Grupo Herdez, S.A.B. de C.V.

Good morning, everyone, and welcome to Grupo Herdez's third quarter 2022 earnings conference call. Before we begin, I would like to remind you that this call is being recorded and that the information discussed today may include forward-looking statements regarding the company's financial and operating performance. All projections are subject to risks, and the certainties and actual results may differ materially. Please refer to the detailed note in the company's press release regarding forward-looking statements. At this time, I would like to turn the call over to Mr. Guillermo Perez, Investor Relations Manager. Mr. Perez, please go ahead.

Thank you, Charisse. Good morning, everyone. Thank you for joining us on today's call. We appreciate your interest in Grupo Herdes. 2022 has been a year full of unexpected and impactful events. We keep dealing with the lingering supply chain constraints, the high levels of inflation in decades, and pressure on raw materials. Nevertheless, we remain focused on what is under our control, market execution, discipline management of expenses, and working capital. Net sales increased 17.7% in the quarter and 22.2% year-to-date. Volume was responsible for one-fifth of the growth on a cumulative basis, although price increases are still the main driver of top-line performance in quarterly and year-to-date numbers. Results in the pre-serve segment remain with a similar behavior as the consolidated figures increasing 18.5% for the quarter and 21.1% year-to-date. Volume in supermarkets, wholesalers, and food service remained steady in the quarter, and increases were driven by pricing actions in the last 12 months. Impulse continued sequential recovery due to the reopening and normalization in stores, as well as price increases. which translated into a high mid-single-digit average ticket for the quarter. Similarly, the DSD channel at the Loudoun Slate continued with the upward trend seen in the first half of the year. In exports, net sales increased just 8.4% in the quarter and 27.8% on a cumulative basis, as demand softened somewhat. Homestyle salsa was the best-performing category in the quarter. Consolidated gross margin in the quarter was 13.9%, 130 basis points lower than in the third quarter of 2021, as input prices remain stubbornly high alongside other costs which are not comparable versus last year. By segment, the margin was mainly impacted by 180 basis points decrease in preserves, although inputs registered 170 basis points improvement. Consolidated SG&A was 23.8% of net sales for the quarter and 24.6% for the first nine months of the year. This was 90 and 100 basis points lower, respectively, due to the operating leverage resulting from increased sales that completely upset higher FIRE expenses as well as other expenses. With that backdrop, I will turn the call over to Andrea to discuss profitability results as well as other company initiatives.

Thank you, Guillermo. Good morning, everyone. As you saw in our numbers, despite gross margin pressure, consolidated EBIT and EBITDA increased 30.5 and 32%, with margin expansions of 100 and 160 basis points, respectively. On a cumulative basis, EBIT and EBITDA increased 34 and 30.5%, with a margin expansion of 100 basis points each. This was mainly driven by operating leverage at the preserved sector. During the quarter, income from unconsolidated companies was 92 million pesos, 43% lower than in 2021, mainly due to the continued pressure on Megamex results caused by the cost of avocados and increased logistics. Year-to-date, performance is similar, with income from unconsolidated companies decreasing almost 57%, dragged down by the results that were 61% lower at Megamex. Nevertheless, it is important to highlight that we have turned the corner resulting from price strategies and lower COGS, which are reflected in a quarter-over-quarter recovery of 115%. Consolidated net income for the quarter was 469 million pesos, 3% higher than the previous year. The above resulted from lower results of Megamex as well as higher income taxes due to higher proceeds coming from operations in the United States. On a cumulative basis, the consolidated net income decreased 4.3% to 1.3 billion pesos with a 160 basis point margin contraction, also explained by the gap on Megamex performance when compared to last year. Our financial position remains strong. Cash was 5.1 billion pesos, and interest-bearing liabilities were 12.4 billion, same as those of the second quarter of the year. As a reminder, these amounts include 1.8 billion pesos of a bank loan that will be paid in November, so we expect the cash position to return to normalized levels by year-end. In terms of our advancements on our sustainability strategies, This quarter, Grupo AERDE signed Pacto por la Comida, an initiative for companies along supply chains in Mexico to join forces to reduce food waste and losses by 50% in 2030. With this initiative, we will be contributing to one of the most important KPIs for our industry and the Sustainable Development Goals No. 2, Zero Hunger. We are very glad to share that Grupo Herder was recognized by Merco, one of the most important corporate reputation monitors in Latin America, as one of the 100 companies with the best reputation in Mexico, going up four positions to hit the 13th place. In the food sector, we ranked third. Considering that this ranking takes into account practically all of our stakeholders, We feel honored to have these results and will continue to build communication strategies that strengthen our good relationship with all groups of interest and put up our good practices. With that, I will now turn the call over to Gerard.

