Q2 2023 Kellogg Co Earnings Call
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Good morning, and welcome to the Kellogg Company second quarter 2023 earnings call.
All lines have been placed on mute to prevent any background noise.
After the Speakers' remarks, there will be a question and answer session with publishing analysts at this time I will turn the call to John Renwick, Vice President of Investor Relations and corporate planning what kind of company.
<unk> you may begin your Pumpkin school.
Thank you operator, good morning, and thank you for joining us today for a review of our second quarter results and an update on our outlook for 2023.
I'm joined this morning by Steve Kay Helane, our chairman and Chief Executive Officer, and Amit Banotti, Our Vice Chairman and Chief Financial Officer.
Slide number three shows our forward looking statements disclaimer as you are aware certain statements made today such as projections for Kellogg company's future performance are forward looking statements.
Actual results could be materially different from those projected for further information concerning factors that could cause these results to differ please refer to the third slide of this presentation as well as to our public SEC filings.
A recording of today's webcast and supporting documents will be archived for at least 90 days on the Investor page of Kellogg Company Dot com.
As always when referring to our results and outlook today, unless otherwise noted we will be referring to them on an organic basis for net sales and on a currency neutral adjusted basis for operating profit and earnings per share.
And now I'll turn it over to Steve Thanks, John and good morning, everyone. We're pleased to report another better than expected quarter, featuring two key elements depicted on slide number five not only did we sustained top line growth that remained better than our long term targets, but we did show across our portfolio and geographies with growth in all major category.
Groups in each of our four regions and we did so even as we lap the prior year's retail inventory replenishment and particularly strong in market performance.
Also encouraging is the momentum we've continued to see in our biggest most differentiated brands shown on slide number six.
These advantaged brands made up half of our net sales in 2022, and they continued to outpace our overall growth, creating both topline momentum and a favorable margin mix. So when we put it all together the earlier than expected margin recovery and the sustained top line growth across our portfolio you can see why we feel comfortable.
<unk> raising our full year sales profit and earnings guidance again.
We also remain very active on our social and environmental program Kellogg's better days promise.
Number seven shows just a few examples of actions we took during the quarter, including donations and volunteering in the area of hunger and tie ins to important commercial programs with customers.
This slide also shows another wave of recognitions that we've received simply confirming what we already know that doing what is right is in our DNA.
On social goals like addressing hunger or environmental goals like reducing our admissions or in diversity goals like gender representation in management. We remain ahead of pace on our better days goals.
And of course, we remain very busy and getting ready for our pending separation. Indeed on slide number eight most of what you see under the Q1 Q2, and the Q2 Q3 phases are now complete.
The team has done an exceptional job of digging into every detail every brand every process every role to make sure. We have left no stone unturned in our quest to create two successful value, creating companies and as you look to the Q3 phase you can see a few milestones that are very much upon.
On us.
On July 24th W. K Kellogg COSE form 10 was filed publicly providing you with important information about management strategy capital structure and carve out financials.
On July 30th just this past Tuesday, we began to run W. K Kellogg co and Keller Nova in parallel.
By running the water through the pipes, so to speak we can identify and address any process gaps and other opportunities well before the separation takes place.
Employees in new roles can transition properly services under the transition services agreement can be ironed out more completely and while this requires incremental expenses. They are already incorporated into our guidance.
And then less than a week from today on August nine we will host our day at K Investor event at which leaders of both W. K Kellogg co and kill Inova will present to the strategies the capital structures and the financial outlooks for both companies.
And we still expect the separation transaction to take place during the fourth quarter, because we can't know the exact timing of the various customary approvals, we can't be more specific than that quite yet, but we have every confidence that it is on track.
Some the second quarter was another very good quarter in terms of financial results sustainability actions and progress toward our spin off and now let me turn it over to Amit to take you through our financial results and outlook in more detail.
Thank you, Steve and good morning, everyone.
Slide number 10 provides a summary of our second quarter and first half results net sales growth in quarter, two was 7% on an organic basis.
Notably this growth remained broad based across category groups and regions and paces us a little ahead of our previous full year outlook.
Operating profit grew 14% on an adjusted basis.
This growth came on top of last year's 10% currency neutral growth and it featured the sooner than expected recovery in gross profit margin that Steve discussed.
This operating profit performance puts us a little ahead of our previous full year outlook.
Cash flow through the first half is down year on year because of outlays related to the pending spinoff, but on track for the full year.
Let's now discuss each of these in more detail.
Slide number 11 splits.
You're on your net sales growth into its components.
Price mix growth was sustained in the mid teens with growth in both developed markets and emerging markets as expected price elasticities continued to move higher around the world.
