Kraft Heinz Q1 2022 [Q&A] Earnings Call Transcript

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April 27, 2022

There are 11 speakers on the call.

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Kraft Heinz Company First Quarter Results Question and Answer Session. I'd now like to turn the call over to your host, Chris Jakubik. You may begin.

Speaker 1

Thank you, and hello, everyone. This is Chris Jakubik, Head of Global Investor Relations at The Kraft Heinz Company. And welcome to our Q and A session for our Q1 2022 business update. During our remarks today, we will make some forward looking statements that are based on how we see things today. Actual results may differ due to risks and uncertainties, And these are discussed in our earnings release and our filings with the SEC.

Speaker 1

We will also discuss non GAAP financial measures today during the call, and these non GAAP financial measures Should not be considered a replacement floor and should be read together with GAAP results. And you can find the GAAP to non GAAP reconciliations within our earnings release And the supplemental materials posted at ir. Krafthymescompany.com. Before we begin, I'm going to hand it over to our CEO, Miguel Patricio, A few quick opening comments.

Speaker 2

Well, thank you, Chris. I would just like to start by sharing How proud I am of our people and the truly transformational work they continue to deliver for our company. We've seen 2 years of a lot of disruption and they continue to successfully address the short term challenges At the same time that we are building the long term advantage of our company and our brands, our teams delivered a strong start For the year, both on top line and bottom line. We remain on strategy with the strongest growth coming From our priority platforms, brands, channels and markets, we are effectively managing our inflation, Improving our supply constraints, while continuing to gain incremental efficiencies. We continue to make progress, Building and deploying initiatives to accelerate our advantages in areas like becoming more agile, Becoming much more creative in marketing, developing joint business plans between retail and foodservice And capacity unlocks in our grow and energized platforms.

Speaker 2

As you are Now see, we are doing this through strategic partnerships with technology giants and cutting edge innovators to accelerate our transformation and redefine best in class across our value chain. It is a very exciting time for Kraft Heinz, and I don't think we could be very equipped to build on our momentum Through what promises to remain, a very challenging environment. With that, well, let's take your questions.

Operator

Our first question comes from Andrew Lazar with Barclays.

Speaker 3

Great. Thanks for the question. Good morning. And Chris, congratulations to you. Thank you for all the help over the well, too many years to quantify.

Speaker 3

Appreciate it. My question really is around retail inventory. I guess, where are you currently regarding The retail inventory rebuild versus where you want to be and how much more opportunity might there be for shipments to exceed consumption going forward Related to this dynamic, which I guess could be somewhat of an offset should elasticity ramp up a bit from here. And is there any indication that retailers may opt To hold more inventory going forward than they did pre pandemic, having seen during the past 2 years how problematic out of stocks can be when there are supply dislocations? Thank

Speaker 4

you. Andrew, this is Carlos. Let me take that one first and also let me just echo Miguel's I'm just so proud of how our teams have managed through all this, and the strong start of the year is a testament to the resiliency of the teams. Now to your questions about retail inventories, they do remain fluid. If you recall, we exited last year below days of inventory from a historical perspective that were both in terms of the trade and in our warehouse.

Speaker 4

If you look at in Q1, our actual production volume was actually 10% higher than it was a year ago, and we expect that to through the year end so that we can support the inventory recovery. And in Q1, the way it looks We began to rebuild some of the retail inventories in certain categories, but in aggregate, we're still below historical levels. And our expectations as we continue through the year is that we'll recover our inventory levels by the end of the year with service levels then returning Pre pandemic levels early next year. Now let me tell you kind of our focus going forward is going to be in 3 specific areas. 1 is recovering the service constrained categories and focus on the key power SKUs.

Speaker 4

And as you saw, our increasing production level supports Good initiative. Number 2 is improving the share of shelf and implement shelving principles. We have both detailed plans to do that And the strong collaboration with customer to do just this. And finally, creating in store destination so that we Launched meaningful incremental disruptive innovation into the marketplace, and you are seeing this already from our award winning out of the burger to creating Deep in destinations and breakfast destination in store and online that leverage our scale in partnership with retailers. Now you asked specifically about kind of how to also think about the retailers and their inventory normalized.