Thank you, Andrea. In the last weeks, we have seen consumption soften a bit. This was completely expected as inflation roars across the board. and should be sticky for the foreseeable future. Despite this environment, our performance was better than the market as we gained market share in half of the categories in our preserves portfolio. There is still work to do in impulse as, by definition, the segment takes a backseat when disposable income takes a hit. Conversely, as Andrea mentioned, We have pivoted at Megamex, and now our attention will be to keep demand steady. On the other hand, early results of our Airways UK launch are encouraging. We have conquered mid-single-digit market share and have good traction to expand our distribution next year. In the quarter, we saw good signs of working capital improvement. Half of our free cash flow came from these efforts, and we expect more to come in the following quarters. Maintenance capex for this year will be lower than guided, but we expect to execute small M&A that will fill the gap. Total capex for the year will end up around 1.3 billion pesos. Lastly, as this year draws to an end, we reiterate our guidance except for net income. We expect preserves and impulse to grow in the high teens and mid-20s, respectively, so consolidated net sales will increase by 20%. Consolidated gross margin will still be 170 basis points lower for the full year, driven by preserves. EBIT and EBITDA will grow in the low 20s, while majority net income will increase in the 10% neighborhood due to the Megamex shortfall. For 2023, we see flattish volume growth and expect income and expenses pressures to ease toward the back half of the year, translating into margin expansion. We will brief you when we have the forecast. Thank you for your attention. We will now take your questions. Please go ahead.

Thank you. We will now begin the question and answer session. To join the question queue, you may press star, then 1 on your telephone keypad. You will hear a tone acknowledging your request. If you are using a speakerphone, please pick up your handset before pressing any keys. To withdraw your question, please press star, then 2.

We will pause for a moment as callers join the queue. The first question comes from Juan Ponce with Bradesco.

Please go ahead.

Hi, good afternoon or good morning, everybody. Thanks for taking my question. Regarding gross margins, we saw the pressure from raw materials during the quarter. Do you see these rising costs abating anytime soon? And if you can talk a little bit about each item. And how should we think about pricing going forward?

Good morning, Juan. Well, we are still in that pressure environment. If I can use a measure in the quarter, our input cost per ton increase in the low 20s. So going forward, we're going to see this pressure, but obviously the rate of change is going to come down. but the price level is going to keep high. Going forward, probably we would do some pricing action that's going to be less than what we have taken this year.

So pricing is going to...

catch up with our cost input. That's why we see that in the second half of next year, gross margin will start to expand from a year-to-year basis. But obviously, you're going to see gross margin improvement on a sequential basis. So for this quarter, we are expecting growth

uh sequential increase in gross margin as our pricing action catch-ups with cost pressures i think that answers your question yes it does um very very clear and and i'm sorry if i missed the the last part of the opening remarks where you guys talked about uh growth expectations for revenues that beat the bottom line could you please repeat that please

For this year?

Yes, for this year.

Okay. For this year, so we reiterated the guidance. So preserves and impulse will grow in the high teens and in the mid-20s, respectively. And EBIT and EBITDA will grow in the low 20s. Gross margin will still compress somewhat, about 170 basis total, and net income will grow around 10% for 2022. For 2023, our early indication, or what we are seeing right now as we build our budget for next year, is that volume is going to be flattish, and... There's going to be less price actions, and gross margin is going to expand in the back half of the year. There's also some pressure in other things other than inputs. So SG&A sees pressures. We also will have the... minimum wage increase for next year that has effects in a lot of things. There's also some public policies that's gonna start next year in terms of social security. So there are a few things that are still in the pipeline that are going to pressure COGS and inputs.

Perfect. Thank you so much for that detailed response. Okay.

The next question comes from Satima Benitez with Compass Group.

Please go ahead. Hi. I have two questions.

First, I was wondering if you could give me a little bit more information about volumes. and maybe a breakdown from each sector. And the other question is, do you see volume contractions due to the increasing prices in the last quarter of the year?

Hi, Salma.

In what period are you referring? Could you be more specific, please?

Yeah. The breakdown for the volume for this period, for the third quarter.

And the volume contestant for the next period.

Okay, so we said in our press release that volume is flattish versus last year in preserves. And we said in this conference that volume is lower In the last week, demand has come down. And for this year, we're going to finish probably in the low single digits for the whole year. And next year, we see volumes flattish.

Does that answer your question? OK. Yeah, thanks. OK.

The next question comes from Alvaro Garcia with BTG. Please go ahead.

Hey, what's up? Thanks for the call. I have a question on your comments and your remarks, Eduardo, on softness. You started to see certain signs of softness. I was just curious. if those comments have to do with what you're seeing in preserves, because it seems preserves is doing quite well, you're getting share in a lot of categories, but you did mention you outperformed certain categories. So is that specific to what you're seeing in preserves and in supermarkets more generally, or is that maybe driven by what you're seeing in the more discretionary impulse division? Sort of what's driving those comments would be very helpful to understand. Thank you.

