Smithfield Foods Inc (SFD) 2009 Q3 法說會逐字稿

Welcome to the Smithfield Foods third quarter conference call. (Operator Instructions) Later, we will conduct a question-and-answer session. As a reminder, this conference is being recorded and being made available for replay starting at 11 a.m. Eastern Time today through midnight on March 26, 2009. You may access the AT&T replay system at any time by dialing 1-800-475-6701 and entering the access code 990972. International participants may dial 320-365-3844, access code 990972. Again those numbers are 1-800-475-6701 and 320-365-3844, access code 990972.

At this time, I'ld like to present Jerry Hostetter. Please go ahead.

Good morning. Welcome to the conference call to discuss Smithfield Foods fiscal 2009 third quarter results. We'd like to caution that you 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 Form 10-K for fiscal year 2008. You can access the 10-K and our press release on our Website at www.smithfieldfoods.com.

Each quarter, there are several analysts waiting to ask questions, as our call ends after one hour. We would like to provide the opportunity to as many analysts as possible to ask questions. And as a courtesy, we request that you ask only one follow-up question, so that everyone can participate. Thank you. With us today are Bo Manly, Chief Financial Officer; Dick Poulson, Executive Vice President; and Larry Pope, President 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 very much, Jerry. Good morning, ladies and gentlemen, and thank you for all listening in this morning. We have reported some pretty sizable losses this morning. The loss from continuing operation is $105.5 million or $0.73 a share, compared with the profit of $57.4 million or $0.43 a share last year. And for the nine months, its $164 million loss or $1.17, compared with $137 million profit or $1.03 last year. These are certainly very big and very stark differences between the two periods. I will try to point out that there is an awful lot of noise in these numbers. And I hope you've had opportunity to look at the impact of significant items that we reflected in the press release, trying to provide to you the information that is the result of a number of actions being taken by the management team in reaction to the markets and in reaction to business. And as part of the strategy we've been executing now for some time.

So, Mr. Manly will be talking to you about that during his report. But it is extremely important that you understand that the $0.73 a share, the loss that we're reporting for the quarter, has an awful lot in it that needs to be considered as you understand and sort of reconcile these results. On an overall standpoint, in spite of the fact that we're reporting a $100 million loss, I'm actually a little bit pleased. The results on much of the business came in better than I thought it would for the quarter. And the parts of the business that we're in a position to manage, I think we are doing an excellent job of and positioning ourselves. As this hog market and this corn market turn in the opposite direction, it's been going for the last year, that we are positioned to be -- to perform very well going forward. And I want to say that at the outset of this.

The big driver of the results, from an operating standpoint this quarter, is clearly the hog production business. As many of you know, who have followed the Company for many years, hog production has carried us for many, many years and has been the shining star for several years. Now, that has reversed, as of last summer, with the high priced corn that we've talked about so many times. And the fact that the live hog market fell las fall, just as we had predicted at about this time last year. I had indicated to you that I was concerned about the number of hogs coming to the market in the fall. And in fact, that did happen. We did have some hedges in place that protected us to some degree but (inaudible) -- a bad decision in hedging our corn, and that looks to have been a bad decision. Although it looks like many, many people made that same decision.

We are feeding through that. I think I did indicate to you, at the end of the second quarter call, that I expected a very rough third quarter. I can report to you today that I think we are going to have another tough quarter, in the quarter that we're in now. As we go through the process of feeding out this corn through the end of the fiscal year, which is what I've indicated on a number of occasions. And that is continuing as we speak. And hopefully, we will work through that by the end of the quarter.

On the meat side, we had a solid fresh meat quarter. It was not good as last year's third quarter but last year was an extraordinary good fresh meat quarter. On the packaged meat side, the business set records. As you look at the earnings from the pork segment and it shows $129.4 million, you have to consider that there's $85 million of the restructuring charge related to the pork group that is in that number. Sim if you add that back, most of that is noncash related to the closing of the six plants that we've announced earlier. It's $214 million, compared with $221 million. And on a year to date basis, that's $369 million, compared with $310 million.

Those are extraordinarily good year-to-date pork operating profit results and I am extremely pleased with that. George Richter and the team and the management changes, we made nearly a year ago, are working out wonderfully. I could not be more pleased with the job he is doing and the job that the operating presidents are doing at the individual subsidiaries. This part of the business, we've been trying to make the change in for several years. Our percent of sales is going up very nicely. And I think that if you take that $369 million, we're on a run rate of $500 million in operating profit from the pork group. And we are beginning to produce the numbers that I've been talking about now for quite some time.

On the fresh meat side, part of the driver of the continued good results in that end is the export business. I know there's a great deal of questions amongst many of new terms of what's happening on the export markets. I can report to you today that the export markets are still very robust, very strong. We have -- from our numbers, we are down 2% for the quarter but that's because we had very large shipments of carcasses to China, as part of their national reserve last year. If you take those out of last year's third quarter and compare that with this year's third quarter, our numbers are up 26%.

And so, the business on the export side of the fresh meat business is extremely good. And it is diverse, it is not into just one market. We've seen big pick-ups in Mexico, which is a market we've not been participating to the same level as others, to Japanese markets, the Korean market, the Taiwanese market, the Australian market, those are all very good markets for us.

As well, I know there's been a lot of debate about the Russian market. And the Russian market did cease to order here for a bit of the third quarter. But I can report to you that business is back, although a number of the plants in this country have been delisted. I think Smithfield has about 60% of all the plants that can ship into Russia. So we do have the opportunity to continue to ship into that country and we are shipping in there. We have made a management change there.

