Business context and reporting period
The Hershey Company’s unaudited Form 10-Q covers the three months ended March 31, 2019, compared with the three months ended April 1, 2018. North America generated about 90% of sales. Hershey cautions that seasonal effects mean quarterly results may not indicate full-year performance.
Key financial metrics
Amounts below are in millions of dollars, except per-share data and percentages.
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Net sales | $2,016.5 | $1,972.0 | +2.3% |
| Gross profit / reported gross margin | $892.5 / 44.3% | $974.1 / 49.4% | Margin down 5.1 pts |
| Operating profit / reported margin | $438.9 / 21.8% | $480.5 / 24.4% | Profit down 8.7% |
| Net income attributable to Hershey | $304.4 | $350.2 | Down 13.1% |
| Diluted EPS, common stock | $1.45 | $1.65 | Down 12.1% |
| Operating cash flow | $330.0 | $352.1 | Down $22.1 |
- Management’s non-GAAP adjusted gross margin was 45.7%, up 0.8 percentage points; adjusted operating profit was $470.5 million, up from $428.1 million; adjusted diluted EPS was $1.59, up from $1.41. These measures exclude specified items and are not GAAP results.
- Cash and cash equivalents were $466.0 million at quarter-end, down from $588.0 million at December 31, 2018. Capital expenditures were $92.8 million; cash dividends paid were $146.5 million and share repurchases were $198.5 million.
- At March 31, current assets were $2,216.9 million and current liabilities $2,398.2 million. Short-term debt was $1,168.8 million, current long-term debt $3.6 million, and long-term debt $3,236.3 million. Cash was primarily held outside the U.S. (about 90%); management said it believed liquidity was sufficient and did not expect to need repatriations for U.S. operations.
Material changes versus the prior comparable period
- Sales growth reflected 1.7% volume growth, a 0.9% contribution from the Amplify and Pirate Brands acquisitions, and 0.2% favorable price realization, partly offset by 0.5% unfavorable foreign exchange. Constant-currency sales increased 2.8%.
- Reported gross margin fell mainly because commodity-derivative mark-to-market effects were unfavorable year over year and freight and logistics costs increased. The mark-to-market adjustment was a $28.0 million loss in Q1 2019 versus a $96.3 million gain in Q1 2018. Favorable productivity and product mix partly offset the pressures.
- Reported earnings declined, while adjusted earnings increased, reflecting the large year-over-year swing in commodity-derivative marks and lower realignment and acquisition-related costs. Net interest expense rose to $37.5 million from $29.3 million, partly due to debt issued in May 2018 and higher short-term borrowing rates.
- North America sales increased 3.2% and segment income rose 5.7%. International and Other sales declined 4.9%, affected by the Shanghai Golden Monkey divestiture and foreign exchange; excluding those effects, management reported 3.2% growth.
- U.S. retail takeaway across expanded measured channels declined 8.7%; candy, mint and gum takeaway declined 9.7%, with about 47 basis points of market-share loss. Hershey attributed this primarily to Easter shifting later in 2019.
Outlook, commentary, risks and unusual items
- Hershey expected 2019 capital expenditures, including capitalized software, of approximately $330 million to $350 million. The filing provides no clear full-year sales or earnings guidance.
- The Margin for Growth program was nearing completion, with final initiatives expected over approximately the next nine months and remaining 2019 spending expected to be minimal. Estimated total program costs were approximately $340 million to $355 million.
- Commodity, foreign-exchange and interest-rate exposures remain relevant. Open commodity derivatives had a notional value of $1,166.1 million; the company reported that a 10% decrease in underlying commodity prices could increase net unrealized losses by approximately $125.3 million, generally offset by lower costs of underlying purchases.
- Other stated risks include raw-material availability and cost, pricing and demand, competition, product safety, supply-chain disruption, international-market performance, acquisition integration, and execution of cost-saving initiatives and the multi-year ERP implementation. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
- Pending or threatened ordinary-course legal matters were not expected by management to have a material effect. Lease accounting adoption recorded operating lease right-of-use assets and liabilities; management said the adoption did not materially affect net income or cash flows.
Important facts for investors to verify
- Whether reported margin and earnings trends persist after separating commodity-derivative mark-to-market effects from underlying operating performance.
- Whether Easter timing, new products and acquired brands translate into sustained U.S. retail takeaway and market-share recovery.
- Whether international sales and profitability improve, particularly following the Shanghai Golden Monkey divestiture and amid currency pressures.
- How debt, interest expense, cash held abroad, capital spending and buybacks affect liquidity and capital allocation.
- Whether the stated capex range and remaining Margin for Growth program costs are achieved, and whether ERP implementation introduces operational or control risks.