Smithfield Foods Inc (SFD) 2004 Q4 法說會逐字稿

If I could have your attention, please, I would like to thank you for holding today and welcome you to your conference call. I would like to remind everyone at this time that your lines are in a listen-only mode. After the presentation portion of the conference, you may ask any questions that you have. By asking questions, you can press star one on your touch-tone phone and that will place your line into queue. Today's conference call is also being transcribed and recorded.

At this time, I'll turn the conference call over to Jerry Hostetter, and thank you for using Sprint.

Good morning. Welcome to our conference call to discuss Smithfield Foods' fiscal 2004 fourth quarter and full year results. We would like to caution you that in today's call, there may be forward-looking statements within the meaning of federal securities laws. In light of the risks and uncertainties involved, we encourage you to read the forward-looking information section of the Smithfield Foods Form 10-K for fiscal year 2003.

With us today are Dan Stevens, Chief Financial Officer, Richard Poulson, Executive Vice President and Senior Advisor to the Chairman; C. Larry Pope, President and Chief Operating Officer, and Joseph W. Luter, III, Chairman and Chief Executive Officer. This is Jerry Hostetter, Head of Investor Relations.

Larry Pope will begin our presentation with a review of operations. Larry?

Thank you, Jerry. I'm certainly very pleased this morning to announce that Smithfield is reporting earnings for the quarter of $122.7 million, or $1.09 per diluted share, compared with $5.1 million, or $0.05 per share in the same fourth quarter of last year. Those numbers, I'm sure you've had an opportunity to look at the press release at this point, include the gain on the sale of Schneider, which we completed on April the 5th, and that contributed $49 million in after tax gain as well as $0.44 per share in the quarter.

For the year, the Company is reporting $227.1 million, or $2.03, compared with $26.3 million or $0.24 per share. The numbers that I know you're paying attention to are those earnings from continuing operations, which we're very pleased to report this morning are $71.1 million for the current quarter, compared to $4.2 million last year. That's $0.63 compared with $0.04 per share.

No surprise to most of those who have been toll following the Company that the hog production operations results have been improving steadily with these increasingly live hog prices, and hogs certainly carried the day this quarter, as you can see from the segment information, contributing $72 million in operating profits compared to a $25 million loss in the same quarter last year. One of the things that we're very pleased about is the fact that our pork operation, which do include the results of Farmland for this quarter, are $74.1 million compared to $49.5 million.

As many of you know, as you follow the Company, generally, when the hog production results are very strong, the pork processing margins are very weak. In this case, as we started out the beginning of the quarter with somewhat weak margins on the pork side, the demand for pork, as many of you have followed and many of you are reading, has been excellent, and toward the end of the quarter, our fresh pork margins were very, very good. And those certainly helped us towards the tail end of the quarter, and the comparison of the $84 million versus the $50 million is certainly something we're very pleased with, given the significantly higher live hog prices. Our margins on fresh pork were strong.

Our margins on processed meats are similar to where they were in the prior quarters, and we've talked about the fact that we've had a period of increase in raw material costs as the inputs for these processed meats have continually been increasing, and so our margins on our processed meats have not maintained the same level of last year. With that being said, the margins have still been very, very good and I'm extremely pleased with the margins that our companies have realized on their processed meats. That, combined with the fact that the process meats business continues to grow and we have continued to gain market share in some of the major categories, are the fundamental base business of the company.

Couple of things you should be aware of as you read through the numbers. In the current quarter, we've got a couple of items included in those continuing operating results that you should at least consider as you consider the numbers for the quarter. We do have a $2 million write-down of some of the equipment at our Showcase Foods facility outside of Philadelphia that we have recently announced that we will be closing that facility and relocating some of its operations back into other facilities, and that's $2 million.

In addition, there is $6.8 million of interest costs on the bridge loan associated with buying Farmland last fall and not being able to sell Schneider until this past April. We carried a $300 million bridge loan and we incurred $6.8 million of additional interest during that period. A positive is that allowed us not to have to tap the equity markets when we thought our stock was undervalued. We were able to secure a bridge loan which allowed us to use the cash from the Schneider sale to finance the Farmland acquisition. But the total of those two amounted to about $9 million, or $0.05 a share in the quarter, and those numbers are both reflected in earnings from continuing operations.

As well, we pointed out in the press release that we anticipate that there will be another $6 million to $8 million in pretax losses or costs associated with the wind-down of the Showcase facility and the related employee costs and such that will be reflected. That's in that first and second quarter of fiscal '05, and that should be three to five cents there.

We, as I've mentioned, we are very pleased with the base business. Our beef operations returned to profitability. As you know, we had the VSE case last December, and we struggled in February and March, but in April our beef operations were quite profitable and we're pleased with that. So our base business is very strong.

We're pleased with our Foodservice business, which we indicated is up 9% in volume and as well, our sales dollars in Foodservice are up 20%. As well, we indicated that our deli business was up a multiple of the market in general, or the industry in general, being up 8%, and we think that is two or three times what the overall category is growing, so we continue to grow our deli business, both base business and as well as market share. That sector continues to be another very bright spot in the business.

Our struggle sides of the business are within the Case Ready operation, which we announced the closing last week. Our Texas operations have continued to show some small losses, as have Mexico and at least our French operations have had a down year. All of those have some things in place that I think will help them going forward in pretty significant ways, but they continue to be drags on the earnings at this point.

