The Hershey Company — Q1 2010 Form 10-Q
Reporting period: Three months ended April 4, 2010; comparisons are with the three months ended April 5, 2009 unless otherwise noted. The filing cautions that quarterly results may not indicate full-year performance because of seasonality.
Financial performance
| Metric | Q1 2010 | Q1 2009 | Change / context |
|---|---|---|---|
| Net sales | $1,407.8 million | $1,236.0 million | Up 13.9% |
| Gross profit / gross margin | $593.9 million / 42.2% | $440.2 million / 35.6% | Margin expanded 6.6 percentage points |
| Operating income (EBIT) / margin | $253.3 million / 18.0% | $152.9 million / 12.4% | EBIT up 65.6% |
| Net income | $147.4 million | $75.9 million | Up 94.2% |
| Diluted EPS, Common Stock | $0.64 | $0.33 | Up 93.9% |
| Net cash from operations | $181.2 million | $277.2 million | Down $96.0 million |
Sales growth reflected core-brand volume, new products, higher pricing and improved trade-promotion realization; favorable currency added about 1%. Volume also benefited from Easter timing, including a shift of seasonal sales from Q4 2009 to Q1 2010. Takeaway rose 7.5%, or 5.5% excluding Easter’s effect, and measured-channel market share increased 0.5 points.
Gross-margin expansion reflected favorable pricing, supply-chain productivity and unusually favorable first-quarter commodity costs. Management said those commodity costs were a timing anomaly and expected them to exceed prior-year levels for the rest of 2010. SM&A expense rose 24.1%, including advertising expense growth of approximately 67%, higher incentive compensation, selling-capability investment, legal expense and costs associated with considering a Cadbury transaction. Q1 2010 had no business realignment charges, versus $12.8 million in the income statement in Q1 2009; management cited $19.0 million in prior-year net pre-tax realignment and impairment charges in explaining EBIT comparability.
Liquidity, debt and capital
- Cash was $303.8 million at April 4, 2010, up $50.2 million from year-end. Current assets were $1,413.0 million and current liabilities $902.3 million; the reported current ratio was 1.6:1.
- Total debt was approximately $1,558.1 million, including $42.2 million of short-term debt, $13.8 million of current long-term debt and $1,502.2 million of long-term debt. No commercial paper was outstanding at quarter-end. The company reported compliance with credit-agreement covenants; its revolving facility was $1.1 billion, with a potential additional $400 million subject to lender approval.
- Operating cash flow fell to $181.2 million, chiefly reflecting a $102.9 million cash use from other assets and liabilities, primarily related to hedging transactions, and weaker working-capital contribution. Cash funded $70.9 million of dividends, $35.5 million of capital and software additions, and $64.2 million of share repurchases.
- The capitalization ratio declined to 66% from 67% at December 31, 2009. Long-term debt, including its current portion, had a $1,516.0 million carrying value and $1,668.2 million fair value at quarter-end.
Outlook, risks and unusual items
- For 2010, management expected net sales growth of at least 6%, including about a one-percentage-point foreign-exchange benefit, and low-to-mid-teens percentage growth in adjusted diluted EPS versus 2009. The comparison uses 2009 adjusted EPS of $2.17; the company said it could not reconcile 2010 adjusted EPS guidance to GAAP because potential adjustments were not known.
- Management expected the 2010 tax rate to be about 35%, continued elevated costs, higher commodity costs for the remainder of the year, and productivity, efficiency and price realization to support margins. Planned advertising investment was 35%–40% higher behind core brands and new products.
- A supply-chain assessment could lead to manufacturing-network changes and increased capital investment; no decisions had been made. Management did not expect significant 2010 GSCT charges other than possible non-cash pension-settlement charges. Current pension trends could produce $12–$18 million of additional non-cash settlement losses in 2010. Proceeds from closed facilities held for sale could differ from estimates, resulting in additional charges or credits.
- Key risks identified include commodity-cost and supply availability, pricing elasticity, demand and competition, product quality and safety, supply-chain disruption, international operations, regulatory changes, pension costs, and developments in a government investigation of alleged confectionery-industry pricing practices.
- Derivatives were used to hedge commodity, currency and interest-rate exposures. A hypothetical 10% adverse market movement was estimated to produce potential losses of $42.7 million on net commodity positions, $13.6 million on foreign-exchange contracts and options, and $4.8 million on interest-rate swaps.
Important facts for investors to verify
- Whether reported sales and takeaway growth persist after adjusting for Easter timing, currency effects and the seasonal volume shift.
- Whether higher commodity costs in the remainder of 2010 offset pricing and productivity gains and affect the margin expansion.
- How operating cash flow develops given the Q1 decline and the significant cash use from other assets and liabilities.
- Progress toward the sales and adjusted-EPS outlook, including the effect of planned advertising, potential supply-chain investment and any further restructuring or pension charges.
- Developments in the confectionery-industry pricing investigation, legal costs, and the potential proceeds or charges from facility sales.