Kraft Heinz Company — FY 2016 Form 10-K Summary
Business Context and Reporting Period
The filing covers the 52-week fiscal year ended December 31, 2016. Kraft Heinz manufactures and markets branded food and beverage products in approximately 190 countries and territories, including condiments and sauces, cheese and dairy, meals, meats, beverages, coffee, and grocery products. Fiscal 2016 was the first full year reflecting the combined Kraft and Heinz businesses following the July 2, 2015 merger. The prior fiscal year ended January 3, 2016 and included a 53rd week.
Operations are reported through the United States, Canada, Europe, and Rest of World segments. Wal-Mart represented approximately 22% of 2016 net sales. Approximately 30% of net revenues were generated outside the United States.
Key Financial Metrics
| Metric | FY 2016 | FY 2015 |
|---|---|---|
| Net sales | $26.487 billion | $18.338 billion |
| Pro forma net sales | $26.487 billion | $27.447 billion |
| Organic net sales | $26.817 billion | $26.728 billion |
| Operating income | $6.142 billion | $2.639 billion |
| Net income attributable to common shareholders | $3.452 billion | $(266) million |
| Diluted EPS | $2.81 | $(0.34) |
| Adjusted EBITDA | $7.778 billion | $6.739 billion |
| Adjusted EPS | $3.33 | $2.19 |
| Operating cash flow | $5.238 billion | $2.467 billion |
| Capital expenditures | $1.247 billion | $648 million |
Reported gross profit was $9.586 billion, implying a gross margin of approximately 36.2%. Operating margin was approximately 23.2%, and net income attributable to common shareholders was approximately 13.0% of net sales. Adjusted EBITDA margin was approximately 29.4%.
- Organic net sales increased 0.3% year over year, consisting of a 0.3 percentage-point pricing benefit and neutral volume/mix.
- Operating income increased 132.7%, primarily reflecting the full-year merger impact, Integration Program savings, restructuring benefits, favorable pricing relative to key commodity costs, and the absence of the prior-year $347 million purchase-accounting inventory step-up.
- The effective tax rate declined to 27.5% from 36.2%, while interest expense declined to $1.134 billion from $1.321 billion.
- Cash and cash equivalents were $4.204 billion at year-end, including approximately $1.3 billion held by international subsidiaries.
- Total long-term debt, including the current portion, was $31.759 billion, compared with $25.230 billion at January 3, 2016. Commercial paper outstanding was $642 million. No amounts were drawn under the $4.0 billion revolving credit facility, and the company reported compliance with debt covenants.
- Common dividends paid were $3.584 billion in 2016. The board declared a quarterly dividend of $0.60 per share in February 2017, representing an annualized rate of $2.40 per share at that time.
Material Changes Versus the Prior Comparable Period
- Reported sales rose 44.4%, largely because 2016 included a full year of Kraft results. On a pro forma basis, sales declined 3.5%, mainly due to foreign currency, the prior-year 53rd week, and divestitures.
- Segment performance was mixed. United States organic sales declined 0.3% while adjusted EBITDA increased 25.0%; Canada organic sales increased 1.4% and adjusted EBITDA increased 18.7%; Europe organic sales declined 2.6% and adjusted EBITDA declined 16.7%; Rest of World organic sales increased 5.9% while adjusted EBITDA declined 11.5% because of currency effects.
- Operating cash flow increased by $2.771 billion, partly due to higher operating income and favorable working-capital changes, including extended vendor payment terms and increased receivables securitization.
- Investing cash outflows declined to $1.113 billion from $9.704 billion because the prior year included $9.468 billion paid to acquire Kraft.
- Financing activities used $4.621 billion, primarily reflecting the $8.320 billion redemption of Series A Preferred Stock, common dividends, and debt-related activity. The preferred stock redemption eliminated the 9.00% preferred dividend obligation.
- Other comprehensive loss was $951 million, principally reflecting foreign currency translation losses.
Guidance, Outlook, Commentary, Risks, and Unusual Items
- Management expected approximately $1.2 billion of 2017 capital expenditures, including integration and restructuring requirements.
- The Integration Program is expected to generate $1.7 billion of annual pre-tax savings by the end of 2017. The program carries an expected $2.0 billion of pre-tax costs and approximately $1.3 billion of related capital expenditures. Cumulative pre-tax savings were approximately $1.175 billion at year-end 2016, and cumulative capital expenditures were $801 million.
- The Integration Program is expected to eliminate approximately 5,150 positions, close six factories, and consolidate distribution operations. Approximately 3,350 affected employees had left the company by year-end 2016; the remaining program liability was $109 million, with a substantial portion expected to be paid in 2017.
- Management expected commodity cost volatility to continue in 2017 and planned to manage it through pricing and risk-management activities. The company does not fully hedge commodity exposures.
- Venezuela remained subject to highly inflationary accounting, currency controls, and economic uncertainty. Kraft Heinz recorded a $24 million currency devaluation loss and a $53 million impairment charge on Venezuelan nonmonetary assets in 2016.
- Goodwill and indefinite-lived intangible assets totaled approximately $97.4 billion at year-end. No goodwill or indefinite-lived intangible impairment was recorded in 2016, but one European reporting unit and seven brands had less than 10% excess fair value over carrying value, indicating sensitivity to weaker performance or adverse valuation assumptions.
- Key risks include competitive and retailer pricing pressure, concentration with major customers, changing consumer preferences, commodity and foreign-exchange volatility, integration execution, substantial leverage, pension and postretirement obligations, regulatory and product-liability exposure, cybersecurity, Venezuela, and potential impairment of goodwill and brands.
- The company disclosed that it approached Unilever in February 2017 regarding a combination; Unilever declined and Kraft Heinz withdrew the proposal on February 19, 2017.
- Management and the independent auditor concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2016.
Most Important Facts for Investors to Verify
- Assess underlying sales momentum using pro forma and organic net sales rather than reported growth distorted by the 2015 merger.
- Verify whether the company achieved the $1.7 billion Integration Program savings target by the end of 2017 and compare realized savings with restructuring costs and capital spending.
- Monitor volume and mix, particularly in the United States and Europe, where organic sales were weak or declining.
- Evaluate debt maturities, refinancing requirements, interest expense, commercial paper reliance, and the effect of leverage on dividends and capital allocation.
- Reassess goodwill and brand-valuation risk, especially the European reporting unit and the seven brands with limited valuation headroom.
- Track commodity prices, pricing actions, foreign exchange, and Venezuela-related currency and operating developments.
- Review customer concentration, particularly Wal-Mart’s approximately 22% contribution to 2016 net sales.
- Reconcile reported GAAP results with Adjusted EBITDA and Adjusted EPS, including the effects of restructuring, merger costs, impairment, currency devaluation, and preferred dividends.