億滋國際 (MDLZ) 2014 Q3 法說會逐字稿

Good morning and welcome to the Mondelez International third-quarter 2014 earnings conference call. Today's call is scheduled to last about one hour, including remarks by Mondelez management and the question-and-answer session. (Operator Instructions).

I would now like to turn the call over to Mr. Dexter Congbalay, Vice President, Investor Relations, for Mondelez International. Please go ahead, sir.

Good morning and thanks for joining us. With me are Irene Rosenfeld, our Chairman and CEO; Dave Brearton, our CFO; and Brian Gladden, our incoming CFO.

Earlier today, we sent out our earnings release and today's slides, which are available on our website, mondelezinternational.com.

As you know, during this call we will make forward-looking statements about the Company's performance. These statements are based on how we see things today. Actual results may differ materially, due to risks and uncertainties. Please refer to the cautionary statements and risk factors contained in our 10-K and 10-Q filings for more details on our forward-looking statements.

Some of today's prepared remarks include non-GAAP financial measures. You can find the GAAP to non-GAAP reconciliations within our earnings release and at the back of the slide presentation.

With that, I will now turn the call over to Irene.

Thanks, Dexter, and good morning. I am pleased to report that we had a strong third quarter. In an environment that continues to be challenging, we delivered top-tier earnings growth and margin expansion, as well as solid revenue growth.

Specifically, organic revenue was up 2.7%, adjusted operating income margin increased 140 basis points to 13.6%, and adjusted EPS was $0.50, up 33% on a constant-currency basis, fueled largely by strong operating gains. This is the third consecutive quarter that we've expanded margins by at least 100 basis points and posted double-digit EPS growth.

We delivered this by successfully executing our productivity and supply-chain initiatives and through early wins from our zero-based budgeting program.

The primary revenue driver in Q3 was pricing to offset higher input costs, which contributed 5.8 percentage points to our growth. Our pricing actions were broad based, spanning all categories and regions, though they were most significant in chocolate and coffee, given the steep rise in both cocoa and green coffee costs.

As expected, increased pricing and the wider price gaps that resulted pressured overall volume mix, which was down 3.1 percentage points. Volume mix was also affected by the pricing-related customer disputes in France that we mentioned last quarter.

We priced to fully recover commodity and currency impacts and we took action earlier than our competition. As we discussed in our last earnings call, in the short term this will temper revenue growth until gaps narrow and customers and consumers adapt to the higher prices.

Fortunately, toward the end of the quarter, conditions started to improve. Most of the customer disputes have now been resolved and price gaps have begun to narrow, especially in emerging markets.

Overall, organic revenue grew 2.7%, driven by an increase of 9% in emerging markets. Some of that growth was due to China, which grew high single digits behind stepped-up innovation and marketing as we lapped last year's inventory destock. Another factor was the impact of hyperinflationary markets. And we're very pleased that Brazil, Russia, and India each posted double-digit increases, including solid contributions from vol/mix and innovation.

For instance, in Brazil, Oreo and belVita continued to perform well. In Russia, our Marvellous Creations platform captured a 1% share of the chocolate tablet market within its first month, while new [gearall] flavors and innovative packaging drove share gains in gum. In India, new pack sizes and formats for Cadbury Dairy Milk fueled double-digit growth and strong share gains.

In developed markets, organic revenue declined 1.3% as we continued to deal with an increasingly tough operating environment. That included temporary dislocations associated with pricing-related customer disputes, especially in Europe, and increased promotions by competitors, particularly in North America. In both cases, we chose to stand our ground to maintain the investments necessary to support our brands over the long term.

Let's look more closely at our Q3 revenue by region. In Europe, which accounts for about 40% of our business, organic revenue was down 2.4%. The commercial disputes accounted for more than 100 basis point of the decline. In Q4, we expect less of a headwind from these disputes.

As I mentioned earlier, over the past month we have reached agreements with most of our customers, though we did lose some distribution with a few of them.

In addition, and as expected, the elasticity impact of higher pricing significantly tempered our volumes. This was especially true in coffee where, for the first time in two years, we increased prices. As expected, consumers and customers reduced pantry and trade stocks after the price increase, which affected our Q3 volumes. So coffee revenue was a 50-basis-point headwind in Europe.

In North America, organic revenue was essentially flat for the quarter. US biscuits were up low single digits, a bit slower than last quarter, but in line with the category as we cycled strong prior-year growth. This was offset by a decline in confections.

In EEMEA, organic revenue grew 5.6%. Russia led the way with mid-teens growth, including double-digit gains in coffee, chocolate, and biscuits. I recently visited our team in Russia, and in the face of significant macroeconomic headwinds, they are doing an exceptional job of defying gravity and growing well in excess of GDP. Russia's performance more than offset weakness in other markets in the region that are experiencing political and economic instability.

Latin America grew 18.5%, the fifth straight quarter of double-digit growth. Brazil delivered another strong quarter, up mid-teens, with positive vol/mix despite significant pricing. Growth in Brazil was broad based. Biscuits, chocolate, powdered beverages, and gum and candy all posted strong gains. The inflationary economies of Argentina and Venezuela continued to drive the sharp rise in pricing for the region overall.

