The Hain Celestial Group, Inc. (HAIN) Earnings Call Transcript & Summary

Good afternoon, David Palmer, Evercore ISI's food and restaurant analyst. I'm happy to be joined in this virtual fireside chat by Hain Celestial. On this virtual stage with me are Mark Schiller, President and CEO; and Javier Idrovo, Executive Vice President and CFO. Mark took the helm of the Hain in November of 2018 after 25 years of executive leadership positions across food space, most notably in senior roles at Pinnacle Foods and PepsiCo. Javier has been with Hain for a little over 6 months, but has been about -- has about 30 years of experience in finance and strategy, most recently having been in senior finance roles at Hershey and at Dole. So welcome, Mark and Javier.

Thank you.

Thank you. Glad to be here.

It's been about 1.5 years since you joined the company, Mark. Why don't we kick it off by you sharing your perspectives about the state of the union at Hain? And when you joined the company, what did you see then? And about the long-term opportunity? And where are you today?

So when I joined 18 months ago, the company had been struggling. The U.S. business, in particular, had lost about 3/4 of its profits over an 18-month period of time. And it was really driven by the fact that for 25 years, we had been acquiring health and wellness assets. We largely had the space to ourselves. A lot of people thought health and wellness was going to be a fad when our founder realized it was going to be here to stay. And then about 5 years ago, when others started realizing they needed to be in it, too, you had the big companies launching products, you had little start-up companies. And there was competition for shelf space, competition for acquisitions. And you really needed to be a great operating company at that point, and we were really more of a holding company. We bought brands, we left them alone, and we moved on to the next acquisition. So when we needed to really operate well, we found that we didn't have the skills, we didn't have the systems, and we were drowning in complexity. And so I was brought in to really figure out a path forward. And after a couple of months of study, we laid out a strategy last February, about 15 months ago, that had 4 key tenets to it: number one was simplification. We had 55 brands. We had 26 ERP systems, 130 co-manufacturers, 2,500 SKUs or 2,300 SKUs in North America. We were shipping products from 40 different locations because every brand had their own supply chain, 5 sales forces within the U.S. It was just complexity on top of complexity. The second was really putting the foundational building blocks in place and building capabilities to be a world-class CPG company. Forecasting, innovation, project management, those basic skills that you need to be a great CPG company, we were lacking. The third was about [Technical Difficulty] costs. We had been very focused and rewarded for many years before I got here for top line growth. And in an industry with no growth, we were somehow able to grow 8%, 10% every year. And at the end, when that growth dried up, we threw a lot of money against the wall that was pretty inefficient. So getting back to an efficient company that was very focused on costs and margin was the third strategy. And then the fourth was segmenting the portfolio and saying, what are the core set of brands that really have tremendous growth potential that we want to build the future of the company on and how do you turn those into growth. So with that strategy, the first year was really about setting the foundation, filling up the innovation pipeline, getting the marketing programs going, but taking out the costs and simplifying. We sold off $750 million worth of sales, which only had about $15 million of EBITDA for 27x earnings. We've got a great return on that. We've reinvested that money back into capital and marketing, and we bought back some shares inexpensively. We've built the capabilities. We've been focused on margins. And in the first year, you've seen massive improvement in the margins of the business. And third quarter of this year, which was the first calendar quarter, was really the quarter where we're going to start seeing those growth brands turn toward growth as the marketing investments we were making and the innovation was starting to come to the market. So in the first 2 months of the third quarter, those brands were growing high single digit, which was a great indicator of the strength of the brands and the strategy working and then COVID hit and obviously, things had to pivot. But the good news is, it's actually helped accelerate the growth of those brands even a little bit more. And so we're sitting here with 2 weeks left in our fiscal year. We've raised guidance for this year. We're going to have a terrific year in F '20. And we feel like we're really set up with a lot of momentum as we go into F '21.

