Smithfield Foods Inc (SFD) 2011 Q3 法說會逐字稿

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

Good morning. Welcome to the conference call to discuss Smithfield Foods' fiscal 2011 third-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 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-Katour press release on our website at 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.

Thank you very much, Keira, and thank you, ladies and gentlemen, for joining this call. As you can well imagine, after reading the information we put out this morning, that we are all in a good mood in Smithfield. I look outside my window and it's a rainy day and looks to be worse as the day goes along; but from where I am sitting, the sun is shining and everything appears to be bright.

Clearly we have been through two years of troubled waters and stormy days. But as we sit here today I think we are now reporting our third straight record quarter for the Company, and as you will hear me say in my future outlook I am extremely optimistic about where I think this business is going forward.

So from where I sit it looks like sunshine, and all I can see is sunshine. I do not see many clouds on the horizon.

In terms of looking at the numbers, I am going to take these in a little bit of a different order. The Hog Production side of the business still reported a small operating loss for the quarter, in spite of the improved live hog prices. As you know, the third quarter is traditionally the weakest quarter of the year for live hog prices. And as you all know, with the price of corn we showed a very small loss.

Although that is a significant improvement over the prior year, it is still a loss in the Hog Production side of the business. As we have announced earlier, we had a Hog Production cost improvement plan well underway that has been under way now for more than a year, that is anticipated to reduce our production costs by $90 million. We expect to finish out this fiscal year in April with slightly over $30 million of that improvement coming to the bottom line.

So we are moving along very nicely on that initiative. As well, many of the one-time charges that would hit the P&L have hit the P&L; and about 40% of the capital expenditures to accomplish this initiative have been spent.

So that initiative is moving along just as we expected. In fact, we might be a little bit ahead of schedule on that. I am fully confident that those changes we need to make on our farms to update the farms will be done, and we will accomplish that $90 million improvement over the next two years.

Secondly, our International business is steady-Eddie. We have got goods and bads, as we have in most of the quarters.

Our Campofrio investment is certainly performing better than it has been, as well as Mexico is going well. I will leave that to you in terms of the press release in reading.

The big discussion this morning is clearly our meat processing group, with the Pork segment, and the fresh pork, and the processed meats. And that is where I want to spend my time discussing.

We are reporting very strong fresh pork results, just as our competitors have reported, as you have read very recently. We are seeing cutouts that for people -- Bo and myself, who have been in this business for 30 years, we have never seen the cutouts this good for this long. I am sure that concerns many of you who are saying -- how long can this kind of a trend continue?

We will talk about that as I look forward in my forward-looking comments, but it is extremely good. Every day the numbers continue to be there. The sales continue to be there. The demand is there. We have got supply and demand in very good balance at this point.

I don't see anyone out there looking to build any kind of a big plant over the near term. I don't see any expansion of any magnitude in the live production side of the business.

There is a shortage, as you well know, around the world. I don't see big expansion around the world. So the near term prognosis for this fresh pork environment is pretty good.

However, we are looking at sharply rising live hog -- anticipated sharply rising live hog prices this summer. And clearly that is going to have to be reflected through meat prices to maintain these kinds of margins.

One of the big drivers of this has been the export markets. I know that is on everyone's mind on this call, is the export business. I can report to you today that our export business for the quarter may be different than you may be thinking. It is up 2% in spite of the fact that we closed the Sioux City plant which was -- which did represent about 10% of our kill just about a year ago.

We closed the Sioux City plant, so we have got those numbers that we are comparing against. In spite of that, our exports are up.

And for the quarter, what is surprising even to me is that 24% of our fresh pork volume went out of the country. That is a big number to us. Countries like Japan, China, Russia, Korea, Canada, they all have double-digit increases in export volumes -- some of those even close to triple digit.

These are very nice improvements in the export markets for the past quarter; and I know your other question is going to be -- what does the future look like? The one country that we are down in is Mexico. Mexico we are down because they are a ham buyer, and we simply didn't have the hams to ship to them.

So we had other places to go with those hams in other countries. But the export markets are extremely good for the Company.

In terms of the packaged meats, I hope you recognize the level at which the packaged meats business continues to perform in spite of the fact of substantially higher hogs, substantially higher raw material costs. We have a packaged meats business that I am extremely proud of.

I have been talking -- it seems like now for 100 years, and it has only been four -- about the improvement I think this business is making structurally, in our cost structure of our processed meats business, as well as the organization, management, and sales discipline changes that have been going on inside this organization. I am confirming to you once again today that side of the business is doing very, very well.

In fact I will talk in my outlook comments about how much opportunity I think there continues to be even there. I am extremely proud of the management team that is running this meat processing group under the leadership of George Richter and the operating managers that are out there. They are working more and closer and better aligned and better disciplined than this Company has ever been in my 30-year history.

So from my standpoint, I think the business is performing very well. And I must say that I was thinking as I came in this morning that I believe two years ago today Smithfield was trading at its low point, and it appeared the world was coming to an end. I think closed on March 9 of 2009, our stock closed at $5.60. Last night it closed at $22.75.

That is a 306% return to those who had the courage to buy this stock at the bottom. I think if you compare those with our competitors, or the S&P, or the Dow, or the price of oil, you will find out that you would have been better off to buy Smithfield Foods than you would to have bought any of those.

I am extremely proud of the progress this Company has made. Many of you might say -- well, you should have never gone to $5.60. I totally agree. I think the stock certainly fell further than it should have fallen.

