Kellogg Company Reports Second Quarter 2017 Results

Kellogg Company Reports Second Quarter 2017 Results

The FINANCIAL -- Kellogg Company on August 3 announced second- quarter 2017 results and reaffirmed its financial outlook for the full year 2017.

"Our second quarter results keep us on track to deliver on our full-year financial targets, with sequential improvement in net sales performance and continued profit-margin expansion," said John Bryant, Kellogg Company’s chairman and chief executive officer. “More importantly, we continued to make progress toward the transformation of our Company. For instance, during the quarter we made strong progress on our transition out of Direct Store Delivery (DSD) in U.S. Snacks, an enormously complex initiative that the team has executed exceptionally well. We remain committed to returning to top-line growth, as outlined in our 2020 Growth Plan."

Second Quarter Consolidated Results:

•Kellogg’s second quarter 2017 GAAP (or "reported") earnings per share increased by 1% from the prior-year quarter, as higher operating profit and a lower effective tax rate more than offset a higher level of restructuring charges. Non-GAAP, comparable earnings per share were up almost 7% from the year-earlier quarter, and non-GAAP, currency-neutral comparable earnings per share increased by about 8% year-on-year.

•Quarterly reported operating profit increased about 1%, and operating profit margin improved, as productivity savings more than offset the impact of higher restructuring charges related to the Project K restructuring program, which includes this year's exit from its U.S. Snacks segment's Direct Store Delivery sales and delivery system. Currency-neutral comparable operating profit increased by nearly 7% because of efficiencies in Cost of Goods Sold and Selling General and Administrative expenses related to Zero-Based Budgeting and Project K, driving more than a full percentage point of currency-neutral comparable operating profit-margin expansion.

Second-quarter 2017 reported and currency-neutral comparable net sales decreased, due principally to soft consumption trends in the U.S. and reduced merchandising activity in Europe related to pricing actions.

Kellogg Company's second-quarter net sales and operating profit performance improved sequentially from the first quarter, as anticipated. Year-on-year, broad-based consumption softness persisted in the U.S., and Pringles sales in Europe were pulled down by merchandising lost in the aftermath of since-resolved price negotiations with retailers. These factors masked growth in non- traditional channels, in emerging markets, and in many core brands. Meantime, productivity initiatives continued to improve the Company's profit margins.

Kellogg North America’s net sales in the second quarter decreased on a reported and currency- neutral comparable basis, principally reflecting continued softness in consumption in traditional retail channels, but the Region continued to make progress against key strategic priorities to improve future sales performance. Reported operating profit decreased, due to higher restructuring charges and lower net sales, but currency-neutral comparable operating profit increased strongly because of cost savings under the Project K and Zero-Based Budgeting initiatives.

•The U.S. Morning Foods segment posted lower net sales on both a reported and currency- neutral comparable basis, owing to the broad consumption softness mentioned above. That said, Morning Foods' share performance in cereal improved sequentially, and it gained share year-on- year in toaster pastries. On both a reported and currency-neutral comparable basis, the segment's operating profit and operating-profit margin again improved, on the strength of productivity initiatives.

•The U.S. Snacks segment posted flat net sales, on both a reported and currency-neutral comparable basis. During the quarter the Company made good progress in its transition out of Direct Store Delivery distribution system. It commenced shipments to customers' warehouses ahead of transitioning out of DSD, but this anticipated sales benefit was offset by the impact of category softness and a reduction of merchandising activity intended to facilitate the transition. Nevertheless, its "Big 3" crackers brands held share, and Rice Krispies Treats sustained its momentum, and the project remains on track, from both an execution and financial standpoint. Higher up-front costs related to Project K restructuring, in line with forecasts, drove a decrease in reported operating profit, while currency-neutral comparable operating profit was off slightly because of boosted brand investment intended to improve top-line growth going forward.

•The U.S. Specialty Channels segment posted another quarter of growth in reported and currency-neutral comparable net sales, again driven by innovation and expansion in core and emerging channels. The segment also delivered another quarter of solid reported and currency- neutral comparable operating profit and operating-profit margin.

•The North America Other segment, which is comprised of the U.S. Frozen Foods, Kashi, and Canadian businesses, posted a decrease in reported and currency-neutral comparable net sales. Frozen Foods' sales increased and Canada's sales were flat, but Kashi Company sales declined, owing to exited non-core businesses and previously lost distribution in snack bars. However,

renovated and new products are gradually moderating the rate of decline, with Kashi gaining share in cereal while markedly decelerating its share declines in snack bars. On a reported and currency-neutral comparable basis, the segment's operating profit and operating-profit margin increased strongly in the quarter.

