Pilgrims Pride Corp (PPC) 2012 Q3 法說會逐字稿

Good morning and welcome to the third quarter 2012 Pilgrim's Pride earnings conference call and web cast. All participants will be in listen only mode.

(Operator Instructions)

At the Company's request, this call is being recorded. Please note that the slides referenced during today's call are available for download from the Investor Relations section of the Company's web site, at www.pilgrims.com. After today's presentation, there will be an opportunity to ask questions.

I would now like to turn the conference over to Rosemary Geelan, Investor Relations for Pilgrim's Pride. Please go ahead.

Good morning, and thank you for joining us today as we review our operating and financial results for the quarter ended September 23, 2012. This morning we issued a press release providing an overview of our financial performance for the quarter, including a reconciliation of any non-GAAP measures we may discuss. A copy of the release is available on the Investor Relations section of our website, along with the slides we will reference during this call. These items will also be filed as 8-K's and will be available online, at SEC.gov.

Presenting to you today are Bill Lovette, President and Chief Executive Officer, and Fabio Sandri, our Chief Financial Officer. Today's call will focus on the measures we've implemented to manage the volatility inherent in our industry, especially the macro factors impacting our business, and the key drivers of our financial performance for this quarter. After we conclude our prepared remarks, we will be happy to take your questions.

Before we begin, I'd like to remind everyone of our Safe Harbor disclaimer. Today's call may contain certain forward-looking statements that represent our outlook and current expectations as of the day of this release. Other additional factors not anticipated by management may cause the actual results to differ materially from those projected in these forward-looking statements. Additional information concerning those factors have been provided in today's press release and many of our regular filings with the SEC.

I will now turn the call over to Bill Lovette to begin our prepared remarks.

Thank you and good morning. I'm pleased to share with you the results of our operations for our third quarter.

We achieved EBITDA of $103 million, an improvement of $187 million over the same quarter in 2011. Our net revenues in Q3 increased over $177 million from the prior year, reaching $2.1 billion. While 2012 has presented the chicken industry with many of the same challenges as 2011, our results clearly tell the story of the progress we've made in managing those challenges. Our strategy of improving our capital structure has resulted in our lowest net debt and best liquidity position in five years, at $1.1 billion and $671.5 million, respectively. We have improved our financial position, and it gives us more flexibility in managing our business and decreasing the cost of our leverage.

As we continue to refine and execute the strategy we laid out last year, our performance has improved, even as the market environment has proven more uncertain and volatile. We believe this type of environment is providing an opportunity for the stronger performers to distinguish themselves in the future. We believe we have the right strategy and team to use this environment to our advantage. Our strategy to improve our business model continues to pay dividends. Our progress on both cost savings and yield enhancements in all business units resulting in $179 million improvement year-to-date, translating to a run rate of $243 million and well ahead of our $200 million goal. This is a reflection of the ownership and accountability our management team has taken over the past 18 months.

Keep in mind that as we make these improvements, the bar we measure ourselves against is raised higher. Each round means we have to make more finely tuned decisions. We've had a material improvement in managing our sales mix and the related pricing impact resulting in 7.6% higher than last year. This has made a significant difference in overcoming $109 million year-over-year increase in feed ingredient costs. As an example, in our prepared foods business, which had traditionally been sold at a fixed price for one year, we have realized from January until now approximately a 10% price increase on that total book of business by changing our pricing strategy to more accurately reflect either chicken markets or feed ingredient markets. From an operational perspective, we achieved a significant yield improvements. We still see room to improve plant costs and are continuing to find ways to improve through-put and efficiency.

That being said, sales mix is also a key driver of our strategy. One tactic of our sales mix strategy has been in making more detailed production decisions to improve our mix. In the past, we've moved excess product in the form of prepared foods. As the economics have changed, we are now analyzing market conditions to determine when it's more feasible to buy raw materials versus grow more chickens. And we've rationalized the value-added component of our portfolio to only include that business which truly contributes beyond the margin we are achieving in other forms. Our further processing adds value to our customers' business, and we provide innovative new products to expand those relationships. Our breadth of market segmentation is a differentiating advantage that we employ.

