Greetings. And welcome to The Hershey Company Second Quarter 2023 Question-and-Answer Session. At this time, all participants are in a listen-only mode. As a reminder, this conference is being recorded. I’d now like to turn the call over to your host, Ms. Melissa Poole, Vice President of Investor Relations for The Hershey Company. Thank you. You may begin.

Good morning, everyone. Thank you for joining us today for The Hershey Company’s second quarter 2023 earnings Q&A session. I hope everyone has had the chance to read our press release and listen to our prerecorded management remarks, both of which are available on our website. In addition, we have posted a transcript of the prerecorded remarks. At the conclusion of today’s live Q&A session, we will also post a transcript and audio replay of this call. Please note that during today’s Q&A session, we may make forward-looking statements that are subject to various risks and uncertainties. These statements include expectations and assumptions regarding the company’s future operations and financial performance. Actual results could differ materially from those projected. The company undertakes no obligation to update these statements based on subsequent events. A detailed listing of such risks and uncertainties can be found in today’s press release and the company’s SEC filings. Finally, please note we may refer to certain non-GAAP financial measures that we believe will provide useful information for investors. The presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Reconciliations to the GAAP results are included in this morning’s press release. Joining me today are Hershey’s Chairman and CEO, Michele Buck; and Hershey’s Senior Vice President and CFO, Steve Voskuil. With that, I will turn it over to the Operator for the first question.

Thank you. Our first questions come from Andrew Lazar with Barclays. Please proceed with your questions.

Great. Thanks so much, and good morning, everybody.

Good morning, Andrew.

Good morning. I want to ask a bit about the pricing versus volume commentary regarding the full year sales growth outlook. And the comments sound like you expect price to be a bit better in the second half and maybe volume is a bit worse than originally planned. So just two questions on this. First, how do we think about the balance between the two in the second half and could volume be down year-over-year in 2H? And then more specifically on volume, is the weaker than anticipated volume fully due to just the new pricing actions or are you reflecting a tougher consumer or a competitive environment in that outlook or both? Thanks so much.

Yeah. I am happy to take that one, Andrew. Your math is right. That’s the way we are looking at it. And the price piece really is driven or the volume impact really is driven by the extra price impact as we look at the back half. And as we look at volume in the back half, yes, year-over-year, we expect it to be down. But it really is price driven. There’s probably a very small portion attributable to the salty misstep in Q2, but the vast majority is just the reaction to price.

Great. Great. Thanks so much. I will pass it on.

Thank you. Our next questions come from the line of Bryan Spillane with Bank of America. Please proceed with your questions. Bryan, could you check if you are muted please?

All right. Let’s come back to Bryan.

Okay. Our next questions come from the line of Ken Goldman with JPMorgan. Please proceed with your questions.

Hi. Thanks so much. You have done a great job obviously implementing pricing to offset inflation, but cocoa and sugar are up a lot more. I know you can’t talk about pricing that hasn’t been announced to the trade yet. But is it reasonable to think that you are maybe considering another list price increase and at what point do you start to ask how high is too high, how do you think about elasticity in the consumer in that environment? I just wanted to get a sense for kind of the puts and takes as you think about how to deal with and manage maybe what continues to be an inflationary environment for you?

Sure. I mean, you are right. Cocoa and sugar are historically high. I think I saw a news article this morning talking about cocoa being at a 12-year high on the New York Exchange. The good news is we have experience managing through commodity rushes up and down. And so as we talked about in the past, as we look at dealing with that, price is a lever, but it’s not the only lever. And so we look at driving more productivity, driving efficiency through other parts of the P&L, and in general, driving revenue management is part of our ongoing strategy. And so all the usual levers will be applied, and as I said, it’s not the first time we have had to deal with something like this. So we are pretty good at being able to navigate, and you are right, we are not going to get more specific than that at this stage.

Thank you. Regarding the increased competition and innovation in confectionery in North America, how significant is the innovation you're observing? Are there any surprises compared to your previous expectations? The competitive environment hasn't been entirely calm, considering there are strong players in the market, but is it becoming more intense than you anticipated?

Yeah. So I would say the innovation is up off of a relatively low base. So it’s having an impact based on that. I think many folks have been focused, certainly, we have been focused a lot on execution and meeting demand for the past few years and focused on the core with innovation not playing as big of a role. And I think now we are just seeing competitors in the marketplace start to dial up the innovation more back to historic levels, and as we go forward, that’s certainly an area that we are going to be focused on as we are continuing to increase capacity at the same time.