I knew that we had a plan that we could execute, and that is why we had a phrase inside this Company; so the joke was -- you must be present to win. We needed to do what it was important to do to be here.

We knew this plan that we were accomplishing and executing today was there. We knew the management team changes we had made were there. We knew the cost structure improvements that needed to be made were being made.

All of that has been done, or most of that -- but we will talk a little bit later after Bo's comments. But those are now bearing fruit. The sales discipline out there is bearing fruit. The cost structure improvements are improving our margins. Bo will outline those numbers more specifically, but I am extremely proud of the way this organization is executing. And I believe that we have even more to come for you, and we will talk about that.

Before I go any further, Bo, let me turn it over to you. Why don't you give them some details?

Thank you, Larry. Good morning, everyone. I am delighted to report record-setting third-quarter net earnings of $203 million compared to earnings of $37 million in the third quarter of fiscal 2010. This follows record results in both our prior first and second orders.

EPS for this quarter was $1.21 compared to $0.22 last year. Net earnings for the nine months ending in January were $423 million or $2.53 per share.

These are pretty heady numbers and do need to be viewed in light of several noteworthy adjustment items. Today's press release provides a bridge describing these adjustments.

Most notably these include the Patrick Cudahy fire settlement for an after-tax profit of $74 million and a combined loss of $12 million of other items. If these adjustments are applied to our stated earnings, the results are an adjusted non-GAAP net earnings of $141 million, a third-quarter earnings record in its own right. This results in an adjusted EPS of $0.84.

We are very pleased with the results and the trajectory of the future earnings. To paraphrase a modern philosopher, we are winning.

Consolidated sales were $3.2 billion, up 10% quarter-over-quarter. All segments exhibited sales growth, principally due to higher unit selling prices at all levels of the Pork chain -- live, fresh, and packaged -- offsetting 7% lower domestic Hog Production and 4% less Pork Group volume.

The Hog Production volume declines reflects our previous herd reductions, which lowered exposure to grain and commodity swings. Reduced fresh meat volume was primarily due to the closure last April of our Sioux City harvest plant. Declines in packaged meats volume were conscious decisions to cut tonnage of SKUs which higher raw material costs produced negative margins.

International sales increased 5% with higher volume outweighing slightly lower unit sales prices.

The total Company gross profits increased 14%, up from 10% in the same quarter a year ago. The improvement was driven by strong fresh meat margins and the hog turnaround.

Consolidated operating profits increased to $373 million. Even after the fire settlement and other adjustments described earlier, our non-GAAP operating profit was approximately $258 million compared to $97 million in operating profit in the third quarter of 2010.

This outstanding, record-setting operating performance was led by a $119 million improvement in fresh pork and a $76 million better result in Hog Production. This combined $195 million improvement offset declines in packaged meats operating profit. The fire pickup falls in the Corporate segment and is not reflected in Pork Group operating profits.

The Hog Production's third-quarter operating profit showed a slight loss of $2 million, though significantly improved compared to the results a year ago. It is down from our profits in our most recent second quarter of $78 million. I mentioned at the time of our last conference call that hog results had turned negative.

Raising costs in the quarter were $52 per hundredweight, with the help from grain hedges. This cost level, similar to those of our second quarter; however ISM live pig prices declined seasonally from $56 in our second quarter to $50 in the third quarter.

Our positions in the forward grain markets will provide the Hog Production group with raising costs in the mid to high $50s in Q4. We anticipate that seasonally higher hog prices this spring and summer should create operating profits in Hog Production into next fiscal year.

The Company has lower coverage levels of feed ingredients in our next fiscal year. Based on the futures market, we anticipate raising cost to move into the low to mid $60s. However, the forward grain and futures markets have shown several opportunities to lock in positive feeding margins next year. We find these opportunities attractive, and believe we should be profitable in Hog Production in fiscal 2012 absent any demand or further corn price shocks.

The total Pork Group operating profits were $255 million with an operating margin of 9%. These results represent an increase in profits of 67% and a boost in operating margin from 6% in Q3 2010.

Fresh pork operating profits were outstanding at $130 million or $18 per head, reflecting lower hog prices and solid export demand. Packaged meats results declined 12% to $125 million compared to last year, principally due to slightly lower margins and less packaged meats volume. Seasonally strong third-quarter packaged meats margins were $0.16 per pound, only slightly less than last year's outstanding $0.18 margin and $0.04 higher than our recent second quarter.

Raw material prices were up 20% in this third quarter, compared to a year ago, as measured by the USDA cutout value. During the same period our packaged meats prices grew 19%, demonstrating our ability to successfully pass higher raw material costs through the chain.

We continue to have very positive outlook on our packaged meats business as we identify profitable opportunities to grow our brand despite higher raw material cost. We have seen double-digit growth in branded marinated fresh pork, Kretschmar brand deli items, and Curly's Barbecue. The benefit of integration and assured availability of raw materials are becoming an increasingly important competitive advantage in times of tight hog supplies.

Fresh pork margins have been 2 standard deviations above the norm for the past two quarters. I have seen the ebb and flow of perhaps five hog cycles in over 30 years, and I cannot fully explain this industry profit trend.

Fresh pork margins have declined in the past few weeks and profits will likely revert to the norm. But what is the new norm? It was $2 to $3 per head EBIT; best guess going forward perhaps $3 to $7.