And this weighed down our volume.
Also contributing to a volume decline was lapping last year's replenishment of trade inventories, particularly as we recovered from the cereal strike.
Foreign currency translation continued to negatively impact net sales growth by nearly 3% year on year in the quarter.
If today's exchange rates versus the U S. Dollar were to hold we would expect to see.
Our topline growth in quarter to support our longstanding planning assumptions by lots of cities to rise and for revenue growth management actions to begin to anniversary.
Next let's discuss gross profit shown on slide number 12.
As we have discussed numerous times our objective in this high inflation environment has been to protect gross profit dollars, while productivity savings and revenue growth management and.
In quarter, two adjusted gross profit increased by 9% year on year on top of a year ago quarter that itself was up more than 6% on a currency neutral basis.
From a margin perspective recall that our expectation was for a gradual improvement as the year progresses, but as Steve mentioned, we are ahead of pace in this recovery with year on year expansion coming sooner than expected.
Much of this is driven by bottlenecks and shortages reseeding, which eliminates many of the inefficiencies and incremental costs experienced over the past year them all.
In addition, productivity and revenue growth management continue to catch up to our high market driven input cost inflation.
2023, there is no change to our outlook for expansion in the second half, but Q2's better than expected performance.
<unk> up our full year outlook, while gross margin to be somewhere around 50 basis points of expansion year on year.
Operating profit as shown on slide number 13 grew 14% year on year and quarter, two even as it laps.
Robust, 10% gain in the euro earlier quarter, and even with advertising and promotion investment increasing year on year.
Through the first half our operating profit was up 16% year on year.
Our second half comparisons get a little tougher and we have begun to run W. K Kellogg company in parallel requiring incremental expenses year on year that are already baked into our guidance.
We are ahead of pace and this gives us the confidence to raise our full year operating profit guidance.
Moving down the income statement slide number 14 shows that our earnings per share growth has been attributable to operating profit, which has grown enough to more than offset what a severe macro related headwinds within our below the line items.
These below the line pressures were expected and will continue through the year.
Interest expense increased significantly year on year due to Ohio interest rates in the second half, we expect to see modestly lower interest expense than we recorded in the first half owing to the timing of cash flow.
Other income decreased sharply year on year in each of the first two quarters. This year, reflecting the accounting of pension and post retirement plan asset values and interest rates stemming from last year's declines in financial markets.
Owing to favorability in some other items in this line Q2 came in higher than both Q1 and the run rate, we would expect for the remaining quarters.
Our effective tax rate in quarter, two was back to the kind of 22% rate, we would expect for the folio after being a bit above that in quarter one.
And we would expect that to be the case for the full year as well.
Foreign currency translation turned slightly positive to EPS in quarter, two finishing the half with about a negative 1% impact.
We leave foreign currency translation out of our guidance because it is out of our control and difficult to predict but if we took today's exchange rates, including a substantially devalued Nigerian naira.
Partially offset by the lapping of other currencies year ago weakening we would estimate a similar impact for the folio as that of the first half.
Our key message here is that these below the line items are collectively weighing down EPS as expected, but it is important to remember that the operational side of our P&L through operating profit remains very strong.
First one time cash outlays related to the spinoff amounting to roughly.
$130 million.
Secondly, lapping unusually strong inflows in the year ago period, including <unk>.
Some related to derivatives.
And thirdly timing of capital expenditure, which last year was much more weighted to the second half due to supply disruptions early radio.
Meanwhile, we continue to reduce our debt leverage year on year further enhancing our financial flexibility.
All in our second quarter performance puts us slightly ahead of pace for the full year. Accordingly, we are once again moving up our full year guidance as shown on slide number 16.
We are raising our guidance for organic net sales growth to approximately 7%, which is the high end of our previous guidance range.
<unk> performance was consistent with our assumption of decelerating growth as the year progresses.
It reflects a likelihood of dawn of elasticity towards historical levels as well as lapping of particularly substantial revenue growth management actions in the second half of last deal.
This 7% organic growth is well above our long term target.
We are raising our guidance for adjusted operating profit growth to 9% to 10% on a currency neutral basis, which is the upper half of our previous guidance range.
This raise reflects a stronger than expected quarter, two performance, particularly our audio recovery in gross profit margin and yet still accounts for some investment shifts into the second half as well as incremental costs in the second half for operating W. K Kellogg company in parallel as a company within our.
Company.
We expect to improve margins this year, which combined with our above target net sales growth will deliver operating profit growth that is also above our long term target.
