好時 (HSY) 2009 Q3 法說會逐字稿

Good morning.

My name is Letricia, and I'll be your conference operator today.

At this time, I would like to welcome everyone to the Hershey Company Third Quarter 2009 results Conference Call.

All lines have been placed on mute to prevent any background noise.

After the speakers remarks, there will be a question and answer session.

(Operator Instructions).

Thank you.

You may begin the conference.

Thank you, Letricia.

My name is Mark Pogharian.

I head the Investor Relations group at the Hershey Company.

We welcome all of you on the call today for Hershey's Third Quarter 2009 Conference Call.

Dave West, President and CEO, Bert Alfonso, Senior Vice President and CFO, and I will represent Hershey on this morning's call.

We also welcome those of you listening in via the Webcast.

Let me remind everyone listening that today's conference call may contain statements which are forward-looking.

These statements are based on current expectations which are subject to risk and uncertainty.

Actual results may vary materially from those contained in the forward-looking statements because of factors such as those listed in this morning's press release and in our 10-K for 2008 filed with the SEC.

If you have not seen the press release a copy is posted on our corporate website, www.Hersheys.com, in the Investor Relations section.

Included in the press release are consolidated balance sheet and summary of consolidated statements of income prepared in accordance with GAAP as well as our pro forma summary of consolidated statements of income quantitatively reconciled to GAAP.

As we've said in the press release, the Company uses these non-GAAP measures as key metrics for evaluating performance internally.

These non-GAAP measures are not intended to replace the presentation of financial results in accordance with GAAP rather the Company believes the presentations are excluding certain items provides additional information to investors to facilitate the comparison of past and present operations.

We will discuss our third quarter 2009 results excluding net pre-tax charges, the majority of the changes in both 2009 and 2008 are associated with the Global Supply Chain Transformation program.

These pre-tax charges were $11 million and $31 million in the third quarter of 2009 and 2008.

Our discussion of any future projections will also exclude the impact of net charges related to these business realignment initiatives.

Lastly, over the last two months or so there have been numerous unconfirmed media stories related to the Hershey and confectionary industry consolidation.

Per Hershey Company policy, we will not comment on address these speculative stories during today's question and answer session, nor will we discuss any potential industry M & A matters.

With all that behind us let me turn the call over to Dave West.

Thanks, Mark.

Good morning everybody.

I'm pleased with Hershey's third quarter results.

Net sales were in line with our expectations as we're lapping the impact of last year's buy in and our decision in the second quarter of 2009 to discontinue Starbucks and Cacao Reserve.

Excluding these items, third quarter net sales would have been about in line with retail take away.

From a profitability perspective earnings, came in a bit better than our expectations.

Our overall commodity cost profile was higher this quarter than in 2008; however, similar to the first half of the year, dairy prices did not materially increase versus our estimate and volume elasticity in the convenience store channel was better than our original forecast.

In terms of Hershey's marketplace performance, total candy, mint and gum or CMG, retail consumer take away for the 12 weeks ending October 3 and the year-to-date periods for our custom database in channels that account for over 80% of our retail business was up a strong 4.8% and 7.8% respectively.

As a reminder, these channels include food, drug, mass, mass here including Wal-Mart and convenience stores.

This is higher than the FDMX data that most of you received from IRI or Nielsen.

While an important part of our business, FDMX captures only about half of our retail take away, and excludes one of our larger mass customers as well as C-stores, our most profitable channel.

Within food drug mass excluding Wal-Mart and convenience or FDMXC, the category also continues to grow.

Year to date, CMG is up 4.5% in the measured channels, greater than the historical growth rate of about 3 to 4%.

In the third quarter, CMG was up 2.7% again excluding Wal-Mart.

As we look to 2010, we would expect historical growth rates to prevail in the category, although the underlying drivers of this growth may differ.

Total category growth and Hershey retail take away was approximately the same at 2.7%.

As a result, market share was flat in the quarter.

On a year-to-date basis, we've gained 0.3 points of market share in FDMXC.

We continue to perform particularly well and gain share in the food and convenience channels, where retail take away and market share performance have been relatively predictable and consistent.

Our continued successful performance in these two classes of trade is a result of the targeted investments we've made in these channels over the last 18 months related to our salesforce, consumer insights and in store merchandising.

Overall, the category continues to be driven by mainstream every day confections, as the premium, gifting and novelty sub segments remain soft.

Specifically, within the food class of trade, CMG grew by 4.7% while Hershey take away increased 5.5% in the third quarter.

This resulted in a market share gain of 0.2 points.

In Q3, Hershey's food class of trade chocolate and non-chocolate take away was up 5.1 and 12.3% respectively, resulting in a market share gain of 0.1 and 0.3 points.

These results were driven by increased levels of core brand advertising, including new Twizzlers and Kit Kat copy as well as in store merchandising supporting the Hershey's S'mores campaign, the Reeses Loves You Back promotion and the Share the Bliss promotion.

As it relates to the new promoted price points in the food channel, the S'mores promotional volume elasticity was within our estimated change.

This year's Halloween season is marked by a bit of an unusual calendar with Labor Day as late as possible, on September 7, and then October 31 falling on a weekend.

With this pattern we expect purchases to be especially compressed.

To date, retail customer Halloween orders and sell-through are about on track with our expectations.

Although we will not have a complete read on sell-through for another couple of weeks.

We believe we have the right mix of seasonal specific advertising, couponing, and programming lined up to help consumers adjust to the new promoted price points.

Turning now to the C-store class of trade where the category was up 3.8%.

In the third quarter, Hershey's C-store takeaway increased for the sixth consecutive quarter and was up 5.8%, resulting in a share gain of 0.5 points.

In Q3, Hershey's C-store chocolate and non-chocolate take away was up 7.3 and 9.3%.

Similar to the first half of the year, these gains were driven by price realization, King size distribution gains and strong in store selling and merchandising.

Additionally, while volume was off, it continued to be better than our elasticity models had predicted.