We are one of the only companies able to consistently service multiple categories of a customer's needs, with the capability to offer all ranges of products from whole birds to prepared foods. This platform enabled us to recently acquire 160 million pounds of new business from a key customer; and now other customers are looking to achieve the same benefit from this strategy. One focal point of our approach has been to address the portion of our portfolio that was sold on a spot basis. We've been able to secure much more of our volume on a committed basis to limit our exposure to volatility in market pricing. We are performing more detailed analytics over the operational aspects that we can influence. This has enabled us to identify ways that we can adapt to a constantly changing environment.

Our mind sent is to understand the underlying commodity markets and various options in feed formulation, consider the cutout, and adjust production to optimize our mix. We've made wholesale changes to fine tune those areas where we can reap the most benefit. Our export strategy continues to be a driver in delivering an improvement to our overall sales mix. We are progressing with fully cooked exports and have seen positive responses from markets in the Middle East, Africa and Asia. Demand also remains strong for Mexico. Our export sales mix is helping our domestic sales mix value. For example, we are selling products beyond just dark meat, where we realize a better value than on the domestic market.

We're finalizing the full conversion of one of our plants into a veggie pad griller production facility for Saudi Arabia and other Middle Eastern countries. Our branded product has been extremely well received abroad, and is gaining marketshare because of its high quality, and we're obtaining the same value as top branded global producers. We also continue to have good access to the Japanese markets, especially with size legs. Our third quarter exports were solid and we expect that trend to continue in the future. In the end, we see chicken as the best valued, most convenient and most versatile protein. Chicken is more adaptable to being used as an ingredient, in addition to being the main feature of a meal. This is even more prevalent in international markets.

As most of you know, we are currently in the midst of our contract pricing negotiations for 2013. We are firm in our stance that long-term fixed pricing without a locked-in margin creates risk we're not willing to take, and our current contract discussions reflect that view. For a producer who had long-term fixed price contracts in 2012, the impact has been significant. Our decision to be closer to the market will remain firm, even if the market believes there's downside risk to feed prices.

Moving on to the impact of feed ingredient prices, corn and soy inputs have been a regular topic of conversation. During our second quarter earnings call, we mentioned that we were committed to importing South American corn when the cost made sense. We followed through on this and invested in infrastructure to make that happen. We expect our first US import of South American corn during the current quarter. We have secured approximately 10% of our corn needs for the December through July period from South America, at competitive pricing, and we are confident we will be able to secure an additional 10%.

In previous quarters, we commented on the outlook for both corn and soybean meal prices, and our assumptions have been supported by the markets. Corn hit $8.49 per bushel during the third quarter, with soybean meal peaking at almost $542 per ton. We continue to expect that prices will hold at high levels in the coming months, despite ongoing corn imports and good planting prospects in South America. There's been underlying concerns that there's not enough rationing in total worldwide usage to bridge the gap to the new crop.

With regards to production indicators, egg sets were very encouraging, at 177 million last week, declining below 2011 levels and hitting the lower range of our expectations. In fact, last week's number is the lowest of egg sets since 2001, and we remain comfortable with egg sets anywhere below 190 million for the next couple of months. Hatching layers declined further in September, to 49 million, maintaining historically low levels, which will restrain egg production into the first half of 2013. Cold storage was also well within comfortable levels, at 652 million pounds, or approximately one week's worth of industry production. White meat inventories have declined 23% from 2011 levels. Market pricing for chicken has remained strong. Leg quarters were 3% higher compared to the same quarter in 2011, breast meat was $0.20 higher, and wings were a full $0.96 per pound higher. Georgia Dock increased by $0.07 over the third quarter of 2011 and stands at a historic high.

At Pilgrim's, we continue to plan our production based on our forecasted demand. We communicate with our customers regularly to ensure that we are producing the right amount of the right product at the right time to meet their needs at a profitable level. Although we plan our production in advance, that doesn't mean we won't adjust to changing market conditions. We can and do take immediate steps to optimize our results.

At this time, I'd like to hand the call over to our CFO, Fabio Sandri, to share some thoughts on our financial results.

Thank you, Bill, and good morning, everyone.

Our third quarter EBITDA of $103 million was an improvement of $187 million over 2011's results. Even with an increase of $56 million in feed ingredients in this quarter, we generated a positive net income of $42.9 million, resulting in a positive earnings per share of $0.17, comparing with a loss of $162 million for the same quarter in 2011. Sales increased due to improved revenue per pound sold, driven in large part by an improvement in our sales mix.