As we've mentioned in the past, we've continued to be very pleased with our ownership of Farmland Foods. All that we've seen in the first six months give us an awful lot of comfort that we made a very strong acquisition there. Farmland has been very helpful to the overall organization and looks to be a very strong contributor to this company going forward.

I will point out that the first six months, while we indicated that the EBITDA number is $65 million, that is the best six months traditionally in the business, so we-- it would be nice to sit here and tell you that I thought we were going to have another $65 million in the first six months of fiscal '05. That's probably not realistic, But with that being said, we're realizing that we bought the company on the basis of a $75 million EBITDA number, and we did have some thoughts that we could improve upon that number.

We are extremely pleased with the results that have been delivered to this point, including the fact that we've got a number of what I call cost savings and efficiency opportunities that we are pursuing, and those numbers are looking very, very bright for us at this point. It looks like that those things, that those synergies and cost savings could exceed $20 million on an annual basis. So it's-- that part of the business has-- we've been helpful in terms of identifying parts of the business and cost savings and manufacturing processes that we can learn from each other that have helped the operations both at Farmland and have helped the operations at other Smithfield locations.

Before I go into any kind of my look forward, I thought I would have Dan Stevens review with you some of the financial information that I know you're interested in, and then I'll come back and give you comments about what we see going forward. Dan?

All right. Thanks, Larry.

Good morning, everyone. I just wanted to cover a couple of things from accountability standpoint in the press release. Larry had mentioned the gain on the sale of Schneider. That was just under $50 million, and after taxes in the quarter. As well, we had $2.6 million after taxes of discontinued operations in the quarter. So you'll see $51.6 million in the discontinued operations line for the quarter.

For the year, the discontinued operations were $15.4 million, or 13 cents for the Schneider earnings for the 11 months ended March. Larry also pointed out that the cost, the interest, the carrying cost of the bridge facility was about $6.8 million, which was part of the reason for the increase to $34 million of interest costs in the quarter. For the year, the interest expense of $121 million includes 14 million, or 8 cents per share, interest costs related to the bridge.

Also, I wanted to point out a couple of other things in continuing operations. First, our capital expenditures for the quarter were $44 million, which is about the same as depreciation in continuing operations for the quarter of $45 million. For the year, capital expenditures were just over $150 million, which is below our depreciation expense of $167 million for the year. Together with pretax earnings and interest expense, EBITDA from continuing operations for the quarter was $192 million, compared to $66 million in the fourth quarter of last year.

For the year, EBITDA, excluding Schneider and the gain on sale, was just below $550 million. If you include Schneider and the gain on sale, total EBITDA for the Company for the year is just below $675 million.

Taking a look at the balance sheet, our debt level that we'll report at year end will be right at $1.8 billion, which is down over $260 million from the end of the third quarter. This, of course, reflects the pay off of the bridge financing of $300 million, and that's partially offset by the investment in Campofrio that we did in February of some $88 million. The balance of the Campofrio investment was financed from cash from operations.

Our debt as a percentage of total capitalization now stands at 53%, down from 59% at the end of the third quarter. Our debt to total cap calculation was up not just by the reduction in debt, but also the strong earnings in the quarter, the gain on the sale of Schneider, and a reduction of our minimum pension liability of over $60 million. The reduction in the minimum pension liability reflects both the transfer of the Schneider pension liability to the buyer, which was assumed as part of the Schneider sale, as well as the improved asset performance in our U.S. pension plan.

In addition, our debt to EBITDA, which is another financial measure that we monitor very closely, improved to 3.3 times, excluding discontinued operations, and it's less than 2.7 times if you include the EBITDA from discontinued operations. As well, our liquidity remains in good shape, with over $420 million available on our existing revolving credit facility.

So overall, between the significantly improved earnings and the cash generated from the Schneider sale, and the pay-off of the bridge facility, the balance sheet has improved significantly from the end of the last quarter. Finally, just to report, there were no share repurchases during the quarter or for the year, so the balance of our current share repurchase authorization stands at 1.2 million shares.

Thanks, you all. If you have any other questions, we can cover those during the Q&A. Larry?

Thank you, Dan.

As we look forward into the fiscal '05, and certainly the early part of fiscal '05, many of you are wondering, as you look at the futures markets out there, just how strong will the numbers be, and we're very much aware of where the futures markets are. I must point out to you, and that's why I wanted to have some time on this subject, that the Company routinely is involved in both a futures position as well as forward contracting from a cash standpoint, some of the inputs and the hog pricing from our hog production operations, and that's been an integral part of our business as we've mentioned to you many, many times. --As we've mentioned to you many times. I apologize. Sounds like there was a technical problem there.

I would tell you that the Company has taken some fairly strong positions on the input side, and has, almost year-in-year-out, by when the grain prices are where we think are appropriate to control our raising costs, we have taken that opportunity to take very substantial forward positions to lock in our raising costs, and we've continued to do that this year. And I think we've mentioned that in earlier calls, that in many of the cases we are protected on the input side from a raising side. As well, several months back,-- several months back, we saw, we looked forward in the futures market and saw the opportunity on the hog side to lock in some profitability on the live side and took some positions there.

