Business Context and Reporting Period
Company: Hershey Foods Corporation (Hershey Co)
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Three and nine months ended October 4, 1998
Business Overview: The registrant is a leading manufacturer of confectionery and grocery products. The report covers the third quarter of 1998, with comparative data provided for the same period in 1997.
Key Financial Metrics
| Metric (in thousands) | 3 Months Ended Oct 4, 1998 | 3 Months Ended Sep 28, 1997 | 9 Months Ended Oct 4, 1998 | 9 Months Ended Sep 28, 1997 |
|---|---|---|---|---|
| Net Sales | $1,217,237 | $1,151,610 | $3,195,712 | $3,059,808 |
| Net Income | $107,533 | $100,673 | $230,931 | $220,131 |
| Diluted EPS | $0.74 | $0.67 | $1.59 | $1.44 |
| Gross Margin % | 42.0% | 41.6% | 41.1% | 41.4% |
| Operating Cash Flow (9mo) | $167,760 | $156,101 | ||
| Cash & Equivalents (End of Period) | $40,163 | $40,163 | ||
| Total Debt (Short + Long Term) | $1,358,071 | $1,358,071 | ||
| Current Ratio | 1.4:1 | 1.4:1 |
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 6% in the third quarter and 4% year-to-date, driven by new product introductions and higher core confectionery sales. This was partially offset by currency headwinds in Canada and Mexico and declines in Asian markets.
- Profitability: Net income rose 7% in the quarter and 5% year-to-date. The third-quarter gross margin improved to 42.0% due to manufacturing efficiencies and reduced costs for obsolete inventory, despite higher raw material costs (milk, cocoa). Year-to-date gross margin dipped slightly to 41.1% due to higher raw material and labor costs.
- Interest Expense: Net interest expense increased significantly ($2.1M in Q3; $14.1M YTD) primarily due to increased borrowings used to purchase Common Stock from the Milton Hershey School Trust.
- Liquidity: Cash and cash equivalents decreased by $14.1 million during the first nine months of 1998. The decrease was due to capital additions ($147.2M), dividend payments ($95.4M), and debt repayments, partially funded by operating cash flow and short-term borrowings.
Outlook, Risks, and Unusual Items
- Capital Expenditures: Management anticipates capital expenditures in the range of $165 million to $200 million annually for the next several years to support modernization and capacity expansion.
- Year 2000 Issues: The company is actively remediating IT and non-IT systems. Remediation of IT systems is approximately 75% complete, with full implementation of a new enterprise-wide system expected by Q3 1999. Total costs to complete remediation are estimated between $6.0 million and $8.0 million. The company warns of potential significant adverse financial consequences if major business partners fail to remediate their systems.
- Derivative Accounting (FAS 133): The company anticipates adopting FAS No. 133 on January 1, 2000. This may increase volatility in earnings and other comprehensive income, though the specific impact has not yet been quantified.
- Subsequent Event: On November 9, 1998, the company announced it is exploring the possible sale of its U.S. Pasta business and has engaged Goldman, Sachs & Co. to assist.
- Market Risk: Market risk associated with net commodity positions declined to $7.6 million as of October 4, 1998, from $9.6 million at year-end 1997.
Investor Verification Checklist
- Verify the progress and cost of the Year 2000 remediation project, specifically the status of the new enterprise-wide information system.
- Monitor the status of the potential sale of the U.S. Pasta business announced as a subsequent event.
- Assess the impact of rising raw material costs (milk and cocoa) on future gross margins.
- Review the company's exposure to foreign currency fluctuations in Canadian, Mexican, and Asian markets.
- Confirm the timeline and financial impact of the adoption of FAS No. 133 regarding derivative instruments.