McCormick & Company Inc (MKC) 2008 Q3 法說會逐字稿

Greetings and welcome to the McCormick's third-quarter 2008 conference call.

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

A brief question and answer session will follow the formal presentation.

(Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Joyce Brooks, Vice President of Investor Relations for McCormick.

Thank you, Ms.

Brooks.

You may begin.

Good morning to everyone joining us today by phone and webcast for a review of McCormick's third-quarter results and latest outlook.

With me today are Alan Wilson, President and CEO; Gordon Stetz, Executive Vice President and CFO; and Paul Beard, Senior Vice President Finance and Treasurer.

Following our remarks, we look forward to discussing your questions.

Before we begin our discussion, please note that during the course of this conference call we may make projections or other forward-looking statements.

Actual results could differ materially from those projected in our forward-looking statements.

In addition, information we present today which excludes restructuring charges are not GAAP measures; and we present this information for comparative purposes alongside the most directly comparable GAAP measures.

Please refer to this morning's press release, which is posted on our website, for more specific information on these topics.

As indicated in the press release, the Company undertakes no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events, or other factors.

It is now my pleasure to turn the discussion over to Alan.

Thanks, Joyce.

Good morning, everyone, and welcome to this morning's call.

The third quarter was an exciting time at McCormick.

First, as reported on August 1, we completed our acquisition of Lawry's.

To complete this deal, we sold our Season-All business on the same date.

The 30-day comment period for Lawry's has concluded and the FTC decision is now final.

The integration of this business is proceeding well.

Steps to transfer production are underway, and this project should be completed by early 2009.

We recently conducted a consumer research study that measured the level of brand equity for Lawry's, and the results exceed the previous levels we've seen.

To build upon this, our marketing team has developed two new marinade items and a new seasoning blend that will launch early next year.

By the second quarter, we will launch new marketing support for the brand.

If you recall, back at our June conference call we indicated that the third quarter would be a period of increased marketing spending designed to maintain our growth momentum.

Compared to the year-ago period, we increased marketing support by 30% this quarter.

In the US, we ran print ads to gain consumer awareness of our new flavored pepper and crusting blend products.

In selected regions, consumer saw outdoor advertising for Old Bay seafood seasoning.

To attract new users, we stepped up our television ads for Grill Mates and Grinders, both of which have a relatively low household penetration of around 10%.

We also increased our promotion and advertising in Europe.

As you have heard from other food companies, we are in a tough environment with volatile material costs and consumers that are under pressure.

The strain on consumer spending was evident in our US industrial business, where reduced demand from restaurant customers affected sales and profits.

In Europe, as we moved through the quarter both our industrial and consumer segments began to feel the impact of a rapid economic decline, especially in our largest markets, France and the UK.

Across all of our major markets, we continue to realize pricing that is sufficient to offset our higher costs while minimizing consumer trade-down to private label and economy brands.

As US consumers shift to alternative channels, we have worked to grow the distribution of our brands with these customers.

In the second quarter, we announced new distribution with a regional value price chain; and I'm pleased to report that in the third quarter we expanded a limited line of McCormick products to 40 additional items with a large non-grocery customer.

I am proud of our employees' success in optimizing our product distribution and store merchandising, achieving the right marketing mix, introducing new products, and improving cost efficiencies throughout the supply chain.

Our accomplishments in each of these areas are evident in our financial results this quarter and have created good momentum for the fourth quarter.

I would now like to turn it over to Gordon to discuss our financial results for the third quarter in more detail.

Thanks, Alan.

I would like to add my welcome to those of you who have joined us today.

I'm going to begin with comments on the total business, then move into each of our two segments.

Third-quarter sales were up 9.1% with a 2.9% benefit from foreign exchange rates.

With a weak dollar through the first three quarters, exchange rates have had a positive impact on sales.

But with some strengthening of the dollar, exchange rates could have a negative sales impact in the fourth quarter.

In addition to the currency benefit, we were able to realize 4.4% of pricing in the third quarter.

Volume and product mix were up 1.8%, with a strong contribution from the consumer business partially offset by lower volume and mix in the industrial business.

