Greetings, and welcome to The Hershey Company First Quarter 2024 Question-and-answer Session. As a reminder, this conference is being recorded. I would 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 First Quarter 2024 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 that 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.

Our first question comes from Andrew Lazar with Barclays.

Michele, I guess excluding the inventory build, underlying organic sales in North America Confectionery rose 2%. I think we and the Street had modeled it broadly more flattish. And recently, market share trends in chocolate have inflected following a year of weakness. I guess my question is, am I overplaying this? Or maybe are you, too, starting to see sort of building underlying momentum in the core Confectionery segment outside of all the ERP inventory noise? And would you expect to see a sequential improvement in volume trends in 2Q?

Yes. Andrew, we are very pleased with our Q1 top line performance. Overall, it met our expectations, but our market share exceeded them. Our strength came from very strong performance in seasons, both overall and takeaway, as well as our market share, and the success of our innovation with Reese's Caramel, which not only resonated with consumers but also became the leading innovation in the category and helped drive strong merchandising, especially around the Super Bowl. We're optimistic about what we're seeing, and as we look to the rest of the year, we expect some improvement in trends as we progress through the year and approach the end.

And then you mentioned in the prepared remarks improved display activity in the first half of this year versus the second half of last year. I know there's a lot that goes into that, but can we also take this to mean maybe that some of the headwinds you faced last year from a major customer going through what seems like yet another sort of clean store effort maybe has started to realize a bit that display and sort of multiple points of interruption for snacks improved sales? Or is that too strong a way to characterize it?

I would say we are partnering very strongly with that retailer as we always do. We both recognize some opportunities to pursue. Looking at the year-to-date performance, much of the strength we've seen compared to the second half of last year in merchandising was primarily with other customers, especially with seasonal innovations and linking some of our media efforts to events like the Super Bowl or March Madness to drive merchandising. We do expect to see some strength from merchandising with that retailer in the second half of the year.

And our next question comes from the line of Alexia Howard with Bernstein.

Okay. So 2 questions. First of all, I know you're not going to comment on what you're doing with your cocoa forward contracting and hedging strategy. But could you give us a little bit more detail on the levers and options you have regarding sourcing for 2025, whether it's sourcing from other regions and obviously timing of contracts, the amount of flexibility you can build into the system? Just some ideas of the types of levers that you can pull, given the amount of volatility that's out there in the cocoa market today.

Sure. Yes, I'm happy to take that one. So multiple ways to deal with the volatility. Obviously, the hedging program and the financial side is one way to deal and then the supply chain side, making sure we've got diverse sourcing. And we've done a good job of that over the years of really trying to diversify that supply chain footprint. And no doubt, looking back at the last few years, we'll continue to move that diversification forward. That does give us some flexibility on sourcing. And of course, we have recipes that guide those choices, but within that, we've got quite a bit of flexibility.

Great. And then are you able to comment on what you're seeing in terms of the state of the American consumer? We've been hearing a lot about this recently with lower-income consumers becoming more vulnerable. Any comments you can make on how much the SNAP spending cutbacks last year hit you? I don't know whether you're able to quantify that, but just comments on where you're seeing the American consumer headed at the moment.

Yes, absolutely. So we do know that we saw impact from the SNAP reductions in the business in the back part of last year. We are beginning to see some stabilization as we start to lap some of those reductions. Consistent with our expectations as we built our plan, we anticipated that, that would occur. However, we do continue to see value-seeking behavior from consumers. So that still hasn't changed. I'd say it's improving a bit, but it's still there.

Our next question comes from the line of Ken Goldman with JPMorgan.

I wanted to follow up on your response to Andrew's question regarding North America Confectionery. You mentioned that it performed generally as expected when excluding the ship ahead, but your market share was better than expected. So, I want to clarify if the overall category perhaps didn't perform as well as you anticipated. If that’s the case, what do you think is causing that? We know there’s been some elasticity, and you mentioned the lower end is struggling. Is it primarily linked to that, or are there other factors we should consider?

Yes. I mean I'd say some of that is always tied to each key competitor and what their programming is like versus prior year. So our largest competitor, Mars, was a little bit soft for the quarter with share down. I think a lot of that was driven by their innovation, the lapse versus prior year with some of that innovation not sustaining, and those things do impact the category. So that looked to be one of the biggest drivers.

