Smithfield Foods Inc (SFD) 2013 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Smithfield Foods fiscal 2013 second quarter earnings teleconference. At this time, all participants are in a listen-only mode. Later we will conduct a question and answer session and the instructions will be given at that time.

(Operator Instructions)

As a reminder, this conference is being recorded. I'd now like to turn the conference over to our host, Ms. Keira Lombardo. Please go ahead.

Good morning. Welcome to the conference call to discuss Smithfield Foods fiscal 2013 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 2012. You can access the 10-K and our press release on our website at SmithfieldFoods.com.

On our call today are Larry Pope, President, and CEO and Bo Manly, CFO. This is Keira Lombardo, Vice President 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 opened for questions. Larry?

Thank you, Keira and good morning and happy holidays to each of you. I hope you had an opportunity to enjoy one of our spiral hams over the Thanksgiving holiday. If you didn't, you still have another opportunity to enjoy this excellent product over the Christmas holidays and I hope you do.

On the business front, I'm pleased to report a very solid second quarter for Smithfield. We are reporting adjusted quarterly earnings of $0.61 a share this year versus adjusted earnings of $0.76 a share last year. As I'm sure you saw, we took a big charge this quarter related to buying back some very high cost debt which was refinanced with a new piece of debt at a much lower interest rate and a longer maturity. From our standpoint, we're in the final stages of cleaning up the high-priced debt overhang we have been laboring under since 2008. This will be finally cleaned up next summer when the $400 million convertible note issue matures and is retired.

I'm sure you are all surprised by the strong results in fresh pork and many of you were surprised by the results in Hog Production. Bo Manly will give you more color on these in his report but suffice it to say, I am proud of this management team and the smart way we are managing the commodity and volatile side of this business. I cannot assure you that we will always achieve such stark differences between your expectations and our results but I will assure you, we are approaching this business with the goal of reducing volatility and improving the fundamentals of these two segments in a smart way.

I hope you took note of the significant amount of stock we bought back during the quarter and the amount we have repurchased since we initiated the new repurchase program back in the summer of 2011. The fact that the Company has repurchased a total of $575 million, or 17%, of the outstanding shares in such a short period should give you some indication of how strongly we feel our stock is undervalued. I commented on the last call if you didn't like the stock, I would buy it. Our purchases totaling 11.6 million shares for $240 million and 7% of the outstanding shares, just since the last quarter, should tell you I meant what I said.

Looking forward, we will be taking a balanced approach to share buybacks. We have a number of very good internal projects we want to fund, which are very strategic and have good payback. However, we will continue to look at the proper allocation of capital and buying back our shares when we feel they are undervalued will remain front and center in our thought process. We will also pursue growth through acquisitions in a very measured way in the value added packaged meats area, if those should appear.

When we when you look at this Company, I ask you to step back a bit and really look at what you're investing in. Smithfield Foods is essentially two companies. A commodity-based, live production company and a fresh and processed, consumer packaged meats company. The consumer packaged meats company generates, just the packaged meats side, approximately $6 billion in annual sales, larger than many of our competitors in the same packaged meats space. That business, combined with our fresh pork business, generates $600 million to $700 million in operating profits and even more on an EBITDA basis.

If you value this segment like our competitors, I think you will see this business alone is essentially worth more than the whole market capitalization of Smithfield Foods. That means our live production and international business all combined are worth very little. Do you really believe that? I know that you are very concerned about the profitability, or lack thereof, of our live production business over the last few years. And think our international business has never produced a profit that much mattered. Well, consider this -- we began investing in live production back in the late 1980s. This business was very profitable for a number of years and carried the Company, and allowed us to invest in many of the packaged meats business as we own today. Profitability has fallen off in the past few years as the price and volatility of corn have wreaked havoc on this side of the business.

$6 corn in 2008 nearly wrecked the whole industry. However, $7 corn this past summer only resulted in small losses. The result of a new hedging strategy we initiated nearly two years ago and allowed a much larger hog market the direct result of sharply reduced worldwide supplies. Why were these supplies down? New welfare regulations in Europe, combined with even higher grain costs on the continent, forced many farmers to severely cut back their herds or exit the business entirely. This has resulted in stronger demand for US pork and thus puts US live hog prices higher. We are currently paying over $7 a bushel for corn, still at record high levels, and yet we believe there is still a chance we might make money for the year.

As we look into calendar 2013, worldwide pork supplies will likely continue to decline, particularly in Europe, our primary international competitor. Beef supplies in the US will also be lower. European live hog prices will be significantly higher again next year which will spill over to the US market and drive US live hog prices likely higher. Grain planting should be very strong next year in the US which could result in lower growing prices if weather conditions are satisfactory. This could set up very well for our live production business next year, resulting in strong profitability.

There are risks here, but the fundamentals look good. Is it possible we are returning to a period of renewed profitability in live production? I'm not sure. But the world is certainly adjusting to higher priced grain. Industry dynamics and hog production have changed. And we have changed with them. We have employed a disciplined strategy to deal with our volatile environment by hedging grains and live hog prices when they are in the range that gives us a satisfactory P&L that can help take the wide swings in profitability out of the equation. I think our risk management team, headed up by Dhamu Thamodaran, has done an excellent job. They are disciplined and an integral part of the day-to-day operations of the farms and the meat business. Risk management has become a core competency of this company.

