Smithfield Foods Inc (SFD) 2011 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by, welcome to the Smithfield Foods fiscal 2011 second quarter earnings call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session. Instructions will be given at that time. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to Keira Lombardo. Please go ahead.

Good morning. Welcome to the conference call to discuss Smithfield Foods' fiscal 2011 second quarter 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 Company's 10-K for fiscal year 2010. You can access the 10-K and our press release on our website at www.SmithfieldFoods.com. On our call today are Larry Pope, President and Chief Executive Officer, and Bo Manly, Chief Financial Officer. This is Keira Lombardo, Director of Investor Relations. Larry will begin our call this morning with a review of operations, followed by Bo, who will review the Company's financial results. Then Larry will provide our outlook for the future, after which the line will be open for questions. Larry?

Thank you very much, Keira, and thank you ladies and gentlemen for dialing in. If I forget to say I it, I hope you had a nice Thanksgiving and we wish you a Merry Christmas as we approach the better part of the holiday season, and don't forget to buy your Smithfield ham.

Boy, what the difference a 2% drop in the production and hog raising around the world does for this business. It is truly a different day in Smithfield and I am thrilled to be here this morning. I turn the clock back some two years and we were reporting to you a $55 million loss as income from continuing operations and then last year we were reporting a $73 million loss from continuing operations. And this morning I am extremely pleased to report to you on over $200 million profit from continuing operations. This business has turned and turned very hard.

I'm sure you saw it's a record second quarter, as well importantly, it is a record quarter for the Company and total regardless of any quarters it is something we are extremely proud of, although there is still substantial opportunity in here. I must tell you that as I reflect over these last two years we had a good strategy, and we were trying to implement and roll that strategy forward as we have from two years prior to that with our packaged meats as we struggled with the losses on our live production side of business. We knew that the meat business was being propelled forward in a big way. This is our third year in a row that we are reporting record quarter in that segment of the business.

Even in spite of the fact that live hog prices have moved up dramatically, even in spite of the fact that the raw material costs associated with the manufacturing of these package meats have moved up dramatically, we are still producing very good numbers. No question this quarter is driven by strong profitability on the fresh pork side of the business. The rest of our competition has reported their numbers. You have seen it's an industry-wide situation that we are all benefiting from these reduced supplies and the opportunities on the export markets have been very good for the industry, more so for the industry than for us.

We shut down the Sioux City plant here and our available raw material product that go in the export markets are not as big as they were in the past but that continues to be a very good part of the business for us. Thank goodness for a weak dollar policy coming out of Washington, DC, and from our standpoint, I don't see anything on the horizon that will change that. Think you can see that freezer stock levels for both pork and beef are down significantly. That shows to the markets that they were cleaning up every day. That's what we refer to in the industry as cleaning up, as we kill these hogs, we are not putting the meat in the freezer, it is moving out. The demand is there is for the product, domestically and on an international basis. That's helping to keep this product priced where we can all make pretty solid money on the fresh meat side of the business.

Chicken freezer stocks are up. I'm sure you know that and that's a bit troubling to all of us. That's just one piece of the business, from a beef and pork standpoint it's fine. The other side, it is a sequentially better quarter than the first quarter and that again is something we were extremely proud of.

Turning to the processed meats and packaged meat side of the business, I'm pleased with those, in spite of the fact that our management teams are not. There is once again a sequential improvement in our processed meats numbers, both dollars and on a cents per pound basis, in spite of the fact that much of the raw material that makes up these processed meats was up dramatically 30%, 40%, 50% and 100% and some of you know that pork bellies went to $1.50 this summer, which is more than historic levels, and in spite of that, we continue to maintain pricing discipline across that part of the business.

We did lose some volume. It is down 6% for the quarter. That is all in the retail segment. It is largely the result of us maintaining our focus on margin and pricing discipline, and we missed some of the cheap sale opportunities that were out there. We may have missed some, and maybe should have priced it a little closer. I wouldn't have been reporting to you $0.12, and we were focused on getting that volume back.

But I think we have set a new paradigm for this organization in terms of where we will price our product and what we will sell and how we will maintain the margins. This is not a new dynamic. This is just the continuation of this pricing discipline that the management teams of these operating companies have been putting in place now for several years.

This is the third record quarter in a row for the pork group. I think I can, with a fair if not high degree of confidence, say the pork group will have another record year as we go to the second half of the year into fiscal 2011. I think the pork group at end of that will report another record year. On the live production side of the business, you see the numbers are modest. That is again a sequential improvement over the first quarter, second quarter was better. It's still just modest numbers. And that continues to be the part of the business where we are focusing to improve our cost structure there.

We have announced a cost improvement plan in place. Mr. Manly will talk a little more about that. But the fact is that's just on the beginning stages of starting to impact this bottom line positively. Bo and myself were in North Carolina at our farming headquarters, just day before yesterday. And spent the entire day on this part of the business understanding how to improve and where this cost improvement plan is going.

We were having conversations in this part of the business unlike any I ever had in my 20 years. We are looking at whole new concepts and a way to make this business more competitive. We know we have got the challenges of higher priced grains and are dealing with it. I'm very confident that the $100 million that we think this cost improvement plan will benefit the bottom line. I'm confident that our live production people will get that number. It will take a little time, but we will get it.

We do have, this sort of ties between here and my forward looking part of the discussion. We have continued to use the commodities market to maintain our cost structure and to take advantage of opportunities to lock in grains where we thought it was appropriate. We have been moderate in our hedging positions. And we are using that as a tool to maintain our cost structure. It's something we think we will talk about as I go and look forward. The fact is, the hedging program in our use of the commodities market is an integral part of our managing of our cost on the live production side of the business.

