好時 (HSY) 2012 Q4 法說會逐字稿

Good morning. My name is Phyllis and I will be your conference operator today. At this time, I would like to welcome everyone to The Hershey Company fourth-quarter 2012 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. Mr. Mark Pogharian, you may begin your conference.

Thank you, Phyllis. Good morning ladies and gentlemen. Welcome to The Hershey Company's fourth-quarter 2012 conference call. J.P. Bilbrey, 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 on 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 2011, filed with the SEC. If you have not seen the press release, a copy is posted on our corporate website in the Investor Relations section. Included in the press release is a consolidated balance sheet and a summary of consolidated statements of income prepared in accordance with GAAP. Within the notes section of the press release, we have provided adjusted pro forma reconciliations of select income statement line items quantitatively reconciled to GAAP.

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 presentation of earnings, excluding certain items, provides additional information to investors to facilitate the comparison of past and present operations.

As a result, we will discuss 2012 fourth-quarter results, excluding net pre-tax charges of $24.3 million, or $0.08 per share diluted, primarily related to costs associated with the Project Next Century, non-service related pension expense, and integration costs for the Brookside Foods acquisition. Our discussion of any future projections will also exclude the impact of these net charges. With that out of the way, let me turn the call over to J.P. Bilbrey.

Thanks, Mark. Good morning to everyone on the phone and webcast. I'm pleased with Hershey's fourth-quarter and full-year financial and marketplace results which represent a solid end to another good year. We accomplished our 2012 objectives while growing adjusted EPS 14.5%, our fourth consecutive year of double-digit percentage increases. We continue to build and execute our consumer-centric business model and are creating a virtuous cycle that is delivering predictable, profitable and sustainable results.

We've accelerated profitable organic sales growth, increased our leadership position in the US marketplace, boosted margins and returns, and delivered record profitability. Outside of the US and Canada, our businesses continue to grow and barring any dramatic changes related to foreign currency, we're on a path to achieve net sales of $1 billion in these markets by the end of 2014. We're operating from a position of strength. We believe there are far more opportunities ahead than successes behind us because at The Hershey Company, the future is not where we're headed but what we're creating.

Now, for an overview of the US candy, mint and gum category. Growth was solid in 2012 and within the 3% to 4% historical growth rate. As has been the case for the last few years, the gum category has been challenged. Excluding a decline of minus 5.5% for the gum category this year, chocolate, sweets and refreshment grew a combined a 5.2% in 2012. This increase outpaced other snack alternatives such as salty snacks, cookies and crackers.

The chocolate, sweets and refreshment categories continue to grow, driven by investments in the form of both innovation and advertising. The category is performing well, with good brand building efforts across many brands, creating excitement, trial and emotional connectivity between brands and consumers in our category. As a result, looking forward in 2013, we would expect the CMG category growth to be in the 3.5% to 4.5% range.

For the full year 2012, Hershey's net sales increased 9.3% and were relatively balanced between net price realization and volume, including the Brookside acquisition. In the fourth quarter, net sales, excluding Brookside and FX, increased 9.3%, slightly better than our expectation, driven by volume growth of 7%. As expected, with last year's pricing action essentially behind us, core brand volume growth was more than double the contribution from new products.

From a profitability perspective, overall earnings were in line with our expectations, although SG&A spending was a bit higher as our financial flexibility enabled us to make some investments to ensure we ended the year strong and entered 2013 with momentum. This is reflected in our fourth-quarter marketplace performance as we gained market share in every segment. That's chocolate, sweets and refreshments, and gum. In terms of Hershey's marketplace performance, let me start with Halloween. Halloween results were in line with expectations. The late October storm that affected the East Coast did not have a material impact on our overall Halloween results. Retail sell-through was solid and we gained 0.8 share points in this important season.

Now, for some details on our overall fourth-quarter marketplace performance. Hershey's CMG retail takeaway for the 12 weeks ending December 29, 2012, in channels that account for about 90% of our US retail business, was up 7%. This resulted in a 1.2 point market share gain. As a reminder, this is xAOC+ C-store data consisting of the Food, Drug, MassX and C-store channels, plus the inclusion of Walmart, partial Dollar, Club and the Military channels.

For the full year, Hershey US retail takeaway and market share was up 5.7%, or 0.6 points, respectively. CMG fourth-quarter category growth in the xAOC+ C channels was up 2.6%. As I mentioned earlier, gum continues to be a drag and excluding it, the chocolate, sweets and refreshment categories are up a combined 4.1%. Importantly, CMG category growth sequentially improved in the traditional FDMx channels from flattish in Q3 to plus 1.4% in Q4. As has been the case all year long, Hershey has outperformed the CMG category in the FDMx channels, with retail takeaway up plus 4.8%, resulting in a gain of 1 full market share point in 2012.