On the fresh pork side, this past quarter was very good. Our fresh pork business benefited from exceptionally strong fresh meat environment and results of strong retail promotions. However, we got better operations as well. Our East Coast operations have been short, sufficient supply of hogs for over two years as the farms have gone through their cost improvement initiative. This initiative reduced hog numbers and waits as we depopulated farms and made the necessary renovations. This initiative is done. Hog numbers are growing again and weights are increasing. This helps the operating efficiencies of both the farms and East Coast plants, and is showing up in the results of both segments. The result was profits above the normalized range for fresh pork. It was a good quarter and our management team under the direction of George Richter performed well. They are to be commended.

Our export business also continues to be excellent. While our total business for the quarter was down 12%, more than half of that lost carcass business we had last year was made up with new business to Mexico, Canada, Russia and other countries. I do not want to enumerate on this call. Bottom line, our export business had a very good quarter and profitability in exports between years was almost the same in spite of a 12% decline in total volume. Hats off to our export guys.

You probably saw that we repurchased the share position held by Costco since 2008. While the partnership strategy we had hoped for did not work and they exited the stock, we continue to have a solid commercial relationship with Costco and are continuing on a business as usual as far as exports are concerned.

Now, turning to the packaged meat side of the business, the part I like the most, I have commented many times that we are focused on improving the quality and consistency of our earnings to a package meet strategy. We have a stated strategy of shifting our earnings away from the commodity oriented business that is highly volatile to value added packaged meats with a focus on selling our brands. I think it's working.

This past quarter we achieved volume growths in packaged meats of 2%, while maintaining strong margins at $0.15 a pound, up from $0.11 a pound last year. This represented growth of 4% in food service, 2% in retail and 5% in our deli business, as well as a 7% growth in packaged meats in the export markets. Volume in the industrial packaged meats business declined by 15%, primarily related to one customer specific situation, not a general decline in the regular business. These are very good numbers. For particularly when each of the overall channels is not growing. We essentially gained market share in every channel. Furthermore, we have done it several quarters in a row. Our continued focus on consumer marketing is part of the reason. We have a much more focused and coordinated sales and targeted marketing effort, and we continue to improve our cost structure and develop and rollout new products.

Another reason we gained share is a strategic change we've made in our vertical integration model. Our decision to move away from pen gestation five years ago to group housing is becoming very important to our customers and is an important factor in the recent growth in our food service business. We have a strategic advantage in hog production that others find hard to replicate, which is yielding us new business. In addition, as supplies tighten, our farms act as an insurance policy for our customers that assures them ample product in times of short supply. Our farms matter. And they are becoming more important to the future of this company and not just on the hog production side, but also on the packaged meats side.

Finally, the international business is a long-term strategy. Many parts of this business are working quite well. And Bo will speak to this in his report. However, I am more convinced than ever that we have a good strategy in place in Eastern Europe. Campofrio is situated in some of the most difficult markets in the world right now and is also in the middle of realigning their business. But this could produce significant rewards when the markets turn and the realignment is complete. While we have struggled over the years, many pieces are beginning to fall in place and I am optimistic about the future potential of our European business.

Bottom line, we had a very strong quarter. We have a management team that has been in place for some time. They know the business and are working together better than they ever have. Our marketing strategies seem to be taking hold. I will come back to my outlook for the rest of the year, but let me first turn it over to Bo Manly to give his report. Bo?

Thank you, Larry. Good morning, everyone. Thanks for joining us today. Our second quarter net income totaled $11 million, or $0.07 per diluted share, compared with the prior-year second quarter income of $121 million, or $0.74. Our six-month income equaled $73 million, or $0.48 per share, compared to last years earnings of $203 million, or $1.23 per diluted share.

As we mentioned in our previous call, that early in the second quarter, we redeemed bonds with a face value of $694 million. This early debt extinguishment resulted in a pre-tax charge of $121 million, or $0.54 per share. If net income is adjusted by this charge, non-GAAP EPS for Q2 was $0.61 per share versus last year's Q2 comparable non-GAAP EPS of $0.76.

Performance drivers in the quarter were first, continued successful execution of our initiatives for packaged meats volume growth while maintaining strong margins. Second, fresh pork margins rebounded from losses in Q1 to above normalized per head profit in Q2. Third, international earnings demonstrated strong growth compared to both recent first quarter and Q2 last year.

While our hog production segment suffered, the impact of drought on feed costs and the decline in live hog prices, we are extremely pleased with our margin management hedging program was to develop -- to dramatically limit losses to $8 per head for the quarter and $1 per head loss for six months. Hedges will continue to help mitigate cash losses in coming quarters.

The second quarter was very busy for Smithfield's treasury group with the bond redemptions and a long-term bond refinancing, as well as an active share repurchase program. I will share more details in a moment.

The sales headline for Q2 is volumes were up in every segment of the business. Lower average unit prices across the entire domestic complex, live through packaged meats, returned fewer sales dollars across the board on higher volumes. Consolidated sales for the second quarter were $3.2 billion, down 3% from the same period last year. And $6.3 billion for the first six months, 1% below a year ago.