Kellogg Europe posted a decrease in reported and currency-neutral comparable net sales, mainly because of lost merchandising activity related to since-resolved customer negotiations related to pricing actions on Pringles. This is masking continued sequential improvement in our U.K. cereal business and growth in emerging markets like Russia. Operating profit increased on a reported basis, owing to lower restructuring costs, but it declined slightly on a currency-neutral comparable basis, as the impact of the sales decline more than offset the margin-enhancing benefit of productivity savings.

In Latin America, reported net sales increased due to the December 2016 acquisition of Parati in Brazil, while currency-neutral comparable net sales were down, due to economic softness and trade- inventory reductions in Central America and Caribbean. These factors masked continued growth in Mexico and expansion in Argentina and Chile. On a reported basis, Latin America's operating profit increased substantially, due to the Parati acquisition, but it declined on a currency-neutral comparable basis, due to currency-driven input cost inflation and to lower sales in Central America and Caribbean. Importantly, the integration of Parati is progressing well, with that business continuing to grow in spite of a challenging operating environment.

Reported and currency-neutral comparable net sales in Asia Pacific increased, led by a return to growth in Australia, continued broad-based growth in Asia, and sustained momentum in Pringles across the Region. Asia Pacific increased its operating profit and operating profit margin strongly on a reported and currency-neutral comparable basis, according to Kellogg.

Outlook for 2017:

The Company reaffirms its guidance for currency-neutral comparable net sales, operating profit and earnings per share, as well as for cash flow. Specifically:

•The Company continues to forecast a decline in currency-neutral comparable net sales of about (3)% in 2017, with no change to its estimates for the DSD exit's impact or for the rest of the business.

•Guidance is affirmed for currency-neutral comparable operating profit, which the Company still believes will grow 7-9% year on year, as productivity savings offset the impact of lower net sales. The exit from DSD is still expected to be neutral to operating profit, as overhead savings later in the year offset the negative net sales impact from list-price adjustments, rationalization of stock- keeping units (SKU), and potential disruption during the transition. The Company's currency- neutral comparable operating profit margin is still expected to improve by more than a full percentage point, keeping it well on track toward its goal of approximately 350 basis points of expansion from 2015 through 2018.

•Guidance is also affirmed for earnings per share on a currency-neutral comparable basis. Specifically, the Company still expects to generate growth of 8-10% off a 2016 base that excludes after-tax $0.02 from deconsolidated Venezuela results, to $4.03-4.09. The growth should be driven by the aforementioned 7-9% growth in operating profit, with roughly 1% of additional leverage from modestly lower shares outstanding and other items, which slightly more than offset a higher effective tax rate and flat interest expense.

•This earnings per share guidance excludes currency translation impact. Given the recent movement in key exchange rates, the Company now estimates this impact to be about $(0.06) after tax, which is roughly half of our previous estimate of $(0.12), and would imply a comparable- basis earnings per share of $3.97-4.03 for 2017.

•Comparable-basis and currency-neutral comparable-basis earnings per share guidance by definition excludes up-front costs of about after-tax $(0.80)-(0.90) per share, or $(400)-(450) million pretax, related to the Project K program, and these cost estimates are unchanged. The EPS guidance also continues to exclude after-tax $(0.01)-(0.03) per share of integration costs, related to the Company's recent acquisition in Brazil, as well as previous acquisitions. Excluding these integration costs, the Brazil acquisition is expected to be neutral to currency-neutral comparable earnings per share.

•The Company also affirmed its guidance for 2017 cash flow. Specifically, it forecasts cash from operating activities should be approximately $1.6-1.7 billion, which after capital expenditure translates into cash flow of $1.1-1.2 billion. The latter would be an increase over 2016's $1.1 billion, as higher earnings and continued trimming of working capital and capital expenditure more than cover increased cash outlays related to Project K restructuring programs.

“We are encouraged that we remain on track to deliver on our 2017 currency-neutral comparable profit and earnings outlook, even amidst challenging industry conditions," added Mr. Bryant. “However, we are equally pleased that we are taking the right actions to return our business to top-line growth, which is a priority for us.”