The J. M. Smucker Company (SJM) Earnings Call Transcript & Summary

Good afternoon. I'm Pam Kaufman, Morgan Stanley's U.S. food and tobacco analyst. Before we get started, a quick comment on disclosures. For important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative. So thanks for joining our fireside chat with The J.M. Smucker Company. Joining us today from the company are CEO, Mark Smucker; and CFO, Tucker Marshall. Thanks for being here with us today. Mark and Tucker, I'd like to turn it over to you to start off for some opening remarks, and then we can get into some discussion topics. Thanks again for being here.

Pam, thank you for having us. I will just keep my opening comments very brief. Just to highlight that this quarter was another example of our ability to execute against our strategy as we continue to reshape our portfolio, focusing on our growth areas like Uncrustables, our premium coffee business as well as our pet snacks and cat food businesses. And so as we have discussed over the last several quarters, we continue to execute against the reshape of our portfolio. We've talked about unleashing our organization, which has been evidenced throughout the last couple of years, particularly during the pandemic, of our ability to focus on our fundamentals, executing all the way from the back of the supply chain all the way through to the store shelf, keeping our products largely in stock, which has allowed us to grow our business, gain share, supported by some very cutting-edge and great marketing campaigns across our portfolio. So very pleased with the results. Very pleased to be able to speak to you today, and we welcome any questions.

Great. So you touched on the strength that you've seen in top line over the last couple of quarters. You recently raised your full year outlook for organic sales growth to 4.5%. Can you talk about how you're thinking about the durability of the stronger demand that we've seen, and what assumptions you're making about demand elasticity and pricing growth going forward?

Sure. As I just spoke to, a lot of it has to do with execution. But as you know, we have also been successful in supporting our brands, raising our prices to deal with the inflation that we are experiencing. And a lot of the trends that have become "normal" during the pandemic also act as a tailwind. Notably, the work-from-home environment, we do believe that folks are going to continue to work from home more than they did. Obviously, pre-2020, that is going to continue to support our business because a lot of our products and brands are consumed at the breakfast and lunch occasions. And so because folks are going to be spending more time at home, they're going to be obviously treating their pets as well, consuming coffee and so forth. So there clearly are some structural tailwinds that we can benefit from. But as we've discussed on our call, by continuing to support our brands, doubling down on growth areas like Uncrustables, has allowed us to continue to deliver strong results over multiple quarters.

And thinking about your longer-term growth outlook, how confident are you in the achievability of delivering mid-single-digit operating profit, high single-digit earnings growth over the next several years? What would you characterize as the major sources of upside or downside risk to this algorithm?

Pam, as we think about our long-term growth algorithm, it really is predicated on low single-digit top line growth, which is a demonstration of the business momentum through advancing Uncrustables growth, while we continue to think about momentum in our coffee portfolio through the Dunkin' and Café Bustelo brands, along with advancing pet snacks and cat food within our overall pet food business. And when you take that top line volume mix growth along with innovation, it does enable us to provide a positive volume mix to that operating income or mid-single-digit growth, along with productivity initiatives that we have talked about over time in order to support profitable growth over time. Further, we have a strong balance sheet that enables us to deploy capital in support of both top line and bottom line growth and to leverage against the balance sheet in support of high single-digit EPS and double-digit total shareholder return over time. We remain very confident in that top line algorithm, particularly with the opportunity on Uncrustables. And we also remain confident in the overall profitability of the business because of those initiatives and productivity savings that we have put in place and will continue to put in place going forward.

Great. And Smucker has experienced improved market share performance over the last year with about 76% of your brands holding or gaining share in the last quarter, which is a significant improvement from about 50% in the last year. How would you describe what's contributing to the improved performance that you've seen? Where do you see opportunity for further improvement across market share?

Pam, I think we've largely answered that question just in terms of the initiatives and the execution that we have delivered over the course of the last couple of years. I would highlight coffee as a great example of where our strategy is working. If you think about coffee and how we play across the broadest areas of the entire category with a mainstay mature brand like Folgers, which is essentially remains a healthy brand, our goal there is to maintain or slightly grow it. It obviously generates a lot of cash. But the growth exhibited by Dunkin' and Bustelo as well as our entire K-Cup portfolio, notably Folgers, in the quarter led the share growth in K-Cups, we clearly are executing against that strategy. And so the year-over-year double-digit growth of, say, a Dunkin', we think that, that is -- it is sustainable, that we should continue to see strong growth on the premium set of our coffee portfolio and then focusing on K-Cups as one of the largest mainstream players in K-Cups and our ability to work with our -- obviously, our partner in Keurig to ensure that products are in stock and on shelves, all of those things has really contributed to the growth on coffee. So just highlighting that one category as an example.