This was driven by successful programming in retail activity including the Reese's Perfect Pit Stop Nascar promotion, the two for $2.50 King size promotion and the Hershey's Rock Your Block standard program to win a private concert with Rascal Flatts.

As we enter the fourth quarter, we have lapped the benefit of the price increase in the convenience store channel and expect retail take away dollar growth to slow a bit.

The biggest drag on our overall FDMXC market results in Q3 was our performance in the drug class of trade.

Retail take away declined and our market share was off 1.8 points.

There are a number of dynamics that play in this channel.

This remains an important class of trade and we are working with our strategic customers to insure sustainable long term growth, however we do expect the drug channel to remain a head wind on our overall marketplace performance into the fourth quarter.

As we close the year we'll be active in the food, mass and convenience channels with greater levels of brand building initiatives, including core brand merchandising and consumer promotions around the holiday and baking season, as well as the launch of Hershey's Special Dark, Almond Joy and York pieces and the introduction of Hershey's Bliss white chocolate.

Additionally.

Q4 advertising will increase and full year advertising expense is now expected to be up about 50% in 2009.

As we stated in the Second Quarter, our strong first half results enable us to initiate several key strategic projects in the back half of the year.

This work has commenced as we exited the third quarter.

The acceleration of these domestic and international investments and our consumer capabilities, customer insights and category management techniques will benefit the Company and our customers over the long term, but we will feel some incremental expense impact in Q4.

To wrap up, despite the macroeconomic challenges facing the consumer, the category continues to grow across retail channels.

The advertising and consumer investments we've made in the business in 2009 have enabled us to overcome the top line challenges, especially price elasticity impacts that we faced entering the year.

Recall our initial outlook for sales growth was 2-3%.

In totality, the advertising, consumer promotion, selling capabilities and merchandising have combined to help drive greater customer and consumer conversion, which has progressively improved as we increased our investment throughout the year.

Therefore, as I mentioned earlier, we'll continue to make appropriate investments to insure a healthy category while driving our every day and seasonal business.

We expect full year 2009 net sales growth to be within our 3 to 5% long term target and adjusted earnings per share diluted to be in the $2.12 to $2.14 range.

As we plan for 2010, we believe consumer confidence will continue to be a challenge; however similar to 2009 we'll make the investments in our brand to support unit conversion progression.

We therefore expect 2010 net sales growth to be within our 3 to 5% long term objective.

While early, based on our current views related to the economy, our consumer investment and resulting marketplace performance as well as the profile of our cost structure, we expect growth in adjusted earnings per share diluted to be within our long term objective of 6 to 8%.

I'm proud of the work and the committment across the entire Hershey organization.

There were many unknowns as we entered 2009.

We were in the early stages of a new and evolving go to market strategy focused much more on consumer pull.

We're undertaking a transformation of our Global Supply Chain and we're executing a material but necessary price increase across the entire product line in the face of steep input cost pressure.

All of this against the back drop of macroeconomic uncertainty.

Our iconic brands, brands that consumers love and trust, coupled with strong organizational committment and execution, have helped deliver strong year-to-date results, while positioning us to deliver in both Q4 and importantly against our long term goals.

I'll now turn it over to Bert Alfonso, who will provide some additional financial details.

Thank you, Dave and good morning everyone.

Third quarter consolidated net sales of $1.484 billion was slightly down versus the prior year, by minus 0.4%, and in line with our expectations.

Adjusted earnings per share diluted of $0.73 increased 14% year-over-year.

This was primarily due to price realization, better than expected volume trends versus our original estimates within a convenience store and consumable pack type and supply chain efficiencies and productivity.

There were a lot of moving parts in the third quarter sales figure, but before I get into the details, let me remind you that in the year ago period, sales increased 6.4%, including about 2% from the volume of the August 2008 price increase.

Third quarter 2009 gains were realized from US price realization, partially offset by volume declines driven by price elasticity, unfavorable foreign currency exchange of about one point and previously communicated 2009 mid year actions to discontinue the Starbucks and Cacao Reserve product lines.

During the third quarter, adjusted operating gross margin increased 480 basis points, driven by net price realization, supply chain efficiencies and productivity savings.

These margin gains more than offset higher input costs of about 175 basis points, primarily reflecting total consolidated cost increases for raw materials.

In addition, higher employee benefit costs including pension expense for our manufacturing facilities also reduced gross margin in the third quarter.

Our year-over-year commodity cost impact was significant; however, similar to the first half of the year, the impact in the third quarter was less than we originally expected primarily due to lower dairy costs.

At this point in the year, we have good visibility into our dairy needs and spot market prices, and do not expect material dairy price inflation in the fourth quarter.

Also in the fourth quarter we are cycling the decline of dairy prices which started in the year ago period, therefore dairy costs will not be as favorable in the fourth quarter comparison.

Third quarter adjusted income before interest and income taxes increased 15.8% resulting in pro forma EBIT margin expansion of 280 basis points to 19.6% from 16.8%.

This was driven primarily by price realization, supply chain savings and productivity, which were partially offset by higher advertising and market research, pension expense and employee related costs.

We continue to invest in our core brands and advertising and expense will increase 53% in the quarter as we were on air supporting core brands including Hershey's, Reeses, traditional silver Kisses, Hershey's Bliss, and also began to air Twizzler and Kit-Kat copy.

Now let me provide a brief update of our international businesses.

The countries we operate are facing many of the same economic challenges as are impacting the US.

Overall on a constant currency basis, and excluding the Manhattan business we acquired earlier in the year, sales were up a little more than one point.

Our business in Brazil had a solid quarter, with sales up double digits on a constant currency basis, driven by Hershey's flagship brands.

This was the best performance since the distribution joint venture with [Batuko].

Canada and India confections were slightly up while Mexico and India beverages were slightly down.

Total reported international profitability in Q3 was slightly down versus a year ago, driven by the investments we made in key markets.

In the current fourth quarter we expect to make additional marketing investments in key international Markets.

Moving down the P & L, for the quarter interest expense decreased due to lower commercial paper balances and related interest rates.

Interest expense was $22.3 million versus $24.9 million in the prior period.

