康尼格拉食品 (CAG) 2020 Q3 法說會逐字稿

Good morning, and welcome to the Conagra Brands Third Quarter Fiscal Year 2020 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded. I would now like to turn the conference over to Brian Kearney from 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 during today's call. While we are making those statements in good faith, we do not have any guarantee about the results that 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 reconciliations to those adjusted measures to the most directly comparable GAAP measures can be found in either the earnings release or in the earnings slides, both of which can be found in the Investor Relations section of our website, conagrabrands.com.

Finally, we will be making references to Total Conagra Brands as well as the Legacy Conagra Brands. References to Legacy Conagra Brands refer to measures that exclude any income or expenses associated with the acquired Pinnacle Foods business.

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

Thanks, Brian. Good morning, everyone, and thank you for joining our third quarter fiscal 2020 earnings call. On behalf of Conagra Brands, I want to start by expressing my heartfelt hope that you and your families are staying safe during this unprecedented time.

Today, I'm going to address 2 main topics: Our response to COVID-19 and its impact on our business as well as the underlying trends that we saw in the third quarter, which ended just before the impact of COVID-19 started. Rest assured that we're taking all necessary precautions to protect the health and safety of our employees and our ability to safely and reliably meet consumers' needs. For the most recent status of our efforts to respond to COVID-19, please visit conagrabrands.com. We'll continue to provide updated information on our site as the situation evolves.

As I'll describe in more detail in a moment, we've taken a number of steps to ensure our supply chain continues to operate well. We're incredibly proud of our teams who have been producing and delivering without disruption.

While we all remain focused on executing through this rapidly evolving situation, I don't want to lose sight of the fact that we've made significant progress against the operational objectives we established for fiscal 2020. In many ways, our progress against these objectives is enhancing our ability to navigate this crisis. Recall, at the outset of fiscal 2020, we set out to execute on integration, synergy capture and deleveraging, drive strong consumption growth in frozen and snacks, improved trends in Hunt's Tomatoes and Chef Boyardee and the trend in the Legacy Pinnacle business, and drive innovation and growth in Gardein. I'm proud to say that through the third quarter, we remain squarely on track with all of these objectives.

And from a financial standpoint, the third quarter results are in line with the expectations we provided at CAGNY. As we previously described, industry softness, which started in December in foodservice and pivoted to retail in January, put pressure on consumption trends in several of our key categories, which more than offset share gains. As expected, consumption trends recovered in February prior to COVID-19 impact. It's important to keep in mind that our third quarter ended on February 23. At that time, there were very few reported cases in the U.S. and, notably, no widespread change in behavior. As we all know, that has changed significantly in recent weeks.

From the second week of our fiscal fourth quarter-to-date, we've experienced the unprecedented impact of COVID-19 as consumers have stocked up on food and shift rapidly to eating more at home. Given the quality of our brands and the categories we participate in, Conagra is well positioned to serve consumers during this time of disruption and extraordinary demand. Our team is hard at work in close coordination with our customers to ensure that consumers have access to the food they need to stay safe at home.

At this point, the magnitude and duration of the COVID-19 impact is still uncertain. However, I can tell you that we expect to exceed our prior full year guidance for total company sales and profit metrics, assuming the end-to-end supply chain continues to operate effectively. We will provide more detail on the impact of COVID-19 in a moment. But first, we would like to walk you through the highlights of the third quarter.

During the third quarter, our performance was in line with the updated expectations that we provided at CAGNY. Organic net sales growth decreased 1.7%, while our adjusted operating margin was 15.7%, and our adjusted diluted EPS from continuing operations was $0.47 for the quarter. As we noted at CAGNY, we saw category softness in January that was greater than anticipated. At the time, we told you that our more recent data was improving, and we expect it to bounce back, and that's exactly what happened.

As you can see on Slide 7, Total Conagra retail sales returned to growth in the final 4 weeks of February and sustained a normal rate into the first week of Q4. Clearly, even before the current disruption due to COVID-19, we were well on track and had already seen the expected rebound in consumption trends.

Not only did we see growth of 0.9% in the 4 weeks ended February 23, but what we saw in the week ended March 1, which is in our fiscal fourth quarter, reaffirmed this return to consumption growth. And during the quarter, we continued to deliver on integration, synergies and deleveraging.

On integration, we have been converting Legacy Pinnacle plants over to SAP. And through Q3, this multiyear process has been progressing on plan. We captured $33 million in incremental synergies, increasing our total through the end of Q3 million to $145 million. And we made further progress on reducing our net debt position by paying down $450 million of debt during the quarter.

Slide 9 demonstrates our continued success in the important frozen category. As both graphics demonstrate, we maintained strong growth during the quarter across our frozen portfolio, both for Total Conagra Brands and Legacy Conagra Brands. As we will discuss later in the presentation, Total Conagra's frozen growth has been driven by both Legacy Conagra and Legacy Pinnacle.

Slide 10 shows the outsized performance of Conagra's Frozen Meals within the category. Not only did we have yet another quarter of gaining share of shelf and share of sales, but we also did so at an accelerated rate.

Our snacks segment reported solid growth in the third quarter. Total snacks were up 2.9% during the quarter and 8.7% on a 2-year basis. Our results were led by our meat snacks and seeds businesses, which delivered growth of 8.4% and 5.9%, respectively.

