Del Monte Pacific Limited (D03) Earnings Call Transcript & Summary

Thank you for joining Del Monte Pacific's results briefing for the fourth quarter and full year ending April 2024. Representing Del Monte in this call are Luis Alejandro, Group Chief Operating Officer of Del Monte Pacific, DMPL, and President of Del Monte Philippines; Parag Sachdeva, Group CFO of DMPL; Gregory Longstreet, President and CEO of Del Monte Foods; and I'm Iggy Sison, Chief Corporate Officer of DMPL. As advised earlier, we will now go directly to Q&A, which will be moderated by our colleague, Jennifer Luy. Jenny?

Hi, Iggs. Thanks. Parag would like to give an introduction and a summary of our results first, and address all the key questions that have been sent in. Go ahead, Parag.

Thank you. Thank you, Jenny. Just give me one second. Okay. Let me know if you can see my screen. And good morning, everybody, from Asia. And good evening for those who are joining from the U.S. So what I wanted to do was start with a context on the results, really helping understand how our margin really ended up in a significant reduction in decline versus last year, giving some context across the board, both from a commercial perspective and cost perspective, and then really start to open it up for questions. So as you can see, this is really talking through the full year. Our full year gross margin really declined from $607 million to $423 million or $422 million, which is more or less the shortfall we have in our cash earnings or EBITDA. So you will see, there was a significant impact that we saw from 3 major factors: obviously, cost; and between costs, we have broken this down into inflationary and operational issues; we then have an impact from higher trade spend and direct promotion and also unfavorable impact from volume mix. So this is what my focus would be. So inflation, easy to explain. As you know, in our business, we do end up selling, in the first half of the fiscal, products that were manufactured in the previous year. And just to bring everybody -- remind everybody, our cost in the U.S., in particular, significantly went up from fiscal '22 pack to fiscal '23 pack, driven by inflation, with just metal packaging that ended up increasing by 45% to 50%. So without selling inventory from fiscal '23 in fiscal '24, we saw an inflationary impact of $110 million when you compare the 2. So '22 inventory, being lower cost, sold in the first half of '23 was a benefit that we enjoyed, which, obviously, was not there in '24 as we were already selling higher-cost inventory in fiscal '24. When it comes to operations, obviously, we had issues, both on the U.S. side and on the base business. So when you look at the U.S. side, we had a number of factors that went against us. Our damages and write-offs were higher, and that's mainly because of higher inventory that we were carrying from fiscal year '23 into '24, and that trend continued. That also impacted warehousing costs and also transfer fee, which is associated with that. In addition to that, it also impacts trade promotion spend. As you can appreciate, we end up putting more trade behind sales of our surplus stocks. And lastly, our mix also does get impacted because we do have inventory that we sell to sundry channel, which is at an increased loss. So you are seeing the impact of increased inventory in 3 buckets: one is under the operations issues, which is here; then you see it on the trade spend; and you see it under volume mix as well. So these 3 buckets are directly attributed to the increased impact of inventory, in addition to warehousing, which is also directly correlated. So just wanted to draw your attention to that. In terms of pricing that we took, again, the annualized impact of pricing was $127 million, which is more or less offsetting the inflation impact that we see. So we'll provide a little bit more color. So this is really showing you how our waste has performed, and obviously, we had to undertake a lot of cleanup. And if you look at it by category, first, the fruits, where we ended up most waste. In terms of sundry loss, we incurred a loss of $21 million as compared to $6 million, which was sitting in the mall mix area. So that's where we incurred, again, higher loss coming from increased inventory. So I wanted to share that with you. And in addition to it, again, when it comes to our conversion costs, we have seen cost increase in 2 of our major plants, one is Modesto and the second one is Mexico. Mexico is a combination of a very strong Mexican peso as well as our increased infrastructure cost as we are building up for Joyba, but our volume was obviously not in line with our plans, and which led to increased costs from an overall perspective for the Mexico plant. And Modesto was a combination of recovery issues in -- which can happen in an agri business. We also had operational issues on the labor and overhead, plus lower volume, which led to an increased cost by 28%. Now the reason I shared this with you is that it had some impact on last year's margin. But because this is the cost structure we carry into next year, we would see an impact, which is unfavorable going into fiscal year '25 as well. In addition to that, I would also like to draw your attention on why such a huge impact to our business as compared to other FMCG companies. So as you can see, these are the categories we play in, and I would request Greg to also chime in and help outline this. But you will see, across the board, whether it's vegetables or tomatoes or fruits, the category trends changed dramatically in calendar year 2023. Fortunately, they are changing, which is going to help us going forward. But across the board, the decline was high single digit to double digit month-on-month. And as you can imagine, in our business, we don't get a chance to correct inventory once you have made a commitment to the pack. And we made a commitment to the pack early on towards the end of the calendar year or early calendar. So this is where we commit, and our plans were based on the trends that we were seeing coming out of calendar year '22. So with these trends, obviously, our volume planning had assumed a more robust buildup, even though, in most segments, we were predicting some category decline but not to the tune of what we saw in the entire year. So this shortfall, obviously, led to a more complicated issue for us in terms of managing inventory and in terms of ending up with more surplus inventory than we had contemplated. And hence, you ended up with aging issues, you ended up with [ FIFO ] issues, which led to an increased waste. And even though we tried to clear it, it led to an increased cost by way of trade or higher [ service fees ]. Let me pause there to see if Greg would like to add anything to this.