Internationally is largely a Poland and Mexico story, Spain has gotten a little bit better. Romania continues to be an opportunity although we were profitable because of hogs. What's so surprisingly unique to me is the thought that for three or four or five years, we had a discussion internally about how much Poland was going to lose for the month, lose for the quarter, and we routinely would lose $1 million to $1.5 million a month.

Now that Poland makes only $2 million or maybe even $3 million we look at ourselves and I call Darek and say what happened to the month? That's the new plateau that this business has moved to. Conversely, if our packaged meats business is less than $0.10 a pound, we look at ourselves and say we had a horrible, horrible period in spite of the fact in the past, those numbers were $0.03, $0.04, and $0.05. It's a changed and new world in Smithfield. The dynamics have changed. Our whole platform of understanding the product structure have changed.

On the financial side, Bo will speak to that prominently and fully. But we continue to focus on delevering this balance sheet. And improving our overall metrics, our credit metrics and our metrics within the balance sheet as well as our cost of capital. I will just touch on and Bo will give you a lot more detail there.

I think you have seen now that the Butterball business has been sold and closed, and finally we are in the process of finalizing, I think we might have finalized this morning a settlement of the horrific fire that we had a year ago on the Fourth of July weekend for our Patrick Cudahy facility with our many insurance carriers and that was done on a favorable business to the Company and the carriers. I am pleased to say that our carriers understood the loss and are supportive of the Company. And we will go forward on a cordial relationship in spite of the fact that was a very large claim to the industry. And one of the things we were striving to do is make sure we could continue to competitively buy insurance without having to set some new precedent level because of this loss. We have done that, that's behind us and that will settle through the third quarter results.

Before I talk about looking forward, let me turn it over to Bo Manly. Bo, why don't you give them a full update from your perspective?

Thank you, Larry. Good morning, ladies and gentlemen. I'm also proud to report record second quarter net earnings of $144 million, an improvement of $170 million compared to the second quarter of fiscal 2010, and EPS of $0.86 per diluted share compared to a loss of $0.17 in the same period a year ago. This follows record earnings in our first quarter as well.

Net earnings for the first six months of fiscal 2011 were $220 million or $1.32 per diluted share. The drivers of these results were strong domestic and international fundamentals that Larry spoke to. Outstanding earnings in fresh pork and solid package meats performance as well as a significant turnaround in hog production. The results in our second fiscal quarter include noteworthy items affecting pre-tax earnings. These include favorable mark to market derivative adjustments, a favorable adjustment for insurance litigation, charges related to our hog production cost savings plan and losses on early extinguishment of debt. The combined impact of these items is reduction of $0.06 per share from our reported $0.86 to a non-GAAP EPS measure of $0.80 per share.

Strong operating cash flow facilitated the early extinguishment of $204 million of our 2011 bonds during the second quarter. Subsequent to quarter end, we also initiated a successful tender of $318 million of the same 2011 bonds. To date we have retired early, 87% of our 2011 maturity. The early debt retirement resulted in a $7 million charge to earnings in the second quarter. The just completed tender will result in a similar $14 million charge in our Q3. Year to date, we retired over $500 million in bonds and are halfway to our $1 billion debt reduction goal.

Two noteworthy events that have occurred earlier this week that Larry mentioned. First was the closed sale of the sale closed on our Butterball and turkey interest, netting $167 million in cash. Secondly we reached a tentative agreement regarding the fire at our Patrick Cudahy plant on July 4, 2009. Neither of these transactions impacted second quarter results. The fire insurance settlement will likely be a third quarter event, resulting in both cash and a one time gain of approximately $120 million. These events bring both of these issues to a close.

Consolidated sales for the second quarter were $3 billion, an Increase of 11% compared to last fiscal year's second quarter. Consolidated sales for the first six months were up 9% over the same period a year ago. Higher prices across the whole pork chain offset volume reductions in hog production, fresh pork and packaged meats.

A 24% increase in fresh pork unit prices overcame a 13% quarter over quarter decline in slaughter volume, due to the closure seven months ago of our Sioux City fresh pork plant. The Sioux City facility represented approximately 10% of our harvesting volume. The net result was an overall 9% increase in fresh pork sales.

Increases in commodity fresh pork prices helped push packaged meat unit sale prices 19% higher. This drove package meat sales up $150 million or 12% quarter over quarter on 6% less volume. The benefits of our recent pork restructuring plan has allowed us to shed low margin business during this period improving the margin mix, while increasing our capacity utilization resulting in lower manufacturing costs. Hog production sales increased $239 million, principally due to higher prices and heavier carcass weights. We marketed 4% fewer animals as result of efforts to right size our production system over recent years.

International segment sales were flat compared to the same period a year ago with higher volume offsetting lower unit sale-in prices. The total company gross margin was 14%, up from 6% in the same quarter a year ago. The improvement is driven by the dramatic turnaround of hog production and solid year-over-year improvement in the pork group. Consolidated operating income increased from $2 million in the second quarter of fiscal 2010 to $278 million, or 9% of sales in the most recent quarter. The turnaround of our hog production group contributed $273 million to the improvement.

The $78 million quarterly earnings in domestic hog production compares to a loss of $195 million in same quarter year ago. This was driven by an increase in ISM live price from $36 per hundred-weight a year ago to $56 this last quarter. Domestic raising costs were steady compared to a year ago at $53. Profit per head was $18 this quarter. Our forward position in raw materials will keep hog raising costs in the mid-50s for the balance of the fiscal year.

