our cereal plants, and you can appreciate just how constrained we have been. The good news is that we remain in growth on a two-year CAGR basis and that our revenue growth management actions are resulting in good price mix growth. This price realization, along with good execution of productivity programs, is crucial for mitigating the margin pressures of high-cost inflation and incremental costs and inefficiencies related to the broader bottlenecks and shortages in the economy. Slide number 32 breaks our North American net sales growth into category groups. You can see the good momentum we've seen in snacks and frozen, despite these supply constraints and the fact that away-from-home sales remain lower on a two-year basis. Cereal net sales had been flattish on a two-year CAGR basis in the first half, roughly in line with the U.S. category's performance. In quarter three, however, it faced the worst of its supply challenges and is now down about 1% year-to-date on a two-year CAGR basis. Importantly, our underlying consumption trends remain solid across most of the portfolio, as shown on slide number 33. In all three of our snacks categories, we saw an acceleration in two-year keggers in quarter three, continuing to well outpace their individual categories. In the frozen from the griddle category, we also saw accelerated two-year growth during the third quarter, and in frozen veg vegan, Even as the category decelerates as expected, our growth remains strong. Even in cereal, which as a category has been flat on a two-year basis this year, we are holding consumption relatively flat despite all the supply challenges we've been facing. And before we move on from our discussion of North America, we should touch on our U.S. away-from-home business and slide number 34. The slide shows rolling two-year average growth rates in our net sales over the past few quarters in these channels. As restrictions eased and consumer mobility increased, we saw year-on-year growth starting in quarter two and continuing in quarter three. Our sales remained below 2019 levels, but you can see that a gradual recovery continues. The recovery has been a little quicker in channels like convenience stores and schools and much slower in channels like vending and in travel and lodging. There is no question that our North America region is facing the toughest of the global supply challenges, and the team has risen to the occasion. We are presently working to restore full production at our fire-damaged cereal plant while negotiating with the union regarding its strike against all of our U.S. cereal plants. Indeed, North America faces an even tougher quarter in the quarter four. Nonetheless, we're executing well in market, and our brands are in great shape. Now let's turn to our international regions and slide number 35. You can see that in each of these three regions, we are sustaining strong momentum, both in the form of year-on-year growth and on a two-year CAGR basis, which eliminates the impact of comparing against last year's surge, especially in Latin America. Let's look at each of these regions a little more closely. Slide number 36 shows the results of Kellogg Europe. Europe's streak of quarterly organic net sales growth continued in impressive fashion in the third quarter. Driven by both volume and price mix, this growth was led by Russia and the UK, but broad-based across the region. Double-digit growth in snacks was driven not only by Pringles sustaining its momentum, but also by a rebound in portable, wholesome snacks. Cereal sales grew on top of last year's growth, and we are particularly pleased with the magnitude of our share gains in the UK. As we look to the fourth quarter, we lap a particularly strong organic net sales growth performance, and on operating profit, we are managing through high costs and supply challenges, as well as lapping a 53rd week. Nevertheless, we expect to sustain our in-market momentum in cereal and snacks, and Europe is on track for another strong year. Now let's talk about Latin America in slide number 37. The year-ago quarter included outsized gains in sales and profit, so comparisons are masking a solid performance for us in the third quarter. Organic net sales continued to grow year on year, despite the comparisons, with notable strength on a two-year CAGR basis. The growth was broad-based and supported by strong in-market performance in cereal, led by Mexico, as well as by Pringles across key markets. We saw particular strength in Brazil, where Pringles is showing outstanding momentum. Despite decelerating at-home demand trends and extremely high cost inflation, we expect Latin America to continue to grow in quarter four, completing what has been a very strong year. And we'll finish our business review with EMEA and slide number 38. Once again, we saw exceptional growth in this region. We generated organic net sales growth in Australia, led by cereal, and in Asia, driven by both cereal and snacks, despite COVID-related production restrictions on Pringles for much of the quarter. The biggest star in the quarter was Africa, where we are generating double-digit growth in both volume and in price mix. The topline growth was strong enough to overcome double-digit cost inflation, delivering operating profit growth. As we look to the fourth quarter, we expect to see continued topline momentum and bottom line growth in EMEA despite cost inflation and supply challenges. Allow me to wrap up with a brief summary on slide number 40. Our portfolio is in good shape. Our world class brands have great momentum and our emerging markets businesses continue to exceed even our expectations. The result is strong top line momentum. We're taking action to mitigate the profit impact of what is the highest cost inflation we've seen in a decade or more. To do that, we are executing productivity initiatives, we are being disciplined on overhead and selective on brand investment, and we are carefully executing all levers of revenue growth management. Bottlenecks and shortages are rampant across the economy right now, and we are experiencing our own particular labor and supply disruptions. However, we are managing well through these difficult supply conditions. Our people are demonstrating why they are our competitive advantage. going the extra mile to supply the market when everything, procurement, manufacturing, shipping, is more challenging now than ever. And in the end, we expect to remain on our path of balanced financial growth. We've delivered on it so far this year, and we are reaffirming our full-year guidance today, even in spite of the current operating environment. I want to commend and thank our entire organization for their dedication and grit. and for finding a way to deliver on our commitments in what is obviously an unusual environment. And with that, we'd be happy to take any questions you might have.