Yes. Parag, that's an excellent summary. As you look at what happened in calendar 2023, that was not forecasted and anticipated by us or the grocery industry. This was kind of an industry-wide phenomenon in the U.S. when consumers change behavior. And some of this was due to the pullback in federal stimulus and SNAP benefits, which took out about 10% of grocery sales. Some of this was due to all the inflation that was flowing through the consumers and putting pressure on their pocket books and changing the way they buy and stock up and behave. And some of this was just a return-to-normal post-COVID when consumers began to eat out more and cook less at home. So this gap in what was forecasted to what actually occurred is exactly what Parag described. It created the inventory imbalance. And in our business, we carry inventory imbalance with us for the next 12 to 24 months. Now what we've done this year, in that same time frame, in October, November, December each year, we make those decisions with our growers, with our seed varieties. We contract land, we contract acreage, we contract tons. So in 2023, in the fall, in October, November, December, we made a conscious decision to pull back our pack levels and production leverage. So this summer, our production is dramatically reduced by 30% to 40% to even 50% in some categories, so that we get back to inventory balance, which will occur this fiscal year. And these inventory losses and pressures will be behind us as we've taken this corrective action. So thank you, Parag.

Thank you, Greg. So just building on it. Obviously, we are making significant cuts in our bank for fiscal year '25. For example, in tomatoes, the reduction is between 35% to 40% to give you just a flavor of how much we are reducing. And hence, our commitment in the press release as well that we will be able to bring down our inventory by 25% or more in volume terms. So we are committed to it. It's now reflected in our cost structure. We understand that it is putting even more pressure on our gross margin due to lower volume being processed through these factories, but it is also now requiring us to think out of the box. And hence, decisions were made around changing the network and led to the 2 plant closures in veg segment that we made and announced in Q4. We are looking at more opportunities in this space to see if we can have synergies with other players to improve our margin structure, and that dialogue continues with the rest of the industry players. In addition to it, as I said, because of the excess of the costs that we incurred in '24, that would negatively impact our margin structure in fiscal '25. Plus we would also have impact from lower volume, which is what we would call underabsorption in financial terms. So that would continue to come into play. Some waste would also be incurred because we still have aging inventory coming from prior years. So that risk is also there, though it is definitely mitigated as we have got better at it. And we would be able to bring the inventory levels down in the second half after the pack reductions have been achieved. So we feel that, that would allow us to bring the inventory to a reasonable level. So to summarize, in terms of gross margin improvement versus where we have ended, we would see a modest improvement for DMFI. So we ended at 14.4% for fiscal year 2024. So we would see some improvement in the results, particularly starting second half, but overall, for the year, it would be modest. When it comes to our base business, we expect that our recovery would be faster in terms of margin improvement, and we should be around 150 to 200 basis points improvement for our base business. So overall gross margin should go up, but I would say, '25 would be a more reset year with all the strategic changes, all the tough calls that we are making to restore profitability for the group and, particularly, for DMFI. Let me now give it back to Jenny, unless and until Cito and Greg have anything to add.

I think one more thing to add on this particular slide, Parag, is just that if you look at the right-hand side of this slide, Parag mentioned it at the very beginning, but we are seeing these categories stabilize and return to normal levels of growth. As the category leader, we're going to benefit from that, and we expect to benefit from that in the year ahead. I would also say, in addition to help us cut costs and improve margin, we have taken some other drastic steps such as a large reduction in force that went into effect in April, cutting trade and promotional expense in '25, looking for more price increases where we can -- we have the opportunity to take those price increases in categories. And we've also made some changes in the way that we forecast and plan supply and demand, and we have introduced a much more sophisticated tool and system to help us really forecast out 24 months in advance with greater clarity and accuracy on demand. So that if this situation were to occur again, this is episodic in nature, we're taking proactive actions, and our new systems and process will prevent this from occurring again. I would also suggest that we have brought in some more advanced production and operations leadership that is very focused on production efficiency, cost containment and accountability across all of our factories, where most of our employees are. They're out in our plants, factories and distribution centers. And this is where we need better performance, and we are elevating that performance each month. Cito, anything else to add?

