Greetings and welcome to the General Mills Second Quarter F '24 Earnings Call. During the presentation, all participants will be in listen-only mode. Afterwards, we will conduct a question-and-answer session. This conference is being recorded Wednesday, December 20th, 2023. I would now like to turn the conference over to Jeff Siemon, Vice President for Investor Relations and Treasurer. Please go ahead.

Thank you, Dina, and good morning to everyone. Thank you for joining us this morning for our Q&A session on our second quarter fiscal 2024 results. I hope everyone had time to review our press release, listen to the prepared remarks and view our presentation materials, which were made available this morning on our Investor Relations website. Please note that in our Q&A session this morning, we may make forward-looking statements that are based on our current views and assumptions. Please refer to this morning's press release for factors that could impact forward-looking statements and for reconciliations of non-GAAP information, which may be discussed on today's call. I'm here with Jeff Harmening, our Chairman and CEO, and Kofi Bruce, our CFO. So let's go ahead and get to the first question. Dina, can you please get us started?

Our first question is from David Palmer with Evercore ISI. Please proceed.

Thank you. A question on North America Retail margins. They've been impressive in spite of the volume declines we've been seeing. Do you think that the segment margin can hold near these levels given what's going on with volume trends? And, I guess, a couple of factors I'm thinking about is, some of your high-margin categories, like dough, might be a negative mix effect, but then again, you're talking about accelerating productivity gains. So, curious about the margins for that segment?

Yeah. David, thanks for the question. Just to rewind a bit, we've seen the margin improvement, to your point, largely on the backs of really strong HMM delivery. So, one of the features of this environment has been sort of the stabilization of the supply chain environment, which has allowed us to step up HMM more acutely on this business than our other segments, and also to address some of those disruption-related costs. We've made really strong margin progression gains on this business on the backs of those two things. I expect that to abate a bit here as we move forward, just as a result of having already gotten out a good chunk of those disruption-related costs. So, on balance, I see this business poised for more stability in aggregate.

And then with regard to the pet business, maybe, is there a comment you want to make there about what the biggest fix will be from here? Wilderness, for example, has been relatively weak, but what do you think the best earliest fixes will be for that business? And what are some of the long-term things you're looking to do to improve the trajectory? Thanks.

Thank you, David. This is Jeff. In our presentation, we outlined four initiatives we are focusing on and identified a few areas for improvement to enhance the business profile. We are optimistic about two of these initiatives, which is significant as it indicates the strength of the Blue brand is intact. Regarding our Life Protection Formula, we've revamped our advertising strategy, and the business has shown positive results with steady improvements. We've also updated the merchandising for our Treats line, and while it's not fully optimized yet, we've noticed substantial progress in the second quarter; however, the results still fall short of our expectations. Looking ahead, we need to focus on our wet pet food segment. Starting in January, we plan to introduce value and variety packs, and we are hopeful for improvements in that area. The most significant changes will involve repositioning the Wilderness brand, which will require time to regain its full potential. Additionally, the pet specialty channel has not performed well. We are over-indexed in that channel, but we see opportunities for improvement while continuing to invest in our food, drug, and mass channels, where we are pleased with the results, as well as online. One more point to note is that, as we analyze the second half of the year, we are not projecting recovery or stabilization because we had shipments that exceeded sales in the prior year, which impacts our comparisons. This is especially true for the third quarter. Even if we observe some stabilization in pet sales trends, the reported net sales may lag due to increased inventory in the second half of the year. These are the actions we need to undertake. Some are already in progress, and we are encouraged by the results thus far, while others will take more time.

Thank you.

Our next question is coming from the line of Andrew Lazar with Barclays. Please go ahead.

Great. Thanks so much. Good morning, everybody.

Good morning.

Jeff, I wanted to discuss the company's EPS flexibility in light of the weaker sales, particularly the lower compensation expenses compared to last year. Additionally, there has been an increase in share repurchase activities beyond your initial expectations. My question is whether 2024 could be a year for the company to take more risks and focus less on a specific EPS range to better position itself for sustainable growth in 2025 and beyond. This is a question I've been hearing frequently this morning, so I would appreciate your input on it.

