康尼格拉食品 (CAG) 2021 Q3 法說會逐字稿

Good day and welcome to the Conagra Brands Third Quarter Fiscal Year 2021 Earnings Conference Call. (Operator Instructions) Please note, today's event is being recorded.

I would now like to turn the conference over to Brian Kearney with Investor Relations. Please go ahead.

Good morning, everyone. Thanks for joining us.

I'll remind you that we will be making some forward-looking statements today. While we are making those statements in good faith, we do not have any guarantee about the results we will achieve. Descriptions of the risk factors are included in the documents we filed with the SEC.

Also, we will be discussing some non-GAAP financial measures. References to adjusted items, including organic net sales, refer to measures that exclude items management believes impact the comparability for the period referenced. Please see the earnings release for additional information on our comparability items. The GAAP to non-GAAP reconciliations can be found in either the earnings press release or the earnings slides, both of which can be found in the Investor Relations section of our website, conagrabrands.com.

With that, I'll turn it over to Sean.

Thanks, Brian. Good morning, everyone, and thank you for joining our third quarter fiscal 2021 earnings call. Today, Dave and I will discuss our strong third quarter results, our perspective on how Conagra is succeeding in the current environment and how we are well positioned to drive future growth from behavioral tailwinds. So let's get started.

Our business continued to perform well, both in the absolute and relative to competition during the third quarter. Our ability to deliver for stakeholders during this pandemic is not only a testament to our team's ability to adapt to the current environment, but a reflection of the work we've done to transform our business over the past 5-plus years. Our ongoing execution of the Conagra Way playbook, perpetually reshaping our portfolio and capabilities for better growth and better margins, has enabled us to rise to the occasion during the COVID-19 pandemic and has positioned the business to excel in the future.

During the third quarter, we continued to build on our momentum and invested across the company to further strengthen the business. This included ongoing investments in physical availability to ensure our products are accessible, online and in stores, and mental availability to ensure we're making the right connections with our consumers.

As I've said previously, the COVID-19 pandemic has presented an incredible consumer trialing opportunity. Our innovation and marketing approach has enabled us to secure not only strong trial but also strong repeat rates and market share gains. Based on the evidence we are seeing, which I will summarize today, we expect to emerge from the pandemic with structurally higher volumes and share driven by the stickiness of the COVID-driven demand. But to be clear, we are not relying on these benefits to achieve our fiscal 2022 organic net sales guidance.

Given our confidence in the longer-term value creation opportunities of our business, we opportunistically repurchased approximately $300 million of shares in the quarter. We remain committed to a balanced approach to capital allocation, which includes investing in our business, maintaining solid investment-grade credit ratings, executing smart M&A, and returning capital to shareholders via share repurchases and paying an attractive dividend. Our decision to repurchase shares demonstrates our willingness to capitalize on occasions when we believe we're undervalued.

As we navigate the current environment, we're seeing input cost inflation accelerate in many of our categories and across the industry. Dave will detail multiple levers we have to manage this inflation. And finally, we are again reaffirming our fiscal 2022 guidance.

I'll unpack these items a bit further in a moment, but I want to start by acknowledging our frontline team. Our supply chain is a vital component of our success, and I want to commend our team once again for their extraordinary execution amid the COVID-19 pandemic. I'm extremely proud of the thousands of hard-working Conagra team members whose dedication has enabled our industry-leading performance. We remain focused on keeping employees safe while meeting the needs of our communities, customers and consumers; and I'd like to thank everyone at Conagra for making this possible.

Let's get into the business update. As the table on Slide 8 shows our organic net sales growth of 9.7% exceeded our expectations in the quarter, despite the winter storm in February causing a small temporary disruption in the supply chain. We also delivered adjusted operating margin of 16% and adjusted EPS of $0.59, both in line with our quarterly guidance. This strong performance was driven by our continued execution of the Conagra Way playbook. The foundation of everything we do is building superior products with modern attributes, great taste and contemporary packaging. Our third quarter results demonstrate the continued strong performance of our new innovation, which is being accepted by customers and sought after by consumers.

Once we have the product right, we need to make sure that consumers and customers have access to it across all channels. As we will detail today, this is exemplified by our investments in transportation to ensure physical availability amid elevated demand.

And finally, we support the mental availability of our products to ensure we connect with consumers in the right place, at the right time and with the right messages. In the third quarter, we supported our brands with continued investments in e-commerce and digital marketing.

Our playbook is not just a slogan. It's the framework we use to run the business, and it continues to deliver great results.

During the third quarter, we grew retail sales 13.8%, with each of our domains, frozen, staples and snacks, outpacing the industry. As a result, we grew share in each of our domains. Our strong broad-based growth and share gains were fueled by both our superior penetration and repeat purchase rates in the quarter. Slide 11 shows that our household penetration rate during the third quarter was on average double that of our top 15 peers, and we outpaced those same peers in terms of repeat purchase rate.

As I mentioned a minute ago, the Conagra Way playbook starts with building superior products. When we began this journey over 5 years ago, we recognized that we had a lot of latent potential in the portfolio but it had to be modernized, so we set out to aggressively do just that. And you'll recall that we established a goal of having 15% of our annual retail sales come from products launched within the preceding 3 years.

