金寶湯 (CPB) 2004 Q2 法說會逐字稿

Good morning and thank you for standing by.

At this time, all participants are in a listen-only mode.

After the presentation, we will conduct a question and answer session.

If you would like to ask a question, please press star then one.

Today's conference is being recorded.

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Now I will turn the meeting over to Mr. Leonard Griehs, Vice President of Investor Relations.

Sir, you may begin.

Good morning and welcome, everyone, to Campbell Soup Company's second quarter fiscal 2004 conference call.

On the call this morning will be Bob Schiffner, Senior Vice President, Chief Financial Officer, Gerry Lord, Vice President and Controller, Brad Snyder, Assistant Controller.

Also participating today are Doug Conant, President and Chief Executive Officer and Larry McWilliams, President of North America Soup.

Our financial results press release and supplemental schedule were sent out earlier this morning.

And these are also posted on our Web site.

Our call this morning will last no longer than one hour.

It will be replayed approximately two hours after this call is complete.

The replay number is 1-888-562-6139.

It will run through midnight, February 27th.

You may also listen by logging onto our Web site, www.campbellsoupcompany.com and clicking on the Web site banner.

As a matter of policy, our conference calls are open to all interested investors and members of the media.

This discussion will contain forward-looking statements which reflect the company's current expectations about its future plans and performance, including statements concerning the impact of marketing investments and strategies, new product introductions and quality improvements on volume and earnings.

These forward-looking statements rely on a number of assumptions and estimates which could be inaccurate and which are subject to risks and uncertainties.

Actual results could vary materially from those anticipated or expressed in any forward-looking statement made by the company.

Please refer to the company's most recent Form 10-K and subsequent filings for a further discussion of these risks and uncertainties.

The company disclaims any obligation or intent to update the forward-looking statements in order to reflect the events or circumstances after the date of this discussion.

Now I'll call on Gerry Lord to discuss our second quarter results.

Good morning, everyone.

I would like to begin with a reminder of the reporting format we began this fiscal year.

The earnings statement distributed with our press release is in the same format as that included in our SEC filings.

Commentary on variances will address this format.

In addition, we are including a sales analysis by reporting segment as well as for the total company.

This analysis of sales by segment includes trends in volume and mix and replaces discussion of soup volume by fluid ounces.

As we have shifted more of our new product activity to the convenience platform, we are generating more dollar sales per fluid ounce but in many cases individual units contain fewer fluid ounces.

This reporting more accurately reflects our strategy of focusing on dollar sales rather than fluid ounces.

In order to be clear as to the mix shift in the U.S. soup business, we will highlight changes in both sales and fluid ounce shipments for condensed, ready to serve and broth for the remainder of this fiscal year.

We will no longer report total U.S. wet soup or worldwide soup shipments.

Now let's turn to some highlights from our second quarter results.

The new convenience items in U.S. soup, that is Chunky and Select in microwaveable bowls and the expanded line of Soup at Hand varieties continued to do well in the marketplace.

Condensed soup trends improved in the quarter, driven by higher sales of chicken noodle and tomato soup, the impact of easy-open lids and the ramp-up of gravity feed shelving.

Offsetting this performance of our top two condensed eating soups were lower sales of cooking soups.

Robust promotional activity on our base canned ready to serve business, particularly Chunky, restored our competitiveness in that segment.

In Sauces and Beverages, V8 beverages continued to show strong performance, partially offset by weakness in Prego, which is being impacted by declines in the overall pasta category.

Pepperidge Farm and Arnott's continued to grow nicely and Godiva had a solid holiday season.

Now let's turn to the specifics of our financial results.

Sales rose 19% to $2.1 billion.

After six months, sales were up 11% to $4.0 billion.

Earnings before interest and taxes for the quarter were $389 million, up 1% versus a year ago.

After six months, EBIT was $743 million, up 4% versus a year ago.

Sales growth for the quarter breaks down as follows: Volume and mix was up 3%, pricing added 2%, increased promotional spending deducted 1% and currency added 5%.

Gross margin for the quarter declined from 44.9% to 42.3% as cost inflation, higher promotional spending, the cost of quality and packaging improvements and adverse mix were partially offset by productivity improvements and higher selling prices of condensed soup and biscuits.

Marketing and selling expenses rose $11 million to $340 million due to the impact of currency.

Administrative expense increased $8 million to $136 million primarily due to the impact of currency.

Research and development costs were flat at $21 million.

Net interest expense was $42 million, down $4 million versus a year ago due to lower debt levels and favorable rates.

The tax rate was 32.3% compared to 31.9% in the year ago quarter.

The year-to-date rate was 32.2%, which is our current expectation for the full fiscal year.

Net earnings for the second quarter were $235 million versus $231 million in the year-ago quarter.

Diluted earnings per share for the quarter was 57 cents, up 2% versus 56 cents reported a year ago.

For the first six months, EPS was $1.08, up 5% versus $1.03 a year ago before the cumulative effect of accounting change.

In fiscal 2003, the company recognized a one-time non-cash goodwill impairment charge of $31 million after taxes or 8 cents per share related to the adoption of SFAS Number 142.

Now let's turn to second quarter operating highlights by reporting segment beginning with North America Soup and Away from Home.

Sales of $894 million were up 8% versus year-ago and operating earnings of $220 million were up 5% versus a year ago.

Sales for the quarter breaks down as follows: Volume and mix was plus 5%, pricing added 3%, promotional spending subtracted 2% and currency added 2%.