And as Slide 12 shows, we continued to gain share in many of our snack categories in Q3.

Another key objective for fiscal 2020 was to improve trends in Hunt's tomatoes and Chef Boyardee. As you can see on Slide 13, that's just what we've done. Over the 5-week period ended February 23, Hunt's tomatoes and Chef Boyardee gained 2.2% and 4.5% in dollar sales growth, respectively. And both brands also grew share of retail sales over that same period, as outlined on Slide 14. It's worth noting that these trends for Hunt's tomatoes and Chef Boyardee continued into the first week of our fiscal fourth quarter prior to the impact of COVID-19.

Slide 15 shows a milestone for Conagra as we bent the trend on Legacy Pinnacle on both a 1-year and a 2-year basis. Recall that in December 2018, we outlined a number of actions that were needed to get Pinnacle back on track. We also indicated that we did not expect to see the impact of those actions until the second half of fiscal 2020, which, as you can see here, is exactly what has occurred.

And Slide 16 shows how we've been able to bend the trend in the big 3 legacy Pinnacle brands by implementing the Conagra Way playbook. We started with Wish-Bone, where the missteps came from several executional issues, including a label change, which we quickly addressed to stabilize the brand. As a result, we saw an immediate spike in retail sales before returning to more normal levels.

Birds Eye, which is our biggest brand, took a little longer as the playbook required us to remove lower-performing SKUs, which negatively impacted sales and distribution. Notably, Birds Eye is now contributing to our growth as the innovation we launched in the first half of fiscal 2020 builds momentum with more innovation to come.

With respect to Duncan Hines, we've made great progress on reframing the brand as a sweet treat but recognize that there's more work to be done. We're focused on introducing more on-trend innovation as we trim lower-performing SKUs. While it will take time to return this brand to growth, we're confident in the ongoing implementation of the Conagra Way playbook.

Another Legacy Pinnacle brand that has benefited from the Conagra Way is Gardein, which is accelerating at very strong rates. As a reminder, we've made significant investments to expand Gardein's manufacturing capacity, which came online earlier this fiscal year. As the slide shows, the brand's growth is attributed to more than just meatless burgers and includes meatless options for chicken, seafood and sausages, to name a few. As you can see, it's clear that we remained on track with all our fiscal 2020 operational objectives through the third quarter.

Now let's turn to the current quarter and the balance of the year. Typically, we would be spending our time on this call reaffirming our guidance and discussing the shortlist of initiatives underway to close out the year. But this year is unprecedented, and the impact of COVID-19 will be significant.

Let me start by saying that our top priorities right now are the health and safety of our employees as well as our ability to safely and responsibly meet customer and consumer needs. With respect to our results, the magnitude of the impact is difficult to predict. What we know to date, the Q4 retail demand surge is significant and spans multiple retail channels, including e-commerce. While our Foodservice segment is facing headwinds, that impact is more than offset by increased demand in our retail segments. Given the depth and breadth of our portfolio, we are well positioned to meet this increased demand for at-home consumption. Having all these brands and capabilities under one roof is enabling us to meet a wide array of customer and consumer demands.

Importantly, we've been able to address this retail demand surge because of a strong business continuity plan that we were able to activate as soon as the market disruption began. I'm very proud of the extraordinary efforts across our company and the way our teams have supported each other and our business, all in the pursuit of ensuring that consumers are able to access food during this time. We have decided to temporarily delay some Legacy Pinnacle plants SAP implementation to prioritize supplying customers with the food they require now. But our integration plans are otherwise on track. We will continue to consider and prioritize our business needs as the COVID-19 situation unfolds.

And I'd like to take a minute to talk a bit more about the Conagra team and, in particular, to highlight the exceptional work of our supply chain team. While demand has sharply increased, our order fulfillment rate so far in Q4 has remained above 90%. This is a testament to the systems we have in place and the commitment of our people. This has been remarkable to see, and I'd like to thank our Chief Supply Chain Officer, Dave Biegger, and the entire supply chain team for their incredible efforts.

Our supplies of ingredients and packaging remain sufficient, and we've experienced minimal disruption so far in the quarter. All of our North America manufacturing facilities are open and running at high levels of utilization, and our distribution network remains fully operational. Our plants and locations have the resources and critical equipment they need to operate in full compliance with current regulations and CDC guidance. And I'm proud of the remarkable level of collaboration among our sales, customer order management and supply chain teams. That collaboration, along with the work we're doing with customers, is enabling us to ensure we are able to supply consumers with the food they need. Great job all around.

Although providing specific Q4 guidance is not possible due to the uncertainty of this situation, we do want to give you a sense of our experience so far. The chart on Slide 20 shows what we've seen in the market to date. You can see that there has been a material increase in demand the past few weeks. While some categories are benefiting more than others, all categories and all temperature states are seeing increases. In addition to a significant uptick in sales, our execution has enabled Conagra to outperform and gain share in the categories in which we compete. The data we're showing in the chart is only measured channel data. It's important to note that demand has surged broadly across retail channels, including e-commerce as well as for pickup and delivery, most of which are not reflected in this data. Similar to our measured channel retail business, our e-commerce business is also up in sales, outpacing the competition and gaining share.

