The Hershey Company — FY2014 Form 10-K
Business and period: Annual report for the fiscal year ended December 31, 2014; the filing also provides unaudited fourth-quarter results. Hershey sells chocolate, confectionery and related products in approximately 70 countries. In 2014 it began reporting two segments: North America and International and Other. North America generated 85.6% of sales.
Financial performance
| Metric | FY2014 | FY2013 | Change |
|---|---|---|---|
| Net sales | $7.422 billion | $7.146 billion | +3.9% |
| Gross profit / margin | $3.336 billion / 45.0% | $3.281 billion / 45.9% | Margin down 0.9 percentage point |
| EBIT / margin | $1.390 billion / 18.7% | $1.340 billion / 18.7% | EBIT +3.7% |
| Net income | $846.9 million | $820.5 million | +3.2% |
| Diluted EPS, common stock | $3.77 | $3.61 | +4.4% |
| Operating cash flow | $838.2 million | $1.188 billion | Down $350.2 million |
- Fourth quarter: Sales were $2.010 billion versus $1.956 billion in Q4 2013; net income was $202.5 million versus $186.1 million.
- Segment results: North America sales rose 2.5% to $6.353 billion and segment income rose 2.9% to $1.916 billion. International and Other sales rose 13.0% to $1.069 billion, while segment income fell 10.3% to $40.0 million; its margin declined to 3.7% from 4.7%.
- Cash, investment and capital spending: Cash and cash equivalents were $374.9 million, with $97.1 million in short-term investments. Capital expenditures were $345.9 million. Operating cash flow fell chiefly due to working-capital use and cash impacts from hedging activities.
- Debt and liquidity: Total debt was approximately $2.2 billion, up from $2.0 billion. Current and short-term debt totaled $635.5 million, including $250 million of notes due in 2015. The company reported $1.0 billion available under its revolving credit facility and $117.9 million available under other credit lines; it was in compliance with covenants.
- Shareholder returns: Cash dividends were $440.4 million, and common-stock dividends were $2.04 per share, up from $1.81. Repurchases under authorized programs totaled $202.3 million; approximately $172.8 million remained available under the authorization.
Changes, outlook and management commentary
- Sales growth reflected volume increases and acquisitions, partly offset by unfavorable foreign exchange. The July 2014 North American price increase averaged approximately 8%; management said most of its earnings benefit was expected in 2015.
- Higher dairy and other input costs and a less favorable sales mix reduced gross margin. Productivity, pricing and operating leverage partly offset those pressures. U.S. candy, mint and gum market share rose 0.3 percentage point to 31.4%; retail takeaway grew 2.7%, ahead of category growth of 1.8%.
- Acquisitions included 80% of Shanghai Golden Monkey (SGM), Allan Candy and a controlling interest in Lotte Shanghai Food Company. SGM contributed approximately $54 million in sales after acquisition. Hershey agreed to acquire SGM’s remaining 20%, subject to approvals and closing conditions.
- For 2015, management projected sales growth of 5.5%–7.5%, including an estimated 2.5% net contribution from acquisitions and divestitures and an approximately 1% unfavorable foreign-exchange impact. It expected gross margin to increase 135–145 basis points, diluted GAAP EPS of $4.14–$4.25 (10%–13% growth), and adjusted diluted EPS of $4.30–$4.38 (8%–10% growth). Planned capital expenditures were $375–$400 million.
- Unusual items included $22.3 million in estimated loss on the planned Mauna Loa sale, $15.9 million in India goodwill and trademark impairment, and $14.8 million in acquisition and integration costs. Project Next Century was substantially complete; cumulative costs were $197.9 million.
Risks and contingencies
- Commodity-price and supply exposure includes cocoa, dairy, sugar, nuts and energy. Dairy costs are difficult to hedge; higher prices or smaller package sizes may also reduce demand.
- Competition, irregular U.S. retail traffic, growth in other snack categories, promotional spending, consumer preferences and reliance on key customers could pressure sales and margins. McLane represented approximately 25% of consolidated sales.
- International expansion brings foreign-exchange, economic, regulatory and execution risks. International and Other sales grew, but segment income declined; management cited promotions and higher marketing investment.
- U.S. antitrust litigation remained subject to appeal after a district court granted summary judgment to Hershey for direct-purchaser cases. The filing said any resulting fines, settlements or judgments could affect results and cash flows when accrued or paid, although a material impact on financial position or liquidity was not then expected. Hershey Canada had pleaded guilty in 2013 to one price-fixing count and paid an approximately $4.0 million fine.
- The 2014 audit opinion was unqualified, and management and the auditor reported effective internal control over financial reporting. SGM, acquired in 2014, was excluded from the internal-control assessment.
Investor verification priorities
- Track whether the 2014 price increase and productivity deliver the projected 2015 margin and EPS growth without material volume or market-share erosion.
- Assess international profitability, particularly the gap between International and Other sales growth and declining segment income, and the integration and performance of SGM and other acquisitions.
- Monitor working capital, operating cash flow, cash balances, debt maturities and funding for the Malaysia facility and shareholder returns.
- Review commodity-cost trends, especially dairy, and the effectiveness and cash-flow effects of hedging.
- Follow the U.S. antitrust appeal and the Mauna Loa sale, and verify the final acquisition accounting and SGM minority-interest payment.