The point of that being that we left some money on the table that we look at the futures markets today on the live side, but we saw very significant profits that we thought we could lock ourselves into and so we took that opportunity back then. We will continue to look forward into the remainder of the year and forward as we see the opportunities, and continue where we think it's appropriate to take significant positions, both in the cash side and in the commodities market.

In order to give you some feel for where we believe the results will be on the raising side, the hog production side of the business, we anticipate our first quarter, our first quarter profitability in hog production to be in the neighborhood of $90 million. Beyond that, I think you're aware that when hogs move up to the levels they have, fresh pork is generally much weaker, and so as we go through the summer, we'll have to see how that plays through.

Again, demand has been strong, so fresh pork has had sort of days of profitability and days of losses. So, fresh pork can be weaker or it can continue to be stronger. As well, our processed meats business, this is not the best time of the year for the processed meats, particularly the ham side, but some of our processed meats are quite good and our margins are quite good.

The beef business, as I indicated, has turned around in April and was quite profitable, as well into the early part of the early part of this quarter, first quarter, and that is seasonally when beef is generally pretty good, although we have seen some weakness in the beef numbers, even very recently in the last several days. So, there is an awful lot of volatility on the meat side of this business. But demand continues to be very strong and we continue to see very high prices for all of these inputs, whether those be bellies for bacon or pork loins, or ribs and trimmings, and hams, as far-- generally they would be falling as we go into season. In fact, as we go into the summer, in fact, they are not falling.

So all of this is, shows that the demand for the product on the pork side is exceptionally good and we continue to be very optimistic about that. Whether it's the Atkins diet or it's the low carb diet, all that certainly in verbs and terms of words, it's hard to put some real-- quantify that around why the consumers are making decisions to pick up a package in the retail case or why they deciding what to purchase off the menu when they go out to eat. But the fact of the matter is pork is certainly in vogue and we are certainly benefiting from that. And this beef situation will probably not truly rectify itself until we get some resolution of these, these export markets and the beef business returns to where it was from an export side, in spite of the fact that we've got $90 cattle out there. So it looks-- I know I'm sounding more like a pessimist when all the numbers are really pretty good.

I just-- we still are very optimistic as we look forward in the first quarter, second quarter and for hog production, for the entire calendar year, we're very optimistic. We just want to give you some sense of where we are that we have, by what we believe are responsible hedging decisions, we believe we have taken off some of the peak profitability opportunities that we may have, would have realized had we not taken any positions, but we thought it very appropriate four or five months ago to make those decisions, and quite frankly, we left some money on the table.

But we do believe it's an opportunity still to continue to ensure ourselves a very solid profitability on the production side and then we will manage the meat processing side as the markets allow us. So, we just want to give you that as background so that as you guys are looking to determine what you are going to forecast for the Company for the remaining quarters, how to think about our hog production profitability. With that being said, we would be more than happy to take any questions you guys might have. Jerry?

Operator, we'll be glad to take questions.

One moment, please. Our first question is from Dave Nelson. Go ahead, sir.

Good morning.

Hi, David.

Good morning, David.

Given that you, as you said, left some money on the table regarding hog production, wouldn't that also make your fresh meat side of the business better than usual, or better than the markets might otherwise portray? David, we-- I think we've explained this in the past, but maybe we have not, so I'll go through that.

We transfer livestock from our raising operations to our plants at fair market value, just as if we bought that livestock on the outside.

So the plants are going to be getting their hogs at lower than market, right?

No, no. The market today is about $57 and we pay an overage. So, we're going pay about $59 for hogs today.

All right.

And so we will be-- that's what the plant will see on the P&L, and when you see the pork operating profit, we have a $59 hog cost. Now, that $59 hog cost will go back to our raising operations as revenue, but we are having some losses today on the commodity side because we've got futures losses.

So the benefit will all be in the hog production line.

Exactly right.

Are you seeing, you know, just looking at the hog slaughter data, you seeing herd liquidation as a result, maybe, of these high prices?

We are seeing some, David, yes.

Okay. Let me pose one last question, then. You announced another acquisition in France that looks like more of a branded company, whereas what you've had previously in France has been more private label. Could you comment a little bit more about that, and with Poland coming into the EU, you know, here recently, how things are working post the EU enlargement, please?

Well, David from-- let's talk about France for just a minute. You are right. This is actually-- we've got three companies in France and this would be our fourth, and it is a focus very much on the Jean Caby label. To date, we have not had much of a branded program in the French markets. Jean Caby brings a very strong sales and marketing organization and should give us the ability to convert more of the product that we are selling now in the private label environment of what's called a first price environment, which really has no, really has no label at all associated with it.

That will allow us to migrate, which has been part of the business that we've been focused on now for about the last year and a half. So it's not a giant acquisition. So I don't want you to, I don't want you to take this away as being the solution to all things in France. But it is very much a definite positive and gives us a long-term brand to build the whole business around that I think is very, very positive for our French operations.

Now, turning to Poland, Poland continues to be nothing short of just a tremendous bright spot in the Company's earnings. We didn't-- I didn't talk about it as I went through operations, but I'll be glad to right now. But we went through three years of very significant losses and those who are on the call remember that. And last year we reported at the end of the fiscal year that we had profitability of just short of a million dollars, which was our first year of return, of producing a profit.