For the total Company, acquisitions added 2.9% to the quarter.

These included Lawry's, Billy Bee Honey, and Thai Kitchen Europe, less the reduction in sales from the disposition of Season-All.

Gross profit dollars rose 8.5%.

While costs for certain commodities have come down a bit in the last few months, they are still well above last year's levels.

In the third quarter, we were able to offset the impact of these higher costs with increased prices.

We also had a positive impact on margins, with a greater increase in consumer versus industrial sales.

As a result, gross profit margin declined just 20 basis points this quarter, compared to a 60 basis point decline in the second quarter and 100 basis points in the first quarter.

We continue to face cost increases that include packaging materials and certain herbs and spices as well as other ingredients.

We will consider further price increases and have already announced the second 2008 increase for some of our consumer products in Europe and Canada, as well as our Zatarain's rice products in the US.

Our work to improve productivity throughout the organization continues, especially in Europe, where restructuring activities actions are still underway.

Excluding restructuring charges in the third quarter of 2007 and 2008, operating income rose $3.3 million or 3.5%.

Increased sales and gross profit led to higher income, including the impact of acquisitions.

As part of our 2008 plan to increase marketing support behind our brands, we stepped up our third-quarter activity.

This added $6.8 million to promotion and advertising expense for the third quarter.

Below operating income, lower interest rates continued into the third quarter, leading to a favorable variance in interest expense.

We recorded two items this quarter related to the Lawry's transaction.

One was our $12.9 million gain on the sale of Season-All, and the other was a $5 million cost related to the rebalancing of our debt structure.

These had a net EPS impact of $0.04, slightly ahead of the $0.03 guidance we gave on August 1.

With the impact of some discrete tax items, our rate for the quarter was 29.7%, below our guidance of 31%.

This takes our year-to-date tax rate to 30.2%, although at this time we expect the fourth-quarter tax rate to be closer to 31%.

Income from unconsolidated operations rose $0.8 million this quarter, reversing a decrease in the first two quarters.

We have been pleased that our joint venture in Mexico is effectively managing through a tough situation with the higher cost of soybean oil and increasing volume along with pricing.

EPS for the third quarter was $0.52.

Excluding $0.02 of restructuring charges, $0.07 for the gain on the sale of Season-All, and $0.03 for the cost to rebalance our debt structure, adjusted earnings per share were $0.50.

In the third quarter of 2007, we reported EPS of $0.43, which was $0.45 excluding restructuring charges.

Comparing the adjusted results of $0.50 in 2008 to $0.45 in 2007, the $0.05 increase was comprised of $0.02 from higher operating income and $0.03 from the combination of reduced interest expense, a lower tax rate, and higher income from our unconsolidated operations.

Let me provide some details about each of our two business segments, beginning with the consumer segment.

Across all regions, consumer sales rose an impressive 14.4%, with a favorable impact of 3.9% from foreign exchange rates and 7.3% from volume and product mix that included a 4.5% from acquisitions.

The remaining increase of 3.2% was due to our pricing actions.

In the Americas, we grew consumer sales 15% with a favorable impact of 0.6% from currency.

Volume and product mix were up 9.9%, and pricing added 4.5% to sales this quarter.

Of the 9.9% increase in volume and product mix, acquisitions accounted for 5.9% of the increase.

As Alan noted, we had new and expanded distribution of branded products with nongrocery customers and increases in warehouse clubs.

With incremental marketing support, we are achieving increased sales of our branded products.

In addition, we continue to grow our sales of private label and economy brands.

In Europe, consumer sales rose 11% with a significant increase, 10.5%, coming from favorable currency exchange rates.

Higher pricing also had a positive effect, increasing sales 1.2%.

This was offset in part by 0.7% impact of volume and product mix including sales from Thai Kitchen in Europe.

Our markets in the UK and France began to feel the impact of growing economic pressure on the consumer.

In the UK, for example, shoppers are facing food inflation that has exceeded 8%.

Sales of the UK's Schwartz brand outpaced the category for the quarter.

As we moved through the third quarter, sales declined in France.

In addition to a difficult economy, we are also beginning to see signs of trade inventory reductions in this market.