International operating profits were fractionally lower quarter-over-quarter. Improvements in Campofrio in Mexico offset declines in Poland and Romania. Lower pig prices in Central Europe hurt feeding results and overshadowed record operating profits at our Animex packaged meats operations in Poland.

The Other segment reflects the wind-down of our turkey operations.

The dramatic jump in Corporate segment results is in large part due to the $121 million pretax fire insurance gain. SG&A rose 13% compared to Q3 2010. This was driven by an increase in incentive compensation and expiration of certain government incentive programs in Romania. Equity income of affiliates showed improvements, led by a $12 million turnaround in Campofrio as well as no more Butterball losses.

Interest expense declined 10% quarter-over-quarter, reflecting debt reductions in our second quarter. We expect interest expense to decline below $55 million in the fourth quarter, benefiting from further debt reductions from our February bond tender. Interest expense will be approximately $50 million per quarter moving into fiscal 2012, making major strides on our $100 million annual interest expense run-rate reduction target.

There is a measure of short-term pain associated with this interest reduction process. Our second quarter bond buyback resulted in a $14 million charge to Q3; and the most recent tender will create a similar Q4 one-time charge of $71 million for early extinguishment of debt.

Our effective income tax rate for the quarter was 32%, up slightly from 30% in Q2 due to the impact of timing of the fire gain in this quarter. We project our full-year rate to be 30% to 31%. Depreciation for the third quarter was $57 million and capital expenditures were $44 million.

The balance sheet story for this quarter remains debt reduction. Strong cash flow allowed us to retire over $90 million of debt in the last two quarters, spread over our 2011, 2013, and 2014 maturities. At quarter end we had $2.5 billion total debt, and a net debt to capitalization ratio of 37% -- our least leveraged balance sheet in many years.

After the February tender, debt dropped to $2.1 billion. Cash utilization in Q4 may cause net debt-to-cap ratio to tick up slightly, but should remain below 40% at fiscal year-end.

We are not particularly concerned about the impact on earnings of possible rising interest rates in the short to medium term, because all but a minor portion of our long-term debt is at fixed interest rates and we currently borrow little under our variable rate ABL short-term facility.

At quarter end we had cash and available liquidity totaling $1.4 billion, of which cash of $450 million was employed in the first weeks of Q4 to execute the bond tender. At the present time, cash and available liquidity remains well in excess of $1 billion.

Our improved financial performance and deleveraging of our balance sheet continued to dramatically improve our credit metrics every quarter. We have had upgrades from both Moody and Fitch rating agencies since we last spoke. We are working closely with rating agencies to ensure they fully understand the Company's new direction, operationally and financially, to drive growth, quality, and consistency of earnings.

The financial expense and interest rate reduction goal of $100 million, or a decrease of $25 million per quarter, will not be achieved through debt reduction alone. The last increment must come from reduction in rates and fees on our short-term debt. We firmly believe the ABL facility we entered in at our darkest hour in fiscal 2009 can be replaced with a facility with more accommodating structure and at more attractive rates due to our significantly improved balance sheet, positive industry fundamentals, and Company performance.

Our current short-term facility matures in 17 months. However, we are currently discussing this opportunity with our bankers.

In conclusion, this will be a record year for Smithfield, and our outlook for fiscal 2012 is for another very good year. Finally, I would like to thank all of those on this call that joined us in January for our Investor Day program. This daylong event highlighted the strategies and tactics in every major segment of the business. It provided insight into our branding and marketing initiatives, hedging practices, and financial objectives.

I hope those that attended or listened to the e simulcast believe it was time well spent. For those who could not, it can be accessed on our website. Thank you very much for your time and attention; and now, back to Larry.

Thank you very much, Bo. Those were some certainly telling comments in virtually every area. I think the financial discipline that is in place in this Company is something that we are extremely proud of. Bo and his team have done an exceptionally good job. I think as we go through this continued refinancing we will be an even stronger Company from a balance sheet strong standpoint and liquidity, as well as the ability to deal with our bankers.

The future I am sure you are all concerned about. I am sure many on this call are wondering -- well, is this as good as it gets? These look a lot like peak earnings from where you probably sit, and things can only go down from here. So I am sure that is the question on all of your minds.

As Bo said, we are going to have a record year. We are anticipating a very solid year next year. The bit question for all of us is -- where is corn going? Corn could have an impact on this business, as well as the pass-through of pricing from higher-priced hogs.

I think you have probably seen the USDA indication of plantings. We think it is very likely that plantings could equal or even potentially exceed the USDA's estimate. We will see that a little later I guess, in the next 30 days.

But given where corn prices look for the future, it is certainly very advantageous for farmers to plant corn. I guess there is plenty of moisture in the ground in the Midwest, so I wouldn't be at all surprised to see these kinds of record plantings.

As well, you can imagine we see the futures market further out. Yes, corn looks very high this summer. As Bo indicated, we have taken some strong positions from a hedging standpoint as we look over the relative near-term.

As you go farther out, you will see the futures market are down substantially from where they are today. I think that is an indication of where this crop may come in. That gives us some comfort that maybe this corn has potentially peaked.

Related to that, I am sure you are all aware of all the noise in Washington surrounding ethanol. The only thing we ask -- and it appears that rational heads are now evaluating this issue -- and all we ask is that we get a level playing field.

