Good morning, and welcome to the Hormel Foods Second Quarter 2023 Earnings Conference Call. [Operator Instructions]. I would now like to turn the conference over to David Dahlstrom, Director of Investor Relations. Please go ahead, sir.

Good morning. Welcome to the Hormel Foods conference call for the second quarter of fiscal 2023. We released our results this morning before the market opened, around 6:30 a.m. Eastern Time. If you did not receive a copy of the release, you can find it on our website at hormelfoods.com under the Investors section. On our call today is Jim Snee, Chairman of the Board, President and Chief Executive Officer; Jacinth Smiley, Executive Vice President and Chief Financial Officer; and Deanna Brady, Executive Vice President of the Retail segment. Jim will review the company's second quarter results and give a perspective on our outlook for the balance of fiscal 2023. Jacinth will provide detailed financial results and further commentary on our outlook and Deanna will join Jim and Jacinth for the Q&A portion of the call. The line will be open for questions following Jacinth's remarks. As a courtesy to other analysts, please limit yourself to one question with one follow-up. If you have additional questions, you are welcome to get back into the queue. At the conclusion of this morning's call, a webcast replay will be posted to our investor website and archived for 1 year. Before we get started, I need to reference the safe harbor statement. Some of the comments made today will be forward-looking, and actual results may differ materially from those expressed in or implied by the statements we will be making. Please refer to our most recent annual report on Form 10-K and quarterly reports on Form 10-Q, which can be accessed at hormelfoods.com under the Investors section. I will now turn the call over to Jim Snee.

Thank you, David. Good morning, everyone. We had clear priorities heading into the second quarter, and our results demonstrate our team's ability to execute on those commitments, deliver results in line with our expectations for the quarter and most importantly, keep us on track to drive growth in the back half of the year. Before I dive deeper into our quarterly results and reaffirmed outlook for the year, I want to start this morning by providing an update on the progress we have made addressing inventory levels, improving our margin structure, stabilizing the Planters business and continuing the implementation of our Go Forward operating model. First, I'd like to discuss the progress we made rectifying the inefficiencies caused by elevated inventory levels. This was a top priority in the company during the second quarter, and we took immediate actions to sell excess nonproductive inventories to slow manufacturing in areas where supply was exceeding demand to bring back outside production into our facilities, allowing us to better utilize new and available internal capacity, and we implemented several changes to our demand and supply planning processes. As anticipated, these actions had a margin impact during the quarter, but were necessary to bring inventory levels into greater balance. For the back half of the year, we have further plans in place to responsibly manage and lower inventory levels and all costs associated with these actions are accounted for in the outlook. As a result, we expect to begin fiscal 2024 with benefits from better process control, lower freight and warehousing expenses, lower distressed sales and higher investment income resulting from an improvement in our cash cycle. Second, we continue to make progress improving our margin structure as evidenced by a sequential increase in operating margins during the quarter, even with our actions to…

Thank you, Jim. Good morning, everyone. Net sales for the second quarter were $3 billion. In the second half, the negative topline headwinds from our new pork supply agreement and the beginning of HPAI last year will have fully annualized. We expect a strong volume rebound in our turkey business in the back half of the year. Second quarter gross profit was $491 million. The benefit from pricing actions was more than offset by unfavorable mix and higher expenses. For the second quarter, SG&A expenses as a percentage of net sales decreased to 7.1% from 7.3%. Through the first half of the year, SG&A as a percentage of net sales is in line with last year, demonstrating our disciplined cost management. Advertising investments were $35 million during the quarter as we continued to support our leading brands in the marketplace. We expect full year advertising expenses to increase compared to the prior year. Equity and earnings of affiliates from the second quarter increased significantly compared to last year due to improved results from MegaMex. Operating income for the second quarter was $296 million. Operating margins of 9.9% improved from 9.7% in the first quarter. Net unallocated expenses in the second quarter increased 6% due to higher pension costs, which were partially offset by improved rabbi trust investment results. The effective tax rate for the quarter moved higher to 22.1% compared to 18.7% last year. As anticipated, we did not repeat last year's favorable rate, which reflected higher stock option exercises. The effective tax rate for fiscal 2023 is still expected to be 21% to 23%. The net result of all these factors was diluted net earnings per share of $0.40. Turning to cash flows and capital allocation. Our financial position remains an area of strength, allowing us to satisfy our…

[Operator Instructions]. Your first question comes from Michael Lavery of Piper Sandler.