In terms of our International group and Jason Richter, who has been in the international department, is running that, reporting to [Phil Defour] our Executive Vice President. And I can tell that team has come together very nicely. And that part of the business is seeing immediate results on the international front. And I am extremely pleased with the job they are doing. We're shipping at record levels. In fact, we would be pressed to ship an awful lot of export product from just the pure logistics. The numbers are really very, very good and I continue to believe that the export markets -- I'll talk about that in my future comments about the future. But the export markets are very good.

I hope you saw that we've recently announced the restructuring of our pork group. That is part of the reason for the results. We have $85 million of charges in there. There will be an additional $30 million, which Mr. Manly will talk about, in next fiscal year. However, in spite of that, we still anticipate improving the bottom line by $55 million next year, in spite of that $30 million. That shows you the speed at which I think this restructuring will start to benefit us at the bottom line. It is something we've been talking about for a year. We will be spending about $53 million in CapEx. We will be installing or aligning all of our computer systems under a SAP platform. And that will help us to get a very good handle on all of our costs and all of our sales numbers. And I think give us the opportunity to manage this business even better.

This year is the culmination of a multiyear strategy. I have talked about this so many times, about the rationalizing of plants. This will move our capacity utilization up from 80% to 90%, which has been our target goal. This will get us to that goal. And I think it will make us a very, very efficient packaged meats processor. As well as the changes we're making at the operating Company level, will make us more disciplined on the sales side. We will not be chasing any low margin business and this will provide us the ability to utilize the plants and only to sell product that we can make something on. I am extremely excited about what I think that can do to the pork segment profitability, even at the levels we're at now.

In terms of the international business, it's a mixed bag. Eastern Europe, maybe to your surprise, continues to perform well and improving. It's a maturing business, it's profitable and it is improving. On the Western European side, we did complete the merger of our Groupe Smithfield and Campofrio. We now own 37% of that company. And that business is not seeing the same type of comparative results. And in fact, theirs is down. They are seeing the impacts of the recession in the United States, that in many cases is as deep or deeper in Western Europe, and it is impacting our packaged meats business. Bob Sharpe, who is the CEO of Campofrio does have a synergy program in place and a cost reduction. Although, in Europe, those things generally take a little longer to get in place and make happen.

Finally, I'll comment on the balance sheet and the financial activities. We have not been resting on our laurels there either. Mr. Manly will spend a fair amount of time talking to you about that. But in summary, we did get our loan amendments -- our loan agreements amended. We got 100% support from our bank group. We have paid down significant debt. We have sharply curtailed capital expenditures and we continue to have very strong liquidity, which provides us the wherewithal to weather whatever storm may be in front of us.

We are keeping an eye on this. And we are continuing to be vigilant in terms of looking at the balance sheet and in terms of managing the cash flows and the liquidity. In spite of the fact that I think we're going into an improving environment for the Company, I am still wary of how this recession could impact everyone, in every industry. And as well, the fact that the credit markets are so difficult to maneuver these days. It's important for us to make this a priority of this Company. With that being said, I'll turn it over to Bo Manly for his comments. And then, I'll give you my comments looking forward after that. Thank you. Bo?

Thank you, Larry. Good morning, everybody. A few quick housekeeping items. First, the third quarter of fiscal 2009, that we just finished, is the 14 week quarter of a 53 week year. Second, the income statement contained in this morning's release has a new line item, other income. This contains the gain on our Groupe Smithfield investment, resulting from our merger with Campofrio, as well as the pretax gain on the purchase of $94 million of public bonds.

During the third quarter, as Larry mentioned, Smithfield made significant improvements to the balance sheet. Total debt was reduced during the quarter by $317 million and reduced by over $700 million since the beginning of the fiscal year. This takes our debt-to-capitalization ratio down to 53%. We maintained an average of over $900 million in available liquidity for the quarter and ended the period with total available liquidity of $960 million. And most importantly, we successfully negotiated covenant amendments to our US and European revolvers through the third quarter of fiscal 2010. I'll provide more detail on this later.

I'm certain that you can appreciate all of the actions we've undertaken in the last 12 months to react to our environment, to improve the balance sheet, right-size our hog farming operations and focus on core business. This culminated with the announcement last month of the pork restructuring plan. Please let me emphasize, the restructuring plan began over a year ago as part of an initiative to improve our overall return on capital investment. Not as a response to any credit issues. The restructuring plan will produce $55 million in EBT improvement, net of expenses, in fiscal 2010. And create annualized EBT improvement of $125 million in fiscal 2011 and beyond. The EPS impact should be about $0.50 per share. The plan will result in a pretax charge of $85 million, or $0.38 per share, after tax, to our third quarter pork segment earnings. Of this charge, $73 million in noncash.

Finally, we will spend $8 million in capital expenditures in fiscal 2009 and $45 million in 2010, associated with the restructuring plan. The vast majority of EBT improvement will come from overhead and SG&A savings in packaged meats. It will not require that we sell one more pound of meat for any greater margin than we have in the past. It's an executable plan, developed from the bottom up, with strong buy-in from all levels of management.

There is a table on page two in this morning's press release entitled Impact of Significant Items. This table contains several adjustments that are of a nonrecurring or special nature and illustrates the significant effect these items have on reported results for the quarter. Reported GAAP earnings reflect a loss of $0.73 per share from continuing operations. After adjustments for these items in the table, earnings per share from continuing operations would be a $0.15 loss on a non-GAAP basis.