Thank you.

Thank you. Our next questions come from the line of Max Gumport with BNP Paribas. Please proceed with your questions.

Hi. Thanks for the question. With regard to the increased chocolate capacity this year and the additional co-manufacturing capacity secured in sweets for next year? Is there any way you can help us dimensionalize how sizable those capacity increases are, just as we try to get a sense of how impactful these additions could be for volumes in the second half and also in 2024? Thank you.

We have previously mentioned that if you examine the capacity we have already implemented this year and what is expected in the latter half, you will find that year-over-year, the incremental capacity in chocolate and sweets is around 5%.

Great. Thanks very much.

You bet.

Thank you. Our next questions come from the line of Michael Lavery with Piper Sandler. Please proceed with your questions.

Hi. Good morning.

Good morning.

Good morning.

You have got the integration in salty snacks and the transition to SAP that you have been talking about and those never seem to be totally smooth or easy, you mentioned there’s some hiccups that you have seen. But can you just maybe give a little sense of what those look like in a little more detail, and specifically with an eye on just having a sense of what’s to come, what have you learned and how confident are you that the rest of the year can avoid some of those hiccups or just be even smoother still?

Yeah. I mean, I would say overall, certainly, one of our key focuses as we planned for this year, was that at the enterprise level really focusing on the stellar execution. We planned the business in a way to assume that we would be trying to front-load performance knowing that there are always hiccups in the execution and so in Q4 we do expect to see volumes be down and we put that in our plans. The teams are all over it. It is a focused effort, not just within IT, but across every functional area of the salty business. And so far we have been doing pretty well on salty with household penetration growing, repeat frequency, strong sales. We did have the promotional shift into Q3. We feel good about being able to execute that. But we feel like we are well geared up to be able to execute that. That said, we certainly do believe that there will be volatility in the back half of the year with the ups and downs that’s forward. Okay. That’s helpful. And just back to pricing, you have got delays in some of the timing between the announcement and implementation, and then the seasons, of course, have a staggered effect and with just some of the maybe layers to it. Can you give a sense of just what you have announced already or put in place already has as an impact on 2024? It looks like at least the low single-digit, maybe my math, I guesses or estimates close to it, 3 points that you might already have in hand. Is that about right or what are some of the moving parts, just so we have kind of a little bit further look ahead of what’s already put in place? So we have high single digits in the second half of this year and as we look to 2024, low single-digit pricing.

And just to clarify, that's before considering anything else that might still be on the horizon, right?

That’s what we have announced.

Perfect. Thanks so much.

Thank you. Our next questions come from the line of Pamela Kaufman with Morgan Stanley. Please proceed with your questions.

Good morning.

Good morning.

Good morning.

Your advertising spend was up 15% this quarter, which is an acceleration from Q1. Given the better-than-expected performance in gross margins for the year and what you are seeing in the competitive and demand environment, are there any changes to your plans for marketing spend for this year relative to before?

No fundamental changes. We had expected this year to be a year to invest in brands, and again, as we have capacity coming online and leaning into seasons, especially if we get to the back half, a significant increase in brand investment was planned and we are executing to that plan.

And also as mentioned, we were working to really front-load more of our salty planning because of S/4. So our plans accounted for that as well.

And then just in the prepared remarks, there are comments about some private label launches in your Salty Snacks categories. You are generally in categories that face very little private label competition, but considering the launches that you alluded to. Just curious to hear how you are thinking about managing private label competition in your categories and how you are addressing it?

Yeah. So, certainly, there is a bit more private label in salty than in CMG. But we have continued to see that, while private label has ticked up a bit, our brands have continued to remain quite strong and do incredibly well. And as we look at private label, even within the confection category, while there has been increased activity there, it’s remained a very small part of the category less than 3% and the entries we have seen in the marketplace this year are still relatively small. So we don’t take our leadership for granted. We certainly continue to invest in our brands to make sure that our propositions are strong. But we feel very well about how we are competing right now in the marketplace on that.

Thank you.

Thank you. Our next questions come from the line of Nik Modi with RBC Capital Markets. Please proceed with your questions.

Yeah. Thank you. Good morning, everyone. I was…

Good morning, Nik.

