The Hershey Company — Q2 2021 Form 10-Q
Reporting period: Quarter ended July 4, 2021; comparisons are with the quarter ended June 28, 2020. First-half figures cover six months to those respective dates. Amounts below are in U.S. dollars; financial statement amounts are converted from thousands to millions where appropriate.
Business context
Hershey sells confectionery and snacks, with North America generating about 90% of sales. In June 2021, it acquired Lily’s Sweets for an initial $418.2 million; Lily’s sells sugar-free and low-sugar confectionery and is expected to generate annualized sales above $100 million. The purchase price allocation remains preliminary. Hershey completed the sale of its Lotte Shanghai Foods joint venture in January 2021; the filing says the proceeds and financial-statement impact were immaterial.
Key financial results
| Metric | Q2 2021 | Q2 2020 | First half 2021 | First half 2020 |
|---|---|---|---|---|
| Net sales | $1,989.4 million | $1,707.3 million | $4,285.4 million | $3,744.6 million |
| Gross margin | 46.5% | 46.4% | 46.1% | 44.3% |
| Operating profit | $456.7 million | $383.4 million | $1,009.7 million | $766.2 million |
| Operating margin | 23.0% | 22.5% | 23.6% | 20.5% |
| Net income attributable to Hershey | $301.2 million | $268.9 million | $697.0 million | $540.0 million |
| Diluted EPS, common stock | $1.45 | $1.29 | $3.35 | $2.58 |
| Effective tax rate | 28.0% | 19.8% | 25.1% | 19.8% |
Q2 sales rose 16.5%, driven by 14.5% volume growth, 1.0% favorable price realization and 1.0% favorable foreign exchange. First-half sales increased 14.4%, reflecting 12.6% volume growth, 1.5% favorable price realization and 0.4% favorable foreign exchange, partly offset by a 0.1% impact from acquisitions and divestitures. Management attributed growth primarily to everyday U.S. confectionery brands and stronger international markets.
Cost of sales rose 16.3% in Q2 and 10.8% in the first half, with higher volume, freight and logistics, and plant costs partly offset by pricing, productivity and favorable commodity-derivative mark-to-market effects. SM&A increased 14.3% in Q2 and 8.8% in the first half, reflecting higher advertising, compensation, corporate costs and technology/capability investments. First-half operating profit also benefited from the absence of 2020 impairment charges.
Q2 U.S. candy, mint and gum takeaway increased 2.3%, but market share declined approximately 113 basis points. Hershey’s broader U.S. retail takeaway increased 2.8%.
Segments and material changes
- North America: Q2 sales increased 12.3% to $1,779.2 million and segment income rose 13.7% to $565.9 million. First-half sales rose 12.6% to $3,861.1 million and segment income increased 13.8% to $1,227.5 million. Volume growth supported results; higher supply-chain, freight and advertising costs were offsets.
- International and Other: Q2 sales increased 70.2% to $210.2 million; segment income was $42.2 million versus a $4.0 million loss. First-half sales rose 34.3% to $424.3 million and income reached $76.0 million versus $12.0 million. Growth reflected stronger volumes and pricing across several markets, recovery in retail and travel-related activity, and China optimization efforts.
- Q2 diluted EPS increased 12.4%; first-half diluted EPS increased 29.8%. Higher gross profit drove improvement, while higher SM&A and taxes partly offset it. Share repurchases also benefited per-share results through a lower weighted-average share count.
Cash flow, debt and liquidity
First-half operating cash flow was $1,017.7 million, compared with $614.0 million a year earlier. Investing used $700.1 million, including $227.6 million of capital expenditures and the $418.2 million Lily’s purchase. Financing used $1,041.7 million, including $435.0 million of debt repayments, $324.3 million of dividends and $434.3 million of share repurchases. Cash fell $717.8 million from year-end to $426.2 million. Operating cash flow less capital expenditures was approximately $790.0 million, a simple calculation from the reported amounts.
At July 4, 2021, short-term debt was $207.6 million and long-term debt, including the current portion, was approximately $4,098.7 million; cash was $426.2 million. The company had a $1.5 billion revolving credit facility scheduled to expire in July 2024 and reported covenant compliance. Management said it believed liquidity was sufficient, including for U.S. needs. About 85% of cash was held by subsidiaries outside the United States. Hershey repaid $434.7 million of notes and debentures at maturity during the first half.
Outlook, risks and unusual items
- The filing provides no full-year sales or earnings guidance. Hershey expected 2021 capital expenditures, including capitalized software, to approximate $550 million, primarily for ERP implementation and supply-chain capacity projects. Management expected share repurchases to return to a more traditional strategy for the rest of 2021.
- COVID-19 had caused minimal supply-chain disruption and manufacturing plants were open, but potential effects remained uncertain, including renewed outbreaks, variants, consumer behavior and operating disruption.
- Management cited higher freight and logistics and plant costs. Raw-material availability and prices, energy costs, pricing elasticity and competition may affect margins and sales.
- A non-U.S. tax litigation adverse ruling resulted in incremental tax reserves and contributed to the higher effective tax rate. Tax disputes in Malaysia, Mexico and the United States remain unresolved; Hershey said it had made adequate provision. It expected about $22.4 million of unrecognized tax benefits to decrease within 12 months, subject to settlements and statute expirations.
- The International Optimization Program was expected to finish by mid-2022, with total pretax costs of $50–$75 million and cash costs of $40–$65 million; cumulative pretax charges were $39.7 million through July 4, 2021. Q2 charges were $3.5 million.
- Other notable items include $7.8 million of first-half equity-investment write-downs and noncash pension settlement charges. Ordinary-course legal proceedings were not expected by management to materially affect financial condition, results or cash flows.
Important facts for investors to verify
- Whether U.S. confectionery market-share declines persist despite higher takeaway, and whether volume growth continues beyond pandemic-affected comparisons.
- How freight, logistics, plant and commodity costs, pricing and derivative gains affect sustainable margins; first-half margins benefited from favorable commodity mark-to-market comparisons.
- Lily’s integration, sales and gross-margin performance, contingent consideration exposure, and final purchase-price allocation.
- Cash generation and liquidity after the acquisition, dividends, debt maturities and substantial share repurchases; also monitor cash held abroad and seasonal working-capital needs.
- Resolution of the non-U.S. tax litigation and other tax audits, along with delivery of the stated capital-spending and China-optimization plans.