Speaker 4

I would say it's difficult to say where exactly the retail inventory levels would normalize. The one thing I will kind of Make you think about it is the fact that if you keep in mind that pre pandemic levels, the inventory levels actually saw quite a bit of Inventory reduction in the 2 to 3 year period prior to the pandemic. So I would say it's hard to predict, But we know that as we continue to move forward, we're building that because there's still room for us to do that. Thank you for your question.

Speaker 2

Sure.

Speaker 3

Thanks very much.

Operator

Our next question comes from David Palmer with Evercore ISI.

Speaker 3

Thank you. Interesting comments in those prepared remarks about the partnerships with Microsoft and Google. Maybe if you can touch on those a bit more. What outcomes do you expect from those? What areas of improvement do you expect us See and what's first.

Speaker 2

Carlos, do you want To answer that question, please.

Speaker 4

Sure. So let me just say that part of The partnership that we're doing, it really is about supporting our Agile at scale initiatives. And for us, if you recall, when we CAGNY, we talked about how agile scale was going to help us in 3 ways. First, it was about us making sure we organize and embed and lead With agile values throughout the company, and we mentioned how we actually evolve our structure to be flatter and leaner With multidisciplinary teams on missions to attack our largest priority. And in North America, we actually instituted a rule of 5 where only 5 levels between Myself and the entry positions in the business unit.

Speaker 4

The second part of that and to your questions is also that we were building a tech ecosystem To create end to end capabilities with leading tech companies to accelerate our solutions, to capture efficiencies and create a significant competitive advantage. You're seeing in partnerships between whether it's in Microsoft, whether it's in a partnership with Google, it also allows us to look for those Partnership that allows us to accelerate our move to an agile scale, because then once we build that tech ecosystem, we can then scale up To leverage those proven solutions across and maximize the value creation. The reality is that we're also doing this across the entire value chain. I'm very pleased with the partnership we have with Microsoft because it's going to allow us to also look at things like areas in planning, in Factoring in logistics and sales and marketing that allows us to get closer to our consumer and making sure we actually are getting real time information Yes, we improved the customer service by improving forecast accuracy and speed and that it generates end to end efficiencies with new processes, tools and structure. So as you will see, we are going to continue to look for those partnerships in which we can actually work together to accelerate our journey towards Agile at scale.

Speaker 2

I would just like to add to what Carlos just said that these partnerships Go beyond just technology. So as you remember, we announced before the Northco and the Simplot partnerships. These are other great examples of us to become more agile in all areas of the company. We didn't have a good pipeline of plant based products and would take a lot of time to develop. Well, partner with a company that can bring you solutions in a record time and great quality.

Speaker 2

We didn't have a solution for our Horizona business from a supply standpoint. Well, partner with the ones that can solve Quality, innovation and volume problems that we would eventually have moving forward. Well, these are just great examples of partnerships that will just make us more agile and faster.

Speaker 3

Thank you for that. And just on the marketing side or the actual spending side, What is your advertising as a percent of sales today? And big picture, how has that shifted in terms of the percent of sales over the last few years? But also how or have you shifted that spending? I would imagine digital is much higher percent today and if you could give us a flavor Of what you're anticipating there?

Speaker 3

Thanks.

Speaker 2

I can give you a better sense Of the percentage of net sales, because with all these changes we are having in net sales, I don't want to give you an answer, but that is not precise. Let me tell you that it's not our intention to reduce investments in marketing. This year We'll either be flat or growing, depending on how the year continues, Because we want to continue investing in our brands. Our investment in digital today is about 2 thirds of all our investors, about 70% of our investment. But I would say that more than even the quantity at this moment, I'm really, really impressed with the quality and how we changed the way to communicate.