Fourth-quarter xAOC+ C-store chocolate category growth was up plus 4.5%. Hershey's xAOC+ C-store chocolate retail takeaway was up plus 5.8%, resulting in a gain of 0.5 points of chocolate market share. Core brands such as Reese's, Kit Kat, Kisses and Rolo all gained share. Fourth-quarter xAOC+ C-store non-chocolate category growth was up plus 2.5%. Hershey's non-chocolate xAOC+ C-store retail takeaway was up 12.6%, resulting in a market share gain of 1.2 points. Our performance here continues to be driven by Jolly Rancher innovation and Twizzlers.

In the C-store channel, CMG fourth-quarter category growth was plus 2.7% and was impacted by the double-digit percentage decline in the gum category. Total Hershey's C-store performance was strong with takeaway of 9.8%, resulting in a share gain of 2.1 points. Our C-store performance was driven by chocolate and mint retail takeaway of 11.2% and 15.2%.

As we look to 2013, we have many exciting products, promotions, programs and merchandising in place across all channels, including our annual Reese's NCAA Basketball program; a Twizzler tie-in with the upcoming Superman movie; various promotions with the pop band, Gym Class Heroes -- that will focus on the Jolly Rancher and Twizzlers brands; increased distribution and in-store merchandising and programming of Hershey's S'mores; and the launch of many new products to include Kit Kat Minis, Twizzlers Bites, Jolly Rancher Bites, and yet to be announced, new products that we are very excited about.

We continue to feel very good about the direction of our core US business as we are bringing innovative news, variety and excitement to the category. We'll support our core business and the aforementioned initiatives with coordinated in-store programming, merchandising and advertising that will drive trial, repeat and increased velocity. I'm also excited about the broader launch of the Brookside products into the FDMx channels. Brookside has increased sales at a compound annual growth rate of about 20% over the last several years. With our additional manufacturing capacity now online, Brookside 2013 net sales growth will exceed this historical CAGR.

Three SKUs and a stand-up 7-ounce resealable pouch will begin shipping to -- began shipping to retailers a few weeks ago. Our research indicates strong appeal among many of the consumers identified within our confectionery demand landscape. Therefore, we believe Brookside will attract new consumers to the confectionery category by focusing on unmet consumer needs. Once targeted ACV is achieved, year-around TV advertising will begin. We expect this to be some time in late February as well as high-value, FSI coupons, sampling at key customers and significant in-store merchandising and programming. Note that we'll also increase Brookside advertising in Canada where a national TV campaign will begin in July.

Our solid position in the US marketplace continues to give us the financial flexibility to invest in key international markets. In China, Brazil and Mexico, we made solid progress in 2012. Net sales in these markets were all above plan, with local currency sales up double-digits on a percentage basis versus last year. However, as I stated the last couple of quarters, due to the strength of the US dollar in 2012, foreign currency exchange rates were a headwind. Therefore, full-year 2012 sales growth, outside the US and Canada, including the impact of FX was 12%, below our 15% to 20% target. In 2013, based on current exchange rates, net sales outside the US and Canada will increase to 15% to 20%, keeping us on a path to reach $1 billion in net sales by the end of 2014.

Our brands are getting distribution, trial, and more importantly, repeat purchases. On shelf velocity is increasing and will build on our momentum in 2013 and accelerate brand building investments across the board. Think about this as market research, sampling, innovation, advertising, in-store selling capabilities and so on. In China, Hershey's Kisses and Hershey's Solid Chocolate Globe product in the instant consumable tin are doing very well. In 2013, we'll extend the portfolio and introduce a premium Kisses Deluxe product and Hershey's Drops and build on our fourth-quarter expansion of the traditional Hershey's Milk Chocolate Bar. These initiatives will be supported with sampling and advertising in the cities where we have a solid presence and distribution.

In Mexico, our chocolate business had a solid year, driven by Hershey's and Kisses. Additionally, in the Mexican food channel, which includes Walmart, we became the number two player behind Ferrero. In 2013, we'll look to build on our chocolate momentum and expand our portfolio. Pelon Pelo Rico is also doing very well with franchise growth of nearly 25% in 2012. Pelon is primarily sold in the traditional trade where we have national distribution, but the total points are below the industry average; hence, in 2013, we're targeting to increase our reach.

In Brazil, our chocolate business grew at a pace more than double the category growth. Market share was up 0.4 points, driven by Hershey's [chocolate] bar and the Big Kiss. In 2013, we'll broadly launch Hershey's Mais, a chocolate-covered wafer product into national accounts and we'll support it as well as the base business with significantly higher media, and brand-building initiatives. We spend much of our time talking about Mexico, Brazil and China, but there are a lot of great things going on in many other geographies as well.