Good morning. I would like to know your thoughts on the Halloween season, especially considering that some of your competitors are still facing supply chain issues and have reduced their orders. How can you capitalize on this situation, and do you have any insights into possibly securing some of that missed opportunity from your competitors? I'm looking for some clarification on this in relation to the third quarter.

Yeah. So we are expecting a very strong Halloween. We know that customers are planning big displays and we are certainly participating in that and as well have strong marketing support to consumers planned as well. So we have certainly taken an approach of leaning into Halloween. We feel good that there will be plenty of candy out there. So feeling good about that. As we look at overall in the back half as it relates to market share, we think that there will be a stable approach overall, but some pressure on everyday despite some of our strengths around the seasons.

Great. And then if I could just clarify, in terms of the execution issues in Salty Snacks, what exactly happened, so you talked about systems changeover, but can you just provide just the details on exactly like what the problem was?

I would highlight two main points. First, we had some promotions that were originally planned for the second quarter but have now shifted to the third quarter. Additionally, we encountered some typical challenges as we merged all our operations, especially in sales, commercial activities, and supply chain execution. Consequently, things were not as coordinated as they should have been. However, we are confident that our team is addressing these issues and remains focused, as execution is a strong suit for us. We trust in our ability to redirect our efforts effectively. That said, we anticipate that the latter half of the year will experience a significant amount of volatility due to our efforts to build inventory. We expect to see lighter sales in the fourth quarter as a consequence, but we are assured in our capability to improve our execution.

Great. Thanks so much. I will pass it on.

Thank you. Our next questions come from the line of Alexia Howard with Bernstein. Please proceed with your questions.

Good morning, everyone.

Good morning.

Can I ask, first of all, about market share trends in U.S. chocolate? It sounds as though capacity constraints and other issues have caused some of those declines. Do you have a view as to when those market share trends should start to improve and turn positive again?

So we expect to continue to see pressure in the back half of the year. We believe that we will start to see some improvement, but there are a couple of things that are really impacting share. So one certainly is around category mix, with refreshment and sweets being stronger than we had anticipated. Chocolate should improve and we are focused on increasing our level of innovation to be even more competitive, and we will be in a better position to do that as we continue to have more capacity come online.

Great. And then as a…

We have increment in REIT. Yeah. Go ahead.

I am sorry. No. I was going to say, moving on to Salty Snacks, you talked about a double-digit decline, I think, in the fourth quarter because of the transformation. Is that choppiness expected to persist into 2024?

No.

No.

Not at this stage. Really, in Q3 we will be preparing and building inventory for the transition, and Q4 will be the transition and recovery. By the time we reach the first quarter, we expect to be back on or very close to a regular path. Yes.

Great. Thank you very much. I will pass it on.

You bet.

Thank you. Our next questions come from the line of Matt Smith with Stifel. Please proceed with your questions.

Hi. Good morning.

Good morning.

Good morning.

Steve, I wanted to dig in a little bit on gross margin. You had a really solid first half with margin expansion up near 100 basis points and you again increased the margin expectations for the year. So could you talk about the drivers of margin expansion relative to your initial expectations and what’s weighing on the expansion in the second half relative to the performance in the first half. Is that tougher comparisons in relation to the balance of pricing and inflation or are there other factors at play, like, increased promotion?

Sure. Yeah. We are pleased with the gross margin performance through the first half and we have had a few things, I think, that have broken our way. We have seen less inflation in things like packaging and logistics and even some material costs. Our productivity progress has been strong. I think we feel really good about where we are at the midyear mark on productivity, and then, of course, we have had pricing drop through. So all of those have worked in our favor and will continue to some degree as we go to the back half. If you look at the back half, taking the volume impact, we are going to have some more fixed cost absorption impact that will be a little bit of a weight. And again, we have got hedging against commodities, but still from a year-over-year and beginning of the year, end of year perspective, we still have a bit more cost for some of the inflationary commodities, cocoa and sugar, smaller weights, and again, smoothed out by hedging, but still some impact. Those would probably be the two biggest drags as we look to the back half. But again, overall, I still feel confident in taking our guidance up and the team is doing a nice job managing the cost side.

Thank you for that. And just as a follow-up, if I understood what you were saying about the second half. There should be a nice gross margin benefit in the third quarter as you build inventory with retailers ahead of the cutover in Salty Snacks, is that right?

