Kraft Heinz Co. 2017 Q1 10-Q Summary
Business context and reporting period
The Kraft Heinz Company manufactures and markets food and beverage products globally, including condiments and sauces, cheese and dairy, meals, meats, refreshment beverages, coffee, and other grocery products. The unaudited report covers the three months ended April 1, 2017, compared with April 3, 2016. Reportable segments are the United States, Canada, Europe, and Rest of World.
Key financial metrics
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net sales | $6.364 billion | $6.570 billion | (3.1%) |
| Gross profit | $2.301 billion | $2.378 billion | (3.2%) |
| Gross margin | 36.2% | 36.2% | Flat |
| Operating income | $1.551 billion | $1.513 billion | 2.5% |
| Operating margin | 24.4% | 23.0% | Expanded |
| Net income attributable to common shareholders | $893 million | $896 million | (0.3%) |
| Diluted EPS | $0.73 | $0.73 | Flat |
| Adjusted EPS | $0.84 | $0.73 | 15.1% |
| Adjusted EBITDA | $1.885 billion | $1.951 billion | (3.4%) |
| Operating cash flow | $(151) million | $270 million | Decrease |
| Capital expenditures | $368 million | $303 million | Increase |
Net sales declined primarily because of unfavorable volume and mix, down 3.7 percentage points, partly offset by 1.0 percentage point of higher pricing. Organic net sales decreased 2.7%. Rest of World grew organically by 8.1%, while the United States declined 3.5%, Canada declined 14.9%, and Europe declined 0.2%.
Cash and cash equivalents were $3.242 billion at April 1, 2017, or $3.282 billion including restricted cash, compared with $4.204 billion and $4.255 billion, respectively, at December 31, 2016. Operating cash flow was negatively affected by receivables, inventories, and other working-capital changes. Inventory increased to $3.151 billion from $2.684 billion.
Total debt had a carrying value of approximately $32.7 billion and a fair value of $33.4 billion at April 1, 2017. Long-term debt, including the current portion, was $31.8 billion. Commercial paper outstanding was $900 million, compared with $642 million at year-end. No amounts were drawn on the $4.0 billion revolving credit facility, and $600 million was outstanding under the term loan facility. The company stated that it was in compliance with debt covenants.
Material changes versus the prior comparable period
- Operating income increased despite lower sales, primarily because integration and restructuring expenses decreased to $148 million from $260 million.
- Interest expense increased to $313 million from $249 million, mainly because of debt issued to redeem the Series A Preferred Stock and commercial paper borrowings.
- Adjusted EBITDA declined because of unfavorable volume and mix, foreign currency effects, higher input costs, and increased commercial investment.
- Adjusted EPS increased primarily because the Series A Preferred Stock dividend was no longer payable following its June 2016 redemption. The prior-year adjusted EPS included a $180 million preferred dividend adjustment.
- Operating cash flow changed from $270 million of inflow to $151 million of outflow, driven largely by working-capital use and the reduction of receivables securitization capacity.
- Integration and restructuring expenses fell by $112 million year over year. The company had incurred approximately $1.8 billion of cumulative Integration Program costs through April 1, 2017.
Guidance, outlook, commentary, risks, and unusual items
- Management expects approximately $1.1 billion of 2017 capital expenditures, including integration and restructuring expenditures. Total Integration Program capital expenditures are expected to be approximately $1.3 billion.
- The Integration Program is expected to generate $1.7 billion of pre-tax savings by the end of 2017; cumulative savings were approximately $1.27 billion through April 1, 2017.
- The company expects total Integration Program pre-tax costs of $2.0 billion and expects to eliminate 5,150 positions, close a net six factories, and consolidate distribution operations. Approximately 3,800 affected employees had left by April 1, 2017.
- Approximately $2.0 billion of senior notes mature in June 2017. Management expects to fund repayment using cash, operating cash flow, securitization programs, and commercial paper.
- Management expects commodity-cost volatility to continue. Coffee, cheese, and meat costs increased during the quarter, while nut costs were flat.
- Venezuela remained subject to highly inflationary accounting and currency restrictions. Remeasurement at the DICOM exchange rate produced an $8 million nonmonetary currency devaluation loss in the quarter.
- Goodwill was $44.3 billion and indefinite-lived intangible assets were $53.4 billion. No impairment indicators were identified during the quarter, but the filing highlights sensitivity to operating performance, projected growth, discount rates, consumer trends, and other valuation assumptions.
- The company reported no material changes to previously disclosed risk factors, off-balance-sheet arrangements, aggregate contractual obligations, or market risk. Pending legal matters were not expected to have a material adverse effect.
- The Board declared a quarterly common-stock dividend of $0.60 per share payable June 16, 2017, implying an annualized rate of $2.40 per share.
- The company adopted several accounting standards in the quarter, including guidance on share-based compensation, cash-flow classification, and restricted cash. It expects to adopt the new revenue-recognition standard in 2018 and new lease accounting guidance in 2019.
Most important facts for investors to verify
- Whether weak volume and mix, particularly in the United States and Canada, improve and whether pricing offsets commodity inflation.
- Progress toward the $1.7 billion Integration Program savings target and the remaining costs, cash expenditures, factory closures, and workforce reductions.
- The funding plan and refinancing execution for approximately $2.0 billion of debt maturing in June 2017.
- Whether operating cash flow recovers from the first-quarter outflow and whether inventory and receivables normalize.
- The sustainability of adjusted EPS growth after excluding restructuring, commodity hedge, currency, and prior-year preferred-dividend effects.
- Potential impairment exposure related to the company’s substantial goodwill and brand intangible balances.
- Commodity prices, foreign exchange movements, Venezuela’s operating environment, and the company’s ability to maintain liquidity and dividend payments.