Pilgrims Pride Corp (PPC) 2022 Q1 法說會逐字稿

Good morning, and welcome to the first quarter 2022 Pilgrim’s Pride earnings conference call and webcast. (Operator Instructions). 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 website at www.pilgrims.com. After today's presentation, there will be an opportunity to ask questions. (Operator Instructions)

I would now like to turn the conference over to Andy Rojeski, Head of Strategy, Investor Relations, and Net Zero Programs 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 first quarter ended on March 27th, 2022. Yesterday afternoon, 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 our website at ir.pilgrims.com along with slides for reference. These items also have been filed as Form 8-K and are available online at SEC.gov. Fabio Sandri, president and chief executive officer and Matt Galvanoni, chief financial officer will present on today's call.

Before we begin our prepared remarks, I would 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 actual results to differ materially from those projected in these forward-looking statements. Further information concerning those factors has been provided in today's press release, our 2021 Form 10-K and in our first quarter 2022 Form 10-Q filings with the SEC.

I will now turn the call over to Fabio.

Thank you, Andy. Good morning, everyone, and thank you for joining us today. For the first quarter of 2022, we reported net revenues of $4.24 billion, a 30% increase over the same quarter last year and adjusted EBITDA of $501.8 million almost double Q1 of 2021. Our adjusted EBITDA margin was 11.8% compared to 7.8% Q1 last year. U.S. GAAP earnings per share was $1.15 versus $0.41 last year, an increase of over 180%. We are pleased with the overall performance in the first quarter. Our U.S. and Mexico business have effectively managed through volatile market conditions and mitigated the impact of inflation in commodity, labor and ingredient costs. Although our UK business have made significant progress in battling through market conditions, a challenging labor environment and rapid cost escalation, many of our contracts have a lag. We never contemplated the magnitude of inflation that the country is facing.

We are proud of our promising start to this fiscal year and remain confident that successful execution of our strategy of portfolio diversification, key customer partnerships and operational excellence will continue to provide stronger, more consistent results. Nonetheless, improvement opportunities assist, and we must drive our business with an unwavering commitment to our team members’ health and safety. We must continue to manage through extreme volatile market conditions.

The global complex across grains and oil seeds markets rally through the first quarter as the Russian and Ukraine conflict disrupted shipments and increase the risk that Ukraine will be unable to harvest their current crop and plant new crops. Russia also faces complications in their ability to export, impacting the markets for corn and wheat. Moreover, the region is the leading producer of fertilizer and prolonged conflict who [impeded] delivery to farms throughout the world. These conditions are fully exacerbated by challenges in Brazil, as soybean sales, short of expectations coming at roughly 125 million metric tons as opposed to an estimate of 145 million. We’re closely monitoring the progress of the standards of Brazil second corn crop and its impacts to the global corn supply.

In the US, the current focus is on the weather, given its impact on the pace of planting and total acreage for corn soybeans, spring wheat and other crops. The current forecast indicates this relatively cool and wet conditions, delay planting and potentially limiting production. In addition, China has not approved certain South American regions for corn shipments. Although we do not believe that this will significantly impact corn supply, the U.S. government also announced some change to its policy regarding seasonal ethanol chain usage. Given the factors, commodity prices have rally and being very volatile versus last year. As always, we have a current great position that reflects our view on the risk on the market.

As for supply demand conditions for U.S. chicken, lightweight production increased by 2.5% relative to Q1 last year, driven by additional head counts and heavier average lightweight. The industry continues to experience hatchability challenges and labor constraints, which constrain overall supply growth. As a result, supplies expected to grow less than 1% in 2022, according to the USDA. The overall supply of protein will be impacted due to the limited availability in the other protein complexes as USDA expected domestic availability of beef, pork and turkey to increase only 0.3% year over year. Beef and pork availability is expected to remain flat while turkey supply will likely be adversely impact by the influenza per USDA estimates. Despite logistical challenges that inhibit our inventory flow, total protein in cold storage remained 7% below the 5-year average at the end of the March.

Domestic chicken demand remained steady throughout the first quarter relative to the same time last year. Although the retail channels are lower in compared to the pantry loading period of last year, it is still pre-COVID levels higher and higher prices are supporting revenue gains. Fresh chicken volumes dipped marginally early during the year but strengthening later in the quarter. Volume demands for frozen value added products remain resilient even with increasing prices. The retail deli department posted year over volume gains with sales also above the pre-COVID 2019 levels. The food service channel exceeded year ago and pre-COVID baseline line levels.

