The Hershey Company (HSY) Earnings Call Transcript & Summary

Good afternoon. I'm Michele Buck, Chief Executive Officer of the Hershey Company, and I'm delighted to be with you here today. Before we get started, please keep in mind that as we move through our presentation, we will be making forward-looking statements. We are proud to operate from a position of strength. We are one of the few pure-play snacking companies in the marketplace. By virtue of our #1 leadership in confection, we are actually the #2 snacking company. And all of our capabilities from consumer insights around snacking, to taste science to ubiquitous distribution all are highly transferable to other consumer snacking occasions beyond confection. We are the leader in overall confection as well as the most profitable and large part of confection, the chocolate category. We have iconic brands that are known and loved by consumers. Every time there is any kind of survey in the marketplace asking consumers their favorite and most loved brands, our brands show up. Our business is diversified across many different channels. It's also diversified across a number of different occasions. About 1/3 of our business is seasons, Christmas, Halloween, Easter and Valentine's Day. About 1/3 is instant consumable or single-serve confection. And about 1/3 is take home. So we participate and play in many different occasions with consumers across the portfolio. We are known for our industry-leading sales team. Whether it is the very close relationships that we have with retailers, our insightful and category-leading category management team or our advantaged retail sales team. All contribute to our success. We have tremendous scale in manufacturing, and that allows us to produce the highest quality products and total food safety. As well, it gives us advantage as it comes to our margins on our business. And lastly, we believe that one of the ways we continue to win is by investing and building capabilities that create competitive advantage for us in the marketplace. All of this has enabled us to consistently deliver superior financial results. We have margins that are at the top of the industry, both in gross margin as well as EBIT, and we have continued to deliver peer-leading total shareholder return. Over the years, we've really focused on our company's purpose, we all know how important that is for employees today. And our purpose is about making more moments of goodness. There are 4 strategies that enable us to do that: First of all, our beloved brands that bring smiles to consumers' faces every single day. Secondly, unmatched capabilities that enable us to deliver to delight our consumers and our customers better than many others in the marketplace. Our people and our culture are strong, and give us advantage, and we continuously focus on the long-term to ensure that while we are delivering short-term financial results, our eye is constantly focused on sustainable, profitable growth. We have a portfolio, as I mentioned, of beloved brands. And if you think about that portfolio, it really ranges from suite indulgence, where we clearly have the bulk of our products and brands, but we have branched out to meet other incremental consumer occasions, and that includes in the savory space, and also in better-for-you, two areas where we are underdeveloped, and we have an opportunity to capture incremental snacking occasions like we did with the acquisition of SkinnyPop. We continue to have very strong leadership positions. We are #1 in confection. And then within confection, #1 in chocolate and also mits. We have gained significant household penetration this past year during COVID in our baking and grocery portfolio, and we remain #1 in syrup and also in cocoa powder. And lastly, we have the #2 position in ready-to-eat popcorn with the acquisition of SkinnyPop. Our business model is really about the flywheel of investing in the core to grow the topline to create cash that falls to the bottom line that enables us to return to shareholders and also reinvest in the future. We are big believers in marketing support. With one of the highest marketing support as a percent of net sales in the industry. We do that because our category is one of the most responsive and the combination of our scale brands, our high profit margins and the responsiveness of our category, give us very strong ROIs. Innovation is another key component of our business model. This is a category that consumers love, and they are constantly looking for variety and to try new things, but we also do a very good job of balancing between innovation and the core. Seasons I mentioned earlier is about 1/3 of our business. Four big seasons that happen every year, we have strong household penetration and participation and this is one of the ways that we create a real bond in connection with consumers because those seasons are about traditions and rituals in their lives. Price realization has been important to our top line growth historically, and it will continue to be going forward. Recently, we've expanded our pricing strategy to include not only list price increases but also have a real focus on price pack architecture that allows us to meet new occasions and offer new value to consumers. We have very broad distribution, but we have continued to have opportunities to optimize at the SKU level. And this past year was a great example of that, where we had a pretty significant increase in our CMG item count. And lastly, we have always serviced many different channels. And this past year, we saw tremendous growth in e-commerce with the impact of COVID. We went from about 2% of sales, e-commerce is our total, versus at the end of the year, we landed with e-commerce representing about 5% of our sales. We are very pleased that we made the decision to invest in e-commerce capabilities more than 5 years ago when e-commerce was only 1% of our business, and that certainly paid off for us this past year. We have a tremendous opportunity to further diversify to capture profitable incremental snacking occasions and growth. Across our portfolio, we are primarily focused on sweet indulgence, though that is growing and evolving over time. One of the areas we have opportunity is in better-for-you. And within that, one space is within our own category. If we look at many other indulgent categories in the marketplace, many of them have a greater proportion of better-for-you items. And we are excited to be expanding our THINS platform this year, adding Kit Kat brand with Kit Kat THINS. We are relaunching our sugar-free platform, which was launched many years ago as a product for diabetics as zero sugar and will have Hershey and Reese and some other varieties. And lastly, we will be launching organic versions of Hershey and Reese. Snacking beyond confection is another opportunity for us. We have new campaigns on SkinnyPop and Pirate's. We recently entered the nutrition bar category. So in addition to savory and better for you, we are playing in protein-based snacking as well. And this past year, we launched a test market of Snack Cakes on the Reese's brand that enable us to capture the morning snacking occasion. Finally, we are focused on building a profitable and growing international business as that too offers incremental opportunity for us. We are focused on India, Mexico and Canada as growth drivers, and we are using efficient distribution models in Europe, in Asia and also in China to continue to grow our business there. Let's take a look at some of the great campaigns that we have on our business. [Presentation]