In U.S. soup, ready to serve sales rose 17% with ready to serve shipments also up 17%.

Condensed soup sales were even with a year ago as a price increase taken in the fourth quarter last fiscal year offset a decline in condensed soup shipments of 2% and higher promotional spending.

Broth sales declined 1% as 1% shipment growth was more than offset by higher promotional spending.

Since Larry McWilliams, President of North America Soup will be discussing our soup performance later in this call, I will comment only briefly on this reporting segment.

As we mentioned on the first quarter call, our promotional efforts for soup were focused on the second quarter this year in order to drive volume during the heaviest months of the soup season.

As noted by the increases in ready to serve and the improvement in condensed performance, these efforts proved effective.

In ready to serve, sales gains came from strong performances by Chunky and the convenience, Mmm, Mmm Good to Go products.

In condensed soup, strong sales of chicken soup and tomato were offset by a decline in cooking soups for the quarter.

We are pleased with the overall performance of condensed.

Larry McWilliams will update you shortly on the progress we are making in a number of areas, including our gravity feed shelving system for condensed soups.

He will also provide some perspective on the size of our developing microwaveable ready to serve soup business.

This should aid your analysis of our performance.

Sales in Canada rose, driven by increased marketing support and currency.

Away from Home sales grew slightly on better sales of refrigerated soups and bakery items and the favorable impact of currency.

Now let's move to North America Sauces and Beverages.

Sales of $324 million were up 2% versus a year ago and operating earnings of $72 million were down 14% versus a year ago.

The sales increase for the quarter breaks down as follows: Volume and mix was plus 5%, promotional spending subtracted 3%.

Sales growth was driven by strong performance in beverages.

Earnings were impacted by unfavorable mix, higher costs of packaging and ingredients and quality improvements.

V8 Vegetable Juice had very strong sales across all channels, driven by a more productive marketing mix and favorable consumer trends towards wellness.

V8 Splash sales rose due to incremental growth generated by V8 Splash smoothies, launched during the second half of last fiscal year.

Base V8 Splash sales also rose, reflecting positive results from increased promotional activity and the launch of several new varieties.

Invigor8, a new 100% juice energy drink, was launched in December.

This product is Campbell's first offering in this fast-growing category.

Now, two new single serve items, Energy Boost and Nutrition Boost, were voted best new products of 2003 at the National Association of Convenience Stores show in Chicago.

Campbell's Organic Tomato Juice, while a small part of our total beverage sales, continued to show good momentum within the emerging organic juice segment.

Prego sales declined primarily due to weakness in the dry pasta category.

That category continues to experience softness as consumers experiment with low carbohydrate diets.

Pace Mexican Sauces and Franco-American canned pasta had increased sales while Franco-American gravies and Swanson canned poultry sales declined.

Now let's turn to Biscuits and Confectionery.

Sales for the quarter of $550 million were up 13% versus year-ago and operating earnings of $90 million were up 3% versus a year ago.

Sales growth for the quarter breaks down as follows: Volume and mix increased 2%, pricing added 3%, increased promotional spending subtracted 1% and currency added 9%.

Currency contributed 6 percentage points of the growth in operating earnings during the quarter.

In the year-ago period, operating earnings were favorably impacted by an $8 million gain on the sale of a biscuit plant in Australia.

In the current period, operating earnings were favorably impacted by a $4 million insurance recovery by Godiva related to 9/11.

Let's take a look at the highlights of each of the three businesses in this reporting segment.

Pepperidge Farm, Arnott's and Godiva.

Pepperidge Farm sales were strong in cookies, crackers and fresh bakery.

Goldfish had another excellent quarter, based around a successful Super Bowl promotion.

Sales of frozen breads and cakes declined.

Arnott's showed good momentum in biscuit sales with sales generated by acquired brands from George Westin ahead of expectation.

Arnott's Shapes showed strong sales as did seasonal chocolate varieties.

Competitive challenges in the Australian snack foods business negatively impacted its performance.

As we announced two weeks ago, this will likely impact snack foods performance for the remainder of the year.

Godiva sales were ahead of last year, driven by strong sales in Asia, improved same-store sales trends in the U.S. and rapid growth in Internet purchases.

Godiva expanded its product offering in the second quarter with the introduction of "G," a new ultra premium line which retails for $100 a pound in select boutiques, some Neiman Marcus stores and over the Internet. "G" had very strong acceptance during the initial holiday sales period.

Now let's turn to International Soup and Sauces.

Sales were $332 million, an increase of 14% versus a year ago and operating earnings of $39 million were up 15% versus a year ago.

Sales growth for the quarter breaks down as follows: Volume and mix declined 2%, pricing added 1%, reduced promotional spending added 1%, divestitures subtracted 1% and currency added 15%.

The divestiture mentioned occurred during the third quarter of last fiscal year, when we sold U.K.-based private label manufacturer William Rogers foods.

It had been part of our acquisition of Erin Foods in Ireland.

First, let's look at Europe.

In Europe, total branded sales grew for the second straight quarter, offsetting a decline in our sales of private label products.

In Germany, we launched single-serve aseptic pouches of Erasco soups.

These got off to a good start as consumers responded favorably.

In the U.K., we experienced improved sales of Frey Bentos canned meats and Oxo stock cubes.

The Liebig brand soups in France and Campbell's brand in Belgium performed well.

In Asia Pacific, good performance was driven by strong cost productivity programs and sales growth of soup, broth and V8 beverages.

Now let's turn to the balance sheet.