That's a great tee up. And one of the things I want to do is circle back to those original targets you laid out at your Analyst Day, which was early last year, I believe. Your hope was that the new Hain was going to get to 3% to 6% top line growth, 13% to 16% EBITDA margins. And I know change is happening by the quarter rapidly. But if you look at 2019 -- fiscal '19, your starting point was a decline rate of 5% in the top line and 8% type EBITDA margin. So it helped us bridge up to those targets and where you see the most substantial improvements.

Yes. So we've said it would be a 3-year journey to get to those long-term targets. I think the good news is, we've gone from a business that was declining 5% to one that's relatively close to flat now. We've seen the EBITDA margin to go from 8% to low double digits. So we're seeing the margin expansion. We're seeing the top line improve, and this was a 3-year journey. So 1 year in, I would say, we're, if anything, slightly ahead of schedule in terms of where we thought we would be. But we have tremendous runway in front of us. As I said, we're just starting to make the investments in those growth brands and see them really start to turn toward growth. Those tend to be the products that we make internally. So there's huge absorption benefits of our fixed overhead when we start to get those brands growing again. We have tons of opportunity in the middle of the P&L, plant consolidations, automation of our factories, getting just standard bracket pricing in place so that there's an incentive for a retailer to trade up to a full truck instead of ordering a pallet at a time. Today, when you order a pallet, you pay the same prices if you order a full truck. That's not the way anybody else in CPG does it. We had to do it that way because we added every product with its own supply chain. But now that they're all together, we can consolidate orders, fill up trucks. So there's a ton of opportunity still in the middle of the P&L, which we feel great about. And when we started this journey, in North America, 50% of the sales were in these brands we wanted to grow, and that 50% of sales generated 100% of the earnings. And the other 50% has 0 EBITDA. Now we're sitting here a year later, the growth brands are 65% of the total and 80% of the profit. So we've shrunk the tail. We're getting a lot more profit out of the tail. And in fact, in the last quarter, third quarter earnings, we had more profit in those tail brands in 1 quarter than we did in the previous 4 quarters combined. So hundreds and hundreds of points of margin expansion on the tail. And we're starting to see growth on the ones that are the highest margin and have the most growth potential. And so again, we're well on our way, and the plan is working as we had laid it out.

That's -- yes, you really are touching on my next question. I was going to talk about this. The good parts and the bad parts are the growth areas and the nongrowth areas. I think you had high teens EBITDA margins to start in that 50% of the business that were the differentiated brands, the Celestials, the Greek Gods, the Albas and the Sensible Portions. And then you mentioned 50% of your business today is 80% of the profit. Where is that in the journey that you see? And at some point, perhaps that bottom 50, you don't even want it to get smaller, but where is -- where do you see this balancing out?

Yes. So on the growth brands, we've been managing those in the 14% to 15% EBITDA range as we've been investing in marketing. So they were a little bit higher, to your point. We've been adding marketing consistently with it. We were spending at about 2% of sales on marketing, which is incredibly uncompetitive. And we've been adding so that we could be more competitive. And I think we've probably got another 6 or 12 months of that, and then we're at a place where we want to be, and we won't be bad anymore. And you'll start to see those margins improve. I would also say, as we start to generate growth and fill up the plants, you'll get the absorption benefit and those margins will improve as well. So we're doing the things that we should be doing, and you'll see those margins creep back up to the high teens. And on the Get Better brands, that -- the half that's in the tail, the ones that we said really don't have long-term potential in our portfolio, that they're either not going to be stable consumer franchises or we just don't see a path to profit or at least the amount of effort it would take is not worth it relative to the effort we could spend on the growth businesses, we have been selling those businesses. And we've sold quite a few. There are several more that will likely get sold. But during this pandemic, we've also seen some of those center of store brands kind of takeoff. And so we're either saying, you know what, maybe we'll hang on to these for a while and see if we can turn these back into growth brands or if we are going to sell them, we might be asking for a little bit more than we did otherwise because they've got a lot more consumers in the franchise. But in general, the plan was grow the growth businesses, shrink the tail businesses and manage them for profit to invest in the growth businesses. Like I said, it was 50-50, now its 65-35. I would expect the growth businesses 2 years from now will be 75% to 80% of the North American total, and the tail will get smaller, but it will be a more profitable tail as we go.

