Pilgrims Pride Corp (PPC) 2007 Q3 法說會逐字稿

Good morning, and welcome to the Pilgrim's Pride fiscal third-quarter conference call. At the Company's request this call is being recorded. Please note that slides referenced during today's call are available for downloading from the Investor Relations section of the Company's website at www.pilgrimspride.com.

Beginning today's call will be Gary Rhodes, Vice President of Corporation Communications and Investor Relations for Pilgrim's Pride. Mr. Rhodes?

Good morning, and thank you for joining us today as we review our financial results for the third fiscal quarter and the year to date. Earlier today we issued a press release that provides an overview of our financial performance for these periods. If you have not already seen this press release, a copy is available on our website along with other downloadable information. Joining me on today's call are O.B. Goolsby, Jr., President and Chief Executive Officer, Clint Rivers, Chief Operating Officer, and Rick Cogdill, Chief Financial Officer.

On today's call we'll review our third-quarter financial results and the key drivers of our performance during the period. We'll also talk about some of the operating challenges facing our industry and the steps we're taking to position our Company for profitable long-term growth. After our prepared remarks we will be happy to take any questions that you may have.

Before I turn the call over to O.B., I remind everyone that today's call contains certain forward-looking statements. These include our expectations of future results, sales and cost of sales information and market dynamics. Actual results might differ materially from those projected in these forward-looking statements. Additional information concerning factors that could cause actual results to differ materially from those forward-looking statements is contained in today's press release as well as in our forward-looking statement and risk factor disclosures contained in our Forms 10K, 10Q and 8K as filed with the Securities and Exchange Commission. I will now turn the call over to O.B. to begin our prepared remarks.

Thank you, Gary, and good morning, everyone. We are delighted to announce that Pilgrim's Pride returned to profitability in the third fiscal quarter, and based on those results we've also achieved profitability on a year-to-date basis. Net income for the third quarter totaled $62.6 million or $0.94 per share on total sales of $2.12 billion. Rick will go into more detail later in the call, but clearly we're pleased with the Company's financial performance in the third quarter, particularly in light of continued high cost for feed ingredients.

Our return to profitability is a direct result of improved pricing driven by industry-wide production cuts implemented earlier this year, coupled with strong demand for our products, particularly in the consumer retail segment. Pricing for wings and leg quarters has been especially strong as can be seen on Slide 3. Wings peaked at $1.36 during the quarter, a 68% increase from the highs of the same quarter a year ago. I believe we may be entering a new era for the wing market as consumer demand shifts from being largely seasonal in nature usually tied to big sporting events like the Super Bowl or March Madness to more year-round demand.

In fact, according to recent surveys conducted by the NDP Group, wings accounted for the largest growth at major quick-service restaurant chains. Wings also have performed well at casual dining restaurants and were rated the number one appetizer in 2006 with more than one billion orders. We have seen strong demand for a number of our wing products including our consumer-preferred Wing Dings and Wing Zing products, and we're gaining business with customers as a result. This is an exciting time for our business, and we look forward to continued success of the wing market.

The strength in the leg quarter pricing is evidence of a strong export market. Although Russia remains the largest importer of U.S. chicken, China may be the fastest-growing export market. This may be due in part to recent disease issues within the Chinese pork industry and the appeal of high quality, lower cost U.S. leg quarters. If these conditions persist, China could soon overtake Russia as the number one export market. In fact, China is already the top export destination if you include the sale of chicken parts.

The additional demand generated by China contributed to the 82% increase in leg quarter pricing during the quarter when compared to the same time a year ago. At the current spot market rate of $0.48 per pound, leg quarters are at or near record highs.

Boneless, skinless breast prices have also shown some strength although not to the same extent as wings and leg quarters. During the third quarter boneless, skinless breast averaged $1.68 per pound, 38% higher than the same period last year. Boneless, skinless breast averaged $1.65 per pound in July and currently are trading at approximately $1.59 per pound.

As a result of these higher selling prices for our products, we were able to offset the impact of higher corn and soybean meal cost. Clint will share some additional detail about grain costs in a few minutes, but as we've said before, high cost for feed and other commodities continue to pose a significant challenge to our business. In fact, as shown on Slide 4, you can see that typical industry feed costs rose from $120 per ton in September to over $150 a ton in November and has remained over $150 for seven months. At these new elevated levels of feed costs, it's more important than ever for us to seize every opportunity to manage these costs so that we can reduce our exposure to market volatility.

With that in mind, we recently added Edwin Carter to our Company as Senior Vice President of Commodity Risk Management. In this new position he is responsible for setting our strategic direction on exposure to all commodity-based items such as grains, meals, oils, natural gas and diesel. With more than 20 years of experience, Edwin has a proven track record of managing risk in a wide variety of commodity markets, most recently with the Coca-Cola Company. We are confident that his expertise will be a valuable addition to our senior management team.

Moving now to the integration of Gold Kist, I'm happy to report that our employees are making good progress in identifying opportunities to improve our combined businesses. Together we're working on a wide variety of projects that will help us operate more efficiently and deliver improved services to our customers. Through the end of the third quarter we had realized approximately $48 million in annualized cost savings. That's well ahead of our previous forecast of $25 million by the end of September. In some cases we've been able to capture synergy savings ahead of schedule by moving projects around, while in other cases the project timelines have been adjusted to meet the demands of our business.

In total, however, I am now confident we'll be able to exceed our previously announced synergy savings target of $100 million, and we believe that our annual run rate is likely to be closer to $150 million by January 2008.

Looking ahead, we're cautiously optimistic about the fourth quarter. Market pricing for our products remains strong. We're seeing good demand across the board. The crop is safely in the ground, and we're on target with our synergy goals. With that, I will turn it over to Clint for an operational update. Clint?