We are very pleased with second quarter year-over-year packaged meats volume, as Larry said, with growth of 2% building on two prior quarters year-over-year increases to create 3% six-month packaged meats volume growth. Sales dollars were flat year-over-year for the quarter and six-months, as volume growth offset lower unit prices and lower raw material costs of enhanced unit margins. Most importantly, in the face of flat total packaged meat sales, our domestic core packaged meats brands showed growth in sales with both higher volume and margins.

Fresh pork sales dollars declined 4% and 2% for the quarter and six-months, while volumes rose 2% and 3% respectively on higher headcount. Hog production sales declined for the quarter and six-months, 7% and 5% respectively. Due to $10 and $6 per hundred weight declines in the Iowa, southern Minnesota hog price. A 4% increase in tonnage in Q2 reflects equal parts more headcount and heavier weights from better performance. Lower sales in the international segment reflect currency translations for the quarter and six-months, offsetting increased volume and steady selling prices.

Second quarter total company gross profit declined 1% due to sharply lower hog production margins, offsetting gains in all other segments. Year-to-date gross profit declined due to lower hog production margins through the six-months and lower fresh pork margins in the first quarter. Despite declines in consolidated operating profit due to losses in hog production, we are extremely pleased with the 33% increase in packaged meats operating profits and improvements in the international segment. Similar conditions impacted our six-month year-over-year operating profit with the addition of fresh meat losses in our first quarter of this year.

Growth in total pork group operating profits for Q2 and for the first six months was led by strong improvements in packaged meats. Second quarter packaged meats operating profit increased 33%, while the six months results improved 31%, driven by higher volumes, improved product mix and lower raw material costs. Core brand growth in sales volume and profits per pound contributed to improved packaged meats and pork group results. We expect continued strong packaged meats operating profit and volume in the coming quarters.

Fresh meat operating profits per head were $13, down 4% compared to last year. But up significantly from $2 loss per head in the recent first quarter. Total head harvested was up 3% quarter over quarter and cut out values and ISM hog prices both declined 15% in tandem in the second quarter, resulting in flat year-over-year total fresh pork operating profits. Operating profit in fresh meat remained at the high end of the normalized range as we moved into the third quarter, reflecting seasonal strength in fresh pork volume and margins. Looking forward, we expect strong exports to continue to be supportive of meat and cut out values.

Hog production operating profits in the second quarter declined from $64 million a year ago to a loss of $33 million this year. Six-month results declined as well from $134 million to a loss of only $10 million. Last year first quarter results reflect $39 million charge related to Missouri litigation.

Our hedging strategy to protect hog production margins helped dramatically offset very adverse market conditions. Our hedging strategy dramatically mitigated the impact of drought ravaged higher corn and meal process, and offset eroding live cash hog prices. In our last call, we indicated hog production losses were likely in the coming quarters, though mitigated by our hedging strategy. We expect to continue to have losses in the third quarter similar to the results in our second quarter, while we anticipate returning to profitability in our Q4. We continue to expect a break even to a profit or loss of a couple of dollars per head for hog production profit for the full year given current market conditions.

Higher grain costs increased domestic hog raising costs from $64 per hundred weight in last year's second quarter to $69 this year. $1 to $2 higher than estimated previously. Second quarter ISM price per hundred weight declined from $69 a year ago to $58 this quarter. We expect domestic hog raising costs to decline towards the mid-60s by year-end.

The improvement in operating profit in the international segment for the second quarter and six-months were driven primarily by approved performance in live swine operations in Poland and Romania. Income from equity method investments for the second quarter improved slightly as higher Mexican joint venture swine profits were offset by lower Campofrio earnings. We continue to support Campofrio's realignment plan as the Company weathers European recessionary pressures.

Tension and compensation expenses pushed second quarter SG&A up 2% year-over-year. The 7% SG&A decrease for the six-month period was driven by a $39 -- $39 million Missouri litigation expense in the first quarter of last year. Interest expense decreased 6% and 9% for the quarter and year-to-date periods respectively, primarily due to bond tenders and the purchase in the second and third quarters of fiscal 2012. Refinancing of our notes in August of 2012 was neutral to interest expense as lower borrowing rates were offset by increased debt. Forecast interest expense for the full fiscal 2013 remains approximately $170 million to $175 million.

Two topics dominated the balance sheet this past quarter, debt refinancing and stock purchases. The Company took advantage of very favorable capital markets to refinance a major portion of our long-term debt. In August, we issued $1 billion of 10-year 6.625% interest unsecured public bonds. The proceeds were used to redeem $694 million of face value debt, pay tender premiums, accrued interest and fees, leaving approximately $170 million in cash. This transaction was the catalyst to dramatically improve our debt structure stretching maturities to the 2022, while locking in some of the lowest rates in Company history.

The tender for our 2014 secured bonds and renegotiation of our Rabo term loan eliminated all debt security interest and liens, freeing up all of the Company's fixed assets. Following this nearly $700 million bond refinancing, only $55 million of our May 2013 notes and $400 million of our June 2013 convertible bonds remained in short-term obligations. While all capital market options remain available, we anticipate we will repay these bonds with cash on hand and available short-term credit lines if necessary. This will leave no significant debt maturities until 2017.