We continue to effectively manage our working capital, especially in light of the volatile market conditions our industry has experienced. Even with increased live inventory and high cost grades in our balance sheet, our sales volume increase of 1.4% and strong exports result in lower finished goods inventory, optimizing our working capital position. This was part of our commitment to reducing debt and ensuring we have the optimal inventory levels.

Our capital spending this quarter of $24.5 million continued to be direct towards quality, safety, regulatory, and investment in projects to upgrade our sales mix and generating immediate returns. We had strong cash flows, resulting in a significant decline of net debt. Consistent with our comments throughout the past year, we continue to apply our free cash flow against our revolver, reducing our interest cost and allowing us to payoff more debt incrementally. We are focusing on ways to decrease our financing costs by looking into options which are now available, due to our stronger financial position.

We continue to strengthen our balance sheet. Our liquidity is $671.5 million and our net debt is $1.1 billion, both of which are our strongest position in over five years. Our debt covenants will be restated during the fourth quarter and we expect to be in full compliance. Considering our strong results, our projections indicate that we will remain in compliance until the [term loan] maturity at the end of 2014.

Mexico has continued to deliver strong results. We have a robust business model in our Mexican operations, and we expect these results to carry forward at least through year end. We're able to take some of US feed ingredient cost risk off the table by substituting with more competitive local sorghum and corn and with South American corn. We don't expect Mexico to be exposed to high US corn prices until sometime next year.

October will remain a profitable month for us, given as we have fully absorbed the impacts of higher grain prices. The remainder of the year will be a continued challenge on grain costs. Our results depend on our management, our response to consumer demand for chicken, and the industry remaining rational to balance supply with demand.

Operator, this concludes our prepared remarks. Please open the call for questions.

Thank you, sir. We will now begin the question-and-answer session. In the interests of allowing equal access, we request that you limit your questions to two, then rejoin the queue for any follow-up.

(Operator Instructions)

Our first question comes from Farha Aslam from Stephens Inc. Please go ahead.

Hello. Good morning.

Good morning.

Good morning.

First question is, Bill, on your buy versus produce strategy, that's a change in Pilgrim's historical norms. Could you share with us how -- what percentage you are intending to buy from the open market and how that's going to change your production plans?

Well, Farha, to clarify. What I said was we would make the calculation as to whether or not it's more profitable for us to buy versus sell a whole bird at a return. And I think it's -- this whole idea is reflective of our being able to improve our sales mix, or have much more of our sales committed as opposed to being on the spot market, and getting ourselves in a position where we do get to make that decision. Again, figuring everything on a whole bird return basis, and then if it's more advantageous from a profitability standpoint to buy one component versus growing a whole bird, then that will lead us down that decision tree.

Great. And then, you have changed your target egg sets for the industry. Before it was 180 to 185, now you're happy with anything below 190. Could you just share with us the calculations and thought process behind that change?

Sure. That change merely reflects seasonality of our business. So we're in the time period, at this moment, where egg sets for last week and this week are producing chickens that will be slaughtered during the holiday season. Then historically, we move into January where there's a lot of breast meat that is featured at retail. Typically, if you look back at historical curves, egg sets traditionally go up during that time, and we expect the same will happen this year, to provide that meat for those retail features.

And what we're saying is we're comfortable with those sets going up and staying at the 190 million egg set level, a little bit below last year. I think last year they reached approximately 195 million. So somewhere in that range, I think, is going to be a comfortable place for the market.

Just as a follow-up, perhaps take seasonality out, what percentage do you need to see production come down to achieve profitability in the US or normalized earnings?

Well, as I think we said during our last call, and I've heard others say this, that the recent run-up, since the drought of corn and soybean meal, will take $0.10 to $0.12 a pound to cover that cost. During the last call, we said we were comfortable if egg sets this season reached 180 to 185 million. And it's been in that level, with some weeks slightly above that range, and for example, last week being somewhat below that range. So I've not changed my view on that since that time.

Okay. Thank you.

You're welcome.

Our next question comes from Bryan Hunt of Wells Fargo Securities. Please go ahead.

Thank you. When you look at Mexico, you obviously had a fantastic quarter, and you made some comments about fundamentals continuing into Q4. How long until you believe that it takes the market to rebalance from the 5% of the market that was culled due to the avian flu.