Overall, we made good progress during the third quarter of the year. Our quarterly results were in line with our updated expectations, and we remained on track with all of our fiscal 2020 operational objectives. Going forward, our teams are prioritizing health and safety, adapting well and operating effectively to ensure consumers are able to access food they need. And while this is clearly an unprecedented time, we will not lose focus on executing the Conagra Way playbook. Our brand-building and innovation processes remain critical pieces to our long-term success. We're updating our full year guidance today to note that we now expect to exceed our prior full year guidance for total company sales and profit metrics.

Beyond fiscal 2020, it's important to note that we are also working with customers as they reevaluate the timing of promotions and shelf resets as they look to minimize in-store disruption during this time of surging demand. Finally, while the situation is still evolving, we believe the sharp increase in at-home eating occasions is generating trial among new consumers that we did not anticipate accessing. We view this dynamic as a long-term opportunity for our portfolio overall and, in particular, our leading frozen business.

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

Thanks, Sean, and good morning, everyone. I hope you and your families are all staying healthy and safe. Before I get into the details, I want to remind you that Q3 has been the first full quarter following the anniversary of the Pinnacle acquisition. As a result, Pinnacle's full quarterly results are now reflected in our organic figures.

I'll start my remarks this morning by calling out a few highlights from our performance for the quarter, which are outlined on Slide 23. As Sean discussed, our Q3 performance was consistent with the expectations we've provided at CAGNY. This included broad-based category softness early in the quarter, and a return to consumption growth in February prior to the COVID-19 related surge in demand. I'll unpack these results further in the slides to come. But overall, for the third quarter, reported net sales were down 5.6% versus the same period a year ago, with organic net sales down 1.7%. The organic net sales decline was in line with the updated expectations that we provided in February.

Adjusted gross profit decreased 10.5%, and adjusted operating profit declined 8.9%. We continued to operate efficiently from an SG&A perspective, capturing strong synergies.

Adjusted EBITDA, which includes equity method investment earnings and pension and postretirement nonservice income, decreased 7.1% in the quarter. And adjusted diluted EPS decreased 7.8% to $0.47 for the quarter. Again, this was in line with our updated expectations.

Let's jump into net sales a bit more. Slide 24 depicts the 5.6% change versus the same period a year ago. As you can see, the broad-based category softness that we discussed at CAGNY drove our volume down 1.3%. Also our price/mix was unfavorable 40 basis points as we continued to support many of our brands with incremental promotions. As I mentioned on prior quarterly calls, we expect that our year-over-year change in retailer investments to be much smaller and less material in the second half of fiscal '20 and beyond now that this type of spending is in our base. As a result, we will no longer be breaking out that bridging item and will return to our historical approach of showing just the impact of price/mix overall.

Moving to Slide 25, you can find our sales summary by segment. In the quarter, organic net sales for the Grocery & Snacks segment decreased 3.6%. The snacks business continued to perform well. However, this segment was negatively affected by weather with a warmer-than-normal winter this year stacked against an abnormally cold prior year. On a reported net sales basis, divestiture activity subtracted 5.9%. Organic net sales for Refrigerated & Frozen increased 0.3% as the frozen business continued to perform well behind the recent innovation launches. Importantly, as Sean mentioned, we saw Frozen Meals continue to gain share at an accelerated rate in the quarter. The strength in the frozen business continued to be somewhat masked by declines in the refrigerated business.

Turning to our international segment. Quarterly net sales and organic net sales for the segment decreased 3.2% and 1.9%, respectively. Throughout the quarter, the segment continued to benefit from the growth in the Canadian snacks business and frozen businesses. Recall that earlier this year, we said that the business in India had a transitory headwind that would rebound in the second half, and that is what we saw in Q3. These benefits were more than offset by economic challenges primarily in Mexico, and certain planned value-over-volume actions.

Net sales for the Foodservice segment decreased 8% in Q3, while organic net sales decreased 2.2% as divestitures subtracted 5.8%. The organic net sales decrease was driven by volume declines of 4.6% as a result of soft industry traffic trends early in the quarter that were partially offset by a 2.4% improvement in price/mix.

Turning to Slide 26, you can see the adjusted operating bridge for the quarter versus the prior year. As I mentioned on our second quarter call, input cost inflation did start to increase in Q3. In the quarter, inflation was just over 3%, which translated into a 240-basis-point headwind to margin. Importantly, however, our gross margin expansion levers such as realized productivity, pricing, mix and synergies continue to be effective in Q3. The increased promotional support in the quarter partially offset these benefits, resulting in a 90-basis-point improvement in gross margin. A&P had only a modest impact on margin in the quarter, while reduced SG&A spend benefited our operating margin by 100 basis points during the quarter.

Slide 27 highlights the significant progress that we've made to date on our overall synergy capture from the Pinnacle acquisition. In Q3, we realized $33 million of incremental synergies, bringing our total synergy capture through the end of Q3 to $145 million. We remain on track to achieve approximately $180 million of synergies by the end of fiscal '20, with $20 million being reinvested into longer-term business opportunities. We also remain on track to deliver our total synergy target of $305 million, again, with $20 million of that being reinvested into longer-term business opportunities.

Turning to Slide 28, you will see an outline of our adjusted operating profit and operating margin for the third quarter. Our adjusted operating profit decreased 8.9% in Q3, and our adjusted operating margin came in at 15.7%. Across our segments, realized productivity and cost synergies benefited our operating profit in the quarter. These benefits were more than offset by the impacts of higher input costs, lower organic net sales, inventory write-offs, lost profit from divested businesses.