Finally, Asia-Pacific returned to growth this quarter with organic revenue up 1.3%. China grew nearly 10% as we cycled last year's inventory destocking and began to see the impact of our turnaround plan. Although the macroenvironment remains soft, we are seeing early signs of success with our reinvigorated marketing and innovation programs.

For example, we recently introduced innovations such as Oreo Thins and Mini Oreos, as well as new packaging formats to broaden usage occasions. We also adapted some proven marketing programs from our global playbook, such as the Oreo Wonderfilled campaign. In response, biscuit category growth in China has ticked up recently and our share trends have also improved.

Beyond China, India delivered another quarter of double-digit growth behind strong gains in chocolate, and Australia and New Zealand grew low single digits as the retail environment stabilized.

Now let's have a look at category growth. Overall, global category growth remained below long-term trends. Year-to-date growth for our snacks categories was around 4% and stood at about 3.5% for all of our categories, including beverages, cheese, and grocery.

Our organic revenue grew 2.2% over that same period, in line with our annual guidance, but a little more than 1 point below category growth. This difference is primarily due to three things -- the elasticity impact of significant chocolate pricing, the impact of the customer disputes in France across a number of our categories, and the cycling of the investments we made in China biscuits last year.

In Q4, we expect the impact of chocolate pricing and the residual effect of the French trade dispute to continue. These factors are built into our full-year revenue guidance.

Turning to market share, overall year-to-date performance remains solid, with 54% of our revenues gaining or holding share. Given that we increased pricing in all of our categories, shares softened a bit in Q3 to about 49%, as we had expected. As we exit the year, we expect our shares to stabilize as consumers adjust to new price points and gaps begin to narrow.

To summarize, we delivered solid topline growth in a challenging consumer and customer environment. In the face of this temporary period of weaker category growth, we have made a conscious decision to increase prices to recover higher input costs, even if we have to accept some near-term share loss.

At the same time, we are continuing to invest in high-return route-to-market and capacity-expansion projects, while driving productivity and cost reduction to increase earnings, expand margins, and fuel further growth.

Near term, leveraging this approach through 2015 will deliver value to our shareholders regardless of the macroenvironment. And over the long term, this will enable us to deliver sustainable, top-tier performance on both the top and bottom lines.

With that, let me turn it over to Dave.

Thanks, Irene, and good morning.

Over the next few slides, I will walk you through our bottom-line results and our updated outlook.

Adjusted gross profit dollars were up 3.1% and adjusted gross profit margin increased 40 basis points. We continue to deliver productivity at record levels. Year to date, we have generated net productivity of more than 2.5%. Costs increased high single digits in the quarter, due primarily to coffee, cocoa, and currency. ForEx actually drove about half of that increase, primarily in emerging markets.

We price to recover these costs on a dollar basis, with pricing contributing nearly 6 percentage points in the quarter. Of course, with this level of pricing, the percentage margin was negatively affected by what we call the denominator effect, but our strong productivity programs and a modest mark-to-market benefit allowed us to expand gross margin in the quarter.

Now let's take a closer look at operating income. As Irene mentioned earlier, we have now posted our third consecutive quarter of significant adjusted OI margin expansion since we outlined our supply-chain and cost-reduction initiatives. Specifically, adjusted OI dollars increased 16.5% in the third quarter and were up 14.7% year to date on a constant-currency basis. Adjusted OI margin was 13.6%, up 140 basis points in Q3. Year to date, adjusted OI margin has increased 130 basis points to 12.8%.

Our margin expansion was mainly driven by lower overheads, as we are beginning to see the benefits of our ZBB program play through the P&L. Changes in our spending policies are already making a difference in overheads and we expect these savings to continue to build as we enter 2015.

In addition, we are continuing to drive A&C efficiencies by reducing nonworking costs, like advertising production. The consolidation of our agency and media providers, especially in emerging markets like EEMEA and Asia-Pacific, is providing real savings to our bottom line.

Importantly, our working media investment and the level of consumer engagement remains in line with prior year as we continue to invest in our brands at a healthy rate. Within our working media, we are continuing to shift more of our global media spending to digital, which delivers about twice the ROI of traditional media.

Taking a closer look at margins, it's encouraging to see the breadth of our margin expansion. Through September, all five of our regions delivered higher margins versus the prior year.

North America and Europe each delivered approximately 200 basis points of margin improvement. Not surprisingly, these two regions are delivering the lion's share of our margin expansion as they are the primary focus of our supply-chain work and overhead-cost programs. But Latin America, EEMEA, and Asia-Pacific also delivered higher margins for the first nine months.

Turning to EPS, our margin improvement is also driving strong EPS growth. Through the first nine months, our adjusted EPS was $1.29, up 22% on a constant-currency basis.

Operating gains are the key driver, accounting for $0.19 of the $0.25 of improvement on a constant-currency basis year to date. Lower interest expense and the impact of share buybacks provided another $0.12 of upside, more than offsetting a $0.06 headwind as we lapped last year's exceptionally low tax rate.