As you can see on Slide 12, our innovation performance has consistently exceeded our 15% goal over the last 2 fiscal years and through the last 52 weeks, and our fiscal '21 innovation is performing even better than prior year innovation. Compared to last year's launches, the products we introduced through the third quarter this fiscal '21 have achieved 66% more sales per UPC and 53% more distribution points per UC than during the comparable time period last year. And as you can see on Slide 13, many of our new innovations are leading their categories.

Looking ahead, we're starting to see strong customer acceptance our fiscal '22 innovation. Customers trust our innovation track record and rely on our new products to drive consumer trial and overall category growth. Slide 14 shows just a few of our exciting innovations that will begin shipping in fiscal 2022. Critical to our ability to sustain our growing relevancy with consumers is the physical availability of our products, whether through brick-and-mortar or online, and Slide 15 demonstrates how our ongoing investments in e-commerce have continued to yield results. Conagra has outpaced total edible retail sales in e-commerce growth each quarter throughout the pandemic, and we have grown share in e-commerce across 76% of our brands over the past year. As we've discussed before, we believe that e-commerce investment is a high-ROI opportunity to deliver our message to consumers.

Slide 16 details some of the specific benefits to expanding our e-commerce platform. E-commerce shoppers over-index to younger millennial consumers. When consumers start to shop online, they're likely to continue the behavior and become heavy users of a brand, and online shoppers in general have higher brand loyalty than those shopping in store. All of this demonstrates the opportunity for superior lifetime value that's being generated by our e-commerce investment and growth.

Now let's turn briefly to each of our retail domains and start with frozen on Slide 17. Total Conagra frozen retail sales grew an impressive 12% on both a 1- and 2-year basis in the quarter, which is an acceleration from the second quarter. And Slide 18 demonstrates our growth in frozen accelerated on a sequential basis across many of our leading brands and categories.

Our snacks business also continued to deliver strong growth throughout the quarter -- third quarter. As you can see on Slide 19, we generated double-digit retail sales growth on a year-over-year and 2-year basis in snacking, led by impressive increases in -- across popcorn, sweet treats and meat snacks. And as consumers continued snacking at elevated rates, we capitalized with strong Q3 velocity growth across our leading brands.

Our staples portfolio also delivered solid results in Q3, including 15% retail sales growth, led by double-digit quarterly growth across key staples categories. And as Slide 22 shows the broad-based growth we delivered in the third quarter exceeded the already strong growth we delivered in the second quarter. People are returning to their kitchens during the pandemic, and new younger consumers are discovering the joy of cooking. As we've discussed before, the current environment has resulted in consumers trying or reengaging with our staples products and coming back again and again.

Overall, I'm very pleased with our end market performance across the portfolio this quarter. And it's even more impressive, given the fact that we delivered these results despite continued supply constraints resulting from sustained elevated demand outpacing our ability to supply. And that takes us to what we see looking ahead. As we try to understand where consumer trends are going, it's always helpful to look back at lessons from recent history. During the '08/'09 recession, we saw consumers shift from primarily consuming meals sourced away from home to meal sourced in home.

While this shift is not surprising during the heart of a recession, it's important to recognize that the change in behavior, although event-driven, lasted well past the recovery. And we believe that a good portion of that change in behavior was driven by the formation of new habits. Psychology experts assert that it takes on average 66 days for a new behavior to become habitual. As you all know, we are nearly 400 days into the COVID-19 pandemic. Consumers have adapted to at-home eating and formed new habits that we expect to sustain well beyond the current conditions.

And early data supports our hypothesis. If you take a sampling of data from states that have been the most open based on the mobility of their residents throughout the pandemic, what you'll find is the 2-year growth rates in retail sales are materially higher than pre-pandemic and fairly consistent as states reopen and stay open. So while people are starting to leave their homes more frequently, they are still choosing to eat at home. Consumers are largely maintaining the habits they've acquired over the past 400 days, just like psychology predicts.

And while we're poised to benefit from sustained elevated at home eating, we are not resting on our laurels or taking our consumers for granted. We're continuing to invest behind our brands to create connections with consumers. Slide 27 shows just one fun example of our innovative approach to brand building. We listen to our communities and identify the trends that resonate with them.

As an example, the Slim Jim community online was built on memes. Given that fact, DOGE and Dogecoin were a natural fit for our brand. Since joining the online conversation about the Do Good Everyday (sic) [Do Only Good Everyday] sentiment of Dogecoin, we've tapped into another channel for Slim Jim to engage with its community. We've seen a market uptick in audience interaction, including direct engagement and advocacy from the person that created Dogecoin, as you can see on this slide. Not only is this community hungry for our product and new innovation, but they've also been quick to rally behind the brand playing a large part in Slim Jim being crowned the champion of Adweek's March Adness Bracket of the top 64 brands. On its way to the title, Slim Jim defeated Doritos, Pepsi, Amazon, Wendy's, M&M and OREO in head-to-head matchups.

We're excited about this, and you should be on the lookout for additional crypto-themed activations in the future.