Thank you. As a reminder, for anyone who does wish to ask a question, it starts by one on your telephone keypad, and we do ask to ensure that your lines are not muted locally. Our first question today comes from Andrew Lazar of Barclays. Andrew, your line is open. Please go ahead.

Thanks. Good morning, everybody.

Good morning, Andrew.

Just one from me. Europe trends obviously remain incredibly strong and accelerated on a two-year basis, even as many of those markets have been reopening at a faster pace than we've seen here in the U.S. So I guess what are the learnings, if any, from Europe maybe that can help you inform the debate a bit in the group on whether some of the new households gained in the past two years can be somewhat more sticky over time as markets in the U.S. more fully reopened?

Yeah, thanks, Andrew. We have seen terrific growth in all those international markets driven by increases in penetration and increases in buy rate. And so obviously those two things are important. They work in concert together. we've seen the business stick even as mobility has increased and so what we've always said is you're looking at 2019 as a comparison obviously is still very relevant the u.s. continues to open up slowly and we're hanging on to those buy rates especially in the US and so we anticipate even as the u.s. continues to open up what we've talked about is the lasting impact and is something we're confident in. And as we've said, you know, time and again, our goal all along was to exit the pandemic stronger than we went in. And we're more confident than ever that that's happening. That's absolutely happening. Great.

Thanks so much.

Thank you. Our next question today comes from Steve Powers of Deutsche Bank. Your line is open. Please continue.

Yes. Hey, thanks. Good morning from me as well. Two questions related to the supply and production backdrop in the U.S. First is just can you give some color on how your service levels and fulfillment rates are holding up, how you expect them to trend for fourth quarter into fiscal 22, and whether we should worry about out-of-stocks accelerating or anything on that front? And then I guess relatedly, as you manage through these situations and you're pulling back, as you say, on investment spending, I guess, what's the risk as you see that you begin to lose ground more structurally versus competition? I appreciate everyone's in the same boat directionally, but your situation is obviously a bit more severe at the moment. So, I'm wondering how you assess that risk. Thank you.

Yeah, thanks, Steve. So, as you pointed out, the The environment is challenging for all of us. There is no question about that. Our fill rates and our customer service levels are not where we want them to be. And we're not alone in that either, but we hold ourselves to a very high standard and we aim to get better and better. And so let me point out a couple of things around your question. We have one particular area that is more challenging than others, and that's our cereal business, and that's obviously been compounded because of the strike that we're going through right now. But outside of that, which is, you know, that's 20% of our global business. Outside of that, you know, we're in the same boat as everybody else, and you can see, based on the type of performance outside of cereal in the United States... we have posted some very, very strong gains. So we don't believe there's going to be anything structural to our disadvantage as we continue to make our way through the pandemic, through the supply gridlock, into a more normalized environment. And we've got mitigation plans based on where we are with our current serial plants in the U.S. as well. So by no means are we complacent. We've got big challenges in front of us. but we're quite confident that we're not going to be at a long-term or any kind of permanent disadvantage. This is a transitory event, and we'll work our way through it.