In our export markets, velocity at retail is up and we continue to increase distribution. In Canada, the Reese brand more than solidified itself as the number one chocolate brand in the country, driven by the continued growth of Reese's Minis, while the sweets and refreshment portfolio gained 1.4 market share points driven by solid gains for Twizzlers, Jolly Rancher and Ice Breakers. Given the exciting activity across the Company in 2013 as well as our commitment to building international capabilities, advertising and SM&A are expected to increase at a rate greater than net sales. These disciplined investments will benefit the Company over the near- and long-term.

Now, to wrap up. I'm very pleased with our 2012 performance. In the US, volume trends continue to progress and we expect that will also be in the case in 2013 given our planned investments in advertising and consumer promotions and innovation. Bert will provide further details. The gross margin gains in 2013 will give us the financial flexibility to make the accelerated SM&A investments I discussed earlier. Therefore, we expect 2013 net sales growth of 5% to 7%, including the impact of foreign currency exchange rates. We anticipate adjusted earnings per share diluted growth of 10% to 12% within the $3.56 to $3.63 range. I'll now turn it over to Bert, who will provide some additional detail on our financial results.

Thanks, J.P. and good morning everyone. Fourth-quarter consolidated net sales of $1.75 billion increased 11.7% versus the prior year, slightly greater than our expectation. Our strong topline results allowed us to be flexible in our approach to category and brand-building investments throughout 2012, especially in the fourth quarter. As expected, organic core brand volume trends sequentially improved and were the primary driver of our fourth-quarter net sales growth.

Volume, excluding the Brookside acquisition, was a 7 point benefit in the quarter. In addition, net price realization and foreign currency exchange rates were a 2.3 point and 0.3 point benefit, respectively. Profitability improved as fourth-quarter adjusted earnings per share diluted of $0.74 increased 5.7% versus last year. Price realization and supply chain productivity was partially offset by increased investments and go-to-market capabilities and marketing-related investments. For the full year, net sales increased 9.3%, or 9.8% on a constant currency basis, led by net price realization of 5.7 points, resulting in adjusted earnings per share diluted of $3.24, an increase of 14.5% versus last year.

J.P. provided details on our market price performance so I will focus on the review of the P&L and balance sheet starting with gross margin. During the fourth quarter, adjusted gross margin was 43.1% on a 140 point increase over the prior year. This margin improvement was driven by net price realization, supply chain productivity and cost savings initiatives. Gross margin gains were partially offset by higher input cost of about $35 million. For the full year, 2012 adjusted gross margin was 43.8% versus 42.4% in 2011, also an increase of 140 basis points. Higher net price realization and productivity gains were partially offset by higher input costs.

Fourth-quarter adjusted EBIT increased 7.4%, resulting in an adjusted EBIT margin of 15.8%, a 60 point decline versus last year. The decline was primarily due to the timing of SM&A investments. Advertising spending increased 27% in the fourth quarter, slightly greater than our expectation of a 20% increase as we took advantage of media buying opportunities to support our core brands. As a result, full-year 2012 advertising increased 15.9% greater than our outlook of 13% to 15%. Fourth-quarter SM&A expenses, excluding advertising, increased 18.8%, as we stepped up our investment in selling, marketing and IDP-related capabilities in both the US and key international markets.

This was a considerable increase from the September year-to-date level of about 9% and slightly above what we had outlined during the last conference call. For the full year, 2012 SM&A advertising increased 11.9%, about in line with our double-digit expectation. Adjusted EBIT for the year increased 12.7% with adjusted EBIT margin of 60 basis points to 18.5% from 17.9%. The increase was driven by solid net sales growth, partially offset by higher input and supply chain costs and investments in SM&A.

Now, let me provide a brief update on our international businesses. Outside of the US and Canada, fourth-quarter international reported net sales were up 20%, driven by solid double-digit percentage increases in China, Mexico and our key export markets. On a constant currency basis, fourth-quarter China net sales increased more than 50%, driven by base business gains and the introduction of advertising behind Hershey's Solid Chocolate products. In Mexico and Brazil, fourth quarter sales were up driven, by strong investments in brand-building and distribution gains.

As J.P. mentioned, given the strong US dollar in 2012, full-year reported net sales on our businesses outside of the US and Canada increased 12%, less than our 15% to 20% target. In 2013, based on current exchange rates, net sales outside the US and Canada are expected to increase 15% to 20%, putting us on a path to reach $1 billion in net sales by the end of 2014. Moving down the P&L, fourth-quarter interest expense was about $23 million versus $21 million in the prior period. For the year, interest expense was in line with expectations, totaling $96 million versus $92 million a year ago. In 2013, we expect interest expense to be in the $85 million to $95 million range.

The adjusted tax rate for the fourth quarter was 33.5%, up 130 basis points versus a year ago due to the timing of certain tax events. For the full year, the tax rate was 34.7%, down 10 basis points. In 2013, we expect the tax rate to be about the same as the full-year 2012 rate, although quarterly rates should be less volatile than they were last year and closer to the full-year rate. In the fourth quarter of 2012, weighted average shares outstanding on a diluted basis were approximately 227 million versus 229 million in 2011, leading to adjusted EPS per share diluted of $0.74, an increase of 5.7% versus a year ago. For the full year, outstanding shares were approximately 228 million versus approximately 230 million in 2011. Adjusted EPS diluted for the full year was $3.24, an increase of 14.5%.