That makes a lot of sense. And you're -- I mean just speaking to gross margin, and I do realize this is a metric that may not be as comparable because you do have co-manufacturing. That's part of your business, maybe not the same as others. But gross margin is about -- say, it feels like somewhere like 10 points worse than the average food company that might be in the mid-30s-ish. How do you feel about the gross margin opportunity? And how much can you close that gap doing one or more of those things you're talking about?

Yes. So if you think about our business in 3 parts, you've got the Get Bigger brands in North America, the Get Better brands we're managing for profit and then International. Let me take them one at a time. So the Get Bigger brands should approach that 35% margin that you see in the rest of the industry. That's about mid-20s, say, high 20 -- actually, the Get Bigger brands are probably about 29% right now. But they'll get up to the 35% as we fill up the plants, as we don't keep investing in marketing at the rate that we've been investing as we take out some of those center of the P&L items, like filling up trucks and automating equipment. So I'm confident those will get toward the industry average. The ones that are in the Get Better bucket that we're managing for profit, those are going to be lower-margin businesses. We don't have scale. We don't self-manufacture. We may not be the #1 or #2 share brand, which doesn't give us quite the same cloud. And that's why those brands may be more -- may make more strategic sense in somebody else's portfolio than ours. But those are more in the 20% range today. By the way, they were, I think, 11% when we started this journey. They're getting close to 20%. We'll get them into the mid-upper 20s, but I don't anticipate those will get to the mid-30s. The International business is a little bit interesting because we have a significant percentage of that business that's food service and private label. And those are going to be inherently lower margins. But we have a -- those could also be very beneficial if we get into a deep recession, where if people do trade down, those brands are well positioned, at least the ones that are private label. But we will get margin expansion out of the international business as well. Again, I don't quite expect it to get up into the mid-30s, but you'll see continued expansion. So bottom line, we're about 10 points below. I think we'll probably pick up half of that gap over the next couple of years and get more to a 30% gross margin versus the 35%, that's the industry standard. And again, some of that is inherent in some of the brands that we have, like private label. Some of it is also the channels we sell-in. We -- this company started in the natural channel and e-commerce, which are lower margin channels than the grocery channels. And so there's a little bit of some structural piece to that. But even with a 30% margin business, we think we can start to get toward margins that are approaching other companies.

You mentioned the complexity at the beginning, SKUs, co-packer networks, maybe even organizationally, how you are scattered in your approach. Could you talk about that journey to becoming a more focused company and where in that curve you are? Are you basically there organizationally today?

Sure. So when I walked in, we had 55 brands. They all were really run like separate companies. Many of them had their own sales forces, their own supply chains. And so a lot of this journey has been about integrating, filling up trucks and consolidating distribution locations, consolidating sales forces, getting the right organization structure and the right people on the boat to go through the kind of transformation that we've been on. When people ask me if this was a baseball game, what inning are we in? And I would say the fourth inning. There's still plenty of game left to be played. There's still plenty to be done in terms of efficiency and effectiveness. We have the basic processes in place now, that we didn't have before, but you have to go through a few cycles of those to really continuously improve and get those to be world-class. We're monitoring. We're measuring. This is a company that was not as metric-driven as it is now. So people know what good looks like. They know where they are. They know where they have to get to. And culturally, I'd say we've got the right team in place to really transform this into a world-class operating company. So fourth inning, I'd say we're a good operating company now versus a poor operating company, but we're not a great operating company yet. A lot more work to be done. But we've got the right people, and we've got the right momentum to get there.

Yes, specifically on innovation and marketing, I would imagine there's been a bit of a stall given the fact that we have COVID here. But how would you characterize the pipeline today and the visibility on your plans versus maybe a year ago? And what impact do you think that's going to have on the financials? How -- what are we going to see from that?