Good morning, everyone. We believe the two key challenges facing our industry today are production levels and feed ingredient costs. As you have heard the production cutbacks implemented across the chicken industry over the past year have helped lead to improved pricing. But heading into the 2007 summer grilling season, Pilgrim's Pride and other processors begin setting more eggs to meet growing consumer demand. In our case the 5% year-over-year reduction that we had in place since January ended at the beginning of July when we cycled through the first anniversary of our initial cutback from last summer. And on a pro forma basis we achieved our cutback target as production in the third fiscal quarter was 5.14% below year-ago levels. As we have said before with the cutback now finished we expect our production for the fourth fiscal quarter to be about level with the same period a year ago.

The question now is whether producers throughout the industry will continue to take a rational approach to production with chicken prices at the current levels. The most recent eggset data show year-over-year increases of approximately 3% since the beginning of June. However, since the Fourth of July, industry slaughter numbers on average have increased just under 3% level versus the prior year. When compared to 2005, current production levels of head processed are basically flat. When incremental bird weights are factored in, the chicken meat supply is averaging approximately 5.5% higher than July of last year but is up only about 3.1% versus the same period in 2005.

So while it's clear that heading into the fourth fiscal quarter we have more chicken being produced than last year, you must remember that last year's numbers were unusually low due to the industry cutbacks. Or, to put it another way, our industry growth in the fourth fiscal quarter of 2007 is projected to be up approximately 1.5% per annum since 2005 versus a more typical annual growth rate of approximately 3% per annum as we saw from 2000 to 2005.

Obviously, the other key issue facing our industry is feed ingredient costs. As you all know feed ingredient pricing has been very volatile this season as farmers attempt to meet the demand from growing corn-based ethanol industry. With each USDA and weather report, speculators have the ability to create price swings that can either cost or save our industry millions of dollars. On June 29, the USDA released its annual acreage report which indicated that 3% more corn acres had been planted than what was originally reported in March. As a result, the price of corn dropped nearly 3% that day. In July, weather reports began to indicate more precipitation in the Corn Belt which once again gave speculators reason to abandon their long positions on corn, sending prices down over 6% in less than a week.

While this is all positive news, we can't lose sight of the impact this is having on soybean meal which is also a primary component of our feed mix. In comparing meal prices on those same days, the effects of lost acreage for soybeans essentially offset the gains from positive news on corn plantings. There's no question that high feed costs are with us for the long term, thanks to what many believe is the nation's misguided public policy that subsidized production of corn-based ethanol. Next year the agricultural industry once again will have to find millions of additional acres of corn on top of this year's record plantings just to meet the increased production demand for ethanol.

We believe this task will prove difficult. Competing pressures from higher soybean and wheat prices coupled with crop rotation concerns will result in the 2008/2009 corn crops likely consuming fewer total acres than this year. That will leave a big void to fill. While American consumers may one day realize some marginal benefit from cheaper prices at the fuel pump, there is no doubt they will continue to pay more for food items at their neighborhood grocery store or favorite restaurant.

Fortunately, as O.B. mentioned, during the third fiscal quarter we were able to offset high feed costs with improved pricing. The question is will we be able to see this trend continue in the fourth fiscal quarter? In the fourth fiscal quarter, we currently anticipate that our unit cost of feed ingredients will be essentially flat with the third fiscal quarter and that it will be the first quarter of fiscal 2008 before the recent changes will have an appreciable impact on our results. As O.B. mentioned we've already begun to see selling prices decline somewhat coming off Fourth of July highs. However, current overall selling prices are not materially different from the third fiscal quarter.

Whether this trend continues throughout the remainder of our fourth fiscal quarter is the subject of debate. For example, comparing the fourth quarter to date average to the third fiscal quarter, key markets for leg quarters and Georgia dock are up 7.9% and 2.1% respectively. However, boneless, skinless breasts and wings are off 1.5% and 4.7% respectively.

Looking ahead, we believe that managing this environment of expected volatility is the greatest challenge facing us today but one that we think is doable. First, our industry must be very cautious in expanding the chicken supply. We have to be prudent in our decision-making to ensure that we are able to manage our input costs. Second, we must take advantage of every opportunity to lock in and match our input costs against our longer-term contracts. Third, we must keep open the lines of communication with our customers so that they understand the challenges we face in such a volatile environment and the importance of working together to address these issues. Finally, we need to guard against becoming complacent with the recent improvement in our operating results. We must stay focused on driving out costs, operating more efficiently and finding ways to serve our customers better, because in the end this is the area more than any other that's within our control.

With that, I'll turn the call over to Rick for a brief discussion of our financial results.

Thank you, Clint. The third quarter of fiscal 2007 is the second full quarter to include the results of Gold Kist. Accordingly at times I will be discussing the results of our operations compared to pro forma amounts for the prior year periods. These pro forma amounts attempt to include the full effect of the acquisition as if it had existed for the entire comparable periods. Comparisons of the current period amounts to the prior periods previously reported results will also be discussed.

As shown on Slide 6, we realized net income per share of $0.94 for the quarter ended June 30, 2007. This compares to a loss of $0.31 per share on a reported basis or a loss of $0.68 per share on a pro forma basis for the same period. For the first nine months of fiscal 2007 we reported net income of $0.21 per share compared to a loss of $0.40 per share for the same period last year. On a pro forma basis the first nine months of fiscal 2007 would have been a net loss of $0.30 a share compared to a net loss of $1.51 per share for the same period last year.

Included in the nine-month period of fiscal 2007 were charges of $14.5 million, $9.1 million net of tax or $0.14 a share, related to the early extinguishment of debt incurred by the Company in connection with the financing of the Gold Kist acquisition. Also included in the nine-month period of fiscal 2006 were charges of $6.5 million, primarily attributable to asset impairments and inventory valuation adjustments related to restructuring activities in our turkey division.