While hog prices fell below break even levels at start of the third quarter, we believe hog production will remain profitable overall in the second half of our fiscal year. The pork group operating income increased $15 million or 9%. The group's second quarter operating profits were $189 million, setting a record for second quarter earnings for the group for the third consecutive year. This achievement was driven by 156% increase in fresh pork operating profits.

The balanced fundamentals enabled the fresh pork segment to absorb a 54% increase in ISM hog prices and produced record profits of $16 EBIT per head. These are exceptional fresh pork results. The best I have ever seen on a sustained basis. It's hard to believe that these margins will not revert back to the norm. The question is what is the norm.

Packaged meat operating profits decline from record second quarter profits a year ago of $129 million to $76 million this quarter. We are very pleased we were able to deliver $0.12 per pound operating profit, the second best Q2 on record despite absorbing record high material prices. Operating profits reflect mark to market derivative gains during this quarter of $21 million, mostly associated with open grain positions.

International operating profits and margin percentage were flat quarter over quarter. Operating results in all countries were profitable. Results in Poland and Animex remained strong, and improvements in Mexico and Campofrio offset declines in Romania. The increase in quarter over quarter corporate segment expenses due to increased pension costs and incentive compensation charges. Equity income and affiliates improved quarter over quarter, led by increased earnings in both Mexico and Campofrio.

Year to date interest expense for the first six months of this fiscal year totaled $134 million. We anticipate interest expense in the last six months of this fiscal year to be $125 million. Depreciation for the second quarter of fiscal 2011 was $57 million. And capital expenditures were $38 million. The tax rate for the quarter was 30% and we continue to project a 30% full year rate as well.

The story of the balance sheet this quarter is liquidity and debt retirement. We accumulated cash over several quarters in the event that we were to be the buyer of Butterball. Once we received notice that we were the seller, that freed up cash to execute the 2011 series bond retirement program. At quarter end, we had available liquidity of $1.333 billion, of which over $400 million was cash. We continued to generate strong cash flow. We will likely continue to look opportunistically at buying back additional debt in the market.

With retirement of 87% of our 2011 bonds, we have no major repayments of long term debt until fiscal 2014. Our significantly improved EBITDA and lower debt levels have dramatically improved our balance sheet metrics. This should be well received by the rating agencies. At the end of the second quarter, we passed both in current test and fixed charge coverage ratios, improving our financial flexibility.

We were very pleased with the results of the first and second quarters. We have rediscovered that it can be fun to be in this business. What gets us really excited is the prospect of the future. The ability to grow the top line and bottom line. The fundamentals are solid. Worldwide pork supplies are in check, offering continued upward pressure on meat prices as we strive to pass through higher price corn and protein raising costs. The hog production group cost savings initiative will enhance earnings potential and the competitive structure of the hog production group. We have also identified mix and yield opportunities accounting to several dollars per head in fresh pork that we can begin to extract.

In packaged meats, we have gotten the operational savings from the restructuring program, and we now endeavor to improve earnings through our new consolidated sales and marketing platform. Finally, I think focus on cash management and debt retirement will move us to our goal of reducing interest expense run rate by $100 million per year no later than April of 2012.

Lastly, I would like to announce the appointment of Tim Dykstra as the new treasurer of Smithfield Foods. Tim has 30 years of treasury experience within the Chrysler-Benz organization. We were excited about the experience he brings to the table and I hope he gets to meet everyone on this call very soon. Thank you very much for your attention. Happy holidays. Now back to Larry.

Thank you, Bo. I hope you gathered the enthusiasm with which Bo made his report this morning. I will tell you that the management team of this organization is flying high, and I'm probably the highest flyer of them all. I sort of ride up and down with the success of this business. When it's bad, I'm a tough guy to be around. When it's good, it's an awful lot of fun to be around me.

I have to tell my one minute story of last night and even into this morning my wife -- I'm preparing for this call only when my wife says don't you have a few hours available to go see an eight-year-old play basketball and I would tell you, I said, tomorrow will be a fairly easy day on an earnings call, I'll go, and last night was a wonderful night for me, and to finalize that I walked out this morning without my briefcase, so I came to this call this morning with absolutely nothing. Not even a copy of the press release. Not much of what I'm telling you this morning is from recall and memory, because I don't have a lot of papers, they are all sitting on my desk at my house.

It's easy when the management team is performing at the level they are and I would be remiss not to make some comments about this management team, who I am extremely proud of. From the pork group team, led by George Rector but it's not just George. George has done a terrific job but he has a team, a newly appointed President of Farmland, Mike Brown. And Tim Shelf running the packing company and Joe Sebring running the John Morrell group.

Those guys and their VPs are doing one heck of a good job. They have very solid management teams. They executed this restructuring almost flawlessly. They went to an SAP computer environment, where many people go through major hiccups. I don't think you heard us one time on the call in the last two years make much reference to the SAP, except that we were getting it done. That is a strong statement about the commitment of this management team, and the talents that are within the IOC structure.

You go to the hog farm operations, we have got equally good talent, led by Jerry Godwin with Terry Coffey in the east and Steve Pullman in the west. These guys are dead on professionals. They are looking at this business in ways that would impress anybody on this call. And they are working so closely with the meat processing side of the business. Both are connected at the hip at this point. Both making the other's business better.