If corn is more valuable in your gas tank than in your stomach, then I guess it will go to make gasoline. But I think this tariff -- I mean these subsidies, their day has come; and I think those in Washington realize that from an economic standpoint we can't afford the cost to fund these subsidies and that there is a better use and we are paying for it at the grocery store. So we a lot going on there, and it is all encouraging.

The other piece that is encouraging is the export markets. Yes, we have had good exports. Even given these numbers, there is a lot going on in the export market to be encouraged by.

I am sure you all know that Mexico has announced the reduction and elimination of the tariffs going in there, 50% now and the other 50% once they are sure the US is going to live to their side of this agreement.

As well, Korea has temporarily lifted all of its import tariffs and there is -- or about 110,000 metric tons. I think about 60% or 70% of that has either been sold or being sold and produced as we speak going into Korea, which is a big, big, big increase in the volumes going into Korea looking forward.

Finally, I think you all know that China has announced that it is going to reduce tariffs on a number of products going into that country. While they have not specifically spelled out pork as one of those items, given the price of pork in China -- well over $1 a pound -- it is very likely, I would think, that it would be on the short list of commodities that they would want to give some relief, given the concern everyone has about food cost and food riots and food unrest among the people.

So all of those represent opportunities for the future that aren't even in these numbers. So while the exports represented 24% of our volume in this past quarter I make no projections about where they will be going forward, except that I certainly don't see the export markets getting worse. If anything, they are getting better -- and significantly better.

That bodes well for the pricing power inside the United States. Many times we only sell -- the export markets represent an umbrella pricing. Smithfield does not dump product into the export markets. We only sell export if we get more money for it than we do in the United States.

That is the strategy of this Company. So the reason our export levels are where they are at, it's because it's more profitable business. It is just that simple.

And we expect that to continue going forward. Hog futures look good. As Bo said, we are not ignorant of where these markets are; and for many months into the future you have got lean hog futures well over $1, which gives us an opportunity to lock in some very strong pricing on the live hog side. And we are certainly looking at that very, very closely.

Finally, from a management standpoint, we this past month have gone through a strategic review of where we are on our meat processing group. I can tell you, as I said on the last call, I have never seen this management team more excited about the future opportunities to improve their cost structure than I have most recently.

In spite of these numbers, in spite of our competitive cost position, we are still not where we need to be. We compare ourselves regularly with our competition, and we see opportunity within our cost structure and within our sales discipline to further improve our margins.

Now, certainly the industry will go where the industry will go. But we believe that we have significant opportunity to further improve our cost structure in the meat processing group, and our management team all agree with that.

So from our standpoint what the finance group is doing, what the meat processing group is doing from a cost structure, what our Hog Production group is doing in terms of cost improvements on that side of the business, and I can assure you we are focusing on the International business -- we think there is substantial upward potential within this earnings stream and ultimately to be reflected in the stock price.

So while we are up 300% from 2009 to 2011, I look forward to reporting to you on where we will be on March 9 of 2012. I will look forward to reporting on that. With that being said, Keira, we will take questions.

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

(Operator Instructions) Farha Aslam, Stephens Inc.

Hi, good morning. Congratulations on a great quarter.

Question on your packaged meats business, it had some very good results. But I was wondering, going forward how much of the higher cost do you think retailers have passed along to consumers? And how do you anticipate volume holding up with these higher prices going into the summer?

I think that you phrased the question certainly just within the context of the retailers. We also got the food service businesses out there.

I don't believe that the retailers have fully priced -- passed on these prices. I think their margins were extremely strong, and I think they have felt some of the squeeze associated with that.

I think there is some pricing still to go forward. Our retail business is down slightly. Our food service business is flat -- although remember, we cut our kills back some, so we actually have less meat to sell. So it would be appropriate for the volumes to be down slightly.

But I think that the other question becomes they have got more to come. If $6 and $7 corn is coming through at $75 live hog prices -- or going to be this summer -- there is another level that is going through.

Although the thing that surprises me is the pricing of the cuts. Particularly things like pork bellies and pork butts and ribs, where we are seeing extraordinarily good prices; and yet we have still got many of our food-service customers who want to increase their volumes as a result of this.

Pork is still cheap. On a relative basis, I like to say pork is cheaper than potato chips. So it's still a cheaper product.

So I think that -- yes, I think there is going to be some price pressure. Although we are not getting a severe backlash from the retailers. I think they do understand, as we have said for a long time, this $4 corn has got to be priced in. I think it is now being priced in.

Food prices are across the board. I think consumers understand this. This ethanol policy change is a reaction to that. I think the retailers are going to; and I wouldn't be at all surprised if there was a minor drop in continued volume as consumers just react to something cheaper.

Although they can't go to beef, because they have got high-priced beef as well. And yes, there is more chicken; so I guess they could rotate to the other protein, chicken, to some degree.

But I think this pricing has got to go through whether we like it or the retailers like it. If you are going to have higher priced grains, that is just a reality of food prices.

I don't know if that answered your question; that probably didn't, but it is hard to tell. But that is the reality of what has to happen that we said two years ago had to happen.

Ken Goldman, JPMorgan.

It's obviously difficult to model the Company without some clarity on hedges, so if you can quantify a bit how much you locked in and for how long, I think that would be helpful. I can't give away exact figures, but anything you can assist with beyond what you said in your prepared remarks would be appreciated.