Let me now quickly update you on where we stand on capital allocation and cash flow. With regard to free cash flow, we remain on track to deliver our two-year target of $3.7 billion. Our growth in earnings, coupled with our continued focus on improving working capital, are the primary drivers.

Through September, our cash conversion cycle improved approximately 21 days, consistent with June year-to-date performance. We have also returned over $1.9 billion to our shareholders, including repurchasing $1.2 billion of stock or about 34 million shares.

Based on this, we now expect our total share repurchases for 2014 to be between $1.5 billion and $2 billion. Additionally, we paid out a little over $700 million in dividends.

Turning to our outlook, although Q3 revenue came in better than expected, we are maintaining our topline outlook. Global economic conditions and our category growth remain challenging, and while we have reached agreements to resolve most of our customer disputes, we remain cautious about the residual impact on Q4.

However, we are raising our guidance on adjusted operating income and margin, based on our strong performance through the first nine months. Adjusted operating income at constant currency is now expected to grow approximately 10%, up from high single digits previously, and adjusted OI margin is now projected at approximately 13% versus the high 12%s we guided to earlier this year.

Our confidence in delivering the higher OI margin target is rooted in our strong margin expansion year to date, as well as our visibility to the pipeline of cost and productivity savings for the balance of the year.

We are also increasing our adjusted EPS range by $0.09 to $1.82 to $1.87 on a constant-currency basis, up from the previous range of $1.73 to $1.78. This includes about $0.06 from a lower-than-expected effective tax rate, reflecting a number of favorable discrete tax events.

For the year, we estimate an effective tax rate in the high teens versus our prior expectation of around 20%. Our strong operating performance added $0.01 to $0.02. The remaining $0.01 to $0.02 comes from favorable interest expense. In our revised guidance, we've included a similar benefit in the fourth quarter.

At this point, I wanted to pause for a moment to thank Irene, the Board, and the leadership team, and especially all of the people on my finance team based around the world for the opportunity to serve as CFO and for their tremendous support over the years. As you know, this is my last earnings call as CFO. On December 1, I will assume a new role that focuses primarily on the establishment and launch of our coffee joint venture with D.E Master Blenders.

I would also like to take this opportunity to welcome Brian Gladden as our incoming CFO, who is joining us at an exciting time as we accelerate our growth and cost agendas. Brian is a seasoned financial leader who knows how to create shareholder value. His background, together with extensive experience operating in emerging markets and developing talent, will greatly benefit our global organization and our shareholders.

With that, let me hand it over to Brian for a few words.

Thanks, Dave. It's really great to be here. I'm very excited to join the team and I look forward to helping our Company reach its potential. We have an aggressive transformation agenda underway and I am thrilled to help lead that effort going forward.

Dave and I have already been working together very closely to ensure a smooth transition and I look forward to meeting many of you in the near future. With that, let me turn it back to Irene for a quick update on our strategic initiatives.

Thanks, Brian. Let me add my welcome to you and also to extend my heartfelt thanks to Dave, who has been a terrific partner over the years.

But of course, Dave is not off the hook, which is a good segue to a review of our strategic initiatives, which remain firmly on track.

First, our planned coffee joint venture is moving ahead and we continue to expect the deal to close in 2015. We're making progress in securing regulatory approvals, as well as engaging with our works councils. As you can imagine, there is still a lot to do to stage this business for continued success, so I'm very pleased that Dave will be able to focus on this project at this critical juncture.

Second, we continue to advance our goal to deliver best-in-class costs in both our supply chain and in overheads. On the supply-chain reinvention front, in the next few weeks we will open our newest greenfield biscuit plant in Salinas, Mexico, right on schedule. As we have said in the past, this plant will provide 1,000 basis points of margin improvement for products made there compared to our existing network.

And we recently announced a $90 million investment in a new biscuit plant in Bahrain to support regional growth.

We're in the midst of our first annual budget process, leveraging our new ZBB toolkit and revised cost policies. I can tell you that ZBB is having the desired impact on our culture. We are pushing our teams to make the trade-offs to budget at a very granular level and challenge old ways of thinking. This sets the stage for a best-in-class cost structure and further margin improvement over the next few years.

Finally, as you know, this past May we announced the adoption of a category-led model in all of our regions, starting January 1, 2015. This operating model will deliver improvement in both our top and bottom lines by accelerating launches of proven innovations around the world; by clarifying and streamlining decision making; by reducing costs through simplification, standardization, and scale; and by building world-class capabilities and operating discipline. This is a significant change in how we will run the business, especially in our emerging markets.

Right now, we are staging the new organization for launch. We have announced all the leaders of the region category structure and their staffs, and in the coming weeks, we will be working to ensure that the new organization is in place to deliver our 2015 plan.

As you can imagine, all of this transformation work is quite an undertaking, but big change is something we do very well here. I am quite confident in our ability to successfully implement these initiatives to get this Company fit to win regardless of the macroenvironment and to deliver sustainable profitable growth over the long term.

With that, let me open it up now for your questions.

(Operator Instructions). Andrew Lazar, Barclays.

Good morning, everyone, and welcome, Brian.

Thanks.

(multiple speakers) Andrew.