And I have some follow-up questions on coffee that we can dig into. But I was hoping that you could touch on the input cost environment. You mentioned that you expect double-digit inflation for the year. Can you discuss how much visibility you have around input cost environment? And if you could comment on your hedging strategy, that would be helpful.

Pam, consistent not only with our business but all of the businesses in our industry, we are experiencing significant cost inflation. We have characterized that as low double-digit year-over-year inflation coming through our total cost of products goods sold. We continue to successfully manage our overall manufacturing and supply chain environment in light of this inflation. And what we have focused on this fiscal year is delivering with excellence, inclusive of taking pricing actions across the totality of our company and support of recovering that. And where we are seeing the inflation is across our commodity and ingredient baskets across all of our businesses. We're seeing it in transportation and logistics as well. That would include also labor and business continuity, in addition that we are seeing that inflation. As we think about this fiscal year, we believe that we are adequately managing the inflation and recovering it through pricing actions while demonstrating excellence, and we continue to look forward to understand what the fiscal '22 year and beyond will look like. I think it's early to talk about that, but we feel confident in our current outlook for the given year.

Great. And you touched on managed actions that you're taking to manage inflation such as taking pricing. Can you maybe highlight some of the levers that you have for managing inflation in addition to pricing? And then just on pricing, you've taken pricing on roast and ground and K-Cup so far. Can you discuss the need for any further pricing across the business?

Yes. I will begin by saying it's very important for us as a company to ensure that we are procuring the given cost or product or commodity at the most advantageous price. And we continue to put forth our various risk management and hedging strategies to ensure continuity of cost and profitability. But we also have to bring a productivity mindset, which we have done year in and year out quarter-over-quarter to ensure that we are offsetting inflation. But in certain circumstances like this environment, it is important for us to take pricing. And we have taken pricing in the summer of this fiscal year. That was an initial wave of pricing in our roast and ground component of our coffee category, along with other elements of our broader business. In the fall, we have taken additional pricing across the K-Cup or single-serve portfolio within the coffee portfolio, along with other aspects of our broader business as well. And then more recently, we will have to take incremental action both in pet and in coffee in the early winter in support of our fourth quarter as we continue to chase the inflationary environment through various rounds of pricing recovery. We continue to monitor not only the effectiveness of those actions but also the impact against elasticities and how we are partnering with the overall retailer and delivering for our eventual consumer.

So you mentioned some additional areas for pricing growth that are coming up. Are you observing any differences in demand elasticity so far? And what would you anticipate for demand elasticity across various product categories?

Sure. As you have heard us say particularly in the last call, we obviously have seen elasticities perform better than expected. I think a lot of that has to do with our ability, again, to manage both the supply chain all the way through to the store shelf and supporting our brands that has allowed us to continue to gain share in many of our segments. Going forward, and Tucker talked -- touched on this, as we think about additional pricing actions, we are modeling a bit more elasticity into our back half, which is why you saw our guidance where it ended up, both at the top and bottom line. Some of that has to do, of course, with the timing of cost recovery as well as a bit more of a conservative approach on elasticities.

And then as pricing builds over the course of the year, can you talk about how you're thinking about margins into the back half of fiscal '22?

Pam, as you think about our gross profit margin guidance for the year and particularly as it compares to our prior year results, we believe the predominance of that difference or delta is really due to the timing of cost increases on a full year basis against the timing of price recovery through multiple rounds over this fiscal year. And we would anticipate an improvement in that gross profit margin as we step into next fiscal year, absent any additional cost inflation that would need to be addressed.

Got it. And shifting gears to the pet segment. You've performed well in pet treats and cat food. Dog food has remained softer. Can you discuss your priorities within your pet subsegments and expectations for long-term growth across the categories?