This past year, we've now moved the number up to nearly $5 million and that's, certainly that's prior to Poland going into the EU. We have also made a small acquisition that you may have seen, helps us on the distribution side in the UK a couple of months ago.

Right.

Poland has the opportunity to manufacture the product for that distribution organization in the UK, and Poland coming into the UK just gives us another opportunity to access that market very freely. We have made lots of changes in our most northwestern plant right on the German border to be ready to access the western European markets once Poland was part of the EU. So, to date-- I mean it's early. It's only been, you know, 30-45 days, so I'm not going tell you that the numbers are jumping off the page at this point. But I can tell you that I think we've been-- we've been prepared for this for sometime now. And so I think the changes we made in Poland over those three or four years, all the structural and rationalizing that we needed to do in those plants, were all geared to be in a position to make us competitive as we look into the western European market. I think we're there.

Larry, put yourself on the limb on next year in Poland.

I think we'll be, I think the profitability in Poland will at least double from the current year. We've produced five this year. I would tell you I feel very comfortable that we will at least double that next year.

Great. Thank you very much.

Our next question is from Christine Mccracken. Go ahead.

Good morning. Wondering if you could just talk about, you know, we're sitting here at record slaughter levels and yet pork prices are still very high. You talked about the impact of Atkins. Is there anything else that you see out there? Do you think this is a long-term trend and people have actually come back to eating protein or is this more of a blip on the screen and you would expect maybe demand to trail off going forward? And then, secondly, just how much of this increased demand is tied to international export, international demand or export demand rather than domestic?

Well, Christine, I know there have been some numbers out there of late in terms of exports, and I think that something I saw said for the first three months of this calendar year exports were up, pork exports were up about 27%. I can tell you for our fourth quarter, our February, March and April period, our exports were up a little over 25%. o we are, we as well are seeing that export-opportunity demand out there, and i's not the traditional place, which is, I mean, which is traditionally Japan. We've seen some fairly sizable export opportunities in Mexico as far as-- as well as eastern Europe.

So, you know, these markets move. Certainly this decrease in cattle supply has created protein demand for the other, for the other proteins beyond beef, and pork is benefiting from that. So is poultry, as far as that goes. Beyond that, our turkey operations are seeing substantially improved profitability on their protein lines.

So, you know, I don't know whether-- I'm not the person to ask whether I think the Atkins diet and the low carb diet is here to stay. It's still continues from my standpoint. Everything I read and everything I see continues to continue growing. I mean it hasn't, from my-- everything I read, it hasn't peaked and people haven't jumped off the band wagon to something else. There still tends to be a growing, a growing fad or a vogue issue. Now, how long it will stay in vogue, I'm not the person to ask that.

As I said, we don't have what I would call most scientific information to tell us why somebody goes in the store and buys a package of bacon, and I pick on bacon because bacon has been as so strong and pork bellies have been so strong. But, there is no question that we're benefitting from it, and it could be this economy rebounding to some degree. Again, I believe it's fewer supplies of cattle out there, but, you know, I'm not the person to ask in terms of long-term where this protein thing is going to go. Joe, you may have some comments.

Well, I think it's going be a long-term positive impact. The question is how positive, but it's-- Atkins, in my opinion, is not going to go away, and it's having adverse effects upon, you know, people that are in the, you know, the bread people, for instance. It's having positive impacts on the meat people and I don't think that's going to go away any time soon. So, I think it's going be generally a positive as far as I can see out, but, you know, in this business is hard to see out, you know, much further than a year. But my guess, and I know some of our competitors agree, that this is not a short-term, but this is going to be relatively a long-term positive.

And just from the bacon perspective, you did address that in your press release today. Are you worried at all about over-capacity in that industry should demand start to turn south?

Well, it's not a matter of-- it might be over capacity as far as slicing, Christine, but the bottom line, the same amount of bellies will be processed. You will not have an increase in the number of bellies processed in the United States. It will just be, it will just change who does-- who slices the bellies.

Perfect.

So, so that is not going to be-- in my judgment, there will not be more pounds of bacon sold in the U.S. It's just, we have just been derelict in the past in letting other people further process that green product, and so this is just a continuation of a policy we've had in place quite a while to use up all of our raw materials eventually.

And then finally on Canada, obviously, trade relations there, both on the pork and the beef side, are going play a big role in your fiscal '05. Wondering, one, do you expect a tariff on imports in this anti-dumping case and what would be the timing in that, of that? And then, secondly, are you still expecting the border from the beef side, the border to open up to cattle sometime this year or does it look like something that might happen, you know, 12 months out or so?

I don't think we have any particular insight on it. These are political questions and, you know, and that's, you know, politics is not our game, Christine. I really-- Larry may want to express an opinion, but quite frankly, you know, I don't have one.

I think, Christine, I was going tell you there were projections last year about when the markets were going to open to cattle, and I think all those projections, anybody's predictions a year ago in terms of cattle, all those things-- I think-- I don't think it's time well spent.

I mean--on the one side, then I will tell you one of the things we have done from a business standpoint, to go back and discuss these commodities for a second. One of the things that we have continued to do is to try to put ourselves in the best position as we look forward out there by using both the commodities markets and, as well, forward buying on a cash contract basis, our inputs and our hogs to make sure that we are responsible from a management standpoint in locking in some of these profits that are out there. And so that's one of the things as we look at today, I made the point that we've left some money on the table, but as well, we continue to look forward and see hogs that look, that look $56 in August and $48 in October.

