Grupo Herdez SAB de CV

BMV:HERDEZ

Earnings Call Transcript 2023-Q2

[Operator]

Good morning, everyone, and welcome to Grupo Herdez Second Quarter 2023 Earnings Conference Call. Before we begin, I would like to remind you that this call is being recorded and that the information discussed today may include forward-looking statements regarding the company's financial and operating performance. All projections are subject to risks and uncertainties, and actual results may differ materially. Please refer to the detailed note in the company's press release regarding the forward-looking statements.

At this time, I would like to turn the call over to Andrea Amozurrutia, Head of Finance and Sustainability. Ms. Amozurrutia, please go ahead.

[Andrea Casillas, executive]

Thank you, Brenda. Good morning, everyone. Thank you for joining us on today's call. As you saw in our earnings release, net sales rose 14.2% in the quarter and 17.7% for the first 6 months. The growth continues to be fueled by pricing actions implemented in the last 12 months, while volume performance finally showed some pause as we expected since last year.

By segment, Preserves grew 17% in the quarter with mayo, tomato puree, spices and homestyle salsas as the best performing categories during the quarter as well as wholesale and price clubs in terms of planning. Net sales for the first half grew 20.3%, and Mediterraneo contributed with 1.8 percentage points to the growth of the segment.

Top line in the Impulse segment continues its sequential traffic recovery in stores, while DSD performance of Helados Nestlé continued to be very strong. Net sales for the quarter and 6 months recorded increases of 12.7% and 16.8%, respectively. It is important to mention that the incorporation of Chilim contributed with 8 and 7 percentage points growth for the quarter and the first 6 months of the year.

In Exports, net sales decreased by 9% in the quarter and 6% year-to-date mainly driven by a stronger Mexican peso and lower shipments of MegaMex. On a dollar basis, sales increased almost 3% and 5%, respectively.

Consolidated gross margin in the quarter and year-to-date were 37.8% and 37.1%, which implied expansions of 2.8 and 1.5 percentage points when compared to 2022. This was mainly due to the pricing catch-up versus high input prices and a favorable sales mix, particularly at Impulse.

Consolidated SG&A was 25.8% of net sales in the quarter and 25% in the first half of the year. For the quarter, consolidated EBIT and EBITDA increased 36.2% and 27.7% with margin expansions of 190 and 160 basis points.

On a cumulative basis, EBIT and EBITDA increased 30.5% and 24.9%, while the margin expansions were 120 and 90 basis points, respectively. These results are explained by the recovery seen in the margins of Preserves as well as by lower operating losses in the Impulse segment.

During the quarter, income from unconsolidated companies was MXN 224 million, almost 5x the results over the last year. This was mainly driven by the lower cost of avocado, price increases and a better sales mix in Don Miguel. For the first half, income from this segment tripled to MXN 520 million. Please be aware that we are comparing with a very low base.

Consolidated net income for the quarter was MXN 702 million, 78% higher than last year, while the margin expansion was up 290 basis points to 8%, benefiting from the recovery of MegaMex and a normalized income tax rate. For the first half, consolidated net income was 24.6% higher and amounted MXN 1.5 billion.

Our financial position remains strong. Cash totaled MXN 2.3 billion, and interest-bearing liabilities kept at MXN 10.5 billion. Our free cash flow for the quarter was MXN 8 million. As explained in the press release, in the quarter, working capital and, particularly, inventories demanded a significant amount of resources due to the slowdown in sales volume growth and inventory buildup for the second half of the year.

With that, I will now turn the call over to Gerardo.

[Gerardo Miguel, executive]

Thank you, Andrea. It looks like inflation has peaked, and the downtrend will continue for some time, even though the price level will remain elevated. So in the next few months, we will stop talking about inflation and focus more on demand creation.

Mexico growth estimates have been revised upwards mainly due to the resiliency of domestic demand. And consequently, the combination of these 2 factors should support our view that the softness in the consumption environment seen in the second quarter will be temporary.

Even in this environment, we are okay with the performance of our portfolio since our market share remained very soft and even we were able to gain some share in specific categories like mayo, canned vegetables, homestyle sauce and mole.

