The Hershey Company (HSY - Analyst Report) beat the Zacks Consensus Estimate for earnings but missed the same for revenues in the third quarter of 2015.
Moreover, the chocolate maker slashed the 2015 revenue outlook – for the fourth time this year – due to challenges in China as well as lower-than-expected U.S. net sales in the reported quarter. The company also expects to meet only the lower end of the previously provided gross margin and earnings growth ranges.
Shares declined around 3% in pre-market trading. In fact, the company’s share price decreased around 9% so far in 2015 due to weak sales performance and frequent guidance cuts.
Earnings Beat
Hershey’s third-quarter adjusted earnings of $1.17 beat the Zacks Consensus Estimate of $1.12 per share by 4.5%. Earnings increased 11.4% year over year as better margins offset another weak top-line performance.
Hershey Company (HSY - Analyst Report) - Earnings Surprise | FindTheCompany
Revenues Remains Weak
Net sales of $1.96 billion missed the Zacks Consensus Estimate of $1.97 billion by 0.7%. Net sales were flat year over year including the impact of currency and acquisitions/divestures. Currency hurt revenues by 2.0 percentage points (pp), higher than 1.3 pp last quarter. Net acquisitions and divestitures contributed 0.5 pp to the top line.
Excluding the currency impact, sales increased 2%. Organically, revenues increased 1.5% as pricing gains offset weak volume performance.
Sales remained weak in the international markets, mainly China, while the North American top-line performance was below management’s expectations due to soft consumption trends.
Net price realization benefited revenues by 5.8 pp gaining from the price increases that the company announced in July last year. However, volumes declined 4.3 pp because of volume elasticity related to the price increases and lower China sales. In the U.S. too, sales were below expectations.
Segment Discussion
North America net sales increased 2.4% to $1.73 billion, less than management’s expectations. Excluding currency headwinds, sales increased 3.5% as pricing gains offset lower volumes. While pricing increased 6.9 pp, volumes declined 3.7 pp due to volume losses as a result of higher prices. Acquisitions/divestures had a net benefit of 0.3 pp.
Higher constant currency sales growth in Canada was offset by lower-than-expected sales in the U.S. Lower consumer retail trips and a decline of in-store merchandising and programming at some retailers hurt performance of the candy, mint and gum (CMG) and other snacks categories in the quarter.
Third-quarter net sales of Hershey’s International and Other segment declined 15.2% to $226.9 million. Currency impact hurt sales by 7.9 pp, while Shanghai Golden Monkey (SGM)acquisition (September 2015)added 2.3 pp. Excluding gains from SGM and currency headwinds, international sales declined due to weak chocolate sales in China.
While sales increased in Mexico and Brazil, it declined in China and India. Weak consumer shopping trends due to economic slowdown and increased competitive activity in the chocolate category hurt Hershey’s sales in the country in 2015. Stiff competition from e-Commerce/online sales and disappointing Golden Monkey performance due to confectionary category weakness are the other factors affecting sales trends in China. Discontinuance of some edible oil products hurt sales in India in the third quarter.
Margins Strong
Hershey’s adjusted gross margin increased 220 basis points (bps) to 46.0% as supply chain productivity and costs savings as well as higher pricing partially offset higher commodity costs and unfavorable sales mix. Gross margins were strong in North America.
Excluding advertising, selling, marketing and administrative expenses (SM&A) increased 2.8% due to acquisitions made in the recent past. Excluding acquisitions, these costs declined 2.8%. SM&A includes investments in non-advertising brand-building and go-to-market capabilities in both the U.S. and international markets.
Advertising costs remained flat in the quarter as the company lowered promotional spending in international markets which made up for the increased expenditure in North America.
Operating margin expanded 180 bps to 21.2% helped by higher gross margins and lower advertising costs.
Outlook Slashed Once Again
Hershey lowered the net sales growth guidance for 2015 to a range of flat to slightly up from 1.5–2.5% to account for the challenges in international markets and soft demand trends in the U.S. The guidance includes a negative impact of 1.5 pp from currency and around 1.0 pp positive contribution from acquisitions/divestures. Excluding Fx headwinds, net sales are expected to increase 1.5% to 2%, less than previous range of 3% to 4%.
Gross margins are now expected to increase at the lower end of the previous guidance of 135 bps to 145 bps due to weak sales and increased international trade promotion.
Adjusted earnings guidance was maintained in the range of $4.10 to $4.18, representing 3% to 5% growth rate, including the dilution from mergers/acquisitions of around 35 cents (previously 20 cents). Adjusted earnings growth rate is, however, expected to be near the lower end of the range as higher-than-previously-expected productivity savings will be offset by greater dilution from acquisitions.
According to the company, productivity initiative announced in June is expected to generate about $25 million in savings in 2015, higher than $10 million to $15 million expected earlier.
Management is expecting sales trends to improve in the U.S. in the fourth quarter on the back of new products like Hershey’s Kisses Deluxe chocolates and Brookside dark chocolate fruit and nut bars as well as solid Halloween and Holiday sales supported by stepped-up advertising and consumer marketing.
Stocks to Consider
Hershey carries a Zacks Rank #3 (Hold). Some better-ranked food stocks are B&G Foods Inc. (BGS - Snapshot Report), Cal-Maine Foods, Inc. (CALM - Snapshot Report) and Flowers Foods, Inc. (FLO - Snapshot Report). All the three stocks sport a Zacks Rank #1 (Strong Buy)
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