Those of you who follow our Company closely will not be surprised to hear that we used the third quarter's positive cash flow to again pay down debt, paying down $76 million during the quarter. Over the years our Company has had a history of growing through acquisitions, using appropriate amounts of leverage and thereafter making it a top priority to deploy the positive cash flows generated from these acquisitions to repay the indebtedness incurred, thus improving the health of our balance sheet.

This strategy has served us well in the past, and we are committed to continuing this practice in the future.

If you look ahead at Slide 14, for example, you can see the positive effects of the improved earnings on our debt reduction. Our net debt to capital ratio in the third quarter dropped over two full percentage points to 59.6%, down from 61.8% in the second quarter. And our EBITDA to interest expense ratio improved significantly to 4.83 times.

Moving on to sales, on a pro forma basis sales for the third quarter increased 18.3% from a year-ago period. These results were primarily driven by the improved market pricing and product mix in our U.S. chicken operations, which increased by $300 million or 19.9% while production and sales volumes were down 5.1 and 2.6% respectively. On a pro forma basis our revenue per pound of U.S. chicken sold increased 23.1% versus the same period last year. Market pricing for leg quarters, wings, boneless, skinless breast each improved 82%, 65% and 38%, respectively, while Georgia dock prices also increased 17%.

The field improvement in fresh chicken pricing, greater penetration of the retail deli case and increased prepared food volumes resulted in a significant improvement in overall chicken division pricing. These events further resulted in our ability to upgrade some of the recently acquired fresh commodity chick production into the value-added channels.

Also during the third fiscal quarter our Mexico operations had similar improved results with the Mexico chicken sale revenues increasing 23% due to a revenue-per-pound increase of 28.7% on a 4.4% decrease in pounds sold.

For the nine-month period our net sales increased 9.2% on a pro forma basis on a 3.6% reduction in U.S. chicken production volumes. This was due primarily to the improved U.S. and Mexico chicken sales during the end of the third fiscal quarter.

As shown on Slides 8 and 9 are EBITDA reconciliations for the quarter and the nine-month periods. Highlights are a $188.5 million improvement in EBITDA generated this quarter to $196.5 million versus the same period last year on a reported basis. Third-quarter depreciation expense increased $23 million over the prior-year period, primarily due to the added depreciation from the Gold Kist acquisition. Net interest expense increased $29.3 million to $40.7 million when compared to the third quarter of fiscal 2006, again due to the debt financing incurred on the Gold Kist acquisition. For the nine-month period our EBITDA was $258 million or $272.5 million on an adjusted basis versus $79.6 million for the same period last year.

Slides 10 and 11 summarize our operating results for the quarter and the first nine months. The third quarter showed vast improvement in operating income, improving to $136.8 million from a pro forma operating loss of $47.7 million in the same period last year. This resulted primarily from a $158 million improvement in our pro forma U.S. chicken operations and an increase of $19.4 million in our Mexico chicken operations. Looking at the nine-month period on a reported basis, operating income improved $140.6 million to $122.2 million. On a pro forma basis operating income improved $170.9 million.

Slides 12 and Slide 13 summarize our current debt agreements and maturities. Total debt at the end of the third fiscal quarter was $1.72 billion with no significant maturities due until 2011. The weighted average interest rate on our outstanding debt is approximately 7.9% and our current availability under these debt facilities is approximately $890 million.

I think that encompasses a sufficient summary of the financial results for the third fiscal quarter, so I'll now turn the call back to O.B. for a few final comments before we open it up for questions. O.B.?

Thanks, Rick. After a difficult first half of fiscal 2007, it's good to be back in profitable territory for the third quarter and year-to-date. Industry fundamentals remain strong and, barring any geopolitical disruptions in the export market, the fourth quarter should be a good one, too. We believe the steps we have taken to return our business to profitability have begun to pay off and will lead to improved financial performance in the future. We will now open the call up for questions. Operator?

(OPERATOR INSTRUCTIONS) We do have a question from Reza Hatefi.

Good morning.

Hi, Reza.

Rick, you mentioned the average net revenue per pound was up 23%. Is that against the pro forma results from last year?

That was against pro forma, the number I referenced. That's correct.

And does that include mix changes as well on the year-over-year basis?

Yes, that would be--that's all in, all pounds sold, revenues divided by all pounds sold.

Right. And how much was the mix contribution to the revenue-per-pound increase?

Are you talking specifically how much did prepared food volumes grow?

Yes.

Our prepared food volumes and pound sold was up. As we mentioned that was a driving factor in upgrading our commodity mix in the value-added channels, and on a volume basis on a pro forma it was just under 17% in terms of prepared food pounds sold.

Okay. And then as far as your--

Excuse me, Reza. It's 13%. I was looking at the revenue line. So 13% in volume.

Got it. Okay. And then as far as your average ingredient cost for the third quarter, was that comparable with your second quarter average?

Compared to the second quarter average, let me see if I've got that.

Or year over year.

Feed ingredients overall would have been down slightly in the quarter from -- in terms of the settled costs going through our flocks. So we actually had a lower overall cost of goods rolling through our feed ingredients in the third quarter.

I see. And would you not expect at least a slight decrease in average costs for the fourth quarter versus the third quarter?

You know, we've looked at the numbers and a lot of the decrease that has come through has come through basically later in July, to the point that it's going to be feeding through and really materializing in the fourth calendar quarter or the first fiscal quarter. We will see some improvement going into September, but we also had spikes earlier in the feeding cycle going back into May and June as well that feed through early in the quarter as well. So net-net it pretty well balances out.

Got it. And then it seems like you should be able to generate some more free cash flow in the next couple of quarters. Would it be fair to assume you're going to use a portion of that to repay debt?