Of course. So first and foremost, our strategy on pet is 3-pronged. And it starts and the priority clearly goes to pet snacks where we have a #1 position. Obviously, the iconic Milk-Bone brand as well as Pup-Peroni and some of our other brands that participate in pet snacks is all key to our leadership there. The other component of pet snacks is, again, as we think about reshaping our portfolio, continuing to move the pets -- our pet snacks business into more premium spaces, our recent innovation on Milk-Bone and sort of the dipped and baked snacks that we've launched is a good example of where we are succeeding and continuing to premiumize. Milk-Bone in the quarter grew 17%, so we clearly are having some -- having success there and continuing to move our leadership position to the growing segments of that area. The second priority is cat food. And you have seen, over multiple quarters, our ability to grow the Meow Mix brand, which is a profitable brand. It has a strong #2 position, supported by some great marketing, and so we have continued to invest in that brand. And so those are really 2 nice growth areas for us. And we have acknowledged that in the third leg of our stool, which is dog food, we don't hold a leadership position in the dog food space. And so we do expect over time that the growth in the dog food space is going to be more modest, low single digits. I'm pleased with our performance on Nutrish dry dog this quarter. We did grow 4%. But in aggregate, over time, we would expect more modest growth in the dog food and continuing to really focus our resources and priorities on pet snacks and then secondly, cat food.

You've taken steps over the years to reshape your portfolio to focus on faster-growing areas and to divest slower-growth brands like Natural Balance, Crisco. I guess how would you characterize your commitment to your dog food brands, to Nutrish? And is that an area where you would be willing to evaluate potential portfolio reshaping?

So when we were asked the questions about M&A, clearly, M&A is a key component of our portfolio reshape strategy. And so we continue to look at acquisitions across our portfolio, whether that's pet snacks, rounding out our coffee portfolio as examples. And then as you pointed out, Pam, divestitures are a key component of reshaping. We always look at our portfolio. And so although I can't speak today specifically about anything around dog food, we do believe that as the portfolio is structured today that, that our brands and particularly Nutrish can, at least for now, continue to play a role. And so we will continue to support those brands. We've taken steps to think about how we go to market and how we specifically market the Nutrish brand. And so we will remain committed to that, but again, prioritizing pet snacks and cat first.

Okay. That's helpful. So shifting to the coffee business. Smucker has been gaining share within roast and ground over the last couple of months. A lot of the growth has been driven by Dunkin' and Bustelo. Can you talk about what is driving growth for these brands? And have you made any changes to how you're managing them that's contributing to their performance?

So we are enjoying, particularly on Dunkin', full distribution. So as you are seeing the growth and particularly the share growth on Dunkin', it's real growth. We are, in some cases, gaining shelf space, which obviously helps. But the business is supported by, obviously, good marketing. Halo -- the halo effect of marketing on -- from Dunkin' Brands International obviously helps. The launch of seasonal innovation continues to drive growth. And so Dunkin' is truly a premium brand that is accessible to all consumers. And so just the combination of all of those factors has really helped us drive growth on Dunkin'. Bustelo is similar, a little bit different in that we continue to be able to gain distribution. Its appeal is largely driven by the fact that it is truly an authentic Latinx or Cuban coffee that was long embraced by the Latinx community but has more recently been very strongly embraced by non-Hispanic millennials. And so that demographic continues to drive the growth there. We continue to put dollars and resources behind it. And we think that the Bustelo brand has a lot of growth potential still left to go.

And Pam, I would also acknowledge, too, that we are benefiting from our single-serve portfolio as well, which is growing across Folgers, Dunkin' and Café Bustelo as well. And that's really a testament to the brands, but that's also a testament to the at-home consumption that continues and the investment that consumers have made in brewers as well.

And do you see opportunities to further build out your coffee business by expanding into the premium segment? Where do you think that there are gaps within coffee that you can develop?

So again, our success in coffee has come in part from the fact that we participate in all segments. We -- as we think about shaping the portfolio, if there were emerging or growing brands that came to market as acquisitions, we would clearly look to them. We do believe there's opportunity to continue to push out on our ready-to-drink or obviously, our ready-to-drink items, which could be Bustelo or our 1850 brands and so forth. So there is opportunity. And again, we feel very confident in the totality of our coffee portfolio, both the existing assets as well as the growth areas as well.