Leading this list of special items is the pork restructuring charge of $0.38 per share. The second item is the merger of our Groupe Smithfield joint venture, which resulted in pretax gain of $56 million and $31 million after tax. This is a one-time aftertax improvement of $0.22 per share. This gain represents the market value of additional Campofrio shares received as a result of the merger, less our basis in Groupe Smithfield joint venture. As a result of the merger, Smithfield's interest in Campofrio increased from 24% to 37%.

The one-time gain on Groupe Smithfield transaction triggers a tax catch-up adjustment that lowered our effective tax rate to 19% for the quarter. This tax rate adjustment negatively impacted net income by $20 million or $0.14 per share, based on previously anticipated tax rates. At the end of the third quarter, the value of the Company's cattle inventory at our Cattleco joint venture and our wholly-owned holstein operations was revalued to the lower of cost or market. This inventory revaluation decreased income by $12 million after tax or $0.08 per share.

During the quarter, the Company purchased $94 million of face value of 2009 public bonds in the open market. These bonds were purchased at a discount that resulted in an aftertax gain of $5 million or $0.03 per share. Mark-to-market adjustments related to open derivative contracts negatively impacted the quarter by $56 million pretax and $34 million after tax. This had a negative impact on per share earnings of $0.23. These results were attributed to cash market activities in grain and hogs in future periods. I'll describe our hedging activities in more detail later in the discussion.

In summary, this has been a very busy quarter operationally, financially and emotionally. We are disappointed that our GAAP results reflect negative performance, with a quarterly per share loss of $0.73 and a loss of $1.17 per share for the first nine months of the year. In large part, due to restructuring charges, combined with losses at hog production and cattle feeding. Management believes that the calculation of non-GAAP loss from continuing operations of $0.15 per share, after adjustments, more accurately reflects the performance of the Company. We gain comfort in the fact that the underlying pork operations, particularly packaged meats, are performing well. We believe we will see livestock losses decrease after the fourth quarter, with lower corn and higher hog prices.

In other words highlights for the quarter, we negotiated covenant amendments to our domestic and European revolvers. These amendments were approved by 100% of the members of the bank groups. The new amendments require EBITDA interest coverage of 1.2 to 1 for the fourth quarter; 1.35 to 1 for the first two quarters of the next fiscal year; 2.0 to 1 in the third quarter; and returning to 3.0 to 1 in the fourth quarter of fiscal 2010. The covenant amendment was received for this last quarter but was not necessary. We're comfortable that the coverage ratios contained in the new covenant amendments will provide sufficient headroom as we move to improve profitability for hogs for the first half of fiscal 2010.

We told you these amendments would be expensive and we were right. The agreement calls for a spread increase of approximately 225 basis points, costing $4 million to $5 million more per quarter in interest. We estimate that the total 2010 interest expense will be approximately $235 million. In addition, we will amortize $12 million in bank fees over the next six remaining quarters of these revolvers. Some of you have asked, why we did not restructure the revolver to contain no covenant requirements whatsoever. We believe the amendments negotiated offered Smithfield the most cost-effective and efficient credit facility, given current market conditions. While maintaining the original borrowing capacity of the existing facilities.

For those of you that actually read the Q, you may notice that long-term public debt facilities have an interest coverage incurrence test that must be achieved if the Company desires to issue additional incremental public debt. Let me emphasize, these are not covenants. The Company did not meet this incurrence test at the end of the third quarter. However, the Company has no current plans or need to incur more long-term debt. To the contrary, we've been paying down debt. We could, however, continue to refinance existing long-term debt at any time, if we desire. We anticipate that we'll meet the incurrence test again in the third quarter of fiscal 2010.

The last follow-up item is pension funding. The fourth quarter pension expense is estimated to be $7 million. Funding requirements for the current quarter, estimate, to be $14 million. This is a $24 million savings compared to what we described to you in December. We anticipate that our fiscal 2010 pension expense will be $85 million and our funding requirements will be $74 million. Management is comfortable that we have adequate liquidity to fund these pension requirements.

We are supporting industry efforts to gain regulatory relief from certain funding requirements that provide time for pension asset values to regain recent losses in the market. The the analytic community, to include the "The Wall Street Journal" of Monday this week, has put a lot of focus on pork exports as being a bellwether for future Company performance and that of the protein industries in general. Our export activities in overseas operations provide a unique view of worldwide supply and demand. We see indigenous pork supplies of major countries declining. We see pork production falling in major exporting countries. We believe supplies of beef and chicken, worldwide, are declining as well. Under normal conditions, there are significant indications of future pork export opportunities.

During the third quarter, demand from our export customers was strong. And in certain critical markets, significantly better than a year ago. We sold 70 million pounds of pork carcasses to the Chinese in the third quarter of fiscal 2008, representing 22% of our total exports. These carcass sells helped push our total exports to record levels. Our sales the most recent quarter were off only 2% from record levels of a year ago. More importantly, if you took out incremental carcass trade a year ago, our total sales of base business are up 26%.

Our top four destination countries, China, Hong Kong, Japan, Mexico and Korea, represent 79% of our total exports of base business. These increased between 11% and 75% year-over-year. Even China's base business, without last year's carcass trade, increased double digits. These trends continued through February, with Russia representing 5% of sales and now showing strong year-over-year results. Needless to say, we are pleased with the export numbers for the third quarter, these represent the validation of the relative strength of our export markets. As I indicated earlier, quarterly pork segment, continuing profits were impacted by the $85 million restructuring charge. Accounting for the largest portion of the decline in pork results from $221 million profit in the third quarter of 2008, to $129 million profit in the most recent quarter.