And Slim Jim is just one example of how we're connecting with the consumer. Since the onset of COVID-19 last March, we've gained the equivalent of more than 4 years' worth of incremental new buyers. COVID has effectively supercharged new trial at a level rarely seen in our industry.

Importantly, we're winning with younger consumers. Nearly half of our new buyers are millennials and Gen Z. The steady trends shown on Slide 29 demonstrate that these new buyers are even more likely to repeat purchases across many of our key brands. They are discovering our modernized portfolio and developing new habits that include our products. And as you can see on Slide 30, we're outpacing our peers in terms of repeat rate as consumers are flocking to our brand more than to those of our top competitors across all of our domains. And we continue to believe that we are very well positioned to capture the benefits of consumer behavior post-pandemic. Let's start with frozen. The adoption of remote work provides a structural increase in the demand for frozen food compared to pre-COVID levels. Importantly, some aspects of the remote workforce adoption are expected to be permanent. And this shift to remote work has the biggest impact on lunch and dinner occasions, the meals with the largest exposure to frozen foods.

Our portfolio of brands and products uniquely meet these consumers' needs. Our frozen portfolio over-indexes in these occasions by offering hyper-convenient meals and sides perfect for a quick lunch or family dinner. In addition to enjoying more food cooked together at home and including frozen as a key part of those meals, consumers are making what we believe is a significant and lasting shift to at home entertainment. People increased their time spent watching digital video by over 40% in 2020. Recent studies and our understanding of habit formation tell us that this shift towards at-home entertainment is likely to continue post pandemic. When consumers, particularly the younger generations, move their entertainment to the home, they increase the number of at-home snacking occasions. And during those occasions, consumers are choosing our brands time and time again.

And as I've already touched on, younger groups are engaging more and more with our staples segment as they learn how to cook at home. As the chart on the left demonstrates, young adults are increasingly moving from urban areas to smaller cities and suburbs, where there are fewer options for eating away from home. And as the chart on the right demonstrates, these young consumers, Gen Z and millennials, are increasingly engaging with Conagra's staples portfolio as they discover their kitchens.

Today, we are reaffirming our fiscal '22 guidance. As I said earlier, we're not incorporating expectations about the stickiness of COVID-driven demand in our reaffirmation of the organic net sales guidance. However, as we have detailed today, we are increasingly confident that we will benefit from the stickiness of the pandemic-driven demand. And as Dave will discuss, while the current inflationary environment provides us more of a challenge on margin than we were originally expecting, we will be pulling on all of our margin levers to manage through the current environment and remain focused on delivering our profitability targets.

So to summarize, we continued to deliver solid execution during the third quarter, and our business remains strong in the absolute and relative to peers. While inflation is accelerating, we have multiple levers to manage inflation and drive margin improvement. And we're continuing our execution of the Conagra Way playbook, which includes investments to capitalize on significant behavioral tailwinds. And with that, I'll turn it over to Dave.

Thanks, Sean, and good morning, everyone. I'll start my remarks by calling out a few third quarter performance highlights, which are captured on Slide 37.

As we have detailed this morning, the business continued to perform very well throughout the third quarter. Strong execution from the supply chain and outstanding performance by our teams across the company enabled us to exceed expectations for net sales during the third quarter, while meeting margin and earnings targets as we continued to strategically invest in the business while managing inflation.

Overall, reported and organic net sales for the quarter increased 8.5% and 9.7% respectively compared to the same period a year ago. Adjusted gross margin increased 12 basis points to 27.5%, and adjusted operating margin increased 31 basis points to 16% in the quarter. Adjusted EBITDA increased 9.9% to $566 million in the quarter, while adjusted diluted EPS grew to $0.59, up 25.5%.

Slide 38 illustrates the drivers of our 8.5% net sales growth versus the same period a year ago. The 9.7% increase in organic net sales was driven by a 6.1% increase in volume connected to the continued increase in at-home food consumption as a result of the COVID-19 pandemic. A favorable price/mix impact contributed a 3.6% increase to organic sales growth.

As Sean mentioned, our organic sales growth was impacted a bit from the February winter storms that impacted our ability to deliver product for a short time during the quarter. Our strong organic net sales growth was partially offset by the impact of a 1.2% decrease associated with the divestitures of the Lender's, H.K. Anderson and Peter Pan businesses as well as the exit of the private label peanut butter business. As a reminder, we completed the divestiture of our Peter Pan business on January 25, which was approximately 2 months into our fiscal third quarter.

Turning to Slide 39. You will find a summary of our net sales by segment. In the third quarter, we saw continued growth in each of our 3 retail segments on both a reported and organic basis as the continuation of elevated demand for at-home food consumption benefited these segments. Our foodservice segment was negatively impacted by reduced demand away from home. Importantly, innovation momentum in our retail segments continued throughout the quarter.

Slide 40 outlines the adjusted operating margin bridge for the third quarter versus the prior year. As you can see, our adjusted operating margin increased 30 basis points to 16%, in line with our guidance range for the quarter. Our adjusted gross margin increased by 12 basis points in the quarter versus the same period a year ago as our margin levers of mix, cost management, fixed cost leverage and pricing more than offset the combination of inflation and COVID-related costs.