I'm glad you brought that up, Andrew. It's a very important question because our focus is on maximizing long-term shareholder returns rather than just looking at any specific quarter or even year. Historically, when consumers are under pressure and results are tougher to achieve, successful companies like ours often reinvest for the future. This includes investing in consumers as well as enhancing our capabilities through strategic revenue management, performance marketing, and automating supply chains. Even though we've adjusted our sales expectations for the year, we will continue to invest in consumer spending and the capabilities that support our growth both this year and in the future. This encompasses growth in revenues while also maintaining our commitment to high levels of HMM, automation, and utilizing AI in our supply chains. I want to emphasize to your investors that while our profit guidance remains at 4% to 5% EPS growth, this includes our ongoing reinvestment in the business. We are able to do this because our HMM levels are currently robust, and we are reducing costs in our supply chain, with administrative costs also on the decline.

Thank you for that. I would like to learn more about the faster competitor normalization of shelf availability that you mentioned earlier. Is this issue confined to a specific category or is it more widespread? Is General Mills actually losing shelf space, or are other brands just getting better availability in the slots? What impact have you observed on promotional intensity, if any? Thank you.

All right. Andrew, I'll address all those questions, and if I miss one, please let me know. Regarding on-shelf availability, we grew 10% last year, and our initial guidance for this year was 3% to 4%. We anticipated on-shelf availability would be a challenge for us since our supply chain performed better than that of our competitors a year ago. We factored this into our guidance. However, our competitors, particularly private label and smaller brands, have improved their on-shelf availability faster than we expected, and they are now catching up to us after trailing for about four years. We have improved our own on-shelf availability this year due to reduced disruption costs, but our competitors have made significant gains. In terms of distribution, our teams, especially in North America Retail, are executing well, and our distribution share has actually increased. There's no issue with our distribution; it's quite the opposite. I'm excited about our innovation in the latter half of the year, which I believe will enhance our position further. We have strong innovations planned in cereal, yogurt, soup, Old El Paso, and Haagen-Dazs. Our innovation lineup in our major billion-dollar businesses is better than last year, and I think we can look forward to continued improvement in distribution. Regarding promotional intensity, the promotional environment has been quite rational, contrary to some assumptions. We anticipated an increase in promotions this year due to on-shelf availability, which has occurred. Importantly, the quality of merchandising has improved significantly. The lists and returns on investment we've received are better than last year. While the frequency of promotions has increased, it hasn't deepened. The frequency remains below pre-pandemic levels, and the depth of promotions is also lower. We're seeing an uptick in promotions as we expected, and the returns are more favorable due to the enhanced quality of merchandising.

Great. Thank you so much, and have a great holiday.

You too.

Our next question is coming from the line of Ken Goldman with JPMorgan. Please go ahead.

Hi. Thank you. Good morning. When you visited New York a couple of months ago, you mentioned that you may lean in a little bit harder to share repurchase. I don't think today's announcement on that line item was a huge surprise. I'm curious, you've also spoken about your ongoing desire to be flexible for potential strategic acquisitions. I'm just wondering, is there any read-through from your willingness to purchase more shares than you initially expected into how you see the ripeness of M&A opportunities in today's market?

Yeah, Ken. This is Jeff. Let me start with that question, and Kofi, if you want to add any color, that would probably be helpful too. The fact that we've repurchased more shares in the quarter than originally anticipated at the beginning of the year is not a reflection of a change in how we view capital allocation. We're investing quite a bit in the business and then increasing our dividend. If we see M&A, we'll certainly do more M&A. If not, we've stated we repurchase shares, which is what we're doing. Importantly, our net debt to EBITDA levels are in a good place. To the extent that we see something that we think can create shareholder value in terms of portfolio reshaping, we're more than capable of doing that. What you've seen is really a reflection of us executing against the capital allocation priorities we already stated.

I think, Ken, the only other thing I'd add is just to state one of the obvious, underlying points: we're getting additional leverage out of our repurchase activity. So, dollars are going further because of the pressure on the stock, and as much as the stock has come down since the beginning of our fiscal year. That's amplifying the impact in terms of diluted share count and the acceleration into the front half of the year. But I think, I'd reiterate Jeff's point. We expect to have ample flexibility for M&A should we see the right project or projects. None of the things we're doing on share repurchase are expected to take our leverage above 3 times net debt to EBITDA.