The decline in fresh pork margin was offset by continued improvements in packaged meats. The International segment operating profit declined this quarter by $8 million, compared to the same quarter year ago, due to lower equity of income of both Groupe Smithfield and Campofrio. Losses in the hog production segment increased from $81 million in the third quarter of 2008, to $254 million in the quarter we just finished. Hog raising costs increased from $49 per 100-weight a year ago, to $62 in the third quarter of 2009. Live hog sales increased from $37 per 100-weight a year ago to $40 in the current quarter just ended. We expect our cost of production in the fourth quarter to be comparable to cost in the third quarter.

Other segment income fell $16 million to a loss of $9.5 million, compared to the third quarter of fiscal 2008, due primarily to writedowns and losses on cattle inventories. Cattle inventories declined from 680,000 head at the beginning of the quarter, to 280,000 head to the end of the third quarter, dramatically reducing our future exposure to the cattle market. We project we will sell down cattle inventories to 65,000 by the end of the fourth quarter.

The results of the corporate segment for the quarter were flat compared to a year ago. Selling, general and administrative expenses were $202 million in fiscal 2010 third quarter, compared to $238 million in the year prior or a decrease of 15%. The reversal of bonus accrual accounts for the largest share of this decrease of expense. On a year-to-date basis, SG&A expense declined 3% compared to a year ago, as decreases in compensation more than offset the extra week, higher labor-related litigation costs and current foreign currency losses.

Interest expense for the third quarter was $58 million. $5 million more than the same quarter a year ago, despite a lower rate for the quarter applied to a smaller borrowing base. The 14th week added over $4 million in interest expense. In the third quarter of fiscal 2008, we reduced interest expense $10 million as a result of classifying the beef group as discontinued operations. We expect fiscal 2009 full-year interest expense to be $215 million and $235 million in fiscal 2010. Losses from continuing operations for this quarter included a pretax hedging loss of $13 million. This included the mark-to-market loss for the quarter of $56 million. For the nine months year to date, we have a pretax hedging gain of $29 million.

In our last conference call, we told you that we had established forward grain positions last summer that locked in our ability in corn costs through the end of this fiscal year at about $6 a bushel. These positions roll off in this current quarter, providing relief but this will still cause our grain costs to be above our current market through April.

Turning to the balance sheet for a moment, we reduced our debt, capital leases and notes payable to $3.2 billion at the end of the fiscal third quarter of 2009, from $3.9 billion at the beginning of the fiscal year. These reductions reflect management's continued effort to improve balance sheet through asset sales, aggressive management of capital expenditures, issuing equity and early repayment of long-term debt. Working capital decreased $673 million since the first of the fiscal year, principally due to the sale of $518 million of beef group current assets and the sale of $98 million of holstein cattle inventories. Year to date depreciation through the end of the third quarter was $207 million, compared to $194 million for the same period last year. We expect depreciation to be approximately $270 million for the full year and anticipate depreciation for fiscal 2010 to total about $265 million.

The Company's efforts to put constraints on capital spending since January of 2008 is having a significant impact. For the third quarter, capital expenditures were $40 million and $154 million for the first nine months of this fiscal year. This represents more than a 50% decrease in capital expenditures for the first nine months of this fiscal year compared to last year. We anticipate that we will have Cap Ex of approximately $200 million for the full year to include $8 million in restructuring expenditures. This compares to an estimate of annual depreciation of -- this compared to an annual depreciation of $270 million for this year and $460 million in capital expenditures in the last fiscal year of 2008. We will continue to tightly manage total capital expenditures in fiscal 2010 to remain below next year's depreciation. We will start the new fiscal year with significantly less carry in CapEx to include restructuring costs compared to this year.

The tax rate for fiscal 2009 third quarter is 19%. For the full year, we expect the effective tax rate to range between 28% and 30%. We project the fiscal 2010 tax rate to range between 36% and 38%. The Company has reduced total debt by $723 million since the beginning of the year. This has brought the debt-to-capitalization ratio down from 56% to 53% at the end of the current quarter. We reiterate our goal of a debt to cap ratio of less than 50%.

As we indicated earlier, we're in compliance with all covenants. We project to be in compliance with all the newly negotiated revolver covenants through the maturity of the facilities. The weighted average basic shares outstanding for the third quarter was 143.6 million shares, compared to 134.3 million shares outstanding in the same period a year ago.

In summary, this third quarter and the last nine months were the most difficult in Smithfield's history. This is clearly the bad news. The good news is, we had positive cash flow from operations for the first nine months. We continued to hit record results in packaged meats. We've slashed CapEx and are maintaining spending discipline. We've sold noncore assets to pare down debt and continue to look for additional noncore divestiture opportunities. We've paid back over $700 million in debt and are committed to balance sheet improvements. We've maintained a robust level of liquidity, ending the quarter with $960 million in available lines of credit.

We've secured new covenant amendments for the four quarters coming up. While hog losses will persist through the fourth quarter of fiscal 2009, losses are projected to decline as we move into the first half of fiscal 2010. Finally, we've initiated a pork restructuring plan, which will enhance annual EBT by $125 million. We expect dramatic improvement in performance as we move past the fourth quarter of this year and into fiscal 2010. I thank you very much for your attention. I'll turn this back to Larry at this time. Thank you.

Thank you, Bo. As you can tell, Bo made a very thorough discussion of our -- many of the financial information that many of you look for and there's an awful lot there that you have to digest. And I think he's done an awfully good job of trying to understand that and communicate that to you. We attempt to always be transparent to you as investors.