Finally, you look across the little pond called the Atlantic Ocean and Derek Nowakowski, who is running Poland. I mean, is setting new numbers every single time he reports in. And our Mexican business run by Carlos Patron, doing an incredibly good job. All of this, I say this, because many of these foundation points were put into place some time back. And the losses that we were reflecting were the result of just an oversupply of hogs and a grain market that was going crazy on us here. The business has been moving forward. The management teams are deadly solid.

And we were having an investor day on January 18. I would encourage all of those on this call who can come to be there. You will get to meet some of these people if you haven't met them in the past. I think you will be impressed. We are going to spend a good portion of that, discussing with you some of our sales and marketing plans that we don't talk so much about. Again, I think it will be time well spent. We are excited about seeing you. We are excited about telling you about the future of this Company. And I think it will be a day well spent. If you will invest that day to come see us. We may give you some free food at lunchtime.

Now looking forward to the business, the management teams are focused. I think, as Bo said, there is a lot of opportunity in fresh pork. We may not maintain these margins we had last quarter, but we might very well have strong and solid fresh pork profitability for the foreseeable future, well beyond historical levels.

Our packaged meats business, not a particularly good quarter. Not a particularly good quarter. We expect to do better in the third quarter than we did in the second quarter. We are coming into our time of the year. I think that part of the business has a lot of opportunities that we would miss because we missed the sale, or it was priced at a point our competition, that we simply wouldn't take the sale.

Live production, the cost improvement program is going to help us. Grains have stabilized now at a price I don't like, $5 plus corn, I don't like. It does appear at this point stabilized. We have put some hedges in place to ensure that we don't get any runaway costs, in the event these grains run away from us. I believe there is an opportunity for us to buy some more grain at lower level. I believe that's going to happen. But if it doesn't, we still got the opportunity to hedge ourselves that we see it moving away from us, we will hedge it to protect ourselves but we are leaving ourselves opening to buy this grain at lower levels if that happens, which we think is going to happen.

The futures markets next summer are well into the 60s. That does present a profit opportunity for us. So as Bo said, we expect hog production to be profitable in the second half. We look forward to what we can see in fiscal 2012 in the summer. It looks like that is profitable as well and solidly profitable.

So hog production doesn't look like it will drag us down. It will be part of the profit going forward. And even if grain at these $5 levels, we can cover it. Internationally, we are doing well in certain places and Romania still got some opportunity that we need to work on.

Finally, I think Bo made the point we paid down $500 million in debt. We were still looking for another $500 million. We were still looking for that $100 million in lower interest costs. We aren't, this quarter doesn't show much of it but I assure it it's coming.

And finally out of Washington, it does a I peer that rational heads are starting to focus on the ethanol policy. For the first time ever, it appears people are looking at the impact of ethanol in various sectors of this economy and the environment. And the pressures associated with the budget as well as the pressure from special interest groups are beginning to get people to relook at this policy. I don't know where it will come out in this tax cut bill that's about to be voted on.

It looks like the credit is going down. If anything, it's going down. All the pressure on ethanol appears to be reduction, reduction and elimination. That's good for our business.

Ethanol structurally changed pricing of corn and this will help the pricing of corn, and help our live production side of the business, as this policy winds its way in the opposite direction and seems to have been over the last several years and that's the first time I can make that statement ever. And that gives me a lot of confidence about where the future in live production, which has driven this business has now been dragging us down, maybe live production can once again be an important part of the profit stream of this company.

With that being said I'm optimistic. More optimistic than I have been in a very long time. I never seen a management team in my 30 years, as focused on margin improvement and cost improvement as I have today, in spite of the fact that we are reporting a record quarter.

No one in this company is even close to being satisfied. Our numbers are not where they need to be and I promise you we are not sitting back on our Laurels enjoying this. I get to brag for a few minutes this morning, but I assure you, we are right back at the task as soon as this call is over. With that, Keira, we would welcome any questions.

Thank you, Larry. In order to provide the opportunity to as men analysts as possible to ask questions, we request you ask one question. If you have another question, please get back in the queue. Operator, please open the line.

(Operator Instructions). Our first question comes from the line of Christine McCracken from Cleveland Research. Please go ahead.

Good morning.

Good morning, Christine.

Congratulations. Nice quarter.

Thank you.

Larry, without going into too much detail it seems like you are optimistic on the outlook for corn. Tied to some possible policy changes in Washington relative to ethanol, but there seems to be still, when I talk to investors, quite a bit of concern relative to the prospects for it to move even higher, and what that might mean once you get out past some of this coverage. You suggested that you can probably buy more on dips. Certainly that's out there, but there is still quite a bit of uncertainty when it comes to South America. There is still a 12.6 billion-gallon mandate for ethanol next year. Maybe you can talk about what happens if corn doesn't go down. Is it your expectation then you'd get the pricing passed through to the consumer? How do you expect to offset that?

Christine, I think we had the conversation for two years when the losses were huge on the live production side of the business about the fact that we have to at some point price $4 corn into this meat. I think the fact that hogs have moved up dramatically and the cut-out moved up even more, means that we have at this point priced that $4 corn in. I said to many people, we have not priced $6 corn into the retail case at this point. And that would be another time we would have to go back and deal with pricing pressures and hog losses.

However, there is a risk that this -- we could get a runaway corn situation. You said South America, and I would have said China. But there is always that risk, that we could have a short crop and a situation that could drive corn again. What we are going to do is stay up as close as we can to this thing and not give us that big exposure. If we get a runaway this summer, I think we will have locked our corn in well before that runaway occurs. But we will have to deal with it again.