And then changing subjects. One of the more appealing elements of pet food as a category has been the high level of switching costs, especially in premium, where there's less price sensitivity too. Just curious, though, given some of the challenges facing Blue, is it fair to wonder if maybe the cost to switch isn't quite as high as we all thought? Do you think maybe we’re just in a unique time when the specialty channel is lagging at the same time the consumer is suddenly worse off?

Yes, that's a valid question. There are two factors to consider, and you've already mentioned one. First, regarding the pet food sector, particularly the feeding aspect, which made up a large part of our acquisition of Blue Buffalo, feeding tends to be relatively inelastic. We observe this with the performance of our dry pet foods for both cats and dogs. On the other hand, treating, which we entered into when we acquired the pet food business from Tyson, is more elastic and often considered an impulse buy. This is why, during tough economic times, consumers tend to opt for cheaper treats if they continue to make purchases, but they remain loyal to feeding. So, the first part of your question highlights that feeding is not as inelastic as we believed, but treating is indeed more elastic. The second aspect is that I can't recall seeing a 30% increase in costs over three years. While the feeding sector remains relatively inelastic, it's not entirely so. The significant rise in input costs, along with our strong presence in the pet specialty channel, has affected our business short-term. Over the five years we've owned this business, we've managed to double its size. The Blue brand is robust, and when we execute effectively, whether through our Life Protection Formula, advertising, or holiday treats, business performance improves. The humanization trend will persist, and Blue is positioned to benefit from this over time.

Our next question is coming from the line of Nik Modi with RBC Capital Markets. Please go ahead.

Yeah. Thanks. Good morning, everyone. On the promotional side, I wanted to follow up on the promotional comment. One thing we're hearing from retailers is the lift doesn't seem to be as good as we've seen historically, Jeff. I was hoping you can just comment on that? Is that something you're seeing in the marketplace? And does that maybe send a signal that perhaps absolute price points have become too high? I'd love your comments on that.

So, when we talk about historical, it kind of depends on what we mean by historical. I don't mean to be cute with this, but if we look relative to where we were a year ago, our lifts have actually improved compared to where they were a year ago. If we look to see where the lifts are versus where they were four years ago, they're not quite at those levels, and I don't have a fact that I can point to as to why exactly that is the case. Neither we nor consumers have seen inflation the way we've seen it over the last few years, and consumers are still getting used to new prices in the marketplace. I suspect whether that's food or gas or rent or any number of things, that is absolutely the case. It will take a while for consumers to settle into what new price points are to the extent we continue to see inflation, which we do, even if at more modest levels. So, Nik, I would say that relative to a year ago, we're pleased with the progress of our lifts, but relative to historic pre-pandemic levels, they're a little lower. I wouldn't surmise that it's the consumer catching up to a new reality.

Great. Thanks. I'll pass it on.

Our next question is coming from the line of Pamela Kaufman with Morgan Stanley. Please go ahead.

Hi. Good morning.

Good morning.

I have a follow-up question regarding the guidance for this year. Could you explain the factors behind the updated outlook? Your organization's sales forecast suggests about $800 million less in sales at the midpoint compared to earlier estimates. However, you slightly narrowed your EBIT growth guidance against your previous expectations. Can you clarify this? I understand you have the higher HMM savings, but where else are you identifying offsets in the P&L? HMM alone doesn't seem to account for the full effect of the decreased EBIT.

So, Pam, Kofi and I are going to tag team this. Let me talk about that. On the revenue side, the way I think about our guidance is that in order to hit the lower end, let's call it minus 1%, that would indicate that we would see a continuation of the top-line performance we saw in Q2, which would indicate a little bit better volume and a little bit less price/mix than we saw in the second quarter, but in absolute terms, about the same. The higher end of our guidance suggests that the categories get a little better, which they could due to lapping the SNAP emergency reductions from a year ago in January through March, combined with pricing activity from March and April of last year, plus a little bit better share performance based on the out-of-stock situation changing near the end of the year. We could hit the top end of the guidance we suggested, but that brackets the top line. I'll let Kofi talk a little bit more about the profitability.