So you had been pretty clear about the headwinds in the second quarter and the focus, I think, really is more in the second half. You've reiterated your outlook there. Can you just give us a sense for -- you've laid out a lot of drivers for the sales and earnings growth, you pointed to foodservice as a key contributor there. And obviously, its earnings grew in the second quarter, but turkey and bacon pricing weighted down from -- on the top line. Is it just turkey availability improvement that really moves the needle? And if that's a key factor, can you give a sense of just your visibility on that into the second half? And just how much risk there may or may not be?

Yes, Michael, thanks for the question. I mean there's a combination of things as we think about the back half of the year. foodservice will continue to be a driver in our business as it has been this year and previous years. But as we think about the availability of turkey, when we think about some of the capacity that we now have with projects that have come online, our most recent SPAM line or expansion of pepperoni, the continued growth and performance of the Planters business, and then the other variable to consider is as we think about the back half of the year, although they're not there today, we've built in some higher markets for the back half of the year. So especially for those items where the pricing is more pass-through, you're going to have a topline impact but then all those other things contribute to both top line and bottom line. So those are the things that we really can control and that's what we're focused on as we head into the back half of the year.

Okay. That's great color. And just to follow up on the pricing comment that you mentioned the pricing in 3Q, in most of the group, the pricing really seems to have peaked and there's fewer and fewer announcements like that. Have you gotten a lot of pushback? How broad of a price increase is it? Can you just give a little more color on how that -- how we should think about that?

Michael, thanks for the question. This is Deanna. Relative to retail, we've taken pricing in Q2 in a few categories. We have a few categories we're looking at as we head into Q3. But we're being extremely mindful to protect both our margins, but also to protect our relationship with our customers and our consumers. I think when we approach the retailers with the right information that support the price increase, we've been able to come to terms and move forward. We've always -- obviously, it's their job to protect their margin. It's their job to protect the consumer. Those aren't new conversations to us in regards to approaching pricing. So it's really about having all the data and the facts to support what you're doing and why.

And just as a reminder, Michael, our foodservice business tends to be closer to the market with pricing than retail.

The next question comes from Ben Theurer of Barclays.

Just following along these lines, and I wanted to understand a little bit if you could elaborate what you're seeing more recently and what your expectations are as it relates to volume. I mean, with the pricing actions being taken, how do you feel about the volume reaction into the back half? And how much of that maybe volume recovery is then ultimately going to help you to drive some of the profit recovery you're looking for? That would be my first question.

Similar to the previous question, the turkey volume is volume that's coming back. And so as we -- as Jacinth mentioned, the impact of HPAI this spring has been minimal. We're now producing a full slate of items. We've got our sales teams focused and reengaged on selling turkey. You don't just flip a switch after a year of not having turkey, but they are focused and reengaged. And so that is, call it, new replacement volume, whatever the right term is, that's, that returning volume on the turkey side of the business. We have been capacity-constrained on a couple of the categories I mentioned earlier. So having those freed up, allow the sales team to go out and sell. And then the really good work that our team has done on Planters really has the opportunity to drive additional top line and bottom line in the back half of the year. And maybe Deanna can add some color on some of the -- maybe some of the categories.

Sure. As we think about volume in the back half, we're really encouraged to have turkey back with the ability to promote. So we're out actively setting up promotions for the back half of the year with our retailers. Bacon continued to enjoy growth in the first half, and we don't see anything stopping that in the back half. The brand performed really well in regards to gaining new households as well as gaining growth in the marketplace. We'll continue to support those brands with both promotions, with advertising as well as innovation, which was planned as we added capital in the areas of bacon, pepperoni and as we think about Columbus and Planters, you'll see really advertising, promotion and media across all of those as well as innovation. So we feel good about the volume through, again, turkey, bacon, pepperoni, Columbus, Applegate and Planters as we saw some improvement in Planters most recently at the end of the quarter and have plans as we head into the back half.