Total debt was slightly less than $3.5 billion, down approximately $150 million from a year ago.

Cash flow from operations was $332 million for the first half, compared to $473 million a year ago.

This lower cash flow reflects the $50 million voluntary contribution to the U.S. pension plan made in the first quarter, a higher seasonal increase in working capital than a year ago and cash settlements of cross currency swaps related to the financing of foreign operations.

These factors were partially offset by increased earnings.

That concludes my discussion of the quarter's performance.

Now Bob Schiffner will offer some brief comments on our outlook for the remainder of the year.

Thanks, Gerry and good morning, everyone.

I know that some of you must be wondering about why we are holding our forecast for EPS for the year given our stronger-than-expected second quarter performance.

I want to address that.

Certainly we all feel good about this quarter.

Our soup and beverages businesses were strong and that was reflected in our top line growth.

In addition, we benefited from favorable currency, which is something that we cannot rely on in future quarters.

As I mentioned last call, our marketing for U.S. soup shifted to the second quarter versus year-ago.

We expect the marketplace to continue to be extremely competitive.

Therefore we plan to continue increased marketing support for soup in the second half of this fiscal year.

Let me summarize our second half expectations.

First, we will increase spending behind soup in both the third and fourth quarter.

Second, as we said two weeks ago, there is softness in Italian sauces, primarily driven by underlying weakness in the pasta category.

Third, we are ramping up marketing spending behind our snack foods business in Australia in order to defend our market position.

And lastly, we will have one less week in the fourth quarter as we are now backed to a 52-week fiscal year versus last year's 53 weeks.

For these reasons, we are holding to our previous estimate for the year of approximately $1.58 per share and we expect third quarter earnings to be approximately 31 cents per share.

Let me conclude.

I believe that the initiatives and actions we have taken to revitalize our businesses are working.

We see signs of success throughout the portfolio.

I am optimistic about our ability to deliver consistent growth.

In addition, we continue to look at every opportunity to improve profit margins where it makes economic sense.

Larry McWilliams, President of North America Soup, will now discuss the strides we are making in this most important part of our company.

Thanks, Bob and good morning.

Halfway through fiscal 2004, our U.S. soup business is delivering positive results.

As you remember, we set out four key strategies this year for U.S. soup.

Number one, aggressively grow our ready to serve portfolio.

Number two, profitably moderate trends on our condensed businesses.

Three, simplify our portfolio and leverage it scale and four, win with customers.

I am pleased to report that we are making significant progress against the initiatives underlying each of these key strategies consistent our transformation plan.

First, I would like to discuss our ready to serve portfolio.

Despite an intensifying competitive landscape, we continue to grow ready to serve net sales at a healthy double-digit rate.

Our Campbell's Chunky brand continues to rally behind its partnership with the NFL and its positioning as a heat and eat meal choice that fills you up right.

The Campbell's Select business remains a strong and viable part of our ready to serve portfolio and is positioned as a lightly-filling and more premium soup offering.

The most exciting news in our ready to serve portfolio in many years is the expansion of our first mover position in a scaled convenience platform.

This year we launched the Mmm, Mmm Good to Go convenience line of microwaveable Chunky and Select bowls and expanded the Soup at Hand brand with seven exciting new varieties.

This is a powerful platform for us and to our retail partners.

More than 50% of these soup-eating occasions occur outside of the home versus just 3% for canned soup.

These items are more than 50% incremental to the category and sourced volume from fast food, sandwiches, skipped meals and even vending.

The Soup at Hand business continues to build trial in year two and consumer repeat rates remain at industry high benchmark levels.

As a result of strong consumer demand for these products, we have made investments in increased capacity on the entire convenience line.

For the first half of this fiscal year, sales of our convenience products exceeded $100 million.

Next, I would like to discuss our condensed portfolio.

After years of declines, our condensed net sales were flat for the quarter.

We have seen that as all planned elements come into place, this business responds.

This year we have made investments in product and package quality with the expansion of cold blend technology across more varieties and with the introduction of easy-open lids across the entire line.

We are talking directly to kids to generate demand and bring consumers into the fold earlier.

This direct to kids messaging is having a significant impact on kids' perceptions of Campbell Soup with positive movement on attributes like, has flavors and varieties I like, has a taste that I love and is a fun food to eat for lunch.

During our Souperstar Fantasy promotion in October and November, over 1 million kids visited mysoup.com.

For the month of October, mysoup.com was the number two kids Web site.

We have another kid's promotion, Souperstar Mansion, which is in place for February and March.

Our condensed cooking business is building traction behind the Tasty Tuesday messaging campaign.

And we have built partnerships with relevant companion foods that link our products to contemporary cooking.

Over 600,000 consumers have signed up on our Tasty Tuesday.com Web site to receive recipes on an ongoing basis, with more than 4.5 million recipes disseminated to date.

These consumers are looking to us for help as solution provider to their daily dinner dilemma.

As discussed earlier, trends in our cooking business are below our expectations for the quarter.

However, we remain optimistic that second half programming around the Easter holiday will improve these trends.

Overall results on the condensed portfolio demonstrate an improvement in our long-term trend and we will continue to leverage this winning formula going forward.

Next I would like to discuss simplifying our portfolio and leveraging its scale.

Our two major initiatives on this front include the Make It Campbell's Instead advertising campaign and the installation of IQ maximizer gravity feed shelving units.

Overall, the Make It Campbell's Instead campaign is having a strong effect across our entire portfolio.

More than 70% of respondents recognize the campaign versus an ad recognition benchmark of 41%.