Speaker 2

Today, we have In all our views, our own development of digital marketing That gives us really the possibility of being at the speed of culture And producing from a day to another one, great quality marketing that makes us much more Engaging. It's very different the quality of market that we have nowadays. I don't know if you saw, but Advertising Age selected us as the best campaign of the year. They put us among the 5 best marketers In North America and more recently they called Zalvita the best renovation or the best rebranding Of the year. These are all consequences of a huge improvement of the quality of our marketing.

Speaker 4

Yes. The one thing I guess I would be also to on Miguel's comment is that while it's true that we have Invested about $100,000,000 more in marketing since 2019. Our focus really has changed and is what Miguel just highlighted. We are focused very much into earned media and which actually we have seen how we have proven that increases the return on that investment. So for us is how do we make sure that all the personalization and improved creativity that our teams are showing translating us, creating more impactful campaigns That generates the earned media that improves the ROI.

Speaker 4

So it's not just the investment we make, but the amplifying effect Of our investment because of the quality of the work that we're putting out. And that's why we continue in this journey. Thank you.

Speaker 3

Thanks.

Operator

Our next question comes from Brian Spine with Bank of America.

Speaker 5

Hey, good morning, everybody. I guess, I wanted to ask about Commodities and raw materials and not so much on cost, but just availability. Given some of the Supply chain issues, I guess, that have been caused by the war in the Ukraine And some of the agricultural commodities potentially being short supply, Just is that a concern on your end in terms of just availability of raw materials? Have you seen it at all Crop up maybe competitively, like smaller competitors having service issues? And then maybe if I could just tie to that as well, Given that you do have some exposure to it, just bird flu, is that something we should be worried about, given that you do grow some turkeys?

Speaker 6

Thanks for the question. I'll get this one, Andrea here. So, Yes. Situations come up every day on the raw material and packaging material side. So, situation continues to be challenging.

Speaker 6

And I think the teams I've been out for 2 years dealing with these challenges on a recurring basis, right, requires a lot of resilience from our team, which have been demonstrating very strongly. Now the great thing is despite all these challenges, we have been able throughout the quarter to rebuilding Pandora's For the first time, obviously, it's the pandemic level and we have improved service levels. And I think we are now in a good trajectory to So into the Q2. So despite the challenge that you continue to face and I think the whole market, we have been able to navigate through that. I think our scale Also definitely helps on this regard.

Speaker 6

Regarding hedging, as we said before, We have been maintaining a very disciplined approach to our hedging. So we haven't been speculating or trying to second guess what's going to happen in the market. I've been maintaining our strategy, maintaining the consistency. And as we mentioned, so the core markets that have been the most impacted by the Ukraine conflict like grains, oils, energy, we are hedged on those until Q4, which put us also in a good position.

Speaker 2

But Brian, the point about availability has been around for a long time now Before the war, every day there's one raw material that is short because the supply chain is very tight Overall, I think that in that sense, company with our scale should be able to navigate better. And there are examples every day. I mean, there's a shortage just as an example of green gum, which is raw material to do Cream cheese and we have a good inventory of that. The smaller companies will have difficulty to have access to that. This is And every day, we really have to adapt every day to a new problem.

Speaker 2

I think the teams have done a great job in that sense.

Speaker 5

And then if you could touch just on bird flu, is that a concern at all?

Speaker 4

Yes. Let me touch on that I think first, let me give you a little bit of historical context. I mean, we have seen this before. And one thing that is different about this time around It is that we have the insights from the lessons we learned last time. As we look at it this time around, we are flexing our portfolio To address those short term kind of poultry disruptions, we have had some experience doing this in the past 2 years on how we actually flexed our portfolio.

Speaker 4

So we can actually be very dynamic in our response. The regions from which we buy Turkey have not been impacted so far. Now we have seen price increases. That is true. So what we're using is our strategic sourcing network that Miguel spoke about To provide us supply, and we'll remain agile as we go forward.

