The Hershey Company — FY2018 Form 10-K
Business context and reporting period
Annual report for the fiscal year ended December 31, 2018; the filing also presents unaudited fourth-quarter results. Hershey sells confectionery and snack products in approximately 90 countries. North America generated about 89% of consolidated revenue. 2018 expanded the snacks portfolio through acquisitions of Amplify Snack Brands and Pirate Brands.
Key financial metrics
| Metric | FY2018 | FY2017 |
|---|---|---|
| Net sales | $7.791 billion | $7.515 billion |
| Gross margin, reported | 45.9% | 46.0% |
| Operating profit / margin, reported | $1.624 billion / 20.8% | $1.313 billion / 17.5% |
| Net income attributable to Hershey | $1.178 billion | $783.0 million |
| Diluted EPS, common stock | $5.58 | $3.66 |
| Operating cash flow | $1.600 billion | $1.250 billion |
| Cash and cash equivalents at year-end | $588.0 million | $380.2 million |
| Total debt at year-end | About $4.5 billion | About $2.9 billion |
For Q4 2018, sales were $1.988 billion versus $1.940 billion in Q4 2017; gross profit was $944.4 million versus $837.2 million; net income attributable to Hershey was $336.8 million versus $181.1 million; and diluted common EPS was $1.60 versus $0.85. The filing does not provide a clear Q4 cash-flow figure.
Management’s adjusted, non-GAAP results showed FY2018 gross margin of 44.0% (down from 45.6%), operating margin of 20.6% (down from 20.7%), adjusted net income of $1.130 billion (up 12.8%), and adjusted diluted EPS of $5.36 (up 14.3%). These measures exclude specified items and are not GAAP results.
Material changes versus the prior year
- Sales rose 3.7%; acquisitions contributed 3.6%, while volume rose 1.3%, unfavorable price realization reduced growth by 1.0%, and foreign exchange reduced it by 0.2%. Excluding currency, sales increased 3.9%.
- Reported net income and EPS increased substantially, helped by lower impairment and realignment charges and a lower tax rate. The 2018 effective tax rate was 17.0%, compared with 31.9% in 2017; U.S. tax reform and investment tax credits affected comparability.
- Higher freight and logistics costs, unfavorable mix, new-line plant costs and promotions pressured gross margin. North America sales rose 4.2%, but segment income declined 1.2%; International and Other sales fell 0.5%, while segment income improved to $73.8 million.
- Amplify was acquired in January for consideration of about $969 million; Pirate Brands was acquired in October for $423 million. Hershey sold Tyrrells and SGM in July; proceeds from the two divestitures totaled about $167 million, net of cash divested.
- Investing cash outflow increased to $1.503 billion, principally reflecting $1.338 billion of net acquisition spending. The company issued $1.2 billion of notes during 2018 and increased total debt.
Outlook, risks and unusual items
- Management emphasized reinvigorating core confectionery, expanding snacks, cost and supply-chain efficiency, and investment in digital commerce, analytics and a multi-year ERP implementation. No specific 2019 revenue or EPS guidance is stated in the provided filing text.
- Management expected 2019 capital expenditures of approximately $330 million to $350 million. Remaining Margin for Growth program spending was expected to be minimal in 2019; total program costs were estimated at $340 million to $355 million.
- Reported results include a $168.3 million commodity-derivative mark-to-market gain, $57.7 million of impairment charges, and $44.8 million of acquisition-related costs. Results also reflect sales of non-core businesses and tax-reform adjustments.
- Key risks include commodity and energy costs, product safety and recalls, intense competition and changing consumer preferences, reliance on McLane (about 28% of 2018 sales), acquisition integration, international and currency exposure, supply-chain disruptions, cyber risks, ERP implementation, and labor negotiations.
- The company reported ordinary-course legal matters were not expected to have a material effect. Management and the auditor concluded internal control over financial reporting was effective; acquired Amplify and Pirate Brands, representing 28.2% of assets and 4.0% of sales, were excluded from management’s internal-control assessment.
Investor facts to verify
- Separate acquisition-driven sales growth from underlying organic growth, and assess whether promotional pricing and lower North America segment income persist.
- Review debt maturities, borrowing costs and liquidity: year-end current liabilities exceeded current assets, while the $1.4 billion revolving facility had $315 million of available capacity and other bank lines had $273 million available.
- Track integration and performance of Amplify and Pirate Brands, including the expected synergies and the acquired businesses’ contribution to sales and margins.
- Assess repeatability of earnings growth after the lower tax rate, derivative gains, impairments and other excluded items; compare GAAP with adjusted measures.
- Monitor the China joint-venture disposal expected by mid-2019, other held-for-sale assets, and the ERP rollout and its control implications.