And what are you observing from the competitive landscape as you step up pricing within coffee?

Can you be a little more specific?

So are you seeing competitors follow with your price increases? And then, I guess, related to that, where would you anticipate seeing greater demand elasticity within coffee? Would it be roast and ground versus K-Cups?

So in general, we have seen prices increase across the entire coffee set, and that is something that we would expect. In most cases, we have led those increases. And we would expect that inflation is really a tide that raises all boats. So we would expect that as further pricing action is taken, that is largely going to affect the entire category. And I'm sorry, the second part of your question was around?

Would you anticipate any differences in elasticities within roast and ground versus K-Cups?

Yes. As I mentioned before, K-Cups consumers are truly willing to pay a premium per cup for the convenience of being able to brew a single-serve. So we would not anticipate significant changes in elasticities in K-Cup. And even on the roast and ground portfolio, where I mentioned that as -- on our total portfolio, we are thinking about a bit more elasticity in the back half, keep in mind that the commodity itself is not -- has not returned to those record prices that we saw almost a decade ago. And so we think there is room in the marketplace to continue to move the needle on pricing and still have decent performance.

And shifting gears to Uncrustables. So you've recently announced plans to further invest in the Uncrustables brand through building out a new production facility in McCalla. Can you talk about how you're thinking about the growth opportunity for Uncrustables? You've laid out a target of about $1 billion in sales for the brand. What factors will you expect to contribute to that in terms of how are you thinking of -- about household penetration, buy rates and then investment opportunity to continue to invest in marketing behind Uncrustables?

Sure. So keep in mind that the growth of Uncrustables is truly driven by the fact that it is the #1 lunch sandwich in the U.S.A., a PB&J sandwich. And we have continued to invest in capacity, and we are still investing in our existing facility of Longmont, Colorado, so we are bringing more lines online. And that is going to support our exceeding our $0.5 billion target, which we've put out a few years ago. We are achieving that target roughly a year early. And so the growth has accelerated on Uncrustables. The investment in Alabama is going to support -- as we will be able to move beyond the $0.5 billion, the Alabama investment will get us past $1 billion as we bring multiple segments of that facility online. And we feel very confident that, that growth is going to largely come from the core PB&J items that are grapes, strawberry, raspberry, honey, et cetera. And even before we think about expanding, which we have in some unique formats of Uncrustables also have done reasonably well, we still think there's a tremendous amount of growth opportunity just in the core PB&J, which is supported by all of these capacity investments.

And Pam, I would also offer, the reason to believe behind our continued investment is we're about 11% household penetration. We do think there's an opportunity to double that. We have not put a lot of marketing investment behind the brand to date. We are going to do that in the coming fiscal years. We also acknowledge that we have been supply constrained in serving the U.S. retail channel, which is primarily through our consumer foods business. We also see continued growth in the Away From Home channel, both in schools, universities and convenience channels. We also see the opportunity to serve the untapped Canadian marketplace where we, as a company, have a presence. And so these are all the reasons to believe why the core peanut butter and jelly sandwich continued to have runway for growth against that $1 billion aspiration.

So you have expanded Uncrustables to some other product formats. And each of you touched on potential to expand the brand further. So where would potential product forms or where is there opportunity to further innovate under the Uncrustables brand?

So if you look at the new products that are in the brand, those are essentially meat and cheese roll-ups as well as some filled bites, which contain chicken or pepperoni. And so there is opportunity in meat and cheese. We have essentially done a limited launch on those new items, but they have performed very well. But I would just reinforce what Tucker said, there's so much opportunity in base PB&J that we need to continue to focus the majority of our resources in the core because we think we have both a lot of runway as well as a strong first-mover advantage and have built a lot of scale that is going to serve us well for several of the next -- several years to come.

And just talking about innovation more broadly, can you talk about the contribution to sales that you have seen from innovation and how you approach innovation, how your strategy might have changed over the past few years?