In 2009 we expect interest expense to be down about 5% versus 2008.

The tax rate for the third quarter was 37.2%, and higher than the prior year due to the impact of interim accounting, for the full year 2009 we continue to project a tax rate of about 36%.

In the third quarter of 2009, weighted average shares outstanding on a diluted basis were 229.6 million versus 228.7 million in 2008, leading to adjusted earnings per share of $0.73, up 14% versus year ago.

Now let me provide a quick recap of the year-to-date pro forma results.

Net sales increased 3.6%.

Gross margin was 38.3% year-to-date versus 35.2% last year, or 300 basis points higher.

The increase was driven primarily by pricing, partially offset by higher input costs.

To date, commodities were unfavorable by about 215 basis points.

Advertising increased 49% on a year-to-date basis, adjusted income before interest and income taxes increased 15.7% resulting in an EBIT margin gain of 170 basis points to 16% from 14.3%.

Adjusted earnings per share diluted for the nine month period increased 18.5% to $1.54 per share.

Turning to the balance sheet and cash flow.

At the end of the third quarter, net trading capital decreased versus last year's third quarter resulting in a cash in flow of $129 million.

Accounts receivable was down $47 million and remains extremely current and of high quality.

We continuously monitor our accounts receivable aging, and despite current conditions in the financial markets we have not seen a significant impact in our customers payment patterns.

Inventory declined by $115 million and accounts payable decreased by $32 million.

This represents 11 consecutive quarters of year-over-year reduction in net trading capital which is a key focus area.

We expect net trading capital to further improve in the fourth quarter served primarily by lower inventory.

I would also note that inventory at key distributors are at optimal levels due to year-to-date retail take away of 7.8% and FDMXCW which is food, drug, mass, including Wal-Mart and convenience stores.

In terms of other specific cash flow items capital additions including software were $33 million in the third quarter and $107 million year-to-date.

For 2009 we are revising our capital expenditure guidance and targeting total capital additions of $135 million to $145 million versus our previous estimate of $155 million to $165 million.

About $40 million to $50 million of the CapEx forecasted is related to the Global Supply Chain Transformation program.

Depreciation and amortization was $45 million in the period.

Note that there was no accelerated depreciation from the Global Supply Chain Transformation in Q3.

Year-to-date reported depreciation and amortization was $139 million and included $3 million of accelerated depreciation.

In 2009 we are forecasting total depreciation and amortization of $185 million including accelerated depreciation and amortization of 5 million.

Dividends paid during the quarter was $66 million.

We did not acquire any stock in the third quarter related to the current repurchase program and there is $100 million outstanding on the current authorization.

During the quarter we made voluntary pension contributions of $43 million to our qualified pension plans to improve our funded status.

Assuming the financial markets and the year around September 30th levels we would not expect pension expense to be a head wind in 2010.

Now let me provide an update of the Global Supply Chain Transformation program.

At present all scheduled facility closures and major construction of our Monterey, Mexico facility are essentially complete.

We're maintaining our incremental 2009 projected savings of $60 million to $80 million, bringing the cumulative project to date savings to 140-160 million.

During the quarter we recorded Global Supply Chain Transformation charges of $11 million, which include $6 million of non-cash pension settlement charge, $2 million of line start up costs and cost of sales, and $2 million of admin expenses reflecting program management costs.

The forecast for total charges related to the program is unchanged and expected to be $600 million to $665 million including remaining non-cash pension settlement charges of $30 million to $40 million in 2009 and 2010.

For 2009, total GAAP charges related to the Global Supply Chain Transformation group are expected to be $100 million to $120 million including remaining non-cash pension settlement charges.

As the Global Supply Chain Transformation program is completed and earnings continue to grow our cash flow will further improve.

As we go forward, we'll have strategic Board level discussions related to capital structure, share buybacks and potential dividend increases as well as opportunities to expand our international business.

We will balance these considerations and our desired financial flexibility in recommending to the Board how to deploy our excess cash.

Now to summarize.

We are pleased with our third quarter and year-to-date results.

In the fourth quarter we expect price realization to have a smaller impact versus year-to-date.

In addition, due to the timing, shipments of Valentine and Easter seasonal products will be lower in the fourth quarter versus 2008.

I also remind you that the closure of our online gifts business will have a negative impact on fourth quarter net sales.

Continued brand building initiatives are scheduled for the remainder of the year including consumer promotions and merchandising.

Based on year-to-date results and planned fourth quarter initiatives, we expect 2009 net sales growth to be within our 3 to 5% long term objective.

To insure that our seasonal offerings are successful in the marketplace in the fourth quarter we have further increased our full year advertising expense and expect it to increase about 50% in 2009.

We'll also incur higher levels of consumer promotion and launch costs related to the introduction of Hershey's Bliss White and the Pieces line up.

Given our financial flexibility, we're accelerating domestic and international investments in Q4 and consumer and customer insights and category management capabilities that will benefit the Company over the long term.

Therefore, we anticipate adjusted earnings per share diluted for the full year to be $2.12 to $2.14 range.

As we look into 2010, our initial planning assumption is that it will continue to be a challenging economic environment for customers globally.

As such we will make necessary investments to insure continued conversion related to last year's price increase.

There for we expect net sales growth to be within our 3 to5% long term objective, fourth quarter seasonal sell-through will impact our approach and investment for upcoming Valentine and Easter seasons, both of which will be higher seasonal promoted price points.

While still early, given our current views of planned marketplace investments and cost structure, we expect 2010 growth and adjusted earnings per diluted share to be within our long term objective of 6 to 8%.

We will now open it up for Q & A.

(Operator Instructions).

Or first question comes from the line of Vincent Andrews with Morgan Stanley.

Good morning everyone, thank you.

Just looking forward to 2010, if you can give us color on where the break down of the top line growth?

As we look ahead to 2010, we'll continue to work through to invest in the brand and the capabilities so that we can continue to convert consumers to the higher price point, we have a carryover effect from the price increase that was announced in August of 2008, and so that will continue through Valentine's and Easter, and then we have a little bit of a less of FX headwind and the category has traditionally historically grown at 3 to 4% level and the drivers differ by year and we would expect it to be pretty consistent with that but the most important thing for us is we'll continue to invest in conversion.