Speaker 4

And we're working closely with our retail partners so that we can navigate as the situation evolves. But again, I think we have seen that we have learned in the past. We're applying those lessons. And reality is that we're flexing our portfolio in order to navigate through this.

Speaker 2

All right. Thank you.

Speaker 4

Brian, Rafa here. Just to compliment to you, you asked about exposure to Ukraine. For us, it's neglectable. It's very small, okay, to exposure the raw materials in Ukraine.

Operator

Our next question comes from Jason English with Goldman Sachs.

Speaker 7

Hey, good morning folks. Thanks for slotting me in. To echo the earlier sentiment, congrats, Chris. You're a legend. We'll miss you.

Speaker 7

And Anne Marie, congrats on the escalation. Looking forward to working with you more closely going forward. To the questions at hand, great to see your foodservice momentum. I think you gave 2 statistics, the growth in U. S.

Speaker 7

And growth internationally. You give us the blended growth rate like across all of foodservice, 12% of sales growing on average? And how close are you to back Pre pandemic levels, we pretty much closed the gap. Is that what's driving the majority of the growth? Or is this momentum over and above the recovery from COVID?

Speaker 6

Okay. So, look, I'm not going to quote specific numbers, but Both across international zone and North America, we are growing north of 20% on both, okay, Gaining share as well as indicated across the board, which puts us in a very good position. And The way things are trending so far, it's possible that we're already going to be ahead of 2019 levels, at least in North America, which is also great.

Speaker 2

Hi, and I would add on the comments from Andre that we are very excited with the foodservice. We see As a difference from the past, there was a very transactional channel. Today is a truly transactional Sorry, a strategic channel for us. It's a great way for us to launch new products, to test them, To sample them with the consumers and then to leverage that sampling to the trade. In the presentation, you have A very recent example of that, but it's our intention to keep doing that So look for the future.

Speaker 7

For sure. It makes a lot of sense. And I appreciate the comment earlier on ad spend and the commitment to have it be Flat, if not up as a percentage of sales for the year. But can you unpack a little bit more on the SG and A efficiency this quarter? It's down pretty sharply year on year.

Speaker 7

Is that the efforts of your productivity or is there some unique timing dynamics that we should be aware of?

Speaker 6

On the SG and A, we have in the 1st quarter lapping a one time gain from last year that do not get repeated. So pretty much that's what's driving the entire variance that you're asking.

Speaker 7

Okay. All right. Thank you. I'll pass it on.

Operator

Our next question comes from Ken Goldman with JPMorgan.

Speaker 8

Hi. And just to echo the prior comments, Chris, thank you for All of the help. You'll truly be missed. And Ann Marie, congratulations as well on the new role. I wanted to ask, you've highlighted your reduced exposure to private label in the U.

Speaker 8

S. So I don't want to suggest Craft is at any particular risk here. I'm really just curious If you're starting to see retail customers leaning in a bit harder to their store brands recently, whether it's via incremental displays or other efforts, I guess to try and maybe highlight for consumers some other offerings that are at lower prices. Are there any behavioral changes you're seeing from those customers?

Speaker 4

So let me take that. I would say, so far, what we're seeing from private label is that They're actually increasing their prices in line with the branded players. The reality is the costs are escalating for everyone. And in terms of Kraft Heinz, I mean, what I'll tell you is that we are stronger today than we have been in the past in 4 specific areas. 1, we actually have relatively low private label exposure.

Speaker 4

So today, we're about 11% of the portfolio exposed to private label versus 17% just a couple of years ago. And if you think about that number of 11% versus the industry average of about 20%, It certainly puts us in an advantage situation. We're also making sure that we are launching products that are differentiated at each rung of the price ladder. So whether it's entry to mainstream to premium, so that consumer can stay with our franchise as their circumstances may change, Whether it's a blue box mac and cheese to a easy mac, they have something to come into and stay with our ICON brands. And we also continue to improve the product design so that we can offer better value for the money and greater ingredient flexibility, less Waste and lower production cost, and actually you'll see that in our marketing also as we go forward.