Looking at the future here, we want to reiterate that I think this is going be a tough fourth quarter. We expect continued substantial losses in the hog production side. And I continue to be very optimistic about what's happening on the meat processing side. This is a trend that just continues to impress me quarter after quarter after quarter after quarter. I think oftentimes of these guys, we have conversation internally. What should we do now? What should we do next? And as I look forward, I think about; What would I want the future to be, in terms of how we could change and what would change when the current circumstances? And as I look forward, many of the things that I would want to occur are already occurring.

As an example, we would want lower input cost. As we look forward, the grain markets are going to be below the grain markets they were this past year. And in fact, grain today is significantly below where corn was last time, same point last year. Oil is nearly, which is an ingredient that we use both in our packaging and our plant operations and our trucking operations. Oil, as many of you may know and if you don't, oil is less than 50% of where it was last year at this the point in time. And so, those input costs are going to be down, it looks like, going forward. Beyond that, I would want the pricing of our product to be better. And I can tell you, in spite of the fact that I'm disappointed where the hog market is today relative to our costs, hogs are still significantly above last year's level at this point in time. So last year, we were in the upper 30's, $38. Today we're $44. So we are significantly above.

Last year at this point, I was very concerned about what I thought the supply was going to be. And I think Bo and I commented a number times, how we were concerned about what we thought the fall hog run might do to the markets. And we were right. In fact, we put hedges on, related to the hog production operations, as some protection against that. As I look forward today into the summer and into the fall and going forward, I have a completely different view. If you look at a few of the proteins of all types, are going to be down and down significant numbers. Beef, poultry, turkey and pork are all going to be sizable single-digit numbers down. And that makes me feel a lot better as we look forward into the fall that we are probably not looking at the same type of hog market this coming fall that we saw last year.

Beyond that, I see the export markets continuing to be open. And the competition that we might have from other countries, including those in Europe and in Canada, are simply having sizable cutbacks bigger than we're having in this country. So the opportunities for us to export into countries that routinely buy from international markets, are going to be available to the United States, more so than other countries. And our product is cheaper. We still have a very significant competitive advantage from a pricing standpoint. All of that leads me to say that the future is going to be better than the past. And I feel comfortable with that statement. The product we are killing at record levels or have been until very recently, when the kill levels have dropped off in the last five, six, seven, eight days. And we think this is a trend that will be -- that will continue even deeper, as we go further into the spring.

The product is not backing up in the freezers. We are continuing to move all this product. The export markets look open, look fine. Our international department, although we can only see four to six weeks out into the future, all signs point to that the export markets will continue to be there, in spite of this credit crisis. And so, that being the case, it looks like there's going to be markets available. We're going to have a declining cost structure and improving pricing structure. And that makes me have an awful lot of confidence about where next year is going to be, in spite of the fact that the next -- this fourth quarter is still going continue to be saddled with this high priced corn going through the P&L.

That's how I see it. I think we have a bright future. Our balance sheet is fine. We've got our loan agreements renegotiated. We've got plenty of money to pay the bills. And we've got the ability to run this business the way we want to run this business. We are not being restricted in any way by our banking organizations. And so -- now, we are making conscious decisions to be pretty responsible in that. And we are managing CapEx. And as Bo made the comment, we're going to spend $50 million on this pork restructuring plan and still anticipate having capital expenditures next year, significantly below depreciation. I think that's good stewardship of the balance sheet. And we're very conscious of that. So, we will not lose sight of that going forward. With that being said, we'll open it up for questions. Jerry?

Operator, we'll take the first question, please.

We'll go to the line of Ken Goldman from J.P. Morgan. Please go ahead.

Good morning.

Hi, Ken.

I think, as you guys are aware, you have addressed it a lot, the covenants are on investors' minds. Can you -- I know you don't give particular guidance but you're halfway through the fourth quarter. You mentioned it would be "tough." How tough would it be? Would you be disappointed if you lost $0.75 or $1?

I'd be disappointed if we lost anything but I think we're going to have continuing hog losses. And I think we're going to have nice pork profits, Ken. I don't know that -- we don't give guidance but I think that it could be a -- I think we will have a loss of some size. I haven't done the math on that but that's possible.

Well, let me ask it this way then and this will be my follow-up.

These cut outs change every day. My goodness gracious, we were losing $15 a head at the beginning of this week. And we're probably going to end the week at -- it won't be break even but we'll probably cut those losses in 50% or 2/3. And when you're killing 120,000 hogs a day, that makes a big difference in the P&L. Every single day, that's how fast this business changes.

And I appreciate that. So, let me ask it this way. So far, given what you've seen in the quarter, do you think that hog production margins will be similar to what they were in the third quarter?

Yes, I do. That part, I do think, is true.

Okay. That's helpful. Thank you very much.

Thank you. Our next question will come from the line of Christina McGlone from Deutsche Bank. Please go ahead.

Thank you, good morning.

Good morning.

Larry, you sort of addressed it. My question is around pork processing margins. They've been very negative lately and then, recently improved somewhat. But mainly, it seems like because the packers are pushing back and paying less for hogs. So I'm curious, what the sustainability is here? With pork processing margins still negative, if we'll see slaughter pull back even more? And what does that mean for hog futures in the outlook?

Well, I think two things are going to happen. One, I think that you're going to see less hogs available to market. So that's going -- there's going to have to be cutbacks because there's simply not going to be the hogs that are processed. And if you've seen any of the information out there, it says that we're going to be down 100,000 to 120,000 or 130,000 hogs a week. So, we think we're going to have 4%, 5% or 6% less coming to market. So, that's going to -- so I think that the hog market is going to move up as a result of that.