Bryan, I would go back and remind you that the current quarter -- the past quarter, quarter three, results in Mexico were not all that much different from what we experienced in quarter one. And you can go back, even to 2010, and see where our Mexico business, again, had a very robust profitability level, and we expect that to continue. Irrespective of the issue with avian influenza, which did support egg prices -- and I'm not sure to what extent it did support chicken prices, because chicken demand has been strong in Mexico even before the AI break in the state of Jalisco, and remains strong throughout that event. I believe will continue to remain strong. So I'm not sure how much correlation there is to the strong pricing environment there and the situation in the state of Jalisco.

But it sounds like the strong pricing situation has continued?

It has continued. Now there's seasonality to the Mexican market also, and we expect that seasonality basically to continue. But at this time, prices do remain relatively strong. Demand is well supported, also, in Mexico.

All right. And I'd like to shift gears. You all want, obviously, a contract. Could you talk about -- I think it was you quoted 160 million pounds. Or, excuse me. Is it -- yes, 160 million pounds.

That's right.

Could you talk about, one, do you feel like that is a -- you all gaining share with a particular customer? Or is that both -- that situation, as well as a reflection of the overall food service market adding more poultry to the menu? Maybe you can talk about both of those.

Yes, sure. I think it's -- in that instance it's more about us gaining share. The food service market, we don't believe, in the past quarter or so, has weakened substantially, nor has it gained a lot of strength, either. We see the food service business as fairly steady right now. At least our food service business is steady. And that was all about gaining share. I would hurry on to tell you, as I alluded to in our prepared remarks, that we're also working with other key customers with the same model, where we can provide a full line of product that other companies can't provide. And that's really, coupled with the quality and the service that we provide those customers, what helped us gain that market share.

And the last question. I believe you all, or the industry, is going through its normal measurement of plant efficiencies and where you all stack up relative to the industry overall. Could you talk about whether those results have come out, and where you all stack up relative to expectations and what your goals may be? Thank you.

Sure. Well, I can tell you that we're not satisfied where we are. But we've improved our competitive position significantly in the past couple years, and we have a strategy to continue that. I know from being in this industry as long as I have been, you can't be satisfied with your current position ever. Because the industry has a way of continual improvement, in terms of all the key performance indicators and cost metrics. And so we're going to continue on the track of improving, with the idea of improving our relative position.

Thank you. Our next question comes from Heather Jones of BB&T Capital Market. Please go ahead.

Good morning and great quarter.

Thank you, Heather.

Real quickly, going back to your egg set comment about 190 million or lower. If you look at the average to date for 2012, that would imply roughly a 2% cut in head, while at the same time weights are running up 1% plus or minus, year-on-year. So it sounds like you're comfortable with a pretty minor cut in production, and I just wonder if you could share with us your thought process of why such a minor cut in production is acceptable to you.

Well, what I was -- I was really referring to the January time period where, again, retailers typically feature a lot of chicken. I was not necessarily commenting on periods beyond that. Based on the numbers that I see and the forecasts that I read, we believe that chicken production in 2013 will drop below 2012 levels, somewhere in the 2% to 3% level, reflective of the high price of corn and soybean meal related to the drought, and we don't think that's going to change. I was, again, referring to the January and early February time period.

So this is an interrelated question. What is your outlook on feed, because there's many out there. Wildwood Bank is out there this morning, in fact, saying that corn and soybean meal is going to possibly move materially higher. So wondering what your view is on that. And if so, do you think 2% to 3% is enough -- a 2% to 3% cut is enough for the industry to generate acceptable profits?

Good question, Heather. And there's -- I would remind you that there's a lot of moving parts to what the price of corn and soybean meal and other commodities are going to be in the future. If we look at USDA's October WASDE report, they're showing a stocks-to-use ratio of around 5.5%, or 619 million bushels. I believe that to be minimal pipeline stocks. And if you go back and look at the usage categories, it's really hard to figure out if those numbers that they have laid in there are achievable. And that's why we made the comment that there seems to be a lot of concern around rationing and the different type of usage, both for corn and soybean meal.

On soybean meal, the October WASDE reflected about a 4.5% stocks-to-use ration, again, what we consider minimum pipelines. So there is some concern that corn and soy prices will go higher, and I think that will dampen any type of ideas of growth of chicken production in the future. But on the other hand, South America, we believe, is going to be incented to plant huge crops of soy and corn. Analysts' reports that I read confirm that. It will be all about the weather in South America. And then US farmers will also be incented to go to a lot of acres, probably more than we've ever seen in both corn and soybean production.