And I think just on the investment levels, you know, our investment levels are broadly flat versus a year ago. So while we've pulled back on some supply-constrained platforms, when I look at the overall level of investments, you know, we are flattish. And in fact, our advertising is up. So, you know, we continue to invest at appropriate levels.

Okay, very good. And just on that point, I think that's a regional statement. Does that apply to U.S. cereal as well?

I think it would vary across categories because, as Steve mentioned, different categories of supply and service levels vary by category. So I was talking on a global level. on our levels of investment.

Yeah, and really, Steve, based on supply. You know, we're not going to advertise and promote heavily areas that are severely constrained for the moment.

No, that makes sense. Just wanted to clarify. Thank you very much.

Thank you. Our next question today comes from Pamela Kaufman of Morgan Stanley. Your line is open. Please go ahead.

Hi. Good morning. I just had a question on the guidance for the full year. So the full year guidance implies a relatively wide range for Q4 top line growth. Can you talk about the factors that would contribute to your results coming in towards the low versus the high end of the range? And what impact are you expecting from the labor strike?

Yeah, Pamela. So I'll start and Ahmed can pick up. So what we've said is we're taking a reasonable approach to what we think will happen with the labor strike, and that's in our guidance. Our top line obviously continues with great momentum, but you heard what we said about the other three elements coming in perhaps more towards the lower end of the guidance. So let me talk about our thinking behind the strike and what I can share with you. We're in the process of negotiating right now, and so out of respect for that process, I'm not going to get into a lot of detail, which I'm sure you can appreciate. But we have always treated our employees with respect and fairness, and that includes industry-leading compensation and benefits. The offer that we have in front of the union right now is increased compensation on top of that already industry leading compensation and benefits and we are not asking to take anything away despite what you may have heard publicly so we think a fair resolution should be in the offing we think that this type of offer is fair reasonable and again increases on top of industry leading compensation already so this would allow our employees to get back to work we want them back to work i think they want to be back to work But because these negotiations are ongoing, we can't go into much more detail than that. But I think we're hoping that we'll come to a reasonable conclusion, and that's what we're working towards.

Great. And can you give more color on your growth margin expectations for the fourth quarter and how they'll compare to the third quarter? And then just looking towards next year, do you think you've taken enough pricing and implementing enough productivity to preserve year-over-year gross margins?

Yeah. So I think just on gross margin, I think, you know, we expect quarter four to continue to be challenging from a cost standpoint. So I think, you know, the environment remains challenging. And, you know, we'd expect that to continue. In fact, on certain packaging and in certain commodities, we expect inflation to be higher than what we've seen in quarter three. Overall, I would say that, you know, we're expecting inflation to be in the high single digits, like it was in quarter three, similar levels, slightly higher in quarter four. And then, of course, you know, compounded by the strike, right, and the disruptions as a result of that. So that's the outlook on gross margins. from a quarter four standpoint. And I think as I mentioned in my prepared remarks, from an absolute dollar standpoint, we expect it to be higher for the full year versus 2019 levels. So that's the outlook on gross profit.

And Pamela, on the pricing, which you asked about, we're not going to comment on forward-looking pricing for obvious reasons. But I think if you look at where we are with price mix and you look at what we've been able to accomplish, That would be our goal going into the future. So obviously it's a very cost, you know, it's a very inflationary environment driving up costs. Our first line of defense is always productivity. And as we plan out 2022, we'll plan for the same levels of, you know, productivity or greater and then look to the revenue growth management that we successfully employed in order to protect our margins into next year.