Now, the question is; Are the meat cuts going to move up with that? Are we going to have red cutouts? I think it's as simple as that. We I think that we do see and at least our sales organization is telling me, that they think they've seen the bottom of the meat pricing. And that they think the meat pricing is going to move up nicely from here. I'll wait and see that. That's why I just made the comment to Ken. This fresh meat business moves back and forth very rapidly but many of the cuts, like pork bellies and hams, are extraordinarily cheap. And that helps us on the export front, in a big way. But those markets have got to move up. And packers are going to be forced to move pricing up because I think the price of hogs is going to go up, whether they like it or not.

Okay. And my follow-up is, you talked -- you said nice pork profits in the fourth quarter. So even with the negative cutout, you're still able to generate nice profits in that segment? How come?

Our packaged meats business. I think I must make this speech every single time I speak to any analyst group. Everybody only focuses on the corn side and the hog side and the fresh meat side. My goodness, guys, we have a giant packaged meats business that we've been focusing on now for a couple of years. And as I made the comment in my opening comments, if you look at our pork segment numbers, we're $369 million in nine months. We're tracking at a $500 million pork segment operating profit, which is the result of the improvements that we've made in packaged meats. And that's where our restructuring is focused, as well, which should generate another $125 million a year in that. So my point would be, it's going to be from the sales of ham and bacon and sausage. Those parts of the business are doing extraordinarily well. In fact, we had record profits for this quarter there.

Okay. Thank you.

You're welcome

Our next question will come from the line of Christine McCracken from Cleveland Research. Please go ahead.

Good morning.

Good morning, Christine.

Larry, you're very optimistic on the outlook for hog markets. It seems over and above kind of what we'd expect seasonally. And I am a little surprised, only because while Smithfield has done a good job taking down production, the rest of the industry hasn't really followed. I'm just curious. do you think, at this point, that the industry still needs to take out capacity? Or do you think regardless of whether or not anyone acts, that we've seen enough of a herd reduction to see a normal return to profitability in hog production?

Christine, I absolutely think, and I hate using the word "absolute," I think it's an over used word in the English language, but we absolutely need to have some further reduction in the supply. I think we've taken the lead here because we've been the big packers -- or the big producers have been criticized for not taking the lead. We did that. We announced 5% in February. We quietly increased it to 10% starting in June. And I was hopeful that some others in the industry, and you get some anecdotal information, but the data doesn't show it at all. In this country of origin, labeling is stopping the Canadian hogs from coming across the boarder. That's the only thing that's helping.

So, to make -- to give you the short answer, we need more supply contraction. And even with these big losses, it does not seem that the producers out there have heard this message or at least adhering to it at all. I get no feedback from much of anybody that they are still making much of a cutback. And so I know I'm bullish, only because I'm coming off such a terrible base. I do not think that hog production is going to be a big piece of next year's profitability. I just don't think -- in fact, I wouldn't be at all surprised if we actually lost a little money raising hogs next year. But I don't think we're going to lose at these kind of levels, this $400 million to $500 million.

I think the loss is going to be radically below that. And I think that the meat business is going to be very good. So, I think the combination of that makes it good for Smithfield. But I'm not that optimistic about the hog side of the business. I am not.

Just as follow-up. In terms productivity, we're hearing reports that there's been significant kind of weight gain tied to weather and some other, obviously, herd improvement practices. I'm just wondering, is that offsetting, you think, some of the cuts that you and others might have made through the year? And is that a possible concern?

It is. I do think that everybody has seen improved performance. We've essentially cured PCV from the herds by the vaccine. And at least in a number places, [PERS] has quieted down, it's not nearly as hot. So, I think everybody is seeing better performance. And I think that is having an impact, Christine, yes, I do.

Any idea how much?

I don't have a number on that. You get all -- you do the talking to people just like we do. And it depends on who you talk to. And there's no data on this.

Great.

All right.

Next question, operator

Yes. We will go to the line of Farha Aslam from Stephens Inc. Please go ahead.

Hi, good morning.

Hi, Farha.

Part of the reason for your confidence in terms of meeting the debt covenants, have you recalculated and excluded more items from that covenant calculation?

We do have two items there in terms of the Groupe Smithfield gain and the beef gain but other than those issues, we've been consistent in terms of the way that we've applied the covenants.

And despite the fact that there's a potential loss in the hog production group going into next year, you still feel comfortable with your fiscal second quarter 2010 covenant?

Obviously, things can change but at the present time, we still have a very high level of confidence that we've got sufficient headroom to make all of the covenants that we've renegotiated in this last round.

Okay. And that assumes current market conditions or does that anticipate any improvement in the pork margin? Kind of how are you thinking of that?

We basically -- we have our typical seasonal trends baked into our forecast, which is going to mean that we'll be tighter in margins on the processing side this summer. With slightly -- with improved margins on hog raising in the summer, as prices goes higher. And then, we start to pick up profits in the meat processing side in the fall. So, we've got our normal seasonality into these forecasts.

Thank you.

And I think, Bo, we're using the futures market as a --.

Yes.

We're using the future markets, those that are out there to us, the best indication we've got of where the market is going to be.

That may get tweaked $0.50 a 100-weight at most, plus or minus on the futures market, is typically how we approach it.

Okay. Thank you very much.

Good

Thank you. Our next question will come from the line of Heather Jones from BB&T Capital Markets. Please go ahead.

Hi, guys, it's actually Brett Hundley on behalf of Heather. How are you?

Your voice has changed. (Laughter).

How is everyone doing? (Laughter).

We're in a recession.