So as we move into late spring, pricing of those commodities may be reflective of that and reflective of the weather forecasts at that time. So there's just too many unanswered questions right now to really know what the price of corn and soybean meal are going to be. I think, as we've seen chicken producers in the recent past adjust to those pricing environments, I think that the near-term future will be no different.

Okay. My final question is, if you go back 10 years and look at seasonal sequential moves in price month to month, pricing this fall has been holding up a lot better. And it's not just wings, it's across the complex is holding up a lot better than it normally does during October. And just wondering -- and this is at the same time that pork is getting a lot of feature activity at retail -- so is food service demand much better for chicken, specifically? What could be causing pricing to hold up as well as it has?

I think, Heather, there's several things at play. After it was apparent that we were going to have the worst drought in over 50 years, we saw chicken production being cut similar to the cuts that were made last year. So I think that had an influence. We also saw producers pulling inventory, live inventory ahead, and getting birds out of the field quicker. So we saw a reduction in age slaughtered. Now, weather's been conducive to growth. And I think we've seen a slight increase, in some weeks, of average weight. But I don't think it's been so much that it's overly burdened the market.

We see, even this week, well-supported demand, even for breast meat, as prices have steadied. Leg quarters have been well supported. Obviously, wings have been well supported. Tenders have also had a nice run until just recently. So we think that there's good demand, solid demand for chicken. But we also know that the key to margin and profitability in our business is managing, effectively managing, that supply; and we're cautious about that as we look into the future.

Thank you. Our next question comes from Reza Vahabzadeh of Barclays. Please go ahead.

Good morning.

Good morning, Reza.

Can you just bring us up to date on your productivity improvement, sales mix improvement? How much of a contribution they have made year-to-date and in the third quarter, if you can be specific? And then what can we expect on a look-forward basis?

Okay. So from our yield improvement and plant cost reduction, we've been fairly steady at a run rate of somewhere between $230 million to $245 million on an annualized basis. And that's been quarter-over-quarter about the same rate. We don't expect that's going to stop. We still see that momentum picking up. We believe more of the share over a period of time will come from plant cost reduction as opposed to yield improvement, but we're aggressively going after both.

Also, you noticed that we achieved pricing improvements. I alluded to the fact in our prepared food business, we had double-digit pricing improvements and mix improvements from January until now. We don't expect that slope of that curve is going to change, either. And we're aggressively getting more of our product committed on a week-to-week basis, so that we minimize the amount of product that we have to sell on the spot market.

Got it. And would we expect a similar type of an improvement in the next year, broadly speaking?

Well, broadly speaking, we're in the process of completing our 2013 plan. I can assure you that we're going to have an improvement strategy in place for yield, processing costs, sales mix improvement, price improvement, all of the above. And we're going to continue to go after all that we can to continue to improve our competitive position in the industry. And while I'm absolutely excited, and in some ways thrilled, about our progress, we're not satisfied with where we are. And we're going to keep asking our team to take ownership, be accountable as they have in the last year; and we expect them to do so.

Got it. You mentioned you're going to be -- you were -- you mentioned you were profitable in October. I don't know if that was on an EBIT basis or EBITDA. But would you anticipate some more challenging months in the coming months, just because of seasonality before a rebound, or how should we think about that?

October will be profitable. And there will be more challenges, as we'll continue to see pricing from feed ingredients go into our costs and take them higher. The idea, though, is to offset that with higher revenue as that is afforded to us, and we'll continue to do that.

Thank you. Our next question comes from Akshay of KeyBanc Capital markets. Please go ahead.

Good morning. Congratulations on a good quarter.

Thank you.

First question, on your volume. I know there's a lot of moving parts, but looks like US volume up 1.4%, could be up even higher if you strip out the business that you sold. So help me put that number -- first of all, what is it on a comparable industry basis this quarter? And help me put that into context with the 1.6% decline we've seen for the industry in the September quarter, in terms of production. So if you can help me with that. And then I have a follow-up.

Sure. A couple of things to note. We did reduce our inventories during the quarter, so that accounts for part of that growth. We also began the big piece of business, 160 million pounds annually with that key customer, during the quarter. So that was also reflective. And we're not changing our outlook for the future. We're going to continue to grow our share, continue to take market share, and we're going to do it where it's in levels that are profitable to us. We're not going to grow market share just for the sake of growing share, but only when it's profitable to do so.

Actually, we also increased our exports. We completed the full conversion of one of our plants to specific grillers to the meat, and that helped a lot, also in our volumes.