In the second quarter, we purchased 3.4 million shares and subsequent to quarter end, another 1.2 million in the open market. On November 19, we purchased 7 million additional shares from Costco in a private transaction. So far this year, we've purchased 19 million shares and 28 million shares in total, or 17% of the Company's shares outstanding, since we initiated the program in fiscal 2012. This leaves $24 million remaining of the Boards cumulative share back authorization of $600 million.

The Company will continue to buyback stock if we feel the stock price is undervalued and alternately if higher return investment opportunities and other cash needs are not imminent. At the end of the second quarter, we had 46.942 million shares outstanding and after the Costco purchase, 138.697 million shares.

Liquidity remains high and cash flow projections for the year remain strong. We ended the second quarter with $1.2 billion in cash and available liquidity and continued to remain well above $1 billion. Capital expenditures for the full fiscal year could possibly increased 5% to 10% above the previous forecast of $300 million due to heavy expenditures in packaged meats to include the new hot dog plant in Kinston, North Carolina. The full-year depreciation forecast remains at about $240 million.

The shrinking of equity from stock purchases, modest addition of debt and the refinancing, and fractionally lower EBITDA have moved our credit metrics in a slightly negative direction. Credit metrics, however, remain historically strong with EBITDA interest coverage moving from 5.7 to 4.7, net debt to capital from 35% to 41% and debt to EBITDA from 2.1 to 2.6. We do not view these ranges as troublesome and we do not see this as any indication we have changed our philosophy to conservative balance sheet management and respect for equity holders.

In conclusion, we have driven through several key intersections on the road to enhance shareholder value during the first six months of fiscal 2013. We weathered the headwinds of the worst drought in decades and $8 corn by systematic application of our hog risk management strategies. Robust exports outside of China offset the loss of Chinese carcass sales a year ago, coupled with solid domestic retail demand for fresh pork results above the normalized range.

Our core brand packaged meats strategy has demonstrated meaningful traction and gains in all key channels, with improved margins and higher year-over-year volume for the third consecutive quarter. The integrated model that served our international segment well, posting record hog production profits.

As we begin the third quarter, we have a solid hedge position for hog production of the back half of the year and anticipate profits by the fourth quarter. Dramatic cutbacks in European hog production will significantly reduce export competition, supporting domestic fresh pork margins and boosting live prices as well. Our packaged meats segment has hit the passing lane, picking up speed and volume of legacy items and new product development while maintaining margins. We are very excited about our new state-of-the-art hot dog plant in Kinston, North Carolina that comes online next month.

Our integrated model in central Europe will continue to perform as pig production operations will continue to benefit from industry cutbacks, while fresh and packaged meats will have competitive advantage from assured sources of supply. We are confident we will enjoy these industry fundamentals well into fiscal 2014.

Thank you for your attention. Have a happy holiday and now back to Larry.

Thank you, Bo. That was a good report. Looking forward, I am solidly optimistic about the back half of the fiscal year. And while fiscal 2014 is too far off to see, the fundamentals sure look good to me.

As I discussed in my opening comments, fresh pork had a terrific second quarter. The third quarter is starting off slower than I would have expected in fresh pork. Margins in November were not where I thought they would be. However, as you know, fresh pork margins can change overnight. I am not at all worried about fresh pork business on any kind of a trend basis. In fact, I am very sure that our fresh pork business is improving fundamentally, significantly and quickly. Adverse -- absent adverse market dynamics which usually correct very quickly in fresh pork, the future of our fresh pork business is excellent.

Packaged meats continues to be very good and growing. And we are having a strong holiday ham season. These factors bode well for the future of this Company, short and long-term. The projects and business we have on the books to grow our top line and improve our cost structure for the future are very encouraging. In spite of the Fiscal Cliff and economic concerns for 2013, I think we are positioned to have a terrific next 18 months.

I know I must, quote, curb my enthusiasm as this is a business that always has a lot of unknowns and is subject to big swings as we all saw this summer with corn, but I have to tell you, we have a lot of year-over-year comparisons that should be very favorable in every segment of our business and I look forward to reporting on them. With that, Keira, I'd like to open the floor for questions.

Thank you, Larry. In order to provide the opportunity to have 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, we are ready for questions.

(Operator Instructions)

Farha Aslam, Stephens Inc.

I have a question regarding your international business and perhaps two-part question on international. One, could you share with us your expectations of exports and the performance of that Eastern European business, given the changes in European husbandry rules into 2013? And then just on Campofrio, are you happy with the structure and any indication that you'll want to buy the rest of Campofrio with the depressed stock price that Campofrio has?

Keira, I'll tell you what, Farha, I'll take the Campofrio and I'll give Bo the Eastern Europe because it's mostly a hog production discussion on Eastern Europe, so, Bo, I'll ask you to prepare for that and I'll answer the Campofrio side.

We've had that, as you know, part of a roll up strategy and we started a number of years ago back in 1998 and then bought the Sara Lee business and merged that with Campofrio. And so we're prepared for the long-term. We certainly -- and we have had discussions with Campofrio and some of the other important shareholders on several occasions over a couple of years, and we've never taken it to the point of buying the remaining interest, which is substantial since we've only got 37%.

