Kraft Heinz Co. — Q1 2018 Form 10-Q Summary
Business context and reporting period
The filing covers the unaudited three months ended March 31, 2018, compared with the three months ended April 1, 2017. 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. The company reorganized its international reporting structure into United States, Canada, EMEA, and Rest of World segments; prior periods were recast accordingly.
Financial performance and key metrics
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net sales | $6.304 billion | $6.324 billion | (0.3%) |
| Organic net sales | $6.191 billion | $6.284 billion | (1.5%) |
| Gross profit | $2.245 billion | $2.199 billion | +2.1% |
| Operating income | $1.481 billion | $1.433 billion | +3.4% |
| Net income attributable to common shareholders | $993 million | $893 million | +11.1% |
| Diluted EPS | $0.81 | $0.73 | +11.0% |
| Adjusted EBITDA | $1.795 billion | $1.844 billion | (2.6%) |
| Adjusted EPS | $0.89 | $0.84 | +6.0% |
| Operating cash flow | $413 million | $(615) million | Improved $1.028 billion |
Gross margin was approximately 35.6%, compared with 34.8% in the prior-year quarter. Operating margin was approximately 23.5%, compared with 22.7%; net margin attributable to common shareholders was approximately 15.8%, compared with 14.1%.
- Net sales benefited from a 1.2 percentage-point foreign-currency impact but were pressured by unfavorable volume/mix of 2.5 percentage points, partially offset by 1.0 percentage point of pricing.
- United States sales declined 3.3% and Segment Adjusted EBITDA declined 5.6%, primarily due to unfavorable volume/mix, input-cost inflation, and strategic investments.
- Canada sales increased 9.8%, including a 4.8 percentage-point currency benefit; Segment Adjusted EBITDA increased 7.1%.
- EMEA sales increased 14.7%, including a 12.4 percentage-point currency benefit; Segment Adjusted EBITDA increased 30.4%.
- Rest of World sales declined 0.2%, while organic sales increased 3.0%; Segment Adjusted EBITDA declined 0.7%, affected by Venezuela-related currency depreciation.
Liquidity, cash flow, debt, and balance sheet
- Cash and cash equivalents were $1.794 billion at March 31, 2018, versus $1.629 billion at December 30, 2017. Including restricted cash, total cash was $1.800 billion.
- Operating cash flow was $413 million, compared with cash used of $615 million in the prior-year quarter. The improvement primarily reflected collections on trade receivables, a federal tax refund, lower bonus payments, and inventory-related changes.
- Capital expenditures were $223 million, compared with $368 million. The company paid $215 million, net of cash acquired, for the Cerebos acquisition.
- Commercial paper outstanding was $965 million at March 31, 2018, compared with $448 million at year-end 2017. Long-term debt, including current maturities, was $31.3 billion, compared with $31.1 billion.
- Total debt carrying value was approximately $32.3 billion and estimated fair value was $32.6 billion. The company had no borrowings under its $4.0 billion revolving credit facility and was in compliance with debt covenants.
- Approximately $2.5 billion of senior notes and C$200 million of senior notes were scheduled to mature in the third quarter of 2018. Management expected to fund repayment through new long-term debt, cash on hand, and operating cash flow.
- The company removed $1.2 billion of receivables from the balance sheet through securitization and factoring programs and reported $530 million of sold receivables. The U.S. securitization program was scheduled to expire in May 2018.
- Cash dividends paid were $897 million, compared with $736 million in the prior-year quarter. A quarterly dividend of $0.625 per share was declared for payment in June 2018.
Material changes, unusual items, and outlook
- Kraft Heinz acquired Cerebos Pacific Limited on March 9, 2018, for approximately $238 million. Cerebos contributed insignificant results in the quarter; the company expected to record those results beginning in the second quarter. The purchase-price allocation remained preliminary and included $17 million of goodwill.
- Integration and restructuring expenses were $90 million, compared with $148 million in the prior-year quarter. Cumulative Integration Program costs reached $2.113 billion, with approximately $30 million of additional costs expected, primarily in the second quarter of 2018. The company also expected approximately $50 million of additional Integration Program capital expenditures.
- Operating income benefited from lower restructuring costs, Integration Program savings, the postemployment-benefit accounting change, lower unrealized commodity-hedge losses, and currency. These benefits were partly offset by higher input costs, strategic investments, and weaker organic sales.
- The effective tax rate declined to 20.8% from 28.7%, primarily due to the lower U.S. corporate tax rate under U.S. Tax Reform. The company recorded a $20 million measurement-period tax benefit and continued to refine its provisional tax accounting.
- Other income declined to $90 million from $130 million, mainly because Venezuela-related nonmonetary currency devaluation losses increased to $47 million from $8 million.
- Venezuela remained subject to highly inflationary accounting and significant currency, regulatory, political, labor, import, pricing, and payment risks. The company stated that it had sufficient foreign-currency liquidity for foreseeable operating needs and did not expect to make new investments or contributions there.
- Management stated that operating cash flow, receivables programs, commercial paper, the revolving facility, and cash on hand should provide sufficient liquidity for working capital, debt maturities, restructuring, capital expenditures, benefit contributions, and dividends.
- No material changes were reported to legal contingencies, off-balance-sheet arrangements, aggregate contractual obligations, market risk, internal controls, or previously disclosed risk factors. Pending legal matters were not expected to have a material adverse effect, although outcomes remain uncertain.
Most important facts for investors to verify
- Whether declining U.S. volume/mix and the 1.5% decline in organic net sales represent a sustained deterioration in core demand.
- The timing and cost of the remaining Integration Program and restructuring activities, including the approximately $30 million of expected additional costs.
- Refinancing plans and execution for the approximately $2.5 billion and C$200 million of third-quarter 2018 maturities.
- The final purchase-price allocation and operating contribution from Cerebos.
- The sustainability of margin gains after excluding restructuring benefits, accounting changes, favorable currency, and lower hedge losses.
- The impact of U.S. Tax Reform finalization, GILTI, future tax interpretations, and potential changes to the provisional tax amounts.
- Exposure to future goodwill and brand-impairment charges, given approximately $44.8 billion of goodwill and $53.8 billion of indefinite-lived intangible assets with limited valuation cushion in certain reporting units and brands.
- Developments in Venezuela, commodity costs, foreign-exchange rates, customer relationships, competitive conditions, and the company’s ability to maintain its dividend while carrying approximately $32.3 billion of debt.