Slide 29 outlines the various drivers of our Q3 adjusted diluted EPS from continuing operations. In Q3, our adjusted diluted EPS of $0.47 decreased by $0.04 compared to the same period a year ago. The decrease in adjusted operating profit and higher tax rate during the quarter more than offset the benefit from improved pension income and interest.

Slide 30 summarizes Conagra's net debt and cash flow information. I'm sure that our perspective on the balance sheet and liquidity are top of mind in these uncertain times. I'll start by reminding you that we have made significant progress towards our deleveraging and free cash flow targets in recent quarters. Since the closing of the Pinnacle acquisition through the end of Q3, we have reduced total gross debt by over $1.5 billion, improving our balance sheet and the overall health of our business. With respect to Q3, we reduced debt by $450 million while our net debt balance at quarter end was $9.9 billion, and the net debt leverage ratio was 4.8x. At the end of the third quarter, our average debt maturity was approximately 8.8 years. Our weighted average coupon was approximately 4.7%, and approximately 92% of our total debt was fixed.

Free cash flow year-to-date is $641 million, marking an improvement of over $100 million against the same period last year. We remain on schedule with our deleveraging targets and are confident we will achieve our fiscal '21 leverage target of 3.6 to 3.5x.

Overall, we remain confident in the strength of our balance sheet, and we have many options for maintaining liquidity. First, we ended the quarter with $99 million of cash on hand. We expect stronger cash flows in Q4 due to the normal seasonality of our business and because of the increased retail demand we're experiencing in light of COVID-19. Our capital allocation priorities remain constant. We are committed to maintaining our dividend, deleveraging and maintaining a solid investment-grade credit rating. Along these lines, we anticipate deleveraging further in Q4 of fiscal '20.

In addition to cash flow from operations, we also have a $1.6 billion fully undrawn revolving credit facility. During certain months of the year, we issued commercial paper against this revolver to fund working capital needs. We did not need to access the commercial paper markets during Q3, and we don't anticipate needing access during the rest of Q4. Given our strong cash flow and borrowing capacity, we have many options available to fund upcoming debt maturities in August and October.

At CAGNY last month, we discussed that we continue to explore smart divestitures that can help sculpt top line performance and generate cash flow to support deleveraging. By smart, we mean ensuring that any potential divestiture will deliver a valuation that exceeds our intrinsic value. In this environment, our brands are growing and playing an important role for consumers, and they are generating sales and cash flow in excess of historic levels. While we continue to evaluate portfolio actions, we do not feel pressure to pursue any divestitures that are not value-creating.

Now recognizing that our new guidance isn't specific, I want to give you some color on what we do know and what we don't know at this point. What we do know is that our retail businesses have seen accelerating shipments. In our domestic retail business, which is about 80% of total company sales, total fourth quarter-to-date shipments have increased approximately 50% versus last year, similar to the most recent consumption data. Internationally, the impact has been a bit mixed, with the Canada retail business seeing increased demand but some softness in global export.

All told, quarter to-go retail shipments are difficult to predict, given the wide range of possible outcomes. Just as the retail businesses are seeing a surge in demand, our Foodservice business, which is about 10% of total company sales, is beginning to experience the negative impact of the COVID-19 situation. So far in Q4, Foodservice shipment declines have accelerated, and trends imply a Q4 organic net sales decline that could be in the range of down 50% to 60% versus last year.

Turning to profit. As you would expect, we believe that the significant demand surge in the retail businesses, which are the vast majority of our sales, will positively benefit profit versus our prior guidance. We also expect that the mix of sales and operating leverage of the increased volume will benefit gross margins. Just how much is too speculative to forecast at this time as we are also increasing investment where needed to ensure we support the surge in demand. We are incredibly proud of the investment we are making in the supply chain to meet demand. Not only are we investing as needed to meet customer orders, but we are providing direct financial support and recognition to our people and communities.

I'd now like to turn to our fiscal '20 guidance on Slide 33. It was just a bit over a month ago that we shared our updated fiscal '20 guidance. And as we told you at CAGNY, we were already seeing improving trends in our categories, giving us confidence in our ability to deliver those updated results. However, as a result of what I just discussed about Q4 to date, we are now unable to forecast Q4 with specificity, but we can say that we expect to exceed the full year guidance on all sales, profit and cash flow metrics. Although this situation remains highly dynamic, we now see upside to the guidance we provided due to the quarter-to-date surge in consumer demand and the related sales and profit impacts.

What we don't know is how long the impacts of this pandemic will last. Nor do we know exactly how consumers will continue to adapt to the situation in the immediate term or in the longer term as we move into fiscal '21. As Sean mentioned earlier, our portfolio is well positioned to meet this increased consumer demand, and our team is focused on working with customers to make sure that orders and shipments remain uninterrupted during this time of need. As long as our strong execution continues and there are no other material disruptions to our ability to provide products safely to our customers, we expect to exceed our fiscal '20 guidance across all sales, profit and cash flow metrics.

Thanks for listening, everyone. That concludes my remarks. Sean and I are happy to take questions. Tom McGough and Darren Serrao are not joining us today as we wanted to minimize the number of speakers since we are managing this Q&A from different locations this morning.

I'll now pass it back to the operator.