Two questions from me. First, on last quarter's call, it seemed like organic sales growth in the third quarter would be probably more similar to 2Q, given all the issues that you had discussed on the call. It came in better and you did hold your full-year organic sales target range kind of steady.

I am just trying to get a sense of does this suggest you potentially feel better about the upper end of that 2% to 2.5% range, or not. The reason I ask is you have an easier comp in 4Q, and if you were to hit the lower end of the range, that would imply a sequential deceleration in organic sales in the fourth quarter. So I am just trying to get a sense if there would be any reason we should expect that.

Andrew, it's Dave. I think (multiple speakers) year to date, our organic growth is 2.2%, so it's about middle of that range year to date.

As we look at Quarter 4, I think a lot of the stuff we have talked about on this call for Quarter 3 we would expect to continue. Global category growth is probably not going to change, especially in Europe where the consumers are under a bit more pressure. Competition has priced particularly on chocolate in our emerging markets, but in Europe, they haven't yet priced and it doesn't look like they will through Quarter 4. And while, as Irene said, we resolved the French disputes in Europe, in the process we lost a little bit of distribution and a few customers and some of those disputes were only resolved in October.

So you're going to see all of those factors carry forward into Q4, so we just felt it was prudent to keep our full-year guidance at the 2% to 2.5% range.

Thanks for that. Then, secondly, I certainly understand the impact around the math of higher pricing on the gross margin percentage and such. But I guess I'm just trying to get a sense of such a big part of the story going forward is really as organic sales growth accelerates, it should happen on an even more compelling cost structure and then the earnings leverage that comes from that.

I guess I would have thought with all the productivity that you are generating, we would have still seen more underlying gross margin improvement. So, I'm trying to get a sense if there is anything else at work there that was a headwind or was it really, as you see it, purely the math of the pricing?

The simple answer is the math of the pricing. Our commodity costs and ForEx impacts in the quarter were up in the high single digits, so a very big number. We price to fully recover that in dollar terms, and that's why you saw the 6% pricing come through, and we were able to get that in the market while maintaining good performance on our shares.

But the simple math if we are maintaining $1 margin on a 6% price increase is that you end up with this denominator effect, and it was quite material in the quarter.

Our net productivity, as you pointed out, was at record levels. We have never had better than net productivity of 2.5% and that did drop through. That provided gross margin dollar growth, and it allowed us to fully offset that denominator impact and drive a little bit of gross margin gain.

So I understand the question, but we are actually quite happy that we grew gross margins in the face of high single-digit commodity and ForEx impacts in the quarter. As we go forward, I don't think we will see those kind of cost and price increases every year. I think that equation of pricing to recover dollars and using productivity to cover the percentage impact and still drive -- give us fuel to drive growth will result in gross margins increasing over time. And you are right. It's a key part of why we believe we can get to a 15% to 16% OI margin by 2016.

Great, thanks very much.

Ken Goldman, JPMorgan.

Dave, best of luck going forward. Brian, I don't know if you're available for questions, but I am curious how you would describe your style in general. What do you think your strengths are as a CFO? What do you think you bring to the Company in your new role?

Then, also, when you left Dell, you were quoted as saying that you do have a desire to run a company, so I am curious how that corresponds with your new role. It's a huge responsibility, but it's not running the whole shebang, so to speak. So I am just trying to understand your personal goals and how that corresponds with that quote a little better.

Ken, thanks. I would start by saying obviously great to be here, just getting started, enjoying the transition and the time with Dave to really learn the business.

For me, this is a terrific opportunity to build something -- to be part of building something great here. I would just say I'm very excited.

I think -- I expect I will have a chance to spend some time with you guys over the next quarter or two, and at that point, I will be able to share some early thoughts on how I think about the business and how you'll see my role playing out. But I am extremely excited to be the CFO and partner with Irene here to drive the Company going forward.

You're good at answering questions politically. I like that.

Irene, part of the margin -- and maybe this is a better question for Dave, but part of the margin growth story depends on plants around the world closing and opening in line with your schedule. Can you update us on progress here? Have there been any delays or is everything on pace with what you anticipated?

Actually, we're feeling quite good about the pace. Obviously, the most important next up big investment was in Salinas, and as I mentioned, we're very pleased with the progress and we're about to have that plant up and running.

As we look around the rest of the world, everything is pretty much on schedule. The one place that we are continuing to be -- keep a watch on is that we have a plant in Siberia that is about to come on stream in the next year and a half, and we will continue to keep our eyes on that as we watch the political situation there. But net net, we are very much on track with all of the supply-chain reinvention initiatives that we laid out, and as you know, that's going to be a big part of our gross margin improvement going forward.

Great, thanks so much.

Eric Katzman, Deutsche Bank.

Dave, best of luck.

Thanks, Eric.

Okay, a couple of questions. How much was total advertising and promotion down in the quarter?

I think it was -- it was down 100% due to the productivity efforts we mentioned. Our working media was actually dead flat versus year ago, so we continued to spend the same amount on air.

In terms of the productivity impacts, I don't think -- I'm not sure I want to give you that number right now, but I can tell you it is below the 9% rate that we have quoted in the past, but it has all been based on the agency consolidation and the ZBB approach we took to the non-working media. So we're pretty confident that we have kept the investment at the level it needs to be.