We certainly hope that we'll be able to generate free cash flow. And as I mentioned in our comments, our primary dedicated resource that we'll apply that cash to is to deleveraging our balance sheet.

Thank you much.

Our next question comes from Farha Aslam with Stephens, Inc.

Hi. Good morning.

Good morning.

Congratulations on a good quarter.

Thank you.

So just to clarify Reza's question, feed cost in the fiscal fourth quarter will be essentially flat with the feed cost in the fiscal third quarter but you could see some improvement in the fiscal first quarter of next year?

That's our projection right now, yes.

Okay. That makes sense.

And Farha, we're talking primarily about what I would call our settled feed costs, which is really going through cost of goods sold. I mean, on a cash basis with costs coming down we will see some decreased spend, even though it won't really hit the P&L until the next quarter.

Okay. In terms of accounting (multiple speakers).

That's right. It's got to go through inventory first.

And then when we look at pricing going forward, currently leg quarters are around mid 40s per pound. If you look over the next six months, assuming generally healthy markets, could you give a little bit more detail on your expectations on Russia, China and leg quarter pricing?

Well, that's certainly one of the areas of volatility that we're dealing with. Currently the leg quarter pricing is very strong. As you know and we've said in the past, most of our export sales we are selling 60 days in advance. So we have most of the leg quarters for the fourth quarter already committed and are starting to price some product into the first quarter of our new year. And so we're seeing the markets maybe back up just a little, which is very common. It's a seasonal pattern.

But we see demand for U.S. leg quarters very strong in both Russia, China, but really all countries around the world. We still have the best meat value of any meat protein in the world, and the weak dollar is helping that, and so we think the leg quarter market will continue to be strong.

And so are you booking it in the 30s or (multiple speakers)?

No, no. We have not seen anything to those levels.

So you're still in the 40s in the first quarter?

Yes.

I mean the (inaudible). Okay, that's helpful. And then when we think about the high quarter pricing and how that's impacting breast meat, we're hearing some people would maybe just go focus on the leg quarter value and be willing to sell breast meat kind of cheap. And especially going into further processed products, going into the contract season for the food service, could you comment on breast meat pricing going forward?

Well, it's not unusual to see breast meat start to slip after the Fourth of July. But I think given the price of the competing meats, the price of breast is still a very good bargain. I think retailers will continue to look to feature breast meat especially through the end of the summer. And I think that the weakness we see in breast meat is somewhat attributed to the growth in the chicken production, the increased eggsets and placements and slaughter numbers are putting breast meat on the market.

But again, when you look at all the components, if you look at leg quarters, if you look at wings, if you look at breast meat, those come back to a very profitable return, given today's cost.

And would you just comment on supply growth? You have now resumed your production increases, and I assume others have. It's you and Tyson that have been really sort of holding back the industry and keeping that discipline. What kind of eggset growth should we anticipate going from now through maybe December?

Well, if you look at the projections, Informa and several others are predicting the numbers to fall off as we go into the fall, and that is the seasonal trend that you would expect. I think the fact that we still have concerns about not necessarily this crop but the following crop. If you look at the price of corn today, if you look at crude oil, the margins in the ethanol industry are very strong.

And so I think you're going to continue to see plants that were on the drawing board continue to be built. The demand for corn from the ethanol producers will continue to remain strong. And so it is the following year's crop that I think will keep supply in check. I think people will realize the volatility that is in this market today, and we've got to control the production side in order to pass those costs along.

Farha, this is Rick. Let me jump in because I think your question that you asked inferred that you understand that we were increasing production, and I want to make sure that you're clear that that's not the case. We went through our production cut, and we went through that period of time where we cut our year-over-year numbers to the point we have now lapsed that. And so now we're basically coming up on the period that we began those cuts a year ago.

And what we're saying is that our projection in the fourth quarter is to be relatively flat with those levels. So therefore we're not increasing production. We've just completely cycled through our 5% cuts. Does that make sense?

So you're keeping your 5% cuts in place?

Our projected production for the fourth quarter will be flat with last year. So you can look at our production online us on a pro forma basis with Gold Kist and we're thinking we'll be right in line level with those numbers, which is the period that the production cuts started.

If we were to go to a 5% year-over-year cut in the fifth quarter, we'd have to make additional cuts.

Okay. So you're not restoring your cuts?

Correct.

Okay. That's helpful. And my final question is when you look out over the next six to 12 months, I know the poultry industry is fairly volatile, but do you anticipate the industry to remain at or above five-year norms going forward?

.From where we are currently in terms of five-year norms?

Yes.

We have said in the past where we thought normalized tight margins would be, and you can call it somewhere around that 5 to 6%. You can look at this last quarter and say, "Okay, you're at normalized." But I think you've got to step back in that when we made those comments we were referring to an annual basis, not referring to a quarterly basis. And while it's nice to have the quarter we had and it's nice to see us going in the right direction, in terms of third quarter it was fairly an average number. So I don't think the industry needs to get -- and as Clint mentioned too complacent with where we are to just get back to what I'd call average. If I look at my gross margins over the last 15 years, this quarter would rank in there at 8. So average. It's 8 out of 15.

So clearly there's lots of appreciation that we can continue to do in the business to improve our business going forward. This is not an endpoint. Hopefully it's a starting point.

So you're not anticipating going into the red over the next six to 12 months?

That's certainly not our plan.

Yeah, we're not going to give any forward projections of earnings. That's not what we do. But it comes down to the balance that Clint stressed, and that is making sure as an industry as a whole we keep our supply side in check with what volatility we're going to have on the cost side, so that we can effectively transfer whatever that volatility is into the marketplace.

Okay. Thank you. I'll pass it on.