So far, we've been pretty much on track with our estimates in terms of how the consumers react so as we look to next year we'll get carryover pricing and the seasonal period and we'll read the effect of the consumer has in Halloween and holiday and continue to roll forward any adjustments that are necessary there but next year is really about continuing to invest in brands and capabilities and get the units to go.

Just as a follow-up, it looks like dairy turns inflationary for you in January.

One, is that correct, and do you feel like you'll need to take any pricing to deal with that or will you use internal cost productivity to offset that?

Well we aren't going to address pricing per se.

What I would say consistent with my comments earlier is that you're right about in the fourth quarter this year, we will start to have a more comparable dairy cost and so we expect less of a positive impact on the fourth quarter.

As we get into next year, we'll see how dairy prices actin a marketplace but they will be more similar to the previous year.

Okay, thank you very much.

I'll pass it along.

The next question comes from Alexia Howard with Sanford Bernstein.

Hello there.

Good morning, how are you?

Very well, thank you.

A couple of quick questions.

I just building on Vincent's question on the commodity side, we've obviously just seen cocoa prices hit historic highs in the December futures I know you hedge out quite a way on cocoa, but what does the commodity cost outlook look like for next year given the recent increases in cocoa and sugar prices?

We look at it more, I think Alexia in terms of the cost basket although you're quite right, commodity costs are important to us, and we monitor them closely and at any particular point depending on where we see value in the market we do obviously take part in the forward market with the exception of dairy where there's not an already forward market.

I would tell you that next year, we have things that we're planning on, we do have some additional savings from our Global Supply Chain Transformation which will continue into next year and certainly we're expecting top line growth to help us in that regard, so right now, we're looking at the totality of commodities plus the other things that we're doing.

The other thing I would add is within our manufacturing footprint now that we've largely completed that we are seeing other opportunities we did not necessarily include in the initial savings numbers, on the procurement side and taking advantage of the more streamlined footprint that we have, so we're still targeting 6 to 8% next year within the outlook that we have, taking into account commodities and the rest of the costs.

Okay, great, thank you very much, and just a really quick one.

You mentioned that the timing of Easter shipments is going to be a bit lower in the fourth quarter.

Did that benefit you in the third quarter this time around or was there something strange going on with the timing on that?

As we look out in the fourth quarter, Valentine's and Easter shipments which normally all have occurred either in the fourth quarter or first quarter, there's just more of them in the first quarter of next year so we actually had some volume that would normally have moved in December, it's just basically sitting on the edge of January and December now looks like it's going to move in the fourth quarter this year or the first quarter next year to the fourth quarter this year.

Great.

Thank you very much, I'll pass it on.

Your next question comes from the line of Robert Moskow with Credit Suisse.

Hi, thanks.

Could you talk a little bit about your comments about 2010?

You said that it's still a difficult economic environment out there.

Have you seen any changes recently in how retailers are thinking about seasonal categories, what kind of buy ins they're prepared to do?

I read in a trade magazine that Halloween was actually expected to be down 10% category wide, perhaps because of the higher pricing or just because retailers are just concerned about taking on so much inventory.

Could you talk a little bit about that?

Yes, I think we continue to see that the consumers challenged, Rob, and there is some channel shifting more oriented toward value channels.

There are fewer trips to the store, and what we're seeing is a shift towards more eating at home and more stock up trips that are more oriented around the time of paychecks and government checks etc.

With respect to the seasons, you have to put in perspective that included ignition that you see as a Halloween category seasonal buy is anything, it's candy is included in that but you'll see costumes, novelties, any plastic pumpkins, paper plates, crepe paper, all of those things wind up in that seasonal buy and there's going to be some higher price point items I think outside of candy that are probably going to suffer somewhat in this kind of economy and very expensive costumes et cetera, probably would, so I'll talk about our business for Halloween.

I think we're pleased with the Halloween sell in and we think we had a good sell in and at this point sell-through is about where we would expect it to be and obviously the biggest issue for us in the halloween season is higher promoted price points and how the consumers adapting and at this point in time we're pretty much on track but obviously the seasons I think the one thing the economy is doing is creating a little bit more seasonal compression as consumers are watching their dollars more closely and they tend to be spending them a little later in the season.

And then maybe Dave you can talk a little more broadly about in the U.S.

specifically because that's where you compete, you have Wrigley and Mars combining and integrating and now you have the possibility of a Kraft Cadbury combination, what are you seeing in terms of execution as a result of the Wrigley-Mars combination?

Are you seeing anything different about how they go to market, and has it made your life any tougher?

Because your market share is up this year so it doesn't sound like it's made life tougher yet.

Yes, I think actually in terms of the marketplace landscape, Rob, the bigger impact and the biggest impacts are really macroeconomic.

It's the input prices and resulting need for all of us to deal with our margin structure and this consumer sentiment is channel shifting and those are the big macroeconomic, those are the things driving the category right now and obviously we continue to monitor competitors and we have a healthy respect for what has always been a very good competitive category with very strong brands.

We continue to come back to what our strengths are in our US market which is category leadership, retail execution, our ability in terms of getting to scale in terms of technology and input costs and we continue to focus on those things, we think those are enduring competitive advantages for us and we're as we said in the second half of this year we've made investments to make sure those competitive advantages become even more compelling for our customers and consumers as we go out into the market so right now I think we're gaining share.

I think the biggest thing we're all dealing with is the macroeconomic environment as well.

Thank you.

The next question comes from Terry Bivens, JPMorgan.

Good morning, everyone.

Hi, Terry.

Bear with me just one second.

Okay, here we go.

Two questions.

First of all you know you're taking all of the fun out of the call by not commenting on M & A, right?

That was our intent.

