The Hershey Company — Q2 2015 Form 10-Q
Reporting period: Three and six months ended July 5, 2015; comparisons are with the periods ended June 29, 2014. Unaudited. Dollar amounts below are in millions unless stated otherwise.
Business context and results
Hershey operates primarily in North America, which generated over 85% of consolidated revenue. North America remained strong, while China and other international operations weighed on results. The quarter included a $249.8 million non-cash goodwill impairment related to Shanghai Golden Monkey (SGM).
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Net sales | $1,578.8 | $1,578.4 | $3,516.6 | $3,450.2 |
| Gross margin | 46.6% | 45.5% | 46.5% | 46.1% |
| Operating profit | $7.5 | $277.3 | $391.7 | $690.0 |
| Net income (loss) | $(99.9) | $168.2 | $144.8 | $420.7 |
| Diluted EPS, common stock | $(0.47) | $0.75 | $0.65 | $1.86 |
| Net cash from operations | — | — | $480.9 | $171.9 |
Financial position and cash flow
- At July 5, cash and cash equivalents were $302.7 million and short-term investments were $99.3 million, down a combined $70.0 million from year-end 2014. Current assets of $2,007.4 million were slightly below current liabilities of $2,018.3 million.
- Total debt was approximately $2,413.8 million: $615.7 million short-term debt, $250.7 million current long-term debt and $1,547.4 million long-term debt. Hershey reported compliance with its credit-facility covenants and maintained a $1.0 billion revolving facility.
- First-half operating cash flow was $480.9 million. Investing used $337.6 million, including $218.7 million for the Krave acquisition; financing used $215.6 million, including $229.0 million in dividends and $315.7 million in share repurchases, partly offset by additional borrowing.
- Dividends paid per share increased year over year. The board also declared higher quarterly dividends payable in September 2015.
Material changes and management commentary
- Q2 sales were flat as reported and up 1.3% excluding unfavorable foreign exchange. U.S. pricing and acquisitions helped, offset by lower volumes—partly reflecting price elasticity—and weaker China performance. First-half sales rose 1.9% as reported and 3.1% excluding foreign exchange.
- Q2 gross margin improved 110 basis points, supported by pricing, productivity and lower commodity costs, but the first-half increase was 40 basis points as higher input and supply-chain costs offset much of the benefit.
- North America Q2 sales increased 1.8% and segment income increased 13.5%. International and Other sales fell 12.1%; its segment loss widened to $44.5 million, reflecting China weakness, promotional allowances, obsolescence and SGM underperformance.
- Reported operating profit and earnings were sharply reduced by the SGM impairment. Excluding that impairment, management said Q2 operating profit declined 7.2% and operating margin fell 130 basis points to 16.3%; adjusted earnings per share declined 9.3% year over year.
- Hershey acquired KRAVE Pure Foods in March for cash consideration of about $220.0 million, with up to $20.0 million additional contingent consideration. It sold Mauna Loa in Q1 for net proceeds of about $32.4 million.
Outlook, risks and unusual items
- Management forecast full-year 2015 net sales growth of 1.5%–2.5%, including a 1.0% net benefit from acquisitions and divestitures and a 1.5% foreign-exchange headwind; excluding foreign exchange, expected growth was 3.0%–4.0%.
- Expected full-year gross-margin expansion was 125–135 basis points. Forecast diluted EPS was $2.49–$2.66 reported and $4.10–$4.18 adjusted, with adjusted EPS growth of 3%–5% versus 2014. The adjusted measure excludes specified impairment, restructuring, acquisition, pension and other items.
- A June productivity initiative was expected to eliminate approximately 300 positions by year-end, incur $100–$120 million in pretax charges and costs—mostly cash—and generate $65–$75 million in annual pretax savings. Most remaining costs were expected in the second half of 2015.
- SGM remained below expectations. The $249.8 million impairment eliminated all SGM reporting-unit goodwill; the valuation and purchase-price allocation were preliminary, and further impairment, including charges on other long-lived assets, could follow. The planned purchase of the remaining 20% interest was subject to reassessment and timing could change.
- Key stated risks include China’s market and consumer trends, price-related volume elasticity, commodity and supply-chain costs, competition, execution and integration of acquisitions, foreign exchange, product safety, and litigation. A U.S. antitrust appeal remained pending; management said the matter was not then expected to materially affect financial position or liquidity, but could affect results or cash flows if a fine, settlement or judgment were accrued or paid.
Important facts for investors to verify
- Whether SGM’s third-quarter valuation leads to additional impairment or changes to the preliminary goodwill charge and remaining asset values.
- Progress against 2015 sales, gross-margin and EPS guidance, particularly China performance, promotional activity and currency effects.
- Actual restructuring costs, timing of the expected savings, and whether the initiative delivers the forecast benefits.
- Cash generation and debt levels after the Krave acquisition, dividends and share repurchases; assess liquidity alongside current liabilities and the geographic location of cash.
- Developments in the pending U.S. antitrust appeal and any related financial or reputational exposure.