Thank you. Thank you. Our next question comes from Ken Goldman of JP Morgan.

Hi. Thanks so much. I know this is a difficult question to answer, so just trying to look for some rough ideas here. But, you know, there's the normal headwinds that every sort of food manufacturer is facing right now. And when I say normal, I mean the ones that are across the entire industry, whether it's, you know, labor challenges, logistics, or so forth, higher raw materials. And then there's the sort of Kellogg specific one of the strike. And I'm just trying to get a better sense of, as you look to your fourth quarter guidance and you think about early next year, how do we think about the impact on whether it's your gross margin or your EBIT dollars, however you want to think about it, of the labor strikes alone? I'm just trying to get a sense of how to parse that out as we think about the headwinds there. And any help you can give would be great.

Yeah, Ken, I appreciate the question, but I think you can appreciate based on the sensitivity of where we are and the fact that we're in negotiations, we're not going to be able to quantify any of that. We've taken what we think is a very reasonable view of getting to an agreement. We've also taken into account the contingency plans that we have in effect. You know, we knew we've been talking for a year now because we had a year extension. We knew the contract was expiring October 5th, so we took all sorts of measures to prepare ourselves. including building inventory. Building inventory was a little bit challenged because of the fire in Memphis, but we also have deployed our white-collar workers. We've deployed... outside labor to keep the plants running, to get the plants running. They're gaining productivity each and every day. We've also leveraged our global supply chain network for cereal to also mitigate. And so we're working very, very hard on two fronts, to mitigate the effects of the strike on the one hand, and we're doing that successfully and getting better every day, but also to get our workers back to work. You know, we want them to get their paychecks. We want them to enjoy their health care. We truly want them back to work, and we think we've got a very, very good proposal, again, with increases on top of already industry-leading compensation. So I think, you know, reasonable heads should prevail based on all that, and that's kind of the view that we're taking. We want to get to a negotiated settlement, get back to work, and we think we've given the best guidance that we can based on all those different factors.

Yep. Thank you for that. And then a quick question, follow up. Just think about thinking about modeling on it. You know, you've had similar sort of adjusted SG&A the last couple of quarters, a little under 720 million. As we think about sort of a run rate going forward, is that a reasonable number? I know it's going to vary, obviously, from quarter to quarter. I'm just trying to get a sense because we've had some ups and downs in the last year of, you know, what we should be thinking about going ahead here.

Yeah, overall, I'd say, you know, Flattish to 2019 levels is kind of a good run rate to assume, Ken. I think, you know, this year there's been phasing. You know, we're lapping the phasing of the brand building, and obviously we're also lapping the incentive compensation accruals from last year. Thanks so much.

Thank you. Our next question comes from Nick Modi of RBC Capital Markets.

Yeah, thanks. Good morning, everyone. I was hoping maybe you can just good morning. I was hoping you can give us some context on inflation, just kind of, you know, the key buckets in how you see that playing out. And then just to see if I could throw in a question to you just strategically and just philosophically, you know, we're obviously seeing a lot of one-time events that are, you know, causing lots of disruption, but these one-time events feel like they just keep on happening. So I wanted to get your kind of thoughts on, you know, CapEx and, you know, it doesn't make sense to just kind of have a super cycle in the near term just to automate as much as possible and just really evolve the infrastructure to be really ready for handling these types of shocks. Thanks.

Yeah, Nick, just on the inflation, I think, you know, as we expected and as we had previously communicated, inflation came in at high single-digit rates in quarter three. It accelerated through the quarter, and as I mentioned earlier, we expect it to further accelerate into quarter four as well. And, you know, we kind of look at it in two buckets. There's the market-driven costs in commodities like oil, dairy, you know, ingredients like rice, potatoes, and packaging. And actually, packaging was the one where we saw significant acceleration in quarter three. So that's, you know, we've seen inflation fairly broad-based, I'd say, across our commodities. And then, of course, you know, the operating environment continues to be challenged. you know, whether it's freight markets, whether it's ocean freight, you know, whether it's labor shortages, as well as, you know, shortages across, you know, our suppliers and our supply chain. So, you know, that's, and I would expect a similar outlook for quarter four with slightly higher, still in the high single digit rates, but slightly higher levels of inflation into quarter four. And I think, you know, from a pricing standpoint and from a revenue growth management standpoint, we're obviously taking action. And broadly, I'd say covering our commodity-related costs and our direct costs, I think, you know, some of the disruptions are hard to predict. And so, you know, that's kind of the color on inflation.