Hello, Alvaro. Well, it's across the board, Alvaro. And it's not only in our business. We have also seen some indication or some consumption performance in the financial sector that draws that conclusion. So as this year has evolved, Every call that we have, we have said that consumption was strong, volumes were growing. Until when? That was the question. It could be that September is a month of high seasonality in terms of back to school, in terms of summer ending, et cetera, et cetera. But September was particularly soft. Our vacation period in food service was very good. People was out more often because they were out from the pandemic. And that explains also the softness that we have seen in impulse because instead of going to a shopping center, you went to the beach. So it's very interesting to cross those numbers because food service did very good. And impulse did very poorly. So that could be an explanation. But even though we saw some softness, last quarter, second quarter, we grew in the mid-high digits in terms of volume. And the next quarter, we are flat. So obviously, there's a deceleration on consumption. We're not very worried about it, but it's a softness. Now, in terms of performance, when we do better than the category, we gain market share. That doesn't say that we grow in terms of volume. If a category drops 10% and we drop 5%, we have an outperformance versus the market. That's the context of our performance in terms of market share. So in fact, in some important categories, we have We have gained market share in terms of volume, but that doesn't mean that the category is up in terms of units of volume.

I hope I explained myself. Yeah, that was very clear.

That was very clear. Tough environment. I'd say we're hearing a little bit of everything on both sides there. And then in the U.S. specifically, I was wondering maybe if you can give some more comments on holy guacamole, specifically in the dynamics you're seeing there in Tetra.

Well, because of the dynamics in the U.S. are very powerful, I can say that overall, not particularly in our business, but with all these price increases made by CPGs, demand fall from a cliff in the last three months. Because you have a lot of... We have seen in categories across the board that consumers are... trending down so we have seen some private labels categories go up while other branded and and this is basically from the industry as we read the reports etc so what we expect there is that after the price increases some some allowances will be will be used to incentivize demand So I believe we said last time that we have been behind the curve, and now the risk would be to overshoot. So I expect some activity in terms of promotions across the industry in order to incentivize demand as input costs stabilize. Regarding avocado, the price of avocado has come down, so now we are seeing gross margin expansion from a sequential basis, and we think that's gonna continue for next year.

Great, thank you very much. Does that answer your question, Alvaro? Yes, sir, yes, sir, thank you.

Once again, if you have a question, please press star, then 1.

The next question comes from Bernardo Malpizza with Compass Group.

Please go ahead.

Hi, Canela. Just a quick question from the info segment. I was just wondering if you had any information and any targets or any idea to where the EBITDA margin of the impulse segment could reach? I mean, we saw a lot of periods before the pandemic of double digits and EBITDA margin. Just wondering if that is the target in the short to medium term. Thank you.

Well, definitely it is the target. It is the target to have low double-digit margins as we have had in the past. Now when I say there's a lot of work to do is that pricing has been very strong and now we have to work on demand creation in both channels within the impulse. We have a very good structure in terms of fixed assets in order to sell more. So this business is has a high operating leverage. So we have the assets and the SG&A to do much more in sales. And that's how we're working. So we worked in the last couple of years in the portfolio. I think that the improvements in our ice cream portfolio have been great. we have been recognized in terms of relaunching some brands internationally from our partners, but we think we have a very good portfolio in order to achieve those goals. The timing is not perfect because when disposable income, as we mentioned in the call, goes down, well, you cut on your impulse or your indulgent desire purchases. So obviously that's a concern. I think it's going to be challenging, but definitely our goal is to reach those margins. We believe that in retail with all this multi-brand strategy, we can achieve some synergies that we are exploring right now, and probably that will help us to reduce or to to increase our operating leverage and reduce our expenses in terms of percentage of sales. And I think we're going to see that throughout the next year.

Great. That's super helpful.

The next question comes from Emiliano Hernandez with GBM. Please go ahead.

Hi, Gerardo. Thank you for the space for questions and congratulations on the results. My first question is on Megamex. As you just mentioned, we've seen avocado prices go down and even down year over year in October. How much time does the price take to reflect on the results? I know there's also pressures from supply chain. So maybe the question is when could we expect Megamex margins to return to more normalized levels? And a second question is, you mentioned part of the CAPEX for the year would come from M&A.

Could you elaborate more on these two taxes you refer to? Okay, Emiliano.

Okay. When we said that Megamex just turned the corner, is that we are seeing those gross margin expansions as we speak. So going forward we're gonna see that in a sequential basis. Probably in a year over year it's gonna be tough, but sequentially the trend is on the upside. In terms of M&A, well obviously we cannot share with you anything because if we could we already would have. But you can expect some news in the next weeks. But it's small, as I mentioned. Our acquisitions, based on a percentage of our total assets, are less than 5%. So they're very interesting, but they will not move the needle.

Perfect. That's helpful. Thank you.

As there are no more questions at this time, this concludes the question-answer session. I would like to turn the conference back over to Gerardo Canavati for any closing remarks.

Thank you for your participation on the call today. We look forward to speaking with you again next quarter, and please do not hesitate to contact us in the interim.

Have a good day.

This concludes today's conference call. You may disconnect your lines.

Thank you for participating and have a pleasant day.