Yeah. Yeah. We will get some benefit. Again, salty is not the biggest business, but we will get some absorption benefit as we build inventory in salty. Yeah.

Okay. Thanks for that. I will pass it on.

Thank you.

Thank you. Our next questions come from the line of Cody Ross with UBS. Please proceed with your questions.

Good morning. Thank you for taking my questions. A couple of housekeeping ones and then a longer term one in nature. First one, I think, you spoke about inventory headwinds in the quarter. I think they were lapping the inventory replenishment last year and the pull forward of sales into 1Q from 2Q. Is that correct, and if so, can you quantify each one for us?

It is correct. In terms of breaking out the pieces. There’s about 300 basis points we attribute to the last and about 150-basis-point shift relative to Q1 order of magnitude.

Great. Thank you. Other housekeeping question, just as far as the 4Q, I think, you guys said that, sales should be down double digits in the salty business due to the ERP implementation. Can you just quantify that for us or give us an expectation for magnitude? And then just one last one.

In terms of dollars or...

Yeah. The dollars that you are expecting from the implementation.

Yeah. As we get that...

Yeah. No. That’s a double-digit decline. So we not going to go any more specific than that.

Understood. My final question is about the competitive environment. There has been a lot of recent news regarding private label and other branded competitors becoming more aggressive. What observations do you have about the competitive landscape? I know you mentioned that branded players have increased their innovation efforts. Apart from that, have you noticed any rise in promotions, and what are your expectations for the future? Thank you.

Yeah. I mean, I’d say, the categories that we are in have always been very competitive. But the good thing is we have rational competitors. And what we are seeing overall, I’d say, is pretty consistent with what we have seen historically. We have seen some higher levels of innovation as supply chains have gotten stronger and people have been able to support innovation. We have seen some increases in private label, I think, with the economic environment in both confection and in salty. But frankly, the results of those entries have been somewhat mixed, and certainly, our brands have held up really well. We continue to focus on driving sustainable profitable growth. As it relates to infection and promotional activity, display has always been important for that impulse-driven category and so we didn’t see as much of the change in promotion as perhaps some other categories have seen. So that’s been much more stable for us and we anticipate we will continue to going forward. So we will continue to invest robustly to drive our brands with innovation, marketing support, what we think is the right level of promotion.

Great. Thank you very much. I will pass it on.

Thank you. Our next questions come from the line of Jason English with Goldman Sachs. Please proceed with your questions.

Hey, folks. Good morning. Thanks for fitting me in. Couple of questions.

Hi.

First, on Salty Snacks, promotion shift, it seems odd, usually promotions are locked in well-advanced retailers. So was this an issue of you actually not having a promotion you planned for like at this time was your sales and finance functions or did a retailer actually cancel activity on you?

Yeah.

Yeah. Retailers did not cancel activity on us, but it was really our choice to move a promotion. So that piece is that. And then relative to our broader execution issues, we had some temporary out of stocks. We go to market differently with dots than we do with SkinnyPop and the team quickly adjusted and we have seen our service levels improve. So we don’t expect to see that kind of impact in the second half.

Okay. So you canceled promotional activity on your retailer. Is that because of supply constraints or what drove that decision?

No. We have really shifted to investing a promotion in the third quarter that we thought made a lot of sense in advance of S/4. It was a big opportunity for us.

Okay. Switching gears, kind of coming back to Mr. Goldman’s line of question earlier, I had a couple of other lines of question on competitive activity. Your release has a tremendous amount of focus on market share and rather than driving category growth and we have seen the category actually weakened quite a bit in recent data. It’s a two-part question. First, what do you attribute the accelerating volume declines in chocolate confection to be driven by? And second, are you incenting organization on share and assuming you are based on the heavy emphasis in the release and prepared comments, how do you manage the risk of us getting back to where we were five years, six years, seven years ago, where it was sort of you always duking it out promoting away value in the category rather than what has been a much more, I would say, constructive competitive environment we have seen over the last couple of years?

Yeah. Well, as we look at the category, certainly, we have had significant pricing in the category. We have had a 20% price increase, and over time, we should see some moderation and the volume decline should moderate as well. So, certainly, price has played a factor. I would say we are always focused on driving the category, as well as market share, because being the category leader, we know if we drive the category we stand to have some of the greatest benefits. So we certainly don’t approach this as duking it out, but rather, how do we continue to connect with consumers and partner with our retail customers to maximize what’s going to be best to drive the overall business in category?