No. No more, Greg. Thank you, Parag, and thank you, Greg, for the good introduction. Jenny, let's proceed with the rest of the...

Thanks, Parag and Greg, for the detailed explanation. Just to go back to the inventory, is it correct that the current level is about $1.1 billion? And is there a target by the end of 1Q fiscal '25?

For the U.S. business, the inventory is less than PHP 1 billion, I can confirm that. And in terms of number of cases, we are at 39 million cases, and we plan to bring it down to less than 30 million cases. So that should definitely help us bring down our inventory to less than [ $95 million ].

That's for Philippines or U.S.?

Just U.S.

U.S.

U.S. Okay.

And over and above that, for Philippines, our inventory is very much in control at less than $100 million, and we would expect it to be very -- to be able to manage that inventory.

Okay. Thanks, Parag. And there's a suggestion on managing inventory. Since it's running high, why not offer house labels very competitive prices to cut inventory, at the same time preserve margin of Del Monte brand?

Greg, do you want to take that, please?

Yes. No, we're doing everything in our power to -- as Parag said it earlier, too, increased levels of promotion and frequency of promotion. We're doing more second and third brand work to move inventory through multiple outlets. So that work is going to continue, and that's why Parag and I have confidence that this inventory will be restored. This plan has been in place now for the past many months, and we are having success moving through excess inventory and rightsizing inventory. That's why it's come down below that prior threshold, and it's improving each month. We have very specific targets for inventory reduction each month. And as Parag suggested in H2, you'll really begin to see the benefits of all this work.

Thanks so much, Greg. Parag, going back to gross margin, so for FY '25, you mentioned it's a slight improvement, maybe flat to slight improvement. And there's a follow-up, how about for FY '26?

So thank you, Jenny. As I said, modest improvement for DMFI, and around 150 to 200 basis point improvement for the base businesses. That's what we are expecting in '25. As we normalize inventory and get to fiscal '26, we would expect definitely more improvement on the U.S. side, and we should be getting close to 18%, 19% levels by that time.

Thanks, Parag. Back to Greg. On the closure of nonstrategic co-packing business, when will this end?

Yes. I mean, our goal has been, each year, to reduce the level of, what we call, nonstrategic sales, which would be anything that's not in one of our brands. That's where we command much less margin than we do in our branded sales, and we've made great strides each year. That's going to continue this year and F '25. So we're looking at kind of the last big operations, where we're required to produce more nonstrategic business to utilize capacity. So Parag and I are taking action on that facility and believe we'll have that rectified here in F '25. So largely, if we look into F '26, we'll be in a position where the level of nonstrategic sales will be very small and nonsignificant to our overall performance.

Thank you, Greg. On Joyba, why is the number stores growing much faster than sales?

Yes. We just launched Joyba nationally in May. And so for the first time, we had enough production capacity to meet all of our customer demand. So we went national with all U.S. and even into South America customers, and that's a pretty quick rollout. So the number of stores quickly exceeded 30,000 stores, the level of ACV distribution quickly reached 63% in the last 2 months. So we're ahead of schedule in terms of getting more distribution and more real estate in store to sell our product line of Joyba. And now that we've kicked in all of our promotions during the summer beverage season, Jen, we expect to meet our objectives. And we have built a very large business that is going to approach $80 million plus, $90 million in U.S. revenue this year as a new product. In the accounts, Jen, where we are national, we -- and have been national for several months, like Target stores, we're one of the top brands of premium tea and do quite well. So we're in quite a velocity, presumably the dollar velocity, given its high price point and the acceptance in the U.S. market. So we're on track for a very strong first half of Joyba sales and are excited about the future of that business.

Thanks so much for that, Greg. Okay. Let's move on to the base business, DMPL ex-DMFI, so outside of U.S. Do we expect a much better year for FY '25? And what are the driving forces for a better year?

Do you want to take that, Parag, first?