Included in the 180 basis points of COVID-related costs is 60 basis points of additional transportation investments that we made during the quarter. I'll discuss those in more detail in a moment.

A&P increased 11.8% in the quarter, primarily driven by higher e-commerce marketing investments, particularly for the refrigerated and frozen segment. And finally, our adjusted SG&A rate was favorable to our operating margin by 30 basis points versus a year ago as net sales grew at a faster pace than SG&A.

I'd now like to touch on certain transportation investments we made in the quarter. These are incremental transportation costs incurred on top of the core transportation inflation we experienced, so we've included these in our COVID-19-related costs in the margin bridge. These investments had a negative impact on our margins, but they helped us deliver more profit dollars.

As you can see by Q3 organic net sales exceeding guidance, demand was higher than we expected during the quarter. To adequately service this demand, we made the decision to invest approximately $15 million in the quarter. This meant aggressively seeking out every available truck and adjusting how we ship to customers. To best service demand for certain brands, we had to bypass our normal distribution network and ship directly to customers. While we incurred additional costs to implement these actions, which impacted our operating margin, this enabled us to minimize out of stocks, maximize on-shelf availability and maximize profit dollars.

COVID has provided a period of significant elevated consumer trial of our brands, and our innovation has outperformed expectations, allowing us to gain share with existing and new consumers. Investing to keep product on shelves to support this momentum and to support our retail customers while they manage tighter inventory levels was an easy business decision for us. While we expect demand to remain elevated for the foreseeable future, we believe we will be in a position to start rebuilding inventory over the next 2 quarters, which we believe will start removing the need for these incremental investments.

I want to take a moment to comment on the input cost inflation we're seeing in the market and provide an overview of what we're doing to navigate it. As you can see on Slide 42, inflation increased 3.9% in the third quarter. This was higher than our 3.5% estimate and reflects the broad-based impact on the cost of materials, manufacturing and transportation and logistics. We expect the rate of inflation to continue to accelerate over the next few quarters. Fortunately, we have a variety of levers that can be used to offset this pressure, including pricing. We have already mobilized our inflation-justified pricing plans with some actions already in market, others communicated to customers, and some yet to come. History shows us that price adjustments are more likely to be accepted in the market when industry-wide and broad-based input cost inflation occurs, and that's the environment we see today.

We will also leverage our capabilities beyond just pricing to offset margin pressure, including overall mix management, cost savings measures such as our ongoing supply chain realized productivity programs, and the optimization of our fixed cost leverage. In short, we will continue to closely evaluate the impact of inflation on our business and are confident in our ability to utilize our entire tool kit to manage through this environment.

Turning to Slide 43. You can see an outline of our adjusted operating profit and margin by segment for the quarter. We are very happy with the continued profit growth in our retail business in the quarter, which more than offsets the decline in foodservice.

Slide 44 summarizes the drivers of our third quarter adjusted diluted EPS from continuing operations. In the quarter, our adjusted diluted EPS of $0.59 increased by 25.5% compared to the same period a year ago. The growth in the quarter was primarily driven by the increase in adjusted operating profit associated with the net sales increase and margin expansion as well as reduced interest expense driven by lower debt.

Slide 45 summarizes Conagra's net debt and cash flow information. We ended the third quarter with our net debt to adjusted EBITDA leverage ratio at our longer-term target of 3.5x, which is down from 4.8x a year ago. With our balance sheet in a stronger position and given our strong operating cash flow, we have increased our investments in the business. Our year-to-date CapEx increased over $130 million compared to last year to fund important capacity and productivity projects.

The combination of the improved balance sheet and strong free cash flow generation has enabled us to return additional capital to shareholders via our recently increased dividend as well as by executing our first share repurchases since the close of the Pinnacle acquisition. During the quarter, we opportunistically repurchased 8.8 million shares for $298 million, demonstrating our willingness to capitalize on occasions when we believe we are undervalued. Looking forward, we will continue to be focused on executing a balanced capital allocation policy focused on driving sustainable value creation. We remain committed to maintaining solid investment-grade credit ratings as we use the strength of our cash flow and balance sheet to opportunistically play offense as compelling investment opportunities arise in the future.

Slide 46 summarizes our current outlook. As we've said throughout our comments today, Conagra's business is performing well, and we remain optimistic regarding our ability to generate continued strong performance in the quarters ahead. For the fourth quarter, we expect organic net sales to decline approximately 10% to 12% as we lap the 21.5% growth in Q4 a year ago. Our Q4 guidance represents a strong 2-year growth rate of approximately 7% to 9.5%. As a reminder, reported net sales will also be impacted by last year's 53rd week.

We expect fourth quarter operating margin to be in the range of 14% to 15%. This estimate includes the combination of continued transportation investments to support product availability at similar levels to Q3, the lag in timing between our pricing actions, and the expected acceleration of inflation as well as a continuation of the A&P investment increase that started in Q2. As a reminder, our fiscal fourth quarter is historically our lowest operating margin quarter given seasonality and as just mentioned, does not include a 53rd week.

Given these sales and margin factors, we expect to deliver fourth quarter adjusted EPS in the range of $0.49 to $0.55. Our fourth quarter guidance also continues to assume that the end-to-end supply chain operates effectively during this period of heightened demand.