(Operator Instructions) And the first question will come from Andrew Lazar with Barclays.

I've got 2 questions, if I could. First, Sean, wanted to dig in just a little bit on your comment around the potential, maybe over a longer period of time, for some stickiness maybe, given -- in light of the very significant, unanticipated trial that you and a lot of your peers are getting in relation to the current crisis. Is there any data maybe that can add a little context around this? I know it's early, but maybe from some of your panel data that you track around some of the increases in either household penetration that you've seen, with some of the quality enhancements you've done, particularly in the frozen space, maybe what some of the repeat rates or -- look like or the ability to gain some of the new trialers that might not have, let's say, tried this product in the last several years or so? Any perspective there would be really helpful. And then I've just got a follow-up.

Okay, sure, Andrew. Let me tackle that. The concept you're raising is that because we've got this crisis situation and people are eating much more at home and not away from home, products like ours are getting levels of trial that were not anticipated, and that could turn into consistent users over time as that trial converts to repeat.

I would tell you, that makes sense to me, both intuitively and in terms of the very early data we're beginning to see. There's been a massive amount of transformation in our categories in the last 5 years. Frozen, in particular, doesn't even closely resemble the category that it used to be. The quality of the food is in a completely different place. And we've seen consumers so far who have tried that new food respond extremely favorably to it, and large established brands that had long been forgotten are growing strongly again.

Now because of this crisis situation, people are at home. As you know, everybody can see it. They're stocking up, and they're stocking up with foods of all kinds across all temperature states, including categories like frozen. So just logically, we know we are getting higher levels of trial here during this phenomenon.

In terms of data that backs it up, quite frankly, it's just too early to point to a lot of data points. The one place I can tell you that we do look that tends to be a leading indicator is e-commerce. And in the world of e-commerce, what we are seeing is that we are reaching a large number of new triers that we had not reached previously. Now as you think about how that might convert to repeat, you all are probably accustomed to looking at national average repeat rates. Repeat rates will vary depending upon the users. So early adopters, super heavy users will have higher repeat than light users. When you get new triers like this, you tend to be getting lighter users. So it may not be the kind of repeat rates we get from super heavy users. But the point of all of this is it should help categories like frozen. It should help some of our other categories that people may have forgotten about, but it's just too early to quantify the impact of that.

I would also tell you that we do expect, as this thing gets behind us, that we'll see a return to people eating out. Americans love their restaurants. They love to eat out. And obviously the foodservice space is hurting badly right now, and so we're rooting for that side of the business to bounce back as well.

Great. Just a quick follow-up would be on the margin and profitability side, I just want to make sure I heard it right. It sounds like you've got a number of puts and takes. On the positive side, of course, all of the increased volume leverage that's coming through from running at very high levels of utilization and whatnot, maybe some of the -- if there's a reduction in assortment and focusing on the longest run length SKUs to maximize output and things like that, I would think, would be on the positive side of the ledger. On the other hand, there are some increased costs, as you've talked about, whether it be for employee benefits and things like that and just the simple inefficiencies of maybe running at, whatever, 100% utilization in inside. But it sounded like you may not know the exact magnitude in the way it all comes together, but the balance of those things, at least of what you're seeing so far, are more to the positive than the negative. I just want to make sure I kind of heard that right.

Dave, you want to take that one?

Yes, I will. Thank you, Andrew. You summarized it very well. I think, right now, obviously, with the volume we're seeing in our domestic retail business, you do get benefits there from operating leverage. But fixed costs are fixed over relevant ranges, we're always taught, right? And the significant volumes resulting in incremental costs that we're incurring in the form of overtime, higher spot freight rates, expediting certain supplies and then additional costs. So when you net it all together and you factor in the significant declines in Foodservice as well, we do expect an increase in gross margin year-on-year for the quarter, but we didn't want to give specificity around that.

Our next question comes from Ken Goldman with JPMorgan.

Two for me if I can. One, I didn't hear you mention this, but I've been jumping around a little bit, forgive me. Can you talk a little bit about the shelf resets that were happening in May, what your current expectations are for those and how they might affect you? And the second one is in terms of your promotional strategy, can you walk us through a little bit tactically how you can change some things, whether you want to pull back a little bit? It's been such a big part of how you've driven some growth recently, I'm just curious how you think about that in this kind of environment.

Sure, Ken. Let me try to tackle that. Dave, if I miss anything, by all means, chime in.

The priority right now is producing the maximum amount of food that we could possibly produce. And we are running our plants 7 days, as you might imagine. To do that, we have pared back on some of our SKUs so that we can continue to serve the highest-velocity SKUs. So keeping food and stock so we can feed America is our top priority right now, as it is the priority of our retailers. That has caused us to reprioritize in terms of SKUs. And in the case of the innovation resets, I would tell you, the word that comes to mind for me is fluid. We are hearing different things from different customers.

Many customers -- most customers are just trying to keep products on the shelf right now. Some customers, big ones, have said to us that they want to continue with the shelf set timing. Others had said, we're going to push that back a bit just so we can ensure that we don't have any complexity in anything going on at the store shelves that's going to be a distraction from keeping products in stock. So we are trying to respond to all of our customers' requests so we can do whatever they want.