In the Netherlands, we continued to face stiff competition and are working to regain distribution lost in 2006 with improved merchandising and product innovation.

Our team in Europe is working to compete more effectively in this difficult market as they complete several restructuring actions, pass through higher costs in our pricing, introduce new products, and optimize our marketing mix.

In the Asia-Pacific region, we had excellent growth, with consumer sales up 24.8% and 11.7% in local currency.

This increase was driven by higher volume and favorable product mix, primarily in China.

We are encouraged by improvements in Australia, with the successful introduction of the seasoning mixes for slow cookers and reduced sugar Aeroplane Jelly, along with a customized version of the gravity-feed merchandising system.

Across all regions, operating income for the consumer business was $75.1 million when restructuring charges are excluded.

When compared to the third quarter of 2007 on this same basis, this was an increase of $4.6 million or 6.5% even with the higher marketing spending this year.

Year-to-date, we have increased operating income by 7.6% and total marketing support by 17.2%.

Moving over to the industrial business, we had some varying results across customer groups and regions.

Across all markets we were able to offset the dollar increase in cost with higher pricing.

For the third quarter, total industrial sales rose 3% and 1.3% in local currency.

Higher pricing added 5.8% to sales, while volume and product mix were down 4.5%.

In the Americas, sales were up 0.7%, but down 0.2% in local currency.

In this region, higher pricing of 5.3% was largely offset by lower volume and product mix.

Declines in coatings and other restaurant customer products drove much of this decrease.

This included some actions on our part to discontinue the sale of certain low-margin items.

We have been successful in winning the business for several value-added new products during the quarter, and are working hard to develop new customer partnerships for our industrial business in the Americas.

Industrial sales in Europe increased 0.6%, 0.7% in local currency.

Foreign exchange rates have, little impact here and as our primary exposure is to the British pound, whereas our consumer business in Europe is affected by both the euro and the British pound.

We realized a significant amount of pricing, which added 9.1% to industrial sales in Europe this quarter.

Volume and product mix declined 8.4%, primarily with restaurant customers.

As in the US, this decline included some actions on our part to discontinue the sale of certain lower-margin items.

The reduced the volume has had an unfavorable impact on our manufacturing efficiencies, and we are aggressively pursuing new business in this region.

We grew sales in the Asia-Pacific region 25.9%, and 14.1% in local currency, results that were close to what we reported in the second quarter.

Pricing had a minimal impact in this region.

Higher volumes and a positive sales mix resulted from increased sales of both core and promotional items to quick-service restaurants in both China and Australia.

Excluding restructuring charges, operating income for the industrial business was $21.3 million versus $22.6 million in the third quarter of 2007.

Following two quarters of increases, lower volume led to a $1.3 million decrease this quarter.

We achieved higher profits this quarter in our US industrial business following the transformative steps taken since 2005.

However, the lower volume in Europe caused production cost to be higher in that region; and in Canada we had some incremental startup costs associated with their June implementation of SAP.

While we continue to collaborate with our industrial customers to effectively pass through higher costs, our attention is on the development of new value-added products to support the growth of our food manufacturer and restaurant customers, while carefully managing the cost-price equation for this business.

I want to spend a few minutes on the quarter-end balance sheet and our cash flow.

At August 31, Accounts Receivable were up 7.5% compared to a year ago, which was below the 9.1% increase in third-quarter sales.

As reported last quarter, we have made progress in renegotiating credit terms with several customers in international markets.

Inventory was up only 5.1% compared to a year ago.

The $22 million increase was more than accounted for by $16 million of incremental inventory from acquisitions and an estimated $10 million related to higher commodity costs.

Including the new debt for Lawry's, debt to total capital ended the quarter at 52.7% compared to 47.4% in the prior year.

On September 3, we issued $250 million in aggregate principal amount of 5.25% notes due 2013, to term out part of the commercial paper issued to fund the Lawry's acquisition.

In light of the current credit markets, we remind you that existing bank credit facilities are in place to back up $750 million of commercial paper and are available on a same-day basis.

Our day-to-day liquidity is secured through our access to the commercial paper market and our bank lines.