While in food service distribution, the number of operators purchasing remained below pre-COVID baseline levels, rates per operator remain healthy and the number of operators increase year over years. Our QSR key customers continue to grow. Although the non-commercial segments posted significant year over year gains, it is still on a recovery path to achieve the pre-COVID levels of sales. As consumers increasingly fuel the effects of inflation, we anticipate some shift towards retail demand, despite increasing prices to last year, chicken still remain the most affordable, flexible and available option relative to the other proteins. As such, it is well-positioned to benefit from changes in customer behavior and spending patterns.

The export business remain robust as overall chicken even increased 5% from December 2021 to the end of the first quarter and up 2% from last year. Dark meat accounted for the largest increase as it grew on average 17% from last year, primarily driven by ocean containers shipping disruptions throughout all U.S. ports. Despite these challenges, UFDA expect sales increased by 1.7% relative to last year throughout February, driven by Asia and developing economies. Improvement in export volumes are reflective of a resurgence in global demand and supply deficit driven by the AI in Europe and Southeast Asia, as well as ASS in critical Southeast Asia markets. The conditions are further amplified by supply disruptions from the Russian-Ukraine conflict as both countries exported, roughly 34% of their chicken production. Our export business has helped the industry growth, and we expect a continuation of this momentum given our diverse portfolio of both sizes and broad dispersion of production facilities.

Equally important, the impact on the U.S. chicken industry has been relatively muted has less than 2.5 million growers have been impacted by AI while other countries have been more severely impacted. As a result, we may have additional opportunity of flexibility when considering export opportunities. We'll continue to monitor the impact of AI 12 or global business. Given sustained demand levels and supply limitations, we expect check commodity prices to remain elevated above historical normals, which is demonstrated by the (inaudible) prices that are currently 82% above the 5-year average.

Currently to our U.S. business, the consistent execution of our strategies of key customer focus, but quality diversification, operational excellence enable us and our teams to navigate volatile market conditions and drive strong results. Given the challenges in make production, we are holding our hands out longer than industry average. Although our hatchability suffered, we increase our overall availability to our key customers. To address this challenge, we have partnered with our primary breeder suppliers to identify the root causes of the declining hatch. This deep dive includes the evaluation of male and female lines, fit formless, equipment and management practice. Even initial results, we have already seen a positive impact to air production and hatch, and we'll continue to implement these changes.

Assuming continued progress, these measures should increase our line the second half of this year. Equally important, we continue to aggressively monitor avian influenza and enforce heightening value security protocols. To date, we have not experienced any significant business interruption from avian influenza. We continue to invest in our people and equipment to enhance yields, improve mix and ensure sufficient capacity to support further expansions. Since 2020, we've increased hourly wages by close to 20%. We have expanded our incentive programs across our hourly team members. This resulted in an approximately $30 million year-over-year increases in U.S. hourly employee costs in the first quarter only.

On the demand side, we will evolve our pricing approaches and adjust mix to mitigate the impact of supply limitations and the current inflationary environment. We will continue to partner with our key customers to ensure sufficient product availability to satisfy the demand driving top line growth for our business. We're also working closely with our supply chain partners to ensure sufficient visibility and timing of cost increases. As a result, we can identify opportunities to offset those impacts and ensure sustainable margins throughout our business, invest in our key customers and value for our consumers. These activities have enabled to navigate volatile market conditions throughout the US. We have captured the opportunities on the commodity market while maintaining the margins on the other business.

Our commodity big bird deboning business is leading the way as it all again, generated the largest profit increase relative to last quarter and the same period last year. Both volume and revenue growth were driven by the food service channel and continued development of key customer relationships. This business is especially well-positioned to realize the benefits from the current market conditions as chicken remains the most affordable and flexible offering throughout the protein industry.

Our small bird business realized both top and bottom-line benefits for increased traffic from QSRs and broad line distributors. To mitigate the impact of the Mayfield tornado, we relocated birds throughout our network to effectively maintain our operations and the service level to our key customers. We also updated pricing into offset increased grain and other supply chain costs. Moving forward, we'll continue to evaluate and adjust our mix. According to key customer needs and industry trends. Our case ready business deliver year over year revenue growth with stable margins facing logistics and labor issues. The team rolls to the challenge while the partner and they partner with key customers to ensure superior service levels and operational improvements to partially offset increase from grain, labor, and other supply costs. We expect these changes to generate continued growth from distribution and improved margins.