In fact, six of our ads have shown up in the Ad Age Magazine's top ten most recalled ads in biweekly surveys conducted throughout the soup season.

Our IQ maximizer gravity feed shelving units simplify the in-store experience on condensed and allow consumers to explore new varieties.

We continue to get confirmation of positive results that this system generates for our condensed business and for the category.

Control store test and actual in-market results tell the same story.

This is a big idea.

At the end of calendar 2003, we had installed a system in approximately 3,000 stores representing 12% of the all commodity volume and we continue to build our installation momentum.

Finally, I would like to discuss winning with our customers.

We remain in the top 10 Cannondale Power Rankings of Manufacturers, up from number 16 in '01.

We have delivered successful consumer overlays through our customers around our Labels for Education event, Chunky's Tackling Hunger Tour and our kids promotions.

As you may be aware, 70% of the purchase decisions are made at the point of sale.

On average, we have over 155 items on shelf at our grocery customers.

To ensure proper execution in the store, our sales force and broker partners cover stores accounting for 83% of our volume.

This is up from 66% in '01.

Today, we co-manage inventory covering approximately 60% of our volume.

This practice not only improves our in-stock position, but reduces our customers' working capital requirements.

We continue to work to strengthen relationships with our retail partners on all fronts.

In conclusion, the fundamentals of our plan are sound and we are making significant positive impact on each of the four key strategies we set forth for this year.

Our ready to serve business continues to grow at a double-digit rate.

The success of our Mmm, Mmm Good to Go convenience platform has significantly exceeded our expectations.

Condensed soup is responding to our efforts to profitably moderate the sales trends.

And finally, we are simplifying the shopping experience with gravity feed shelving units and we are building stronger relationships with our retail customers.

With that, I will turn it back to Len.

Okay, Michelle, we can start the Q&A process please.

Thank you.

We will now begin the question and answer session.

If you would like to ask a question, please press star, then one.

You will be prompted to record your name.

To withdraw your request, please press star, then two.

One moment, please, for the first question.

Our first question comes from John McMillin of Financial Equity Investments.

Prudential.

Good morning and congratulations.

Hi, John.

Larry, could you give the repeat order number?

You said it was on the high end of industry standards, could you give me the rough number, what you regard as the high end?

I think we said that the, you're talking about the repeat rates, John?

Yes.

We didn't reference a number on repeat rates.

You said it was on the high end of industry levels and I was wondering what you regarded as high end of industry levels?

Mid-teens.

On a repeat purchase, yeah.

Okay.

And Larry, could you also just kind of update us, for the year you've obviously made some progress, but it's been a year of intense competition with Progresso.

Can you just kind of give us an update on that head-to-head battle?

What's going on in the marketplace now?

Are discounts still as prevalent as they were a few months ago?

Yeah, John, we don't see a lot of change exiting the second quarter with what we've seen this half, but what I would hasten to add is that what we've found both this year and last year is that soup competes in a broader competitive frame around simple meals.

And it actually has quite a few advantages on taste, variety, value, nutrition and convenience on simple meals.

So, while we know that we have to be competitive in soup during the soup season, we know that we compete in a broader frame and that's where we see continued to sourcing lots of volume.

John, this is Doug.

Hi.

Building on that, basically what we see is as we start to maintain a full court press with our consumer propositions in ready to serve, and as Progresso does the same, we're both growing at the expense of other food alternatives.

Sixty, depending on the data source you look at, 60 to 80% of our volume in ready to serve is sourced from other food alternatives other than soup and the same is true of Progresso's.

And then when we start creating meaningful merchandising events at low price points, it even becomes more pronounced and that's why you see that we had a terrific January on ready to serve soup but you'll also see that Progresso was up modestly and it's because we're creating a real terrific alternative to other forms that go beyond ready to serve soup.

So, then the question becomes, as the soup category grows for a change and you expand into these other meals, can you do it in a margin enhancing way, you know, as you look at the next year or two?

That is the challenge.

The challenge for us is, you know, the challenge three years ago when we started was can this category, can you grow your soup business and can you expand the category?

And what we're saying now is yes, we can grow our soup business and expand the category and now the challenge is to do it in a more margin-enhanced way and that's the challenge that both we have to work on and I'm sure General Mills has to address, as well.

Okay.

Well, again, congratulations.

Thanks, John.

Next question, Michelle?

Our next question comes from Terry Bivens of Bear Stearns.

Good morning, everyone.

Good morning, Terry.

Just to expand a little bit on John's question on the margin.

Gross margin in the quarter was down a little bit more than I was looking for and I think a lot of people were.

Can you give us, I think at one time, Bob, you mentioned you felt that cost would peak in '04 and then as we went through '05 you would expect to see kind of a flat gross margin than with some upside in '06.

If we could get just a little more color and if you're hopefully I've recreated that right, just how you see things going forward on that line?

Terry, that's exactly what I said and we're still very, very confident that we will stabilize margins in fiscal year '05.

You know, it is certainly a challenging, given all the innovation and, in fact, we've brought to the category.

But again, we're spending a lot of time looking at all of our discretionary spending and we have every expectation and, in fact, we're going to be able to bring stabilization starting in FY '05.

And just one more.

Do you feel that this level of promotion is going to be what we're faced with over the next several quarters?

You had been getting a plus to the sales line over the last three quarters and I do understand why you have to promote more, but do you think we should view that as a subtraction from the top line over the next several quarters?

We are certainly planning that way going forward.