Year-to-date, cash flow from operations was $115 million versus $23 million in the year-ago period.

The primary factors behind this increase were lower payments for restructuring actions; strong collection of receivables; effective management of inventory; and lower retirement plan contributions.

Year-to-date, we have used cash and increased debt to fund $697 million of acquisitions, $86 million of dividends, and $57 million of capital expenditures.

That completes my remarks on our third-quarter financial results, and it is my pleasure to turn it back over to Alan for our latest financial outlook.

Thanks, Gordon.

We've had strong year-to-date results and are on track to meet our latest financial objectives in 2008.

We reaffirm our sales growth projection of 9% to 10%, which was increased in August to include the Lawry's acquisition.

At the same time, we increased our EPS range by $0.06 to $2.03 to $2.07, adding $0.03 for accretion from Lawry's, $0.06 for the gain on the sale of Season-All, less $0.03 for the cost to rebalance debt.

Since the gain on Season-All came in at $0.07 per share this quarter, we are increasing this range by $0.01 per share and are now projecting 2008 EPS in a range of $2.04 to $2.08 range.

In addition to the items relating to the Lawry's acquisition, keep in mind that this 2008 EPS range also includes $0.10 per share of restructuring charges.

We reported 2007 EPS of $1.73, and excluding restructuring charges $1.92.

On an adjusted basis, the underlying EPS growth rate we are projecting for 2008 is in the 9% to 11% range.

As a final remark on our financial outlook for 2008, I also want to reaffirm our guidance for cash from operations of at least $300 million.

Let me summarize.

We will continue to face challenges in our fourth quarter and into next year, with continued material cost volatility, an increasingly difficult economy, restaurant industry weakness, and most recently headwinds from a stronger dollar.

However, as we look to our fourth quarter and into 2009, there are a number of things that give me confidence in delivering strong results.

First, the strength of our consumer brand franchise, which is holding up in this higher-price environment.

Second, the increased marketing support to drive these brands.

Third, the new distribution we have won and our new product activity for both consumer and industrial businesses.

Fourth, our progress with cost reductions and our opportunities to reduce working capital.

And fifth, our acquisition strategy and execution.

I look forward to sharing our fourth-quarter results and a more specific 2009 outlook with you in our January call.

To our shareholders and everyone on the call, thank you for your interest and attention.

We would now like to take your questions.

(Operator Instructions) Jonathan Feeney with Wachovia.

Good morning.

Thank you.

Just one; I'm sorry if I missed this, but do you have a world, a cross-company volume number excluding Lawry's?

Excluding acquisitions and divestitures?

The total Company volume for the quarter, ex acquisitions and divestitures, was down about 1%.

That is a function of really the industrial business.

The consumer business grew close to 3%, and the industrial business was down on volume.

Thanks.

Could you give me a little bit more detail on the industrial business about lower sales to restaurant customers?

How powerful is that negative product mix between other industrial customers and Food Service?

What sort of impact is that having, and what is it likely to mean in the quarters ahead?

Well, it's a continuation of the trends that we've seen at least in the North American markets, where consumers are shifting more to at-home eating.

Our Food Service business is -- it comprises both the sales that we make to fast-food restaurants as well as our branded distribution business.

We are seeing still good strength in our consumer food manufacturer business, where we sell seasonings and value-added flavors to people who process foods.

So, we are seeing some mixed results in that.

Keep in mind we have also exited some additional business in this quarter both in the US and Europe that would help to -- that would cause the sales to be a bit depressed.

I see.

If you could, could you quantify what the impact of the sale of exits -- like, I don't know, the ongoing sort of SKU rationalization -- had on that business?

It is a fairly small amount, and I don't have those numbers in front of me.

I'm sorry, Jon.

Okay.

Well, thanks very much.

Eric Katzman with Deutsche Bank.

Good morning, everybody.

I guess thank God you are in spices and not chicken these days.

But I guess I was kind of surprised when you announced that you had put through additional pricing this late in the year, given how much seasonality you have in your business.

Companies like Campbell's Soup, for example, have been reluctant to raise prices kind of in the heart of their season.

So can you talk about how that decision came about, what the retailer's reaction was to that, and how that price increase is going in terms of implementation?