Yeah, and Nick, it's a really interesting question that you raised strategically, and I think For everybody, the pandemic has wrought all sorts of different consequences, right? And it's almost an old joke by now, you know, there's no pandemic playbook, but we've all had different challenges, some very common and some unique. Unique to us, obviously, is, you know, a fire that we talked about, the strike that we're dealing with right now. So there's clearly some uniqueness. But I think one thing that we are definitely looking towards is how we continue to grow. Because despite this, we've had lots of, I wouldn't call it pockets. You know, we've got real growth happening in most of our business that is very resilient, robust, and sustainable. But the future of work is clearly going to change. And our capital plans over the next couple of years will reflect that. When I say the future of work, the obvious, you know, what happens in office environments, where work gets done, how work gets done. But then also from a capacity standpoint and how factories run and where work gets done there, where product gets made, to allow ourselves even more resiliency going forward is clearly something that is on the cards for us.

Great. Thank you. Thank you. Our next question comes from David Palmer of Evercore.

Thanks. Good morning. You mentioned that in, I think it was an answer to Ken's question, the high single-digit inflation in the fourth quarter. If input costs remain at these current levels and considering contracts and hedges rolling off, will COGS inflation slow in the first half of 22 or remain near those high single-digit levels? And I have a quick follow-up.

Yeah, I think, you know... We'll obviously provide detailed guidance in our quarter four earnings call in early February. I think to your question on from an inflation standpoint, I think on a planning basis, we're assuming that the high levels of inflation will persist for the foreseeable future. I think that's the assumption that we're working with. I think from a hedging standpoint, we have a continuous hedging process, so they continue to roll. So we do not anticipate any sudden cliff at the start of the year. That said, obviously the hedges are rolling up at higher prices. And so, you know, from a lapse standpoint, you know, the current hedges are higher than, you know, the hedges that are dropping off. So all in all, you know, we're planning for a high inflation environment in 2022. I think, you know, from a shortages and disruption standpoint, that's harder to predict. But we are assuming that they will persist. And so from a productivity standpoint and from a revenue growth management standpoint, we will be taking actions in 2022 to offset them and continue to drive balanced financial delivery.

And thanks for that. And if we were to look back, we can almost now look at 21 with pretty good visibility, I would imagine. And if you were to look at the friction costs, COVID-related, strike-related, just put it all into one bucket, and God willing, you'll be able to lap these friction costs with less friction in 22. But how would you say or estimate those friction costs have been a drag to your gross margins in 21? I'll pass it on.

Yeah, I think, you know, it's hard to model that because, you know, there's so much that's happened during the course of this year. I think, you know, like I mentioned, from a 22 planning standpoint, you know, we're assuming that the current environment is going to persist. And, you know, we focused on productivity and pricing and revenue growth management, you know, actions to try and offset you know, those costs and continue to drive, you know, balanced delivery.

Okay, thank you.

Thank you. Our next question comes from Laurent Grandet of Guggenheim.

Yes, good morning, everyone, and two questions. The first one is more a follow-up, actually. You said in your pro-market, I mean, U.S. shipments were lagging behind consumption, so What is the current level of inventory at retailers and how it compares to where it should be? So that's the first question. The second one is really about Europe. ESRIM is strong. Gross in Europe this quarter way higher than what we expected. And you mentioned in your pro market performance was driven by the U.K. and Russia. So could you please give us a bit more color there? And also, I mean, we heard about disruption in the also in labor and truck drivers in the UK. I mean, are you seeing any kind of disruption there in the UK, but also in shipments between the UK and Europe? Thank you.