Okay. And then just one quick housekeeping as it relates to CapEx and the reduction here in the new target. Can you explain the reason why you're lowering the CapEx? Is it the delay? Is it not execution? Is it just being more cautious on capital allocation in general? Just a few comments around that would be appreciated.

Thanks for your question, Ben. So just to start off, we are in a very strong financial position and continue to be. As we look at the spend, the spend is absolutely in line with our historical levels. And quite frankly, I mean we've gone into the year with an expanded CapEx spend, and this is just a natural fallout that happened as you go to execute for different reasons, there is slippage that actually happens when we try to execute so many projects during the year. That being said, we're in a great position in terms of what we've invested in our capacity for the business and also what we need to do from a maintenance perspective.

The next question comes from Ben Bienvenu of Stephens.

I wanted to ask about mix across each of the segments. It was a factor that unfavorably influenced the retail business, favorably influenced the foodservice business. I'm curious to understand the factors influencing mix, how much of them were externally driven? And what are the things that you all can do from an initiative or internal perspective that either amplifies the benefits that you're getting in foodservice or combats the challenges you're facing in retail?

Sure. Thanks, Ben. On the retail side, when we think about the mix, again, it's always a mixed bag. We've had our bacon business, which has had a positive impact. Planters has had a dilutive effect on mix. When we think about what's happened in China, and so -- there's a lot of moving parts across the entire portfolio even when we think about the commodity side of the business and what's happened. But I think the retail team is focused on the right opportunities to drive and improve mix. And when we think about the sales and volume opportunities in the back half of the year, a lot of those are improved mixed items. The foodservice team does a great job historically of really laddering up and increasing the value-added proposition of their portfolio. And so we expect that to continue. And then in the International business, just as China moderates and we see that inflection point and improvement as markets open up for them to be able to move more product. We see that mix improving as well.

Okay. Great. On International, you talked about availability of turkey getting better. HPAI seems to be mostly in the rearview. I know it's still -- we're still in monitor mode. What is the pace of improvement that you're expecting in that business and then exports in particular?

Ben, I think probably the most important piece here is when we think back to the back half of last year, and where our volume was down of 30%. That was very, very significant. And so as we're looking at the back half of this year, we do expect Q3 to be relatively flat, maybe a slight increase. And then in Q4, would expect an increase. Specifically on the International business, there are some nuances with the Jennie-O Turkey business as we've restructured the business and moved into our Go Forward model. A lot of that responsibility was in Jennie-O this year. It's in the International business, and they've been negatively impacted by market closures tied to AI. And so we've already started to see some markets reopen, which will allow them to move additional volume and then also, obviously, additional margin with that.

The next question comes from Tom Palmer of JPMorgan.

I wanted to maybe just touch on the expected cadence of earnings in the second half of the year. If we go back many years, your third quarter earnings have typically been the lowest quarter of the year. I know the first couple of quarters of this year had some unusual headwinds, but it does sound like pricing actions, some operational improvements and some of the volume recovery, right, is a bit more weighted to the fourth quarter. It also sounded like maybe there's a bit more work to do on working down inventory in the third quarter. So I guess with respect to that third quarter, should we expect 3Q to follow this historical cadence, meaning something below the $0.40 in the past 2 quarters? Or just given some of the improvements is more of a rebound expected this year?

Yes. Thanks for the question, Tom. I think there's a couple of things to consider. And historically, I get the point of reference, but I would say this is a fundamentally different business that we're operating today. And so as we think of Q3 in terms of cadence, we do expect to be marginally higher than last year. To your point about the work that remains as we said on our first quarter call, we had very clear priorities and team did a great job executing against them, but the work is not done. And so we do expect to see some of those benefits in Q3, additional benefits in Q4. So we'll -- the work is not done, team is doing a great job, but the priorities remain the same for us.

Okay. Thanks for the detail. And then maybe just on the pricing side, you mentioned it's inflation-justified pricing. Maybe just some color on what commodities are the general focus for this pricing? And is this related to inflation that's cropped up in recent months? Or is this more catch-up for something that happened in past quarters?