But listen, two things on the Bliss thing and I know we sometimes go back and fourth on the numbers but as we look at it, it looks as though the Bliss bag is not performing maybe as well as you might have hoped so far, so I guess what I'm wondering is as you look into the halloween season and the holiday season beyond that, do you think that is it your opinion now that the higher promotional pricing is going to hold or are you beginning to think that maybe there's going to need to be a little more promotional money supplied and I have another quick one after that.

I mean at this point, Terry, with respect to Halloween, we are seeing and when you look in the IRI data and all of the latest period ending 10/3 really haven't seen a whole lot of the effect of that yet.

You are seeing obviously higher price points and when you read the data, so that's what's happening at retail is the price points are higher and we would expect that to be the case throughout the season as well as into holiday and then through obviously through into Easter, Valentine's and Easter.

I think it's a little slower start to the season than normally would happen because Labor Day was as late as it could possibly be so things probably got set about a week later than they normally would so when you look into the 10/3 data it's really hard to read that data but when you look at the prices per unit they're significantly higher which is what we would expect.

And the real acid test is probably to come on this Saturday of Halloween, right?

When a lot of people are going to buy?

Actually it goes beyond that, Terry.

It really is Halloween is a destination family oriented more of a give away.

When we get to holiday, again, it's a little bit of a different consumer and usage occasion and then when we get to Valentine's Day it's a purchase by adults for adults so we're going to learn a lot over the next three seasonal windows all the way out through Valentine's Day, and I think what we're seeing is that as we look at IRI all of the major manufacturers are recognizing higher prices in the 10-3 window.

Okay, and just one other quick thing on Bliss.

We've noticed as we moved through the year that it does appear whenever Bliss is up, Kisses seems to be down and vice versa.

Are you guys looking at cannibalization between those two product lines?

I'm not going to specifically talk about what we think cannibalizes what but we do watch cannibalization and what I think you'll see is at the way we're promoting right now, Bliss tends to be promoted at a different window than Kisses is promoted, and so they are in different windows of promotion, so they are separate and they've been separate in terms of what they're promoted with and what the price points are, so but in any case on any of the items that we look at launching we always look at cannibalization and when you have a market share in chocolate or in packaged candy in the 40% share range, you're likely to cannibalize yourself on some level and we always look at our own brand interaction.

Okay, thank you very much.

Next question comes from David Palmer, UBS.

Hi, just a question on Bliss, a follow-up there.

Could you give us a sense on any repeat metrics on Bliss?

The reason we ask is as you know the confectionary space has had sketchy track record on year two on some strong starts of new products and if the repeat levels are good and you can't really share exact numbers, maybe you can compare the type of repeat you're seeing to some other examples of past products to give us a sense.

A couple of things I will tell you on Bliss.

Our trial and our repeat rates are tracking to what we would have initially modeled and that's absolutely the case.

We have invested in Bliss in year two.

We have continued to support, we actually have more year two support on Bliss than we did in year one.

We'll continue to support Bliss as we look forward into 2010 as well.

I think obviously one of the things that certainly is a factor is the premium and trade up spaces have been somewhat compressed from a space standpoint and that's where Bliss plays and obviously at a slightly higher price point, one of the questions around Bliss is obviously going to be around the level of merchandising activity but as we think about the brand health, trial, repeat, consumer impression, all of those things and consumer feedback we always track likes and dislikes and consumer complaint ratios.

All of those things seem to be in line with where we would like to be.

We continue to remain confident in the brand in the future and we'll continue to invest in it.

Obviously we're launching a trade up brand into a more difficult economic environment so it may take a little more time to get to traction but we're feeling pretty good about where we are.

So it sounds like the trial's more the struggle there than the repeat?

I mean, is there some sort of analagous product that you can compare Bliss to at this point in terms of how it's going?

Again, trial and repeat are where we thought they would be.

I think what I would say is there's probably not another product that's analagous for us because this is by far the most significant year two and year three investment we'll put in any brand, so I don't think there is anything else in the portfolio that we've frankly supported in this way, so it kind of stands alone.

It's tracking to the internal metrics and as I said, given some of the price point and pressure and trade up in the trade up space, merchandising has probably not been what we would have liked it to have been but that's true for all of the trade up brands, not just for Bliss.

And just one separate question, what are you thinking about potential restructuring charges for 2010, any rough sense there, and would you remind us if you're thinking that 2011 will be restructuring charge free or not?

Thanks.

The Global Supply Chain Transformation, I've mentioned that it is in the final stages and so while there will be some charges next year and potentially some pension settlement charges, they certainly will be at the lower end compared to the previous two years, so by 2011 certainly related to Global Supply Chain Transformation there will not be charges.

Any sort of rough brackets around what that number might be for next year?

For 2010, our costs this year are going to track close to around a $600 million mark and the total project cost which I mentioned would be 640 to 655, plus again that has a lot to do with the level of pension settlement charges and there's a threshold accounting that goes with that so it's a number that really depends on the lump sum distributions that are made and that's the election of the folks that are leaving the Company, so it's more of a range so you can think of it as 600 this year and somewhere around 50 next year incrementally.

David this is Mark.

I think it's about $603 million year-to-date and as Bert referenced.

there will be pension settlement in the fourth quarter that pushed that number up maybe closer to the 620 range so it doesn't leave much left for next year.

Great.

Thanks guys.

The next question comes from David Driscoll, Citi Investment Research.

Congratulations on an excellent quarter guys.

No one else seems to be acknowledging it but I will.

You really have done a great job turning the ship around here and this performance is remarkable.

A number of questions.

Dave, on the big picture thesis here, I continue to feel like folks are missing the forest here through the trees.

What should the operating margin be at Hershey?

You ended 2008 at 15%.

We're seeing enormous margin increases on both the gross and operating margin side.

I want to argue a high teens operating margin is a very respectable and reasonable place for Hershey to ultimately get to.

Would you agree with that basic framework?

David, I'm not going to give you an exact target because we typically don't forecast gross margin.

Certainly, we're very pleased with the quarter where gross margin expanded 480 basis points and 290 year-to-date.

When you think about the fourth quarter, I mentioned that dairy would not be as favorable year on year simply because of we're lapping the lower prices.