Shifting to Salty, it's clear that your sales trends have improved significantly. However, it seems there may still be opportunities for better margins. I'm curious about your satisfaction with the advertising and promotion investment in that area. Do you foresee needing to invest more in pricing? How confident are you in the fundamental elements that will help stabilize the business to a point where you can achieve growth and also expand margins?

Yes. Overall, Salty met our expectations, with Dot showing very strong performance. While SkinnyPop did improve, we anticipated that most of this improvement would occur after we lap the Q2 period. SkinnyPop continues to face pressure, similar to other ready-to-eat popcorn brands, but we believe the situation will change once we get past that point. As we progress through the year, we are making strong media and trade investments in both brands. Additionally, we have flavor and pack innovations that will aid in growth and market share gains in the latter half of the year. From a profitability standpoint, Q1 Salty profit was the lowest for the year, which indicates where the business is headed moving forward. You can expect improvements in that area going forward, with a significant increase in our advertising starting in Q2 and continuing beyond.

Our next question comes from the line of Max Gumport with BNP.

I realize you're not getting into 2025 pricing conversation on this call or commenting on cocoa inflation. Just curious if you could talk about some of the other factors that go into that framework, though. So you've talked a little bit about market share trends, but also what you're seeing with category volumes, health of the consumer overall, the competitive environment, cross-category elasticity concerns just as we try to think through what you're seeing.

Yes. Regarding 2025, we are currently in the process of developing our plan for that year. While I can't discuss cocoa at this moment, there are various factors we will consider as we shape the plan. Pricing will be one aspect we evaluate, along with potential savings from the supply chain. As mentioned in our previous call, we have transformation savings planned for the coming years, including 2025. As we progress further into the year, we will share more about our expectations for 2025, including insights on category health and our perspectives on the consumer and more.

Okay. And then turning to the comments on gross margin for 2Q '24. Any help you can give us in terms of the cost absorption that might reverse out in 2Q after a strong 1Q, given the inventory dynamics associated with the ERP cutover? I'll leave it there.

Sure. Yes. We expect to see that fixed cost leverage that we benefited from in the first quarter effectively fully reversed out in the second quarter. So order of magnitude, we had $20 million to $25 million of benefit of fixed cost absorption and then also a little bit of mix just based on the type of inventory that was built in the first quarter. And so both of those components should reverse out in full in the second quarter.

And our next question comes from the line of Nik Modi with RBC Capital Markets.

I have two questions. Michele, could you share your observations from a channel perspective, particularly regarding convenience stores? We've received feedback indicating that traffic is experiencing some pressure, so I would appreciate your insights on that. Additionally, looking at the broader picture, we've previously discussed the cross-elasticity between your business and other alternatives available to consumers, such as snack bars. As you plan for the upcoming year, are you considering your promotional strategies and pricing in relation to this cross-elasticity, or are you focusing more on the specific categories where you compete?

Yes. Our C-store business has been performing well, and we haven't noticed any significant changes in trends that concern us. We continuously analyze price gaps and absolute price points, both within our category and across the snacking market. This is our standard approach to assessing price elasticity, and we will keep evaluating it in this manner.

Our next question comes from the line of Michael Lavery with Piper Sandler.

I just wanted to come back to the comments on 2Q. You called out the high single-digit decline you expect from the inventory reversing. But the last quarter, you said how you expect double-digit EPS declines in the first half. I don't, unless I missed it, believe you reiterated that, but would that still apply as well?

It does. Yes.

Okay. Great. As you consider the volatility in cocoa costs and the associated uncertainties, you've emphasized your long-term perspective and approach to the business. Can we assume that this provides some level of protection for AMC? How do you view managing this as a variable? Is it actively considered or safeguarded? What is your strategy regarding marketing spending in this context?

Yes. I mean, I think strategically, we want to always continue to invest in our brands. We believe that's a key part of the model. And we know that if you break that investment, it can take some time to rebuild to get to kind of your threshold levels again. That said, every year when we build a plan, we reevaluate the return on all of those pieces of spending. We have to have the right news. We have to have the right increases in effectiveness and efficiency to set the right level. So it's not to say that we are set at a specific budget or percent of net sales. Every year, we do adjust that based on what we're seeing in the returns, where the opportunities are, what kind of news we might have that we want to support, et cetera.