Our prepared food sales through over 35% relative to last year, driven by prioritization of key customers, pricing recovery, and increased volume. Our consistent focus on service and product quality page dividend, especially for just there, as we increase distribution and market share despite higher prices from increased input and labor costs. Margins improve year over year, have the business lack setbacks from 2021 winter storm and drove operational efficiencies. Even our continued growth, we initiated work on our previously approved expansion at our Morefield facility. We expect additional capacity to become available in the latter half of the third quarter.

The branded retail business for just there has strong momentum and sales has grown 51% year over year and increase 11% prior quarter. Our fully cooked business offerings have also gained significant traction. Consumer demand for our branded offerings appears especially resilient at the point of sale as we have not experienced any drop off in demand from our pricing adjustments for inflation. E-commerce has enhanced our overall growth in retail service as net sales have increased year over year. We are building our presence as we develop new partnerships and optimize relationships with the existing provider and further cultivated our relationships with key customers.

Turning to our European business, significant inflationary headwinds merged throughout the supply chain, including feed, ingredients, labor, and utilities. The Russia-Ukraine conflict has made those impacts even more pronounced, especially in commodity prices as a key UK weed roll over 40% during the quarter. To lessen the impact and meet key customer needs, the team expanded its procurement and operational reach beyond this traditional supply base. To that end, they identify new suppliers in different countries to ensure sufficient raw material and ingredient availability. This differentiated approach resulted in improved service levels and increased top momentum.

Excluding the impact of (inaudible) masters integration sales grew 9% relative to last year. Our key customer strategy provided the foundation for further growth as we increased market share and secure additional distribution for our innovation. Our efforts are being recognized by consumers and leading grocers. As food masters, Richman brand was recognized as a top 50 brand in the UK. In addition, the team diversified its geographic as reach to improve sales and margins. For example, our pork team is now contracting sales in the United States, Asia and Africa.

Furthermore, the team has identified is realizing synergies with the recent acquisition of masters in procurement, private development and logistics. The team has also diligently evaluated their cost base and have undertaken steps to improve productivity, some of which involve investments in equipment and/or wages where others emphasize cost reduction. We expect for alignment of industry supply demand fundamentals over the remainder of the year. These market conditions when combined with our improvement and efforts underway and sustained execution should generate improving margins in the second half of 2022.

Our Mexico business grew net sales by 11.5% relative to Q1 of prior year. Whereas operating margins declined slightly has increases in supply chain costs of pace pricing recovery. Sales grew across all channels with QSR leading the way following close by retail and food service. Our prepared food business has another quarter of double-digit growth with our Pilgrim’s, Del Dia and (inaudible) brands. Our Branded Fresh business unit had similar success with the Pilgrim as it also grew double digits. Like the other business throughout our portfolio, Mexico faces significant inflationary cost challenges throughout our supply chain, especially grain. Nonetheless, we will continue to invest in our brands and production. As we believe in the long-term growth of Mexico demand, we are growing our production with a hatchery and feed meal in the city of Campeche in the Yucatan Peninsula. Once complete, we can reach 100% of Mexico with our products.

We expect the first loads to reach local markets by the end of this year under the current schedule. We're also investing hatching in Merida, which is slated to begin operations in December 2022. In addition, we are expanding processing capacity at our popular locations. Once complete, we can further adjust our mix to service additional demand in both retail and food service channels. This project begins early Q2 and we expect completion in the latter half of Q3. Moving forward, we'll need to remain vigilant, given significant inflationary headwinds challenges to our entire business. Costs has dramatically increased in commodities, labor, logistics, and other operational inputs. To ensure business continuing should grow and create value for our stakeholders, we must mitigate these impacts through operational efficiencies and grow with our key customers. We'll continue to monitor and adjust our business accordingly.

With that, I would like to ask our CFO, Matt Galvanoni to discuss our financial results.

Good morning, everyone. For the first quarter of 2022, net revenue news were $4.24 billion versus $3.27 billion a year ago with adjusted EBITDA of $501.8 million in average, in a margin of 11.8% compared to $253.8 million and a 7.8% margin in Q1 last year. We achieved $187.2 million of adjusted net income compared to $103 million in Q1 of 2021. Adjusted EBITDA margins in Q1 were 15.9% in the U.S. compared to 6.5% a year ago. For our UK and European business, adjusted EBITDA margins came in at 1.2% for Q1 compared to 4.3% last year.