Now, turning to the balance sheet and cash flow. At the end of the year, net trading capital increased $24 million versus last year. This was primarily due to accounts receivable increase of $62 million, resulting from higher year-over-year December sales. Our accounts receivable remain very current. In addition, inventories decreased $16 million and accounts payable increased about $22 million. In terms of other specific cash flow items, total Company capital additions, including software, were $64 million in Q4 and $278 million for the full year. These amounts included Project Next Century capital expenditures of $7 million in the fourth quarter and $75 million in the full year.

In 2013, we expect total CapEx to be about $300 million, including capital related to Project Next Century of about $15 million to $20 million. Depreciation, amortization was $47 million in the fourth quarter, all of which was operating depreciation, as there was no accelerated depreciation in the quarter. For the full-year 2012, depreciation and amortization expenses were $210 million, including accelerated depreciation and amortization of $15 million. In 2013, we are forecasting total depreciation and amortization of about $200 million to $210 million.

Dividends paid during the quarter were $91 million, bringing the full year to $341 million. Also, note that earlier today we announced a regular dividend on our common stock of $0.42, our 333rd consecutive declaration. During the fourth quarter approximately $13 million of our common shares were pre-purchased to replace shares issued in connection with stock option exercises. Cash on hand at the end of the year was $728 million, up $35 million versus year ago.

Now, let me close by providing some context on our 2013 outlook. As J.P. outlined, we have initiatives in place that we believe will drive net sales growth across our businesses in 2013. We're confident of our plans and we expect 2013 net sales growth of 5% to 7%, including the impact of foreign currency exchange rates. We expect our net sales gains to be driven by core brand volume growth in the US and international markets; the launch of the Brookside brand in FDMx channels; innovation such as Kit Kat Minis, Twizzlers Bites, Jolly Ranchers Bites, Kisses Deluxe, Hershey's Mais and other yet to be announced products.

We have good visibility into our full-year cost structure. As stated in October, gross margin will increase in 2013, driven by productivity, cost saving initiatives, and the expectation of overall input cost deflation. Therefore, we expect 2013 adjusted gross margin expansion of 180 basis points to 200 basis points. Given this financial flexibility in 2013, we will invest behind business-building initiatives.

Total advertising is expected to increase approximately 20%. In the US, core brand advertising is expected to be about the same as last year, or around 2 times net sales growth. Incremental advertising in 2013 will support the Brookside launch base business and innovation in the US and key international markets. This includes a broader advertising campaign of the Hershey's brand and other core brand launches in China and Hershey's Mais in Brazil. SM&A expenses, excluding advertising, are expected to increase 9% to 11% versus last year.

These investments will build on our go-to-market capabilities established over the last few years as well as consumer insights work underway in key international markets for the five global brands. Additionally, the Company will continue to expand its IDP initiative, invest in international selling and marketing capabilities, and support new products with increased levels of consumer promotion and sampling to drive trial and repeat. As a result, we have increased our full-year adjusted earnings per share outlook and now expect it to increase 10% to 12% in 2013, which is greater than the previous estimate of 8% to 10%.

Before we open up for Q&A, please note the following. Compared to the first quarter of 2012, the first quarter of 2013 net sales will be impacted by a shorter Easter season in the US, although we will benefit from continued improvements in US core brand volume trends, the launch of Brookside into FDMx channels and the international innovation that I already mentioned. As a result, we expect first-quarter 2013 net sales to be within our 5% to 7% long-term target. We expect solid gross margin expansion throughout the year to drive EBIT dollar and adjusted EPS diluted growth across all quarters in 2013. However, recall that SG&A ex-advertising was about flat in the first quarter of 2012.

We don't expect that to be the case in 2013, as we'll make investments in go-to-market capabilities and costs incurred related to Brookside and the international new product launches that occur early in the year. Therefore, given all of the moving parts between last year and this year, our expectation is that first half EBIT margin will be pressured and adjusted EPS diluted growth will be greater in the second half of the year.

All right, thank you, Bert. Operator, before we open the line for Q&A, note that it's a busy day for earnings announcements. Therefore, out of respect for those companies as well as everyone in the investment community, please limit yourself to one question as we're going to attempt to end the conference call at around 9.30 AM. Operator, we'll now take questions.

(Operator Instructions)

Jonathan Feeney, Janney Capital.

Just one question, Brookside Foods, could you give us more detail in terms of -- of your current footprint where you're selling any confectionery product today in North America, what percent of ACV is Brookside in already? How big do you think -- what percent of ACV do you think Brookside would -- just in terms of channel, who knows what the -- the consumer is obviously a more difficult question, but in terms of channel, what percent of ACV is Brookside a relevant product to stock in, would you say?