I am encouraged about the business of Campofrio. In fact I'll be there in just another 10 days. I'll go back over again. They have great brands. They have great positions in the Western European markets, particularly in Spain and France, plus other countries. So I certainly see Campofrio in the future of Smithfield Foods. It's part of our packaged meats strategy. It's what we want to do. It's on strategy for branded packaged meats. I don't think the stock price today much matters. Because the second-biggest holder is a 24% shareholder and so the stock is so thinly traded that the stock price doesn't much matter. 25,000 shares will probably move that stock one euro.

So I don't -- I do know it, notice it of course and they do as well, but I don't think that's relevant to any kind of a buyout provision or offer that would go forward. I don't think that would be the driving force, it would be what's the real intrinsic value of the business. But I will bottom line tell you I really like that business.

I believe you asked about exports and perhaps on the United States, we are very, very excited about opportunities for exports. Obviously we don't have the Chinese carcass business this year, but business to other non-Chinese countries are up over 20% for the second quarter. So we've developed a lot of other business.

We had a delisting situation of our major plant in Tar Heel, back several quarters ago. That has been resolved. So that's back up and shipping and so we've got more volume from our biggest plant coming into the export markets. So we're very encouraged by that and we think what's happened with Europe with less volume there, there will be less of a competitor particularly in the Asia markets for us.

As far as Eastern Europe is concerned, we're extremely pleased with the results that we've had there. A lot of that has to do with much higher hog prices and levels of profitability very strong in the hog production area. At the same time, our meat plants are profitable despite these very, very high cost raw materials.

We're very pleased with the packaged meat operations in Poland. We're adding money there to increase their capacity in packaged meats moving forward, and we want to try to see overall increases in both fresh and live production area in Poland. And our plant in Romania is profitable as well. As far as the European welfare guidelines, we've been compliant with all those guidelines since inception of those projects, both in Poland and in Romania. If they weren't already group housing formats, they've been converted to that, so we're 100% in compliance there, well ahead of the time requirement. So we're very pleased with that and think it's going to be a very good year looking forward. Thank you.

Christine McCracken, Cleveland Research.

Larry, you talked about the increase in volumes that you've had on the production side after rebuilding and getting that business back in order. When I look out over the whole industry, it seems like there's not been tremendous herd liquidation maybe to the degree that people are expecting. So looking ahead through the rest of the year and maybe even into next year, with the hogs and pigs report coming up specifically, what are your expectations around total industry volumes? Are they in line with USDA? Do you think USDA may be a little bit too aggressive in their estimates?

I'll make a comment. I'm sure Bo will want to make a comment. Christine, I was surprised. I've just been surprised at this high priced corn this summer. I thought we'd see sow liquidations, substantial sow liquidations when corn was at that $8 point. I was predicting, at least to people I was talking to, that I thought we'd have massive liquidation coming this fall. And I'm in agreement with you, Christine. I don't see it. And we've had a scheduled increase in our numbers. That's simply the farms coming back up. And I think that's about 500,000 pigs, Bo?

It was about 4% this last quarter.

That's just our farms coming back. Were not certainly adding any sows or anything like that. I don't know that there's much of that. But there certainly hasn't been the cut back that I thought there would be in this industry. And so I do believe a lot of people took hedge positions, either on their own or forced by the bank. But I don't think this high priced corn impacted this industry as I would have ordinarily thought that it would have. So I think people didn't have the financial difficulties that I would have expected they would have had.

Wouldn't that larger supply, then, of hogs put some pressure on hog prices later in the year? Why are you so optimistic on hog prices coming up this summer if the size of the herd really hasn't shifted that much?

I don't think I've made in my comments, Christine, I think you're going to have big cutbacks in Europe. And I think that's going to bode well for the export markets for the US, and so I think this meat's going to out of this country and we're going to replace that product that was coming out of Europe. Maybe even to Europe, but certainly on the markets that Europe is serving in Asian, I think that part's going to be very good, very good for the business next year.

I think, Larry, you may see a slight down tick in Canadian sows moving forward which could provide a little bit of balance, but I think I agree, there is no indication there's been significant liquidation. So I'd say probably at best we'll be about steady here in the United States with --

I think that's where we'll be.

Yes.

Heather Jones, BB&T Capital Markets.

On your fresh pork business, it was very strong for the quarter and our analysis shows that it's your best relative performance in a few years. And I know you mentioned that November started out a little weaker than you would have thought, but from a relative perspective, do you believe that you can -- that you've moved to a new plateau relative performance on that business?

Heather, we didn't -- I would tell you that we do that comparison. We don't often talk about that on this call because we don't talk about competitors and they don't talk about us. Certainly we all measure ourselves from what we see from public information and to the extent you have information outside of that, you do it that way. Yes, we certainly haven't -- this past quarter we certainly compared very favorably with the industry where we have had some shortfall. And that has been a concentrated effort of George Richter and the management team on the fresh pork side.