We do expect gross margin expansion into the fourth quarter not at the level that we achieved in Q3, and as you look forward into next year, we're still counting the numbers but our objective is to continue to be able to improve gross margin.

I think that David, if you look at the, if you imply 6 to 8% long term growth going forward, I think you'll get, you can model it out.

I think the macro, the way to think about it from a macro sense is we've been very pleased this year on two different fronts.

We have gotten the gross margin expansion that we felt we needed to get in the P & L given our input costs, so the Global Supply Chain savings and pricing have certainly flowed through to the gross margin line and we're very pleased with that and also the important thing is we have had reasonably good earnings per share growth this year in 2009 and we have at the same time been able to deliver a 50% increase in our advertising and so I think that what we're doing is we've really gotten our P & L model totally shifted around here in terms of gross margin and then the ability for that gross margin to fund investments so I think as you leave that's the macro statement I would make is that we have done, we've been able to get the gross margins up and as we needed to but also then been able to reinvest so we're pleased with that model and then as we go forward if you look at the long term growth, the long term growth model you can kind of imply where the EBIT margin goes.

Okay, on the 2010 commodity outlook there were specific questions on cocoa and specific questions on dairy.

You guys often gave a more comprehensive comment when you talk about the visibility of your cost structure.

Can you give us that comment for 2010 and can you say whether or not you have good visibility into the cost structure for 2010 at this point?

David, I'm not sure when in the year we typically do that.

I think it's a little earlier than normal.

What I would say is that again, we look at it more as a cost basket.

We look at our savings programs and our productivity programs along with the increases we expect and aside from dairy we obviously do have some forward cover employed, depending on if we see value in the market.

Not going to comment specifically on cocoa or any of the other commodities, what we do feel that we can acknowledge right now is that the three to five and six to eight for next year is certainly achievable within our plans at this point.

And then just a final question here.

For the quarter I estimate that pricing was something around 13% give ore take, I know you guys don't like to comment on this exactly, but because these numbers are so large can you just tell me whether or not I've got it in the right ballpark?

It was low single digits.

Pricing?

Low double digits.

Sorry, David.

Low double digits.

That was going to be a double and triple take if that was right.

No, sorry, David.

Thanks guys.

Okay.

Next question comes from Eric Serotta with Consumer Edge Research.

Hi, guys.

Hi, Eric.

Wanted to drill into the third quarter gross margin and a little bit more detail.

Obviously you had a very nice benefit from that low double digit price increase.

You also had 175 or so basis point headwind from the commodities that you mentioned.

I guess could you help me bridge the year-over-year delta a bit?

It would seem that there was a real step change that occurred this quarter.

You have been realizing high single to low double digit pricing increases year-over-year over the past two quarters.

Was there a step change in terms of the Global Supply Chain cost savings, the ramp up of production in Mexico, anything like that that would help explain the really outsized gross margin gain this quarter relative to the past few?

I'll say that our performance in Supply Chain overall was quite good, not just the Supply Chain Transformation program, although we said it earlier in the year and see if that Supply Chain Transformation program savings were toward the back half of the year and that was just the timing of the plant, the last couple plants that we closed happened to be toward the end of last year and so we're seeing benefit year on year at this time of the year so that combined with what I would say is also very good performance and just overall productivity within our Supply Chain is what really was making the difference.

Okay, and it seems to be just a very large difference when you factor in the commodity headwinds and the like, so it sounds like you're doing a lot of good work there.

Dave, shifting gears, you mentioned the one area or the one channel that has been disappointing has been the drug channel and if I remember correctly you talked about both category weakness and share loss there.

I'm wondering whether you could give some insight into what you think is going on in that channel and why that channel, why your performance in that channel is different from your performance in other channels?

Yes, I think, Eric, I guess what I would ask you to do is reflect back to 2004, 2005 and 2006 and the business model that we were going to market with was actually hugely successful in working with the drug retailers and we had some extremely good performance, some really strong share gains and it was really around the level of innovation and some of the expansions that we had made from a category Management standpoint.

As we've kind of reshifted our model and our model is much more about focusing back on core SKUs, taking out a lot of limited editions and some of the variance and then also really shifting our focus more to consumer and pull versus some of the push initiative that we had in 2004, 2005 and 2006, that strategy has not worked as well for us with the drug customers and so these are really important customers, large customers for us.

We've enjoyed very longstanding and valued relationships with them and we're working really hard with them to make sure that our kind of our go to market and business strategies are more aligned and clearly we haven't quite hit the right stride with them yet with respect to some of the price increases and other things that we're doing from a consumer standpoint.

We're working really hard with them to make sure that it's right because as I said we have great longstanding relationships with them and drug is such a large part of the category so we're working with them to go any further than that would be inappropriate in terms of the specifics of each customer's relationship.

Sure.

Just to ask you one more question on the subject, not at the customer level but it seems like some of the things that you mentioned in terms of the focus on the core brands, the shift from a push to a pull model have been in place for the past year and a half or so, is this weakness in the drug class of trade new to this quarter or was it new to the Third Quarter or is this something you have been seeing but you're really only just calling it out this quarter?

It's actually been exacerbated in this quarter but certainly not new to our performance.

It's just gotten a little bit worse in the third quarter to the fourth quarter and a lot of that is around price increases and some of the seasonal executions and I'm not sure our go to market strategy exactly lines up 100% with what they're doing and we need to figure out how we make that work.

Great.

Well good luck and thanks a lot.

Thank you.

Our next question comes from Eric Katzman with Deutsche Bank.

Hi, good morning everybody.

Hi, Eric.

I'm not sure what Dave Driscoll is having for breakfast but I hope I could get some because I just don't view your top line as being nearly as good as he is and your profitability was excellent but if your pricing was up 10%-plus and your currency was a negative one does that imply your volumes were down close to double digit?

If you do the math you have to also remember there was 2-3% buy in that's recycling from the year ago, so you have to adjust for that factor as well, so when you make the adjustment for the one off items as well as discontinued items in premium to reserve Starbucks, overall we tracked pretty close to the take away numbers we mentioned in terms of the category and given the significance of the price increase we would expect to have units fall off and that's not a surprise to us.