That's the reality of corn. We will have to price it again. I think there is an equal risk that this thing could go the other direction. And so that's why I'm sort of playing down the middle of the corn.

I think this is a different scenario than two years ago because frankly we don't have an overabundance of hog supply which would help create an environment where we will be able to be absorb additional increases through the value of the meat.

Wasn't all of it, but we don't have the downside risk we had two years ago. We don't have cheap hogs at high price grain. We have high priced grain with high priced hogs and even at these prices where hogs are today, I know you aware, but world market for hog prices outside the US are dramatically higher. China is close to $1. Russia I understand is $1. Europe is $0.70. Mexico $0.70. There is a huge price difference between US and foreign pork. I think Bo makes a good point and I don't see big expansion going around the world that's going to drive pricing around the world back down. If anything, there is probably a little bit of reduction going on.

Our major export competitors in the form of Canada and the EU are both reducing their herds as we speak, and every indication is that there is no expansion here in the United States. I think the fundamentals are very favorable.

Thank you.

Our next question comes from the line of Akshay Jagdale from KeyBanc Capital Markets. Please go ahead.

Congratulations. Thanks for taking the question. I wanted to ask about just, you alluded to normal profitability. If you look at a vertically integrated model in that hog production and pork processing together, what do you think normal margins are? Why is there a disconnect in the processing side today, relative to history, and on the hog production side, you are making above normal profits today. Can you help us understand the balance and where you think that plays out over time?

I think going back to my prepared statements, I indicated I think there is some reversion to the norm in terms of these outstanding fresh pork margins we had. The question is, I think truly we probably have reached a resetting point in terms of what the structure will be for fresh pork. I don't know what that norm is. It used to be that we could make $3 to $5 a head. We have had some weeks where we were in excess of $20, $25, $30 per head. I don't think that will continue. I'm not sure when it goes back to normal whether that's a $6 to $8 normal or whether that's a $5 to $6. We don't know.

I'm not quite sure I can intelligently answer your question because we don't know all of the variables, Akshay. I think we maintain still the normal ranges we had for package meats in that $0.10 to $0.14 range. I think we will have some appreciation from the old to $3 to $5 norm for fresh pork. And I think that we are still looking in that $10 to $15 range as far as hog production is concerned.

And add on to Bo's comment that one of the things that's really helped this complex is the export markets and the pricing in the export markets with the cheap weak dollar policy out there and the price of pork around the world, I think the export opportunities are going to be very good for the industry. They have not as of late been good for us, because we have so many good uses for the product domestically. The industry has done very well of exports and I do see that continuing, but I don't see the weak dollar policy changing and I don't see expansion going on, as you get a little bit of recovery around the world that's going to increase international demand and the US is the best place in the world, or one of the best places in the world, to raise pork and the opportunity on the export market will continue to give us good pricing discipline on fresh pork in this country.

Okay, I will pass it along. Thanks.

Thank you. And our next question comes from the line of [Ryan Oxhandler] from Banc of America Merrill Lynch. Please go ahead.

Good morning guys, congratulations.

Good morning, thank you.

Can you talk a little bit about -- you talked about supply but about demand in the US Sounds like export market is good. We had it looks like a little bit more production in the US than expected because hog weights have picked up. But pork prices actually remain pretty resilient. Can you talk about what you are seeing in the different channels on a demand side in the US?

I would say to you the most -- the clearest indication of where demand is the fact that we are killing the hog that is not going into freezer. And the fact that the pork pricing holding, I think pork is still a reasonably priced product. Compare that to where beef is. Pork is moderately priced so it's got a lot of demand.

We've seen the food service stabilize. Our declines that we had in volume are only on the retail side. And that's very price sensitive, and that can come and go based on how things change quickly, on the food service side it continues to be very strong. And so I said across the board the demand is solid and domestically very solid.

Thanks. I will pass it on.

Thank you. Next we will go to the line of Farha Aslam from Stephens. Please go ahead.

Good morning. Congratulations on a great quarter.

Thank you.

Looking out into next year, do you think in fiscal 2012 given where the hog market is and where grain prices are that you could hit that sort of normalized number in hog production that you talked about? In terms of $10 to $15 pre-tax?

Farha, that will be tough. I think we will revert to that norm over time, but with these very high price levels, I think we are going to see some thinner margins that you might -- if we were in the typically in the $50 range, as far as pricing is concerned.

And just to follow-up on that fresh pork and packaged meats, do you think that positive trends can continue on into the second half of this year and into early part of next year?

Yes, we do.

Great.

I think the packaged meat business will be good. And fresh pork is going to be good. I've got -- Bo and I may differ how good it will be. I think fresh pork will be good compared to history, whether it will be as good as this quarter, I don't know. Maybe not. But it will be darn good from a historical standpoint. I think packaged meats will be better. We had bad package meats quarter because of the rapid rise of raw material cost.

You are thinking the second half profit per pound can be up?

Yes.

All right. That's helpful. Thank you.

Thank you. Next we will go to the line of Diane Geissler from CLSA. Please go ahead.

Good morning. Congratulations on your quarter.

Thank you.

I guess I'm still a little -- just questioning your statements about the weak dollar policy which obviously helps on the export side. Also generally leads to higher prices on US denominated commodities like corn and soybean meal. And given where I see futures on lean hogs versus grain inputs, I have you moving into a loss position in fiscal 2012, it sounds like you are probably more optimistic than I am. I guess if you could help me figure out where I'm off in terms what your expectations are about hog raising in 2012?

It's almost impossible to guess what your model says.