Ken, the only thing I would tell you is that we have placed -- again, we don't give numbers, Ken, except tell you near term we are not much exposed. We are not highly exposed to the hogs and not highly exposed to the corn. How about that?

As we go further -- and that certainly is this fourth quarter and the first quarter. As you go farther out we haven't taken nearly the positions.

And we have taken stronger positions on grain than we have on hogs, I will tell you that. And the reason being we think there is a higher risk that this corn could run away from us, for whatever reason, and we wanted to make sure that if it does run away it doesn't have the same effect it did two years ago.

There is a debate in this organization whether hog prices could even go higher than where they are. In fact, Mr. Manly shares that view pretty clearly with the rest of the management team that, even at these prices, the 101 and 102 and such, that Mr. Manly believes they could go even substantially higher than that.

So we lessened our hedge position relative to live hogs compared with the grains. That is why Bo feels more confident about giving you the raising costs than we do about giving you the margin, because we think we have got a good handle on where our raising costs are going to be. We don't have quite the handle on where our margin is going to be because we have got some exposure for the market to go up. Bo, you have any comments?

Larry, I think you have encapsulated it fairly well. We certainly do not have a great deal of commodity risk as we look for the balance of this year and probably for the first quarter, first third of next year.

Christine McCracken, Cleveland Research.

Morning. Nice quarter. You mentioned, Larry, the outlook for exports as being exceptionally strong, I think, given your current outlook. I am wondering -- how much of this is the reduction in competing supplies from other countries, and how much of it is growth in demand?

I am wondering from a competitive supply standpoint we are hearing a lot about some of the disease disruptions in some of these countries, how sustainable that might be.

Well, I think you are clearly talking about FMD in Korea, and that has created a short-term shock opportunity and the US has the product to ship here. That is going to take some time to rebuild that back.

We will see, I think it's our experience that many times all of that supply never does come back and even so. So I think the Korean situation is here for a while. Bo, you think --?

Well, I think there were also some reports over the past few weeks from the Chinese government of reductions in the Chinese herd in excess of 1% or 2%. If you look at the relative size of that system, being about 5 times larger than the US, you take a couple of percent out of China and that is the equivalent of 10% here in the United States.

So there are some opportunities out there I think that could move in our direction that would be very helpful and supportive of (multiple speakers) prices.

So I think the point being that China could be an increase in long-term supply. Korea is a short-term supply that we will have to see over the next two years how much of that really comes back. I think longer term it will represent some portion of increased supply, that Korea will be there on a long-term basis.

I think from a supply perspective or competitive supply perspective, we don't seeing increases coming out Western Europe in terms of their availability of raw material. In fact I think as we move in through this side of their cycle in Europe that higher grain prices will probably decrease hog production in Western Europe slightly over the next 12 months. And they may have less competitive meats in the marketplace against us six months down the road.

I think the demand is there, and I think we have a recovering world economy. The only question from my standpoint is price.

These raw materials have reached some pretty high prices. So you may have a choking of demand simply because people can't afford to buy it. It is just getting so expensive that they can't afford to buy it.

But I think the demand of these export markets is going to be there, if we can simply have the supply at a price people can afford to buy it.

Well, but even in a case like Korea where you have a 20% tariff that is moved off, you don't need to have any changes in prices to have a positive impact on both lower prices for the consumer in Korea and higher prices for us.

Well, that's right. I think China has got like -- they have got the two-tiered. They have got the VAT and they've got the tariff. So there, those two together adds something like 23%.

China has announced they are going to reduce those. I guess that is what they did before when we got the big carcass order. They haven't set pork yet.

And that is not a card you can read very easily. They do what they want to do and, Christine, I would be a fool to try to predict what the Chinese are going to do. But at a $1 market over there, there is a lot of pressure to do something. Sure is.

Heather Jones, BB&T Capital Markets.

Good morning and great quarter. Just going back to one of Bo's earlier comments about fresh pork packing margins are unlikely to stay at current levels given how strong -- and you mentioned a new normal of, I believe, $3 to $7 a head.

I guess I am just trying to get a sense of how quickly you all anticipate reverting to that new norm. And given all of these strong export trends you mentioned as well as solid domestic demand, what is going to trigger that reversion to the new norm?

Heather, I guess -- I don't know. We are not at the new norm yet. We are still well above it. And I can't tell you when that is going to change.

I can tell you one thing, Heather, $75 hogs this June is certainly to be a shock to those numbers. If pork bellies don't go to $1.50 -- in fact our trader, Dhamu, says he thinks at some point he is going to see pork bellies potentially this year trade over $2 a pound, which is an unbelievable number.

It depends on how strong is that demand out there, and from a pricing standpoint; but certainly the raw material is going up. It is going up substantially.

We closed last night at nearly $64 for hogs. Yet we are projecting over the next 90 days we will be up another 20% from that. I mean those are big numbers to get the meat prices in the retail and food service case to cover that.

But to answer your timing question, I don't know when.

So you are just striking a note of caution because you know it can't stay this way indefinitely; but it's not that you foresee this reversion to that norm over the near term?

I don't see it on the horizon, on the foreseeable horizon. We are still going to have -- should have good margins, but I can't believe --

Heather, we are sitting here today, we are halfway -- closing in on halfway through our fourth quarter, and we have had very good margins through February and March, through today. We have got double-digit margins today.

It will correct itself over the long run, because this type of return on investment would attract capital, would attract expansion, and we kill more pigs and drive the margins lower. So it will either happen by itself or someone is going to build a plant.