Our next question comes from Pablo Zuanic with JPMorgan.

Good morning, everyone.

Good morning.

Just a couple of questions. I'm trying to make some sense with what we've seen with eggsets in terms of trends. Back in May they were running up about 4%. The number was interesting to me because at that time I think Tyson and PPC based on your production cutbacks, your eggsets probably were down at that time, which means that the (inaudible) was much higher. Now based on the (inaudible) hatchery reports we get from the USDA on a weekly basis, those numbers are running up about 2%. So how do we make sense of that? Does it mean that that 4% was a result of (inaudible) and it was to be a one-off, and now the 2% eggset number is more in line with the underlying breeder stocks? Can you help us understand that part of the equation, Rick or O.B., please?

I think the seasonality helps explain. We were running in the spring 3% on eggsets, and by the end of June you starting getting into some numbers of 1%, 2%, which are birds that will be processed in the fall. I think that is a seasonal number. I think it's a manageable number. Again, I know we're watching closely and thinking about what the following crop year is going to do to our cost. I think that's the restraint that will keep our production under control. I think everybody realizes that given what the volatility now is in the corn market, we can't put the 3%, the 3.5, the 4, the 5% growth that we have been able to do over the last 15 years. I think the eggset numbers are very manageable.

On that point, do you have sense of what's happening with breeder stocks? I know all of us look at the eggsets as a [free] monthly indicator, but I guess breeder stocks are even more important. Based on our data we are flat to down. Do you have any comments on breeder stocks?

I mean, I think that's just part of the plan. I think -- I know as a company we were selling our excess eggs in the export market because there was a tremendous demand worldwide for hatching eggs. I think that people, as the hens mature and go out of the system, that they're placing numbers that best fit our production needs today. So I think that's a very positive indicator that the industry's not poised for a lot of growth.

And just a couple of follow-ups. You talked about exports. If we talk about the domestic side of the equation, how exposed are you really to boneless, skinless breast in terms of your pricing activity? Can you give us some color there? And number two, why when we have as you said more supplies in the market -- boneless, skinless breast -- we actually got more say than whole birds? I mean, legs don't react I understand because they are more of an export item, but why are boneless, skinless breasts so much more sensitive?

Well, I think if you analyzed where the growth is coming from, it's coming from primarily the deboning side of our industry. If you look at the plants, the companies that are producing a lot of whole birds, there hasn't been the growth that you've seen in the deboning sector. So most of the growth is being driven by deboners that are generating breast meat and leg quarters. The strong export demand has allowed the leg quarter prices to be exported and the price remain good, but the increase in breast meat into the country is something that we have to deal with and it puts pressure on the pricing.

And just roughly how should we think of your exposure to boneless, skinless breast per se?

Well, I mean, I don't have the number off the top of my head as to how much of it is tied to the market. Certainly with the Gold Kist acquisition we are more exposed than we were prior. But as we mentioned we continue to upgrade those products into value-added as quickly as possible. And so we have grown our value-added business, our prepared foods division to the point that we are starting to be close to our capacity issues and we're going to have to invest in some new lines to produce additional product going forward. We're actually using some co-packers to pack product for us today.

Right. And just one follow-up if I may and then I'll pass it on. You've given (inaudible) guidance pretty much where your leg prices are going to be in the September quarter because you've been contracting that far out. Do you have at this point in time that type of visibility for pretty much everything else? Your whole bird prices, your boneless, skinless breast, your contract prices, for the quarter?

I think the quarter looks stable. I mean, if you look at us traditionally, our fourth quarter has been one of our better quarters. Generally you get strong demand prior to back to school out of the quick-service restaurant groups. You get a lot of feature activity out of the retailers. So I think the fourth quarter looks like a decent quarter to date.

Okay. So (multiple speakers).

And Pablo, I think like Clint mentioned, if you break the chicken down compared to the average prices during the third quarter, leg quarters and Georgia dock are higher today. Breast meat and wings are lower than the average during that period. But I don't think that's unusual, like O.B. mentioned. I think you do have cyclicality that happens not only throughout the year but from quarter to quarter, and just like when we came out of Memorial Day we expected and we did see prices coming off into particular on the breast meat item. They rebounded going back into the Fourth of July.

I think you've got another holiday anchoring the summer that we always have good results around, and that's the Labor Day period. So I think it's not unusual as O.B. mentioned to see some softening coming out of the Fourth of July. But likewise it's not unusual to see some strengthening going into that last holiday of the summer.

Okay, that's very useful. So bottom line quarter on quarter you're saying that prices (could really inaudible pound) could be stable. I hear you. Just one last one, the piece that's missing there, I guess, is the contracts, right? And how should I think of the contracts? Should I think that those have been pretty much flat since October, October '07, because they are negotiated pretty much at the end of the year? Or has there been some room for improvement in those contracts? Have some of them been negotiated throughout the year? That's one question.

And related to that, just give us a sense of how does the contract season look this year, late '07, compared to late last year. The way I think about it, late last year, corn more on the 20 to 50 range. Right now corn is going to be higher. Breast were about 110 last year. Breasts will be probably higher than 110 by the end of the year. So you will assume that year-on-year you should be a lot better in terms of your ability to negotiate those contracts than last year. Is that a fair assessment?

I think that's fair. I mean, we have been renegotiating contracts all year long. There's probably not a month we don't have some contract expiring that we're having to renegotiate. The bulk of them do come in the fall, but we've been able to increase prices, if you look in our prices year-over-year, up 23%. And I think going into the fall, we plan on some good improvement out of our contracts that were negotiated a year ago.

Okay. So (the difference at ) that point would you say that by the end of the year you already have over 80% of your contracts are negotiated or only 10%. I hear you have some of them negotiated every day, but just roughly what percent have yet to be negotiated?