Yes, so let me just build the base real quickly. Recall that in the US, it was primarily in Costco when we maybe acquisition and then it was available broadly across Canada, but it wasn't advertised across Canada. So as we've continued to build up the distribution in Canada, we will be advertising it this year and the trade reaction to the product, as we've been expanding in the US, has been extremely positive.

We would expect it to really be in all the channels where our products are today with the exception, early on, of convenience where we haven't yet built out the packaging that we think will be appropriate for convenience, although we certainly plan to do that because we think it's a great on-the-go product. So you would expect it to look very similar to the balance of our line in 2013. And then beyond, we believe that we'll continue to build region penetration with the product.

Alexia Howard, Sanford Bernstein.

I just wanted to ask about what innings you're in, in terms of the category captaincy role that I think you're now playing at maybe Walmart and some of the drugstores. As I remember, that initiative started a few years ago, I think you got into Walmart, or a large mass merchant, about two years ago. Is there still more benefit to come from that initiative? Or are you basically a the point that you want to be in terms of those -- that sales advice in those stores?

I think that it's continuing to evolve. We feel quite good about the progress that we've made. Just for a bit of historical perspective, we've always played an important role in terms of category captain across a meaningful percentage of our customers. With IDP specifically, which you're referencing, we continue to expand that across the largest customers where they also have the capabilities in place for us to be able to work well together on joint business planning and research projects.

So we believe this is an important cornerstone of how we go-to-market. We continue to learn and grow here and we do that with our retailers at the same time. So we're quite optimistic. It's important and we believe we'll continue to make solid gains because of those joint planning relationships.

David Palmer, UBS.

Congratulations on the year and the momentum. That fourth quarter, it did look like a quarter of abnormally high shipments and marketing spending and that happens from time to time just because of timing. Is there going to be -- is it likely that there will be a little bit of a moderation in the shipments into the first half? Or do you feel like you're in a good balance right now?

Well, as we look at our planning stance in 2013 and as you know, we've give guidance of 5% to 7% net sales growth, we believe that it will look pretty balanced across the quarters. We don't specifically guide to the quarters but we think the year looks pretty balanced. We felt good about the fourth quarter in particular, that while seasons is important to us, in the fourth quarter, we always talk about the business in thirds and seasons being one of those. In the fourth quarter, seasons is probably about 20%.

We had what we would describe as low retail inventories going into the fourth quarter so a lot of the volume that we saw in the fourth quarter was really around our core brands and base business. Price was important to us in the fourth quarter, so as we had talked about sequential improvement across '12, we really saw that happen. The quality of our sales in the fourth quarter, I think was really high. So we felt good about it, and we're saying that we think the category will be between 3.5% and 4% growth in 2013. As -- we'd like to see ourselves growing share in that environment.

As you're building out Brookside, were you thinking oftentimes these new smaller brands, it's better to let them be discovered by the type of consumers that you want for them? Are you thinking of marketing that brand differently as you expand that? Thanks very much.

Yes, I think, David, because of the nature of the brand, you'll probably see different media types as we talk about the brand. But we expect to have a strong marketing program behind Brookside. As you know, we've got the capacity to allow the brand to grow, so we're in a good place there. So we continue to be really excited about it and the consumer response that we've had has been really positive as well.

John Baumgartner, Wells Fargo.

In thinking about your outlook for adjusted gross margin growth in 2013, can you speak a bit to the drivers of productivity there? Is a part of it being derived from the joint warehousing alliance? Then maybe just thinking about that going forward, can you identify any opportunities to expand that alliance outside of North America?

Yes, talking about the expansion, we gave -- obviously, gave some guidance which we feel good about. We're still saying 180 to 200 basis points, pivoting off of where we ended up the year at 43.8%. I would tell you that our productivity programs continue to be quite strong and 2013 continues to be a strong incremental year for Project Next Century even though the investment behind it is largely complete. We said that by 2014, you started -- it's hard to get to the full-year rate, so last year in 2012, we had productivity in around that $80 million range and while we might expect it to be slightly below that this year, our emphasis on our ability to have savings of around 3% on our non-commodity cost of goods remains on track.

To your specific reference around the Ferrero initiative where we're -- have a logistics arrangement where we both ship product together. That is making progress in 2013 but part of that is the construction of a Canadian facility. So you won't see the full benefit of that until '14 although it will increase from 2012. So productivity remains extremely strong and a good part of our program. Clearly the commodity decline, if you will, year-on-year, as we've seen moderation in some of our key commodities is also expected to really benefit it next year, so that does play an important part. But from our perspective, we're planning to invest behind the business and as well as grow our earnings in what we think is a good return from those gross margin gains.

Ken Goldman, JPMorgan.