All right, okay. Thank you.

You get two-year visibility on that, though. You get to know when somebody is building a plant because they have got to file for a permit and they have actually got to build the thing.

Diane Geissler, CLSA.

And by the way, we are not going to build a new plant to expand capacity.

Good morning, Larry. Thank you for underscoring that. (laughter)

I want to ask a question on your packaged meat business. You guys have been breaking out the profitability there I guess for the past couple fiscal years. Can you just -- and there are just a lot of moving parts there. That business did so much better than what I had been modeling.

I think there is probably a seasonal component; it looks like January is your peak quarter in margins in that business. But can you talk about what are the puts and takes as we look into the fourth quarter and beyond?

You have got the restructuring that you have done. You certainly have higher input costs. You have got prices moving up at retail.

What should we look for in terms of overall profitability in the fourth quarter and beyond and how that will flow quarter by quarter based on your current viewpoint?

Diane, I think that this is part of a continuing trend that continues, gosh, going back four years. You are right, there are a lot of moving parts here. But what the fundamental -- the fundamental you should take home is that we are continuing to drive down our cost. You should take that; that is number one.

Number two, we are having a much more disciplined approach in our sales efforts. Our sales organization -- we have had too much for too long of customers who simply are helping us pay the overhead. As we have limited capacity in many of the product categories, we simply are trimming off customers who we simply don't make anything on their business.

We're not trying to rob any customers. We are certainly not priced above anybody else in the marketplace. We know we have to be highly competitive out there with our competition.

We can't rob our customers. They are our customers, and we are aligned with them, and hopefully they are aligned with us. We have to be fair with them.

But we can't be in the business of not having any contribution. This industry hasn't had the money to build and expand and modernize like it needs to. And we need to have some returns in here that allow us to invest from a food safety and a plant and an efficiency standpoint, to keep our costs in line.

I think that is what we are doing. We're looking at our customer base and we are saying -- where are our good customers? Who are those we want to be aligned with on a long-term basis? We are building relationships with those folks, and I think they appreciate that.

What we are doing is eliminating those customers who do not help us go forward with this Company. It is not -- it is hard to show you in each and every quarter, except that the numbers always improve. And I will tell you, we have made a decision from a Company standpoint we are going to spend some capital expenditures that are going to further improve us from our bacon-slicing operation through our dry sausage operations through our fresh pork operations. There is equipment out there that can substantially improve the way we produce this product and further drive our costs down.

So it is much more cost driven than it is sales price to our customers. We are not trying to -- we understand it is difficult to price in this environment, to pass it on to customers. So it is incumbent upon us to drive down our costs structurally, make us a much more competitive platform.

So I think you ought to take away from this something that I said in my future outlook -- is that we believe there is substantial opportunity still within this packaged meats business to further drive down these costs. Again, I haven't announced any numbers at this point to the market, but they are numbers I think you would be impressed with.

You have given estimates as to what you think the restructuring in that group should mean over the longer term. Can you just give us some idea about what you think you are going to capture in '11 and then as you head into fiscal '12? I think your total savings in that unit is going to be $125 million. Is that --?

Diane, we are past that $125 million.

Diane, I believe you were at our Investor Day. I think consistent with the information that we passed to you folks at that point in time, we still believe that $0.10 to $0.15 margin range is our normalized area. You are right in terms of the observation that the third quarter is typically our strongest from a packaged meats margin perspective.

I doubt that we would be able to maintain 9% packaged meats margin percentage as we move into the next quarter, but we feel very comfortable with that normalized range.

The one thing, Larry, also I think it would be good to mention is that the consolidation of our sales activities amongst all the IOCs really now allows us to effectively change our product mix as we go forward into the marketplace. So we can identify those low-margin items collectively across all these IOCs, and make decisions consciously to say -- do we want that business or not? And if not, where we going to take that raw material volume? How can we sell it for more money -- that same pound of meat for more money going forward?

That is really the key. But we are going to stick to our guidance in terms of $0.10 to $0.15.

Christina McGlone, Deutsche Bank.

Good morning. I guess on the Hog Production side, Larry, you said you are not seeing any expansion in the industry. I am curious. With forward margins being profitable, what are the restraints or the concerns out there that you think is preventing this expansion? Or do you think eventually it will happen?

It is very difficult, Christina, to stand in the face of economics. However, we do have a situation today where we believe that the banking community is adding a great deal of common sense to the economics of our industry and saying -- folks, if you're going to even be in the business you need to now have risk management programs that these -- many of the farmers didn't have before. That is taking capital out of the system.

I think that it's going to require more money to get into this business and maintain in this business than the financial community has ever required before. So I think that is acting as a natural brake to any potential expansion.

You have increasing environmental issues, social issues that are impacting where and how you could expand within the United states. So we don't see anything on the horizon; and frankly, that is one of the things we think why there is a great balance between fresh meat and process -- and the live production side of the business. It's that no one is really probably going to step out and build a new plant unless they were assured sources of supplies of raw material. And basically that would be very difficult to make possible today.

I mean there still continues to be that option that corn could spike up at any point in time as a result of drought conditions; if the Chinese were to come into the market and try to buy large quantities in the world markets.

I think farmers are more cautious. They're more aware of the dynamics of corn, and I think that has a huge -- I think that sends shivers down people's backs when they think about we got $6 and $7 corn. We got a little bit of a profit in it -- a little bit, a little bit.