Yes. So let me start with the marketing first. So the good news is we've been investing in marketing, as I said, and in particular, on tea and yogurt are 2 of the places we've invested most heavily. And those businesses have picked up significant share, pre-COVID and post-COVID, which would suggest the marketing is working. The good news now with a lot of companies struggling, the demand for digital, social mobile marketing is way down. So you're getting a much bigger bang for your buck, and we have not taken our foot off the pedal in terms of continuing to market these businesses. On the innovation side, when I started, I told everyone, look, it's going to take a year to get the pipeline filled and to get products out. And unfortunately, as these things are coming to market, a lot of retailers are just not in a position to reset the shelves right now. But what I will tell you is the things that we've launched pre-COVID that were happening at the end of last year and into the beginning of this year, TeaWell on our Celestial Seasonings business and the Screamin Hot Veggie Straws on our Sensible Portion brand are both doing exceptionally well. The TeaWell is it's basically think of what you go and buy in the vitamin aisle, we can give it to you in a drinkable form. And the repeat rate we have on that business is very high. The incrementality is very high. The trial is a little bit low because the price point is so high. So we're actually going to do some things with price size architecture to get the price a little bit lower and the count a little bit lower so that it's a more inviting opening price point. But the business is very successful and doing very well, and we've been slowly building distribution on it. On the Screamin Hot Veggie Straws, there's a lot of kind of spicy, salty snacks, but not in healthy salty snacks. So when we launched something that had a little bit more kick to it, we brought in a lot of males and teens and people that weren't buying our brand or the category, the healthy part of the category before. So it's been very incremental to the brand, very incremental to the category. And on both of those examples, we're taking the successes we have in the accounts that took it. And we're bringing it to the ones that don't have it. And saying, you're missing a big opportunity here. This is not just me selling you hard, look at the data, the data would tell you, you have to have these things. So I think the things that -- the couple of things we've gotten out before the pandemic have done well. We're in the process of selling in innovation on yogurt right now. We have a keto yogurt, which has been very well received by the buyers, and we're in the process of just starting to ship that now. And we are -- we have tremendous innovation coming in tea. We have 14 new items that are being sold in as we speak, that are very incremental to the category and the brand. Customer reaction has been terrific. So we just got to wait for the resets and for them to be in a position to take these things on. Some of the customers are saying, bring it on, I'm ready. Others are saying, you know what, I got to get my shelves full and get my foundation right before I can start putting my labor against resetting a category. So it will happen. It's just going to take a little bit longer than we would have liked, but I feel great that the innovation pipeline is full, that the sales are going to be highly incremental. And we're seeing that again with TeaWell and the Screamin Hot. And the other one, I would just -- I'd be remiss if I didn't mention. So during the pandemic, obviously, hand sanitizer has been a big deal. We have a hand sanitizer business in Canada that most people don't know about. When the pandemic hit, we used this as an opportunity to go into retailers in the U.S. and selling hand sanitizer. We have one big retailer that was the first one we shipped to. In the first 8 weeks of distribution, we sold more sanitizer than any other brand that's sold in the last 52 weeks, and we're selling almost $1 million a week at this one retailer. So out of nothing, we created this business that is high margin, that's 100% incremental to our franchise, and we're now bringing it to other retailers as we're bringing more capacity on. So it's a good example of how scrappy we are. It's a good example of how we have a really good portfolio and capability to leverage it in terms of innovation. And in the case of that particular product under the Live Clean brand, it's now a catalyst for us to get the whole brand into retailers that didn't carry it before using hand sanitizer as the entrée. So hopefully, those are good examples to give you a sense of how we're monetizing it all.

That's good stuff for me. Just 2 follow-ups on that. How did you grade your supply chain performance during the COVID period? And I also wanted to ask about what your experience is and what do you think the future experience of your company is going to be in terms of getting your product out there because to your point, you were making a case to certain retailers, hey, you should take this product. We're seeing -- you're talking about a new product, it might be getting 20%, 30% ACV right off the bat, and we're used to seeing higher ACVs in new products than that. Are you -- do you see a day where you're going to get much higher distribution on new products in the future?