So how much -- just give me a sense of how much -- what was the production increase? Because it looks like the -- you had a lot of stuff coming out of inventory, per se, you're gaining share. But I'm just trying to get a sense of, okay, if the industry's cutting, you're saying you expect the industry to cut. And it looks like in all your comments, I'm interpreting them as, we're being cautious on production, especially more so than in the past. So I'm just trying to make sure that, that's consistent, even though you are gaining share on certain accounts. Overall, on production, is it fair to say that if you're expecting an industry to cut back 2% to 3% next year, you're going to do your fair share of that?

Well, to clarify what you said, we've not changed our view in terms of caution about supply levels and making sure that our supply is balanced with our demand at a profitable level. So that's not changed. We're not any more or less cautious than we've been in the past few years, actually. And again, what I can tell you is, repeating what I just said. We're going to be focused on taking market share, but only that share which proves profitable for us to do so. And if it's not profitable, then I can assure you we're not interested in producing a chicken that can't be sold at a profitable level.

But it will help a little bit, actually, if you take out the inventory reductions and the increased exports, our production was in line or slightly down compared to the same quarter last year.

Okay. And just one follow-up. Just generally speaking, there's two camps that people are in right now. One is that the industry will take its time and perhaps not even cut as much as is needed to get the price recovery to get margins to recover. And then there's the other camp, which I believe you're in, because you're saying egg sets are going to be down and prices are going to recover early next year.

That, in my -- I'm also in that camp, but I'm just trying to understand from your perspective, the industry. Why is it, in your opinion, that the industry today has to be more cautious on supply than in years past? Because that's what's implied. Because typically it takes six months of losses for the industry to start cutting supply. The estimates that are out there in terms of egg sets right now imply that the cut backs will happen a lot faster. I would just love to get your perspective on why you think that's actually possible.

Well, again, to clarify what I'm saying. I don't remember saying that I thought the industry was going to, necessarily, beyond the January time period and slaughter, the industry was going to do one thing or the other. Now, one thing I'll hurry on to say that, if you look at cost of goods sold and chickens being slaughtered, we have not yet as an industry reached the peak of the higher priced corn and soy going into those birds that are slaughtered.

So I think as we reach that pinnacle of costs, I don't believe producers are going to be necessarily in a hurry to go out and put more production on the ground until we understand that spread between chicken prices and what we will see in corn and soy meal prices. And coupled with the uncertainty of what the next crop year prices are going to bring, that's really what gives us more caution than anything.

Actually, I'll also add that you alluded to this six months in the past. And I think it was six months, because the companies were in a good, positive run before. And that was not true this year. I think we came out of 2011 with the balance sheets in the industry pretty damaged. So I don't think that the smaller companies are past the six months time to face the losses. So I think that's playing a big role.

Also, if you think about increasing production, with the cost of feed that we have today, that would be very -- would take heart in your inventory. And that will consume cash that I think the companies don't have today. So I think that is helping also on the companies to be more conservative on increasing production.

Thank you. Our next question comes from Carla Casella of JPMorgan. Please go ahead. Ms. Casella, perhaps your microphone is on mute?

Hello. This is Paul Simenauer for Carla Casella. Just a couple questions. First, your casual dining business, what did the month-to-month improvement or deterioration look like through the quarter?

Casual dining has been one of the food service segments that was hit the hardest during the recession and has been the slowest to come out. I'm not at liberty to talk about a specific segment in food service, other than to say our food service business has been fairly steady.

Great. And then, in your inventory, what did your -- what did the cost first units look like, if you can talk about that?

Well, the costs that we have today, since we have lower inventory, it's pretty much in the line with the feed costs that we have. So there's no significant difference between the costs that we have today and the actual replenish costs for inventory. So it's fairly close to market prices.

Great. Thank you very much.

Our next question -- and pardon the pronunciation -- comes from Sarkis Sherbetchyan of B. Riley & Company. Please go ahead.

Hello. Good morning.

Good morning.

So for Q4, are you paying market prices for meal? So, soy meal as well as corn?

Well, we don't disclose our positions, either cash or futures. But at some point in time, every company's going to end up paying market prices at some point.

Okay. And you did mention that you've invested in infrastructure to import feed from South America, and I've noticed that South America is a pretty nice spread between what we have out here in Chicago versus what we can buy there. So given what you've invested in infrastructure, do you see -- are taking in that move for quite a bit of time in the future, as well?