In Mexico, adjusted EBITDA Q1 was 16.1% versus 20.6% a year ago. Adjusted EBITDA in the U.S. for Q1 came in $412 million compared to $131 million a year ago. Both gross and operating margins were higher compared to 2021 due to higher commodity market pricing, strong consumer demand, improved operational efficiencies and growth with our key customers. Our UK business has experienced increased volatility from the Russia-Ukraine conflict, a challenging labor market and rapid cost escalation, all of which negatively impacted margins. The UK businesses have made significant progress in addressing the recovery of inflationary cost increases through pricing to our customers.

As we noted in our last earnings call, the first half of 2022 will be challenged, but anticipates seeing profit improvement in the second half of the year, Mexico generates $75.3 million in adjusted EBITDA in Q1 compared to 86.4 million a year ago. Volumes have remained strong due to balance supply demand fundamentals, and although grain and other input costs have increased, the business has undertaken efforts to improve efficiencies and recover these higher costs. As we both discussed and experienced in the past, our Mexico results have high relative variability quarter to quarter. As Fabio previously mentioned, all businesses have been subject to market volatility and significant inflation. As such, we continue to monitor cost through our supply chain, progress our operational efficiency efforts and implement other cost recovery measures as needed to mitigate these impacts.

We spend $82 million in CapEx in the first quarter. We'll continue to prioritize our spending throughout the year to cultivate growth for our business, strengthen key customer partnerships and realize greenhouse gas emission reduction targets relate to our sustainably linked bonds in our net zero commitments. Our overall balance sheet and liquidity remains strong is we have approximately $1.7 billion in total cash and credit available. Moving forward, we'll drive cash flow from operating activities, working capital management, investing in high return on capital employee projects.

As the end of Q1, our net debt total $2.7 billion with a leverage ratio of 1.875 times our last 12 months adjusted EBITDA, which is below our target ratio of 2 to 3 times. Net interest expense for the quarter total $35 million. Our effective tax rate in the quarter was 21.1%, which included certain discrete items in the quarter. As I noted in our February call, we still anticipate a full year effective tax rates between 25-27% albeit likely at the lower end of that range. Our capital allocation approach will remain disciplined as we look to grow the company and will continue to align our investment priorities with our overall strategies of portfolio diversification, focus on key customers, operational excellence and commitment to team member health and safety. Operator, this concludes our prepared remarks. Please open the call for questions.

(Operator Instructions) Our first question comes from Ben Bienvenu with Stephens.

And congrats on a nice result. I want to ask as it relates to kind of the margin capture, margin realization in the quarter. We've had a strong commodity or big bird deboning backdrop for a while. But you highlighted in your commentary in the release and then on the earnings call, some of the operational improvements that you've been making. I know mix, labor's still a challenge, but can you talk a little bit about the progress that you've made, your ability to potentially continue closing the gap relative to what kind of commodity margins might suggest and how we should be thinking about the challenges you still face operationally that just might ebb and flow as we move through the year?

Sure. Thank you. Back as we talk in previous calls, we have a very diversified portfolio in all of our operations and we also have a great geographic portfolio. So in US, we operate in all segments, being small birds, medium birds, large birds, and also on the prepared foods. We created this portfolio because we believe that it's more resilient to downturns when the commodity markets are really weak, but we also have the exposure to the commodity markets through our big bird operations where we can capture the upsides when the commodity markets are really strong. We also talk about one of the pillars of our strategy that is relentless pursuit of operational excellence. So we are always looking for opportunities to improve our operations. Those opportunities are generated through our zero-based budgeting and approach and through the action plans that are created every single plat so we can improve our operations year over year.

I think the issues that we are facing over the last 2 years has been on labor availability. We are seeing a strong demand for labor in US. We're seeing very difficult conditions to staff our plants to 100% of their levels. So we were never able to produce the optimal mix that we want to maximize our profits. And I mentioned on the remarks, we gave some significant increase to our labor force that impacted more than $30 million just in this quarter and accounts for more than 20% over the last few years. And have been able to staff our plants better. With that, we've been capturing some new improvements and we are also producing a better mix. But once again, I think the improvements on the margins that we are seeing are mainly due to our possibility to capture this increase in the commodity markets that we are seeing. We are seeing very strong demand and we are seeing very limited increase in production in the United States.

Okay. Okay, perfect. My second question is related to the share repurchase program that you all put in place. In the diluted, weighted average share count during the quarter, we don't see evidence of you all being active in the market. I see in the 10-Q that came out this morning, quarter end share count or share count as of yesterday was a little bit lower. So maybe you've exercised some of that. But as you think about the cash windfall that you'll see through the midst of this cycle and your ability to continue to improve operationally, can you help us think about where share purchase sits in terms of your capital spend priorities?