Corn could spike, Bo, to $8, $9. In fact many countries are paying that for corn.

So I think that gives everybody pause. When they go to their banker and their banker is saying -- wait a minute, guys; I don't know about this expansion idea. I think that is a big, big, big hurdle for anybody to get over emotionally and mentally and then to find the money to do it.

Ken Zaslow, BMO Capital Markets.

Hey, good morning, everyone. Larry, you said a very interesting thing about China, and I just wanted to make sure I understood. Because I thought that could be a very interesting opportunity if I heard you right. Are you thinking that if they reduce the tariffs on imports, is it going to be for muscle or for offal?

Well, it will be for -- that's a complicated little question there.

Probably muscle. (multiple speakers) the one that has --

Sorry, I (multiple speakers). Isn't there a big difference between -- if you get muscle in there, that is -- I wouldn't say a game-changer. But if you get --

That's right. A lot of -- you're aware --

I'm not trying to be difficult.

You are aware that a lot of offal already go into China today from everybody in the world. So changing something there probably would not have a big impact on the offals.

The big impact would be whether muscle meat would go in there. That would be -- that would take product off the domestic market here that could change the pricing of the raw material back in the United States.

I think that is what we think could happen. That is a realistic possibility. I think with this discussion that China is having with the world on import tariffs, I think it is a very real issue.

Ken, it is all about muscle meat because right now the massive quantities of offal that are moving to Asia are typically going through that little hole in the wall called Hong Kong. And Hong Kong doesn't have the tariff structure that Mainland China does.

What happens from there we don't know. So probably there already is low tariff opportunities to buy offal in China. So it is really all about muscle meat.

That is what it was before when the big carcass orders came in whatever year that was, 2007, '08.

Lindsay Drucker Mann, Goldman Sachs.

Good morning, everyone. Just back to the fresh meats side of the business, is there a particular -- I know we are in uncharted territory here. But do you think about a level of cutout margin and drop credit where you would expect the positive economics to inspire more double-shifting or some plant openings? How high do we think this can go before some healthy competition starts to creep in?

You've got to find the hogs. There isn't anybody out there, any packer that is going to do it without finding the hogs -- or they already would have done it.

Well, they could very easily today, Lindsay; they could run their plants on Saturday. The industry has not been running big kill levels on Saturday. So that is an immediate increase in production simply by running plants on Saturdays.

We're not. Many in the industry are not running Saturdays. So we are not pressuring the hog markets.

As Bo says, if we pressure the hog markets it is going to send the hog markets -- already anticipated to be in the mid $70s, it is going to send them through the roof and we will all be short of hogs.

In fact, we still look at some spots. There are holes where we won't be able to fill out the kill in the East Coast. We are having trouble getting enough hogs to run five days a week right now at any price.

The reality is, right now we are probably running 15% less capacity utilization in fresh meat today as an industry compared to where it was three years ago and two years ago.

Probably right.

We had big 390,000 head kills on Saturdays; and we are lucky if we get much over 100,000.

And we're not hearing any real talk about anybody building a new plant to add capacity. I am not hearing it. Triumph was the only discussion you ever hear about, and that is sort of us talking to ourselves. But even that is a ways off even if it happened.

Tim Ramey, D.A. Davidson.

Good morning, guys. Congratulations on a great quarter. I am wondering if -- I'm not sure you can really say anything about it -- but the change on the Board with COFCO's representative, Mr. Ning, stepping down, means anything about your relationship in China and your ability to sell into China? It just struck me as odd that even if his commitment are great there wouldn't have been another representative named.

Yes, let me take that question. Obviously you saw the press release yesterday. We have been -- Frank has been struggling ever since he -- since COFCO became a significant shareholder. He has been struggling to make the Board meetings. It's a very long travel for him.

And that is only one piece of it. Certainly we were hopeful and they were hopeful that the relationship between Smithfield and COFCO might foster something very large between the two companies. We have differing goals in terms of what we want to accomplish between what the Chinese want to accomplish with a US relationship and what the US wants to accomplish with a Chinese relationship.

We have not been able to fully reconcile that between the two of us. So I would tell you there is no hard feelings between the two of us. I spoke to Frank, very nice conversation on Friday. Frank and I have a very good relationship.

It just hasn't worked out like they thought it would. It's not worth Frank flying halfway around the world when he's got a $140 million, $150 million investment. Frank is an extremely busy guy, and it is simply not worth them making him travel to our Board meetings.

So it made sense and we were going to be put in a compromising situation. They did not propose -- Frank did not propose another member to our Board.

So while -- and we've got a good relationship today. We are talking to COFCO. In fact, our sales people are probably talking to COFCO today, so it's not like we have severed our relationship with them.

It hasn't worked out the best, I will tell you that. We haven't done as much business between the two companies as we would have liked. We thought the carcass deal was the beginning of a good, long relationship, and it just didn't turn out that way.

So Frank not being able to make the meetings, I am not sure what he'll do with his shares. They may hold them; they may sell them. I think they may likely sell them at some point. They are not in any rush. They have got a nice profit in it.

So that is the reality where we are at, and simply not worth Frank's time. He's a busy guy with a big company. It is simply not worth his time to come to be on this Board.

Robert Moskow, Credit Suisse.