Yes. So my hope to the last part of that question is yes. And I think part of it is we had some issues to overcome in terms of not being a reliable service organization. We had promised things and not delivered historically. And so we're rebuilding that trust. And by bringing in things that are really incremental versus the 47th flavor of Sleepytime tea, it's not going to bring anybody new to the category. I think retailers are starting to see us as more of a partner and bringing things that are more incremental. So I think that bodes well for the future. And I think, again, we'll be able to monetize it. The question around my rating for the supply chain, I'm a notoriously tough grader. So if my head of supply chain is watching this, he's going to say, oh, come on, you're a bit too hard. I'll give us an A minus. There's always things we could do better. But what we did really, really well was because we have a European business and because of the things we were reading about in Italy and the Middle East, we kind of knew this was coming before other people did. We built inventory. We found secondary sources of supply. We were ready. And we service the business pretty darn well through this pandemic. And so I think where other companies may have been struggling to keep up with demand, at least on the big products that we have, the ones that we've really banked the future on, our service was pretty incredible. Think when you get down to some of the really smaller brands where we only sell $10 million a year, we may be the seventh largest customer for a co-manufacturer who's going to support his biggest customers first. We struggled a little bit on the smaller brands. But in general, our service was really high, and we picked up a lot of new triers because when there was empty space on the shelf and our brands were there, people picked them up, they liked them. We're talking to them. We're giving them repeat coupons. We're marketing to them. We had been advertising beforehand. So we were already in the consideration set. And I think we've got a real good shot at retaining those people for the long haul.

That's good. I mean I do wonder, have you seen pretty good repeat levels? Have you gotten any sort of tangible results about the satisfaction of customers with your products?

Yes. It's hard to tell because the repeat cycle on some of these things is long. We have -- our Spectrum oils business, it could be 6 months before you go back and buy another bottle of cooking oil. Snacks is probably the fastest turning category. And the fact that we have not seen our business slow down, it is a good indication that people are coming back and repeating. But right now, all the data we have is more qualitative than quantitative. There isn't a lot of data that shows you usage within the pantry at home. We see consumption data, and we can tell whether the same people are coming back. But again, that repeat cycle takes a little bit of time. But we have about 8 customers that we get daily sales from, and we've been tracking this thing religiously since before COVID. And it's really steady. I mean the growth that we're seeing is not slowing down, even though the country is opening up, we still are seeing some pretty high growth rate in many of these categories, and it's pretty steady over time.

I want to ask you a question on e-commerce. Hain has always been a leader in e-commerce penetration. And now you see, of course, digital adoption by some of these bricks-and-mortar players, including the Walmarts of the world, that connectivity is greater than ever. So you can see positives if you're playing well within digital, but you can see a negative in terms of the powers of certain retailers. How do you think about how this makes the [ bed ] in a different way going forward?

So as you said, e-commerce has always been a big part of our business. Amazon is 1 of our 5 biggest customers. We were growing 50% plus before the pandemic and that exploded to 100% at the peak of the pandemic. So we're very well positioned in e-commerce. We have the right relationships. We know how to market there. We know how to make money there. One of the things that others will probably struggle with is it's going to be margin dilutive, that growth for other companies, where for us, it's on par or slightly better than our average margin. Our EBITDA margins this year in e-commerce are up 1,000 basis points, to give you an example of how we've been focused on this for a while. And we're doing a lot of the right things in partnering with the Amazons and the Instacarts and the Walmarts and the Targets of the world to engage their consumers to make sure when they're in the last mile before they hit pay that, hey, would you like to buy X in a category that maybe they've shown some interest in. So that we're picking up people, and we're using our marketing dollars in e-commerce in ways that we've never used before, and we're putting more of our dollars there than we ever have before because that's where the eyeballs are going. So I feel good about what we're doing. Yes, big brands are going there. But if you look historically, health and wellness really started in e-commerce because you couldn't buy those things in the grocery store 20 years ago, right? If you wanted organic, that was the place that you went. So the loyal consumer base for the health and wellness items has been on there all along. And yes, maybe we'll pick up some of the mainstream people as part of the process, but I feel like we're pretty well positioned with our core consumer in that channel.

