Conagra Brands’ Profits Plunge on Divesture-related Expenses

Completes spin-off of Lamb Weston into a publicly traded entity on November 10th, 2016

c1Conagra Brands Inc. (NYSE: CAG) announced its Q2 FY17 financial results on December 22nd, 2016.

After recently shifting its headquarters to Chicago, Illinois, the packaged food company, formerly ConAgra Foods Inc., separated into two independent pure play companies, Conagra Brands Inc. and Lamb Weston Holdings Inc. (NYSE: LW) on November 10th, 2016.

Following the spin-off, Conagra will account its results through four segments: Grocery & Snacks, Refrigerated & Frozen, International, and Foodservice. The erstwhile Commercial segment, which mostly consists of the Lamb Weston potato products business and the sale of branded and private label food and ingredients to commercial, foodservice, and restaurant customers, was housed under Lamb Weston Holdings Inc. Read more about the Conagra Brands’ financial results below.

Q2 FY17 financial highlights

During Q2 FY17, Conagra’s net revenue fell 11.5% to $2.08 billion, with sales falling in all four of the Company’s business segments versus $2.35 billion in the year-ago same period. The decline in sales was mainly due to lower volumes accrued due to the Company’s initiatives to create an improved quality revenue base. The Company’s divestitures and unfavorable foreign currency translation lowered sales by roughly 5.5%.c2

As a percentage of net sales, gross profit increased 270 basis points from 28.3% to 31.0% during the reporting quarter. Adjusted gross profit as a percentage of net sales increased 250 basis points to 31.1%, mainly due to improved price/mix, supply chain productivity, input cost favorability, and an inventory write-down in the prior year associated with exiting a non-core business in the Foodservice segment. These benefits more than offset the decline in volume and negative effects of foreign exchange.

General Mills Inc. (NYSE: GIS) and Conagra have eliminated synthetic dyes and artificial flavors from their packaged foods after coming under pressure from investors and consumers. General Mills in particular has improved its cereals such as Trix and Cheerios, to keep pace with consumers who have shunned processed packaged food for fresher, more natural alternatives.

During the reporting quarter, despite lower cost of goods sold and selling, general, and administrative expenses, the segment’s operating profit fell 5.5% to $342.9 million from $363 million in the year-ago same period. As a result, Conagra reported a steep 21.1% plunge in profits to $122.1 million, or $0.26 per diluted share, versus profits of $154.9 million, or $0.18 per diluted share, for the same period last year. Adjusted earnings were $0.49 per share during the reporting period.c3

Segmental highlights

Grocery & Snacks: The segment’s Q2 FY17 sales fell 6% Y-o-Y to $854 million. Disciplined pricing and trade promotion practices resulted in price/mix rising 1% while volume declined 7%. Operating profit for the segment jumped 19%, and adjusted operating profit increased 18%, reflecting strong margin expansion. Continued discipline on pricing and trade promotion, supply chain productivity, favorable input costs, and the benefits of our cost savings efforts more than offset decreased sales.

Refrigerated & Frozen: The segment’s Q2 FY17 sales fell almost 11% Y-o-Y to $740 million. Price/mix increased 1% and volume declined over 11%, reflecting the continued actions to upgrade the volume base by optimizing pricing, improving trade promotion productivity, and SKU rationalization. Net sales were also negatively affected by a transitory increase in Egg Beaters’ volume last year. The Company’s egg supply was unaffected by last year’s avian flu outbreak, resulting in incremental sales for the brand.

Operating profit for the segment fell 5%, and adjusted operating profit decreased 8% during the reporting quarter. Lower volume more than offset improved pricing actions, favorable input costs and supply chain productivity.

International: The segment’s Q2 FY17 sales decreased 5% Y-o-Y to $211 million during the reporting quarter, wherein a 2% increase in price/mix was offset by a 4% decrease in foreign exchange and 3% decrease in volume. The segment reported an operating loss of $27 million compared to an operating profit of $20 million in the year-ago corresponding period, reflecting goodwill impairment charges of approximately $44 million pre-tax, driven by a devaluation of the Mexican peso. Adjusted segment operating profit decreased 17% to $18 million, primarily driven by the impact of foreign exchange.