It's earlier in the year than usual for you guys to raise guidance so your confidence seems high. I imagine given your historically conservative nature, you're leaving some room for further upside. So as you look down the P& L, could you maybe shed some light on which line items you think there's the most upside? I'm curious, for example, if you're leaving some leeway in the gross margin line in case some of the costs move around on the dairy side or maybe you're estimating a slower build in Brookside than when you actually think will happen? I'm just curious if you can lay out the -- some of those answers if you could?

Yes, Ken, I would say that we've given what we think is our best view of gross margin expansion. Obviously, there's a range there for things like what you're mentioning, which is -- dairy is one of those that can be more volatile while at the same time, there's less inability to develop hedge strategies around that. Clearly, what we're seeing is a year that we're expecting will be driven by volume. So, that's an area that we're keeping track of and we're encouraged by where we're starting the year as well as where we ended the year.

I'd say new products in Brookside, it's a little early to tell, but we do have probably more new product activity in the pipeline this year across the globe than we've had in a number of other years. So, to your point, we think we're giving the right guidance around gross margin. Below that, we do have a significant amount of spend and we always have flexibility around that spend. We're going to be aggressive because we think we're getting the right topline growth that meets our strategic needs. But I'd say that, that's where you might have flexibility if we decide that, that's the appropriate thing to do.

Eric Katzman, Deutsche Bank.

Okay, my question revolves -- did you say actually what level of deflation you expect in 2013 on the inputs? Then, on the back of that, we've -- I don't ever recall seeing, for example, gum lowering prices. Obviously, that part of the category is suffering, and chocolate, as you mentioned, J.P., are gaining share. So why wouldn't your competitors, who are likely also getting the benefit of deflation, why shouldn't we see more promotion thrown back into the business? Especially as you guys continue to rollout these hand-held product that goes right up against M&M, Mars' core?

Yes, let me take the first part of that. No, we have not given any specifics around deflation and really, we're not planning to.

Eric, I continue to believe that as the category has made progress against pricing, and let's put gum aside for second. I think that if you look at this category relative to a number of other categories across the store, we've done well. We believe this will be a year that volume drives the growth in the category and assuming that story comes true, there shouldn't be a great [connation] for us to think any differently about how we market our products. So, I think that we're bringing good news to the consumer. I think the products are positioned in a way that they provide good value.

And then from a retailers' perspective, they're also looking for friends in these categories that are producing good profit and are growing at the same time. It's a highly merchandised category. You find it in a number of places across the store, seasons, of course, plays a role, so I'm not so sure that, that's the lever that maybe once the category had relied more on. We're seeing a higher percentage of sales in full revenue year-over-year where if I went back five years ago, you would have seen, call it, 52%, 54% of sales in the category maybe on promotion. You might see it almost flipped from that today. Those aren't hard and fast numbers but directionally, that's probably fairly correct. So, that's my view and that's how I would respond to that question.

Andrew Lazar, Barclays.

Back to Brookside for a minute. If we think about the 20% planned increase in advertising for '13, and with a similar level behind your core brands at this point, it certainly implies a large portion going behind, obviously, the expansion of Brookside. No matter how you slice that number, it would put the advertising as a percent of sales ratio on that brand, obviously, at a pretty massive level, obviously, ahead of what growth you ultimately expect.

So it's certainly a big bet, and suggests maybe you see the brand ultimately at multiples of where it is today in terms of sales. But I'm trying to get a sense, have you put this much behind a new brand before? What is it about the brand's performance, whether it's in Canada or what you've seen so far here, albeit it's early days, that gives you that level of confidence that this level of spend ultimately pays off?

Well, first of all, we have in place a business model now that when we're introducing brands, we want to make sure that we fully support them on a sustainable basis as we roll them out into the market. We're going to certainly do that with Brookside. We're very optimistic about the brand. We do believe that while we're in the first round of expansion, that this is a brand that probably has relevance more broadly than the markets that we're currently talking about.

It's also important to remember that we're expanding advertising across a number of our markets in China, in Brazil, Mexico. So as you look at the comments we made about the US advertising spend, and then take Brookside, which is incremental and then think about what we're doing broadly, it all doesn't come down to being spent on Brookside. With that said, we're going to have a very aggressive position around building the Brookside brand, as we expand it, creating awareness, introducing it to consumers, creating trial and so on. So again, we're going to -- we're very serious about building brands and we see Brookside as an important one.

Bryan Spillane, Bank of America.

Just a question about the investment in the international markets. Just doing a back of the envelope calculation, the upside, or the flexibility that you've got to increase spending this year is something north of $50 million. So could you talk a little bit about, first, how much of the capital -- how much of your $300 million in capital spending is also going into the international markets? Then also, just how that organic spending, more greenfield, as opposed to acquisitions? Are you having more effect, I would guess, on building as opposed to buying as you build-out those markets?