We are going to be as competitive as we can possibly be and so in your planning going forward I, you know, I would certainly expect that you would, you know, you would see a continuation of that assumption.

Okay.

Thank you.

Thanks, next question, Michelle?

Next question comes from Eric Katzman of Deutsche Bank.

Hi, good morning, everybody.

Hey, Eric.

Hi, Eric.

I guess the first, I guess comment, I mean I know you, you all are managing condensed with, you know, with the idea that kind of cash flow is a priority but I think it's a little bit kind of disingenuous to claim that you've stabilized it when, you know, last year you had a significant shortfall and this year you had a very cold winter, so, that's just a comment but--

Eric, let me just interrupt you because we didn't say here or anywhere that we had stabilized condensed.

We have always talked about moderating the declines and that's really what we said this quarter.

I thought Gerry had taken, or I'm sorry, Larry had said that, you know, it takes comfort that sales were flat in the quarter.

Well, that's correct, in the quarter.

But we didn't say that that, I mean a quarter is not a year and I think that's just the point I would make, that our comment before, that moderating the declines in condensed soup is really still what the strategy has been.

Okay.

And then second on Doug's comments in the press release said looking ahead we will focus on continuing this top line momentum while improving our margin structure.

I think that, you know, investors, or at least the ones that I talked to last week at Cagney, came away with the kind of view that the long-term earnings growth rates are likely to come down when you have your analyst meeting in June because I guess the assumption was that there wasn't an improving margin structure.

Can you kind of, Doug, maybe comment on I guess what people were thinking about after your presentation at Cagney versus this line or quote in the press release?

Eric, I can amplify a little bit on it, but I, you know, I think when we have our June meeting we'll have our June meeting.

We won't have our June meeting today.

But I think it dovetails with something Bob Schiffner has consistently said about our goal of stabilizing our gross margins by '05 and recognizing that we have seen some margin deterioration as we've ramped up our innovation activity and dealt with the very, very competitive marketplace and my point last week and my point in this quote is really to say we recognize that it's a tough world out there and we've got to tighten our margins.

And that's what we're focusing on doing.

Okay.

And then last thing, Bob, you had mentioned, I guess in response to I think it was Terry's question about promotion, I think in the past you've said that promotion, because it was so inefficiently used in the past, should be a positive contributor to both the top line end results down below the line.

Can you comment on that versus what you just said to Terry?

Yes, Eric, I think we're talking about two different things.

Clearly we're spending more money in response to a competitive situation.

So, you know, you have to look at it as is, you know, as the water level rising.

We still have a challenge and we're still making a significant amount of progress in terms of the relative benefit of every dollar spent.

And again, that has been an area of focus here for the last three years and we are still seeing a lot of progress being made, which means that every dollar that we are spending is a lot more productive than what was spent three years ago and, you know that, in fact, continues to be the case here.

We're, in fact, very proud of the performance and of the progress we've made in that area.

Okay, thank you.

Thanks, next question, Michelle?

Our next question is from Leonard Teitelbaum of Merrill Lynch.

Good morning.

Hey, Leonard.

I guess the promotion aspect seems to be the theme of the day here.

Let me try my hand at it, too.

What do you look for as an increase in total ad and promotion for the second half of the year, percentage-wise?

Plus 10%, 8%?

What are we looking at here?

Len, we historically have not given information about the mix and the absolute dollar spending of our, you know, of our marketing plans and again, you know that will continue to be the case.

Okay.

Even in total?

Even in total.

Okay.

Well, zero for one on my part!

I guess what I'm trying to figure out then, would you be looking for a, what factor would you be looking for on your promotional expense in terms of sales growth, unit growth, and at what point would you be very dissatisfied?

If I'm going to spend a dollar in ad and promotion, what kind of a lift would I expect to get over the second half of the year?

I --

A dollar less than a dollar?

Well, clearly on average, as, you know, as with most food companies and I think this is a proven fact is that, you know, the average return on overall trade spending is, in fact, slightly less than $1.

You know, I would like to think that we're, you know, we've been trying to improve our relative performance but given where we started, I would again think that we're probably, on average, right in the middle of the pack, but getting better everyday.

Len, this is Doug.

Yes, sir.

Just to build on that comment from Bob, it really will, we plan to be fully competitive in the back half of this year on a promotional spending basis and it will really depend on not just our activity but the activity in the marketplace.

I think we've responded to be consistent with what we've seen in the first half.

So, if I were you I'd probably look at the first half and then try and project into the second half but I'll let you do that.

That's why you get paid the big bucks.

Yeah, there you go!

The other thing I would say is that we got to look -- that -- this is an important question you raise that we're wrestling with all the time.

However, when I look at this longer term, I see an encouraging story emerging where, as we're moving forward with our convenience platform and bringing capacity on-hand, we've already talked about delivering over $100 million worth of sales in the first half from our convenience platform, which is a unique entity in the market, nobody else has that right now.

And we're getting superior price realization from that.

And where we should be able to really get the benefits of what Larry called first mover position.

As with start to expand capacity with that and really put a full court press on with the convenience platform, I think our promotional profile has the potential of changing rather significantly.

That's over the next couple of years as we really build this into all that it can be.

And if we've already done $100 million in six months when we couldn't make enough product, we're optimistic that this is going to fundamentally change our promotion profile.

Certainly as we exit '05 and then go into '06 and have full capacity.

So the game's going to change here in the next two years.

Very good.

We thank you very much.

Okay, next question, Michelle?

Our next question is from Andrew Lazar of Lehman Brothers.