Yeah, thanks, Lorne. I'll start, and then Ahmed can fill in as well. From a U.S. shipment standpoint, I would say shipments are lagging consumption, probably mid-single digits is probably a reasonable assumption there. I'd say inventory levels across the whole landscape are low, obviously. It's been well-documented, all the supply chain challenges and disruptions and so forth. In terms of Europe, I mean, the Europe team continues to deliver at a very high level. And if you look at the UK and Russia performance, we highlighted that. And if you look across Pringles and cereal, and now Wholesome Snacks has bounced back, as we said, as well. And so it's really just high levels of execution, lapping a very strong performance last year, and continued demand creation activities that have been very, very successful. In terms of the disruptions, you know, there clearly are disruptions. They're not quite as acute as they are in the United States. but they're real. There's friction also that has to do with Brexit. You know, when you think about, you know, a supply chain that is on continental Europe as well as the U.K., we're working our way through that. You know, you're seeing good results despite that. But, you know, the same issues around freight and truck drivers exist in the U.K. and in continental Europe, but particularly the U.K. as they do in the U.S. as well.

Thank you, Representative. Thanks.

Thank you. Our next question comes from Robert Moscow of Credit Suisse.

Hi. One of your big competitors is talking about price increases beginning in January in snacks, and there's a lot of packaged food companies that are introducing new pricing. Can you talk a little bit about what your plans are for pricing in 2022? What have you talked to the trade about so far? And then a quick follow-up.

yeah thanks rob i appreciate the question but we do not talk about forward pricing um you know for for for a number of reasons but again if you look backwards and you see what we've done you know we've been successful at driving pricing the good news is elasticities have performed uh very well so they've been lower than historically that was kind of our expectation and i think a lot of expectations based on just the totality of the inflationary environment and as we looked at 2022 As we said, we'll deploy productivity, we'll deploy revenue growth management, and we'll look to be competitive in market and, you know, to create value and to provide for a plan that delivers balanced financial growth going forward.

I think if you look at our – if you look backwards, right, our price mix has been at around 4%, and within that, actually, mix has been negative because of – in this quarter because of, you know, country mix and – And so not only is the 4% offsetting the mix, but obviously the pricing is at a high level in that. So it's coming through.

Okay. My follow-up on plant-based, you said that the category is declining as you expected off of tough comps. Is there a risk that these declines continue into next year? Like when do you think it kind of comes back to positive again?

Yeah, Rob, I think it does come back to positive next year. The LAP is really what's occurring right now. And if you go back to see what happened two years ago, there was an enormous excitement around the new entrance, lots of new distribution being built, lots of doors, frozen doors, refrigerated doors being added. And so we always anticipated, as we said, that the hurdle of that would be difficult. But when you look to consumer behavior, when you look to the consumer research we have, there's still a lot of enthusiasm and excitement around plant-based. And so we think going into next year, you know, you start to see healthier growth rates on a year-over-year basis because of those comps.

Great. Thank you.

Thank you. Our next question comes from Chris Grurry of Stiefel.

Hi. Good morning. I just had a quick question for you on, thank you, on mix, as you were talking to Rob there. Does lower mix at the revenue line mean lower mix at the profit line, whether it be gross profit or operating profit? So is that a factor weighing on your gross margin as well?

Not necessarily. I think, you know, it's, I mean, there are two factors in play, right, at a high level. One is obviously your geographic mix. Multi-pro, it does. impact both nsv and gross margin because it's a distributor business and uh you know obviously uh you know in quarter three uh like we like i mentioned we had a huge quarter in uh in multipro in nigeria uh driven really by pricing to cover inflation uh and and and you know volume growth was strong despite you know the significant pricing that we that came through so you know so on that one it flows through I think on the categories, I'd say it's a lot more balanced between snacks and cereal.