But it looked like -- if your product -- I'm wondering how much came out of Europe, because your product's not on the shelf or a small percentage of what it was. Why would you advertise there if you don't have product on shelf? Was that a material factor in the quarter?

No, not really. That was really a French issue, so one country in Europe.

One of the most important things as you go through these pricing periods is that you continue to support the brands, because you've got to make sure you have got the consumer pull to help drive that pricing through both the customers and get the consumers over the price shock. So we very much focused on maintaining our working media investments in Europe and, frankly, globally.

Then, Irene, most companies have been reporting very -- slower growth in Brazil, Russia is a big question mark, China is slowing down. Yet you are reporting very strong growth in those markets; almost no elasticity in Latin America, despite close to 20% pricing. The Company has a history of overshipping consumption. Why should we be comfortable that these volume performances are okay?

What I will tell you, Eric, is that -- there is no question we are doing better than our categories in a number of these markets. We are very pleased with the impact that our marketing support has had, that our innovation programs are having, and that has been a key driver of our ability to outgrow the markets.

We continue to watch the performance of the macroeconomy in key markets, like Russia, to make sure that our inventories are properly balanced, and as I have shared with you in the past, we have got very good visibility into that to make sure that our sellout and sell-in are properly balanced.

So we are very pleased with the performance of our businesses in some of these markets that are -- where the macroeconomies have suffered, but I think it's partly because we are taking a number of steps to control our own destiny in those markets with respect to the marketing support and the inputs that we are providing.

I think, Eric, just to follow on that, the categories in our BRIC markets are holding up surprising well. The GDP is pretty dismal in a lot of those markets, but surprisingly our categories remain strong, growing roughly in the mid-single digits, and we have gained share in most of the categories we compete in the BRIC markets.

So we've got to watch it very carefully. A couple years ago, we did have some examples of overshipping in China, but I think as we look at it today, we've got pretty tight control on the trade stock situation. We are very aware that the categories are defying gravity at this point and we're watching it very closely, but I think we are probably a key part of that with the innovation and the investments Irene mentioned.

And then if I could -- sorry, just one more, Dave, before you go. Something I always ask about, but nine-months -- using your own press release, nine-month free cash flow is only $40 million, yet you have reported $2.2 billion of adjusted net income and you are saying that you're still going to get to $3.7 billion over the two years. It looked like working capital was a massive use in the quarter.

How do you bridge that gap and deliver? I don't see how fourth quarter can be such a big positive swing versus almost no cash flow year to date -- or free cash flow, I should say.

The $3.7 billion was a number that excluded a couple of key items. It excluded the Starbucks gain last year of $1.7 billion after tax. It excluded the actual tax payment on that Starbucks gain and it excluded the debt tender cost that we used that gain to be able to execute, given the tax situation that gave us.

It included restructuring. It included all the other noise, but I think specifically around those items tied to the Starbucks gain, it was not part of that. I think if you included all those things, our $3.7 billion would actually be higher.

But within that, the Starbucks gain obviously came last year, and roughly $800 million of the tax payment on Starbucks gain and the debt tender cost in the first quarter hit this year. So if you take all that out, we would be up about $800 million on the quarter and that is well on track to the $1.4 billion we need to hit the two-year $3.7 billion target.

If you want to throw all that back in, we would've had a much higher cash flow target than what we've talked about in the past last year and it would balance out a bit with some of those spendings this year, but we are well on track.

Our cash flow, we are quite happy with where we are. The working capital is up versus December 31, but that's normal. December, due to the seasonality of our business, is always our lowest working capital quarter and it always has been, and September, actually, is leading into the heavy quarter for a season, so we have higher inventories and we've started to see higher receivables come through in September. So that's a fairly normal situation.

When you look at it on a days basis, we are down, as I said earlier, about 20 days on our cash conversion cycle. So the working capital performance has been quite good, but when you compare it to December, you'll always see working capital increase, particularly third quarter. It tends to be the peak.

Okay, thanks for that. I'll pass it on.

Robert Moskow, Credit Suisse.

David, best wishes to you. I guess when I look at how this year is progressing, gross profit dollars will actually be down for the year, and -- but David, you said that there has been a lot of productivity gains and that you are on track in your supply-chain reinvention. I guess I wanted to know if you could help us quantify what those productivity benefits are and maybe explain why they are not improving gross profit dollars just yet.

Then, secondly, on the SG&A, it's very encouraging to see so much productivity on the SG&A line. I just want to get a sense of what we can expect for next year on that line, because some of these advertising efficiency improvements, it's hard to see how you can do that two years in a row, but would love to see how ZBB is going to help. Thanks.

Okay, I guess on the first one, gross margin is down on a reported basis due to currency, really. Currency, obviously, impacts the entire P&L and it does result in gross margin dollars being down on a dollar basis.

But I think if you strip out currency, on a constant-currency basis, as we said earlier, we are up about 3% on a dollar basis and that is a reflection of fully pricing to recover those commodity and ForEx impacts, which was a big number, and on productivity coming through at 2.5% of -- net productivity coming through at 2.5% of cost of goods sold, which is a record number.