Well, that investment gives us the ability to do so when those prices are advantageous, which is precisely why we did it. So as long as there is a competitive spread that we can realize, then we intend to do that.

In the future, we believe US will still be a net exporter of corn. We don't expect this situation to continue. And this was, let's say, an aberration caused by the extreme drought that we have. So we made an investment, and the investment will be paid in the first month, to be honest. But I don't think that, that is a situation that will go on in the future.

Okay. Thanks for that clarity. And also, were your exports growing at a faster rate versus the US exports for chicken in the past quarter?

Yes. Yes. And our export growth, actually the last 1.5 years, has been growing at a pace beyond the target.

I would just add another, is that we focus on value, not on pounds. So sometimes when you look at the industry numbers, it's more pound-wise. What we are doing is trying to capture value by selling more value-added foods. Bill mentioned that we have made very good progress on prepared foods -- selling prepared or value-added foods into Africa and the Middle East. And also, our griller program. So we don't focus on pounds, we focus on value.

Understood. And I believe it was last quarter, or two quarters ago, you dedicated a plant to export for the Asian markets. Is this plant that you're dedicating to the Middle East market a new plant, or is it the same plant for the Asian market?

I think you're confusing the two end markets. It actually was dedicated for the Middle East. And that's the plant to which we're referring.

Okay. Thank you.

Thank you. Our next question comes from Kenneth Zaslow of BMO Capital Markets. Please go ahead.

Hello. Good morning, everyone.

Good morning, Ken.

Good morning, Ken.

In terms of the Mexican operation, can you talk about the sustainability of it versus the FX? Is this a margin structure that we should start to think about a little bit more longer term? Is there some structural stuff that you can talk about to help us model it going a little bit longer term?

The Mexican business is a bit more volatile. In other words, we're closer to the market. It's a commodity business for us. We just happen, I think, to do a really good job of managing that spread and pricing over cost of feed. And we have a large component of that business where we sell live chickens. And again, it's going to be reflective of the volatility of feed ingredient inputs.

Now, one of the things I think our team has done a really good job of is figuring out how to source ingredients closer to our chickens down there. And that's why we're not going to be exposed to US corn prices until sometime probably in the second quarter on a cost of goods sold basis.

So this margin structure, we should be able to get comfortable with in the next two to -- two quarters, this level?

I would say the structure that we've had throughout this year, I think is going to be reflected. But I would remind you that Q1 and Q2 were different. Q3 was different than Q2. So there is seasonality, as I spoke of earlier, in that market. But it's truly more of a spread business, and I just happen to think we do a great job of managing that spread.

And then next year, when you say you the egg production -- you expect egg production to be down in the US to be down 2% to 3%, I missed -- I think somebody asked a question, will you be participating in that 2% to 3%? And if not, does that mean that the industry has to cut more, and how do you get confidence in the idea that the industry will cut 2 % to 3%?

Well, the way we look at our production levels is the first thing we look at is what level of profitability can we sell that whole bird, and not just one part. We don't grow a chicken for only the breast meat or only the wing or tender. We look at all of our sales on the chickens we grow on a whole bird return basis, and if we balance our production with that supply which we believe we can sell profitably. As the market demand is growing or not, then we adjust our production reflective of what we believe the market is going to do.

So that means you will participate or you won't participate?

Well, again, I would leave it as, we're going to balance our supply and demand with profit levels that we desire to achieve.

Okay. I guess if I take a step back, look Tyson has said clearly that they don't want to cut production. You guys seem like you're less inclined to do it unless the industry does it. So that's 40% of the market that's maybe not cutting, and then 60% of the market to cut, say 5% to 7%, or something like that, to get to your 2% to 3%. I'm just trying to figure out how the math -- how do you guys see -- And again, I'm not trying to push it, just trying to figure out how this all ends up to be -- to get to your earnings. I'm assuming by 2014 you expect to be at your earnings power, and I'm just trying to figure out the path to get there.

Again, I can't say more beyond that which I've said, related to our plans for production. I can't speak for any other company, either. So we're just going to do that which is beneficial to our business and our plan.

One thing I did mention in the prepared remarks was, if we can't grow a whole live chicken and make a profit on that whole chicken and we see an opportunity to grow a part that we can purchase on the outside, then we'll do that. That's really not different than it's been in the past. And now talking about it for, I guess, the first time since I've been at Pilgrim's. But again, we're going to balance our supply and demand with what we think are our needs for making a profit.