First, the increases were in our Zatarain's business where we have seen continued escalation in rice prices; and it was specifically only on the rice products.

We also did it in Europe, which has less of a holiday seasonality.

We have not done that in the US market, where our fourth quarter is such a critical period.

We have said in the past that only under certain circumstances on major commodities would we try to do that in our US business.

So it's a bit limited to those two areas, other than in the industrial business where we have the normal pass-throughs of commodity prices.

Okay, all right.

That makes sense.

Then, just kind of turning to Europe, it seems -- I don't know, it is kind of difficult for us here to kind of judge.

I mean, General Mills, which has a relatively small European business but did very well this past quarter; Heinz has a very big result, very big business in Europe, and the last time they reported their numbers were quite good.

Same thing with Sara Lee, same thing with Kellogg.

But you have been kind of signaling a bit more weakness in the market.

Certainly economists and other folks have kind of tangentially said there are problems developing here.

So I am kind of wondering, why would we see a greater impact in your business before we would see it with some of the other major packaged food names?

I am only speculating here about the others, because I don't know their business that well, but our business is largely in the UK and France; and our business outside those two markets is still relatively minor.

What we are seeing, specifically in the UK, is that we are growing share but we are seeing some category declines.

What we are seeing in France is more of an inventory adjustment by large customers than we're necessarily seeing a weakness in offtake.

So I don't know if that helps to answer the question, but we are just trying to signal where we see our business.

We will say that we saw more deceleration in the last month of the quarter than we saw through the year.

We've actually -- through the year, our business, our volumes are up.

Is it as bad as it was a few years ago, where we are seeing the French kind of flock to these hard discounters, where McCormick at least in the past didn't really have a response to that?

Is that what is happening?

You know, in France, we have not seen a major impact on the consumer offtake; we have just seen the inventory adjustments.

We did introduce a line to help compete with the hard discounters.

Frankly we are viewing any move to hard discounters now as an opportunity to put our brands into additional channels.

So I don't think that is as much the impact that it was three years ago.

I think what we're seeing right now is an inventory adjustment.

Okay.

(Operator Instructions) Mitch Pinheiro with Janney Montgomery Scott.

Good morning.

So, as consumers move sort of down channel, are there any margin implications in your business?

If we are selling our branded products, there aren't margin implications.

We are selling the same products at the same kind of prices.

Certainly, the consumer may find some value because certain retailers take different margins on the products.

But it doesn't impact our margins.

Okay.

Is there -- how about looking at private label?

Could you share some sort of category information as to how private label has done in spices and dry seasoning mixes?

What we are seeing is private label gaining a small amount of share in spices and losing share in dry seasoning mixes.

We are gaining share in dry seasoning mixes and pretty well holding our share in spices and herbs.

Other people are being more impacted than we are.

Okay, in terms of --?

That is in the US market, Mitch.

I don't have details on what is happening in other markets, other than that we're growing share in the UK.

Okay.

When last year you, in the third quarter, were pushing a little more inventory into the channel to make sure you had display and the proper amount of inventory ahead of your strong season here, was there any change relative to last year in this year's quarter?

Nothing significant.

We had the same program that we had last year.

We liked the results of it in getting the displays out early.

We continued the same program; the impact was about the same, so there is not any major shift.

The marketing spend increase, that was focused on -- you had said Grill Mates and some other.

I can't recall all the areas.

But was it all -- was it media, or did it involve any other promotion?

It was a combination of media and product sampling, but it was mostly media.

Okay.

The last question is, so it would be easy to make the assumption that for every dollar lost on the away-from-home channel, it is going into the eat-at-home channel.

But how does that work specifically at McCormick?

Are you seeing -- is there any -- have you looked at that?

Are you seeing any one-for-one study, one-for-two study?

Is there any way to color that for us?

I mean conceptually, obviously, you benefit on either end.

But is it truly a wash, or is there a benefit or a loss there?

Well, it depends on where the shift is occurring.

In the restaurant channel, because our distributor Food Service business is a branded business, very much like our grocery business.

But what I just -- in terms of the way we think about it, it is certainly a positive shift for us as people are eating more at home.