Based on the improved operating profit outlook, we are raising our adjusted earnings per share guidance as well.
Now looking for a year on year decline of 1% to 2% the upper portion of our previous guidance range.
Remember that all and more of this decline is explained by the euro and your reduction in pension and postretirement income a nonoperating noncash item that is expected to have a negative impact of nearly 7% on EPS. This year the.
The negative impact of higher interest expense due to higher interest rates and the economy is another negative impact of more than 4%.
Our guidance for cash flow remains at one to $1 1 billion recall that within this guidance, we are expecting a year on year increase in our underlying cash flow offset by onetime cash costs and capital related to the spinoff.
A couple of elements to keep in mind regarding this guidance first while we expect the spin off to be transacted during quarter four.
Our guidance assumes it takes place at yearend purely for simplicity reasons and secondly, the impact of our recently completed divestiture of our Russian business does not have a material impact on our guidance.
So to summarize our financial position on slide number 17.
Quarter, two was yet another quarter of all delivery and we have plans in place to sustain our earnings momentum.
Accordingly, we are again, raising our full year guidance for 2023.
Our profit margins have expanded sooner than anticipated and this should continue particularly as our service levels return to normal.
Our net sales growth remained strong and while we are keeping a resumption of rising elasticity in the second half along with lapping sizable revenue growth management actions, we are confident enough in our topline growth to raise our full year outlook.
Financial flexibility is strong marked by a solid balance sheet and cash flow that remains in good shape, even with some adverse timing in the first half.
We continue to make good progress on setting up both <unk> and W. K Kellogg for operational and financial success and we are looking forward to sharing with you. The two companies exciting strategies capital structures and financial outlooks next week.
I'll turn it back to Steve to walk you through our individual businesses. Thanks, Amit with the spinoff approaching will once again organize our discussion around the businesses that will comprise kellen, Nova and W. K Kellogg.
Slide number 19 remind you of the composition of the two businesses and on this slide you can see how both remain in good form with good topline growth, let's start by discussing the <unk> businesses, leading off with our emerging markets regions.
Slide number 20 shows the financial performance of our EMEA region. This region's sustained its outstanding underlying momentum in the second quarter posting mid teens organic net sales growth on top of extremely strong comparisons again expanded its operating profit margin year on year in the second quarter and and again posted <unk>.
<unk>, 19% operating profit growth and this performance came in spite of exceedingly high cost inflation and reinvestment into the business.
Drilling down into its key category groups, we see on slide number 21 that EMEA snacks sustained double digit organic net sales growth in quarter, two with this growth coming on top of exceptional growth in the year ago quarter.
In markets snacks category growth rates remained elevated and have even accelerated slightly from the previous quarter. Pringles. This year has outpaced the salty snacks category that is growing in the high teens or better across key markets and during the second quarter. We continued to gain share in markets like Australia, Japan, Korea and Thailand.
This business delivered growth on top of last year's strong growth with particular strength in Australia Africa, and the Middle East North Africa, Turkey subregion and in market. We've outpaced the category. This year that has grown in the mid single digits collectively across key markets.
Which brings us to noodles and other and slide number 23 led.
Led by multi pro in Nigeria. This business continued to deliver organic net sales growth in excess of 20% in the second quarter.
Multi broke continues to execute extremely well widening its competitive moat and staying on an impressive growth trajectory and an always exciting market.
Meanwhile, we continued to expand our Kellogg noodles business outside of Nigeria in the second quarter net sales of Kellogg's noodles grew significantly year on year in both South Africa and Egypt.
As you know the Nigerian naira has been officially devalued recently, but our team has been proactively managing through de facto currency devaluation for some time in order to protect our margins much of this proactive pricing, which.
Which has contributed to the 20% plus growth you see on this slide is behind US now this reflects the experienced and savvy of our local team and the strength of this business and we expect continued if moderated topline growth going forward.
Pretty much at the rates that it was the value to or close to it and so that's why you see the level of pricing that we've been able to take which really protects our margins going forward and is underlying that performance in Africa, we will continue to watch the currency.
It's been I think the government I give great credit for doing the things that are necessary, but very very tough for.
For the long term of that economy in that country, and we will continue to watch what's really happening with the currency as we always have and think about if it continues to work towards it.
Devaluation, we will price accordingly, and we price constantly to make sure that we're keeping track of the underlying currency as we see it and so with that I'll turn it back over to Amit.
Thanks, Steve So I think the devaluation that we're seeing right now is more of a catch up in the official rate at which we translate I think operationally like Steve mentioned, we've been we've been operating against the de facto devaluation thats happened and you can see that in our pricing and you can see that in our industry growth, which has been north of <unk>.