In the Impulse segment, the recent change in our pricing strategy for Nutrisa, like Thursday's 2-for-1 promo, had a positive effect on store traffic, resulting in the highest levels of foot traffic in the last 3 years. We expect this trend to continue throughout the rest of the year, closing the gap towards pre-pandemic levels. Additionally, the recently incorporated Chilim Balam business has very optimistic prospects for the segment.

MegaMex margins, as Andrea has mentioned, are in full recovery mode driven by lower avocado cost, other pricing strategy as well, actions in Don Miguel regarding the portfolio SKUs.

Having said all of the above, we reiterate our guidance for the full year as discussed in the last conference call. That is net sales are expected to grow in the mid-teens for Preserves, in the low 20s for Impulse and flattish for Exports. Gross margin should expand as follows: Preserves, 200-plus basis points higher; Impulse, an improvement of 250-plus basis points; and Exports, flattish.

EBIT should grow in the high 20s, while EBITDA will increase in the low 20s range. Consolidated and majority net income are expected to grow 30% and 50%, respectively.

That concludes our prepared remarks, and we are ready for your questions. Brenda, please go ahead.

[Operator]

[Operator Instructions] The first question comes from Luis Yance from Santander.

[Luis Yance, analyst]

Congrats on the results, very, very, very good results. Perhaps, I mean, my first question is if you could elaborate a little bit on your comment in your prepared remarks about this temporary deceleration in consumer. Was it in certain categories or divisions? Are you seeing a pickup already in the third quarter? Or was it manifested via, I don't know, trade down, higher elasticity?

And perhaps if you could put it in perspective in terms of, I guess, trying to understand how much of your growth on second quarter was volume-driven versus price-driven? How does that compare to the first quarter? And what gives you the comfort that it was temporary and that we should start seeing an improvement? That will be my first question.

[Gerardo Miguel, executive]

Of course. Well, first, the second quarter in Preserves was driven by pricing. Volume was flattish to down. And the reason we feel this way in the consumption is that we believe that consumers take a little bit of time to realize the pricing environment. So for us, this would be like an adjustment. And because our Preserves products are in every pantry of the country, there are some times that you need to restock.

So regarding trading down, I think that's very category specific. Private labels are -- have different participations regarding the category. There are some where we are at 20. There are some that we are at 5, and we don't worry much in terms of downtime.

We haven't seen this drawdown across the board. There were a few categories in self-service and in wholesalers that were down. So instead of anything in terms of volume growth, because this is in the general environment and we believe that this is an industry-wide effect as we have seen in the market, we want to wait a little bit until we incentivize the demand.

There are some specific categories where the market was not as aggressively pricing as we were, where we are incentivizing demand with promos. So we believe that for the second half of the year, we will start to incentivize demand. And as economic growth pick up as we expect it will, we will regain some volume dynamics. I think that answers your question.

[Luis Yance, analyst]

Great. That's very helpful. And I guess a follow-up on that, on the topic of incentivizing demand, I wonder if you could talk a little bit about the evolution of your cost structure. I mean remind us on the hedges you have for this year and next year, I guess, not only on levels relative to the past, but what it means in terms of margins.

And I guess a broader question is, is it fair to assume that even though we've seen a very nice margin expansion in the first half, probably the worst in terms of the cost pressures could be behind us and actually, we're heading into this environment where actually your costs become more of a tailwind and allow you to do those kind of promotions or incentivizing demand while at the same time even expanding margins even further? How should we think about the cost portion and how much visibility you think you have at the moment?

[Gerardo Miguel, executive]

You have to keep in mind that we try to give a reasonable possibility as we believe we have today. So when you talk about margin expansion, well, we see it as margin recovery because the gross margins are still down from a 3-year period.

So for us, it's more a recovery this year in terms of gross margin than an expansion. And I think that is very important because this is a situation, a phenomenon that is a lot of the food and beverage companies are passing here in Mexico and in the United States. You just have to read the reports and see that gross margin is down from a 3-year period.

Now we don't expect to increase our gross margin where we were 3 years ago. I think that's not in our playbook, and that is a very difficult situation because of the consumption environment. So we have to get used to this margin. I think this high 30s in a consolidated basis is something reasonable.

In terms of the second half of the year, I think we said in our second -- in our first quarter that margins were -- they hit bottom, I think. So now you're starting to see -- because 2 things. Our cost per ton is still growing versus last year, okay? But it's growing now in the mid-teens instead of in the high 20s. And obviously, that effect will wash as we go farther in the year.

