Kraft Heinz Co quarterly report, Q2 FY2022

The Kraft Heinz Company: 2022 Q2 Form 10-Q Summary

Business context and reporting period

The filing covers the three and six months ended June 25, 2022, compared with June 26, 2021. Kraft Heinz manufactures and markets food and beverage products globally, including condiments and sauces, cheese and dairy, meals, meats, beverages, coffee, and other grocery products. Beginning in the second quarter, the Company reported two geographic segments: North America and International, combining its former United States and Canada zones. Fiscal 2022 is a 53-week year ending December 31, 2022.

Financial performance and key metrics

Metric	Q2 2022	Q2 2021	Six months 2022	Six months 2021
Net sales	$6.554 billion	$6.615 billion	$12.599 billion	$13.009 billion
Organic net sales	$6.603 billion	$6.000 billion	$12.674 billion	$11.685 billion
Operating income	$542 million	$1.235 billion	$1.657 billion	$2.324 billion
Net income attributable to common shareholders	$265 million	$(27) million	$1.041 billion	$536 million
Diluted EPS	$0.21	$(0.02)	$0.84	$0.43
Adjusted EBITDA	$1.520 billion	$1.706 billion	$2.862 billion	$3.286 billion
Adjusted EPS	$0.70	$0.78	$1.30	$1.50

Reported Q2 sales declined 0.9%, while organic sales increased 10.1%, driven by 12.4 percentage points of pricing that more than offset a 2.3-point volume/mix decline. Six-month reported sales declined 3.2%, while organic sales rose 8.5%, driven by 10.8 points of pricing and a 2.3-point volume/mix decline.

Q2 gross profit was $1.984 billion, representing an approximately 30.3% gross margin versus 34.6% in the prior-year quarter.
Q2 operating margin was approximately 8.3% versus 18.7% in the prior-year quarter. The decline principally reflected $630 million of impairment losses, inflationary commodity and supply-chain costs, unfavorable volume/mix, divestitures, and unrealized commodity-hedge losses.
Q2 net margin was approximately 4.0%, compared with a negative margin in the prior-year quarter. The improvement in net income primarily reflected lower interest expense, lower tax expense, and favorable other income, despite weaker operating income.
Six-month operating margin was approximately 13.2% versus 17.9%; six-month net margin was approximately 8.3% versus 4.2%.
North America Q2 net sales declined 3.1% to $5.039 billion, while organic sales increased 9.8%. Segment Adjusted EBITDA declined 9.5% to $1.348 billion.
International Q2 net sales increased 7.2% to $1.515 billion, while organic sales increased 11.0%. Segment Adjusted EBITDA declined 13.4% to $248 million, primarily because of inflation, supply-chain costs, and foreign exchange.

Cash flow, balance sheet, debt, and liquidity

Six-month operating cash flow was $788 million, down from $2.029 billion. The decrease reflected approximately $620 million of cash taxes related to the Cheese Transaction, inventory rebuilding and higher input costs, and lower Adjusted EBITDA.
Capital expenditures were $435 million in the first half, and management expects approximately $1.0 billion for full-year 2022, primarily for capacity expansion, cost improvement, maintenance, and technology.
Investing cash flow was a $921 million use, including $481 million for acquisitions and $435 million of capital expenditures. Financing cash flow was a $1.722 billion use, including $980 million of dividends and $660 million of long-term debt repayments.
Cash and cash equivalents were $1.518 billion at June 25, 2022, down from $3.445 billion at December 25, 2021. Including restricted cash, ending cash was $1.519 billion.
Total debt was approximately $20.9 billion, consisting of $1.147 billion of current long-term debt, $19.724 billion of long-term debt, and $47 million of commercial paper and other short-term debt. Long-term debt declined from $21.8 billion at year-end 2021.
The Company repaid $381 million of notes at maturity in June and repurchased approximately $268 million of senior notes during the second quarter. It recognized a $9 million net gain on debt extinguishment.
On July 8, 2022, the Company entered into a new five-year, $4.0 billion senior unsecured revolving credit facility maturing July 8, 2027. No amounts were drawn, and the Company was in compliance with its financial covenants at June 25, 2022.
Management stated that operating cash flow, commercial paper, the revolving facility, cash on hand, and potential capital-market access should provide sufficient liquidity for the next 12 months. A $315 million principal maturity was expected in August 2022 and approximately €750 million in June 2023.
The Company paid $980 million of common-stock dividends during the first six months and declared a third-quarter dividend of $0.40 per share payable September 23, 2022.