And that really is the reason we are able to grow our gross margins and it is the reason we are fairly confident that we can continue to drive margin growth going forward and offset pricing impacts. So we actually feel very good about the gross margin. I think you're looking at a reported ForEx basis when you say it's down.

On the SG&A, I think -- the ZBB process, as Irene said, is really -- it started this year around mostly just making people aware and trying to take a new approach to looking at things. We are in our first cycle of building budgets that way, so I think we would expect to see those savings continue and build into 2015.

Specifically on the A&C line, you're right. I think most of the low-hanging fruit would have come this year, but there will be a carryover benefit to some of that, carrying over to next year when we get the full-year benefit, but I think you'll see more of the ZBB savings on the overhead line and less in A&C next year. But I think it will build as we go through the year as well.

David, do you have a topline or a top-down target for ZBB savings for next year, like something that you are thinking of?

We do, but we're not going to give you any 2015 guidance today.

Okay, thank you very much.

David Palmer, RBC Capital Markets.

I know the year is not over yet, but it feels like the majority of the EBIT margin growth this year has been and will be SG&A productivity. Wondering heading into this next year, will those changes internally, which may have been distracting, are you getting past what perhaps might have been traumatic or at least a period of change in internal review for your marketing and selling functions, as well as general overhead functions, and perhaps getting more on your front foot as you head into 2015? Any comments on that would be helpful, thanks.

There is no question we are starting to see the result of all of our transformation initiatives coming together and I think we are feeling very good about the progress that we have made year to date.

And as I said in my remarks, we don't expect a dramatic change in the macroenvironment as we look ahead, so that we anticipate continuing to leverage this approach.

So I think -- it's clearly we are beginning to make cost consciousness, cost reduction, productivity a part of the DNA. We are starting to see it play through. It is a critical piece and critical driver of our margins as we look ahead, and I have every confidence that will continue to play through as we look to the future.

The facts are, though, we haven't begun yet to implement the new organization model, which I mentioned will happen as of January 1, 2015, and I think that will be a further help to our overall ability to deliver the targets that we've laid out.

Then, separately, in the United States, how would you explain the slowing that we are seeing in the US biscuit category in cookies and crackers? Is there any thought there?

Look, we've had a really strong run in our biscuit business and I'm very pleased with the performance that they have delivered. Our revenues have been growing about 4% to 5% for the past couple of years, and it's been driven by some fabulous marketing execution, as well as a very strong DSD selling organization.

We are seeing the category growth slowing to about 2% to 3% -- from about 2% to 3%, so we have been outgrowing the category for quite some time. It is now down about 1% to 2%, and we think that's probably likely to be a factor in the near term as the consumer, particularly in North America, wrestles with the tough economy. Some of these are discretionary purchases and we think it has some impact on our categories.

Our focus is going to be continuing to innovate and drive our share within that larger macroeconomy, as well as very -- continuing to make very significant progress on the margin front.

Thank you.

Bryan Spillane, Bank of America.

Dave, congratulations. Wish you well going forward.

I had a question following up on some of the items that people have focused on this morning on just gross profits and gross margins. I guess a couple things I'd like to get some comments on. First, just how much of your commodity exposure is currently locked in for this year and is there anything that's locked in for next year? Just trying to get a sense on visibility on commodity costs.

I don't think we will give you our hedging policy because that would cross the line, but I think it's fair to say that for this year, we are 100% locked in. There is really not much exposure.

I think on our commodity coverage, our strategy is to cover until we believe we can price. That tends to be how we do our commodity and ForEx coverage decisions, and the only caveat to that is in many emerging markets, it is quite difficult to get some of the currency hedges you would like to get in place. But that's our overall strategy is to try to hedge until we can price.

Okay, and then, I guess, looking at just the foreign currency transaction impact, it really wasn't very much of a factor in Q3. Is that a potential headwind for 2015 or even for 4Q and 2015 going forward?

Actually, the foreign currency transaction impact is what we talk about when we say our commodity -- we are going to price away commodities and ForEx impacts. That is ForEx transaction and that was about half of the high single-digits cost increase I referred to.

So it was material, primarily in emerging markets. Obviously with some of the latest moves over the last month, that will become more of a factor in Europe, but it already has been a significant factor in the cost movement this year.

Okay, and then in terms of pricing, have you already priced -- have you basically taken all the pricing you need so far, based on what you know in terms of commodity costs and FX transaction?

Obviously, not knowing what's going to happen down the road, but I'm trying to make a sense is you have been putting pricing in for the second quarter or the third quarter. For now, are you primarily done with that or is there still more new pricing that has to be instituted?

It varies a lot by market and category, but the -- I guess two parts to it. We have announced more price increases in some markets, but none of that is required to hit the Quarter 4, so that's more about making sure we continue to stay on the cost curve as we go into next year. So there is more pricing coming through, but it's not necessary to hit the Quarter 4 guidance we just gave you.

Okay, great. Thank you, Dave.

David Driscoll, Citi Research.

Dave, I'd like to add my congratulations and best of luck on the new role and appreciate all the assistance over the years.