One of our beliefs is that we will win in the marketplace through building capabilities that give us competitive advantage. And over time, we have proven that to be true. We are well-known as being #1 on many key capabilities in our arsenal. We are ranked #1 in category management and customer service and in-store execution. Certainly, our media investment versus our peers is quite strong, and we have continued to invest in data and analytics and continue to find new ways to use them to unlock value. One great example of this is what we did with S'mores this past spring. We were able to find a correlation between the increase in COVID cases and consumption of S'mores. Consumers were told they needed to stay home. They were actually told as well that it was safer to be outdoors and what more perfect occasion than to share S'mores with the family over the backyard barbecue. So we started to look at the trajectory of COVID cases, and then we were able to target our focus on S'mores into those specific areas where COVID cases were increasing. We increased our retail coverage. We directed our retail sales teams to really focus on S'mores in those markets. And we altered our media and increased media in those markets where S'mores was starting to increase in consumption. And you can see here the great results that we were able to deliver as a result of this effort, and we continued to invest in other capabilities that will build future growth for us and strength in our foundation. Within the supply chain, as you all know, we are rebuilding our ERP platform, and that will be a foundation for many of our capabilities to come. We are working on building more agility into our supply chain so that we can more easily customize products for our retailers and consumers at margins that are neutral to our current margin structure. And given the growth that we've had, we will invest in incremental capacity. From a customer perspective, we continue to invest in the capabilities we need to activate with our customers, including omnichannel, which has been very important and will continue to be in the future. And lastly, we've advanced our pricing capabilities and also become even more targeted with our media. One of the special things about the Hershey Company is our people, our organization and our culture. We believe that culture is a competitive advantage. I couldn't be more proud that our employee engagement is industry-leading and it actually grew this past year even during COVID. Our culture is enabling business transformation across every aspect of the business, whether it's smarter capital allocation, learning from past mistakes to make even wiser decisions around M&A or other areas of the business, whether it's trying new models and continuing to advance our pricing capability or approach to innovation, across the board, this culture is enabling us to adapt and evolve as is needed in the marketplace today. One great example of how our people have contributed to bring all the capabilities that we have to full bear in the marketplace is around Halloween. And what you can see on this slide is how every element, every part of our business contributed to fantastic success on Halloween, whether it was our manufacturing plants, who came full force to ensure that we had strong case fill rates; whether it's our retail team who went all out to increase their store hours even during a time of COVID; our corporate employees who went out to the field to help our retail team to build displays during this critical time frame, and you can see the results that we were able to deliver. It's really hard to put your finger on people and culture. And I thought perhaps giving you a little sneak peek into it, might be even better than me describing it. So let's take a look at a video that hopefully gives you a better feel for what it's all about at Hershey. [Presentation]

Every decision that we take for the company balances not only delivering short-term financial results, but keeping an eye on the long-term and making sure that we are focused on sustainable growth. We are proud that we continue to show up and be recognized from many different organizations for how we do business, not just the results that we deliver. And we're proud that over this past year, when many of our communities were in need, we stepped up and we provided and contributed even more to those communities. Finally, we have always put a focus on ESG, and there is never a time that it was more important to us than it is today. We're thrilled with the progress that we have made across every aspect, whether it was achieving our goal that we set many years ago for 100% certified cocoa that we reached this past year, or whether it was doing a lot of hard work to build science based targets. We continue to make progress, and we're anxious to share more about that with you later in the year. With that, I'm going to turn it over to Steve.