I mean those are strong markets for the hogs as we look for the remainder of this calendar year and so, and from a Smithfield standpoint, we're looking very seriously at whether we should have ourselves protected in the event, whatever direction the politics may go, from our standpoint, we've protected yourselves from a business standpoint.

You're not really actively involve in the discussions on the anti-dumping case?

As a company, no.

All right. Thanks.

You know, Dick Poulson, you may want to make some comment here.

No, I think Joe's comment was correct. As a company, no. Obviously, we're following it, and, frankly, I don't think it's going to go away, but we are not involved on any active basis. We're just watching it.

Our next question is from Tim Jones. Go ahead.

Good morning. Thank you very much. Just wanted to touch on the Hog Production Group a little more. And you mentioned that the break-even price in the quarter was consistent with the year-ago price, which was around $38 a hundredweight. But looking-- and I'm just wondering if you can give any sense of how far out we can project a similar break-even price, looking at the $90 million figure in profitability for the first quarter of '04 that you just gave us, that would suggest that your break-even price is rising you know, $5 or $6 dollars a hundredweight. Is that an accurate way to look at it?

Let me, first of all, Tim, tell you that I think our raising costs last year were not $38. They were more like $41.

$41?

Yes.

In the year-ago quarter?

Yeah.

Okay. And so I want to make that point. But we are going to see, we are going to see some upward movement in our raising costs, although I don't think it's going to be-- we've said that we don't think that number is going to get away from us. I don't think it is.

We have taken some fairly substantial forward positions on the grain input side, so I think that we're not going see more than a $1 to $1.50 in movement up in that raising costs. Great. Okay. Thank you.

And I guess can you talk a little bit more about the competitive landscape in pork today, particularly the value-added segment? I mean, you're gaining share within processed meats. How are you able to do that? Can you give any specific examples of new account wins, or-?

I'm not-- I'm not realizing who might very well be-- our competitors are probably very likely on the telephone call, so I would tell you that the precooked area, things like precooked ribs, I mean everybody-- the industry is benefiting from that.

Right.

Some of our precooked products that we sell, really in the Foodservice end of the business, have been very strong; very, very strong of late. And that's a very powerful momentum item for us. That really is related to-- a fair amount of that's related to our Texas Cooking operations that we bought about, I guess it's three years ago now. Our Quik To Fix operations that we have spoken about, the volumes there are up over 50% from last year. We have found new customers and new opportunities.

I think that category, all of us, whether it's Hormel or it's Tyson or it's Smithfield, I think we're all benefiting from another trend out there, which I do believe is a long-term trend, towards more precooked items. And that's a nice category for the Company to be in. It's a convenience item for the consumer. I think the entire industry is benefiting from that. The precooked, the precooked bacon just continues to grow as well. A lot of that, from at least Smithfield's standpoint, is very much on the foodservice side of the business.

I don't see that trend reversing at all, as these chains go, find it more and more difficult to find employees. They want to have items that are either partially cooked or fully cooked, and those opportunities continue to abound in front of us. A lot of it being on the foodservice side and, and again, it's good for us. It's good for our customers, particularly our Foodservice customers, and I think it's good for the consumer.

Great. Okay. And one final question if I may, with regard to Farmland and the cost savings and synergies that you're just beginning to realize. Can you give just a couple of specific examples of where you expect to find savings and when will we start to see that $20 million in annualized savings begin to be realized?

I'm going to pass that question to Dan Stevens. I know Dan's got a little closer handle. I know what they are, but I'm going to let Dan address that question.

Okay.

Tim, I think lot of that comes from centralized purchasing in some of the contracts that we bring on a national basis for Farmland to join in on, as well we're-- we have seen some savings on the hog procurement side. And some of the service contracts that, because they were in bankruptcy previously, some of the service contracts like insurance and those type of things, we've been able to save quite a bit of money on.

Okay, and so are you starting to see some of that $20 million currently?

We have-- about half of that $20 million has been realized in this first year, in this first six months.

Okay. Great. Thank you very much.

You're welcome.

Our next question is from Andrew Wolf. Go ahead.

Good morning. Larry, your commentary on the feed costs, it sounds like you've locked in for-- well, actually, that's where I want to go. How long have you locked in your feed costs for, you know, a buck, a buck and a half above, you know, the 41 and really longer term, what is your outlook for feed costs?

Well, Andy, I hate to give a speech again, but one of the things that we're very cautious about, we realize that statements we make in this call could have implications to the market and our position in the market, so I'm not going to-- the only thing I would tell you is that we are significantly-- we look significantly forward on the grain input side, so you'll just have to leave it, leave it at that.

In terms of where we think the grains are going, we thought the grains maybe had gotten a little bit in front of themselves, and I think these grains have come back some, and we continue to think that the grain markets are-- probably have got some more opportunity to come down from this. Looks like it's an excellent planning and could be a very strong season. But, you know, rain happens and then it stops raining and it gets hot and it gets dry, but we believe grains could probably still come down some more.

Are you able to enter into forward contracts that, let's say in corn, for example, that are substantially different from what the futures market would tell us you were getting, you know, your corn at?