Speaker 4

And then finally, We're also leveraging the breadth of our portfolio across categories so that we can provide comprehensive occasion based solutions That the whole family can enjoy. So we are in a very good place right now in terms of our exposures, We are seeing kind of a private label being affected by the same way that we have. Thank you. And then

Speaker 8

a quick follow-up for Andre. Andre, You mentioned that as inflation plateaus, you expect to see your margin percentage rebound. I understand that futures curves are volatile, But is there an estimate you have for when you expect your gross inflation, including hedges, to have peaked? Might we be a little bit closer to that than maybe some bears are thinking about?

Speaker 6

Thanks for the question. As we said before, we have been taking actions consistently to protect our margin dollars at this point, Right. And we want to maintain our ability to invest in the business as Miguel and Carlos pointed out, what is critical to us. The current percentage margin is lower than our run rate. I can doubt that and we expect those margins to recover as costs stabilize And the price realization comes through.

Speaker 6

As we pricing at a lag versus inflation like the whole market is, so it recovers over time. Remember as well that beyond the short term, our adjusted EBITDA margin evolution needs to remain consistent to the strategy that I have outlined before, We just should have a better gross margins from variable cost efficiencies, stronger pricing mix And that will help us to fund higher investments in brand, people and capabilities. So that's what we are seeking here. So even though I cannot go to a specific time on when we are going to report the percentage margin, that should happen over time. Okay.

Speaker 6

So if you look at the pre pandemic levels, we were in the 24% range. So

Speaker 1

Hey, Jacob. If you could take maybe one more question.

Operator

Our next question comes from Robert Moskow with Credit Suisse.

Speaker 9

Hi, thanks for the question. And Chris, I congratulate you and I'm jealous of you also. But I guess my question here is, Can you drill down a little bit more into I think the comment was that your production volume will be up 10% versus year ago. But this is an environment where there's a lot of unknowns about elasticity and I think a lot of your peers are expecting elasticity To really accelerate by the end of the year. So can you give me a sense as to what that 10% increase really means?

Speaker 9

And is it contingent upon what you see in the demand environment, Obviously.

Speaker 4

Well, thank you for your question. And I think we're all jealous of Chris, by the way. What I'll tell you is that we expect an increase in elasticity going forward closer to historical levels. Prices are on everything is on the way up, and we know that most of the stimulus is gone. Now today, we're seeing that our city is running about 30% to 40% below historical levels.

Speaker 4

Now The reason we're confident about our production is that we are also growing consumption sequentially as we rebuild retail inventory levels. So understand that we are actually making the advancements again, many of the supply chain challenges that today are actually holding back our market share performance. That's why as we think about the Q1 production of 10%, it is to support the rebuilding of that inventory levels There has been still below our historical levels and that we feel confident about us continuously through that kind of level of support.

Speaker 6

And Rob, just to add to that. So to be clear, right, so the production was 10%. Doesn't mean that we indefinitely go up 10%. We are just now ramping up production to rebuild inventory levels as a retailer and in our warehouses. Okay.

Speaker 6

So we are not changing our inventory policy for the future. We just need to get to that level.

Speaker 9

Okay. So you're not saying that production is going to be up 10% throughout the year? I thought that was what the comment meant.

Speaker 6

It was 10% in Q1.

Speaker 9

Right. Just Q1. Okay. Last question. If volume continues to kind of be down in this like 4%, 5% kind of range, I think that's what your U.

Speaker 9

S. Retail volume was down. Does that do anything to your fixed cost leverage at the end of the year? Horace, it's just going to be so much pricing, it doesn't really matter what happens to the fixed cost leverage?

Speaker 6

Look, we I think that's the fact where the inventory review discussion comes from, right, which is important, because we are rebuilding inventories right now. So, despite that the volumes Are being down. We still need to produce a lot to recover the inventory levels. So we don't expect any relevant impact from fixed COGS In this fiscal year.

Speaker 9

Got it. All right. Thank you very much.