I'm just using futures.

Futures we would say that the futures as far as our cost structures are concerned are indicating that we will have a profitable hog operation next year. It's not certainly setting records, but it is positive, and we think that these higher price corn levels, we are doing a good job there.

Do you think the corn where it is today is already priced into where futures are on the hog side?

Corn -- can you repeat that question?

Where corn prices are today, do you think that's already priced in to where futures are today on the hog side.

I think they are independent of one another, Diane, if you just look at them.

Generally what you see happen when grains rise is the hog market eventually has to take that into account because their expectations to get built into the curve as to the number of animals that get raised, right? What I'm saying is do you think the curve is adequately priced in to the higher grain.

We were projecting profits for hog projection sector for next year.

Terrific, thank you.

Next we'll go to the line of Heather Jones from BB&T Capital Markets. Please go ahead.

Good morning. Congratulations on the quarter.

Thank you.

I had a quick question on the fresh pork division which the results there were stellar. In the past you all have had over the past year or so you had improved pork results but there had still been a fairly significant gap between your fresh pork margins and some of your public peers. This quarter, that gap closed and I'm trying to get a sense of what happened during the quarter to drive this kind of improvement, because for the market last quarter, fresh pork margins were strong as well, so it wasn't like there was that much improvement sequentially, but yet your sequential margins jumped like 600 basis points. So I was wondering what drove that and how sustainable is that relative performance?

Heather, let me talk a little about our situation and I will let Bo have some input here. It's going to take both of us on this one. We certainly compare ourselves to our competitors as best we can. Given the information we think we have public plus what we think we know privately, how many they kill, what their processing levels are and things like to. This is information you may not quite have. And we have been certainly impressed with how our competitors have been able to achieve margins that we have not been able to achieve because our fresh pork competes very competitively with theirs.

There were some opportunities in our operations to improve particularly. We had some lighter weight hog situations in the east, which once the fall hog runoff started, they came as a result of our live production side of the business. The weights moved up and our P&L moved up dramatically. As well as we are doing some very heavy benchmarking across our operating plants.

And again I will give credit to the management teams, they have spent a lot of time, and we have tightened this thing up dramatically, plus we shut down Sioux City. So we don't have that commodity of fresh pork bringing our numbers down. We got much better use for those. All of those say that our base of fresh pork profitability came up relative to our competitors.

Now with that being said, our competitors I believe have some pricing arrangements relative to the way they buy hogs that we really don't have. We buy them from ourselves so we don't have window contracts as an example, because we buy them from Murphy Brown. They may have had some opportunities when the live hog market was very strong through their window contracts to have got some benefits associated with that. That's our estimation, but I don't know that factually to be true. But I think that's right. And as hog prices come back down, that window opportunity declines for them and comes back to the market. As it comes back to the market it comes back to us. So I think those two together have hopefully explained some of that to you. But importantly, you should take away I think structurally our fresh pork business has improved. Bo, do you have a comment?

I think if Larry mentioned the Sioux City closure and if you think it from a mathematical perspective that was our worst performing plant. Merely taking that out of the mix increased our competitive position. On that fact alone. I refer to it in my comments that we have identified and Larry talked about and identified several dollars in improvement that we can make from the sales area as well that come out of this internal analysis.

And finally, we increased our hog weights as much as 5 pounds per head. Those three things in terms of mathematics of closing Sioux City the additional opportunities we seen in terms of mix of sales of product and what has happened to us on the other part of our business. It says that we closed the gap that it probably is a structural closing or a structural catch-up that we have done. And we think it's here to stay.

Going forward, adjusted for the changes on how they buy hogs, et cetera, we should see more narrow gaps between yours and their fresh pork results and your expectation.

It will be choppy but that trend is correct.

Okay. Thank you very much and congratulations again.

Thank you.

Next we will go to the line of Lindsay Drucker-Mann from Goldman Sachs.

Good morning, everyone.

Good morning.

Just a quick question on your hog production outlook. You mentioned hog production you expect to be relatively flattish next year, do you similarly expect for pork production, total pork production including productivity and weights to be flattish?

Well, I think that we are driving toward heavier weights. That has to do with the cost savings structure initiative that the hog production people have put into place. I think as far as supplies are concerned, we are seeing a couple of percent more on a weekly basis in terms of slaughter level. I'm not sure that's coming out of a lot of heat for the summer and we pushed hogs back. But we still see no expansion both domestically. We see reduction in hogs in Canada so I think that will probably slow down any importation of feeder pigs, so we continue to see a good balance domestically for the next 12 to 18 months.

Sorry. Go ahead.

It's surprising to see what the small amount of really overall -- because the hog numbers are down a bit but the weights are up. And this sort of flat production volume, shows how sensitive this whole business has been to the volume that's coming at it. I will tell you have I been surprised all from a pricing standpoint but we don't see a lot of expansion going on here. There is no reason to believe unless productivity improves on the farms, not just ours. The industry farms, there is no reason to think that these hog numbers are going to grow very much.

I think will put maybe the industry will put more weight on them. Maybe. I don't see the numbers.

High priced corn will temper some of the weight.

Go into the higher weights, the feed conversion drops down, so the incentive to put on heavier weights reverts as a negative. The heavier the hogs get, it's not as profitable, so they'll have a tendency not to add the weight.

That's really helpful. Just to clarify, Bo, with one of your comments, so your efficiency improvement initiatives in hog production, can you quantify in terms of yield improvement how much that should layer on to your own production and I think it's over a string of a few years, where it will take a place how much yield improvement you will get next year, and then over the next couple years?