No.

Depending on-- the only point-- that was Mr. Luter speaking, Andy. The only point I would make is, you know, it depends on when you make your contracts. I mean, many of these contracts are made well in advance. I mean, we've been-- These are not something we've done this week or last week. They are, you know-- no, I mean we're not contracting substantially different than the futures market. It just depending upon when you place your contract relative to the market. I hope you got that, Andy.

I did. Thank you. I just wanted to clarify that.

Lastly, on your corporate expense, you know, it sort of ratcheted up a little bit. Should we use this quarter's number as sort of a run rate or was there anything in there that would come down or go up?

Andy, this is Dan Stevens. There were some unusual items in that number. I would say that some of those-- some costs related to the Schneider disposition are in there. I would say the quarter number is probably about $4 million or $5 million higher than what I would consider the normal run rate.

Thank you.

Our next question is from John McMillan. Go ahead.

Good morning and congratulations.

Thank you, John.

Joe, thanks for all the forward guidance. You're giving two forward guidance numbers for profitability and I want to thank you for that. It's a rarity. Is this the first time?

Yeah, I've given it to you because I've got a lock-in position, John. And I can give it to you with high degree of certainty, whereas, you know, I give it when I can, John, but I'm just not going to, I'm just not going speculate on future earnings when I don't have control over it.

Now, is it safe to say, Joe, you know, because just based on comments that you made earlier in the year, that I think, you know, hedges probably helped fiscal '04, because you really did a good job of procuring corn in advance of this kind of spike-up in early '04. So, when you talk about leaving money on the table, your hedges helped '04, but I guess what you're saying today may limit the '05 profit improvement if you had-- if everything stayed at today's price. Is that basically what you're saying?

I, I think that's, I think that's a correct statement, John.

Great. Thanks a lot.

Thanks, John.

Our next question is from Leonard Teitelbaum. Go ahead.

Good morning. I just want to walk through the accounting just a little bit. Dave Nelson had asked a question at the beginning and I want to make sure that I didn't miss something here. As I understand it, if we've taken a hedge position selling our hogs forward, that will be the income price to the Hog Production Group, but it's transferred out at market price, is that right? It's not the lower of cost or market?

The-- Leonard, this is--

Let me put in very simplistic terms, Leonard. Any profit that we make or do not make on our futures positions effects hog production profits. It has zero impact upon the pork processing side. If we sold all of our hogs to a competitor, it would not have any impact whatsoever on our pork processing and operating results.

Thanks, Joe. My-- what I was really going to get to, though, on the balance sheet, you carry your inventory forward cost market. If I understand it correctly, if I have sold hogs forward with a break-even, my break-even is somewhere around $40, $41. If I were to, let's say, go into the market and sold them at $50 and the price is now $52, I still have to mark to market, one, on my balance sheet, but number two, I can't recognize any forward profit until that contract closes.

So I may have a book profit, but it won't show up in inventory, it will only show up in earnings in the quarter in which it's closed. Isn't that correct?

This is Dan Stevens.

Yeah, Dan.

That is. The example that you've outlined there had is correct. I mean, what we're trying to get back to is, really, from a business standpoint, what have we done.

Right. I understand that.

I think you're really only talking about a couple of days, because, obviously, when the livestock is delivered to the plant, it's just a couple days between the time that the animal is slaughtered and processed and shipped. So, really, we're talking about from a business perspective what the impact of the hedges are on the hog production business. But you're right as it relates to the accounting, that it will impact where the-- the timing of the recognition of those profits, but it's only a couple of days on the beginning and end of the quarter.

All right. I'm going to follow up off line because I think you guys have already booked your profits on the hedges, but just haven't recognized it.

Now, if I took a look at the guidance, $90 million, you did $56 million last year in this quarter in the Hog Production Group. Is that the correct number to use? You said you're going do $90 million and you did $56 million last year?

We got the first quarter? Hold on just a second. Dan is looking that up.

Make sure I'm comparing the right numbers. $58.1 million, that's right. We believe the $58.1 million, this year should be about $90 million.

Okay. In fact, it might be-- is that right, Dan?

Yeah, $58 million.

Okay, sorry. $58.1 million is correct.

Now, the meat processing group, from what you have said, they had a loss in pork last year in the meat processing area, and from what I have heard you talk about now, that certainly ought to be profitable.

I can't-- I would not make that statement to you, Leonard. I mean I can tell you today that I haven't closed the books for the month of May, and this is, you know, we certainly don't give monthly profitability. But I'm not sure we're going to be profitable in the pork segment in the month of May.

All right, but last year in the first quarter is what I'm talking about.

Yes, I realize that. May is the first month of this quarter.

Okay. All right.

So to the first month,I can't tell you-- again, we haven't-- I'll have the numbers at the end of this week, but I can't tell you we're going be profitable. If I had to do a segment report with pork operating profit for the month of May today, I can't tell you that's going be profitable through the month of May.

Yeah, but you-- (inaudible). You lost $20 million last year.

Yeah. I think your question is, are you going to lose $20 million this year?

Yeah. Right. That's the base question.

I don't know. Joe? You may have a better answer.