Thanks for the question. It's really a couple of different things. Some of it will be catch up, not necessarily based on markets, but it will be a collection of the input costs going into our items. We also have to factor in, we've invested into capacity, and obviously, depreciation comes at us as a result of that. So we're always thinking where we need to grow and obviously, growth has to be paid for. The other piece would be looking forward in regards to some of our markets that are a bit more annualized as we start looking into next year and where we're expecting some input increases and positioning ourselves for that to maintain our margins as well as to be able to ensure we can invest in our brands through trade and advertising.

The next question comes from Peter Galbo of Bank of America.

Jim, I know we've kind of beat this topic over the head. But just on the sales and revenue cadence for the year, I just want to make sure I have it clearly -- the guidance, even to get to the low end of the range kind of implies you go from like a minus 3% in the first half to actually accelerating the sales to like 5% plus in the second half. And understanding you're lapping Jennie-O and there's a lot of other moving pieces on the volume side from the WholeStone contract from last year. Just can you help us understand what's actually embedded in your volume assumptions by segment, if possible, but even at the full level would be helpful. And the second part to that would be just like how much of this is you need demand to reaccelerate from a volume standpoint versus you know because of pipeline fill and I think you said shelf resets that allows you to kind of get there on the volume side. So just if you could really unpack that for us, it would be very helpful.

That's a lot to unpack, Peter. I'll do my best here. I think, again, starting at the end, demand is always important. But this idea that we need some unbelievable demand acceleration, that's not necessary for us to be able to deliver growth in the back half of the year. And I know it's going to sound repetitive, but a big part of this is getting turkey back, getting that full assortment back, being able to now sell in some categories that were capacity-constrained, stabilizing and growing that Planters business. I mean those are all the things, in addition to the other parts of the business that are growing already. And as we think about the segments that you asked about, Retail has got a lot of dynamics and a lot of puts and takes. So even if we said retail volume will be relatively flat, we do expect volume growth in foodservice and International. And when we roll all of that up, your number or your estimate is appropriate, and we've got the ability to get there with all the dynamics I mentioned.

Okay. No, that's very helpful, and I appreciate that. And then maybe just for Deanna, and I know we've talked about pricing a lot as well, but like your largest customer has come out and said, hey, we need food companies to bring pricing down and again, with incremental pricing actions going in, understanding it's inflation-justified, just -- how do you reconcile kind of those comments?

Yes. So as we think about the back half, if you recognized last year, we didn't have trade promotions in place. So a lot of the work we're doing with our retailers is jointly talking about category growth as well as where are the consumers at and really trying to pull strategies that leverage trade. We've shifted some dollars from below the line to above the line to continue to support promotions as well as a lot of in-store activation, coupled with advertising. And so while we may start with a price request, we can come to the table and talk about price is only one factor and what else do we need to do together to really think about category growth as well as ensuring that the consumer is remembering what value our brands play in their life. And price doesn't do that alone. And so we really tend to come to the conversation with them, really focusing on -- that's one thing. Let's talk about that. But let's talk about how we can bring in pricing promotion as well as displays into the store, and that's what you'll see from us in the back half.

The next question comes from Rupesh Parikh of Oppenheimer.

So I just want to get your thoughts on a consumer backdrop. I know there's snap reduction in the market that could be impacting retail. So curious just what you guys are seeing in retail. And then just in foodservice, I think late last year, you guys may have seen a slowdown, but just curious what you're just seeing right now on the demand side in foodservice.

Yes, Rupesh. So when we think about just the consumer dynamics in general, and I'll let Deanna add some color on the retail space. But I think the one thing that we don't want to lose sight of is the fact that we've counted and we've built very intentionally this balanced business model. And so in this really dynamic environment, dynamic is probably an understatement, we really benefit from that balanced business model, whether it's premium tier, value tier, think about the alternate channels, protein inputs. I mean, there's a lot of balance across everything that we do. And that really benefits us in this environment. From a foodservice perspective, the volume and then the business remain strong. And so the team -- recently at the National Restaurant Show and the feeling there is a level of maybe cautious optimism, but optimism, nonetheless. And as you think about, people are still traveling. And what we're seeing in all the different segments, which again, is the balance that we've built in that foodservice business as well, really serves us well. So that's why we're still optimistic about the foodservice business. We believe the demand is there. And then we also -- we believe that our focus on the different segments allows us to capitalize on opportunities as that business can shift from segment to segment.

