Hershey Q2 2021 (Q&A) Earnings Report

Hershey EPS Results

• Actual EPS: $1.47
• Consensus EPS: $1.42
• Beat/Miss: Beat by +$0.05
• One Year Ago EPS: N/A

Hershey Revenue Results

• Actual Revenue: $1.99 billion
• Expected Revenue: $1.85 billion
• Beat/Miss: Beat by +$141.28 million
• YoY Revenue Growth: N/A

Hershey Announcement Details

• Quarter: Q2 2021 (Q&A)
• Date: 7/29/2021
• Time: Before Market Opens
• Conference Call Date: Wednesday, July 28, 2021
• Conference Call Time: 8:00PM ET

The Hershey (NYSE:HSY) Company (NYSE: HSY) is a global confectionery and snack food company headquartered in Hershey, Pennsylvania. Founded by Milton S. Hershey in 1894, the company built its business around chocolate and has expanded into a broad portfolio of confectionery and snack products.

Hershey’s brands include Hershey’s, Reese’s, Kit Kat, Jolly Rancher, Twizzlers, Ice Breakers, SkinnyPop and Dot’s. Its products include chocolate bars, cups and seasonal items, non-chocolate candy, gum and mints, popcorn, pretzels and other salty snacks. Hershey also markets and distributes select licensed brands, including Kit Kat in the United States.

The company serves consumers through retail, convenience, e-commerce and other distribution channels in the United States and international markets. Its operations are generally organized around North American confectionery, North American salty snacks and international businesses.

Hershey Q2 2021 (Q&A) Earnings Call Transcript

Key Takeaways

• Hershey absorbed higher cost-to-serve pressure in Q2 from a 15% surge in organic sales, driven by overtime labor, contract manufacturing premiums, freight, and packaging inflation despite long-term supply chain investments like its Anvil fulfillment center.
• The Q2 EPS was held flat largely due to a $0.17 one-time tax hit, which was the primary reason the company did not raise full-year guidance, with only a portion of the reserve expected to become cash taxes this year.
• A 130-basis-point inventory loading tailwind in Q2 is expected to reverse by 1.5–2 points over the back half of 2021, with a slight skew toward larger destocking in Q4.
• Despite commodity and freight inflation, Q2 gross margin outperformed plan and will be managed to end roughly flat year-over-year in 2021, while sustaining margin expansion through targeted pricing, productivity improvements, and cost controls in 2022.
• The company’s acquisition of Lilly’s fits its better-for-you strategy at a meaningful scale (around $100 million in revenue) and leverages Hershey’s distribution, marketing, and manufacturing capabilities more effectively than prior smaller premium deals.

Presentation

[Operator]

Greetings, and welcome to The Hershey Company second quarter 2021 question and answer session. At this time, all participants are in a listen-only mode. As a reminder, this conference is being recorded. I'd now like to turn the call over to your host, Ms. Melissa Poole, Vice President of Investor Relations for The Hershey Company. Thank you. You may begin.

[Melissa Poole, VP of Investor Relations at The Hershey Company]

Thank you. Good morning, everyone. Thank you for joining us today for The Hershey Company second quarter 2021 earnings Q&A session. I hope everyone has had the chance to read our press release and listen to our prerecorded management presentation, both of which are available on our website. In addition, we have posted a transcript of the prerecorded remarks. At the conclusion of today's live Q&A session, we will also post a transcript and audio replay of this call. Please note that during today's Q&A session, we may make forward-looking statements that are subject to various risks and uncertainties. These statements include expectations and assumptions regarding the company's future operations and financial performance, including the expectations and assumptions related to the impact of the COVID-19 pandemic. Actual results could differ materially from those projected as a result of the COVID-19 pandemic, as well as other factors.