In terms of our philosophy on innovation overall, it hasn't changed. It is a central part of the Conagra Way that we're going to keep building out our innovation pipeline. So it's industry-leading, and we're very confident we've got that. We're, as you know, from CAGNY, incredibly excited about the innovation slate that lies ahead. How it flows into the marketplace now will probably be a little bit more customer-by-customer than all in a tighter window as we previously expected. But I think it will be good news overall because we'll have the benefit of that innovation and the pipeline fill helping us next year.

With respect to promotional activity, as you know, we've cut more promotions in the last 5 years than just about any company in food as we pursue value over volume. We have gotten more aggressive in the last year where we've seen Competition Act irrationally and we needed to defend our market shares, but that has not been in a broad-based way. What I'd tell you on promotions right now is we're honoring all the contracts we have in place, but the tactical dynamic is that we're in daily discussions with our customers on how to help them meet the needs of their shoppers. And many customers are looking to pull back on promotions as they try to manage the basics of just keeping their shelves stocked. And running promotions can exacerbate out of stocks, which is clearly not their goal right now. So we're seeing some cutback on that, and that will just be more of a timing issue than anything else. Anything I missed there, Ken?

No. I know it's -- you used the word fluid to describe the situation. I think that's the understatement of the day. But thank you for that color, Sean.

The next question comes from David Palmer with Evercore ISI.

Actually, just a follow-up on that, where the retailers are not doing new shelf resets, what happens exactly? Are you just keeping some of the more standard items going that are really solutions like the frozen vegetables and holding on the Gardein Healthy Choice Power Bowls that might have been coming and that's more of a back-to-school item? Then I have a follow-up.

Well, David, it's customer by customer. So some customers, at this point, are articulating that they will move ahead as planned. We'll see if that happens. Nobody really knows what tomorrow looks like or next week looks like. And right now, everybody is literally trying to get as many items of all the foods they sell in stock. So -- but I -- if what they're saying plays out, I think you're going to see some customers take it sooner, some customers take it later. And it's not as if those who take it later would be in a deficit position. If this pandemic does not abate anytime soon, because as we're seeing right up until today, the consumer pull is remaining extremely strong across the board.

And then just if there are any changes that you're making in terms of your marketing spending or any sort of reinvestment from this period or that you're -- been planning in the next couple of months, what are those changes?

And then you mentioned, thanks for those comments on service levels at 90%. How differentiated is that in some of your key categories? In other words, are key competitors keeping up with you on that?

Just in reverse order, I don't really want to comment too much on our competitors, other than to say that I'm just incredibly proud of the food industry in general. I've spoken to my colleagues. Everybody's rising to the occasion here to do the thing that matters most, which is keep our consumers fed and keep our employees healthy. So I would say everybody is operating at the top of their game right now, and I think we're certainly fully competitive in that regard.

With respect -- David, hit me on the other part of your question?

The other part was just simply, what changes are you making in terms of your marketing given that you're, obviously, in a new world in terms of demand?

Not a lot other than some of the in-store activities that we would plan in support of new items hitting the shelf. So you get a new product on shelf. You want to sample it. You want to do some promotions. We'll sync that up to what's going on at that particular customer. As everybody knows, we've been putting more emphasis on retailer-level investments, so those are very turnkey. If a product will go into market later, we'll turn that later. Our base kind of A&P programming remains highly digital, and it also remains extremely easy to kind of curate. And as you might imagine, with people eating at home now at a level they haven't done in a long, long time, if ever, we are trying to provide them with cooking ideas and recipes and things that will help them understand how to use our products at home in a way that their family finds not only healthy but delicious as well. And digital is -- and social is a perfect place to do that. It's kind of a utility for our consumers.

And the next question will come from Steve Strycula with UBS.

So Dave, just wanted to touch base on the balance sheet and the debt paydown that you guys had to date. Impressive so far. But I wanted to understand a little bit how to think about free cash flow generation as we look forward to address both maturity schedule and liquidity. I think through 9 months, your slide says you've paid down $641 million of debt, but guidance is greater than $950 million, so you should be doing $300 million to $400 million of free cash in the fourth quarter ex divestitures. Can you just help us think through what we should be thinking about to understand the maturity schedule? And kind of like the numerator and denominator effect of how you get to that 3.5 to 3.6 leverage?

Sure. So as we've consistently said, Steve, our financial policy has been consistent, right? That we are -- we remain committed to solid investment grade credit rating. Since we've closed on Pinnacle, we've paid down over $1.5 billion in gross debt.

For Q4, we expect to be cash positive at a higher level than we previously anticipated, and that additional cash flow, we're going to use to pay down debt. So we don't expect we're going to be net cash flow positive in the fourth quarter at higher-than-expected levels. So as we finish the fiscal year, we'll have our full $1.6 billion revolving credit line, which will be undrawn, and we don't have any debt maturities in Q4 of this year. So as we look to fiscal '21, we have $1.1 billion in debt maturities for the full fiscal year. Our August maturities of $127 million, we expect to fund that from cash on hand. Our next maturities of $775 million are in October. And we'll have flexibility to fund that from the higher expected free cash flow from the business, and we'll just have to see where we land with that given the upside that we're seeing right now. We can access our revolver or we can refinance in the form of either term loans or investment grade notes.