Prior to acquiring Gold Kist, we had I would say about 85% of the prepared food contracts tied to annual contracts around December. And so you have that other 15% that would flow through the year as O.B. mentioned. And I don't imagine that number will be appreciably different, adding in the Gold Kist volumes, because it's still customer driven more so than volume driven. That is the big time period, that 80 to 85% in the fourth quarter of the calendar year.

Great. Thank you very much.

Our next question is from Diane Geissler with Merrill Lynch.

Good morning.

Good morning, Diane.

Good morning, Diane.

Nice quarter.

Thank you.

I appreciate you calling it average, though, because I think this reflects that there's more room here. Anyway, to that point could you -- I think I may have missed this commentary on the cost space. I thought Clint said that the full $150 million you could see by January '08.

That's correct.

Annual run rate.

Annual run rate.

Annual run rate. So I guess the question is by the end of the fiscal year you're currently at 48 annualized. Could you give us some color on by the end of the fiscal year where you expect to be?

Yeah, I can. $48 million as Clint mentioned, if you looked at how much hit the third fiscal quarter, it was really around $35 million, $36 million.

36.

So that's really the current run rate that we are on. We do expect some acceleration, so it should be higher than that. I'm talking about realized.

We have many projects that will start kicking in in the fourth quarter to the synergy number. That number is going up. The monthly run rate increases each month.

That's the fourth fiscal quarter or the fourth calendar quarter?

The fourth fiscal.

Fourth fiscal, okay.

(multiple speakers)

Yeah, I was just trying to get a feeling for when you--would you see it earlier rather than later? Because I have to admit that my understanding of the data that you'd given previously was that you really didn't think even you'd be able to hit that $100 million by September 2008. So hitting $150 million by January '08 is certainly significantly higher and significantly faster.

Yeah. We had like I said $36 million approximately in the fourth quarter -- I mean, the third quarter. So that's an annual run rate right there in excess of $120 million, so it's $130 million.

Okay. And then I guess all the commentary that we've had on the fourth quarter with pricing, where your production will be, the cost savings piece, I mean, it sounds to me like your fourth quarter should be better than the third quarter. I know you don't give guidance, but is there a piece that I'm missing? That's what I'm taking away. I just want to make sure I'm not missing something.

There's a lot of positives in the fourth quarter. There's no question. But how that plays out in total, I mean, there's still some volatility and unknowns out there also. But we're--

If we don't lose coming off of the fourth the same level we lost on some of the commodity prices before the Fourth of July, that would be a positive. And likewise if we can appreciate in the Labor Day the same way we appreciated in the Fourth of July, then that would be a neutralizing effect. And I think that that's really kind of the dynamic you've got for the quarter. But on the cost side obviously we don't see a whole lot of cost other than the synergies positively affecting the quarter. Feed ingredients are going to be fairly flat really, and then in terms of our cost of goods sold. So really it's a revenue play.

Right. But obviously neutral is better than negative on the feed side.

Right. And our synergies will be improving through the quarter.

That's right.

Okay, well, that was really all I had. Thank you for your comments.

Thank you.

Our next question is from Robert Moskow of Credit Suisse.

Hi. Thank you.

Good morning.

Good morning. Congratulations again.

Thank you.

It sounds to me like in your comments that what you're saying is that the pricing in retail is ahead of your pricing in prepared foods because you don't have -- a lot of these contracts aren't going to be negotiated till December. Can you just give us a sense of the breakdown of your profits in the quarter? Is it vastly -- is the mix vastly moving towards retail right now? And then later on when those contracts get renegotiated in prepared food, would you expect the mix to change again?

I don't know that our mix will change. I mean, our mix changed with the acquisition. We have today a larger retail presence than we had prior to Gold Kist. And that is a segment, a market channel, that we're growing rapidly in. That's one of our fastest growing channels. And it is more market-priced as opposed to a lot of the food service or the prepared foods being more contract-priced. But our mix probably will not have a drastic change in the near term. Our goal has always been to continue to grow our value-added products, and that continues to be our strategy and we are executing against that well. But any quick change given a scale this large is very difficult to do.

Can you give us a sense of the mix in the quarter? Fresh versus prepared? What percent of your profits were prepared and what percent were fresh?

That's a level of detail that we don't go back down into. We do provide sales tables which breaks out our sales between prepared foods and fresh and export, so, I mean, you can look at the changes in the numbers there and take a look at some of the market components and do your own analysis. But that's a level of granularity that we just don't go to.

I guess the reason I'm kind of hounding on this one is I'm trying to get a sense of what are your prospects for much higher pricing on your contracts on prepared as you exit the year? I would imagine if your profits are weak, maybe the prospects for pricing would be much higher. But if your profits are already okay, then maybe the pricing would be not so high.

Well, if you looked at the price of corn, when we negotiated many of those contracts a year ago, you'll have a sense of what our cost structure was at that time versus today.

Certainly. So you expect to get a good degree of pricing in your negotiations on that 85% that Rick talked about?

That is our plan, yes.

Okay. Thank you very much.

Thank you.

Our next question comes from Eric Katzman with Deutsche Bank.

Good morning, Eric.

A few quick ones. Rick, just so I'm clear, did you say that U.S. chicken volumes were down 5.6?

5.14% on a pro forma basis.

Okay. All right. And then just another detail question. Given all the savings that you're finding out of Gold Kist and with the core operations of the existing, can you give us some outlook on capital expenditures both for fiscal '07 and more importantly for fiscal '08? Has that been adjusted down?

No. Where we are -- I mean, we did adjust down, once we bought Gold Kist, our plans for the year. We are coming in that 175 to 180. I think we put out a range of 170 to 180 for this year, and we are still formulating our CapEx plans. That's going on right now for next year, so I really don't have a number to release for '08.