I'm not sure we will break it down in terms of yield improvement. I think our initiative indicates that we will be able to extract about $2 per hundred-weight in terms of cost that we will eliminate once we are fully initiated into the program.

I think your question is, were you asking the question whether there would be more hogs produced?

Can you grow fatter hogs with the programs you have in place? Grow them faster?

I would say we wouldn't call it a fatter hog but a bigger hog. Yes, we can grow a bigger hog and that's part of the improvements. We probably have produced smaller hog to some degree 1 to 2% than the rest of our competitors, because of where we are located in things like moratoriums we have in North Carolina that don't allow us to expand our farms. Some of the things we are doing is we reduce the sow numbers, reduce the overall density of pigs in this area, it gives us more time to grow and will produce heavier pigs, and fewer but heavier pigs, and offset in large part many of the reduction in head count by additional weight running through the plant.

Bo's point is exact. We will add about 2% or so maybe even 3% to the size of the hogs but you will seat number of hogs we produce also decline probably 2% or 3%. So it may be a lesser number but they will be bigger hogs and more profitable.

That's helpful. Thanks, guys.

Now go to the line of Tim Ramey from Davidson. Please go ahead.

Good morning. Congratulations. Bo, the thing I was impressed about was the cash generation and the retirement to debt in the quarter, but it does bring to mind the fact that this company ten years ago, 12 years ago, bought a lot of cheap assets at a crisis level, and then proceeded to lever them up and then have its own crisis repeat two years ago. And I'm just -- there's a pretty ebullient tone today to the call. What I love to hear you say is we aren't going to do that again. We were going to keep this thing at a level that we can handle the cyclical lows. Any big picture comments on that?

I think Larry has been very clear over the past two years that we are not going to sacrifice the balance sheet in any circumstance for what may be very short term opportunity. We are committed, Tim, to reducing our debt level another $500 million over the next 18 months, our goal is to bring down our interest expense and we think that's very appropriate, in what will likely be more volatile times going forward, and it's what was considered a conservative balance sheet perhaps ten years ago, today would be unthinkable. So I think we as well as others in our industry are going to reduce debt to be able to withstand the volatility that will likely come in our business overtime. But we were very respectful of the balance sheet going forward.

Let me -- I have got to react a little bit to this. I think Joe Luter went out and bought businesses at same very favorable pricing and built one heck of a good company here. I think that part about buying cheap assets and leveraging them up and jeopardizing the business sort of gets my blood pressure going pretty good. I think Joe Luter built one heck of a good business.

What did happen, we did have a grain run up in the world that had a huge impact on this business. We had a great meat business here that needed some fine tuning and restructuring just because we bought those cheap assets that needed to be some of those rationalized, and pork group management had done a terrific job of getting all that consolidated and money -- I will admit, money was cheap at that point in time. It was the strategy at that point in time, and we were getting pressure from investment bankers to increase the leverage, if you can believe such lunacy. That's the case. The world has really changed. And we react to the times.

And I think the fact that we got some of those assets that those prices have allowed us to deliver the profitability we got today. We did need to pare some of that back. Bo and his finance team have done a terrific job of managing through this and getting this balance sheet back in an absolutely horrible time to do those kinds of financings. They did a great job and I will give them accolades.

Today, we have a company that we know how to manage it. I think we will manage it conservatively. I think you will be pleased with the way anything we go forward from a financing standpoint will be done. I think you as investors will be pleased about that. And I think we were positioned now to be outward looking. Doesn't mean we are on the acquisition trail but we can look forward as opposed to looking internally.

Terrific. Thanks a lot.

And now go to the line of Christina McGlone from Deutsche Bank. Please go ahead.

Good morning.

Good morning.

Larry, just focus on packaged meats, when you talked about losing volume in the quarter and will get it back, does that mean that profit per pound will go below $0.12, or the fact that underlying raw materials aren't surging like they were in the October quarter, and you can get the volume back and have the $0.12 per pound or within that range?

I think you said maybe -- you heard me tell somebody else that I thought package meats margins would be up in the third quarter in the second half. That doesn't mean you are on the hunt for cheap sales. We have done that. We been to that movie and don't like the way it comes out.

I think what we have done is reposition some of this pricing and I think you will see us go back and sell our way back into that volume with the programs we got surrounding the trade programs and marketing programs that we got. I think we will sell our way into that. No, we aren't going after less than $0.12 margins at all.

And just a follow-up. Should we look for volumes to be down or flattish but not as much as 6%? How should we think about volumes.

I think the second half will not -- we will clearly I think not be down 6%. I think we will may still be down a little for the year. It's a little hard to tell, because of where you get the pricing opportunities. I think it will be a very smallish down number and a little bit of things going the right direction. It could be positive in the second half.

Thank you.

You're welcome.

And now we will go to the line of Vincent Andrews from Morgan Stanley, please go ahead. Vincent Andrews, your line is open. Do you have your mute button on?

Sorry about that. Congratulations on your quarter, obviously. Larry, my question for you is just you have sort of thrown out there that you think there is a scenario where corn price goes down. Wondering if you can elaborate on that a little bit and maybe where would I direct you would be your comments on the poll -- ethanol policy and in particular I'm a little confused on that. When I look out at ethanol production and blenders margins, it looks to me like blenders would be using ethanol with or without the tax credit and with or without renewable fuel standard based on where gasoline, ethanol and corn prices are. Maybe you can address all that.