No, I mean we keep going over this every conference call. I'm just not going to get in the position of projecting profits, but do I believe that May will be better than May of last year? The answer is yes. But, you know, I just don't want to get into a game of just giving monthly projections, because there are just too many variables that change pretty quickly in this business.

I figured it was worth a shot. Thank you very much.

Next question?

Our next question is from John Feeney. Go ahead.

Good morning, guys. Congratulations.

Thank you.

Just one question for Dan. Your use of, potential use of cash flow, any consideration of, you know, you look at your share repurchase. Has your thought changed around share repurchase or the institution of a dividend at some point in the next couple of years?

Well, I'll tell you, John, we have talked a lot about dividends and we have not instituted a dividend program. We have obviously slowed down our share repurchases, but that really was in reaction to the leverage that was building up on the balance sheet.

Larry and Mr. Luter certainly have their own thoughts, but, you know, at this point, we would like to get the debt to total cap more around 50% and it's still a little bit above that. So we're managing the balance sheet judiciously at this point.

So I guess, then, the debt repurchase is still the number one use of cash flow right now?

Yeah, that's-- that depends upon whether any acquisition opportunities present themselves in the next six months, and we just don't know whether that will be the case or not be the case.

Okay. And just one question for Larry and Joe. You know, looking at the cycles you've seen, I mean, clearly we're approaching, hopefully it's not a peak, but it certainly seems like we're approaching a peak very closely right now. How long would you expect-- you know, traditionally we've stated peak profitability, just speaking of hog production for the moment?

Well, let me-- there are different dynamics working today than any time since I've been in the business. This is the first time where I'm seeing the hog slaughter rates go up and prices go up at the same time. That has never happened in my career until this year. That's number one.

But the-- the thing that I think will-- is more positive than any single factor in my judgment, in addition to the Atkins diet phenomena, is that we do know that beef supplies are going remain relatively tight for the next couple of years, you know, the cattle cycle. And by those supplies being down, I would not be surprised at all that high hog prices will last, along with the Atkins diet, high hog prices will last longer than what we have seen historically. The level of hog prices for the last couple of months, quite frankly, have just astounded me. I just, you know, did not believe it would happen, but it has happened, despite increased slaughter rates.

So, you know, here again, I'm sorry I can't be more definitive, but it appears that the demand for pork is very good and I do not see any expansion in hog herds. In fact, we are seeing some sow liquidation and all of this points to perhaps a much longer, higher hog cycle than what we have seen historically.

Just as a quick follow-up Joe, have you given any-- if that's your outlook, have you given any, and others in the industry are not adding production, are you giving any thought to expanding production?

Well, I mean last year when hog-- when we were experiencing losses in hog production, we did what we have done historically and that is buy assets when the industry is-- when that industry is depressed. We bought a fairly sizable hog operation in the southwest called Byalls (phonetic) and we bought an operation in Colorado, which was right next to one of our operations in Colorado, so, yes, we expanded in the last 12 months.

The total number of sows in those two operations, Larry, were, what, 45,000-50,000 sows, was it not?

Yes. But I think the question he is asking, which is whether we're going to add new capacity.

The answer is no. We are not adding new capacity. In fact, we have reduced capacity in a few areas where our costs were higher than-- we took out some capacity in operations that were high cost in the last year also. We want to make sure that we are the low cost producer and that-- we are the biggest, but big is not what we are-- is not our goal. Our goal is to be the low cost producer, and as a result, we did take some production out last year in some farms that were high cost.

So, I think the point, Joe, I think that's our point to you guys, is we're not adding capacity to this industry. If anything, we're taking capacity out of this industry, even at these prices.

That's correct.

Excellent. Thank you, guys.

Our next question is from Bill Chappell. Go ahead.

Yes. Two quick questions. One, on the bacon strategy, can you kind of expand what you're seeing there, to expand on that, and, you know, what we should look like going forward in terms of increased productivity? I mean, where will we start to see that, when will we start to see that hit the P&L?

And then also, Dan, a quick question on the interest expense going forward. I think I'm right in saying you got a lower borrowing expense base order kind of a trailing four-quarter EBITDA. What should we look at going forward on a kind of an annualized or even next quarter interest expense? Thanks.

Bill, let me take the second part of your question first. You're right that we do have a lower borrowing level. So, yes, and we have the impact of the bridge financing and the amortization of those fees in the third and fourth quarter. So if you take a look at kind of our ongoing, or go-forward interest costs, you probably would want to reduce that $34 million by at least $7-8 million. Now, that is assuming that interest rates obviously stay the same. About half of our, about half of our debt is floating rate debt.

So, as interest rates move up later this year, obviously there will be a corresponding impact on interest expense.

At this point, perhaps a rate increase should be about $100 million a year.

That's right, yeah, $25-30 million, depending on where interest rates go for the quarter.

Bill, I'll go back and answer the question on the bacon strategy. The bacon strategy is a fundamental strategy. We would rather be selling bacon to our customers than selling pork bellies to our competitors, and it really is that simple. We've got a superior raw material. We've got that product that we can convert into bacon and make a multiple of the margin that we can make off of fresh belly.