And finally, we are reaffirming all of our fiscal '22 guidance metrics. As Sean mentioned, the benefits of the stickiness of COVID-related demand are not required to reach our fiscal '22 organic net sales guidance. While the current inflationary environment provides us more of a challenge on margin than we were originally expecting, we remain focused on utilizing our entire tool kit to deliver our profitability targets, which we are reaffirming today. When we report Q4 results in early July, we plan to provide more detail on our fiscal '22 expectations.

That concludes my remarks this morning. Thanks for listening. I'll now pass it to the operator to open it up for questions.

(Operator Instructions) And today's first question comes from Andrew Lazar with Barclays.

Sean, in conversations with investors more recently, there appears to be this sort of lingering concern that Conagra will take whatever action is necessary to deal with rising inflation in fiscal '22, even if such actions might have sort of negative implications beyond '22. So in other words, Conagra can hit its fiscal '22 goals, but do so in a way that is somehow deemed less sustainable or lower quality.

And I guess in light of rising inflation seen in today's results on margins and sort of the margin commentary for next quarter, I'd expect these concerns to only grow from here. So I guess I'd love your take on this and maybe to address this sort of very specific investor concern, if you could.

Sure. Well, the short answer is that, that concern is totally unwarranted, but let's [cut] here up for a second, just look at the big picture here.

Over the past 6 years, we have totally transformed our company and our culture, and the magnitude of the portfolio modernization we've delivered is arguably best in class. And that incredible work by our Conagra team put us in a position to capitalize on the unique and unprecedented trialing opportunity that COVID presented. We knew that our modernized products would perform and that our repeat purchases would be excellent.

So what did we do? We invested during the pandemic to maximize trial and try to capture the lifetime value of these new, mostly younger consumers. Look no further than our aggressive stance on transportation solutions and e-commerce in Q3.

So if you flash forward to fiscal '22, our conviction around getting our products, our modernized products into consumers' mouths won't change. We play the long game, and we do not burn the furniture to create better margin percent optics short term. This is my -- I think it's my ninth year as a public company CEO, and I've never taken that route, so I don't think that concern is warranted.

Great, and then a quick follow-up. I didn't hear, and I may have missed it, the synergy capture in the quarter. I don't think it was in the slide deck, and it's been in there the last couple of quarters. So maybe, Dave, if you could just comment on how that came in, in the quarter.

Yes, Andrew, we're right on target with synergy. There was $24 million of incremental synergy in the quarter. That brings us to $270 million cumulative, and we're still on track to hit our target of $305 million by the end of next year.

And our next question today comes from Ken Goldman at JPMorgan.

(inaudible) apologize if not.

We can hear you now, Ken. We missed the beginning.

We missed the beginning.

Okay. We'll try anyway and just cut me off if you can't hear me. But Sean, as you know, just to kind of piggyback a little bit on what Andrew was saying, one of the bigger investor questions is whether you can hit that 18% minimum margin number next year, right? I'm sure you hear that more than we do.

You obviously maintained that range today, but the 3Q margin came in lighter than you expected. 4Q's will as well. And then you have an acceleration of inflation into next year.

So despite your reiteration and even though pricing and savings are going to accelerate, there's an argument to be made that your current numbers are saying these tailwinds won't be quite enough to offset costs. So I guess my question is this: just how confident are you in that 18% to 19% range? And why isn't it somewhat at risk at least more than it was 3 months ago, given net cost inflation that we're seeing?

Well, we've reiterated '22 and we feel good about the '22 algorithm overall, Ken. And the precise permutation of how things unfold is not yet clear because things are moving around still quite a bit. But here's how I think about '22 in general.

Versus what we were originally envisioning, the top line clearly looks stronger. Margins look more challenged short term due to inflation and the lags that usually follow price increases.

And so given we're still in the midst of finalizing our annual operating plan and our pricing plans, it is premature to communicate the precise permutation of how things will unfold. But in our eyes, we expect things to unfold in such a way that we deliver the guidance overall.

And our next question today comes from Chris Growe with Stifel.

I just had a couple of questions here. For the first one just would be that as we think about the levers you have to offset inflation going forward, there's multiple levers obviously, pricing and promotional spending, those sorts of things. I'm curious in terms of like your cost savings and you have a little bit of residual synergies, but should we think of that as the first line of defense? And how much in the way of say, like productivity savings do you have to help offset inflation before you jump into actual pricing and other leverage at the pool, if that makes sense?

Yes, all right. So let me start, Chris, with a big picture here, and then go over to Dave with more granular detail. Here's how I think about this whole inflation/levers/pricing kind of concept.

Principally, when we're experiencing inflation as we are currently, we will be very aggressive to offset it using multiple levers like our cost programs, which you cited; our pricing, trade and mix. Now with regard to inflation-justified pricing, it's really there not a question of if we will move, it's a question of how closely the pricing action's impact on the P&L lines up with inflation's impact on the P&L. And here not all businesses are equal. The lag is typically shorter, as you know, in foodservice and in those retail categories with [simpler] (inaudible). Our expectation is to fully offset inflation over time and through all of these levers, and we're working very aggressively to do that.