[Melissa Poole, VP of Investor Relations at The Hershey Company]

The company undertakes no obligation to update these statements based on subsequent events. A detailed listing of such risks and uncertainties can be found in today's press release in the company's SEC filings. Finally, please note that we may refer to certain non-GAAP financial measures that we believe will provide useful information for investors. The presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Reconciliations to the GAAP results are included in this morning's press release. Joining me today are Hershey's Chairman and CEO, Michele Buck, and Hershey's Senior Vice President and CFO, Steve Voskuil. With that, I will turn it over to the operator for the first question.

[Operator]

Our first question comes from the line of Andrew Lazar with Barclays. Please proceed with your question.

[Andrew Lazar, Analyst at Barclays]

Good morning, everybody.

[Melissa Poole, VP of Investor Relations at The Hershey Company]

Good morning, Andrew.

[Andrew Lazar, Analyst at Barclays]

Hi. First off, I guess I wanted to dig in a little bit more on the cost-to-serve dynamic that you talk about in the prepared remarks. I guess it should not come as a surprise that 15% organic sales growth in a given quarter would kind of stress any supply chain, no matter how efficient. My question is, I guess, are there any structural investments needed in the supply chain going forward, or any capabilities that were exposed by the volume spike? Or is it simply, you sort of suck up the higher costs as they're transitory, particularly the labor part, and not need to necessarily make any changes as this sort of volume growth is really not likely sustainable at these extreme elevated levels?

[Michele Buck, Chairman and CEO at The Hershey Company]

Andrew, let me start, and then let me have Steve dig in with some more details. I would say at the highest level, there are certainly key parts of our portfolio that have had just extraordinary growth, and we cited some of the numbers, for example, on Reese's. One thing that we are very focused on is investing in capacity behind the brands and businesses that we know have demonstrated track records of strong growth over time, and particularly where we've seen strong spikes that we think will have continued strength going forward. Let me have Steve talk a little bit more about some of the other elements of cost and cost to serve.

[Steve Voskuil, SVP and CFO at The Hershey Company]

I would say, add to, on the structural side, one of the benefits is we've been working on our Supply Chain 2.0 program, and the Annville fulfillment center comes online later this year. That'll provide some additional flexibility and agility. That will certainly be helpful. As Michele said, continuing to invest where we need to on capacity, especially on those fast-growing core brands like Reese's. From a cost standpoint and getting into some of the pieces, clearly, like you said, Andrew, putting that much pressure on the supply chain at one time pushed us in a number of spots. It pushed us from an overtime standpoint. It pushed us from getting to contract manufacturers and expanding some of their work off and outside of contract rates, and the same on the freight and warehousing side.

[Steve Voskuil, SVP and CFO at The Hershey Company]

I look at those as pressure points in particular on top of that or as a result of the higher volume. In addition, I would say labor rates in general and labor availability in general are a pressure point beyond just volume. The market for labor is challenging, and so just like everyone, we want to make sure we are staying ahead of the curve on hiring, making sure our value proposition at our plants is attractive. Packaging inflation is similar. Packaging inflation, we touched on a little bit on the last call. It's still a pressure point. I think we're still optimistic we're going to see that moderate as we go forward, but we haven't seen it yet.

[Steve Voskuil, SVP and CFO at The Hershey Company]

It is a combination of those transitory costs on the back of the higher volume and a few things that are a little bit stickier as we look across the balance of the year.

[Andrew Lazar, Analyst at Barclays]

Thanks for that. Just using our back-of-the-envelope math, it seems like the operating profit upside in the quarter maybe is roughly offset in equal parts by higher full-year tax rate and some of the higher costs that you've talked about just now, sort of leaving the full-year EPS guidance intact. Just wanted to see if I had the magnitude of each of those impacts for the full year more or less right. Seems like they're kind of equal magnitude, essentially.

[Steve Voskuil, SVP and CFO at The Hershey Company]

I would look at it as the tax piece was by far the biggest impact on us not taking up our earnings guidance alongside the top line. I think for the tax piece, we would have raised guidance. The cost to serve is a component, but think of that as the 10% or 15% of the impact, where the majority really was the tax impact in the quarter.