Our next question comes from the line of Bryan Spillane with Bank of America.

Michele, could you provide some insights on consumer behavior during the first quarter, particularly around Easter, and how that might inform our approach to Halloween this year? Last year, everyday sales were under significant pressure, which affected seasonal sales like Halloween and the overall balance of our business. Given that everyday categories and smaller stores still seem to be struggling, I’m looking to understand how reliant we are on Halloween as we head toward the end of the year and if there are any noticeable differences in consumer shopping patterns during the holidays.

Yes, absolutely. So if I start with the beginning of the year, Valentine's, the category was strong and we performed very well there from a share perspective. The Easter category declined, but it was a shorter season, which always makes it more difficult, but sell-through was very good. And again, we gained share in that season as well. As we look at the second half of the year, we do feel like those trends are positive for the second half. But obviously, we had some very strong seasonal performance in '23. So we think second half will grow, but we think the growth will moderate and perhaps be more in line with our overall growth as a company versus kind of super-sized in the back half.

And our next question comes from the line of Robert Moskow with TD Cowen.

Michele, I remember you mentioned last quarter that after completing the ERP conversion and moving past the second quarter, you would begin to consider pricing adjustments to address increased costs. Is that still your approach? Also, how did you determine the extent of additional inventory that customers pulled forward? Were you anticipating they would take a month of inventory, but then they opted for two months instead? Additionally, how can you tell if they were pulling forward shipments due to a potential price increase?

First of all, our teams have done an incredible job with the S/4 implementation in the U.S. and Canada, and we truly appreciate their efforts. We are excited about this progress and believe we are in a strong position. We are actively shipping products and invoicing customers, but we are also at the end of the ramp-up phase, focusing on ensuring a stable system that allows us to close the books at the end of the quarter. We anticipate reaching a stable state with S/4 by the end of Q2 and having options available to us. However, we do not disclose our strategies regarding pricing or timing, just that we have the capability to do so. Regarding the excess inventory, we collaborated closely with our customers to gauge their inventory needs. Some customers may not have communicated their requirements fully, which contributed to the inventory levels. Additionally, some retailers, concerned about ERP implementation challenges faced by others in the market, opted to stock more inventory. Overall, we were able to execute beyond our initial expectations. Initially, we planned for potential disruptions at the start-up and were cautious about how much we could supply to retailers, but we ultimately managed to meet their needs more effectively than we had anticipated. Steve, do you have anything to add?

And where we landed in the end, we feel, was a healthy level. And so in the second quarter, we'll see the vast majority of that bleed out. It wasn't too much. And we don't see that as a sign about trying to get ahead of price increases. The way price increases these days work their way to the market, prebuying inventory isn't really the common practice. So not much risk there.

Our next question comes from the line of David Palmer with Evercore ISI.

What is your current price elasticity for the chocolate products? Additionally, do you have any insights on how that might change if cocoa prices stay high and you need to implement a significant price increase going into '25?

What we've seen is no material change in our elasticities over the past several months. We remain in line with historical levels, which is about minus 1, and that's what we would assume going forward.

Got it. You're always insightful. There's been a slowdown in at-home snacking post-COVID, possibly influenced by the SNAP reductions. Now, there are concerns about a weakening low-end consumer and convenience channels appearing relatively weaker. I'm curious about how you're approaching the overall situation and whether you're noticing any conflicting trends between your different channels as we move into '24.

Yes. So certainly, I would agree that with value-seeking behavior that a lot of that is coming from lower-income consumers. And we've seen that relative to SNAP reduction and the trends that, that drove, frankly, in our business as well as, I think, across other edibles based on what other companies have shared as well. I would say that our C-store business is okay. And I would say mass, club and dollar are very strong. So you may be seeing a little bit of that value seeking based on where that shakes out. But I wouldn't say it's something that we have seen as significant or dramatic.

And our next question comes from the line of Chris Carey with Wells Fargo Securities.