Sure. Absolutely. Yes, I can. Yes. So we have been -- Cito had been driving the recent plans in the second half of fiscal '24 for the base business and really setting it up for the 100 years that we would celebrate in Philippines in the next 18 to 24 months. So pleased to share with you that we are seeing good momentum and recovery from a number of areas. One is Philippine market is showing good trends, particularly on the retail side. Our fresh business has continued to be very strong. We had a very strong fiscal '24 for fresh business, and our growth and investments in that business continue. And then number three are waste and profit leaks, which have also impacted us, just as you saw in the U.S. in the last couple of years, whether it's due to the extraordinary supply chain situation that we saw post-COVID, or due to higher inventory that we were also carrying. That is now behind us, and we are seeing improvement in our margin and profitability as we see the back of that. And a lot of effort being put in terms of bringing back or restoring the productivity of our plantation, which, obviously, was a major factor in terms of a lower gross margin on the processed food business and also on our bev business. So on that particular note, I would request Cito to further elaborate on it, particularly the improvements we are driving on the plantation side.

Okay. Thank you, Parag. So I would say that as far as the commercial demand is concerned for the Philippine market and international, they are solid, and particularly for fresh, where we have greater demand than supply. The key -- there are 2 key things that we're addressing right now, and we're making progress. So the first one is in the Philippine market. General trade channel had been weak in the past fiscal year. And we have been able to find ways to resuscitate this with increased competency and new people managing the business as well as increasing the coverage of our distributors so that we are able to address the growing demands of the business, particularly the new products that we have in the market. And there will be new products. There will be more new products coming in, in the second half of the fiscal year as well as the first half of next fiscal year. The second challenge that we are addressing, and we're making progress, is because, as you know, our C74 plantation operations, C74 meaning the fruits that go to the cannery for packaged pineapple, have declined in productivity last year. And this is due to 2 fundamental issues. So number one, the weather that affected us back in 2022, which was the height of La Niña, the highest-ever La Niña recorded in the past 50 years. And that impacted our operations, our planting and everything, as well as our productivity, as we went through that in the following 2 years. There was really no choice but to cope with it at that point in time. But unfortunately, it affected our productivity. We're cycling off that now, and we should recover by FY '26. So 2 years to recover, but good to note that this year is a much improvement versus last fiscal year. So as we look at that, we are also looking at restoring the levels of productivity starting FY '26 and all through our long-range plan, all the way to FY '28. So that's about it. I think those are the 2 challenges that are confronting us, and we're addressing them. And we're making good progress, in addition to all of the things that Parag had covered. Thank you, Jenny.

Okay. Thanks, Cito. Thanks, Parag. Moving on to asset sales. Any additional color on sale of assets and strategic partnerships with equity injections? What is the scale in dollars of these asset sales for FY '25, if any, and time line for these activities?

So overall, from the capital restructuring initiatives, we are expecting to raise around $0.3 billion, as we have mentioned in our press release. And that would be through a combination of private placement and sale of assets, mainly in the U.S. Those activities are in progress. Obviously, we would focus on brands and plants that would make most sense and would be easier to divest. So that's how much I can share at this stage and really can't go into more details or more specifics at this stage. We are working with our advisers on this particular initiative. And we are also in the process of working on raising additional equity in the base business. That is also an initiative which has been -- which is now in progress. So through that, we would be able to raise $0.3 billion in fiscal '25, which should improve our leverage profile or debt-to-equity for the group and bring it between 5 to 6x.

Okay. Thanks, Parag. Are you also looking to issue rights?

No. Not at this stage.

Okay. Thanks. For the group loans, first, good work on market shares and positive corporate governance, but we need more information on management efforts on debt reduction. What are the debt levels at DMPL ex-DMFI and DMFI, respectively? And what are the respective strategies to reduce debt at both entities?

Okay. Let me share a few things here to answer that so that we can explain this. Just give me one second, please. This is in the MDA, so it would be easy to explain. So this is our cash flow for fiscal 2024. And you will see, overall, we had a reasonably good year from a free cash flow perspective. Especially if you look at what we were able to accomplish in terms of our working capital improvements, in fiscal '24, so that was overall positive. And as you can see, we ended up with a much improved free cash flow despite the reduction in EBITDA that we experienced. Sorry, let me take you to the right slide. This is for the -- so this shows the improvement that we made overall in terms of cash flow from operations, really driven by the changes in working capital. So it's a huge turnaround as compared to last year. And despite the reduction in cash profits, we saw our cash flow continuing to be reasonably strong, and our debt did not increase in absolute dollars significantly. Our increase in debt was nominal, and that was due to the working capital improvements that we made. Now going forward, we see a similar trend. As we mentioned, our inventories would come down. Obviously, our interest expense would continue to be high as we saw in fiscal '24, which would put pressure in terms of our overall debt servicing and also overall debt levels. But with the capital restructuring initiatives that we talked about, inventory reduction that we are continuing to do in the U.S., we think we have a very good chance of bringing down our leverage to between 5 to 6x and raising $0.3 billion inorganic.