Part of that has been the fact that the East Coast operations simply didn't have the hogs. And those hogs are now coming back. When you add the weight plus the numbers, that certainly makes our East Coast operations look much more competitive than they have the last couple of years. So that is sustainable. And that's sort of recovery to where we were before we made the decision to take some of these farms down.

If you look in general, we were underperformed normalized range in Q1. Over performed slightly in Q2 and we are on average right at the top area. So I think our estimate of a normalized range between $3 to $7 is still a pretty good number. So that has been revised probably since where we were a year and a half ago. But we're comfortable with that range.

But I am, Heather -- the point I was making in my comments, I am a little disappointed in where we are in -- as we're in November and December when the cut outs are usually very strong. We had better cut outs in the second quarter than we're having in the third quarter and that's sort of -- that's usually not the case. But again, that changes, that's up and down. So I can be talking to you next Monday, Monday morning we could have a good cut out around here.

And I don't know why the competition -- I don't know how the competition is doing. We're all running Saturdays so everybody's making money and everybody is running lots of hogs. But I think that we have certainly narrowed the gap between ourselves and the competitors. There's still room to further narrow that, and I think there's a clear in place plan to do that. So hopefully you'll see that again. We'll talk about this again in coming quarters.

Tim Ramey, D.A. Davidson.

Larry, you described your hedging strategy as a core competency of the Company now. And I wonder if you could elaborate on how you are approaching hedging differently. I think I heard you say that you would pick off spots where you could be profitable, but it doesn't -- it's not clear to me why it's a significantly different strategy than in the past. Maybe you could elaborate?

Well, Tim, I would tell you that we take a more measured entrance and a measured exit from the markets. And so before, we were probably -- when we took hedge positions, we probably took bigger positions more quickly and weighted to some of the extreme ends and took a lot more risks. Now we are -- I can tell you that most of the time, if we are satisfied that the grain markets are in any range that we can accept, we have a significant hedge on grains all the time.

In prior years we would go years with no grain hedge, because that's not strategy. We are not -- it's probably in a long-range -- it's probably detrimental what we're going to the Company. What we're doing is taking out the volatility. We are not trying to maximize the profitability of the hog farm. It seems odd to have that discussion but we're not. We're trying to have a measured and more predictable hog production segment, because we're trying to use the hog production to be part and advance the meat business.

Our business is the meat business, not the live production business. So we're using live production to feed that. What we're trying to do is take the volatility out. So we hedge grains and we hedge the live hog market even when we know there may be room at the top. As Bo made in his comments, some of the things you've seen in this quarter is our hog cost ticked up a bit. We don't have everything hedged. We always leave some room for it to move if the markets move in our favor. And so the point I would say to you is we have a much more measured entrance and a much more measured exit, but we are trying to take the tops and bottoms off of this profitability.

Tim, we appreciate you at this early hour out there thinking of us, but if you go back to the spring of this last year, I think we communicated on our call, we weren't really certain which direction the corn market was going to go. We thought we talked about it going down. We talked about it going up. And we wound up with about a 50% hedge position going into the spring of last year because we felt there was such volatility.

If you asked us that question probably two years ago, three years ago, we would have come into that period of time naked. We didn't know whether the market was going up or whether it was going down, so we just sit on the sidelines. We're not taking that attitude anymore. We're trying to protect the downside risk of hog production. And use that -- it may wind up limiting some of the upside but we think that's in the best interest of the shareholders.

Ken Zaslow, Bank of Montreal.

You talked about the more balanced approach between share repurchases and CapEx. Can you talk about what CapEx projects or types of projects you're going to be implementing? What the timeframe is and what the returns are and how we could potentially add it to your operating profit over a certain period of time?

I would tell you that -- I don't know how we could think about how they can adjust their model. I'm struggling with how they would adjust their models.

I would say put in the 2% to 3% growth that we're looking for.

In the CapEx side, what projects are you looking to do on the CapEx? It sounded like you said some new projects are coming.

We're looking at some changes inside our plants and to get into some product categories that we are currently not in. I'd rather talk about that once they're in rather than talk about it before they are in. I don't like to give away competitive advantage before we've ever even put the project in. Because there are other people on this call. And I prefer they know it once we're in the market not before we're in the market.

But we've got mostly -- it's mostly the packaged meat side of the business in terms of enhancements to both the cost structure and product categories, but we also have the CapEx associated with the pen conversion to group housing that we are on a mission to get there. We've committed to 2017 and we will make that date. And we've got some CapEx that's got to be devoted to that, which don't necessarily have much of a payback. But they are forwarding our whole strategy and I'm more than 100% endorsed right now.

In addition, Larry, to underscore the new hot dog plant, it's $100 million facility that will come online next month or probably start a little bit of production this month. We believe it will have significant beneficial impact on our cost structure, lowering our cost to produce product in a much more efficient manner and food safe manner. And it will also have between 20 million to 40 million pounds of excess capacity above what we're doing today. So more volume and very good margin structure.

We have a plan in place looking at the East Coast of can we consolidate any of our ham operations to be able to save money and change the complexion of our smoked ham business. Depending upon the success of this hot dog plant, we've talked about other additional facilities as well. So there's a lot of opportunities there to continue with the strategy of consolidating our packaged meat operations. There is brand-new opportunities in terms of new product development as well. And we're very excited about the opportunity in packaged meats in general.