Sure, Pam, and thanks for the question. I would just note that the HMM adjustment is pretty significant. As a reminder, the past two years we've delivered below our historic levels of around 4% due to the supply chain disrupted environment. We're now on pace to deliver 5% against an early expectation of 4%. That's the biggest single contributor. We are seeing improvement in our inflation, but not significant enough to change the routing, so that's a modest contributor. The other component in gross margin is the supply chain related disruption costs. We've made sequential improvement over the last four quarters in our North America Retail business. Lastly, the adjustment of our incentive off last year's peak level is relevant. Last year had historically high levels of incentive-based compensation, which is variable and based on the top and bottom line projections as that's both normalized at the start of the year to a base expectation of planned targets. Now, as we take the top line down, that's almost $100 million in reduction in admin expense. So, taking all of those into account gives us the confidence to keep within the range, albeit a little tighter as volume expectations come in from the top of the year.

Thanks. That's very helpful. Just a follow-up question on gross margins. They're now back to pre-pandemic levels. How are you thinking about the potential for gross margin expansion from here? On one hand, you have the benefit from HMM, but I'm assuming there will be some volume deleverage. How should we expect gross margins to progress? And do you see them at the right levels here?

Well, okay, I think implied within our guidance would be a little less operating margin expansion, bolstered by gross margins in the back half as we see a step down, a sequential step down in the contributions from price/mix as we lap last year's actions fully by Q4 of this year. Significant progress has been made at the gross margin level due not just to HMM these past two quarters but also by the disruption costs I mentioned earlier, 170 basis points in the back half of last year and 120 basis points in the first half of this year. I expect we will see more normalized levels of gross margin expansion going forward from this base. There is still a little more disruption-related costs to eliminate, primarily in some of our other businesses outside of North America Retail. That will give us some tailwind. Given the volume environment, that largely offsets the impacts of deleverage.

Thank you.

And our next question is coming from the line of Matthew Smith with Stifel. Please go ahead.

Hi. Good morning. I wanted to follow up on the elevated level of HMM savings here in the year. You mentioned, it's a step-up relative to the prior two years where it was a bit lower because of inflation and supply chain issues. How much of the elevated rate here this year is a pull forward from savings that you would expect next year? Or, I guess, that's another way of saying just how sustainable is this elevated rate of HMM savings as you exit fiscal 2024?

Look, I would expect that if the supply chain environment remains stable and continues to stabilize a little further, we will have the ability to deliver at least in line with our historic levels of about 4% HMM, 4% of COGS. The contributions from eliminating some of those other disruption-related costs that sit in COGS will decrease a bit here as we’ve gathered a good chunk of them on the back of our North America Retail business and may see a smaller base of costs in the other three segments. All things equal, I think 4% would be a good long-term estimate for us to migrate back to, provided the supply chain environment continues to cooperate.

Thank you, Kofi. And Jeff, maybe a follow-up about your share performance as you begin to lap the rebuild of competitive distribution, which I believe you said that begins to move into the base as you exit fiscal 2024. You're holding and gaining share in the majority of the distribution of your category. Would you expect your dollar market share performance to improve as you lap that competitive rebuild? Or are there other concerns like consumer value-seeking behavior or list price gaps that may need addressing as the shelf share normalizes?

One of the things that I'm most pleased with is that, over the last five years, particularly in North America Retail, we've gained share in 60% of our categories and we continue to execute well. The key to our success, once we start to lap the on-shelf availability, will be to maintain our brand building support and execute against what I think is really good innovation. If we do those, I would expect our share performance to improve over time. As we're exiting this fiscal year and beginning next fiscal year, we'll begin to see that happen. Interestingly, our dollar share performance has not been what we needed it to be. We're growing pound share in about 40% of our categories. Our pricing trailed inflation. Even though we responded to inflationary pressures, we're actually more agile than our competitors, providing us a dollar share benefit last year, and this year it's a headwind. However, we are growing pounds here in about 40% of our categories.

Thanks, Jeff. I'll leave it there and pass it on.

Thanks.

Our next question is coming from the line of Michael Lavery with Piper Sandler. Please go ahead.

Thank you. Good morning.

Good morning.

I wanted to follow up on the shelf availability. You mentioned it's improving for competitors. Do you think there are still challenges ahead, or is that situation now back to normal? Regarding the promotional dynamics, you've provided some insights on that environment. However, based on your recent guidance update, it seems like you would prefer to accept some decrease in volume rather than significantly increase promotions. Is that an accurate assessment? What factors would lead you to be more aggressive on pricing?