[Andrew Lazar, Analyst at Barclays]

Really helpful. Thank you.

[Operator]

Thank you. Our next question comes from the line of Ken Goldman with JPMorgan. Please proceed with your question.

[Ken Goldman, Analyst at JPMorgan]

Hi. Thanks. Steve, you mentioned that there's a 130 basis point tailwind from inventory loading this quarter, and you said there'll be a deload in the back half. Two questions on this. First, what's your best estimate for how large the inventory reduction will be at retail in the back half? Number two, I know it's not always easy to forecast this, but how should we think about the cadence of that? Is the majority in the third quarter or the fourth quarter, just for modeling purposes?

[Steve Voskuil, SVP and CFO at The Hershey Company]

Yeah, I think in terms of total magnitude for the back half, think 1.5 to 2 points of impact. I don't think we're clever enough to give you the precise quarter. I would say look at it across both quarters, maybe a little bit of skew to the fourth quarter.

[Ken Goldman, Analyst at JPMorgan]

Okay. That's helpful. Thank you. I think it's fair to say there's some frustration among investors this morning that you didn't raise your EPS guidance. I recognize the $0.04 beat wasn't huge in the second quarter. There's some uncertainty around the world in the back half of the year, but your business is doing great. I'm just curious, internally, was there any consideration of raising the bottom line guidance, or did you just feel it's a little early given some of the inflation and the macro risks?

[Steve Voskuil, SVP and CFO at The Hershey Company]

Yeah, I think, again, but for the tax piece, we would've risen or taken up our guidance. Certainly, there's caution in the back half relative to inflation and cost to serve. I think we have our hands around what that looks like and have a pretty good bead on that. If that were the only piece, we would've taken up our guidance. Tax was really the piece that we had to take into account, and we want to make sure we're not sacrificing investment in the back half of the year.

[Michele Buck, Chairman and CEO at The Hershey Company]

Yeah, for perspective, tax was $0.17 on EPS, so very meaningful.

[Ken Goldman, Analyst at JPMorgan]

Got it. Thanks so much.

[Operator]

Thank you. Our next question comes from the line of Robert Moskow with Credit Suisse. Please proceed with your question.

[Robert Moskow, Analyst at Credit Suisse]

Hi, thanks for the question. What do you think about the tax rate going forward for 2022, Steve? This looks like a one-time impact. Do you think you'll have an easy comp in 2022? Secondly, you talked about some of the cost elements. Some are structural, maybe some are short term. Does any of this impact how you're thinking about pricing going forward for this year and for 2022?

[Steve Voskuil, SVP and CFO at The Hershey Company]

Sure. On the tax side, we look at it as a one-off. If we were to reset next year, again, we'll talk a lot more later in the year about 2022. As a starting point, we wouldn't factor this into the starting point for 2022. I hope that's helpful. From a pricing standpoint, Michele can add on here, pricing is a key part of our strategy. Maintaining and growing our gross margin is a key part of our strategy. Say we execute against that strategy, we are very aware of the dynamics at play from an inflation standpoint and so on, what competitors are doing, what retailers are doing. We are evaluating that environment all the time. As always, we're not going to kind of tip our hand as we think through it.

[Steve Voskuil, SVP and CFO at The Hershey Company]

Pricing is and will remain a key part of our strategy going forward.

[Michele Buck, Chairman and CEO at The Hershey Company]

Yeah, as you recall, we did take two different price increases earlier this year on our confection portfolio that will really just begin flowing through in the second half of the year, and we'll also have some upside from that in the first half of next year.

[Robert Moskow, Analyst at Credit Suisse]

Okay. All right. Well, thank you.

[Operator]

Thank you. Our next question comes from the line of Alexia Howard with Bernstein. Please proceed with your question.

[Alexia Howard, Analyst at Bernstein]

Good morning, everyone.

[Steve Voskuil, SVP and CFO at The Hershey Company]

Good morning.