Bryan, with respect to the capital, you're correct. A greater percentage of that capital is non-US in 2013. We talked about last June, if you recall, having the need to expand for volume growth in Asia, specifically. So while we've not commented on exact location, you're quite right. Your observation is a good one, in terms of more capital been deployed outside of the US. While we still have some against Project Next Century, I mentioned that it was quite a low number in the 15% to 20% range, we're always going to have some amount of our capital, which is either maintenance-driven or driven in things like IT technology and the like.

But a lot of our capital is margin-enhancing and business-building, if you want to call it that, so more of it is deployed outside of the US in 2013. You might see that starting to be more common in -- as we go forward, given that we feel pretty good about our footprint in the US while still growing volume. We think we have the right number of facilities, if you will.

My question was more, you're going to spend more P&L dollars, you're increasing your P&L spending as well there. Has that organic investment been better than what you were thinking a year ago? More implying you can build it as opposed to making acquisitions or acquisition is still part of the international expansion?

No, I think we look first at our organic business. Obviously, that's our priority. The reflection of spend, really, is a reflection on new product introductions. I think J.P. mentioned, we have a number of them in China. We're planning to launch additional new products in Brazil. So these markets where we've invested in infrastructure and are at a point where we feel that we've done the right market research to be able to put -- expand those five brands in particular, those five global brands.

M&A is quite different. It's still a priority for us where we can expand the business inorganically. Clearly, we have the right capability, from a balance sheet perspective, to do it. It is a key priority but we don't put it in our model because it's hard to predict. We're going to do our best to find good value return opportunities in M&A but our main focus is our organic business.

One comment I would just add to what Bert has said. We've talked about expanding geographies, expanding our portfolio. If you think about our core portfolio, and we talk about five global brands with Hershey's, Kisses, Reese's, Jolly Rancher and Ice Breakers, our opportunity to grow those brands within the footprint that we've been articulating is really significant, both that we don't have the penetration we want yet and those categories are also growing rapidly. So as we continue to invest and prepare ourselves to be able to do that, we think it's a great spend.

The one example I would give you that you may not have heard us talk about before is, if we look at the Kisses brand, which is the one brand that we have led with around the world, with our Kisses brand, 32% of the sales on Kisses happened outside the US. So as we continue to expand our other brands, we would hope to be able to begin to see an evolution towards that same-type profile. So that gives us a lot of encouragement and we need to get the other brands within the same framework that we have Kisses and that's a significant opportunity of growth for us.

Jason English, Goldman Sachs.

Congratulations on your momentum. Particularly in some of your emerging markets, Mexico, China, Brazil, you've mentioned numerous times throughout the call here, can you help us just [contextualize] how large they are right now as a percentage of your overall sales?

Yes, we've talked a little bit about this in the past, get within the context of that $1 billion that we're shooting for in non-US Canada. So when you think about our brands outside of the US and Canada, we're at about $700 million and about two-thirds of that are those key geographies. We haven't specifically talked about market sizes. They're growing at different rates, but we mentioned China, 50%; the other are somewhat below that although still growing nicely.

And then the other third is our -- is in export business which is quite profitable for us, where we have either distribution arrangements in those countries. On that side of the business, obviously, there's a significantly less marketing spend than in our key markets. So think of it as about a $700 million business growing to $1 billion by the end of '14.

That's helpful, thank you. One quick follow-up, China, great growth this quarter. Curious if you saw any impact on gift-giving demand, whether it's stronger, weaker overall? Also timing, because of the new year, whether or not any of that shifted into the first quarter?

Well, I think the overall comment is that we continue to see really good trends in China. Obviously, as the seasons there move around, you see some of the volume move around but as you had a lot of discussion around China and heavy industry and other things, and there was some gloomy reports here in 2012, we just never really saw it in our types of products. So if you think about basic products, where the consumer is, entering into the economy where -- we continue to feel awfully good and see very positive trends in our China business.

David Driscoll, Citi Research.

Congratulations on a terrific year, guys.

Thank you.

So I wanted to just talk a little bit more about marketing and advertising. You've answered a little bit of this throughout a number of questions, J.P., but 27% increase in the fourth quarter, and then a massive 20% increase in advertising in 2013. I believe somebody else, I think, said $50 million but because that's like a $100 million increase; please correct me if I'm off on that? We just really don't see numbers this large for large cap food companies almost ever. Can you just spend just a little bit more time on this, the dollar magnitude of that increase? Then maybe one specific point is that, with that large of a budget, you didn't really change your sales growth outlook for 2013. Maybe I'm just a little curious as to what the effect of the advertising really ought to be on your '13 growth, and then if you think maybe is it delayed or how long does it take before that type of an advertising number starts to show up in results? So, take it away, please.