A quick question for you on the debt paydown. Can you share with us if that was indeed the October '09 notes, or can you share with us what debt positions were taken out during the quarter?

They were all in the 2009. We kept everything that would be within a 12-month maturity.

Okay. I appreciate that.

We had plenty of liquidity and we knew we were going to have to pay back those bonds anyway. And they were selling at a deep discount. So, we just anticipated those notes that were coming due anyway in October and put the money in the bag.

Perfect. I appreciate it. And then, this is more of a detail as follow-up, if you don't mind. Just looking at the mark-to-market adjustments during this quarter, do you recall, if last year, if those adjustments were included or excluded from the numbers?

They're included.

Okay.

They're always included.

Okay. All right. I appreciate it.

Thank you. Our next question will come from the line of Ken Zaslow from BMO Capital Markets. Please go ahead.

Hi, good morning, guys.

Good morning.

In terms of the hog raising costs, I know it was like $62 per head. Once the lower corn goes through, what would you expect the hog raising cost would be, order of magnitude, next year? Is it going to be down $5 or $10, how do you think about it?

I think we are going to be, again, sequentially ratcheting down, in sort of the upper $50's I think to the, actually mid, lower $50's to the low $50's. So, if I had to say where it's going to be, I think we're going to be closing in on, Bo, maybe have better information, $0.07, $0.08 or $0.09 below that for the year.

We're looking at, over the fiscal 2010, to lower that in the neighborhood of $0.09 to $0.10 a hundred ways, Larry.

Okay.

And my follow-up, which has nothing to do with my first question. Is, in your commentary you did say that the pork packer -- the pork margins could potentially continue to expand into '10 because of restructuring. Your margins, excluding the restructuring charges were 7.6%. So you're reaching your stride here and this is kind of more of a sustainable level for -- on an ongoing basis? Is that out you think about it? Because it would be pretty amazing.

Well, I think you did -- I did the math and I agree with that math. But I think you are looking at the third quarter, which is historically the very best quarter in terms of the packaged meats business. On a year-to-date basis, if you make the adjustment, we're at 4.6%. And I think if you go back and look, you'll see that number has been moving up and up and up. I don't believe, next year that we will be at 7.6% for next fiscal year. That would be --.

But what I'm asking -- I am sorry. Yes. But for the year-over-year, you're thinking your margins can still -- yes, exactly, the seasonality. But taking the quarters together and doing it on an annual basis, do you think margins can continue to expand?

Yes, I do.

Great.

Yes, I do.

Fantastic. Thank you.

Thank you. Our next question will come from the line of Reza Vahabzadeh from Barclays Capital.

Good morning, it's Reza Vahabzadeh. Bo, can I just get details on the total debt and any cash you might have on balance sheet, as of the end of the quarter?

Yes, let me pull something out here.

And then, while you're doing that, Larry, based on the comments you just made right now regarding raising costs, does that mean that you kind of need $48, $50 on a live hog basis to break even going forward, as in fiscal '10?

Reza, we're going to need more than $50 raising costs next year to break even. Because you're talking about the -- we always think of things relative to the ISM market. We're going to need -- we get about $1, $1.50 to $1.75 - 100 weight above that. We're going to need a little more on that on average. I'll tell you that.

So like low $50's basically?

Yes, low $50's, very low $50's.

Reza, to respond to your first number, we had $91 million of cash on hand at the end of the quarter. And our total debt to include notes payable, et cetera, was $3.158 billion.

Okay. And the revolver -- the total liquidity that you referred to in the press release, that includes the cash or excludes it?

No, that is merely available credit lines, no cash.

Okay. And then lastly, the LT and EBITDA in your bank credit agreement is what number? Do you have it handy?

It's a very complex calculation. We could probably get into it later but it would take more time than we have to explain it on this call.

Thank you.

Thanks, Reza

Our next question will come from the line of Bill Chappell from Suntrust. Please go ahead.

Good morning.

Good morning, Bill.

Just kind of a bigger structural question. The last nine months have been certainly challenging but you've had some extraordinary moves in terms of divestitures, restructuring, what have you. As you look forward, is there are anything left to do or that you could do if the next nine months are equally as challenging? Or have you kind of thrown everything and the kitchen sink at the problem to date?

No, we have not thrown everything. And I will tell you and I think Mr. Manly will confirm that, that I have a conversation with this organization, we have a half a dozen other things that we are looking at. I'm not going to disclose those on this call because we may not do any of them. But we are not closing off because I am optimistic that next year is going to be substantially better than this year. But who in the world knows? The credit markets are closed. This recession is deepening, not seeming to bottom out. And demand for our product is still very strong both domestically. Most people think that's is not. Our demand is strong. Even our food service business, which surprises most people, was actually up for the quarter. We actually -- and that's because we've got such a diverse customer base, that it went from white tablecloth to the Subways and the McDonald's, the quick service people. But we've got lots of options.

I have to say as -- I couldn't have taken on the role of CFO in a much more interesting time than I have. But I've certainly learned something in a very short tenure and that is, you'd better have a contingency plan for your contingency plan to your contingency plan. So, yes, we do have more options but as Larry said, they're options.

Thanks, that helps a lot.

Thank you. Our next question will come from the line of Carla da Silva from J.P. Morgan. Please go ahead.

Hi. I have one numbers clarification question and one more business question. On the numbers clarification, the $84 million of restructuring, is that all included in cost of goods sold or how much of that would be in S&GA?

It's in all costs of goods sold.

Okay. And then, the cattle inventory writedown is in the other line -- the other income?

No.