Material changes versus the prior comparable period

Pricing offset much, but not all, of inflationary pressure and volume/mix deterioration. Organic sales grew, but reported sales were reduced by divestitures and foreign exchange.
Adjusted EBITDA declined 10.9% in Q2 and 12.9% year to date, while Adjusted EPS declined 10.3% and 13.3%, respectively.
The Company recorded $235 million of goodwill impairment and $395 million of intangible-asset impairment in Q2. The goodwill charge primarily related to Canada Retail and Puerto Rico; the intangible impairments related to Maxwell House, Miracle Whip, Jet-Puffed, and Classico.
Year-to-date impairment losses also included a $66 million impairment of a North America manufacturing facility held for sale.
The Company acquired 94% of Brazilian condiments and sauces maker Hemmer for approximately $279 million and acquired 85% of German spice company Just Spices for approximately $243 million. These acquisitions generated preliminary goodwill of $219 million and $163 million, respectively.
Foreign exchange gains increased other income, but derivative losses partially offset that benefit. Q2 other income was $91 million versus $23 million in the prior-year quarter.
Interest expense declined to $234 million in Q2 from $613 million, primarily because of prior debt reduction and the absence of significant prior-year tender-offer and redemption losses.

Outlook, management commentary, risks, and contingencies

Management expects commodity and supply-chain cost inflation to remain elevated through at least the remainder of 2022. Pricing and efficiency initiatives are intended to mitigate the impact, but timing differences may pressure margins and pricing may negatively affect market share.
Capacity constraints, labor shortages, COVID-19-related absences, logistics issues, and an increasingly competitive labor market may impair service levels, demand fulfillment, margins, cash flow, and market share.
The Russia and Ukraine conflict had not materially affected financial condition, results, or cash flows through Q2. Approximately 1% of consolidated sales came from Russia, with insignificant Russian net income and Adjusted EBITDA; the Company had approximately 1,100 employees in Russia.
Goodwill and brand valuations remain sensitive to discount rates, growth rates, margins, inflation, foreign exchange, interest rates, market share, and the Company’s ability to achieve planned pricing. Reporting units and brands with low excess fair value have heightened future impairment risk.
Approximately 450 positions were eliminated under restructuring programs during the first six months, with approximately 80 additional positions expected to be eliminated during the remainder of 2022. Year-to-date restructuring expense was $30 million.
The Company is defending securities class actions and shareholder derivative litigation involving alleged misleading disclosures, internal-control matters, fiduciary-duty breaches, and alleged insider trading by certain parties. The Company stated that it cannot reasonably estimate a potential loss for certain early-stage proceedings.
Pending ordinary-course legal matters are not expected by management to have a material adverse effect on financial condition, results of operations, or cash flows.
Management reported effective disclosure controls and procedures and no material changes to internal control over financial reporting during the quarter.

Most important facts for investors to verify

Whether pricing actions can continue to offset commodity, labor, logistics, and manufacturing-cost inflation without causing further volume or market-share erosion.
The sustainability of organic sales growth given declining volume/mix and the impact of divestitures and foreign exchange on reported revenue.
Operating cash-flow conversion, inventory rebuilding, the $1.0 billion capital-expenditure plan, and liquidity after the Cheese Transaction tax payment and acquisitions.
Debt maturities, refinancing requirements, credit ratings, covenant headroom, and continued dividend capacity.
Potential additional goodwill and brand impairments, particularly for reporting units and brands with 20% or less excess fair value.
The performance and integration of Hemmer and Just Spices, including the preliminary purchase-price allocations and noncontrolling interests.
Developments and potential financial exposure in the securities and derivative litigation.
Management’s non-GAAP reconciliations and the extent to which Adjusted EBITDA and Adjusted EPS exclude recurring economic costs, impairments, hedging effects, and divestiture impacts.