Great. And maybe just one follow-up question just on the available...

[Indiscernible] commentary on the retail side, Rupesh.

Okay. Perfect.

Rupesh, what I'd add for the retail side is we're seeing consumers be extremely intentional about their spending, not only where they're shopping, how they're shopping, and then what types of items they're buying. As a result, we continue to see consumers gravitate towards -- surprisingly, our premium offerings. And when you think about -- so think about a party tray or Columbus circuitry board, those are items that are bringing value to their lives and are a part of their family and something that they're extremely proud of. So parts of our portfolio may have some near-term impact, but a lot of our brands are really still very, very important. And as I mentioned earlier, that's why we continue to pulse advertising and promotions and then store activation. So that I remember the role that the brands play.

The next question comes from Adam Samuelson of Goldman Sachs.

I guess my first question is on turkey. And Jim, you clarified kind of that volumes kind of normalizing without HPAI, I mean there was an allusion to commodity turkey pricing, which has fallen pretty meaningfully kind of since the start of the year. How do we think about the profit kind of contribution of turkey at this point? I think kind of coming into the year, kind of [indiscernible] its own business. I think the framing have been that, that was going to be roughly flat with volume growth and offsetting or volume normalization in the back half offsetting kind of feed costs, but kind of the commodity turkey environment has kind of come in pretty meaningfully since where you guys were in November and December. And I'm just trying to think about how that would impact the profitability of your total turkey business, which is obviously now standing between 2 different businesses.

Got it. Thanks for the question, Adam. And I do think it's the offset in terms of the return of the volumes and that tonnage increase in the back half. And you're right, we've seen markets come down, but there is that corresponding offset because we just haven't had that volume to sell. And so our ability to be able to now have the value-added products on a regular basis, whether it's the lean ground turkey and retail or having a full product offering on the foodservice side of the business, that's really a differentiator. And the bottom line to all of this is that it is great to have turkey back. Right? So fundamentally, in our portfolio, turkey is a very, very important part of what we want to get done. And so we're glad to have this volume back, the ability to regain focus on the value-added portion of the business is what our team is focused on right now. And like I said, you don't just flip a switch when you haven't had something that's held for a year, but the teams, retail, foodservice are very aligned and focused on moving turkey again in the back half of the year.

The other piece I'll also add there, Adam, is that the team has done a really, really good job from a supply chain standpoint. And as we -- as you think about the profitability, the yields have been really good and have improved the bird performance. And so that will definitely help us as you think about margins.

Okay. And then I had a follow-up on cash flow. And just I think there was another question about the CapEx reduction. But in some discussion also about kind of inventory dollars improving over the balance of the year. Has the cash flow kind of performance through the quarter and year-to-date actually hit your own expectations? And can you dimensionalize kind of by the end of the year, kind of what the anticipated release of working capital dollars should be?

Yes. So I'll start off by saying, I mean, we continue to generate really strong cash flow, and we expect that to continue and improve through the rest of the year. And so that continues to give us that healthy balance sheet I talk about and just being able to flex as needed from a cash utilization standpoint for the business. So we're not feeling any different about our cash flow and our availability and ability to generate cash.

Okay. But did the cash flow performance in the period kind of actually that is what you were expecting? And how much kind of -- what is the anticipated kind of working capital release as we think about the balance of the year?

Yes. So definitely met expectations for the quarter and the detail around your second piece of the question, Adam, you can definitely follow up with David on that piece.

There are no further questions. I will turn the call back to Jim Snee for closing remarks.

Well, thank you. While very dynamic, the second quarter demonstrates our team's ability to do what we say we're going to do with the appropriate sense of urgency. I'm very proud of the work the team did this quarter to set us up to deliver sales and earnings' growth in the back half of the year. We are still focused on the same priorities and remain confident in our team's ability to deliver the results that we expect. Thanks to all of you for joining us this morning.

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.