What I would like to ask is, Irene, on the margin front -- and I think you have said this before, but I get this question all the time, is the weak volume environment, does it concern you to a degree of being able to achieve your long-term margin targets?

No. David, I feel quite confident -- as we think about our long-term strategy, we are confident that we will be able to deliver top-tier revenue and earnings growth.

We have very strong categories. Even when they have slowed down, they are still growing faster than most other food categories. Our brands are strong, we have strong market positions in our key markets, and we have got a very good geographic footprint, particularly with respect to emerging markets.

So I think the fundamental elements that we have that comprise our portfolio will still suggest that we have the potential to grow at a very healthy rate over the long term.

In this challenging environment, though, we have chosen to focus on what we can control, and that is driving productivity and aggressive cost reductions, and that's what's fueling our earnings growth in the short term.

So over the long term, I feel quite confident that we have got the right elements to be able to deliver top-tier growth on both the top and bottom lines, but in the near term, while we see the macroeconomy in its current condition, we are choosing to focus on what we can control, which is primarily the costs.

Maybe if I could -- you said a lot right there, so maybe if I could just clarify as best I can. Is that -- the 15% to 16% margin target is predominantly based upon things that you can control internally, and that with year-to-date volumes down -- I think it's 1.8%, that's not a killer in being able to achieve those targets. Is that just a fair statement?

That is a fair statement. As I said in my remarks, we do not expect a dramatic change in the macroenvironment or in our trends, and therefore we anticipate continuing to leverage the approach that is working so well for us right now as we head into 2015.

That said, we are continuing to make the necessary and high-return foundational investments so that as our markets recover, particularly in the emerging markets, we are able to benefit from that. But I would suggest -- obviously, we are not giving you 2015 guidance today, but I would say that the algorithm and the approach that we are taking here is serving us well and will serve us well for the foreseeable future.

One last one for me, just a little one. I think you said that China, you saw mid single-digit growth there. Those numbers have been very volatile because of last year's Golden Oreo launch. The quarterly numbers have been very volatile.

Is the right way to think about China at this point a mid single-digit grower going forward, or at least next handful of quarters? Is that a reasonable way to think about China now?

I'm not going to give market-by-market guidance, but I would say that this is an unusual quarter because of the year-ago comp in terms of the inventory destock.

So, as I said, we are starting to see some early signs of success in response to our marketing programs. We expect that will build, but it's going to be a slow build. We have got some work to do in China.

Okay, thank you very much. I will pass it along.

Jason English, Goldman Sachs.

First, quick housekeeping item. Can you give us some of the puts and takes that are going to weigh on EPS for the fourth quarter? Your guidance suggests that it's going to be down a couple cents year on year.

I think essentially what we are projecting for the fourth quarter would be interest roughly in line with what you saw in the third quarter; the tax rate probably around the low 20s range, because we don't see a lot of discrete items coming in the fourth quarter; and operating income margin, mathematically to get to around 13% on the year, we would need to be in the high 13%s. So that's the composition of the Quarter 4.

That's helpful. I want to turn to productivity. I know there's been a lot of questions on this, but your Mexican facility coming online. Can you give us a sense of how much volume or what percentage of your volume out of North America and LATAM is going to be flowing through this facility? And then, once this comes online, what are the next steps in terms of attacking your legacy North American infrastructure?

I think we have done a fair bit there. What we've said about the Salinas facility, it's all about growth volume. So what is going into that facility is growth on our core Oreo, belVita, and Ritz lines, and that's really how we are going to fill up those five lines. Three of them are coming up this quarter.

So that is really what that is about, so the vast majority of the volume will still come out of the legacy facilities.

Beyond that, though, we also announced earlier this year that we would be closing the Philadelphia facility and investing money in both our Richmond and Fairmont facilities to upgrade those legacy facilities. I think our margin improvement program in North America is both Salinas, but also making sure we have the right network here in the US.

Okay, and real quick, last one, gum. It's been a while since you guys talked about the category, how it's doing, and how you are doing in the category. Can you give us an update?

Gum is about 8% of our revenue today, and about half of it today is now in emerging markets. The good news is that the category continues to be generally quite robust in the emerging markets.

If you look at our year-to-date trends, they are not as strong just because of the impact of the Mexican VAT on the gum category. If you recall, there is about a 16% VAT, which obviously in the short term is having a profound impact on the Mexican gum category, but in aggregate, ex Mexico, our emerging markets are growing over 5%.

So we feel quite good about the profile in the emerging markets and we are starting to see the impact of a number of our near-term programs on our share performance. Over half of our shares are growing or holding, and particularly in China, which is basically the number two gum market in the world, we continue to see very strong performance. That's going to be about a $150 million business for us this year.

Net net, we haven't solved the longer-term macro trends in developed markets, but as our business shifts increasingly to the emerging markets, we feel quite confident that we will continue to benefit from the growth there.

Great. Thanks a lot, guys.

Matthew Grainger, Morgan Stanley.

Just to echo what everyone else said and good luck to Dave.

First question, just on the regions, on Asia specifically, organic sales growth was up 1.3%, but China was up high single. Australia/New Zealand was positive. India was quite strong. So just trying to reconcile those -- the importance of those markets and curious what other markets or factors weighed on the overall region and how sustainable those issues might be?