We've been talking about this since the beginning of the year that as we got into the third and fourth quarters that that would happen and we're pretty much in line if not a little bit ahead of what we thought unit progression would be.

But Dave, let's say okay, so let's say volumes are down five or 6%.

I've also heard that you guys did a really good job on halloween versus competition, so your even I would say in some points of execution outperforming and yet with 50% boost in advertising, the volumes are still down so much.

I'm really, I mean what would volumes have been if your advertising was only up 25% which is a big number?

I think Eric, again, we've invested in the consumer in advertising merchandising and at retail to make sure that consumers have every vehicle at their disposal and we're top of mind as we convert the higher price points.

We took a 10 to 11% list price increase and actually had promoted volume in the category moves promoted those price increases are 20 to 25% so when you model the elasticity on some level you're really modeling against the 20 to 25% price increase, not a 10 or 11 price increase so we've actually taken our revenue outlook up as we've gone through the year and started the year with 2-3% as our revenue target and now we're up back into the range of 3-5 and that really I think is a signal that we are progressing through the price increase and the unit conversion a little better than we thought we would be so we're not surprised about where we are.

We've done I think a good job at retail and we've been fortunate to get our margins in line with Supply Chain productivity and reinvest it in the brands and business so this is a strategy we started the year on and it's playing out as we would expect it to play out.

I'm not going to argue on the gross margin and the profitability side.

You guys have done a great job there, and I'm sure focusing on the core brands has helped a lot, but I'm sorry, I just don't see that, even with all of the pricing the volume versus the amount of advertising that you put into the business, which I think is the right thing to do, especially given the competitive set and what's changing in terms of the environment, I'm just a little bit surprised that the relationship there is what it is.

But then just next question and I'll pass it on.

It just seems to me that the whole kind of effort by the Company over the last few years in premium has really struggled.

I guess you mentioned that the online business which I assume was planned to be a higher margin business that that's that you shut that down, right?

We know about Starbucks and the Cacao Reserve.

What do you think it is about the brands or the efforts of the Company so far that's prevented it from really doing well in the more premium priced business and how do you have to change that in order when the economy comes back, that you're positioned for that move?

Eric, we're doing what we feel is appropriate to be positioned for what we think it will ultimately be a return on some level to more trade up in premium products.

We've done a lot of consumer research.

We have done a consumer landscape and we have a much better understanding of what the consumer wants and what the need states are in those different segments.

We think that what we missed some that we just missed the timing with respect to Cacao Reserve and Starbucks but frankly we didn't have as good a consumer proposition as we should have had, and I think what we're doing right now we have Scharffen Berger which we think is well positioned in premium, and we have Bliss which we're pleased with Bliss's traction and trade up, so the initiatives we're currently investing behind we feel good about.

It's just not a large growth driver of the category now and as it becomes one we think we'll be much better positioned to participate there, and it really comes back to the consumer insight and then the execution, and we've learned along the way from what didn't work in the past as well as what is currently working for us and I think we'll be better positioned when the right time comes.

Okay, thank you all.

I'll pass it on.

Next question comes from Ken Zaslow with BMO Capital Markets.

Good morning everyone.

Hi, Ken.

Good morning.

I'm going on the same point in general is when I look at your long term guidance of 6 to 8%, the 6 kind of is the number that kind of strikes me as a little bit on the lower side, it could be 7 to 9%, it seems like that would be more structurally correct with how your business is set up, your growth algorithm, why do you think that the lower side of that 6 to 7% part of it is appropriate for a Company like Hershey given your spending behind the advertising, you're doing the right things in terms of your brand focus.

Why so low on the 6% I guess is structurally kind of I keep on coming back to that point.

Yes, Ken, we set those ranges back in the middle of 2007 or I'm sorry, middle of 2008.

In the first year which is obviously 2009 we're going to be above them but we think over the long term, given the economic situation that all categories are currently facing and what we're doing from a business model standpoint we think 3 to 5, 6 to 8% is a long term good place to be.

Some years we'll be above that.

In 2008 we were below it, so we're going to, there's going to be pluses and minuses along the way but when we look at 3 to 5% and the implied margin of 6 to 8 we think that's appropriate and it allows us the room to invest in the brands and categories the way we need to so I think we're comfortable sitting with that long term guidance and I think more importantly what in these economic times with everything going on in our category, as we look to 2010 we feel good about those numbers.

Do you think there's something structurally different in your category or business model that some of the other package food companies that signal more to the high single digit rates?

I think we have a structurally good strong solid category and I think it's an impulse driven category and expandable consumption in it and it actually has very good margins for both us and the retailer so we feel very good about our category and we think it's an advantaged category and as I said, the long term guidance is something that we set in the middle of 2008 and we think that it's appropriate to leave it sit especially given where the economy and the world is right now.

Let me ask you another question, I know private label is not a big influence on your category.

With the economy changing, with consumers trading down, do you think there's a possibility that private label could become a bigger force within your categories or still you're not seeing sort of indication of that?

Well, I mean there is private label in the category.

There always has been.

It's about 3% or so of the category and between 3 and 4%, much higher in the sugar non-chocolate aspect of it where I think the availability to source those items is probably a little more readily available.

In chocolate it's lower than that 3 to 3.5% and clearly, where private label tends to find its way into the categories is where the price value equation goes tilt.

We don't think we have that issue because confections continues to be a very on an individual unit basis a very approachable price point and it's a category where brands are key, where there's a lot of good strong brands and frankly where taste is the driver in every purchase decision so we think that we're very conscious of obviously continuing to provide the appropriate price value equation.

From time to time you'll see retailers experiment with store brand confections.

To date we haven't seen anything really stick in the chocolate segment with respect to that but we constantly monitor it and make sure our price value equation works with consumers.

Thank you very much.

You're welcome.

Your next question comes from Christine McCracken with Cleveland Research.

Hi.

Hi, Christine.