Let me take a whack at all that. Bert can jump in here when he thinks it's appropriate as well. Let me talk a little bit about it philosophically versus the magnitude of the numbers. But if you think about your advertising spend at a couple of times net sales growth, if you think about our North American businesses and mature businesses, that's where we're at. So a lot of the increases hat you're seeing is because Brookside is a big brand and it's now going to be advertised. You have the same thing happening in some of the other markets.

Now the spend in the other markets, it's going to over-index, certainly, from an ROI standpoint in the early days of brand building. But we feel very fortunate that our Company's performance right now enables us to be very focused across a few markets that we believe are the most attractive markets. We're getting very encouraging growth where we're executing against a really complete business approach that's around brand building.

So, I think what you'll see is some of those numbers will look larger to us in the early days. But this is, we think we'll find leverage around both the organization investments and brand-building investments and the accelerator effect behind a growing category and a brand whose awareness is growing, is really the leverage that we're betting on is really going to be worth it for us. I think the early evidence is that, that's the case, so for me, it's really around the philosophies and the dollars follow how much activity do you believe that you can execute really well against.

David, the only other thing that I would add to that is that if you compare certainly to last year, a lot of our innovation happens earlier in the year. By nature, we tend to start our advertising, we hit certain levels of distribution and that advertising starts sooner. So, you are getting more of the full year of advertising or more of the year of advertising versus what you might have saw last year, just given the timing of our innovation. That would be true across markets.

Ken Zaslow, Bank of Montreal.

The outlook for the commodity prices obviously came in lower than probably your initial thoughts were. What were the incremental projects that you priced spending this commodity, I wouldn't say windfall, but lower commodity prices towards a -- can you get a little bit more specific of like what incremental projects you're taking on earlier than expected?

You are talking about again going back to the SM&A discussion?

No, just in general. Look, my sense is -- and maybe I'm wrong, is that your commodity outlook was better than you would have thought for 2013. I'm assuming that you're not dropping all of it to the bottom line, that there might be some incremental projects that you might be taking on earlier, even if it's not -- obviously, your advertising went up a little bit more but there might be some certain targeted brands or targeted projects that maybe you may have thought about doing in 2014 and might be doing in 2013?

Let me respond quickly and then Bert can comment as well, but I don't think of it so much as we're taking new things on as we're able to continue executing against the strategies that we have at a level that we would like to be able to do that. That's where I come back to my comment I made earlier that our solid financial performance has enabled us to continue to grow in these new markets and invest in growing our brands in the US. If -- we continue to say we believe the North American market, the US in particular, is a growth market.

We continue to see strong category growth levels. We want to participate and drive that and grow share going forward, so we're going to continue to invest in our brands. As you know, we went for a number of years where we didn't do that. It didn't work so well for us. The business model that we're executing against now, we know does work, but we can only do it in so many markets at any given time. But in this particular environment, it enables us to really execute against those focus markets we've talked about and expand these five global brands and be serious about really being a brand-building Company.

Operator, we'll take -- we have time for one more question.

[Filo] Reid, Jefferies & Co.

I promise I'll make it quick. Just a quick question on aerated chocolate, or Air Delight, and Simple Pleasures. Those products have been in the market for awhile now. What's your assessment of them?

Well, we feel very good about Simple Pleasures. It meets the needs of an indulgent chocolate with a consumer who is looking for what we call a control -- more of a moderator of their consumption. So it's built good distribution. We've got good advertising and we think is working behind that brand. It's gotten the right level of distribution and trial so we feel really good about that. Air Delight, as I talked on the last call, we've adjusted our advertising approach there.

We think it was probably a little bit harder to compete with indulgent, 100% milk chocolate with the aerated product and so we weren't really talking enough about the indulgence of the experience, and so we've adjusted for that. As I said, I think because we're introducing the consumer in the US to a different type of experience -- obviously, these products are available outside the US. It takes a little bit more work to do that. But we continue to feel really good about the product. It continues to make progress so that would be a couple of thoughts I would have on those two brands.

Just to follow-up on that. Will the innovation in chocolate continue to be mainly Minis, and Bites, and Pieces, that kind of thing? Or will we see more true -- I don't want to call it brand innovation but as a true new chocolate innovation going forward as well?

Well, I think you may see a mix of format, innovation as well but whether the innovation comes from package, usage, occasion, et cetera, as long as it's driving growth, that's meeting the needs of consumers or else it wouldn't be working. So we feel pretty good about what we've been able to do in hand to mouth. We've expanded that across multiple brands.

we talked earlier about Kit Kat Minis, and Rolos, et cetera. We'll continue to do some of those but we're always looking at different format opportunities, adjacencies and so on. With the Air Delight, it's the same thing. It's -- you're building a new concept and so that can be hard work, but as I said, we would like to see that brand succeed.

Thank you for joining us on today's conference call. Matt Miller and myself will be available for any follow-up questions you may have. We'll see all of you at CAGNY in a couple of weeks. Thank you.

This does conclude today's conference call. You may now disconnect.