Good. I hope your comments make it to Washington. They don't need the credit, then. I love your comment. Make sure your congressman knows that. They don't need a federal subsidy to make it work. I guess we will have to see how all this corn settles out. I don't think we are going back to $4 corn. If it drops a bit here, I think there is the opportunity to drop a bit here. It's difficult to go lock in corn at these elevated levels, fully lock yourselves into the cost structure. We've got some faults we have relative to where we think this corn will settle out in world markets and we think there is some opportunity for downward movement there. And that be the case, again, I'm talking about a modest move down. Not big money.

And typically we are coming into the end of the year and you will have farmers that are making their own tax decisions in terms of when they sell their corn, whether on the 30th of December or second of January. So you may see, we anticipate typically a flush of corn out of the first of the year in terms of farmers selling at a local level which we would look at as a buying opportunity.

It's a technical thesis. Thank you very much. Appreciate it.

Now we will go to the line of Bryan Hunt from Wells Fargo Securities. Please go ahead.

Most of my questions have ben answered. A few house keeping and then one question. Could you tell us what your cash and total debt were at the end of the quarter?

Cash was $425 million. We used $400 million in my prepared comments. And debt was $2.8 million net debt was $2.4 million.

Gross debt is $2.8 million and net debt is $2.4 million.

Going back to your comments of hog production you mentioned opportunity to take $100 million out of that cost structure. I was wondering if you could just talk about content and Cap Ex in the context of taking that cost out as well as the time line in getting those costs.

The time line, it's longer than we have in the manufacturing process where we are probably looking at two to three years for the total benefits to come in to play and again we were looking at that $80 million to $100 million cost savings level. If we look at the CapEx required to get there and the amount that we have in terms of one time charges, in total, we had on a quarter to date CapEx of $12 million for the program, we are anticipating another $6 million in CapEx c for that program for the balance ever the year remaining after that and then the next year is $69 million.

A total of $86 million I think in Cap Ex which we spent $17 million.

We spent a total of $12 million.

So we spent of $86 million, I think it was $86 million in total Cap Ex and then I thought we had another $40 million in one time charges. Isn't that right, Bo?

That's correct.

And in fact I think -- what came through the quarter?

$15 million for the quarter and we anticipate another $16 million one time charges. These are associated with termination of several of the contractor agreements and modifications of those incentives for those people to modify.

So overall, has one and a half year pay back. Call that $100 million of profit improvement and $150 million of CapEx and one time charges.

And then lastly, looking at cash flow has been so strong in the last couple months and it sounds like in the current quarter with your proceeds from your insurance policy as well as the asset sale from Butterball, you will be sitting on a very large pile of cash. Is there any I guess incentive to accelerate CapEx, given the cash flow in the business and the cash you are generating from other means?

Bo could speak to his own, but tell you the operating companies are well aware that the approval process for capital expenditures which has been pretty tight for the last two years, that door is open. And so we were not refusing capital expenditures that are coming up from the IOCs. I'm not going to spend stupid money here, but any CapEx that makes sense we will approve.

We are very focused on return on invested capital with all of our CapEx projects. Probably for this year we will not achieve depreciation for the third year in a row in terms of capital spending. But we believe the capital that we are employing will have significant benefits to our return on invested capital.

Remember, just two years back we were spending nearly twice depreciation so we made a lot of capital investments overseas and in plants back here, a brand-new plant in Kingston, North Carolina. We made CapEx that are now begin something to bear fruit. That plant has taken several years to get ramped up is now running I think it's about 85% or so where it's running at. That plant now become very profitable. We made some Cap Ex investments and part of this was rationalize some of these plants down. These plants that were underutilized, and rationalize those down and spent the capital we needed, but I don't think we were missing the opportunity by holding back CapEx.

And does the gain you mentioned on the insurance recovery of $120 million is equal to the cash coming in.

Approximately, yes.

All right. Thank you.

Operator we have time for one last question, please.

And that will go to a line of from Reza Vahabzadeh from Barclays Bank. Please go ahead.

Good morning. On the hog margins, can you just maybe elaborate on the near term outlook? I know your grains has good levels but then live hog levels have weakened. Should we expect weaker hog margins in the second half, than the first half was still in the black?

I think if I go back to the remarks I made, we had a situation where hog prices fell at the beginning of the third quarter and actually hog margins were negative for the first few weeks. But we were anticipating that we will be black for the second half of the year.

I see. But lower than the second quarter.

Lower than the second -- lower than the first half.

Got it. And then on pork margins, I think you mentioned your long term normalized profit per head of $3 to $5, how much higher do you think you are in this new paradigm?

I think I have indicated that we don't know where the new paradigm is. We don't know whether that's $6 to $8, $3 to $5. We don't know. We will have to wait and see where it shakes out.

Got. Thank you much.

At this time we will end the question and answer portion and I will turn the call to Larry Pope for closing remarks.

Thank you very much for listening this morning. We were extremely pleased and as you can tell for the first time in awhile, I'm bullish on this business and bullish on the things the strategy we put in place over the several years. You're seeing that again, and again, and the pork group. I think we have good things coming in the live production side of this business, as well as overseas, and finally from a financial standpoint with the balance sheet.

I think this company is positioned to do very well, and relative to anybody and our competitors in particular I think we will be taking market opportunities and continue to deliver very solid results going forward. And I'm very optimistic about this business. It's likely we will have a record year this year, given where we are to date and I think we have good times ahead. Thank you for riding through the tough times, I think we are getting the benefit of the upswing and wish you all a happy holiday season. Thank you.

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.