Because of the purchase frequency of our products, you don't necessarily see that if somebody is not going to eat out on Friday night that they are buying a product at the grocery store instead, like you might see in beef or chicken.

But over time, that certainly is a healthy trend for us and a positive margin story for us.

I think that is what we have seen for the best part of this year.

Do you track website hits, recipe hits, and things like that on your website?

We do.

And I know the next question is going to be -- what are they?

I don't have up-to-date information on -- I would expect that we are seeing increased trends, because a large part of our marketing activity has been focused on interactive media, which is largely recipe based.

But I don't have good metrics in front of me.

Okay, all right.

Thank you.

(Operator Instructions) Ann Gurkin with Davenport.

Good morning.

Just wanted to ask, you made a comment that retailers in France were adjusting inventory.

Is there any issue for McCormick with respect to that?

Any issue?

Only from the impact of sales volumes, and this happens from time to time in different markets with different retailers.

It is a bit of an accordion process, because they will shrink down; then realize that they have out of stocks; and then they will start to shift back up.

So we don't expect, as long as there is not a slowdown in consumer offtake, that it's going to have a long-term impact.

But we did see it starting to occur in the third quarter.

So you anticipate it continuing in the fourth quarter as well?

It could, but at some point if the offtake stays healthy it will catch up.

Okay.

Then secondly, your marketing spend was up 30% in the quarter.

Is this a new level of increased marketing spending?

Or is this kind of increased spending in this current environment?

I wonder if you could help me with that.

It is a little bit of both.

It was a shift into third quarter to really support our Grill Mates products; and so it was a bit of a decision and a timing that we shifted from second quarter to third quarter.

If you recall in second quarter, our spending was more flattish.

But in terms of overall, we are consciously and proactively increasing our rate of marketing spend.

I think that is very important in economic times like this, that we make sure we are keeping our brand relevant; that we are communicating with consumers; and that there is a reason to come to McCormick products.

That is a very conscious and proactive approach to our marketing.

That's great.

Thank you.

Andrew Lazar of Barclays.

Thank you.

That still sounds a little odd to me.

Good morning.

Things move quickly in this world.

So I guess just a couple quick things.

One, I was still surprised, I guess, with the profitability in the industrial space given the kind of pricing that you did get through there.

Was this simply a fixed-cost absorption issue around volume?

I guess if so, I know one of the solutions you talked about was going out and gaining sales from different customers and such.

I guess that can take a little more time versus working on the cost side or maybe reining in capacity a bit.

Are there opportunities on the cost side with capacity as well in industrial?

Or are you kind of where you need to be and it is just a matter of taking some time to get it through sales?

Because I'm trying to get a sense of how long that absorption issue may be an issue in the fourth or into '09.

Remember, most of this was a European issue, and the European business has been going this year through the same restructuring that we went through in 2006 in the US business.

It is a shift, as we have discontinued some products where margins were not acceptable and we have to rebuild our utilization.

We are monitoring and managing our cost in that business.

We have significantly reduced the cost, that we will start to see the impact on that.

And you're right, it does take some time to rebuild the right kind of volume, but we are pretty confident that will happen in the near term as we do it, just like it has in the US business.

Got you.

Then last thing, the strategy around getting retailers the proper inventory levels and such, and receivables terms in the third quarter so they are well set for the fourth quarter, like you did last year.

I know you did that again this year.

Was it, would you say, equally successful?

In other words, no major differences in year-over-year in the amount of, let's say, volume pulled through into the third versus the fourth -- you know, versus last year?

Yes, there was no major shift in those; and we can track that pretty accurately, because this is all display activity.

So it is pretty even year-on-year.

Great, thanks very much.

Thank you.

There are no further questions at this time.

I would like to turn the floor back over to Ms.

Brooks for closing comments.

This concludes today's call.

Through October 2 you may access a telephone replay of the call by dialing 877-660-6853.

The account number for the replay is 309 and the ID number is 294847.

You can also listen to a replay on our website after 2 p.m.

today.

If you have any further questions or points to discuss regarding today's information, I can be reached at 410-771-7244.