TYSON FOODS, INC. quarterly report, Q1 FY2011

Tyson Foods, Inc. — Q1 Fiscal 2011 10-Q

Business context and period. The quarter ended January 1, 2011, compared with the three months ended January 2, 2010. Tyson operates Chicken, Beef, Pork and Prepared Foods segments. Management said results benefited from improved internal performance and favorable markets, particularly tight beef and pork supplies and strong demand.

Financial performance

Metric	Q1 FY2011	Q1 FY2010	Change
Sales	$7.615 billion	$6.635 billion	+14.8%
Gross profit	$744 million	$529 million	+$215 million
Operating income	$498 million	$314 million	+$184 million
Net income attributable to Tyson	$298 million	$160 million	+$138 million
Diluted earnings per share	$0.78	$0.42	+$0.36
Cash provided by operations	$371 million	$547 million	−$176 million

Sales rose on a 4.5% increase in volume and a 9.8% increase in average selling price. Higher prices were concentrated in Beef, Pork and Prepared Foods and largely reflected higher live-animal and raw-material costs.
Gross margin was approximately 9.8%, versus 8.0%; operating margin was 6.5%, versus 4.7%. SG&A was $246 million, or 3.2% of sales, compared with $215 million, also 3.2%.
Interest expense declined to $66 million from $80 million, mainly because average weekly indebtedness was about 26% lower. The effective tax rate increased to 34.0% from 32.9%.
Segment operating income: Chicken $181 million (up from $78 million); Beef $116 million (down from $119 million); Pork $177 million (up from $62 million); Prepared Foods $28 million (down from $55 million). Segment margins were 6.9%, 3.6%, 14.3% and 3.5%, respectively.
Operating cash flow was lower despite higher earnings, primarily because working capital used $110 million, compared with a $257 million source in the prior-year quarter; higher inventory contributed to the current-period use.
Capital expenditures were $158 million, versus $113 million. Investing cash use was $214 million; financing cash use was $13 million. Cash increased $144 million to $1.122 billion.

Balance sheet, liquidity and debt

At January 1, 2011, total debt was $2.548 billion, including $424 million current debt; long-term debt was $2.124 billion. Cash was $1.122 billion. Total debt less cash was approximately $1.426 billion.
Current assets were $4.953 billion and current liabilities $2.645 billion; the reported current ratio was 1.87, versus 1.81 at October 2, 2010.
Tyson reported approximately $1.976 billion in total liquidity: $1.122 billion cash plus $854 million available under its $1.0 billion revolving facility. No facility borrowings were outstanding; $146 million of letters of credit were issued and undrawn.
The $315 million 8.25% notes due October 1, 2011, were the significant debt maturity over fiscal 2011–2013. Management planned to repay them with cash on hand and/or operating cash flow. If these notes were not refinanced, purchased or defeased before July 3, 2011, the revolver’s maturity and termination would accelerate to that date.
Debt covenants were reported in compliance at quarter-end. The filing states management considered liquidity and capital resources sufficient for operations, subject to business needs and market conditions.

Material changes, outlook and commentary

Management said fiscal 2011 domestic protein production was expected to increase slightly, while total domestic availability was expected to decline slightly as exports grew, supporting pricing.
Chicken: Planned seasonal production cutbacks continued into Q2 to match supply with demand. Futures indicated fiscal 2011 grain costs could be about $500 million higher than fiscal 2010. Management expected to offset a significant portion through operations, pricing and mix, but forecast lower margins for the rest of the year than in Q1 while expecting the segment to remain profitable. Improvements realized since 2008 were approximately $600 million; further initiatives were expected to generate another $200 million in fiscal 2011 savings.
Beef: Management expected fed cattle supplies to decline 1–2% for the rest of fiscal 2011, with higher live weights; strong exports were expected to continue. It anticipated no major change in business fundamentals.
Pork: Q1 was a record quarter, supported by exports and demand. Management expected results to remain above the segment’s normalized range for the balance of the year, but below Q1 levels.
Prepared Foods: Pricing and operational improvements were expected to offset higher input costs, though management noted a lag before contract and other price increases take effect.
Fiscal 2011 capital expenditure guidance was approximately $700 million; net interest expense guidance was approximately $245 million, nearly $90 million below fiscal 2010.
Q1 included an $11 million gain from selling interests in an equity-method investment. Management also reported $51 million of Chicken-segment commodity risk-management gains related to grain and energy purchases, excluding the effect of related physical purchases. Such derivative results can differ in timing from the underlying transactions.

Risks, contingencies and unusual matters

Key operating exposures include grain, livestock and energy costs; commodity and foreign-exchange volatility; changing demand and market prices; export access; labor and contract-grower availability; food safety; disease outbreaks; customer or supplier credit; and leverage and interest rates. Management cautioned that forecasts are forward-looking and actual results may differ.
Multiple wage-and-hour cases allege unpaid time for poultry and meat-plant employees’ pre- and post-shift activities. The parties reached a settlement agreement on back pay in the Williams case, subject to court approval, and agreed to stay broader multidistrict proceedings while exploring settlement. Other cases remained pending, including trials scheduled in 2011 and later.
Oklahoma’s Illinois River Watershed case originally sought more than $800 million in compensatory damages and other relief. The court dismissed several monetary claims, leaving injunctive-relief claims for trial; the filing describes the matter as unresolved.
In the Armstrong poultry-grower case, a jury verdict resulted in an $8.66 million judgment against Tyson and an employee. Tyson appealed; future related trials were stayed pending the appeal.
Mexican authorities assessed Tyson de Mexico approximately 55.9 million pesos (about $4.6 million) over alleged water-use issues; the company appealed the determination.
Guarantees included up to $71 million for certain third-party lease and grower-loan obligations and up to $45 million in lease residual-value guarantees. The filing said material payments were not considered probable and no material guarantee liabilities were recorded. A China joint-venture minority partner’s put option, exercisable beginning April 2011, would have implied a purchase price of approximately $66 million at quarter-end.
Tyson disclosed $192 million of unrecognized tax benefits and $65 million of accrued interest and penalties at January 1, 2011. The possible range of changes from tax audit resolutions in the next 12 months could not be reasonably estimated.

Important facts for investors to verify

Whether Tyson repaid or refinanced the $315 million 2011 notes in time to avoid the revolver’s potential July 2011 acceleration.
Whether projected grain-cost increases, the additional savings program and Chicken margin expectations were realized.
Whether strong Q1 Pork performance and favorable Beef pricing persisted, and whether Prepared Foods recovered input-cost lags.
How much of reported earnings and segment performance depended on commodity derivatives and the $11 million investment-sale gain, versus underlying operations.
Progress and potential financial exposure from wage-and-hour litigation, the Oklahoma environmental matter, the Armstrong appeal and the Mexican water-use assessment.
Whether working-capital needs, capital spending and planned debt repayment affected liquidity and operating cash flow in subsequent quarters.