And we have got a lot more tools and sophistication today to look at the ROIs for how we are deploying things like promotion and there’s no intent to get into an arms race of bad returning investments like that. We want to win with innovation, which we talked about in the remarks, not just with spending.

Yeah. I think, Jason, if it helps a little, too. We had the past, call it, two months or so, multiple price increases, three different price increases hitting retailers at the same time, which is kind of what drove that 20% Michele mentioned as some of we were at the tail end of lapping some and some new ones we are going in. So we would expect that pricing number to come down and with that the volume declines to moderate as well. So in the next couple of months we would expect that to normalize a bit.

Okay. And I am going to cheat with one quick follow-up related to that question. But to my point on how are you been sending the organization, your sales force in particular, is the market share component to the bonus or is it just deliver the revenue?

Yeah. Today market share is not a component of most bonuses, it’s about delivering the revenue, but we have other metrics around quality of delivery and how it’s delivered and where...

Sales activity based margins that enable a balance between sales and profitable sales.

Got it. That is helpful. Thank you very much. I will pass it on.

You bet.

Thank you. Our next questions come from the line of Connor Rattigan with Consumer Edge Research. Please proceed with your questions.

Good morning. Thanks for the question. So I guess as we think about the pricing environment and increasing elasticity going forward, should we view your on capacity as just meeting existing underlying demand or is there maybe an opportunity to allocate some of that newfound capacity to take advantage of some strategic revenue management opportunities, such as package resizing or bar weights to drive net price realization going forward?

Yeah. We have been very focused on strategic revenue management and pack price architecture on both confection and the salty categories. I think a few years ago, we talked about evolving our pricing approach from just list pricing to how we look more holistically at strategic pricing. And in these categories in particular, it’s a big opportunity. We continue to focus there in confection and on salty it’s certainly something that as we acquired these businesses was a real underdeveloped area of opportunity.

Great. Thank you. I will pass it on.

Thank you. Our next questions come from the line of Rob Dickerson with Jefferies. Please proceed with your questions.

Thank you. I have two questions. I want to follow up on some comments you made about cocoa and sugar inflation. It seems like there are other ways to alleviate some pressure over the next two years due to your hedging schedule, but cocoa has significantly inflated in recent months. I'm curious about how the offsets you mentioned relate to your remarks about potential promotional activities next year and the pricing changes you've implemented. Do you feel that you've reached a point where market share might be softer, potentially due to capacity coming online, or maybe you need to promote more? Also, are you cautious about certain price points in your everyday business, and while you might not want to raise prices further, would you have if the input costs weren't so high? I'm trying to understand why you wouldn't consider raising prices a bit more given the input cost situation. Thank you.

We consider various factors when planning for 2024 and beyond, including the entire profit and loss statement, market share, competitive actions, and commodity trends. While I won't go into specifics about the 2024 plan, these are key aspects we will evaluate. We have managed similar situations before and have multiple strategies at our disposal. Pricing and revenue are just one of these strategies, and it will be intriguing to observe the cocoa and sugar markets. There is still significant speculation in these areas. Our hedging strategy provides some smoothing and protection, but we will be monitoring how these markets perform, especially since their current levels are unusually high and not largely supported by fundamentals.

Okay. Fair enough. And then just quickly, the comment on Halloween should be very strong. Michele, you said plenty of candy, it sounds like Halloween seasonal sales expected to be up double-digit. So I am just curious, like, why do you think Halloween will be so strong this year, number one? And then number two, I think, last year you did have some benefit from early shipments, so I just want to make sure there aren’t quite earlier shipments coming? That’s it. Thanks so much.

Sure. So we get a lot of visibility to the seasons, because we plan with customers in advance relative to needing to build inventory for the season. So we have a lot of good visibility in terms of what is being bought and we have very strong programs to drive sell-through. So that gives us a lot of confidence. We know that during difficult economic times, consumers are particularly interested in enjoying kind of the simple things in life, like these seasons, like Halloween and so that’s another kind of tailwind of focus relative to our conviction and why I think we and our customer partners really want to lean into Halloween.

Okay. Fair enough. And then on the shipment side, it doesn’t sound like there’s any delta there relative to the year ago?

No.

No.

Thank you. This does conclude today’s teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.