Sure. So in the last quarter, 6% of our sales came from innovation. And so innovation has -- even as our strategy has shifted a bit over the last couple of years, innovation has continued to deliver growth. Whether it was bigger bet innovation or smaller line extension innovation, we have continued to have success in aggregate across our portfolio and innovation. Well, the approach that we are taking strategically around innovation is really the right combination of more meaningful innovation and line extensions or singles and doubles versus triples, if you will. And so getting that mix right has served us well, and that is really what we're going to continue to focus on, of getting both meaningful and smaller innovation where we need it. I would highlight Jif Squeeze as an untapped consumer need that we have met. And that product, as an example, which is just Jif peanut butter in a new package, is performing exceptionally well. So just one example of where we've succeeded.

And in terms of marketing, you've highlighted that you made changes to your advertising and media model. Can you give an update on the takeaways from your changes? And how are you allocating spend to drive stickiness from new trial during the pandemic?

Sure. So we've completely transformed our marketing model, both in the agencies that we worked with. We basically consolidated down more or less to a single agency group, which is Publicis. And within that as well as within our own 4 walls, we have organized around the individual businesses and lined up the resources, both at the agency level and internally against the businesses. That was one thing. We've taken a complete overhaul of how we think about our media strategy and which types of programming that we will advertise on, which is much broader. Part of that is making sure that we are allocating the right resources on mass media, which is all about reach; and digital media, which is more about targeted consumer reach. Getting both are very important, and getting the mix right is important. We've done very well there. And then opening the aperture as well on much bolder, much more unique quality creative content, that has really moved the needle. I mean the most notable example, again, is the Jif brand this year when we did this campaign with Ludacris and Gunna, it actually made the top 12 collaborative campaigns on TikTok. It had 7 billion views. So just another example of sort of thinking outside the box, doing some very unique things and engaging whether it's with celebrities or just being much more creative in our approach. And all of that has served us well. And I guess, the last thing I would just highlight is we have remained committed to investing in our brands. Even though as a percent of sales, you may have seen a bit of reduction because, obviously, there's been inflation, the amount, the quality and the impact of our marketing dollars has been much more effective than it has been in the past.

And then, I guess, just on the promotional environment, how do you expect promotional dynamics to evolve across your key categories in the coming quarters? How are you thinking about managing or balancing promotions versus price realization?

Well, I'll start, and maybe Tucker will add to this. But I -- we don't anticipate significant changes in the tactics or the ways in which we would engage with our customers on promotions. We think they will largely remain the same. But we have to be mindful, as always, that we have multiple levers with which to enact. Whether that's display or discounts or list price increases, there are multiple ways that we can think about impacting promotion. And we're always thoughtful about all of those levers but don't anticipate any significant changes to the actions or tactics that we would use to affect our business.

And then in terms of the balance sheet and how you're thinking about investing behind your current portfolio versus inorganic growth, from a general perspective, what are some of the key areas you would be focused on from an M&A perspective over the next several years?

Pam, as we think about utilizing our balance sheet, we would look across our current categories that we participate. So within consumer, are there incremental opportunities to support, convenience on the go, low to no prep that might be in a handheld format, that might complement what we're trying to achieve with the Uncrustables brand, along with our spreads portfolio of Jif and Smucker's Fruit Spreads? As you think about the coffee category, Mark did talk about it, rounding out the portfolio with some premium brands that would support how we're growing both Dunkin' and Café Bustelo and supporting the iconic Folgers brand. As you come into the pet category, I think it's important for us to continue to demonstrate snacks leadership, so how we think about complementing the biscuit and chew-based within Milk-Bone, along with long-life chews, dental and continued advancement of protein. And as you look beyond the current categories that we participate, what are new white spaces and where we have been successful? And Mark has talked about this is demonstrating the ability to have a leading brand within a category, along with emerging brands along it -- or alongside it, so that we can demonstrate the category leadership within that area. And we feel very confident with where the balance sheet stands. We feel very confident with our demonstration of cash flow delivery over time, and we will have the opportunity to support the growth, both on an organic and inorganic basis as well. I will just highlight that capital expenditures will remain elevated for the coming years as we support the growth of Uncrustables through the McCalla, Alabama facility expansion, along with the completion of the Longmont, Colorado facility as well.

All right. Thank you. Well, we're just coming up on time now. So I wanted to thank you, Mark and Tucker, for participating, and thanks to everyone for listening. I hope everyone has a great afternoon. And please feel free to reach out if you have any follow-ups. Thank you.

Thank you, and happy holidays.

Thank you. You, too.