[Michele Buck, Chairman and CEO at The Hershey Company]

Morning.

[Alexia Howard, Analyst at Bernstein]

Hi there. I guess the first question is whether you can give us any thoughts on the gross margin outlook from here. Obviously, a lot of other companies are seeing an awful lot of pressure. I remember back in 2018 when there was freight cost inflation, I think you also saw some pressure. Input costs are going up, packaging costs are going up, yet you held it pretty flat this time around. Just some thoughts on that, then I have a follow-up.

[Steve Voskuil, SVP and CFO at The Hershey Company]

Sure. We were pleased with the Q2 gross margin. It was a little bit ahead of our plan. I think we managed it well. Of course, implied inside our guidance for the balance of the year is a little softening of the gross margin outlook from being up slightly to being in line with last year. I think that performance in pace of the inflation that we've seen would be good. Our goal, again, looking to next year, building on the last question a little bit, is we want to continue to grow gross margin over time, and we want to do that through a pricing strategy. We want to do that through productivity. We want to do that through all the levers to manage inflation and commodity costs. Driving that forward remains an important goal.

[Steve Voskuil, SVP and CFO at The Hershey Company]

We'll give more color on next year's gross margin as we get closer to the end of the year. That goal remains firmly in our mind.

[Alexia Howard, Analyst at Bernstein]

Okay, great. Just a question on the Lily's acquisition, you recently sold Scharffen Berger and Dagoba, and the company's been trying to make premium work for quite some time. What's different about Lily's that makes you confident that you can actually make that work this time versus some of the problems that you've had in the past? Thank you, and I'll pass it on.

[Michele Buck, Chairman and CEO at The Hershey Company]

What we really like about Lily's is it is a scaled business. It is close to that $100 million in size, whereas Scharffen Berger and Dagoba were much smaller, in the $30 million range. We found over time, and I think we've shared this before, that for us, a good acquisition being around close to that $100 million mark has been built enough that we can really best apply our capabilities around distribution, manufacturing, synergies, additional marketing, kind of more broad-based marketing, et cetera, to really help to make the acquisition a success. The other thing I would say is Lily's is single-mindedly focused on better for you. While it is premium, it has a very distinct, understandable benefit that those consumers understand, which is about being the lack of sugar.

[Michele Buck, Chairman and CEO at The Hershey Company]

That also gives us a lot of confidence that it fits very neatly into our operating model. As you know, we have already launched a broader portfolio of Better For You on our core brands. That whole Better For You area is a big point of focus for us, and there's some nice synergy in terms of our focus there.

[Alexia Howard, Analyst at Bernstein]

Great. Thank you very much, I'll pass it on.

[Operator]

Thank you. Ladies and gentlemen, as a reminder, if you'd like to join the question queue, please press star one on your telephone keypad. Our next question comes from the line of Michael Lavery with Piper Sandler. Please proceed with your question.

[Michael Lavery, Analyst at Piper Sandler]

Thank you. Good morning.

[Michele Buck, Chairman and CEO at The Hershey Company]

Good morning.

[Michael Lavery, Analyst at Piper Sandler]

Just curious how you think about elasticity, and I know it can be hard to measure. The ways we've tried to come at it, you tend to score quite well. Is that your sense as well, and how do you think about that in terms of your pricing, how aggressive you may try to be or not be, and just how you anticipate the consumer response to that?

[Michele Buck, Chairman and CEO at The Hershey Company]

Yes. We have a very complex and sophisticated price elasticity models where we look not only at price points within our own category, price gaps, price thresholds, also with around other snack items as well. I think over time, I think we've consistently seen that our business, our brands, and our category tend to be on the less elastic side versus perhaps some other categories, which is what gives us confidence in pricing power and the ability to take price when we feel it is the right time.

[Michael Lavery, Analyst at Piper Sandler]

Okay, that's helpful. Just a follow-up on Reese's. Can you give a sense for the organic Reese's launch, just how that might be tracking versus your expectations and maybe a little bit of how it compares from a margin perspective. It looks like with its price point, it's probably pretty nicely accretive. Is that directionally correct?