And as I pointed out before, something else to keep in mind too is that the priority for both Conagra and our customers is to sustain growth. Now doing that means we got to keep our proven innovation machine running, and doing that means we have to offset inflation. So in other words, our customers understand this more often than not, because they've seen and they count -- now count on the tremendous vitality that our innovation programs have driven into important categories like frozen and snacks.

And last thing before I turn it over to Dave is by the way, I am very happy that we've been so aggressive in modernizing our portfolio for the past 6 years. Because you can see it in the numbers, the dedication that these consumers now have to our products will be another factor that helps us navigate this inflationary period. Dave, do you want to talk any more about the other -- the cost savings levers or anything?

Yes, sure. So Sean hit the pricing. As it relates to realized productivity, first of all, we have a very experienced supply chain organization with really strong processes across the entire network. So if you look historically, we've approximated 3% of cost of goods sold realized productivity savings if you go back historically. Efficiency in the plants, network opportunity sourcing, there's just a series of different areas, and we continue to execute projects to drive the cost savings opportunity. So obviously, this isn't changing as we look forward.

There's other levers though. As Andrew had asked previously, we're on track with our Pinnacle synergies to go from our $270 million where we are year-to-date this year to $305 million by the end of next fiscal year.

Less COVID-related costs in fiscal '22. As people become vaccinated, the entire end-to-end supply chain is going to benefit from less supply disruption, and that will enable us to reduce excess costs being incurred in fiscal '21 to support demand. The Q3 incremental transportation investment that I discussed in my remarks, that's one example. That was $15 million of investment just in this quarter. Another area is supplementing volume with [co-mans], both the incremental cost of the [co-man] and the incremental distribution cost to get it from the co-man to the customer.

And so that's another important lever. We're over $100 million year-to-date in those COVID-related costs that, as we look at '22, should really be an opportunity for us to get that out of the base.

We will have some headwinds with fixed overhead absorption and overall segment mix, but we think product mix is an opportunity for us. And then as we always talk about, margin-accretive innovation, our innovation continues to be strong, and we're really bullish on making sure that it's margin accretive.

So there's a lot of things, a lot of dynamics that's driving this right now. But based on the analysis we've done in the different scenarios, we think we have various ways that we can reach our '22 profitability numbers.

Okay. Great. That was helpful. And I have just one quick follow-on. In relation to those transportation investments you made, is there another $15 million in the fourth quarter? Is that the way to think about it? And is that basically helping you rebuild inventories more quickly? Is that also a way to think about that investment?

Yes, so I'm not going to give you the specifics. We do expect additional investment in Q4. I'm not going to say that it's exactly $15 million. It's a little fluid.

The overall objective is to optimize getting product to customers as quickly and efficiently as possible. So for certain categories in staples and snacking where inventory has been tight, we made the decision to bypass our normal DC distribution system network and shift directly from plant or directly from 1 selected DC. So that gives us better inventory, and it allows us to meet customer demand more efficiently, and it improves product availability. But it comes at an incremental cost, inefficient shipping lanes and sporadic frequency of distribution routes. So there's a lot of dynamics there that's going to continue into Q4, and we'll manage that number the best we can.

Our next question today comes from David Palmer in Evercore ISI.

Just to follow up on some of those questions with regard to fiscal '22. You mentioned pricing actions and you mentioned increasing inflation over the next few quarters.

Do you anticipate that the gross margin trends and perhaps earnings growth will be more of a back weighted -- will make fiscal '22 more of a back-weighted year, given the timing of inflation versus pricing? And I have a quick follow-up.

Yes, David. We're not going to get into specifics on fiscal '22 right now. As we said in my comments, we expect the inflation rate to accelerate into Q4 and into early fiscal '22. But we'll give more color in July when we give our Q4 earnings.

David, it's Sean. We've talked about how these acute inflationary periods work with respect to pricing many times over the years. And this lag concept is an important one, right? When you see broad-based inflation across an industry across the basket the way we're seeing now, you tend to see the whole industry kind of acknowledge that there -- they've got to contend with these things. They've got to deal with it.

And not, as I said a few minutes ago, not all businesses are created equal in terms of when the positive impact of pricing shows up in the P&L versus the negative impact of the inflation. There can be a lag.

So over the course of a full year, that's kind of how you tend to see it go as you see more of a headwind in the short term, and then you see recovery as pricing goes into the marketplace. And then oftentimes, there's a benefit the following year as you begin to wrap.

So we'll see how it plays out this year. What we can say at this point is we're flat out on all of these integrated margin management levers that we go after in times like this.

And just a follow-up on the topic of setting up fiscal '23 after you hopefully achieve your targets in fiscal '22. If you're achieving -- if the stickiness is above what your guidance implies, and you mentioned that you're not anticipating with this guidance at the COVID-related trial will relate -- will end up with stickiness in that demand. But if you do have that, you do have strong multiyear sales trends, and you have room to reinvest, how -- what -- where do you anticipate those investments going from here? Where do you see the most opportunity?

David, it entirely depends upon what is the barrier to maximizing trial in any given window. So Q3 is a very instructive example in this regard. You can look at our top line in Q3 and say, wow, we beat our guidance on the top line. Was that because of the A&P increase? The answer to that is no. We planned for a double-digit increase in A&P, and we still over-delivered on our top line.