To answer your question in terms of models, we told you we think we're going to be up 2% to 3% this year. We continue to believe that's where we're tracking right now so you can put that in your model. And I think we've told you that our packaged meats margins continue to trend at the upper end of the normalized range. I think they'll track at the upper end of the normalized range. Bo, don't you?

Yes, I do.

So I hope that solves your modeling problem. And I do think that we will -- you can also plug into your models that we bought a little stock back in. We'll watch the stock price, but I think we will be doing more CapEx above depreciation than we have at this point. We will be allocating more capital to CapEx.

So you should expect -- I'm not give you a number today -- but you should expect us, going forward, to be talking about CapEx above depreciation, where as up to this point we've been about $300 million. We may be -- that about right, Bo?

That's still above depreciation.

We may be another $50 million or $60 million beyond that in the 350 range, maybe in the 400 but I'm not sure about that. But anyway, I don't think it will get there, but if a great project -- I've got the capital, we're making the money. At this point, I don't see it getting there but I do think we will be above 300.

Akshay Jagdale, KeyBanc Capital Markets.

This is [Rowan Parker] on for Akshay. What is your read on what's happening in the Chinese pork market with respect to production and prices? And in your opinion, is China likely to buy more pork from the US? And if so, why? Thank you.

Well, why don't you ask the Chinese? That's a hard one to answer. Hog prices are creeping up, as you probably know, which should mean they would buy some pork from the US. We don't have any unreturned phone calls that we need to make in terms of carcasses going to China at this point. And so I don't know that I have any particular good insight into what's happening that's going -- we've got a good strong business in China so don't take that as a negative. And as Bo and I alluded and Bo commented, one of our plants was off-line in China for quite -- eight weeks? 10 weeks?

12.

12 weeks. And that plan is back online, so that new volume is replacing what went away. I don't think -- I don't see any special big orders coming in and big flow of orders from China in the very near future.

Tim Tiberio, Miller Tabak.

Just going back to your comments that fresh pork margins are not exactly where you would have expected them at this point in the year, when you look at the downstream inventory in both your retail and food service channels, are you comfortable where levels are coming out of the holiday? If I recall last year, that was somewhat of a headwind that you really struggled with on the fresh pork side coming out of the holiday. Any comments there would be appreciated.

One of the things that we struggled with a year ago, I think after the holidays, was we had just concluded the Chinese carcass business. And we were actually getting back into more of a balanced mode after the carcass business. So that did have an impact negatively on fresh pork margins.

But at this point in time, I think our optimism is based not necessarily on great shipments to China, but the fact that we see about a 5% retrenchment in European sow numbers and that will create less competition in the Asian markets for exports. So I think that we're continuing -- we think there's better fundamentals from that perspective than there was a year ago as far as the post holiday fresh meat markets.

Yes. I think the retail is we're certainly interested in this holiday ham season and Thanksgiving went well. They had a good sell through. We are anticipating to have increased volume of our holiday ham business through Christmas. So we're expecting an up year. I don't know if any retailers where the product is backing up. I don't know if you were talking about freezer inventories that are out there, but -- and you look out there and the relative price of pork versus beef, you can see why they're featuring pork and why pork is moving so strongly because it's such a value. So no, I think the pork complex is in good shape. It's just there's a lot of hogs around us.

I would tell everybody on this phone, I think you go back as early as last February and March, we made the comment, there are going to be hogs this fall. We knew they were around. Those hogs were coming to market. They've come to market. We've moved the meat. And it's put a little stress on just moving that volume at the price you want to get for it. And so maybe we're not getting the full price isn't showing up in the cuts, but this is all very temporary.

And so one of the things I get -- I know the concern about people in terms of margins. This is a quick business. Tomorrow morning this business can be $6 a head better. We'd be at the top end of our normalized range tomorrow. And so often times, so many people get hung up on what the margins are for a day or a week or a month. We're not in this business for a day or week or month. We've told you where we're going to be for the year. And so if we don't have good week or even a good month, that doesn't worry us very much at all. So I don't think you should worry about product backing up and whether the retail market is flooded with fresh pork or processed meats. I think it's in very good shape.

Robert Moskow, Credit Suisse.

Larry, in your initial remarks you talked about how if you valued the sum of your parts you'd get to a much higher level if you used market multiples for packaged meats businesses. Have you considered breaking up the business? I know this question's been asked several times, but if you're not getting the value that you think you merit, the peers of yours in agri business have done this and it's been helpful for them. Any new thinking in that regard?

Certainly I know all of the investment bankers. Let's just say that. And everybody's got a model to show you how to improve shareholder value. One of the things I know is these farms, we have invested in these farms. I've looked at that idea. It's complex and not easy to do. And you'd be surprised how integrated this business is, particularly the pieces, how they tie together. And I made comments about that.

For the first time in quite some time, these farms have become really strategic to our meat business. I was with a customer just yesterday, and it was the discussion yesterday morning about how important your farms are to our packaged meats relationship with you. I was with an Asian customer yesterday afternoon. And they talked about how the farms tie into our meat business. It is a common discussion between customers. I think it's the next competitive advantage for Smithfield Foods.