Foodservice: The segment’s Q2 FY17 sales decreased 1% Y-o-Y to $283 million. Volume was flat to the prior year’s same quarter while price/mix decreased 1%. Operating profit for the segment grew 56% as the business wrote down inventory in the prior year while exiting a non-core business. The Company estimates that the impact from the exited business added 52 percentage points to segment operating profit growth.

Other highlights

Cash position: Conagra ended Q2 FY17 with cash and cash equivalents of $1,442.5 million versus $798.1 million as of May 29th, 2016. Inventories were higher at $1,113.7 million versus $1,083.2 million as of May 29th, 2016.

Corporate expenses: Corporate expenses decreased 36% from $178 million to $113 million, and adjusted corporate expenses decreased 33% to $36 million, reflecting planned benefits from the Company’s cost savings efforts. Advertising and promotion expense fell 9% to $97 million in the quarter, reflecting timing of planned expenses and improved efficiency in spend.

Dividends and share repurchases: During Q2 FY17, Conagra paid a quarterly dividend of $0.25 per share. The Board of Directors approved its first dividend since the completion of the spin-off of the Lamb Weston business on November 10th, 2016. A quarterly dividend payment of $0.20 per share will be paid on March 01st, 2017, to stockholders of record as of the close of business on January 30th, 2017. The Company also repurchased approximately 2.2 million shares for $85 million during the reporting quarter.

Separation into two entities: ConAgra Foods separated into two independent pure play companies, Conagra Brands Inc. and Lamb Weston Holdings back in November 2016. The then ConAgra Foods’ shareholders, following the spin-off, owns shares of both independent companies. The separation is expected to enable each Company to sharpen its strategic focus and provide flexibility to capitalize on the unique growth opportunities in its respective market, especially since the two firms operate in distinct markets and possess unique growth prospects and investment requirements.

c4Conagra Brands comprises primarily of the operations currently reported as the Company’s Consumer Foods segment, which generated approximately $7.2 billion in FY15 revenues. Conagra Brands also includes several businesses currently reported within the Commercial Foods segment, including the traditional foodservice business (sales of branded products to foodservice companies), Spicetec Flavors & Seasonings and JM Swank, as well as certain private label operations moved to the Consumer Foods segment in Q1 FY16. These businesses generated approximately $1.8 billion in FY15 revenues. Conagra Brands is also expected to retain the Company’s stake in the Ardent Mills joint venture.

Lamb Weston’s portfolio consists of frozen potato, sweet potato, appetizer, and other vegetable products, as well as a continued presence in retail frozen products under licensed brands and private brands. For FY15, Lamb Weston generated revenues of approximately $2.9 billion and accounted for the majority of the Commercial Foods segment’s FY15 operating profit of approximately $570 million.

c5Acquisition of Frontera Foods: Conagra acquired Frontera Foods, a Chicago-based gourmet Mexican food company started by chef Rick Bayless, on September 26th, 2016. With the purchase, ConAgra has the Frontera’s Red Fork and Salpica grocery brands under the ConAgra umbrella. However, the purchase excludes the Frontera-branded restaurants such as Frontera Grill, Topolobampo, Lena Brava and Xoco.

Guidance for FY17

After the spin-off of the Lamb Weston business, Conagra reaffirmed its FY17 outlook. The Company expects net sales to decrease between 4% and 5% (excluding the impacts of divestitures), and to achieve adjusted gross margin of 30.4% to 30.6%, adjusted operating margin of 15.3% to 15.5%, and adjusted EPS of between $1.65 and $1.70.

Stock Performance

c6Conagra’s stock stood at $39.77, gaining 1.22%, at the close on Friday, December 23rd, 2016, having vacillated between an intraday high of $39.87 and a low of $39.21 during the session. The stock’s trading volume was at 2,924,982 for the day. The Company’s market cap was at $17.41 billion as of Friday’s close.

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