I think the other two areas of the region would be Japan, which is primarily a gum market, and I think the category -- we did very well on share there, but the category is in decline and probably will continue to decline because of the aging population demographics.

The other one is in Southeast Asia, and I think the news in the quarter there was around Malaysia. There was a report that was inaccurate that said our chocolate wasn't Halal and that caused our volumes to go down in the third quarter in Malaysia. We're in the process of working through that and clarifying with our consumers that nothing really has changed, but it had an impact on the third-quarter shipments. So those would be the two other items in Asia.

Okay, thanks, Dave. Brian, if I could ask you one other quick question, if it's one you can answer. Even though you are not formally in the CFO role yet, now that you have been named to the post, are you actively involved in the 2015 budget process and the ongoing process of assessing the business outlook and setting guidance?

Absolutely. We have spent the last couple weeks in a lot of deep reviews really focused on 2015. That's been a primary focus and where Dave and I have spent a lot of time together.

Okay, good to hear. Thanks, everyone.

Alexia Howard, Sanford Bernstein.

Can I ask about the impact of SKU rationalization? I know I guess this time last year, there was a comment that you were starting with 74,000 SKUs globally and an expectation that would be reduced quite significantly over the next two or three years. Is that hitting your topline today? Will it continue to hit somewhat over the next year or so? Can you give us any idea, now that you are a year into this rationalization, just how much those numbers might come down over time? Thank you.

I think the rationalization we talked about is probably most advanced in Europe and, yes, it is included in both the results, as well as the guidance we gave going forward.

I would expect us to continue to do that. At any good company, it's just good housekeeping to continue cleaning up the SKUs, and so I think you will continue to see those things and any guidance that we give you will include the impact of that SKU rationalization.

But given that -- I think there was a conversation about meaningful 20%, 30% reductions, in some cases. Do you have an idea about what the endpoint here is or what the number could go down to over the longer term?

I think our comment on the 20% to 30% was specifically around a couple of programs we had in Europe, and we are on track to deliver that. I don't think we have given a total SKU number, but I think you can expect us to take the European program and apply that logic elsewhere.

Importantly, an SKU reduction can result in a topline impact. It can also, actually, just clean up the shelf and help us drive growth going forward. So it isn't necessarily a revenue hit. It can be and it was to some degree this year in Europe, but it doesn't necessarily have to be.

So we will continue to apply those principles. They are actually tied quite tightly to the supply-chain reinvention program we have got and it is a key part of enabling Daniel Myers to streamline the network.

Great, thank you very much. I'll pass it on.

Ken Zaslow, Bank of Montreal.

I just had two quick follow-up questions. One is last quarter, you guys reduced the OI growth rate. Now you are actually going and actually raising it. Can you isolate one to three reasons of what are the major changes of going from one quarter to another quarter in terms of the outlook on that?

I think last quarter what we did is we called down our revenue guidance and we kept our margin guidance. Mathematically, that means we had to reduce our OI growth rate.

This quarter, we've kept our revenue guidance. We had very good margin performance in Quarter 3, and we essentially said we think we can keep that and carry that forward into Quarter 4, and we've increased our margin guidance.

I think we are just frankly keeping you up to date as the world unfolds. Our guidance today is really around sticking with the 2% to 2.5% revenue growth rate on the topline and taking our margins up to around 13% on the OI level, and that results in the higher OI growth rate.

Let me ask it another way. Did you accelerate the ZBB? Is there something that came in earlier than expected? Was there a little bit less elasticity? Was there certain rebound in emerging markets or something that happened at all during the quarter that changed your view, particularly on the ZBB side?

I think ZBB is probably the thing I would single out as saying we have had a good performance on overheads all year, but I think we are making better progress year to date than we had originally expected. So if you had to single out one thing that caused us to raise our margin guidance this year, that would be it.

Then my final question is, can you give us an update on the size of the gaps, where they were -- or some key markets, and where they stand now and where you hope them to be? What are the actual progress of the price gaps, because you said that has actually come in in emerging markets, and I was just curious to see what the progression has been and are you at the state where you need to be?

I think two answers to that. In emerging markets, we priced when commodities and ForEx impacts hit. Many of our competitors either didn't price or priced significantly later than we did.

That's mostly trued up by now. The price gaps in emerging markets are largely back in line. Competition either priced or downsized to reflect the cost increases.

Where it is still out of line would be in European chocolates where we have priced to reflect the quantity and ForEx impacts and most of the competition has not, and so we're still out of line in Europe. On those, we would expect over time the competition will need to reflect the realities of the new cost levels. But as we sit here today, there is still price gaps in European chocolate. That's the one outlier. I think the rest of the business feels pretty good.

Great, thank you.

Ladies and gentlemen, we have reached the allotted time for questions and answers. I will now return the call to Dexter Congbalay for any additional or closing remarks.

Thanks, everyone, for joining us this morning or afternoon, if you are in Europe. Nick and I will be around for the rest of the day to take any calls or, frankly, for the rest of the week. But then again, have a good day.

Thank you. That does conclude the Mondelez International third-quarter 2014 earnings conference call. You may now disconnect.