So what was it exactly that drove the incremental lift on the top line? It was a deliberate and spontaneous choice by our management team to invest in transportation solutions that are atypical for us. They come at a higher cost, and we chose to do that and make that investment.

Why did we do that? Because we've got phenomenal repeat and depth of repeat data. And so we're very confident in the ROI of that investment because we're very serious about investing in the business in the short term during this trial period in order to capture this lifetime value. So we've been doing it.

Also, the decision to continue to lean hard on e-commerce where we tend to get the best ROIs, we tend to over-index most with the younger consumers who are going to be the ones that deliver that lifetime value. This is very purposeful in our regard.

And we are absolutely -- we don't have any comments today on beyond '22. But what we can say is we're playing the game hard to optimize what beyond '22 looks like in terms of our consumer base because we're having such good fortune generating loyalty.

And our next question today comes from Alexia Howard with Bernstein.

So my first question is you've obviously made a number of divestments over the last several months and maybe longer than that. Now that we're coming up to the expiration of the deferred tax assets, are we done with that? Or is it possible that there might be more of that to come?

Well, obviously, we have been active over the years in divestitures, and our philosophy on that has really not changed. It's been that if there's a business that doesn't fit strategically, if it's a chronic drag on our sales or chronic drag on our margins, or somebody else just really puts tremendous value on it, we're open to divestitures should a legitimate offer come along that we see clearing the hurdle of the intrinsic value of the business. And that's kind of always been our case. And that's -- we're fully aware of the timing of the capital loss carryforward. And we have divested assets, leveraging that along the way.

And frankly, we have been open to other things as well, but we're just -- it's not strategic for us, let me put it this way, to pursue utilizing the capital loss carryforward for the sake of utilizing the capital loss carryforward. It would be strategic for us to divest an asset that didn't fit or was something that wasn't a priority for us, as long as the valuation that was inbound cleared the intrinsic value of that. And if that were to happen at any point in time, we would be open to it. When that's in place, we've done deals.

Great. And then as a follow-up, your price/mix is obviously, in the third quarter at least, nicely positive. I guess that's partly because of the pandemic and the, I guess, maybe lower promotional activity or maybe it's different. But I'm curious about the mix component there and what exactly is driving, if it is positive, the mix piece? And how you expect that to develop going forward?

Alexia, just roughly of the price/mix benefit we saw in the quarter, it's roughly 50/50 mix and kind of price and promotion. I'll kind of put it into those 2 buckets.

As it comes to the mix part of it, a lot of that is really segment mix. So we are growing our domestic retail segments significantly, which are strong in terms of sales mix relative to our foodservice business, which is down. But we're also seeing favorable mix within the business. So it's really a combination of segment and kind of brand product mix, if you will.

Yes, Alexia, Sean here. Just one other thing that I would encourage the investors to think about as they think about our top line long term, if you think about our business, you've got 3 consumer domains. You've got frozen, you've got snacks, and you've got staples.

And so what does a long-term investor have to believe to feel good about our top line going forward? I think they've got to believe that there's continued growth opportunity in frozen. I certainly do.

They got to believe there's continued growth opportunity with this awesome snacks business we have. I certainly do.

But what's really interesting post pandemic is the staples business. And that's a very strong margin business for us, and it's been performing phenomenally well. And this whole dynamic with younger consumers learning how to cook, realizing the tremendous value proposition of cooking simple meals at home, beginning to form families and this kind of at-home nesting, it's a real phenomenon. And that's a good thing because it would lead a reasonable person to believe that, that business is at least going to be stable.

So if you think about the total mix of the portfolio, you've got a big, profitable, stable business and 2 growing domains. I like the way that shapes up for years to come.

Our next question today comes from Bryan Spillane with Bank of America.

Just quick ones for me. And maybe I might have missed this, but Dave, guidance, is the '22 reaffirmation, is that net of Peter Pan divestiture? Or is that -- I guess that's the question. Is it net of the divestiture or not?

Yes, it's net of the divestitures. That's out of there.

And then second question, just I guess, Sean, is we're thinking about the possibility or the potential that some of this demand behavior sticks going forward. How does that affect -- or it does have an impact at all on manufacturing, manufacturing capacity as you assess this, I guess, over the next year or so. I guess what I'm asking is, is there a potential that you might have to elevate capital spending for a while, or make some acquisitions to expand capacity, enough manufacturing capacity to sort of support a base that would be elevated versus where it was in 2019?

Yes, Bryan, we've already been doing that across a number of our businesses, and we'll -- top line remains strong. We'll continue to do that. Because if you look over time at the IRRs we get on numerous broad-based capital investments, the best IRRs are typically those associated with increasing capacity on our growing businesses, like Slim Jim and others. So that's a great return all the time, and we'll continue to look for opportunities to do that.

And we spread it out based on how we need it. But we've already been making those investments and added capacity, both internally and with co-packers. Interestingly, the way, as you all know, works with some of these co-packer investments is those can be a headwind to margins in the short term. But if you believe that the demand on the other end of the consumer there is sustainable, typically when you repatriate that capacity back in house, that's expansive to margin at that point in time. So that concept remains intact as well, and we'll look for opportunities to do that going forward.