Thank you, Michele, and good afternoon, everyone. I'd like to spend a few minutes talking through our long-term growth algorithm and the capital allocation framework that supports it. Of course, it always starts with the top line. And our long-term growth aspiration for the topline is 2% to 4% organic growth. We build that by looking for 1.5 to 2 points of growth from the core confection business. We also like to add 0.5 point for snacking and 0.5 point for international, which today represents about 10% of our overall business. Once we have that growth, our focus is on gross margin. And gross margin may be the most important number on our P&L. It tells us not only how precious our brands are to consumers, but also our efficiency and our ability to reinvest behind those brands to sustain that growth. And for gross margin, it's all about continuous improvement. And in fact, as you can see, we've got a great history of building gross margin over time. The levers we use are many. And it starts with, as Michele said, a balanced approach to topline growth. That includes both pricing as well as volume. Of course, pricing is helpful. And it drops quickly through the P&L once we account for the elasticity impacts, but volume is also important as we bring new consumers and more consumption into our business. But it doesn't stop with that. We also have a heritage of driving productivity improvements over time. And that productivity improvement is an important part of our muscle inside the growth algorithm. We also make carefully considered investments and capability on the manufacturing side to drive agility, and flexibility to respond to customer and consumer needs, while at the same time, reinforcing those productivity improvements that I mentioned. As we move around the world, the international business has been and remains a key part of our formula going forward. As you've heard in recent earnings calls, we've made some decisions to modify and optimize our go-to-market model in China. In fact, continuing work that has been going on for a number of years to drive more efficiencies through that business. We have a lot of aspirations for our international business, but we also wanted to be profitable, and we wanted to be able to compete for capital with the other parts of our portfolio. And we'll continue to invest in good shareholder returning opportunities in the international business for the future. When you have great topline growth and a balance of volume and price, combined with gross margin expansion, you can drive operating leverage through the P&L. And in addition to gross margin improvement, this is where tight cost control comes into play. Now we will always make investment choices for capabilities that we believe will set us up well for the future, things like insights and analytics, information and ERP advancement and even some supply chain and network opportunities. But beyond those capability investments, we want to make tight control over G&A, and that also is a critical part of our formula and part of our heritage. When you put that all together, balanced topline growth, leverage through the P&L, you get 6% to 8% sustainable earnings growth. And you can see, we've done a great job over time and delivering inside and above that target range. One of the nice things about Hershey's business is that we generate a lot of cash flow. When the algorithm works, it produces a lot of cash. And we believe this is a differentiator for us versus a lot of peers. And it leads to the fun decision of how we use the capital allocation framework to drive the flywheel for continued shareholder returns. Of course, the first stop on that wheel is to fund organic growth, that includes capital investment as well as investment behind our brands. And that will always be the first priority, but we want strong competition for capital in that space to ensure we're always funding the best investments. After that, we know the dividend is very important to our shareholders. And over time, we want that dividend to grow in line with earnings and ensure that we have at least a 50% payout to dividends. Share repurchase is the third part of our capital allocation framework, and it also plays a critical role. Our goal is not to warehouse the shareholders' cash, and we're not going to lower our investment standards. So returning cash to shareholders through share repurchase, introduces strong competition for capital and constructive tension inside our capital allocation framework to ensure we're funding the best ideas. And if not, we're returning cash to shareholders. Finally, we like the flexibility we have with our strong balance sheet and the access to commercial paper markets and our strong credit rating. And we believe that flexibility is key to enabling the growth algorithm for the future. We know that in the next couple of years, our allocation of capital to CapEx is going to be a bit higher than historic standards. Key investments in there, we've talked about before. They include our agile fulfillment center, as well as our ERP transformation. That said, we still believe 4% of sales is the right long-term goal for capital investment. And that goal also creates constructive tension in our capital allocation decisions. Finally, just a word on M&A. M&A continues to play an important part in our growth model. We have a pipeline today that is filled with both brands and assets that we're excited about. But we also have high standards, and we want to ensure that all of our investments in this space drive strong returns for shareholders, including EPS accretion in 1 to 2 years and returns well above our cost of capital. Now with that, let me turn it back to Michele to wrap us up today.

I'm thrilled to have been with you here today. If you take nothing else away, I hope you focus on the fact that we have great categories, iconic, amazing brands unmatched advantaged capabilities and a fabulous team that will enable us and has enabled us to deliver peer-leading industry results. Now we look forward to taking your questions.