Ben, it's Matt. Let me at least venture your first question and Fabio, you can jump in maybe more than the second. You can find in the 10-Q that we purchased 1.1-1.2 million shares in the quarter. If you recall, we didn't really announce this until March 9th, March 10th, and our quarter ended March 27th. And so we, we purchased about $27 million worth of shares in the quarter. We did start down on that program and did execute. You're just not seeing much of it in your average just because the average is across the entire quarter and we didn't start basically the last 2 weeks of the quarter.

Yes. And I think capital location is always one of our priorities here. What we want is to create value for our shareholders and grow our company and create a better future for our team members. We want to grow our company. Absent of any big M&A or other opportunities, we continue to invest in increasing our organic operations. We mentioned here several initiatives being prepared foods in U.S. in fresh and prepared foods in Mexico and even in Europe. So we are looking for opportunities on how to grow. Share repurchase are an option when we believe that that there is a very good value for our shareholders on the buyback. I think in terms of capital location, it comes of course, second to us growing our business and creating value.

Our next question comes from Peter Galbo with Bank of America.

Matt, maybe you can just help us, from a modeling standpoint. I know Fabio gave some color around USDA expectations for U.S. volume growth, but just how you're thinking about U.S. volume growth cadence over the remainder of the year. As a second to that, how we should think about this latest round of higher feet costs flowing through. I know you guys are probably hedged through part of the second quarter, but how we should think about those 2 items over the remainder of the year.

I think when we really, the volume increases throughout the year, I think we have a very seasonal business and you're going to see that a normal seasonality. We do expect generally stronger Q2 with the grilling season, summer season, and then things starting to more follow the seasonal trends that way. Related to our hedging portfolio as Fabio said, look, we take a look at the market, and we look at against our risk management practices and we hedge. We disclosed certain things in our 10-Q, which was published this morning. That'll kind of give you maybe a little bit of a flavor of kind of where we're at and a relative to this time, the end of fourth quarter. But we definitely have taken a look at that and adjusted our hedging accordingly to how we see the risk in the market.

I think just adding to the USDA growth and the expectation for our industry, It will depend a lot on the hatchability. We've been talking about this issue for some time now, but I think now we are seeing some issue results from everything that we are trying to do. And we expect like Matt said, a little bit of an increase in Q3 and then compared to the strong quarter that we have in Q4 in terms of production, we expect very muted growth. And so in overall, like I mentioned, we're increasing close to 1%.

Got it. No, that’s helpful. Fabio, helpful to get kind of the context around hatch. I guess one of the big questions we're getting is longer term with where chicken prices are right now you've seen an uptick, obviously in pullets. It seems like hatch maybe starts to get better. I don't know when that starts to show up really in, in some of the external-only reported numbers, but the gap between chicken and some of the other proteins has really started to close, especially with beef and pork actually turning deflationary on a year over year basis this month. I'm just curious. How are you thinking about maybe the limits on where jumbo breast meat can go? 330 is obviously a historically high level. But just seasonally or from your standpoint on improved hatch, when do things start to roll and normalize maybe to a closer to a, something with a 2 handle on it. Thanks very much.

Well, sure. I think to your point, yes. We see some increasing pricing of chicken, but as you mentioned, the gap between the proteins continue to be very wide. I think it's closed a little bit, but it continues to be very wide. I think what we need to take into consideration is the difference between the commodity segments and some of more stable retail segments. The retailers are not experiencing the price that you are seeing on the commodity. So that is a more day-to-day jumbo made in a combo that is mainly used for further processors and some other operations that we call industrial and a large food service industry.

In the retail business, we have a more stable model where we try to mitigate all the effects of the inflation through operational efficiencies and discussions in terms of growth and cost reduction with our key customers. So to the retailers and to the end users, we are seeing a little bit of inflation, but not at the same levels that we are seeing at the commodity segment. What is happening is that in the past, we used to use commodity meat to augment the sales to the retail channel, helping their volumes during the summer and during some specific occasions, what is really difficult today is to get the commodity meat and then put in a tray and sell to retailers at the loss. So that's what's happening. The availability to the retailers is also getting lower because of that. We've been operating our plants at full capacity, and our growth is outpacing the, the industry, especially to our key customers, but that is going to be a challenge for the summer where the retailers will not have sufficient availability at the prices that they're having today.

The next question comes from Michael Piken with Cleveland Research.

Just wanted to talk a little bit more about kind of your outlook for Mexico and just where are they in terms of production, feed availability? I know they import a lot of grains here. How reliant do you think Mexico might end up becoming on U.S. chicken and how will that impact your Mexico performance depending on the amount of product that moves in from the US?