[Michele Buck, Chairman and CEO at The Hershey Company]

It is performing in line with our expectations. It is early days, but it's absolutely in line with what we expected. It is really in kind of a test and learn phase as we move forward. It's not, I would say, a big material piece of our Better For You launch at this point in time, as organic is a little bit more of a targeted offering than, say, zero sugar or sugar-free.

[Michael Lavery, Analyst at Piper Sandler]

Okay, great. Thanks so much.

[Michele Buck, Chairman and CEO at The Hershey Company]

Oh, yeah. To your second part of your question, from a margin perspective, we do charge a higher price point for it. It also does cost more, obviously. The margins are comparable to the core.

[Michael Lavery, Analyst at Piper Sandler]

Okay, thank you.

[Operator]

Thank you. Our next question comes from the line of Kenneth Zaslow with Bank of Montreal. Please proceed with your question.

[Kenneth Zaslow, Analyst at Bank of Montreal]

Hey, good morning, everyone. I have just two quick questions. one is the tax, is it a cash item or a non-cash item? The second thing I'll ask is, implicitly, you're actually raising the EBITDA, which is more cash oriented. Am I not understanding it correctly?

[Steve Voskuil, SVP and CFO at The Hershey Company]

The first question is for the second quarter, it's non-cash, but a portion will become or could become cash in the balance of the year, and a portion will probably be non-cash for the balance of the year. It is a mix of both for the balance of the year. On your second question, yes. You're thinking about it the right way from an EBITDA standpoint.

[Kenneth Zaslow, Analyst at Bank of Montreal]

Okay. Just to follow up on this, the magnitude of the increase on the EBITDA exceeds the amount of cash that will be needed to pay the taxes. Is that a fair way? I'll leave it there. I just want to make sure I understand the tax, because it just seems like its cash flow is actually coming up, not going down based on what you're saying. I just want to make sure I'm understanding correctly.

[Steve Voskuil, SVP and CFO at The Hershey Company]

Yes, that's true. I say the caveat is time. Right? If you're looking at a longer period of time, it's more possible that a portion of that reserve could become cash. If you're looking at next quarter or the balance of year, that might lead you to one answer. If you're looking at the next two years, it could be a different answer.

[Kenneth Zaslow, Analyst at Bank of Montreal]

Great. I appreciate it, thank you.

[Operator]

Thank you. Our next question comes from the line of Bryan Spillane with Bank of America. Please proceed with your question.

[Bryan Spillane, Analyst at Bank of America]

Hey, good morning, everyone.

[Steve Voskuil, SVP and CFO at The Hershey Company]

Good morning.

[Michele Buck, Chairman and CEO at The Hershey Company]

Good morning.

[Bryan Spillane, Analyst at Bank of America]

Hi. I guess I wanted to maybe follow up a little bit on Andrew's kind of questioning at the beginning. Michele, maybe just stepping back a little bit, in this environment, right, where we're seeing not just higher cost inflation, but in addition to that, with effectively labor shortages, right? When we've seen this across a lot of the companies in our coverage universe. I guess I had two questions related to that. One is, if supply chains are kind of running all out, just how you think about stimulating demand when there's some challenges in terms of just getting product on the shelf. I guess the second is just as you step back and you look at all these different dynamics in the economy and the environment in general, it's definitely a situation that is in some ways unique.

[Bryan Spillane, Analyst at Bank of America]

Just your perspective, have you seen some of this before? Maybe just how you're thinking about approaching planning for the business over the next, I don't know, 12-24 months if we continue to be in this type of environment.