Operator

Our last question comes from Chris Growe with Stifel.

Speaker 10

Hi, good morning. Thank you. And Chris, just a congratulations to you. Just thinking 68 or so earnings reports over those 17 years. So it's kind of crazy when you put it in those terms.

Operator

I just want to ask

Speaker 10

a quick question, if I could, on The supply constraints to your volume, you highlighted in a chart, like a 50 basis point market share decline as a result of those factors. How much of a revenue burden was that in the quarter, if you can say that?

Speaker 1

The pause means that it's difficult to kind of back into that right now, Chris. I think from the perspective of kind of rebuilding the inventories and You know, netted against some of the supply constraints and how that translated through the shelf In addition to the Easter shift, there's a lot of variables moving through that. So that's something we'll have to try to circle back to you on.

Speaker 10

Fair enough. That's no problem. Thank you. Yes,

Speaker 6

go ahead. It's a low single digit impact, right, on revenue. But I think that the important thing is that we said In the last call, we expected to continue to lose market share, but we expected to improve and we did, Right. And we did in the places where we said we would, which is mostly coming from the places where we had like a big constraint at the end of last year. And our perspective should continue to improve the trend moving forward as the service level recovers.

Speaker 10

Okay. Thank you. And just one other quick follow on would be in relation to pricing. You have more pricing coming through in the Q2. When you account for that pricing along with you've got a lot of productivity savings as well.

Speaker 10

Do you believe this Pricing along with the productivity savings would be enough to offset inflation once it's in place.

Operator

Are you going to sort of

Speaker 10

be caught up now With the level of inflation based on

Speaker 3

the pricing you have currently announced?

Speaker 6

We expect We have been taking actions with inflation that we have seen and in the guidance that you have provided, we are already contemplating the inflation that we're seeing even in the power curves, Which by the way, they have been resilient a little bit since the peak. So our as of right now in the guidance we provided to you, our price Year over year, we'll be ahead of inflation. Obviously, we're still catching up a little bit with the inflation that starts to rise at the end of last year, but on a year over year basis, our press would be ahead of inflation.

Speaker 10

Okay. Thank you for that color.

Speaker 1

Great. Well, thanks everybody for joining us today. Let me turn it back to Miguel for a couple of closing remarks.

Speaker 2

I opened today's call Saying that it's a very exciting time to be at Kraft Heinz. And let me tell you why we think that way. First, we are Very proud because we've been able to navigate through all the uncertainties of the last 2 years at the same time That we are building a much better tomorrow. And that's not easy in moments like this. We are very company very different company today.

Speaker 2

We are much more growth oriented. We have improved our portfolio mix. And today, just the platforms where we are working, we have focus, Acceleration is about 30% of our business today. It's big and growing and profitable. Just to put it in perspective, it's bigger and more profitable than McCormick, just to give you an example.

Speaker 2

We have consistent double digit net sales growth in emerging markets. Our business in foodservice is strong and growing. And we are investing more in marketing in our brands and doing a much better job. So Really the profile in terms of growth is very different. From an efficiency standpoint, I think that we are in a much better place, Not only because of the $2,000,000,000 that we talked about 3 years ago when we delivered last year And the previous year on gross savings in supply, but efficiencies across the board, I mean, From marketing to distribution and these partnerships now with technology companies That will help us accelerate these efficiencies.

Speaker 2

Finally, I think that we have a very different situation from a financial flexibility standpoint. With the discipline we had in these two last 2 years put us back in investment grade and in a record time, just in 2 years. And going forward, we'll continue generating free cash flow conversion at a rate of 100%. And we'll look to acquire business and capabilities that can be much more powerful when combined with the scale of our portfolio, always, of course, With a lot of discipline in pricing. So that's why it's exciting to be at this moment working at Kraft Heinz.

Speaker 2

Thank you.

Speaker 6

Thank you, Chris. Thank you, Chris. Ladies and gentlemen,

Operator

this does conclude today's presentation. You may now disconnect and have a wonderful day.

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