What we're doing on these farms -- one of the comments I made -- our export business is down 12%. Our profits in export are not. Read my lips. The farms make a difference. We can do things on the farm that get us business no one else can do. And any kind of measurable volume. And so I think I'm going to be reporting to you again and again going forward how these farms are adding value. The only thing I'm asking you to do is look at the value. We don't need to break the Company up. You guys -- the market needs to understand how strategically important this is. And we're trying to communicate it to you. And I'll keep talking. I don't know if you're listening, but I'll keep talking.

Christine McCracken, Cleveland Research.

Just in terms of the big increase in feeder pig prices that we've seen lately, and thinking about, again, the outlook for hog production into the back half of this calendar year, I'm wondering, is this a function of supply? Are we short on pigs? Or is this optimism may be on the outlook for hog production and what returns might look like later in the year?

Christine, I think you can look at the futures market for next summer and what frames would be on a cash basis implied by the futures market. And you can get to at least a breakeven quite often, if not make a little money. So there are opportunities to lock in profits or at least break even as we go through into next summer. And I think that's what a lot of people saw last August and September when corn prices spiked up. I think you had a reaction and you saw some increased sow slaughter but it dissipated pretty quickly. If that really corresponded to an increase in the hog market futures market for next summer.

Bo, if you look at feeder pigs today, they're going to fall right into that peak period -- they are $100 futures out there. So they're going to fall right in that period. Somebody knows today they can make money. At least during that summer period next year, it looks pretty good. And I've got to tell you, Christine, I was smiling myself. I don't think I even know what the feeder pig market is. I'm trying to think when we bought feeder pigs -- Bo, do you know the feeder pig market?

You don't buy feeder pigs anymore. You buy weaned pigs.

That's right, it is weaned pigs.

I think it is reaction to the opportunities that we see available in the futures market.

I suspect they buy those feeder pigs and sell futures, buy the corn and probably lock in a profit on that particular mode. I suspect they can do that.

I don't think it's tremendous, but I think people are looking at what's happening in the rest of the world and getting a sense of optimism that we're going to have some very good demand, particularly from our Asian customers going forward.

I do agree with Bo on that. I think the export markets are going to be coming to us not because people love us, it's because we're the only game in town. Mexico has not done much expansion. Canada doesn't. And Europe is going backwards. Where are they going to buy the meat? We're the only game in town. I guess you got Brazil a bit. We are essentially the only game in town.

And we think beef prices will be very supportive to looking at calendar 2014. '13 rather.

Heather Jones, BB&T Capital Markets.

Just going to your -- actually was listening to you, Larry, and going back to your gestation crates, pens, wondering, some -- you and some of your peers have converted, a ton of customers have said that they are only going to take pen pork from 2017 on. I'm trying to find out what your view is. You believe this is just going to be an incremental cost of doing business? Or do you believe at some point that, that's going to translate into a higher price per pound for pork that's been raised crate free?

Well, let's just get -- let's make sure we get the dictionary right. It's group housing going forward. So we're using the word group housing.

Okay.

These pigs are friends of each other.

I guess.

You're absolutely right. That's become a big issue and the whole industry's having to react to this sudden interest in demand for group housed pork. I cannot sit here and tell you today that we're getting any more money for the product. And I can't tell you today that we're going to get any more money for the product. I think we've got to learn how to operate these farms in this kind of change of environment for these pigs. And Bo can speak to it because he was just doing this.

We're seeing some favorable things as a result of this. And we've got to raise the pigs at no incremental cost. That's the baseline assumption. We're going into this is that we don't have to get more money for the meat. It will use the competitive advantage in terms of the opportunity, but we haven't got customers who are willing to pay us anything extra for these pigs. Bo, you want to talk about just benefits of group housing?

Well, there are many ways to raise pigs within -- and while we think it's consistent with our long-term animal welfare program, we think that it's the way we want to raise pigs. And we are very certain that there's not any of the draconian negative aspects that some people have described. At the same time, there are customers that aren't necessarily as concerned about it and we'll attempt to satisfy them as well. But we're doing what's consistent with our animal welfare policy long-term.

Thank you. And I'll now turn the meeting back to Larry Pope for any closing remarks.

Thank you, Operator and thank you, folks. In conclusion, I'll be quick. I'm not nearly as good with the lines as Bo is, but I think we are hitting on our -- we are hitting on all cylinders here. I just don't think we're running at top speed. So I think there's more to come in this company. I am very bullish. I've used the word very bullish. I'm certainly not in love with the fresh meat results today, but I'm very bullish on where this business is going and I know I continue to say that again and again, but we continue to raise our normalized expectations. And so this business has a lot. We have some business coming down the road on the fresh meat side that's going to be very good for this business. We've got some things coming on the packaged meats that are going to be very good for this business.

And so I think for those who are willing to be a little bit patient and tolerate just a touch of ups and downs on some of the things we can't necessarily control, I think you're going to be very pleasantly surprised by the kind of results we're going to publish. And then we'll allow you to multiply by whatever you think it's worth. From our standpoint, the business is in great shape. And I wish each and every one of you a safe and holiday period and time with your family. Thank you.

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