Thanks, Parag. Okay. What would be the source of funds for the repayment of the $100 million loan to BDO in line with the perpetual issuance in March?

So we are getting continued support from our partner banks in -- across the board. And we expect to be able to extend the loans that are maturing with BDO in fiscal '25.

Thank you. Follow-up is, do we have enough cash flow? Do we need to take additional loans or equity?

We are continuing to work on improving our liquidity and funding the pack in the U.S. That continues to be a work in progress, and we feel good about really having a normal pack year for us without any challenges. So we are in a fairly reasonable shape when it comes to the U.S. And we are working with our banks on Philippine side to make sure that we are getting sufficient debt to make sure, before we can inject equity, we are able to run the business smoothly.

Okay. Thanks. And do we have visibility on when we expect operational cash flow to be positive?

As I said, our operational cash flow was positive in '24. And with the inventory reduction plans that we have, we expect it to be in a similar place in fiscal '25 as well. It won't be the same -- that inventory -- the working capital reduction won't be the same -- of the same levels in '24, but it would still be positive working capital-wise in '25.

Okay. Thanks. How much of the inventory glut in DMFI impact export sales of Del Monte Philippines for FY '25? Sorry, yes, basically the impact on the base business with the inventory glut of Del Monte Foods?

Yes. I mean, it was not much, to be honest, as you saw with the reduction in productivity that we have. If we can say the timing was optimal, perhaps this was the year. With the significant shipments that we made of Philippines -- of pineapple products from Philippines in the second half of '23, we were obviously not able to ship more in the U.S. But with the productivity declines that we saw, it was not a major issue, and that's reflected in our inventory levels for the base business, which have dramatically come down.

In fact, just to add to that, Parag, we knew of this development months ago. We were able to prepare for it in whatever -- and of course, the fruits are on the ground already. So whatever was allocated to DMFI, that was not going to be shipped to them. We were able to reallocate them to other markets, in international, and equally profitable at that, if not better.

Thank you, Cito. Thank you, Parag. Moving on to India. When will India be profitable? Yes, it's been a few years, so when do we expect it to turn around?

Yes. I mean what is encouraging for India business is our continued growth of retail business. As you might remember, the business did get significantly impacted during COVID because 50% of the volume comes from food service, but with the emphasis on retail. That was the only silver lining in our portfolio, where our contribution margin increased by 300 to 400 basis points last year. So that's a very positive sign. And in terms of net income, yes, it was a very small loss, which we would be able to really turn positive in the next year or so. So I don't see any issue with the momentum that is there in the Indian economy, despite the challenges we always had off-scale, which we need in India. So more to come, but overall positive developments in India.

Thank you, Parag. On the one-off items, company spent $10 million for IPO and professional fees. How much professional fees are related to the canceled IPO?

Yes, it's half and half. $5 million is what we expensed for the IPO. That includes all costs, including the significant legal costs that you incur in when you run a process like that. So we thought it was best to write it off, considering that we have to stall our plans -- IPO plans in the U.S. So that's what we incurred and expensed in fiscal '24.

Thanks. Out of the $127 million loss, how much can be attributed to the repurchase of DMPI shares from SEA Diner?

I would say that in terms of P&L or net income, particularly in fiscal '24, not much, in fact, would be attributed to the SEA Diner.

Okay. Thanks. For SEA Diner's residual shares in DMPI, they will be converted into the redeemable convertible preferreds. Is this part of the transaction completed?

Yes, to my knowledge. Iggy, do you want to confirm that?

Yes, that's right. We entered into a new RCPS agreement last February with SEA Diner.

And for DMPI, what's the current level of related party transactions? And any guidance for FY '25?

Yes. So the total RPT that DMPI has at the end of April is around $171 million. That excludes the deposits that were also paid for inventory purchase or for potential inventory purchase. So without that, you are looking at $171 million, plus $85 million not being included there. In addition to that, obviously, we have the guarantee of $70 million of the perpetual bonds that have been raised by Jubilant, which is a subsidiary of DMPI.

Thanks. We have a last question. Just now you mentioned GPM target, gross profit margin target of 18% for FY '26. Is that for DMFI, the base business or for the group?

DMFI, that was the focus.

DMFI. Okay. Thanks, Parag. We don't have any more questions. So thank you to our panelists for answering our questions quite extensively.

Thank you, guys. Appreciate it.

Thank you.

Okay. So long. Thank you.

Thank you for joining the call.