When we look at the retail channel generally it seems to be coming much more competitive, you see a lot of the larger retailers going after pretty aggressive promotions across-the-board, channel by channel, and I'm wondering given maybe some of your commodity trends you may not be as well positioned to I guess participate in that competition.

I'm just wondering are you getting pressure from the retail channel at all to kind of I guess step up in terms of these promotions or maybe you can kind of give us a little more color around the competitive set there as we see competition maybe in some price wars breaking out?

I think what I think is unique and gives our category a lot of strength with retailers is the strength it has with consumers.

Our category at Valentine's, Easter, Halloween, holiday is a destination category for consumers.

Consumers expect to see us merchandise, retailers also know that it is an expandable consumption point at the holiday periods and we've also added S'mores and some other things that I think there's a reason for us to be merchandised and actual almost a necessity for us to be merchandised and it's a category that has merchandising intensity and our frequency frankly has not suffered at all even despite higher price points so we're still getting the merchandising frequency we would expect and maybe the other thing that our category has is that it is so multi-channeled.

We are not totally focused in any one given channel for all of our volume, so we have the ability I think to program specific to customer and channel needs so I think that also gives us some flexibility in the way we go to market and so I think right now, the category growth rate this year, year-to-date all in has been very good.

I think retailers have been pleased with the category growth rate and so our strategy so far is playing out about as we had expected and we're still getting the merchandising frequency that we would have anticipated on the way in, so overall, I think we're pleased with the strategy and how it's played out at retail.

And then just one follow-up on an earlier question on sugar.

As you've moved some of your production to Mexico, and given some of the differences in sugar cost in Mexico, does that affect at all your production plans relative to that particular shift or has that impacted I guess the overall cost benefit analysis when you look at Mexico versus the US?

Yes, I mean, the US market is regulated and we know that, sugar prices are high.

Lower prices in Mexico, which isn't the case today would benefit our Mexican business.

Our mix it extra to the US is under different -- so it's not the way you're thinking about it.

Okay, I'll follow-up later.

Thanks.

Thanks.

The next question is from Bryan Spillane with Banc of America.

Good morning.

Just a clarification on cost of goods sold and gross margins for 2009.

I think you articulated before that you expected cost of goods to be less than $175 million this year.

Is there any change to what you're expecting for the full year and just is there an aggregate number?

Well we really haven't given a number.

We have said that it's below the 175 and we started to say that right around the first quarter.

The dairy costs have remained a bit lower and that will be more equalized in the fourth quarter and so we're not providing a specific number but yes, it's right around where we thought we would be at the last call.

Okay, and then just if I remembered it right, in the second quarter, you had made an adjustment to your standard cost forecast for dairy which caused you to have a catch up accrual in the quarter.

Did the same thing happen in the third quarter?

No, it did not.

Okay, great.

Thank you.

The next question comes from Andrew Lazar with Barclays Capital.

Good morning.

Hi, Andrew.

Good morning.

With some of the Supply Chain savings from the restructuring project starting to come through in a bigger chunk this year, as we look forward, I still think it's reasonable to try and get a better sense of maybe what is sort of the ongoing productivity plan looks like.

A lot of companies in this space sort of have a various metrics they will put out there whether it's reduction in cost of goods, incrementally every year either as a percent of cost of goods or as a percent of sales and you mentioned additional cost saving opportunities beyond the program itself going forward so I'm just trying to get a sense of how robust you think that plan is.

Is there a way to sort of quantify the ongoing every year and will some of these incremental programs or opportunities that you've highlighted are those things that take investment up front that you're going to absorb into the P & L going forward or are those additional restructuring charges?

Andrew, I think what I would tell you is that we continue to focus on the productivity within the existing facilities within the four walls of the existing facilities and that's what any good supply chain organization does when they know that they need to at a minimum offset their inflation with good basic kind of four walls productivity if you will and that's no different for us.

We've had the Supply Chain Transformation program over the last couple of years which has given us a step up in that productivity.

As we exit 2009 and head into 2010 we'll see a little bit more incremental savings from the Global Supply Chain in 2010 but I think what Bert referenced earlier is now that you get to the point where you focused on creating the new footprint, closing six facilities and opening a brand new one, we are now at that place where you then start to take a look at if you will how you work in that new network, so it's how do you source and supply to it and how do you ship and deploy from it and so there's an awful lot of upstream and downstream savings and procurement and logistics in customer service that once you now work your way into the footprint, you can go get those savings, and I think what's very encouraging for us is you're already seeing it show up in our working capital trends.

Our inventory trends have consistently come down as we've built a new network and we'll start to take advantage of the improvements in inventory and some of those improvements in terms of the new footprint both in terms of the way we source and procure and the way we deploy out the back end.

Part of the investment that we talked about making in the second half of the year here was some one-time costs associated with looking at some of those initiatives on both the front end and the back end of the supply chain so you've already seen us or will see us through the third and fourth quarter incur some of that cost to start to get to those savings in 2010 and 2011.

Got it, thanks.

And one quick one.

Some of the things you're doing around long term investments, consumer capabilities, customer insights and category management, are those things that as you benchmark that where Hershey is sort of as you would think about it catching up to where you think industry benchmarks are or do those get you actually ahead of where you think some of these other larger entities either are or will be?

We have I think we have very good category management capabilities.

We have very good go to market capabilities and I think very good retail capabilities.

What we are looking at in terms of investment right now is to be best-in-class and best-in-class across all CPGs, so what we are looking at at technology from a retail standpoint, we're looking at the way we deploy resources, we're looking at IL architecture and looking at category management capabilities, we're looking at digital marketing capabilities which we believe are at the forefront of where the industry is heading and we think that that's where we want to be.

That's our goal and we think we have a pretty good set of capabilities already and now we're just going to add-on to them.

Thanks very much.

Thank you, Andrew.

There are no further questions at this time.

Are there any closing remarks?

We thank everybody for joining us on today's call.

If you have any follow-up questions, Investor Relations group is available to help you out.

Thank you.

Thank you for participating in today's conference call.

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