Okay. But should we assume that it's materially higher, given that you had one extra quarter of capital associated with Gold Kist? Or is 180 to 200 a reasonable number?

On a pro forma basis on the last 12 months, we're running 206.

Okay, that's good.

Yeah, that kind of gives you a little threshold.

Okay. And then last question, O.B. I guess this has more of a philosophical question -- or second to last. It sounds like you're going to take a much more proactive approach to hedging, given all the volatility and speculators in the market. I guess it's understandable, but to a certain extent you can't be half pregnant, and other companies have gone down this road and then backed off when they found that the commodity cost went against them. And from a competitive standpoint in the market, they were struggling against players that either weren't hedged or were hedged but were on the opposite side of the trade.

So can you just talk about your willingness to stick with this kind of through thick and thin?

Well, you refer to people and their past actions. I don't think in the past we've seen the volatility in the corn market that we experience today, and I believe not only our sales but the entire industry has to look at managing those risks differently than they have in the past. And I think especially where you have fixed price contracts that you're guaranteeing a selling price for 12 months in advance, given the volatility of our feed cost, I think it's much more prudent to -- when you negotiate that price -- make sure that you have a margin and that you're able to manage that cost structure relative to that margin. I think you're seeing just a change in the way people have to deal with that cost part of our business.

Okay. That's helpful. And then last question, maybe it's more of a comment and your response, but it just seems that kind of the rollover in feed cost, at least on the corn side, has been -- it's almost like something that you almost didn't want to happen. Because it seems like for the industry, given what should be a very, very volatile environment going forward on feed, you almost kind of wanted this trough to be a little longer and a little deeper for the smaller guys in the industry to kind of remind them that the discipline is necessary.

And I just kind of wonder if your return to 6% operating margins so soon after the trough is maybe a signal again that the trough wasn't long enough or deep enough.

Well, it's hard for me to say I'm disappointed about the corn price coming down because that has been very, very positive to us. I do think that the fear of the following-year crop is enough to keep the discipline in line. And I believe that even though we are going to have what we believe is pricing or cost that allows us to price margins in for the following year, looking at the following year, that's something that we have to keep our production side under control. And I just believe the industry is smart enough to look at that fear and not overproduce even though all or I would say almost everyone in the industry is making good profits today.

Okay. Thank you.

Yes.

Our next question is from Ken Zaslow with BMO Capital Markets.

Hey, good morning, everyone.

Good morning.

Maybe you guys should go back to [missing] earnings. Your stock goes up better that way.

That's exactly right.

You guys stated this 2008 margin somewhere in the 5 to 6% range. Given the conditions now, would you think it's more or less risky, given the current environment? And your cost savings?

Well, there's always risk. Certainly the risk that the corn puts on our cost side, we are dependent upon the export market. But I believe that the world needs cheap meat, and there's nothing cheaper than a U.S. leg quarter. And I think that, long term, that's very strong. Short-term disruptions could create a problem with our earnings there, but we're certainly not planning for that, and we have continued to diversify our export customer base. We are in many, many countries today so that we're spreading that risk.

Because it seems with $150 million of cost savings, that gets you a little bit closer than the $100 million. So it should (multiple speakers).

It does. And our team has done an outstanding job in looking for ways to drive cost out of the system in places that you can hardly imagine. We've reduced our staff in Atlanta by 175 people in our offices there since the beginning of the year. And we're driving cost out of every part of our business and continue to focus on that.

How much do you expect to pay down in the next 18 to 24 months?

All that we can. I can't promise $75 million a quarter, but we're just going to keep trying to pay down as much as we can.

In terms of doing the back-of-the-envelope type math, it seems like there is in terms of pricing for the contracting given the pricing back, is $1 billion a crazy number to throw out there for how much pricing can actually contribute to sales on the pricing, of the amount of contracts that could actually be priced?

The dollar value of the contracts that would be repriced?

Yeah.

Yeah, that's about right.

Okay, so that's -- so all right. So it just seems like there's plenty of upside there. And then the other question is--

You're talking about the total dollar value that's subject to repricing?

Right. That's (multiple speakers). Okay. I just wanted to kind of put some dollars and cents around that. And then there's a lot of talk about the expansion of chicken. What about the weather issues? Does that take away some of the weight, or do you think it's too early to start thinking about the weather impact on the weights?

I think with today's housing weather has much less impact than it once did in our markets. These houses today can withstand hotter temperatures in the summer and cooler in the winter, and I don't think weather's near the factor it was several years ago.

And truly my last question is any issues with your inventory level? Do you have any excess inventory that you have to dump or do anything into the next quarter or two?

Our movement--primarily our inventory is driven by the export markets. If we see a slowdown in the export markets we can quickly build frozen inventories. And our movements of leg quarters and all of our export items have been very orderly. I think industry inventory levels are in great shape, and ours are in good shape.

There's nothing on the breast meat side that you have to kind of get rid off, that you increased your pricing too quickly or anything like that?

Generally we do not inventory a lot of breast meat.

Great. Thank you very much.

Thank you.

Our next question comes from Oliver Wood with Stifel Nicolaus.

Great. Thanks very much.

Good morning.

Good morning. Just wondering about the earnings progression through the quarter. I know on the last call you mentioned that the business was profitable in May. I was wondering if you could tell us now in retrospect was the business profitable throughout April? And if you can give us some sense of what month July might compare to, just to give us a sense of the starting point for this quarter.

I mean, it was trending up through the quarter.

(inaudible) going from April through June, you're talking about? The trend within the quarter?

Right.

It appreciated as you would expect going into the Fourth of July. So, I mean, it progressively got better throughout the quarter.