Sure, thank you. Yes, Mexico, as we always mentioned is a very volatile market. We've seen some small shifts and supply and demand can create big impacting overall pricing there. We saw a weak Q4, which is typically not what we expect, but was mainly going to an increased production and some increase in exports or imports from Mexico, especially from exports from U.S. as well. We're seeing that from exports have increased during Q1 but given the high prices of all the other proteins here, we expect a very difficult season of export to Mexico, again, because the high prices on the commodity segment here. We continue to increase our production in Mexico. We are doing everything that we can to supply the local with tailored products and we are expanding our production, not only in the fresh, but also in the categories.

And we are opening new plants in the Merida region. But it's always going to be a very tight situation in Mexico, especially for Q2 and Q3 as still don't have those production increases. And we still normally have a very season of more diseases in Mexico with constrain production there. So typically, we have a very small increase in supply during Q2 and Q3, which can affect prices. But of course, for the long term, we continue to invest in the growth in Mexico. And as I mentioned, it is very volatile in quarter over quarter, but when we see year over year, they're very resilient and double-digit margin markets.

Great. As a follow up to that just are they having any issues with avian influenza in Mexico and has the biosecurity improved there over the last couple of years, or are you still going to be kind of having your breeder flock more in the U.S. to support that growth in Mexico?

Sure. Biosecurity, as we talk out in U.S. is really strong. So we have a very good protocol. I think the problem in Mexico is that they have 30% of their market is based on live sales. So those live animals, they move throughout the country and are slaughtered in small slaughter facilities in the big cities, especially in the city of Mexico. So that creates a huge problem for biosecurity. And that's why we see a lot of more mortality there and some issues with, again, the biosecurity. So that will continue, I believe because live sales continue in Mexico. The Mexican consumer put a lot of its preference in the freshness, and they believe that a slaughter facility close to the end user has that convenience and has that value. But as we are growing our branding in Mexico, I think we're creating a strong co-chain where we’re creating more consumers in the retail with the branded products that they can trust on the quality of our products. But given the live movement that exists in Mexico, we always believe that there is very weaker biosecurity in the country.

The next question comes from Ben Theurer with Barclays.

Fabio, Matt, congrats on the strong results. The one thing I wanted to first dig into is the business over in Europe and you've made it clear in your prepared remarks and the press release about all the challenges around the pork market because of ASS down in Germany, but then at the same time, the labor shortages and other shortages. Just help us understand what you think about the next coming quarters in terms of possibility to raise pricing and to negotiate prices up in the European market to help offset all that cost pressure you're currently facing and get the profitability back into positive territory. That would be my first question.

Sure. Thank you, Ben. Yes. Europe is facing unprecedented impact in terms of inflation. And I think one important point that we have is in the past, we talk about they're having some cost-plus contracts, and that was the main structure of the contracts in Europe, but it was a cost plus based on grace. So there was not a lot of influence of other to our contracts and to our overall cost structure. Today only 30% of the inflation that we are seeing in the region is based on grain. Although, as we mentioned because of the Russian-Ukraine, war, we are seeing 40% increases in the wheat in UK, but only 30% of the inflation or the increasing costs is due to grain. What happened in the region was unprecedented increase in all other costs, being utilities, CO2, micronutrient, labor, packaging, and transportation. So those are the ones that we need to address with our key customers and overall customers and include that into the formulas.

I think the other issue that we are facing in Europe is that we have typically a 3-month lag when negotiating those prices and have those prices escalate every day. We're always behind the eighth ball, and we're always trying to capture those increases into the prices. So there is a lag and because of the continuous increase in all costs, not only feed, we are always behind, but we have great relationships there like we mentioned that are stronger value for its innovation. We are innovating creating new products and we are doing all the renegotiations with the key customers on those contracts. We believe that we have paths and we have renegotiated contracts that includes all these other factors into the cost with all of our major key customers. And we believe that our operation already improving during the quarter. And we believe that in Q2, Q3, Q4, we’re going to see the benefits of those renegotiations.

At the same time of course, we are realizing the synergy especially on the back office of having those 3 in companies together. As a matter of fact, we are going to produce some of the Richmond sausages in one of the former operations that we have in Pilgrim’s UK. So that is already opportunity to reduce cost and to increase sales by producing branded products into the facilities we already have in the Pilgrim’s UK. And we are also benefiting from some innovation. The consumer in UK is also facing constraint in their ability to buy products because of the inflationary that is impacting every customer there. And the inflation, especially in the utilities has been really, you really impacting the availability of disposable income for, especially for groceries. And we're innovating creating new products that will address those issues to those customers and helping our retailers to continue to increase their top line.