Okay. And then I had a second question just around pricing and kind of two elements of that. One would be that you noted that you're pricing to offset inflation, but some of these disruptions and supply chain challenges have been an issue for your gross margin. I think you noted as well that you expect those to continue next year. So does that mean that your pricing would be below whatever the total amount of inflation is next year if the supply chain challenges don't get better? And then if I could add to that, you talked about a low level of elasticity, especially in the emerging markets to pricing. Is that pushing you to price even more there than what you would expect around the level of inflation in those markets? Thank you.

I think, you know, to the extent that we can forecast the disruptions, right, I think it's hard to forecast. And that's been kind of the challenge this year, right, because – It's just come in so many unexpected places. I think, you know, to the extent that it's sustained and we're able to forecast it, obviously that will go into the mix of how we offset through productivity and revenue growth management. So I think, you know, that's the way we're thinking about it. I think, you know, to the areas that we think are going to persist, you know, we'll obviously take actions to offset that. And I think, you know, on your point on emerging markets, yes, you know, the volume has come through stronger than we had expected. And so I think elasticities have been lower. No question.

Okay. Thank you.

Thank you. Our next question comes from Ken Zaslow of Bank of Montreal. Your line is open.

Good morning, everyone. Good morning. Good morning, Ken. Can you talk about the opportunity that... that you have with Pringles and where you think that the new markets will be. And when you think about it in a couple of years, how big do you think this brand will be?

Yeah, thanks Ken. So we're very excited about the Pringles momentum. Obviously it's a great brand. It's highly differentiated. It handles innovation extremely well. It carries flavor like no other snack. And so we see continued growth in the markets where we are. You know, it's got pretty good distribution countrywide. So most of the growth is going to come from continuing to penetrate and, you know, increase buy rates and household penetration. In some of the developing markets, you've seen us enter Brazil and other emerging markets quite successfully. And we put a couple of lines in our Brazilian plant for Pringles as well the Malaysia plant has been running strong for us and that provides you know good growth opportunities across Asia so we think you know not going to predict how big it can get but it keeps getting bigger for sure and generating very solid growth for us the other thing I'd mention where we have a lot of opportunity from snacks and expanding distribution is cheese it which doesn't have the same footprint as Pringles not even close to And, you know, we've now launched in Canada and Brazil, and it's done extremely well. So, you know, as we look to the globe, we look to brands like Cheez-It and even Pop-Tarts and others that, you know, would have global aspirations. And so we continue to look at our snacks portfolio as something very exciting with a lot of growth potential.

My second question is, you know, for the last couple of quarters, you've tried to temper the emerging markets growth. This is probably the first quarter you haven't done that. And you continue – you actually sound a little bit more optimistic about the outlook of emerging markets. Not that you haven't been optimistic, but you're not trying to taper off expectations on that. What are you seeing in emerging markets to give you increased confidence that maybe this is much more sustainable than you may have thought for the last three to four quarters? And unless I misread what you're thinking. And I'll leave it there. Yeah, Lauren –

Ken, sorry. We do assume a slowdown in emerging markets in quarter four, and we've been pleasantly very, I wouldn't say surprised, but there are great, great numbers that have been posted in the emerging markets. You look at the Africa business, and so we don't plan on that sustaining, but have been very pleased with what's been achieved.

And I think, you know, if you look at our prepared remarks, you know, we talked about growth accelerating. We saw it all the way through last year, and it's further accelerated. So, you know, we had, you know, double-digit growth through the year. So overall, I mean, you know, it's been sustained through the year, through last year, right? And I think, you know, from a growth standpoint, you know, we continue to see it as a growth opportunity. Operator?

Thanks.

Thanks, Ken.

Operator, I believe we are at 1030, which means we need to wrap it up. We'd like to thank everybody for their interest and their questions. And if you do have any follow-up questions, please do not hesitate to call us. Thanks, everybody. Thank you.

Thank you. Today's conference call has now concluded, and you may now disconnect your lines.