One quick question on gross margins. Did the complexion of your gross margin evolve at all through the year? I know there's some timing dynamics between Q1 and Q2, and the full year outlook is unchanged. But is productivity coming in better? Or are parts of inflation coming in worse, some parts of inflation coming in better? Just any insight on how your delivery against this target has evolved over the past few months and evolving over the balance of the year relative to your going expectations.

Yes, no change. We're still, as we talked about on our call last time, about 200 basis points down year-over-year for the full year. Productivity savings off to a good start, right in line with plan. So at this point, nothing material that would point to a reshaping.

Okay. Yes. Just the follow-up is on the category comments. The way that I interpreted it was that some of this lower category at the beginning of the year is almost entirely innovation relative to your going expectations of your peer? Or is there anything else that you're seeing, which you would highlight as over and above just that one comment regarding the lapping of innovation for one of your important competitors?

No, nothing else that I would highlight on that.

Our next question comes from the line of Tom Palmer with Citi.

I wanted to just ask a little bit differently. I know you're not talking about cocoa inflation for next year, but there are some moving costs beyond just the headline cocoa inflation. You've got conversion costs and I think you're buying more butter and liquor than powder. So when we just look at headline cocoa inflation, do these items like conversion and then the kind of the sub-items within cocoa that you're buying, do those soften the magnitude of inflation? Are they adding to it right now? Just trying to understand that piece of the dynamic.

Sure. Yes, you're right. Cocoa is sort of the headline, the big headline. But when you look at the cocoa derivatives, they are also increasing. And we won't comment about percent increase relative to cocoa price increases, but they are inflationary just as cocoa itself is.

Yes. So it is from club, especially some very nice increases on Dot's that we shared last year. We got incremental distribution. So at this point, it's from both distribution and velocity there. So Dot's was up about 30% to start the year, and we gained over 300 market share points. And club was one of the drivers of that.

And our next question comes from the line of Rob Dickerson with Jefferies.

Great. Michele, maybe Steve, too, we fully understand, right, not speaking to hedging practices and where you're positioned or how you're positioned or how you're thinking about the internal hedging dynamic. But I am curious, maybe just more broadly, we heard from another large confection company earlier this week that was able to speak in general as to just how you're thinking about this like global cocoa supply, right? I'm sure you have plenty of internal and external advisers trying to provide that perspective, and I'm sure it's a lot better than ours. So I'm just curious if you have any general comments around that is the first question.

Yes, we're happy to share. So I would say, overall, our views about what has driven the market are somewhat consistent with what that large competitor shared earlier. As we think about it, we think both structural and transient forces have been at play impacting prices over the past several months. It certainly started with poor weather that impacted crop and then concerns about supply. But as we've mentioned previously, it's also about much more than just supply-and-demand economics, but rather the impacts of regulation like the EU deforestation regulation, market speculation, and also the lack of liquidity. So we continue to closely monitor supply and demand in the short term, which are the things that we can most get data and information on. The market will start and has started to get some signals on the supply outlook for the main crop. That will happen over the summer. Early reads on mid-crop look good, but it's really early. So we continue to monitor that. We also have full coverage for '24. We have some coverage into '25, and then we remain very focused on executing what's within our control. Our business strategy is to drive growth, improve share, innovate, enhance our capabilities, and drive cost efficiency as we continue to monitor that environment.

That was very helpful. Steve, this question is directed to you. I'm aware you have two programs aimed at productivity and savings projected to generate $700 million over the next three years. With some cost inflation already present and possibly increasing, I realize you haven't discussed the net productivity and savings much. I don't expect a specific number, but I am interested in understanding how we should view the overall net impact on the profit and loss statement, considering the significant savings and productivity anticipated over the next three years. That's all.

Sure. Maybe if I just take cocoa to the side and look at the rest of the business, our model is to offset inflationary costs over time through a variety of levers in the P&L. And that fundamental model is still in place. Of course, cocoa is certainly stressing it in the near term. But longer term, that is still the model to cover inflation. And so as we think about these savings programs, both the earlier one we discussed in the investor conference focused on productivity and the most recent one, which is a mix of SG&A savings and productivity, both of those, we like to focus on being a net benefit to the P&L over the horizon that we're talking about, which would imply we have to get other ongoing normal efficiencies to offset normal ongoing inflation. And so that's the way we're looking at those cost programs.