Okay, perfect. And then my second question is really around the leverage profile cash on hand and all that kind of stuff. I mean, obviously leverage come down in a decent way to one 3 quarters. And I think you usually, you aim more like something around 2 times. At the same time, we're seeing a significant increase in cash to over $750 million. And you usually in the past, you've always been running more like 300, maybe $400 million. So what's some of the more immediate plans of what to do with that cash? Is it paying down debt what you can and how shall we think about the leverage maybe towards the end of the year just to understand the trigger and drivers of the capital allocation?

I think part of it, this quarter 2, we took advantage of our delayed draw that was expiring in February and we borrowed about $194 million in February at really very favorable interest rate. That part of it, it was just, we took advantage of that opportunity on the term loan that we negotiated back last summer. That was something that we took advantage of to increase our cash balance.

We mention it a lot. We're very focused on growth and that growth can take different forms and that could be more organic and in build outs of our plants, it could be M&A, it could be a lot of combinations of all that. And I think we're very focused on that. Our board is very committed to that. Fabio and I focus great there's time on that to grow the business. And we see great opportunities to use that cash. I don’t know if Fabio, if you want to add anything else to that.

Well, I think like I mentioned, right, we want to create value for our shareholders and for sure having $7 million in our balance sheet is not creating a lot of value. I don't think we can get a lot of use from the money. It's more to have sufficient liquidity for anything that can happen and to have availability for our growth prospects.

Our next question comes from Adam Samuelson with Goldman Sachs.

First question, maybe coming back to the US, as we think about the, the current environment and obviously the commodity big bird business driving a tremendous amount of strength, how do we think about some of the breast meat prices where they are impacting the prepared foods business, especially sequentially given the recent run up and again, also in the U.S. and just are you seeing doesn't seem obvious in the pricing, but impacts of potential export bands from AI impacting the like quarter market? Pricing doesn't it seems very different than 2015 so far in terms of market impact today.

Sure. I think starting with the AI, I think we're seeing a season of avian influenza close to what we have in 2015. And we've seen a lot of cases throughout the world, and we’re seeing that some countries are even more impacted than us. So actually, the AI in some countries, especially in Asia and also the pork issue in some countries in Asia is helping us on the export, especially last quarter. So we are seeing an increase of the exports to the Asian region in Q1 already. And we're seeing a lot of demand and asks about late quarters for the incoming quarters. So the AI throughout the world actually help our exports. Now, the AI cases that we have in US, despite not impacting our overall production, when you have an AI case in any state, we have either a temporary ban or some questioning about movements of products through those states.

But given what happened in 2015, most of the nations have already regionalized the AI issues. So after a week, we can resume export from re agents that were not impacted by AI. Of course, because of our broad spectrum of plants, we are in 14 states, we can mitigate any specific AI issue in any specific country by rotating where we supply our products. Of course, it creates a little bit of a logistic issue, especially today where we are having a lot of logistic issues, both in U.S. and in the freight, but we can manage better than somebody that has only one plant. And if that plant is in a zone that it's impacted by AI.

In terms of the prepare foods, what we are seeing on the retail is that prepare foods frozen, fully cooked products are 300% higher than the same period in 2019 and even 40% higher, even when you consider the entry loading period of last year. I think the consumer really understood the value of that product. When the food service was shut down, they went to the grocery and the retail, and they really used those products as a convenience and a great taste product. And we are seeing that grow in our Just Bare and Pilgrim’s brands in the retail. As we're seeing inflation impacting the consumer in US, I believe that there will be an increase of sales from the retail out from food service. And I think that it's very beneficial, not too fresh, but also to the fully cooked items. We've been pricing that according to the impact of the inflation that we are seeing on our operations, and we are seeing great demand for those products.

Okay. And then, I guess just switching over in Europe, I think I was reading some in some of the comments earlier mean you've seen hog prices in Germany start to move more recently. UK still seems a bit more, a bit more stagnant. I guess if I'm thinking about the tulip operations specifically is there a pathway for that business to reach profitability this year, given both the pricing dynamics on hogs and then the cost issues you're facing?

Sure. I think what you're seeing exactly the impact that we have in your case, especially on the pork segment. We saw an increase in the cost of production with increasing in wheat and soy. We were seeing stagnant demand because the overall inflation in UK creating different patterns on the behavior of the consumer. And at the same time, we are the most integrated of the pork operators. And we were seeing the price of live animals really going much below the cost of production.