I'd love to get your comments on the U.S. versus International. Do you still see that U.S. is a 5% to 7% growth long-term top line business? International was low single digits, I believe its 1% to 3%, originally. That's a pretty striking growth gap between those 2. And in the past, I think some of these sort of natural organic channels were growing faster than they were, but you guys have raised your game. So how do you think about those relative growth rates going forward?

Yes. So back on Investor Day, we said the Get Bigger businesses would grow 5% to 7%. We said the Get Better businesses would actually decline. But we were going to shrink the size of that business, and International would be up 1% to 3%. International is already in that 1% to 3% range on the top line and the Get Better brands, especially during the pandemic or, in fact, we're seeing some growth in some of those brands and margins have grown tremendously. So really, the proof point for us is can we get these Get Bigger brands to grow high single digits? And I'm confident for quite a few reasons: number one, the categories are growing 5% to 6%. So I'm not even talking about gaining massive share. I'm just talking about holding serve, which is something we haven't done for a long time, number one; number two, over the last year, while we've been eliminating SKUs and pulling out uneconomic trade and pulling back on marketing that wasn't working and replacing with other things, these businesses have been unbelievably stable despite us kind of making all these changes. And what it tells you is we've got a core group of consumers that are loyal to these brands that like these brands. And now that we're starting to bring innovation and marketing and the right programs to the customers, if they were flat before, they're definitely going to start growing. And so we're pretty optimistic that we're going to be able to grow nicely. Obviously, we live in a competitive world. It's not like the retailers are going to just -- or the competitors are just going to sit there and watch us do it. But like I said, I think our innovation is really good. I think our marketing is really good. I think our relationships are stronger than ever. Our service during the pandemic, our hand sanitizer, like those are all examples of how we are really setting ourselves up to make sure that these things are successful for the long haul. And then we're making all the investments behind the scene to automate and drive the margins of those businesses at the same time. So if we get those move in the way we have planned, it's going to be a very explosive algorithm over the next couple of years.

I was just going to ask you a question on promotional activity and profitability out there. It's -- we can see that the promotions are down as -- at least in terms of the activity that we see out there. We wonder what does that mean. Are you sharing those reductions with -- in promotion with your retailer customers and perhaps saving your dry powder for the back half of the year or maybe even to next year? How do you -- how should we think about that impact financially and just strategically?

Yes. So when we got into the pandemic, many retailers and manufacturers struggled just to keep up with demand. Our service, as I said, was pretty good. So we did not pull back on promotions at all. There were times where retailers said, I can't handle this promotion. I don't have the resource to build the displays and change the tags. So I'm going to cancel the promotion. And so those were almost universally driven by customers, not by us, where, in other cases, manufacturers had pulled that back because they didn't want to stimulate demand when they didn't have supply. So that also bodes well for our relationship with retailers where we were following their lead versus telling them we're going to pull back because we can't supply. So yes, there was some savings. There's also some cost. Let's be honest. We've got extra sanitation. We've got crisis pay for employees to make sure that they're coming to the factories. We've had to find backup sources of supply. We've had to expedite freight. So some of that is going to offset extra costs that we've had. But at the end of the day, with the top line growing as nicely as it is because any home eating occasions have gone up so dramatically. And with the corresponding absorption that we get in our plants from running them full out, its -- the flow-through on the P&L was going to be good. And that's part of why we took up guidance in the fourth quarter because we knew that absorption benefit was going to be there.

Well, thank you very much. This was a great conversation. Best of luck on your end process, and we'll see you after the quarter.

My pleasure. Sounds great. Thanks. Thanks for a great time. Take care.

Thank you.