[Michele Buck, Chairman and CEO at The Hershey Company]

Yeah, it's certainly something that we spend a lot of time thinking about and working on. I guess what I would say is, yeah, we do realize that it is somewhat of a volatile time still. Certainly with all the talk of the Delta variant and recent CDC guidance recently, it's all too much of a reminder that we clearly aren't fully out of the pandemic, and I personally believe, in September, we know that a lot of companies are implementing a return to office. It seems like a lot of companies are doing that then, kids going back to school. There will be more for all of us to learn about consumer behaviors and what some of those changes mean for that. The way that we think about the supply chain and managing where we are right now is, I guess, in a couple ways.

[Michele Buck, Chairman and CEO at The Hershey Company]

How do we efficiently maximize and properly maximize revenue? One of the key things we do focus on is really looking across the portfolio and focusing on really maxing out where we have available capacity and leaning into some of those brands and businesses with greater investment, reallocating investment to those businesses so that we can really take full advantage of that. If there are areas of the portfolio where we, like a Reese's, for example, I think we keep pointing out as an example because it's such a big piece of our business and growing at such a hefty rate, we have total confidence making big capacity investments on that one just because of the track record and the dynamics around that. We'll invest in capacity as a piece of that.

[Michele Buck, Chairman and CEO at The Hershey Company]

There are parts of the portfolio where we're not going to lean in right away and invest in capacity because we want things to play out a bit here more, so we really leverage the breadth. One of the strengths we have is the breadth of our portfolio. We've got our seasonal portfolio, instant consumable, take home. We have a range of different brands, and so we really try and leverage that as best possible to manage through. It's kind of a balance of investing to build supply chain even stronger, which we're always doing, but we're doing even more of that right now. Doing what we need now, kind of no regret moves, and then planning for the future from a contingency perspective, depending on what the potential outcomes are.

[Bryan Spillane, Analyst at Bank of America]

Okay, thanks for that. If I could just follow up with one quick one. Just as you've sold in merchandising for holidays in the back half of the year and maybe just more in general, have service levels come up more as a factor that retailers are focusing on? Like you can sell a program or they can take a program, are they more sensitive to actually wanting to be in stock? Is that becoming more of a factor in that decision-making right now?

[Michele Buck, Chairman and CEO at The Hershey Company]

Yeah, I would say absolutely. Retailers were under tremendous pressure this past year with all of the huge shifts that COVID caused on many manufacturers' businesses, and they had, as we all know, tremendous issues with out of stocks, and so their goal is to make sure they remain in stock. In fact, right now, we've seen retailers really lean in a bit to inventory and carry a bit more inventory than they have in the past because I think there's a little bit of a scarcity mentality. They want to make sure they have product. They also know that manufacturers are taking price, and so in some cases, it may allow them to hedge a little bit there.

[Michele Buck, Chairman and CEO at The Hershey Company]

I think it is definitely a focal area and, of course, something that we always focus on and are proud of how we've been able to deliver for retailers because they've continued to come to us given how we were able to deliver during the worst of the pandemic last year and have continued to rely on us this year.

[Bryan Spillane, Analyst at Bank of America]

Okay. Thanks, Michele.

[Michele Buck, Chairman and CEO at The Hershey Company]

Absolutely.

[Operator]

Thank you. Ladies and gentlemen, as a final reminder, it is star one to ask a question. We'll pause a moment to allow for any others to come in. Thank you. It seems there are no other questions at this time. I'll turn the floor back to Ms. Poole for any final comments.

[Melissa Poole, VP of Investor Relations at The Hershey Company]

Thank you for joining us this morning. I'll be available throughout the day for any other follow-up questions you may have.

[Operator]

Thank you. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.

Participants

Executives

• Melissa Poole, VP of Investor Relations
• Michele Buck, Chairman and CEO
• Steve Voskuil, SVP and CFO

Analysts

• Alexia Howard, Analyst at Bernstein
• Andrew Lazar, Analyst at Barclays
• Bryan Spillane, Analyst at Bank of America
• Ken Goldman, Analyst at JPMorgan
• Kenneth Zaslow, Analyst at Bank of Montreal
• Michael Lavery, Analyst at Piper Sandler
• Robert Moskow, Analyst at Credit Suisse