So probably you will not see this margin expansion as we did in the second quarter because of the low base that we were talking about. But we will end up with a high 30s.

In terms of cost management or commodity risk management this year, it's in the books. For next year, you have read that we have had some supply shocks in the commodity markets, first, in the soybean oil where soy acreage was given to corn. So we're going to have a supply shock in the soy market for the next year in the United States. And now that Russia did disregard the deal that they made in wheat, that is some noise that we're seeing.

So in terms of next year, I think we are okay until we know the planting intentions in the U.S. and after the South America crop passes. So I think we can buy some time until we continue buying soft commodities.

And in terms of exchange rate, well, you know that the fundamentals are for a stronger exchange rate. If we have a 10% drop in our exchange rate, we see that as a still stronger peso. So that will not have a big impact in our margin, as we discussed, with this range. Is that clear enough?

[Luis Yance, analyst]

Yes. That's super clear. And my last question is on capital allocation. Can you remind us how we should think about CapEx plans for this year? And on the working capital side, you mentioned the inventories demand, the resources for the build of the -- as for the second half.

So is it fair to assume as we go into the second half, you can assume that inventory become more efficient there? But also because of the lower commodity prices, perhaps we could still see for year-end a nice improvement on the working capital side as well?

[Gerardo Miguel, executive]

Yes. Well, that's the plan. I mean, we had a setback in the second quarter because sales were much lower than we were expecting, and we ended up with some inventory in hand. The plan -- and obviously, the second quarter is the slowest in our -- in terms of our seasonality.

So the plan is to lower that working capital in the mix in the back half of this year. And the plan would be to generate about MXN 1.5 billion in working capital and recover our setback of the second quarter.

And the idea on capital, on CapEx, I think we guided around MXN 1 billion. We will not get that. We will probably -- we would do 70%, 65%, 2/3 of that. And the plan is to pay down MXN 1 billion in the certificates that expire in November. So the idea is to lower our debt 10%.

[Luis Yance, analyst]

Great. That's super clear. And congrats again on the results.

[Operator]

The next question comes from Emiliano Hernández from GBM.

[Emiliano Hernández Marvan, analyst]

My first one is on MegaMex. Can you give more detail on the top line declining opportunity? Maybe I am looking at it wrong, but it seems that the U.S. consumers are kind of more sensitive to price increases, and there was some decline in volumes in the quarter. So what is the strategy there on top line for the coming quarters?

And also despite this, we have seen very impressive margin levels in the last 3 quarters. So the other question here is -- and I know there is some volatility with avocado prices, what margin levels for this business you see in the medium term? That will be my first question.

[Gerardo Miguel, executive]

Thank you. And again, I think there are a few companies in our space in the United States that have seen volume growth. As you mentioned, consumers are very sensitive. They do trade downs, and I think that's a phenomenon that we are seeing across the board.

As I said earlier, we will stop talking about inflation shortly, and we will talk about demand generation. So you can expect in both sides of the Río Bravo that we're going to be investing in promotions in order to incentivize demand in products, et cetera.

Same as you, we are very excited to see the gross margin improvement and the margin expansion. But as I mentioned, this is a margin recovery. Two years ago, our margins in MegaMex was, in this space, in this range. So we have a lot of volatility in terms of raw materials, particularly in the avocado price.

So I think that these margins, in the mid-teens for EBIT and in the high teens for EBITDA, are sustainable margins, okay? We are still growing in salsa in the United States. We are still gaining share in some categories, and we are very excited of the opportunities going forward.

So even though net sales are flattish in terms of dollars, we see tremendous opportunities going forward. And I think that having this rational -- SKU rationalization in Don Miguel and having Don Miguel in the breakeven range, we are ready to start investing again in MegaMex.

[Emiliano Hernández Marvan, analyst]

That's great, Gerardo. And a quick one, if I may. Can you give some color on Chilim Balam? Anything additional you could share on this business would be helpful. And also, how have you seen the integration so far?

[Gerardo Miguel, executive]

Well, Chilim Balam is a great brand. It's in the very heart of the Impulse in terms of the biggest candy store in Mexico. I think it's very concentrated in the center of the country, well, practically in the Mexico City metropolitan area.

