The H. J. Heinz Company (HNZ) posted better-than-expected fourth quarter 2012 adjusted earnings of 81 cents per share, exceeding the Zacks Consensus Estimate of 79 cents. Earnings also surpassed the prior-year earnings by 17.4%, driven by top-line growth. Including productivity initiative charges of 27 cents per share, reported earnings declined 21.4% to 54 cents per share in the reported quarter.
During the quarter, total sales climbed up 5.6% to $3.05 billion, led by strong growth demonstrated by the emerging markets, ketchup and sauces as well the top 15 brands and also benefitting from two extra shipping days in the quarter.
Organically, top-line growth was 4.5% driven by volume gains of 1.5% along with solid net pricing of 3.0% in the quarter. Acquisitions, net of divestitures, added 2.4% to sales growth while foreign exchange rate decreased the top line by 1.3%. Further, acquisition of the Quero brand in Brazil (in fiscal 2011) fueled sales growth by 3.1%. Total sales, however, slightly missed the Zacks Consensus Estimate of $3.07 billion.
Topline Drivers in Detail
Emerging markets, the largest growth driver in the quarter, recorded organic sales growth of 17%. Global Ketchup sales grew 8.3% organically, driven by strong performance in Latin America, North America, the U.K. and Russia. The company’s top 15 brands recorded 4.8% organic sales growth, driven by Heinz, Master brand of soy sauces in China, Complan beverages in India and ABC brand of sauces and drinks in Indonesia.
Segment Details
Sales in Europe increased 1.2% to $905 million in the reported quarter. Organically, revenue was up 5.3% despite a difficult economic environment with both pricing and volume registering increases of 3.7% and 1.6%, respectively. Volumes were up in UK and Russia. Foreign exchange pulled down revenues significantly by 4.1%. The segment witnessed a 1.0% decline in operating income to $165 million, despite the revenues increases due to currency headwinds and higher marketing expenses.
Sales in the North American Consumer Products segment, which sells products to grocery channels in the US, declined 2.2% during the quarter to $843 million. Organically, revenue was up 0.4% as pricing benefit of 2.1% was offset by a volume decline of 1.7%. Volume declined mainly due to weaker sales of Ore-Ida frozen potatoes.
The divesture of the Boston Market license negatively impacted sales by 2.2%. The segment witnessed a 5.0% decline in operating income to $192 million due to lower sales and higher commodity and marketing costs.
Sales in Asia-Pacific increased 4.0% to $673 million in the reported quarter. Organically, revenue was up 3.1% with both pricing and volume registering increases of 2.0% and 1.1%, respectively. Volumes were up due to strong performances China, Indonesia and Japan, which partially offset weakness in Australia and Long Fong. The segment witnessed an increase of 5.1% in operating income to $51 million due to strong performance in the emerging markets.
Sales in US Foodservice segment, which manufactures and sells some branded and customized products to food outlets and distributors across US, increased 3.5% to $382 million in the reported quarter. Organically also revenue was up 3.5% with pricing increase of 2.3% and volume growth of 1.2%.
Volumes benefitted from growth in ketchup and sauces. The segment operating income rebounded from the first quarter levels, recording an impressive 38.4% increase to $5.2 million driven by higher sales and cost management.
Sales in the Rest of World segment grew a whopping 111.1% to $247 million in the quarter as the Quero acquisition in Brazil increased the segment revenue by 75.5%. Organically, revenues were still up an impressive 39.5% driven by a significant volume growth of 27.7% and pricing growth of 11.8%.
Volumes were up due to strong performance in Latin America and overall growth in the Middle East. The segment witnessed an increase of 33.5% in operating income to $22 million driven by volume growth, higher pricing and the Quero acquisition.
Margin Details
Excluding productivity charges, Heinz’s gross profit grew 1.2% to $1.06 billion reflecting higher pricing, productivity improvements, and the acquisition of Quero. Gross margin, however, fell 150 basis points to 34.8% in the reported quarter, owing to higher commodity costs and an unfavorable sales mix which more than offset benefits from pricing and productivity improvements. Operating income also grew 6.9% to $414 million, excluding charges in the reported quarter driven by gross profit gains.
Annual Results
The company reported fiscal 2012 earnings of $3.35 per share, up 9.5% driven by top line growth. Earnings also beat the Zacks Consensus Estimate of $3.33.
Net sales of $11.65 billion in the year were up 8.8% from 2011 levels, driven by growth in emerging markets, ketchup and sauce as well the top 15 brands. Revenue, however, slightly missed the Zacks Consensus Estimate of $11.67 billion.
Outlook
In addition to announcing the fourth quarter and fiscal 2012 results, the company also announced the outlook for fiscal 2013. Next fiscal year, the company expects the momentum seen in 2012 to continue, recording earnings in the range of $3.52-$3.62, representing a constant currency growth of 5-8% from fiscal 2012 levels.
The target is expected to be achieved from double-digit growth in emerging markets, strong building investments and productivity benefits and cost savings. In fact, emerging markets are expected to account for 25% of the company’s revenues in fiscal 2013. Organic sales growth is expected to be at least 4%.
For fiscal 2013, Heinz expects operating free cash flow of approximately $1.1 billion, before special charges. The fiscal 2013 tax rate is expected to be in line with fiscal 2012. The company expects to spend $120 million on business building investments in fiscal 2013. In addition, the company announced a dividend increase of 7.3% (14 cents) in fiscal 2013 to $2.06 per share.
Heinz also introduced a long-term target of achieving constant currency earnings growth of 6 to 9% and organic sales growth of 4 to 5% on average over the next 3-5 years.
Our Recommendation
We currently have a Neutral recommendation on Heinz. The stock carries a Zacks #3 Rank (a short-term Hold rating).
Overall, we are encouraged by Heinz’s strong portfolio of brands, especially its top 15 brands, which make up more than 70% of sales and continue to drive growth. Heinz also has significant presence in the fast growing emerging markets.
Though we are concerned about the sluggish performance of the core North American businesses as well as increased commodity costs, we believe the company’s cost-saving initiatives will help to counter these headwinds.
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