On the on-shelf availability, the competitors have kind of caught up to our levels, and that's been pretty stable for the past few months, and I wouldn't expect that to accelerate. We've seen stabilization in that. Their on-shelf availability is equal to ours, and we're doing quite well. In terms of distribution, our teams across the board, particularly in North America Retail, are executing well. Our share of distribution is up, so there's not a problem with our distribution. The opposite is true. Our distribution is looking good. What I'm most excited about is our innovation in the back half of this year, which I'm hoping will bolster distribution further. We've got good innovation in cereal, yogurt, soup, Old El Paso, and Haagen-Dazs. As we track across our big billion-dollar businesses, our innovation lineup is really strong compared to last year. As we approach the next half of the year, I think we can see our distribution continue to build. Regarding the pricing environment, I'm not getting into specifics of future pricing. However, we see an inflationary environment ahead of us. There has been talk of deflation in certain cases, which may be true for commodities like milk and eggs, but it's not true for restaurants, whose inflation is outpacing ours, and we see inflation in the low single digits. Category pricing is somewhere in the 2% to 3% range. Pricing tends to follow inflation, as that's the basis on which we increase prices in an inflationary environment. Looking at trade-offs, our job is to create long-term value for shareholders, serving consumers by ensuring that our brands remain strong, and that we're innovating and making sure our products are available when and where people want them.

Okay. That's really helpful. Just one quick follow-up on pet. You mentioned the retailer inventory destocking and characterized it as a temporary headwind. Is that just because there is only so low they can go, or do you expect it to reverse?

I do not expect it to reverse. I think there is only so low that it can go. We may see a reduction again in the third quarter, as our reported net sales are going to lag our sales out to consumers. We may not have seen the bottom of that when looking at our third quarter. It really is not expected to rebound in inventory levels, especially as some of our retailers specifically look to manage their working capital.

Our next question is coming from the line of Chris Carey with Wells Fargo Securities. Please go ahead.

Hi. Good morning, everyone.

Good morning.

Just a couple of quick follow-ups for me. I guess, number one, and I think you've been clear about this, but maybe just to put a bow on this: in your prepared remarks, you mentioned that price/mix will remain positive in fiscal 2024. I'm not sure if I'm reading too much into this, but is there an expectation that price/mix could turn negative in any given quarter ahead, near or medium term because of mixed dynamics or potentially some step-up in promotional activity? Secondly, Jeff, you mentioned an expectation for some improvement in category growth. Is any of that associated with lapping SNAP benefits as you get deeper into your fiscal Q4?

I'll take the first part of that question, and then I'll let Jeff get you on the second. Our expectations on price/mix are really based on the sequential decline in contribution from price/mix, as we lap pricing actions from last year. We’re not expecting any of the quarters to deliver a negative price/mix; merely just a decrease in price/mix contribution to total RNS.

One point I'd add is that what you're seeing over the last couple of quarters is that mix, even at the segment level, has been more of a headwind; for example, our pet business is growing slower than the other parts of the business. That's a high price per pound business, as our food service business, which is a low price per pound, is outperforming. There are mix elements within the segments that depress the overall enterprise price/mix.

When you ask about growth at the category level, there are a couple of headwinds. One is a bit of consumer behavior, feeling the economic pressure and a bit less discretionary spending. I don't know when that will turn around. Consumers are still stressed right now; they feel inflation's impact over the past few years, and we understand that. More discreetly, that is the lapping of the SNAP emergency allotments benefits from last year, and those occurred state by state between January and March. They may provide a one-point benefit to the categories that we're in, which isn’t heroic but it stabilizes the categories, and we will soon be lapping that during our fiscal third quarter.

Okay. Helpful. I'll pass it on. Thank you.

Unfortunately, I think that's all the time we're going to have this morning. Thank you for all the good questions and discussions. Appreciate your time and attention. We look forward to catching up in the new year. In the meantime, happy holidays to everyone. Please reach out if you have any follow-ups to the IR team. Thanks.

That does conclude the conference call for today. We thank you for your participation. I ask that you please disconnect your lines.