Thank you, sir. Our next question comes from Christina Ronac of Gleacher & Company. Please go ahead.

Thank you. Congrats on a good quarter. I just want to try to understand your business better, if you don't mind. Corn and soy pretty much spiked right at the end of June, and I know corn in Brazil didn't spike as much, a little bit, but just trying to understand. Is there a 60- to 90-day lag? And if so, then should we see some pressure in the fourth quarter? And I think what you've been saying is you expect to increase prices to offset that. I just want to be clear that you haven't really felt the price increases yet and you're going to see that in the fourth quarter. Is that fair?

Well, there is a lag between prices of corn and soy going up. Obviously, it takes -- depending on the size of the bird -- anywhere from five to eight weeks to grow that chicken, and you're feeding that bird that whole time. So the cost of goods sold is reflective of what ingredient pricing is doing at that time. And what was your other question?

I wasn't sure if, then, we should expect a little bit of that -- I don't know if you can give us some outlook into 4Q. So you don't expect any margin pressure in 4Q, then? I didn't say that at all. You know, as pricing for corn and soy has gone up since late June, early July, we're absolutely going to be challenged with higher costs.

Now, the idea, obviously, as supply and demand works for the price of chicken, we would want to get as much price to offset that as we could. But you know, our book of business is much more reflective of the market than it was in the past. So we're going to be reflective -- our returns are going to be reflective of chicken market prices, as well. So while I don't know what chicken prices are going to do in the future, in order to continue at profitable levels, obviously we have the need to increase the price of our product.

Christina, I'd just add that you're right, despite the costs taking two months to hit the P&L, the cost hits the cash flow immediately. So if the price of corn and soy increases, it hits the cash flow. And something that we are being very careful and managing very carefully, it is our cash flow. And that is what's helping, I think, the industry, preventing the industry to increase production is the increasing cost, or the increasing consumption of cash into the live inventory.

I got it. And if you don't mind, I've just been noticing that the price differential between chicken and beef is continuing to increase. So, I would think -- just get your opinions, if you will, that this would give you more room to increase your prices, given that beef continues to get more expensive.

Well, we believe that the price of beef, based on placements into the feed lots in the recent weeks and months, are going to move prices of beef up. Now, we found out in the last couple of years that the price of chicken really is more reflective of the supply and demand of chicken, and not necessarily related to beef and pork. Although high beef prices and high pork prices certainly don't hurt the price of chicken. But I think the price of chicken, again, is more reflective of supply and demand for chicken.

Christina, another thing is that while we don't see a lot of substitution between beef and chicken in the US, that is not so true in the international markets. In the international markets, where the economies are growing and people are demand for protein is growing much faster, we see a much faster substitution between high prices of beef and chicken. And we continue to believe that chicken will outgrow beef in the world. Not so much in US; but in the world, that's pretty much true.

And one last thing I would remind you of that I think is related to your -- the reason for you asking the question is, it's late October, and we've been buying corn and soybean meal in the chickens that we're now selling during the high prices related to the drought. And, as we've said, we remained profitable in October.

So I think that the real message in there is we've been able to effectively deal with higher corn and soy prices and remain at a profitable level. And again, I think that's a testament to the strategy that we have then executed, the ownership and accountability that our Management team has taken. And we'll continue to operate in a way that -- just because corn is $8 or whatever the price -- doesn't necessarily preclude us from being profitable.

Thank you. Our next question comes from John Malcolm of Citi. Please go ahead.

Thank you for taking my question. I might have misunderstood, but did I hear you say that you expect to be in compliance of the maintenance test on your bank agreement through maturity? Thank you.

Yes. We expect to be in compliance when they are reinstated here in Q4. And based on our projections and given the strong result that we are showing so far, we expect to be in compliance up to the maturity of the term loan, which is actually where the covenants are.

Great. Thank you.

Thank you. This concludes our question-and-answer session. I would like to turn the conference back over to Bill Lovette for any closing remarks.

Thank you all for your questions and interest in Pilgrim's. We see this challenging market as an opportunity for a stronger performance to differentiate from others. And we believe that this is where our strategy and strength of our team can truly manifest. I do want to thank the Pilgrim's team, our shareholders, growers and customers for their continued support. Thank you.

The conference is now concluded, and we thank you for attending today's presentation. You may now disconnect your lines.