Our next question comes from the line of Jim Salera with Stephens.

Michele, I wanted to follow up on the seasons and discuss how you mentioned gaining market share during Valentine's and Easter. Can you explain what's behind that? Also, are there any insights you can apply to what might be considered a mini or bonus season with the Olympics this year?

Sure. So as I look at winning in season, certainly, it starts with the right product portfolio. We feel good about the portfolio. We always have innovation at the seasons, and we feel good that we have the right innovation. Another key driver is merchandising. We did a very nice job with merchandising, and our retail sales teams worked in stores to get the visibility that we really desired for the category and overall for our business. And then also, we had the ability to provide even more supply. As we've mentioned over the past several years, we had a couple of years where we were constrained by what we were able to deliver. At the end of last year, we really got to a much fuller place in supply across our portfolio. And yes, all of those lessons we apply to those non-traditional seasons, but those other occasional seasons, things like Super Bowl, March Madness, and Olympics. We certainly plan to leverage those same levers to make Olympics a strong event for us in the summer.

Great. And on the Olympics specifically, if I'm not mistaken, I think it's 2 weeks. And so should we expect like in-store activations on that to run for like 3 weeks or 4 weeks or any way to kind of size that up as we think about that at the end of the summer?

Well, we usually start some of those activations ahead of the event. Retailers like to kind of highlight the event and get people engaged ahead of time. So you will see some of those displays start as early as June, really leading into the Olympics. Depending on the retailer, you'll see them throughout the summer.

Our next question comes from the line of John Baumgartner with Mizuho.

So in terms of the International business, I mean, there's been some high-level comments about Europe over the past year or so, I think recognizing your presence there a bit more than in the past. And I'm curious how you're thinking about that market longer term. And would you say you're still on a trial period? Is there anything that still needs better understanding at this point? Just how do you think about Hershey's desire to maybe take the next steps? And I guess it's a pretty big market with some differentiated products.

Yes, it's a significant market. Our long-standing strategy has been to thrive in well-established markets like this by offering a differentiated product. After considerable effort, we’ve successfully introduced Reese's to Europe, starting with the U.K., where we've seen remarkable success despite limited investment in local support. We now have a profitable business there, which is our main focus. We view Europe as a place where our unique product portfolio can succeed, and we plan to approach it efficiently to maintain strong margins without making large investments.

In the U.S., I'm interested in how the consumer is responding to the ongoing high inflation. Are you noticing any shifts in the factors driving demand for your categories? Is there less pull for advertising than before? Does it lead to a greater need for price promotions, increased in-store displays, or more visibility at the front of the store? How do you view or what changes do you observe in the effectiveness of the demand drivers currently available?

Yes. I mean, I guess one way that I think about it is making sure that we look at each occasion, which really comes down to kind of the pack types across the portfolio and ensuring that we have good entry-level prices based on how the consumer perceives value. A lot of times for the lower-income consumer, it's about an entry-level price point that enables them to participate. In some categories, it's about volume that has a better price per ounce. So I think, to me, that might be the bigger piece. I do think areas like seasons and innovation also drive value above and beyond the base products. And so we've seen that as well.

And our next question comes from the line of Alejandro Zamacona with HSBC.

Just a follow-up on the cocoa pricing discussion. So I'm curious on hearing any comments regarding the recent normalization. So recently, prices have declined 30% in the last couple of weeks. So any comments around that would be helpful.

Yes. Well, I think, first of all, that decline is just further evidence of the tremendous volatility that we're seeing in the marketplace. It's hard to peg what some of those declines. There are no new signals relative to supply and demand that are meaningful yet. I mean perhaps some early signs about the mid-crop, which leads us to believe that more of the decline is driven by some of the nonsupply-demand economic factors but some of those other factors that we've discussed relative to speculators, thoughts on regulation, etc.

We have reached the end of our question-and-answer session. And with that, I would like to turn the floor back over to Melissa Poole for any closing comments.

Thanks so much for joining us this morning. I know there's another call, so we'll let you all go to make sure you can attend that, and look forward to catching up later today. Have a great weekend.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.