Good morning.

Hey, Andrew.

Two quick things.

One, Larry, perhaps you could give us kind of a post mortem on maybe key learnings from the price increase that you took last year on condensed?

Just trying to get a sense of how that impacted the business, it's obviously coming through to some extent nicely and I want to get a sense of what the opportunities there are as you kind of profitably manage it?

And then the second thing would be, Gerry, if you have any additional detail on inventories and receivables would be helpful.

Sure, I'll address the price increase first.

That, you know, in this pricing environment you always look very carefully before you take any type of pricing action and the pricing that we took last year was well accepted, not only by our customers, but was well-accepted by the consumer as we added value to the proposition.

So, we -- when you improve the product, you improve the package, those kind of pricing actions are much more readily accepted.

Okay, and Gerry -- I'm sorry, Doug -- yeah, Gerry Lord will take the second part of your question on receivables and other.

Okay, when you see the Q you will see more detail, obviously, on the balance sheet than the short version that you have.

You're going to see that on receivables, receivables a year ago were $649 million, they're $644 million as at the end of this second quarter.

Okay.

About $49 million of that, $50 million of that change was related to currency.

As we look underneath at the sort of DSO performance, we see improving DSO trends, so, we're quite pleased with the impact of receivables over time.

Okay.

On inventories, a year-ago we had $657 million and this year ended 715.

There's slightly less than $40 million of currency impact in there.

And again, as we dive into sort of inventory in terms of days or weeks, we see a slight improvement year-on-year so we're quite pleased with the inventory performance.

Great, thanks very much, Gerry.

Okay.

Michelle, next question?

Our next question is from David Edelman of Morgan Stanley.

Good morning.

Hi, David.

Hey, David.

Bob, could you talk about the second half sales outlook for the company, particularly given the fact that obviously the comparisons, even excluding the extra week, become much more challenging for you?

Well, you know, I would generally say that excluding the 53rd week we expect sales to increase and, you know, I'm not going to specifically get into, you know, just how much, but clearly we expect a continuation of, you know, our current strong top line performance.

Okay.

And then, Larry, I wanted to follow-up on a question that Eric had asked about condensed.

What's your response to the observation that if you take a three-year view, there really hasn't been, and you look at the cumulative decline in condensed in Q1 versus Q2, there really hasn't been a noticeable delta?

Yeah, the way I would respond that that is when we have all the elements in place that we have put in place over the last probably 18 months, we are seeing some very good response to those.

And those are the maximizer, the gravity feed shelving, marketing directly to kids and improvements in product and packaging.

When all four of those elements are in place, the customers that we look at, we see very strong response to those four things.

So, I think we're on the early side of that and we'll continue to report every quarter.

Thank you.

Okay, next question, Michelle?

Our next question is from Mitch Pinheiro of Janney Montgomery and Scott.

Hey, good morning.

Hey, Mitch.

Good morning.

Your convenience platform, $100 million in sales in the first half, what's the breakdown by channel?

Specifically, you know, what are you seeing in the convenience store market?

Mitch, this is Larry.

Basically we're very pleased with all the channels that this product is in and it's actually got probably more legs to get outside of our traditional channels than some of our base canned businesses but I'm not going to breakdown the sales by channel, but we're very pleased with the response that we've seen in the convenience channel and all the channels that we're in.

So, like in '05, how do you, I mean, convenience stores to me seems like a pretty high margin opportunity, obviously, to go aspect fits perfectly.

So, how do you plan to attack that market?

Will you have a special sales force for that?

How can you do that?

Yeah, we're going to have very discreet focus on all emerging channels, whether it be convenient stores or using our Away from Home group to get more broad placement of the convenience platform.

We have a very direct effort against getting this product more widely available.

Mitch, this is Doug.

As a company, we've uncovered, we're in the midst of we're doing our strategic planned process now and as I acknowledged last week at Cagney, we're a company that's anchored too firmly in the grocery channel and in the pantry and we have to be where the consumers are.

Convenient availability is what we call it and we're driving hard against that and we're going to be making sure that we're organized to execute that well.

Particularly around this to go platform, but it also has a lot to do with our beverage business, our single-serve beverage business as well as our single-serve snacks business with Pepperidge Farm.

So, we think as a company, a lot of our portfolio is well positioned to go into these what Larry called emerging channels and we have to organize better to execute against that which we will this year and so we see a lot of upside on that front.

Does that go in as one packaged, you know, your beverages, your soups, your Pepperidge Farm?

Or is it going to be sort of three separate initiatives?

Well, ultimately it will be well choreographed.

Today it goes in basically in three different, through three different selling efforts.

There's an opportunity to choreograph it.

It does depend on the individual channel.

Okay, Larry, what are your goals for gravity fed by the end of fiscal '04 and '05?

We had stated a goal when we went into this year of 7200 placements and I still feel confident that we will exit this year, fiscal '04 with 7200 placements and we've set a goal for 7000 additional placements in '05.

Okay.

The kids, you know, the kids in the condensed.

The kids eating soups sounds like a pretty big opportunity if you're getting traction on the marketing.

I was wondering whether you have plans for almost a separate kids line in '05?

Well, I'm not really going to go there, but we've been very pleased with our effort to date on our kids initiatives.

Okay.

Last question, just refresh my memory, what's the breakdown in condensed soup between eating soups and cooking soups?

Mitch, what we've said before is that uncondensed, the cooking soups, only thing we said is that adult eating soups represent about 25% of that condensed soups and that cooking and eating roughly split the rest.