Okay. I guess what I'm trying to figure out is as we compare fiscal fourth quarter to the fiscal third quarter, what sort of drop off in pricing would we have to model in to get back to the current earnings number, given that feed costs are expected to be flat quarter over quarter?

I think you just have to look at all the different components and realize that as we've said in the past, the major commodity that we tend to have immediate change in profitability is tied to leg quarters for our company.

But we do have a 60-day cushion because of forward [price].

That's right.

Okay. And then just an industry quarter, looking at the June slaughter numbers that were out this morning, carcass yield is still down right around 73%. Just wondering how we should think about those in the context of eggset up about 2%. What does that translate into on the production side? And just curious what's driving that?

Clint, do you have a thought on that?

What's driving the increase in eggsets?

No, the decrease in carcass yields.

Oh, decrease in carcass yields. I don't know [what's driving that]. I mean, we've not seen anything affecting our yields, and I would only be guessing.

All right. Thank you. Nice quarter.

Thank you.

Our next question comes from Chris [Budsill] of Lehman Brothers.

Good morning.

Good morning.

Just a couple questions. First I'm just curious at what point do you think you might see kind of a structural price ceiling for leg quarters? In other words, would a competition from Brazil at [Holdberg] pricing, maybe would that be a structural price ceiling? Or is there something else we should be considering?

Well, I mean, certainly I think that would be a price ceiling. But I think we've proven that leg quarters can move well in the 40s and even the upper 40s. And so I think certainly the strength or the weakness of the dollar has a big impact to that, but given improving economies, growing middle-class, people being able to switch from vegetable protein to meat protein around the world, continues to support leg quarters at levels historically we haven't been able to. So I think that the 40s is a very doable number. Is it possible to get into the low 50s? I don't know. I think the demand as it grows could test that.

And for the leg quarter product being sold into China, I was wondering if you could give me a sense of the channel split between whether that goes to retail or food service or whether that's something that you just place simply through third-party brokers? I guess the reason I'm trying to understand is because I'm trying to get a sense for how protectable maybe some of those sales might be for you and whether that's something that smaller processors can--whether that's the kind of thing they can also supply to large QSR chains if that's where the product is going.

I'm not sure. My belief is that the majority of this product is moving through retail-type channels. Brand names are important in the country, maybe not the extent of the individual consumer but a lot of the brokers and traders look for the quality and you develop a brand within that country. And we have strong brand recognition in most of the countries where we are operating today.

Got it. And then if I could ask separately, just curious on--it sounds like you have some confidence that it's more kind of the volatility and uncertainty right now in feed costs and not necessarily the actual cost of feed but the uncertainty around it that might keep production levels in check. So I'm wondering if you're hearing something in particular, even anecdotally, from some of the small processors that add to that confidence?

Well, I mean, I think just knowing how everyone in our industry looks at costing and looks--I mean, they're all reading the same information, following the same trends. I think investing with others at organizational meetings that the concern is not this year's crop, it's next year's crop. And that is a concern that I believe will keep the industry in check.

Got it. And then as a final question, I know that Tyson on its conference call has alluded to early winds from the Discovery Center, and so I'd be curious if those are the type of gains that are perhaps maybe more additive to industry consumption or whether they're coming at someone else's expense? And if it's coming at someone else's expense, I'm just kind of curious whether you think we'll see CapEx and R&D expenditures maybe rise in response as a competitive response to that kind of competition?

Well, in many market channels the research and development piece is very important in gaining market share. That has always been one of our strengths. Our turnaround time on new products, our ability to bring innovation and new ideas to the market has allowed us to grow our (inaudible) process business very rapidly over the last 20 years. And we continue to invest in both people and facilities to improve upon that. And if you're in that market channel, that is necessary to survive. And it's difficult for smaller players to duplicate because of the scale that Tyson and ourselves bring and the history of having the people and the experience in those areas.

So it's your sense then if it is coming at someone else's expense it's most likely some of the smaller processors in the industry that don't have the ability to compete as effectively.

that would be my guess.

Got it. Okay. Thank you very much.

Our next question is from Thomas [Share] with Federated Investors.

Good morning.

Hi. Good morning. Quick question for you. There was a report that came out last week that you had had some workers [exit] that did not have valid Social Security numbers. I was just wondering if you could comment on your recent interactions with Homeland Security and if you see the step-up there?

Well, I mean, we have always been committed to complying with the very complex and ever-changing immigration laws, and we've been participating in the basic pilot program for a number of years, and this is the service that verifies the Social Security number and the name. And for some time now we have been addressing where the employees Social Security number and name are mismatched, and we have been giving those people plenty of notice and opportunity to correct any discrepancy that is in the workforce, but if they can't, then we've been terminating those employees. And we will continue to pursue everything in our power to make sure that we're hiring people with the proper documentation. That's always been our goal, and it's a very difficult thing to do given the tools that we have to use today.

All right. Thank you.

Our next question is from Pablo Zuanic with JP Morgan.

Thanks for taking the follow-up. You mentioned that prepared foods revenue per pound was up 4%. Just trying to understand, obviously some of that is mix, some of that is (inaudible) contracts that you've been able to negotiate. But just remind us what happened with the other 85% year-on-year? I think you've mentioned before that your contracts this year were somewhat below last year's. Just give us a sense of where those are.

I think on average they were flat to down compared to the prior year. I think about fall of last year versus fall of '05.

Right. And just to be clear, I know you don't give the volume number for prepared food but you give us the dollar number. But in the past I think you've mentioned that 25% of your total volumes are what we should think of contracted? And that will imply that that's prepared food? Is that the right way to think about that?

That's in the ballpark, yes.

Okay. Thanks.

We have no more questions in queue.

Well, thank you. Thank you for listening. We continue to perform against our strategy, and we look forward to being able to meet with you next quarter. Thank you.