I think we have opportunity to grow. I think we have opportunity to make new products that can cross channels, particularly in self-service. And I think there's a big opportunity to explore this brand in the United States. So it makes a lot of sense for our portfolio, and we think we can expand that distribution.

[Emiliano Hernández Marvan, analyst]

Perfect. And congratulations for the results.

[Gerardo Miguel, executive]

Wait. No plans to do that in the short term, okay?

[Operator]

[Operator Instructions] The next question comes from Álvaro García from BTG Pactual. The next question comes from Rodolfo Ramos from Bradesco BBI.

[Rodolfo Ramos, analyst]

Just a couple of questions. First one is a little bit of a follow-up on Luis' question. Just wanted to understand, when you think about more broadly speaking perhaps of economic activity in Mexico, it has continued to surprise on the upside. So this slowdown that you're seeing or an environment when you have to start thinking about incentivizing demand, it's a little bit surprising to me.

So just wanted to see if you can give us a little bit of color of what you're seeing right now and how you expect the consumer to behave in the second half of the year. And then I have a second question on the cost side, but I'll wait for your answer on this one.

[Gerardo Miguel, executive]

I think it's a very straightforward situation. I think that disposable income in the last 3 years in this country has grown. And I think that if you cross with entertainment, probably people are having probably more today than a few months ago. So I think this is temporary because of the nature of our business, and pantries have to be restocked.

So incentivizing demand is very interesting because you start doing promotions and bring consumption back. So this is not new. I think that one of the biggest is when there's economic shock, probably let's think about 1995, okay?

That is not the case here. The case here is that prices overall were not so quickly that there's some pause in consumption. But the economic environment, I think it's more positive than we have seen in the last 3 years. So we're going to keep our upbeat and see how that develops. What is your second question, Rodolfo?

[Rodolfo Ramos, analyst]

Yes. On the cost side, just wanted to get a sense of -- it's still early, but just wanted to get a sense of how exposed you would be to this potential law that might be starting -- getting discussed in September, reducing the work week. If you have a ballpark figure in mind of how that will impact?

[Gerardo Miguel, executive]

Yes. I mean obviously, that is more labor cost. So this would be another layer on top of our labor cost that we have had in the last 3 years. I mean this year, we have an impact on vacation that we agreed, but obviously, there is some impact in our labor cost.

So if this goes through, then we have to have more shifts, and we're going to be less efficient in our processing. I think it's too early to give a ballpark, but I guess that we will try to offset that impact with other efficiencies across the supply chain.

[Operator]

The next question comes from Álvaro García from BTG Pactual.

[Alvaro Garcia, analyst]

Gerardo and Andrea, can you hear me?

[Andrea Casillas, executive]

Yes.

[Alvaro Garcia, analyst]

Great. Just 2 quick questions on my end. One, if you could remind me the percentage of your costs which are dollarized, that would be helpful. And second, Gerardo, you mentioned better traffic at Nutrisa. Would you say that you're kind of -- that you found your sort of sweet spot from a pricing standpoint in Nutrisa where everything is up and to the right going forward? Or are you still sort of wait-and-see mode, and maybe you might have to invest a little bit more in price going forward?

[Gerardo Miguel, executive]

No. So firstly, Nutrisa, I think it's a sweet spot. But remember that ice cream -- the lower ticket is in our commercial portfolio, not in -- not the same as in ice cream. So I think we are now in the sweet spot. I think we need to work on our portfolio that is non-ice cream, non-frozen yogurt. And in terms of cost, it's 50% which was dollar-denominated.

[Alvaro Garcia, analyst]

Great. Great. And then just, I guess, one quick follow-up. You mentioned your CapEx is going to be lower for the year. Does that have anything to do with the stronger peso, maybe some dollarized CapEx there? Or is that just sort of you're not getting to certain projects on time?

[Gerardo Miguel, executive]

I think it's the second one. I think it's the second. We are [indiscernible]. The CapEx, that's very interesting. Our CapEx is related to manufacturing more products for MegaMex. So I think that the peso in that piece of the business is a headwind, but in the longer term, the economics look good for manufacturing environment.

[Operator]

This concludes the question-and-answer session. I would like to turn the conference back over to Gerardo Canavati for any closing remarks.

[Gerardo Miguel, executive]

Thank you for your participation on today's call. We look forward to speaking with you again next quarter, and please do not hesitate to contact us in the interim. Have a nice day.

[Operator]

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.