Tim kind of asked my question, but I will ask a different one. I am just trying to figure out why the stock is not up more today, and I think it should be up more. I think it gets to maybe some investor concern that the margins keep getting better and better but it is hard to understand the sustainability, as Bo pointed out.

The volume really isn't growing. Maybe it doesn't have to because there is so much efficiency still to be accomplished and so much more of a push towards value-add.

But at any point, Larry, do you look at those volume sales and you think maybe a year from now, two years from now, that the value paradigm is going to shift internally and you're going to want to push volume higher? Thanks.

The answer to that is we already have. We already have had that discussion. Even the volume decline this quarter, if you would notice, it is trending sharply below where we were even in the first and second quarter. So yes, we have already addressed that.

The other piece of that is that we are -- which is that we are going to put some more marketing behind our brands. We are encouraged as we pointed out in the press release with some of the strength of some of our branded items, and we are going to -- we already have a focused plan I guess is what the right way to say that, some of it moving, to increase the consumer marketing around these brands, to push, to move this product to more of a pull strategy than an all-push strategy.

The short answer to that is yes. We understand we can't save our way to the future and we can't shrink our way to the future. We understand that very clearly.

However, we do have a rationalizing process that needed to occur. I think we are -- we debate every day whether we have reached that point.

We should be on the growing side on the packaged meats; but you take some examples of pork bellies -- pork bellies can be worth more in Korea on an export item than they are worth in a package in the United States. So we go, quote, where the money is.

And I think that trend will turn. I think Bo made a point which is right on point, that we are changing the product mix, upgrading the product mix with what we have got out there in the retail case, and that is having an impact on those margins.

These are small volumes. They don't have giant impacts on the volume side of the business. But they have nice impacts on the margins.

So I think that you will see us -- as you see the trend slowing down in terms of the negative, I think you will start to see the positives as you look a little bit further out. So just hang on.

Ann Gurkin, Davenport.

Good morning and congratulations on a terrific quarter. Just wanted to spend a few more minutes going through the details behind your statement about you expect to be profitable in Hog Production in fiscal '11 and beyond. So to me it implies that you all pretty much know your positioning in grain versus pricing, margin, spread there to make that kind of statement.

Then how much is that versus ongoing realization of cost-savings?

Ann, I think that if you look at the future strip for hogs and the future strip for corn, about two or three weeks ago you could have put on profitable spread margins in almost every month that was available. And we find that attractive.

We believe there is upward mobility in terms of potential higher hog prices than what was reflected in the futures market, and we are reacting accordingly. I think we are going to give you not that much in terms of outlook for going forward.

Carla Casella, JPMorgan. Micah Kaplan, BofA.

Good morning, guys. Just real quick on the financial profile, Bo, I know that you said that you guys are getting pretty close to the interest target here. I guess it looks like to me, even with an ABL repricing, that you're still probably a little short.

So I guess first of all, what additional bond buybacks and/or tenures may still be on the table? Then secondly, once you get to your interest target are there certain assets out there, especially on the retail side, that you guys could potentially lever back up to buy? Thanks.

You ought to note we have another $78 million worth of maturities in this coming August that we have to pay off, so we will have some additional debt reduction in addition to restructuring of the short-term credit arrangement in order to achieve those goals.

We're going to end the call here and turn it over to Larry for closing remarks, please.

I think it is close to 10 o'clock, folks, and I realize you guys have got busy lives. I agree with you that from my standpoint the stock is way underpriced. I think we continue to deliver very solid results. I think we have again and again and again and again and again delivered in the Pork Group surprisingly good numbers.

I think our management team is focused, laser focused, on continuing to improve our cost structure and our competitive position. I am extremely pleased and optimistic about what I see still coming.

Bo makes reference to the fact that the fresh meat margins may be reverting to the mean; we will see. They continue every day to stay at elevated and the export markets only look to be getting better.

I guess the only thing from a management standpoint we can do is focus on running the business. The balance sheet is the best it has been in probably 20 years. Our liquidity is extremely strong. Our relationship with our customers is absolutely excellent. And our management team sees more opportunity in the future than they have even in the past.

So all I can tell you as an investor -- I think for the last two years we have delivered -- we have improved your stock price from $5.60 to nearly $23. As I said to you I look forward to a year from today to reporting to you again on the progress we have made over the next 12 months. In spite of the fact that we are coming off of record fresh meat results, I look forward to talking to you 12 months from now. I believe the opportunities for this business that we already know have nothing to do with fresh meat margins.

I think that you are going to be pleased as you hear those results as we go forward. So we will manage the risk. We look at the corn markets; we look at the hog markets. We have got some smart people in our trading organization. Dhamu Thamodaran does a terrific job for this Company; he is an advisor to many of our customers in terms of when they should place their buys, and they respect him. So he guides us through that treacherous water very, very well. And I am very pleased with that job.

From that standpoint I think that we are managing the risk much better than we have in the past and we are going to continue to improve this competitive structure and I think deliver to you very solid results. And hopefully at some point the stock will recognize that this is for real, not some market that just happens to be in our favor. Thank you very much and thank you for listening.

Thank you. Ladies and gentlemen, this conference will be available for replay starting today at 11 a.m. and will run until March 24, 2011, at midnight. You may access the replay service by dialing 1-800-475-6701 and entering the access code of 192581. (Operator Instructions)

That does conclude your conference for today. Thank you very much for your participation and for using the AT&T executive teleconference. You may now disconnect.