But the accounting plan 10 years ago, we continued through the Farmland acquisition to buy more slaughter operations that have more fresh product than we have processed feeds (phonetic) to use that raw material. We've made a decision from a business standpoint that we're going to, we're going to make the necessary production line increases, to increase our capacity to produce both sliced raw bacon and as well, precooked bacon for primarily Foodservice, and we're going be in that business and we're going to be the supplier to these customers. We've got the raw material. We're going to-- we're going to leave the margin at the Smithfield level rather than making minimal to no margin in selling it to our competitors, who in turn, turn it into raw bacon and precooked bacon and sell it right back in the market place, either retail or foodservice, right back against us, and we're not going to allow that situation to continue with our raw material.

Okay. Great. Then just-- I don't know if you have disclosed this, but what percentage of your processed pork is bacon right now?

I'm going-- let's see, it's about 15-16-17%.

Great. Thank you.

Our last question is from Tim Ramey. Go ahead, sir.

Good morning and congratulations. And congratulations, Joe, too, on positioning the Company for these huge profits today with your acquisition three or four years ago. That obviously was quite prescient.

As you talk about moving more into the processed side, that sort of begs the question. Those competitors who are not backward integrated in the business probably should start to have margin pressures and declines, and some of those assets could become available, including more brand names. Does it make sense to forward-integrate through acquisition, or do you think you have the brand portfolio you need to take you where you want to go?

Well, historically, we had rather buy assets rather than to build new assets, and it will depend upon what, you know, what else has become available. We have-- Larry, correct me if I'm wrong, but we have already-- we're getting ready to put in three bacon lines that we ordered several months back and that should be put in in the next 30-60 days. Am I correct?

You are.

And we've got additional lines that we will be putting in various locations to use up these bellies. At the same time, we are looking right now at a company that does nothing but slice bacon, and whether we do something or not, will depend upon what we can acquire that asset for in comparison to what we can build that asset for. So, you know, we're keeping our pallet dry in that respect.

But the window is very, very narrow. When we have this call next year, we do expect to be a net buyer of bellies within the next 12 months. Now, the demand is excellent. It won't be any trouble selling it. It will not be a matter of putting, as I have mentioned earlier, it won't be a matter of putting more bacon on the market.

We're just, you know, we just keeping the green bellies for our own further processing rather than selling them in the market. And we-- and when we accomplish that, then we're going to look hard at hams. But to grab market share in ham, we believe will be a little more difficult than, than bacon, simply because at this time, there is a difference in demand for the two items.

Hams might be an area where you would use acquisition to enter that market?

No. Where we would use-- for instance, we bought Cumberland packing last year. That's basically a ham processor, and that used up quite a few of our green hams. And we are still a net buyer of green ham, I mean, seller of green hams, and next year this time, we will still be a net seller of green hams. But probably next year we'll be telling you that we will be putting in production capabilities to, on the ham side, but we're going to start with the belly side this year and expect to be doing the same thing in regard to hams next year.

And maybe a quick comment, Joe, on fresh pork and Case Ready.

Yes. Well, Case Ready, we-- is basically Wal-Mart today. The other retailers have not pushed into Case Ready as we expected, you know, one, two years ago. And, you know, we paid the price in Philadelphia because that business has not generated the volumes that we were expecting, you know.

In previous comments, I have mentioned many times, back in 1962, we thought that was the year end of the business. We all thought Case Ready was right around the corner in two or three years later. Well, 40 years later, it has come, but it's still not-- it hasn't evolved the way that we expected it. But, so it's-- I can't say that, you know, that Case Ready is something that, you know, it's not something we're overly disappointing, because quite frankly, the margins are not all that great and, and quite frankly, we expect it to tighten up as time goes on.

Thanks much.

We're coming up on the end of the hour. Larry, do have you anything-- do you want to turn it over to Joe?

I think-- Joe, would you like to make a closing comment or myself?

No, I-- you can follow me, Larry. No. I would just say that, you know, we are pretty optimistic of what we can see. If you put all the factors together, we're pretty optimistic next year and, you know, all indications are that next year should be better than this year, and-- but, you know, you know, once again, you know, there is always going be some uncertainty.

I keep going back to what I've said or years. I'll repeat it one more time. If you look at Smithfield Foods in four-year segments, there is a whole lot of certainty When you look at us in four-year segments, and I don't see that changing. We think that we are a, in a very, very competitive position to do very well in the years ahead.

And I would, I would salute what Mr. Luter just said. But I think we have said many times, I've said this to many investor presentations, that I think we try to minimize the down-side impact when the cycle is going against us, and then when the cycle turns, I think we really show the colors of this company. And I think to this point, we've got the hog markets certainly looking very favorable quite a ways out and demand for the product is just exceptional.

But more importantly to me, the base business that this company is growing and the fundamental business that we've got going for us, we've got a $2.5 billion foodservice business underneath of us. We're seeing growth in both the categories that are growing, whether it be precooked, whether it be deli, whether it be foodservice, those speak very, very well to us in terms of building the base for this company going forward.

I think we're a supplier of choice by our customers now who are coming to see us, as opposed to having to chase the business. And I think you're right, Mr. Luter has positioned this company very well to benefit from low-cost production with a substantial base in live production, and we can develop the products to meet the customers' needs. And I think we are very well positioned as we come out of this down cycle into this up cycle. And so while we're giving you some forecast about the near term in terms of hog production further out, we are very bullish on this company.

Thank you, Larry and Joe. We'll call an end to the call. And thank you all for joining us.