So as we've been doing every day with our advisers, we'll continue to monitor the markets and evaluate the best structure for Conagra and stay in a position of readiness because, I mean if you look at the market today, as you know, the bank markets are significantly different than they were 2 weeks ago, and I expect that they'll be significantly different a month from now. And so we want to constantly look, see what the markets are saying. But the good news is that we're cash flow positive. We're generating cash. We're going to use that cash to pay down debt. And we have our full revolver, so I think our liquidity is very strong.

Very helpful. And then a very quick follow-up question to that would be on gross margins. When we met with you in CAGNY, at the time, you commented on taking an inventory reserve for the fourth quarter, I have to imagine inventory for all grocery stores, one product right here right now. So is there any chance that that gets reversed out into the fourth quarter as we think forward? And if I heard you correctly, were you commenting that the retailer trade investments really becomes de minimis from this point forward and kind of like a rounding error as we think forward to fiscal '21?

Yes. So you're right. At CAGNY, given the softness in volume, we had expected inventory write-offs. And in Q3, we actually did experience both inventory write-offs and some negative operating leverage. So that impacted our Q3 gross margin that we reported.

As we look forward -- I'm sorry, Steve, what was the second part of your question?

It was just the reverse out was part 1 on the accounting pieces that come back in Q4. And the second piece was just on the retail trade investments, does that become de minimis at this point, or like a rounding error as you think forward?

Got it. Yes. Yes. Yes, so as part of our Q4 information we talked about, we expect gross margins to improve in the fourth quarter based on all these dynamics. And so to the extent that inventory that we thought may not be sold has now moved through, that will be a benefit as part of Q4. So that would be reflected.

In terms of the retail or investment, yes, it's really de minimis. So a lot of the slotting and other investments year-on-year, it's just not as significant, so we're just going to show price/mix in total as opposed to break that out now.

And the next question will come from Robert Moskow with Crédit Suisse.

Sean and Dave, I would argue that the pantry loading period is probably coming to a close in terms of consumers loading up their houses. So what are you telling your manufacturing facilities to do for the next 30 days or 60 days? Are you telling them that the hours still need to be at a highly elevated level because you want to keep up with -- you want to expect consumer demand to remain at elevated levels even though shelves are full? How do you communicate to your plants what to make? And how specific does it get brand by brand?

Yes, Rob, we're telling them to make everything they can right now, and to keep themselves safe and healthy as they do it, and we're helping them to do that. But simply put, until we're on the other side of this pandemic, sales growth is likely to remain elevated because you've got most of the food away-from-home volume is moving to food at home. And so we've got, obviously, lots of experience with how pantries and warehouses get filled by customers and consumers around situations like hurricanes, and you always see big volumes move into warehouses at the customer level and into pantries and freezers and refrigerators at the consumer level. But how long the pull remains, in this particular case, is directly a function of how long does this thing last and how long are people sheltering in place? And I don't think anybody can predict right now when that is going to end.

Obviously, the latest thinking here is that we will go until a minimum the end of April with people really spending lots and lots of time at home. And who knows how much further it can extend beyond that. So the way this works is the initial surge of volume is volume that is going to fill warehouses and to fill pantries. But with people not eating out away from home, I think a reasonable person could conclude that they're then in the mode of consuming that volume aggressively. And as they work down those pantry levels and warehouse levels come down to normal levels, then it just becomes kind of a just-in-time replenishment as long as the elevated level of consumption remains. So it's just too early to pin this with any accuracy, but that's kind of the mechanics of how this works.

I totally agree. And if I can ask a follow-up question. Have you tried to dive any deeper into single-serve entrée demand characteristics versus frozen vegetables? Because my -- what I remember from the last recession is that single-serve entrées didn't do that great. Consumers were making meals for the whole family to try to save money, so that probably benefits vegetables in an outsized way. Do you expect that to happen again? Or is it just too soon?

Well, in this particular case, I don't think there's any comparator to what we're experiencing right now, because people are eating at home right now, breakfast, lunch, dinner, snacking, dessert. I mean it's all being consumed at home. And when you think about all those dayparts and you think about the family being together, you've got dayparts like dinner, where you're probably going to be leaning on multiserve products, which is very different from how our normal society's been operating because everybody is together. But if you think about lunch, it's very much a single-serve occasion because kids have online classes, moms and dads have video conferences, people are eating individually. So -- and people continue to snack throughout the day. So I see -- and we see it in the data. We see incredibly high velocities across multiserve, single-serve snacks. I mean you name it. Right now, it's moving.

And the next question will be from Rob Dickerson with Jefferies.

Great. Super. So first question, probably some would consider it lame, but I'll ask you anyway, because it's something we'll be going through probably in the next few weeks or a few months, is just in terms of forecast for us, right, whether you're on the investment side or on the sell side, we have to plug something into our models for Q4 and think about Q1 and kind of the progression throughout fiscal '21. I feel like, in general, people haven't been comfortable punching it plus 40% in retail growth expectations and down 50% on Foodservice. Just to be clear, right, we know what the guidance is now. Obviously, it's a fluid situation, which is fully understandable that you can't pinpoint how Q4 plays out or even Q1.

But just in terms of kind of consensus and how we're all used to looking at that as a benchmark, I guess, first question is just like how do you think we should then be modeling the forecast for your business in terms of top line? Is it, A, I don't know. Yes, given March is up 40%. Retail consumer, if that were sustainable, then yes, I would take that piece of the business and say up 40%. And given our guide on Foodservice, take that down 50%, and then we'll just have to see how that plays out. And maybe that reverses next year if there's a pantry load, and maybe not. So just -- there's a lot in there, but I just kind of wanted to hear what do you want us to do in terms of if there is no specificity that can be provided. Basically, at this point, the guide is almost irrelevant to an extent as is consensus if we don't model it correctly.