No. It's -- we actually have two areas where we get impact from cattle. One is through the joint venture and through income of affiliates. And then, the second runs through cost of goods sold.

Because I think if you look at the press release, I think that you'll see back where Mr. Manly has done the reconciliation of the income in equity of affiliates, you will see that there's -- it is called Cattleco of $10.9 million. Is that right?

Right.

So, that's coming through that line and the rest is coming through cost of goods sold.

The rest of the $18.8 million charge?

That's correct.

Okay. Great. And then, on the business side, can you say at this point, when you look at what -- how much you sold into food service versus retail. How would that vary -- and I'm assuming it's all pork processing. I'm wondering how much of the packaged or fresh is food service versus retail? Can you break it out by the two different groups?

We're about a 75% retail, 25% food service company. So that's the big -- the macro. I don't have the numbers in front of me telling you what is the breakdown between fresh meat and packaged meats between food service and retail but that wouldn't be --.

We can get that number for you.

That's right.

But I don't -- it's a mix in terms of pork chops versus bacon and it is pretty complex number but we can get that to you.

Why don't you make a note to call Mr. Manly back offline here and we'll provide that to you.

Okay. Great, thanks a lot.

Thank you. Our next question will come from the line of Vincent Andrews of Morgan Stanley. Please go ahead.

Thank you. If I could just ask, Larry, it sounds like you're saying that hog raising may not be profitable in fiscal 2010 at all, which would be consistent with there we see the cash curves. But what ultimately, is going to get this business back in the black? And it sounds like it would have to be a combination of production cuts and some help on the input side. And if you're the only one really cutting in a meaningful way right now, what gives you the confidence that there will be further industry production cuts, especially if we're going to ultimately get back to near break-even or cash flow break-even levels?

Well, I will tell that you I am -- I do have some concerns that this -- I don't -- that corn is not going back to $2.50. I think the reality is, we've got to live with higher-priced corn and this has got to be reflected in live hog prices. The good side is, no one is in this business like cattle raising, as some sort of a lifestyle. Everybody is in the hog production business to make money. And if they're not making money, they're not going in this business in the long haul because the banks aren't going to allow it.

This business has been profitable forever. In fact, it's been a very good business to be in. And this industry does have a tendency to adjust. And I think that it will adjust. I am not sure that it's going to adjust this coming fiscal year. It's not. Well, it might but it's not yet. And so, I am a bit concerned that we're going to lose money next year. And I hope that this thing will have moved -- there will be some more reductions, as people continue to lose money potentially next year. And this industry will right-size itself. But other side is, demand might come back. We are looking at lower demand. And if that returns, it will be back but it is an issue. I think you raise a very solid question is that; Is the profitability of hog production going to be as good going forward as it has been in the past? And that's a question that we're asking ourselves.

Okay. Thank you. And maybe as follow-up, Bo, this 1410 tax credit -- or the tax hit. I just want to understand. Your release says that it lowered your tax rate.

Yes.

And I get it, that it's incremental taxes that you had to pay. But how did it lower your tax rate?

You have to understand that we're in a loss period. So the tax rate, actually, a higher tax rate benefits you because, in theory, you're getting money back from the government on a negative tax to offset your loss. So, if you actually have to pay taxes, it will then mathematically lower that rate. It's a mathematical calculation associated with the fact that we're losing money and everybody is making money and put those types of parameters on it. So, it's a function of where we sit, actually, in an unfortunate situation where we're losing money.

Okay. That explain it is. Thank you very much.

Operator, there's time for one last question, please.

Yes, then our last question will come from the line of Anne Gurkin from Davenport. Please go ahead.

Good morning.

Hi, Ann.

Just want to follow-up. There was some discussion in February about your commitment to being vertically integrated and you were reviewing maybe various facilities. I was wondering if we can get an update on that?

Ann, I'm missing the question. Bo, did you get the question?

And I'm wondering whether it has to do maybe with some conversations that we've had at CAGNY over the past 30 days. But in terms of vertical integration relative to the extent of vertical integration, Ann?

That's correct, yes. Your commitment to being fully vertically integrated or perhaps keeping all your facilities that maybe are selling product outside of your internal systems?

That is -- Ann, as we just made the comment a few minutes ago, that is some of the options that we are looking at in terms of whether -- one of the things that I am taking a very serious look at is, whether we should be raising hogs just to raise hogs to sell to somebody else. And so, we do have operations, as you know, in Utah and in Texas and in Oklahoma and in Colorado that sell hogs to outsiders. And we're looking into whether that's a business we want to be in. So, I think that's the question you're asking. And I think as we just indicated, we are looking at options and that's one of the things that we're talking about.

Great. And then, second, if we could just follow up. I believe you all recently had a Board meeting and perhaps your Chinese investors were over here. Any update you can give us on kind of your relationships with COFCO and the Chinese investment and that kind of stuff?

They've got an investment. They're not increasing their investment. They did have -- their Chairman is on our Board. They brought three of their management people with us, where we had some further conversations. We continue to have a very cordial relationship. We continue to do business with them. We're talking to them, I would tell you, frequently, Ann. Now, let me clear the air. We do not have any deal for any additional carcasses into China and I do not expect any. Although we are doing business with them on meat that we -- primal cuts, that we have not routinely done business in China. We are doing primal cuts meat with those folks and so the business has grown with them. We are building that relationship and it is growing and it is cordial.

Great, thank you, Larry.

You're welcome.

We appreciate your time and interest today. Thanks for joining us and have a good day.

Thank you. And ladies and gentlemen, that does conclude your conference for today. We thank you for your participation and for using the AT&T executive teleconference service. You may now disconnect.