So, kids eating, you mean?

No, I'm not talking about kids eating, I'm just talking in generalities, we don't break it down to kids versus adult eating, but the segment that we broke down when we talked about, you know, just other eating soups that adult-eating segment we talked to you about being 25%.

Okay, last question is --

You said that on the last one!

I -- well -- I'm sorry! [ Laughter ] It's never enough.

Private label, what's going on with private label?

In soup?

In condensed soup they continue to grow modestly.

Okay.

All right.

Thank you.

All right.

Next question, Michelle?

Our next question is from Philip Gossins of Credit Suisse First Boston.

Yes, good morning, gentlemen.

Phlilp Gossis, Fixed Income Research Just a housekeeping question before I have two specific questions.

Can you share with us the DNA number perhaps for the quarter?

We'll get that for you.

Gerry, have you got it Gerry?

Depreciation and amortization for the second quarter was $64 million.

Thank you very much.

And then the two questions I have, the first one, if I do my math right, I think you ended the quarter with about $908 million in short-term debt.

I'm going to assume that all of that is commercial paper.

Can you just give us a feel for whether you're comfortable keeping that in commercial paper particularly now that there is some potential for rates to go up later this year?

And then the second question I had, you recently reiterated again your desire to regain the 8-2 rating from Moody's.

Can you perhaps share with us some of your financial targets, particularly in terms of leverage and what we could expect in terms of additional debt reduction over the next let's say 12 to 18 months?

Thank you.

Let me start with the second part of your question first.

You know, I have stated very strongly that it is our goal to get back to a straight A-1, P-1 rating on commercial paper and that is clearly still the case.

And, you know, we are confident that hopefully within the next 12 or 18 months we can get there.

In terms of our financing strategy going forward, we're clearly, you know, we, in fact, believe the same thing and in fact, you just said that interest rates will rise and we are, you know, we are constantly, in fact, looking at our mix of commercial paper relative to the rest of our debt portfolio.

And the only thing, you know that I can say is that currently we're still satisfied with our level of commercial paper but it is something that, in fact, we continue to look at and clearly we'll look at much more aggressively down the road.

Okay.

And then just in terms of, again, the financial metrics, I mean if you at all, I don't think you have, but have you at all shared with us what kind of leveraged target you'd like to see down the road?

I mean currently I have you guys at 2.6 times debt over EBITDA.

Are you shooting to somewhere like a 2 level?

Or any color would be appreciated there.

Well, again, you know, I've also said that in terms of our long-term debt ratings we would also like to get back, you know, to a straight A rating and, again, I think we do have to improve our current ratio a little bit and clearly it's got to get better than the 2.6 and, you know, we'll, you know, we are going to do that going forward.

Okay.

Thanks, gentlemen.

Thanks, next question, Michelle.

Our next question is from Eric Larsen of Piper Jaffray.

Yes, good morning, everyone.

Congratulations.

Hi, Eric.

Quick question.

I want to focus a little bit on the gross margin again here and there's a lot of moving parts and they're obviously you're improving the quality, you've got promotional spending changes.

A lot of different things.

But a real fundamental question here is, you know, you've got very good growth in ready to serve soups, you're flattish to slightly down in condensed over time, but when you sell more ready to serve soup, your dollar growth margins are demonstrably higher, your penny profit is better with your or equal to or better with ready to serve and your return in invested capital has got to be higher because you're putting us to the same plants, but one of the fallouts of that is that it does result in lower percentage gross margins.

You know, it seems to me that you should be able to manage your way through modest revenue declines in condensed over time as you continue to rapidly grow your ready it serve soup volumes and be beneficial to shareholders.

Am I missing something there?

Eric, you've taken a page out of, you know, everything that I've been telling the external community for three years and, you know, that's exactly what we think here, that yeah, we are giving up percentage margins but, in fact, our penny profits are higher and we are, in fact, generating improvement over time in ROIC, simply because of our sales turnover.

Our dollar of sales per every dollar of invested capital is, in fact, improving.

So, that's exactly our financial model going forward.

Okay.

Again, and then a follow-up to that, and maybe what has led to maybe a much higher promotional environment this year than last is your extreme amount of high level of innovation in, you know, this year with all your convenience products and, you know, the bowls and the additional Soup at Hand products, do you envision the level of innovation being as high in '05, excuse me, in '05 versus '04?

Or is '05 going to be a year that you continue to just spend your dollars, just continuing to seed the products that '04 were introduced?

This is Doug.

We see a continued high level of innovation, whether it will rival this year or not, we're in the final throws of nailing that down for '05, '06.

But there is an enormous amount of untapped opportunity in soup as we start to view the way we're competing in our broader simple meal market and there's significant opportunity for meaningful incremental growth here, which we are just not going to leave on the table.

And so I think you can expect to see a fairly high level of innovation going forward, particularly on the soup front.

Okay, thank you, gentlemen.

Okay, Michelle, next question?

Our next question is from Paul Smith of Smith capital.

Hi, how are you?

Just a little ramp before I get to my question, you know, there's a lot of analysts pooh poohing the Q2 results due to the, you know, you had a benefit from the very cold weather, but, you know the same analysts were saying that you would miss your Q2 quarter due to the aggress 99 cent promotions by Progresso and the businesses also facing headwinds from the low carb trend.

I think those are clear signs that you're successfully turning around this business and I think the stock is going higher.

Aside from that, I saw news a few weeks ago that Interstate ended their distribution pact with Pepperidge Farm and I just wondered what the story is there?