Yes. Rob...

Sean, do you want me to take a shot? Or do you want to go?

Yes. Let me just make one general comment, Dave, and then you could take a shot. But I would just say that the unenviable task you all have of kind of coming up with consensus is very similar to the unenviable task we have of things like trying to contemplate fiscal '21 annual operating plan. As you might imagine, if it's business as usual, it's kind of one set of assumptions. If this thing were to continue, if it were to come back in the fall, as I read this morning, that's a whole another ball game. So it's an almost impossible thing to predict. Nobody has a crystal ball, but I think what you guys are going to be looking is a scanner data. What we look at is the scanner data to understand takeaway, what we look at or our shipment patterns.

And of course, we follow any -- all the health news on the national news every single day, multiple times a day. So I think we're in one of these times where we will endeavor to be incredibly transparent with what we're seeing, what we're thinking, so that we can provide the best perspective we can provide while fully acknowledging that it's awfully -- it's impossible task to be precise right now. Dave, you want to add to that?

Yes. You pretty much hit it. Rob, I would say we feel your pain right on this forecasting. I mean in my whole career, I've never done daily forecasting where you're going out quarters and years and all these things. And so the way we approach it is almost a kind of a high, medium, low type scenario of -- and that's why we laid out what we did today. We wanted to tell you, what do we know right now, what don't we know. And from there, you could then kind of make some assumptions on sort of different scenarios. Sean said it. Since quarter-to-date on the retail side of the business, domestic retail, which is 80% of our business, shipments and consumption are in line.

And so what I would say is consumption could be a good proxy to try to forecast quarter to go in the retail business since they're in line. There's no guarantee there, right, because you do have ebbs and flows with shipments versus consumption in a short amount of time. But that, I think, would be a proxy to be able to at least try to figure out how this is trending as we move forward. But there's no silver bullets here, unfortunately.

That's all very helpful and makes complete sense. Okay. And then just quickly, in terms of your shelf-stable products, I feel like even at CAGNY, the focus here going forward, the strategy is more frozen snacks. Shelf-stable can have a place within the portfolio, but my feel at least is that you might look at some of those brands more proactively in terms of divestment potential. Now, I don't know, right? I mean it seems like you highlighted today on the slides, except Hunt's, Chef Boyardee doing incrementally better before COVID-19 hit. Now there's a pantry load. My feel would be that those areas would actually now do better maybe than some other areas.

So in terms of the tax asset that you have and kind of entire thought process around divestments and shelf stable, what have you might. Is it fair to think that, at least for the time being, given everything that's going on, that you kind of step back from that and say, "Well, let's just see how things settle, keep the business as is. We'll reevaluate as we kind of get through this a bit more. But yes, we still realize that we have a tax asset that's expiring at the end of next fiscal year."

Let me take that, Sean. Yes. And then you jump in here. So I did make some comments, Rob, on our prepared comments. The way that we look at divestitures hasn't changed, right? It all starts with our strategic rationale and then the financial rationale. And the point I made today was financial rationale means that the valuation for any potential divested asset must exceed our intrinsic value for the asset. And given the growth we're seeing in our business, given the sales and cash flow at higher levels than they've historically been, that factors into kind of how we view those assets. They're generating a lot of cash for us right now. But my comments were meant to stress that we're going to continue to identify assets for divestiture, but if the potential price doesn't exceed the value to Conagra that we see the brands are worth, then we don't feel pressure to move forward.

And so we have our capital loss carryforward. It doesn't expend -- it doesn't expire until the end of fiscal '21. And so as Sean said earlier, it's fluid, but we wanted to make sure that point was clear.

Yes, the only thing I would add to that, Rob, just to cover a little bit of a different bit of perspective on what you call the shelf-stable business. I would call it the staples business. And that's how we talked about it at CAGNY, is we've got a decent-sized chunk of our portfolio in what we call staples, and these are products that people rely on. These are our products that drive a lot of foot traffic to our retailers. They're very important to the retailers. They tend to be high gross margin, good cash flow businesses.

And as I pointed out, at CAGNY, just a small handful of them add up to a big, big chunk of our total staples sales. And so these businesses are very important to us when they're reliably contributing. And most of them have been reliably contributing, and they do a lot of good for our portfolio. On occasion, we've seen competitive activity or other dynamics drive weakness. And our philosophy, historically, has been, look, if we don't have a line of sight to stabilizing something on the top line and the bottom line, then we've divested it. And we've always been open to that. What Dave is pointing out is these are just different times where everything is moving. So it takes any kind of compulsion to want to move and do that and kind of reduces that because these are contributing a lot to us right now. But in general, the point that I wanted to make is our staples businesses across the board almost are very strong, valuable businesses to us. And we'll continue to monitor them to make sure that they are contributing reliably once we get through this pandemic, and then we'll go from there.

Ladies and gentlemen, this concludes our question-and-answer session. I would like to turn the conference back over to Brian Kearney for any closing 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 anyone may want. Thank you for your interest in Conagra Brands.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.