And our next question today comes from Jason English at Goldman Sachs.

Congrats on another strong quarter. A couple of questions, first, reasonably tactical one and building off of Alexia Howard's question. The price/mix contribution, I think you said around half from lower promotions.

With the pricing actions you're putting in place, is it reasonable to expect a decent chunk of that to be offset or mitigated by promotions coming back into the system? Or do you think it's reasonable we could actually continue to operate at a much more subdued promotional level?

Well, if you just go back over the years, Jason, you've seen us pretty dramatically ratchet down our promotion reliance over the last 6 years. And I think probably on average, we probably reduced our reliance on promotion more than most food companies. And frankly, COVID again illuminated some of the inefficiency that has emerged over the years in some of the traditional promotions. It's just the lift that the industry used to see on a lot of categories are a lot smaller today.

So it's -- we're big believers in redeploying any inefficiency we can find in our total marketing spend and higher ROI ways. That could be in trade. As you've seen before, we've found tremendous inefficiency in some of the A&P lines. And we've actually managed and reinvest some of that in-store with retailers, but not against traditional kind of "stack them high and watch them fly" types of investments.

So that type of -- that priority is always intact for us, and we will continue to try to push our -- over time, our reliance on price-based promotion downward. Obviously, last year was kind of an extreme base. And so we'll see how that evolves over time, but principally that's how we think about it. Dave, do you want to add to that?

Yes. The only thing I would add to that is that, Jason, that's why I said price and promotion, because we really look at them together when you're looking at the impact of price. Obviously, you have to look at not just the list price, but how you promote, what your strategy is to promote as well. So it all goes into the net realized price calculus. So just wanted to clarify that.

No, for sure. That makes a lot of sense, okay. And on that topic of allocation to maximize return, you talked a lot about your investment in e-com and A&P. I'm assuming that's -- you're referring to retail media.

It sounds like Walmart is making a pretty big push to try to drive more with connect and integrating it with its joint business planning, coverage as well. Is it reasonable to expect that investment to continue to climb next year? It's part 1 of the question.

And part 2 is if so, where can you find it? Can this come out of trade? Or does it need to be incremental dollars into the P&L?

We're -- as I've mentioned many times, we're agnostic to where we put brand building dollars as long as we get good impact and a good ROI. And so your example on I think it was a number of years ago, I said look, a lot of people could have come to us and offer to deploy media. Media is what we choose to run. And it's a question of what's the effectiveness and what's the ROI on that. So we're open-minded to different kinds of investment.

But by the way, that's not all that we've invested in an e-commerce. As we talked before the importance of investments in search and other things, so that we show up well in the digital shelf, so to speak, are very important. But we have been pretty good at keeping our overall level of total marketing investment rock-solid over the years. We just tend to move it around from pocket to pocket based on what specific opportunity in any given window gives us the greatest impact and the greatest return on investment.

So you can move around it. It sounds like the answer is if it has to grow, you can (inaudible)

Yes. That's typically -- and by the way, if we -- just principally, if we were ever going to add incremental investment to what we would do. It would be because we see a return for that. And that's where -- what I mean by that is those incremental investments to me, when you see opportunities where they're not a tax on EBIT, but they're actually an accelerant to EBIT because of what they do at the top line, that's positive ROI. We've always been open to that kind of thing. That's not something we're forecasting, but it's just principally how we think about those kinds of investments.

And our next question today comes from Robert Moskow with Credit Suisse.

I was wondering in your forecast for the rest of the calendar year, have you baked in any assumptions for government stimulus programs running out SNAP benefits, which are elevated now, dissipating? I would imagine that would affect your consumer base a little more than most packaged food companies. You tell me if you agree.

And is it possible to disassociate that with the stickiness you expect from all the new trial you got from COVID? Have you made your macro overlay assumptions there?

Well, with respect to the stickiness, stimulus and other things aside, we obviously think it's real and that our conviction there is growing even stronger day by day. But we don't need that stickiness, as I said before, to get to our revenue algorithm. Hopefully, as the database case for stickiness becomes more concrete, some of the reflective cynicism in the market around stickiness will pivot to justified optimism. And I think that's obviously going to unfold based on how the data continues to unfold.

In terms of things, regulatory changes, tax changes, stimulus changes, things like that SNAP, we do our best to try to prognosticate exactly how that's going to land and factoring it into our forecasting processes. And you should assume that we do that. We've got -- I think you guys know, we've got a really impressive demand science team, and they look at macro factors like that that could have an impact. And we leverage them to get to the best forecast we can get to.

Okay, and then one quick follow-up. Are you expecting to increase A&P double digit again in fourth quarter?

Yes. That's part of the guidance, I did -- that was in my prepared remarks. That's correct.

And ladies and gentlemen, this concludes the question-and-answer session. I'd like to turn the conference back over to the management team for any final remarks.

Great. Thank you. So as a reminder, this call has been recorded and will be archived on the web as detailed in our press release. The IR team is available for any follow-up discussions that anyone may have. Thank you for your interest in Conagra Brands.

Thank you, sir. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day.