And the contingencies you have?

This is Doug Conant.

One observation about the winter, for what it's worth, because we do track it, to the first half on average in the U.S., the temp tool was actually up 1 degree in our first fiscal half.

Certain pockets of the country, obviously, had inclement weather and January, the temperature was down.

But we would, we find that the number one reason people don't buy soup is because they didn't think of it.

And if the cold weather triggers it -- but what we found is our marketing can trigger that same thinking and we can do that 12 months a year.

So, weather helped in January, but overall it's about average.

In terms of the Interstate Bakery piece, we mutually agreed with them that there were better ways for both of us to move forward independent of one another.

We're very comfortable with what we've walked away from and in fact we have other opportunities to expand our distribution capabilities particularly in fresh bread, which we're going to pursue over time in a thoughtful way.

So, that's really a non-event in terms of our thinking.

Okay, Michelle.

How many more questions do we have in queue?

We have one more question, sir.

Alright.

We'll take that and then we have to quit.

Thank you.

Our next question is from Art Cecil of T. Rowe Price.

Art, I'm glad we got you in!

What luck!

Several people asked the question about promotional marketing spending in the second half and were politely rebuffed in terms of getting an answer.

It seems to me that if, you know, a very crude approach to this and only a partial approach to it would be to say that to the extent you are to take the second quarter EPS overage versus your original guidance, which is about 4 cents a share, and assume that's all going to be spent away in the second half and that that's the reason for no increase in yearly guidance, you're talking about $25 million over and above whatever increase you might have put into the budget before.

So, first question is, is all of the reason for the no increase in the full year despite the second quarter, due to your own initiatives in wanting to further increase your competitive spending levels?

Art, this is Doug, and then I'm going to turn it over to either Bob or Gerry.

But first of all, even in our earnings release a week ago we talked about three things that have fundamentally changed.

One is our competitive posture in soup, but also in terms of changing our outlook for the balance of the year, we talked about two other things.

One is the snack foods business in Australia where Frito-Lay has been extremely competitive with us and we're going to continue to compete there.

And that is different than when we provided guidance earlier and the other one is the Prego pasta sauce category has been adversely affected by this migration to lower carb diets and that's having an adverse affect as well.

So there were three things we pointed to we felt which overall characterized the change, the shift in guidance versus what we had originally provided.

If you were going to increase promotional funding in the second half on the order of, you know, in North American soup or U.S. soup by 10 or $20 million above what you previously planned, is that hard to execute so quickly with your retail customers?

Or is it fairly easy to get that kind of new spending into the marketplace?

Larry --

Yeah --

Wake up!

Yeah!

If all of that spending was just trade, we do need some lead time to do that.

But it's a combination of trade, consumer and advertising.

So, we've got sufficient lead times to get it into the market.

Art, this is Doug, just building on that.

What we're really doing is building up existing programs and making sure they have sufficient umph so we're not creating new programs, it's just bolstering the programming.

I see.

I think a year ago you guys were already warning us if you will, that '04 gross margins were going to be down somewhat.

And so the gross margin pressure that we see shouldn't be, you know, a big surprise and I guess I'm wondering, on the one hand is the gross margin experienced through the first half in keeping with your budget?

Art, clearly we've had a much stronger performance of the convenience business than we had planned so to that extent the margins have been a little bit more unfavorably impacted.

So, again, you know, --

But you're willing, you're happy to make that trade-off every time, aren't you?

Yes, in fact, you know, there was a question just asked, you know, before you got on, again, about penny profits and I have been saying that all along, that that is playing right, you know, right where we want it to play.

So again that's what I have to say about that.

Art, this is Doug.

The whole focus of this program, if I go back to the beginning of our transformation plan, was to get the soup business growing again.

Yes, right.

And we've always talked about the gross margins being under pressure and we've acknowledged that.

The important thing to me is that we're demonstrating that we can get traction in the marketplace.

In the last five quarters, our North America Soup results were up top line, were up 2% in quarter two last year, up 17% in quarter three, 11% in quarter four, 8% in quarter one of this year and 8% in quarter two of this year so the most important thing is we're demonstrating we can get traction in the soup business and what we're saying now is we just got to turn with the infrastructure we built, we can drive soup growth and now we just got to really redouble our efforts to tighten the margin.

Okay, now, just as a year ago you were guiding people to expect a lower gross margin in '04, are you now guiding us to think of a stable gross margin in '05?

It sounds like you are based on earlier comments, but I wanted to clarify that.

Well, Art, when, in fact, we talk about margin, we're talking about EBIT margins as much as we are about gross margins.

I'll take either one.

So will I! [ Laughter ]

But what's your guidance --

And I will leave it at that.

But a year ago you were actually providing guidance, I think, on the '04 margin picture, especially on the gross side.

And --

Well, I don't think we have, in fact, provided any --

Not specific --

Any measurable guidance, but, in fact, we did say that, in fact, we thought that both gross margins as well as EBIT margins would be down --

Right.

In fiscal year '04.

And, you know that was primarily based on the fact that obviously we, in fact, knew we were going to drive a mix shift in the soup business toward the convenience platform.

So, again, as we look toward FY '05, you know, in some respects we're still swimming against that current.

You know, however, there are other, you know, opportunities available to us, which, you know, we are planning to pursue to, you know, to hopefully move us to a situation where we have stable margins next year.

In '05?

That's correct.

Thank you all very much.

Thanks a lot, Art.

Thanks everyone for joining us here today.

Michelle, that will end our call.