As we are seeing the rebound of the live animals, we expect to have back the natural advantage that we have by having our own picks, especially on the, the high welfare items. And we are seeing also an increase in the pricing, given the change in all the farmers that we mentioned in another discussion. So we are positive with the synergies, from the integration, from the innovations that we are seeing there, and also because of the change of the dynamics, especially on the pork segment.

Next question comes from Ken Zaslow with Bank of Montreal.

How much profitability do you think you're leaving on the table by not having your mix and labor there? Will you get that back in 2023?

Yes, that's a really difficult question. I think we we're giving some, some couple points of profitability because of that. I think it is like I mentioned yields and mix as well. We are not deboning all the dark meat that we expected because of lack of labor. When you have lack of labor in a plant, you move all your employees to the front part of the operations, which is the bone in the front. So we end up with more leg quarters to export which has been a very profitable business. And we are being very favored to favorable with the increase in the leg quarters, but we could create a lot more value if we debone them. And we could also generate more volume to our food service business that is typically a $0.05-$0.10 improvement in terms of profit. So it is a significant value.

Yes, we expect to have that back in 2023, not only with all the increases in sellers that we are giving to our employees with all the programs that we are deploying, giving employees in our communities what we call a better future. So we have programs where we're investing our communities and with the hometown strong programs. So investing more than $20 million into improvements into our communities, nothing related to our operations, being in parks, being in educational services. And we believe that with that, we will create a more engaged population. We are also giving one of the largest educational programs in the rural America. We are providing community college to any employee and their dependents free of charge from U.S. because we believe that better employees and engaged employees will produce a lot more for us and will be a more stable workforce.

So with all those initiatives and we are also investing in an automation, I think over the last years, as we talk about investing automation. There is new machines on the dark meat deboning that requires less people and heavily investing in those machines. Also in front deboning, we have one plant already with fully front deboning on the big bird segment, which is the hardest one to automate. On all the others, we have machines that create a good yield and a good product. But on the big bird, because of the variance, in terms of sizes, it's very difficult to have a machine that capture good yields, but we are partnering with one of our vendors and we are able to produce a machine that is creating great yields and the machine shows up every day. So I think we're also improving our (inaudible) with programs to help our employees being in childcare, being in transportation. So with all those initiatives and a long answer we leave that we, by 2023 will be fully staffed and having all of our mix at the optimal level.

Great. When I think about production beyond this year, besides the improvement of hatchability, how does production actually increase? Do you think that it'll be relatively muted for one, 2, 3, 4 years? How will you even see production increase over the next couple years?

Yes. That's a great question. Over the last years, we, we saw at least 6 or 7 plants that were built coming online. And I think that was a great to support the growth of the consumption of chicken in the United States. As you look at where we are right now, we don't see any plants being built at the moment because of the building cost being so high and the lack of labor. It's really hard for any operator to build a plant. We need to study the region and see if there's labor available to staff 1,000 people plant, which is really hard. Also getting all the permits required for chicken plant has been really difficult. We've been building one rendering plant, and we've been a nightmare to get the permits and even to have some municipality that allows to be there.

So it's been really difficult for our industry to build new plants, but I believe that with the growth in the demand should increase the supply. I think another way of increasing supply is to wait. I think, although the primary breeders solve the Woody breast, they create a little bit of an issue on the hatchability. But now with the Woody breasts behind us, maybe we can increase the size of the birds and produce a little bit larger bird to increase total volumes. What we are seeing is also a movement from some of the operators on the small bird section to move to larger birds. That will increase the overall availability of meat in US, but that will create a pinch in the small bird category. We are seeing that happening already. And we are seeing small logs that are very high price, even compared to historical levels. So we believe that we can grow in terms of improving the hatchability like you mentioned. So we have more heads and we can increase the size of the birds or the average sides of the birds by some players moving out of a small bird category.

Thank you for your questions. I now turn the conference back to Fabio Sandri for closing remarks.

Well, thank you, everyone. Although we are pleased with our start of the year, market conditions are extremely volatile and significant inflationary headwinds present a challenge. We must continue to monitor the impacts of the global commodity inputs, changes in overall protein complex and movements throughout the labor market.

To date, we have successfully managed these challenges by prioritizing our key customers, leveraging our diverse portfolio and driving operational excellence. We use this approach as continue to invest in our business and focus on team members’ safety and wellbeing. Given our demonstrated progress and continued execution, I look forward to supporting our key customers as we grow together. Thank you once again, everyone, and have a good day.

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.