20% for the last few quarters.
I think it will translate.
Translation standpoint, Nigeria is about 10% of our sales so with the devaluation, it's about a four.
<unk>, 4% impact on our overall, NSE and <unk>, which would be split between the two years.
2% this year and 2% next year. This has been incorporated into our Forex guidance. So the guidance that I.
<unk> gave based on today's rates of course of around a 3% impact on NFS week that incorporates.
The naira devaluation.
I also say that the impact on <unk> and EPS is less than 1%.
And that's also been incorporated into the 1%.
Negative impact of currency on the EPS so.
So thats, Nigeria, I think from a gross margin standpoint.
We continue to expect gross margins to expand in the second half. So there is no change in trend I think theres, a little bit of variation based on seasonality between the quarters, but I think from an underlying standpoint, we continue to expect gross margin to be up.
In the second half.
Okay. Thanks, I'll pass it on.
Our next question comes from Alex Yeah, Howard Open saying your line is now open. Please go ahead.
Good morning, everyone just.
Just a quick one from me, but thinking about the.
Investor Day next week can you clarify whether well get a guidance range on the earnings per share.
Adjusted operating profit for each of the two businesses the 2024.
Yes, thats our intent so I think our intent is to talk both I'll give you a preliminary guidance given its early on 24 talk about long term growth rates.
Across key key measures.
And guy.
The next year as well at least preliminary guidance with a range.
Yes.
Perfect. Thank you very much I'll pass it on.
Thank you. Our next question comes from Bryan Spillane from Bank of America.
Your line is now open. Please go ahead.
Thanks, operator, good morning, everyone.
I wanted to follow up I guess on <unk> question.
She asked a bit about it.
Investments shifted the back half and I guess, maybe just stepping back like just looking at it more.
More broadly if we look at SG&A as a percentage of sales.
It's running and it's been I guess, the last six or eight quarters, it's been running about 200 basis points.
As a percentage of sales below where it was sort of before last year.
Yes.
And so I guess.
Kind of look thinking about that going forward right is that kind of the new run rate.
Is there still some re basing of marketing spend that that has to happen.
So just just really trying to understand where SG&A as a percentage of sales it had been running in a roughly 20% range for a long time and now were.
'twenty to 'twenty, one and now were kind of high 18 19 just.
Is this really a good run rate going forward or is there more spend that still has to be put back. Thank you.
Yes, I think firstly, there's been some phasing right when you compare it versus 'twenty, what's the <unk> 22, and we felt that we started the year, saying it would be.
A much more first half weighted I think that has shifted a little bit between first half and second half I think to your question around levels of advertising. We are pleased with our levels of advertising. So I don't think I don't think we expect any re basing needed going forward on SG&A, we are catching up.
Meetings travel.
Businesses returns too.
Pre pandemic.
Levels, So I think that youll see that catch up.
Single digits is to be up slightly higher than what we increased in 'twenty two.
And 'twenty two we were up we would probably be up this year as well at a slightly higher rate.
Okay. So it sounds as if if we're thinking about SG&A as a percentage of sales. If we go back past 'twenty two right. If you look at 2021 going into the years before it sounds like it's going to be net lower as a percentage of sales, but the runway run rate was.
Even leading up before the pandemic.
Yes.
There's been a lot of pricing that has come through but I think in all we've been in this period of exceptional pricing. So some of the ratios probably are displaced a little bit.
Pricing has worked its way through there'll be enough.
That's great. Thanks, Thanks, Amit that's very helpful.
Thank you. Our next question comes from Robert <unk> of Jefferies. Your line is now open. Please go ahead.
Rob.
Are you on mute.
Yeah.
Gary.
Yes, now we can.
Yeah.
Broader question around.
Kind of ongoing recovery.
Okay.
Yes.
Thank for that.
Yes.
Two quarter.
Got it.
Why do you think that actually fully recover.
Rob I think you were not entirely.
Youre, a little breaking up but I think the question was around our tech and our tech recovery and where we see it. So ill answer that question I think that's what you were asking we continue to recover the share we talked about in the prepared remarks.
In the first half of 2023.
Again, one five points year on year were also up year on year on a 13 week basis, and a four week basis.
We are still recovering items, we're still recovering distribution points and we see that continuing to recover we have a long tail of Skus. We had we took the opportunity to chop some of that tail to make efficiency gains in our plants, but there's still some recovery happening with long tail skus that.
We did not shop, and so we still see recovery on the horizon I wouldn't really call. It a recovery, but I just see it as ongoing momentum as we get.
Back to where we were pre strike from a share perspective, and I think youll see some ambitious plans next week there should be no ceiling for our share ambitions. When we think about what's what the potential of this business is but we're pleased with the momentum. We're pleased with the plant performance. We mentioned also in your prepared remarks were running company in company right now, which.
Really exciting we did the cutover over the weekend and one of the things that means is there is now a separate sales organization for North American cereal, which is I think one of the really exciting developments as we talk about two companies two quality companies going forward and so youll have a sales organization thats, 100% focused on north American cereal and milk.
We have goals that are ambitious and I think very achievable as we continue to look forward for north American cereal and what its what its true potential is.
Okay Super and then I guess just one.
One quick follow up.
Is kind.
Kind of opportunity I guess to Mr. <unk> question earlier, just on the North America cereal profitability that.
You've provided us from form 10.
Is there anything.
Kind of inherent within those profitability margins that could have been let's.
Let's say kind of weighing on profitability potential again more broadly speaking relative to maybe what could come.
Yeah, we'll talk it in context.
Next next week and I think you will talk about the history as well as the go forward plans.
Suffice to say that.
We've been through five and in strike and that had an impact on the margin. So I think maybe.
You'll have.
Fuller conversation on that next week.
Fair enough. Thanks, a lot.
Thank you.
Next question comes from Michael Lavery of Piper Sandler. Your line is now open. Please go ahead.
Thank you and good morning.
Good morning, Michael.
Just wanted to understand a couple of things on volumes.
You walked through the sales growth split.
By category in ways that would add up to.
W. K Kellogg has been telling over but can you give how the volume split would've looked for each of those on.
Yes.
Company Newco basis.
For the second quarter, we haven't yet we haven't split it out we haven't split that Michael next week, we will I mean, youre getting a lot of detail next week about.
What it looks like and what our forecasts are going forward, but in terms of category splits on volume, it's not a it's not a level of detail that we provided.
Okay.
On emerging markets, obviously, you had the cereal comp the restocking in a lot of things in the U S and.
Different dynamics in developed markets, but.
EMEA volumes were also down.
Had they were down a bit last year.
What would be.
Necessary to see better volume growth there, that's usually kind of historically, where you would expected as emerging markets.
Can you just give us a sense of maybe what some of the pressure is there is it just the macro I know you mentioned in the launch and the expansion into places like South Africa, but.
How does that look going ahead should.
Is that pressure likely to remain when did it pick up how do we think about that.
Yes, I think we've seen elasticities arising in the quarter right. We had expected that we had focused that.
And this quarter in quarter, two we saw that.
And I think we saw it and talking about EMEA and Latin America.
Latin America, we saw it on our cereal business, our cookies and crackers business in Brazil. We also did some rationalization of low margin skus as part of our revenue growth management. So.
Youre seeing that come through in the quarter.
And I think it's really elasticity is given the pricing that we've taken and we talked a little bit about currency in Nigeria, where we have to price not just for commodities, but also currency. So youre seeing the loss of cities come through.
I think going forward from a legal standpoint, I think Steve talked about we've got all excited about the.
Commercial plan that we have in the second half and I think as you start lapping the pricing.
There'll be more balanced between volume and price mix.
Okay. Thanks, so much.
Thank you next.
Next question comes from Matt Smith of Stifel.
It's now open. Please go ahead.
Hi, good morning, Thanks for taking my question.
Okay My follow up on the commentary about the consumer environment.
And the category dynamics, we're seeing where some categories, we're seeing clearly.
A softer elasticity response lately.
In categories, where elasticities have been more stable overall.
Yes, I think a couple of things first it's a bit of a.
Tough comparison, when you think about in North America cereal versus our snacks business, because our cereal is actually coming out of a very depressed environment because of the fire and the strike.
Really no promotional activity no merchandising activity and so we've got a ways to go to get back to where it was on a pre pandemic basis, but we have every confidence that we're moving in that direction because our supply chain is working.
I mean, it's working really at a pre pandemic level in cereal, which is terrific I already mentioned the replenishment of Skus the growth of distribution points in HCV. So we see that really moving in the right direction from a snacking perspective.
It's always been a very highly impulsive category and so.
Coming out of bottlenecks and shortages and low service levels, you don't get the type of quality display.
Thanks for that Steve I'm looking forward to seeing everybody next week and I'll leave it there and pass it on.
Okay. Thank you alright, operator, I don't think we have time, we are at the at the half hour here.
Thanks, everyone for your interest and please contact us if you have any follow up questions to ask.
Thank you for joining today's call you may now disconnect your lines.
Yeah.
Every morning to get.
Yeah.