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kellogg  Q32008 Transcript  kellogg Q32008 Transcript Document Transcript

  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Q3 2008 Earnings Call Company Participants • Joel R. Wittenberg, Corporate Vice President, Treasury and Investor Relations • A.D. David Mackay, President and Chief Executive Officer • John A. Bryant, Executive Vice President and Chief Financial Officer; President, Kellogg North America Other Participants • David Palmer • Judy Hong • Andrew Lazar • David Driscoll • Chris Growe • Ken Zaslow • Eric Katzman • Bryan Spillane • Terry Bivens • Alexia Howard • Vincent Andrews MANAGEMENT DISCUSSION SECTION Operator Good morning and welcome to the Kellogg Company 2008 Third Quarter Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. [Operator Instructions] Thank you. At this time, I will turn the call over to Mr. Joel Wittenberg, Kellogg Company's Vice President of Investor Relations. Mr. Wittenberg, you may begin your conference. Joel R. Wittenberg, Corporate Vice President, Treasury and Investor Relations Thank you, Latonia [ph], and good morning everyone and thank you for joining us for a review of our third quarter results and for some discussion regarding our strategy and outlook. With me here in Battle Creek are David Mackay, President and CEO; John Bryant, Chief Operating and Financial Officer and Gary Pilnick, General Counsel. We must point out that certain statements made today such as projections for Kellogg Company's future performance including earnings per share, net sales, margin, operating profit, interest expense, liquidity, foreign exchange, cash flow, brand building, upfront costs and inflation are forward-looking statements. Actual results could be materially different from those projected. For further information concerning factors that could cause these results to differ, please refer to the second slide of this presentation as well as for our public SEC filings. A replay of today's conference call will be available by phone through Monday evening by dialing 800-964-4463 for both U.S. and international locations. The passcode is #5355644. The call will also be available via webcast, which will be archived for 90 days. Page 1 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Now let me turn it over to David. A.D. David Mackay, President and Chief Executive Officer Thanks, Joel, and good morning, everyone. We're pleased to report another strong performance for the third quarter. We achieved 9% reported sales growth and 7% growth on an internal basis, our highest quarterly internal growth rate in more than two years. Our success was driven by price realization, effective advertising and continued business momentum. Our growth was broad-based despite some weakness in several international markets. Earnings per share grew 17% to $0.89 versus last year's $0.76 due to our operating performance, lower upfront cost and fewer shares outstanding. We achieved the solid Q3 results, which were above their long-term targets despite the economic slowdown, commodity inflation and higher tax rate. Now continued momentum adds to our confidence that we will achieve another year of sustainable and dependable growth and demonstrates our ability to manage through volatile cost inflation. With our strong operating performance, we now anticipate full-year earnings per share at the high end of the $2.95 to $3.00 range. And now, I'd like to turn it over to John to discuss the financials. John A. Bryant, Executive Vice President and Chief Financial Officer; President, Kellogg North America Thanks, David, and good morning everyone. Slide four highlights our financial performance. As you can see, we exceeded our targets of interim [ph] revision, internal sales and mid single-digit operating profit growth, as well as high single-digit earnings per share growth. Reported sales increased by 9% in the third quarter, lapping last year's strong 6% growth. Internal sales growth, which excludes the effect of foreign exchange and our recent acquisitions, was 7%, building on last year's 4% growth. Both reported and internal operating profit rose 9% driven by our sales performance and this year's lower upfront cost investments offset for the highest quarterly inflation experienced in our history. Our third quarter earnings per share rose 17% to $0.89 compared to last year's $0.76 due to our strong operating performance, lower upfront cost and fewer shares outstanding, partially offset by a higher tax rate. Let's turn to slide five to discuss our third quarter net sales growth components. Reported sales increased by 9.5% in the third quarter lapping last year's 6% growth. Internal sales growth, which excludes the effect of foreign exchange and our recent acquisitions were 6.9%, building our last year's 3.8% growth. This represents our highest quarterly internal sales growth since the second quarter of 2006. Tonnage contributed 2.3% of sales growth, while our price and mix initiatives continue to flow through with solid 4.6% growth. Throughout 2008, we have demonstrated our ability to price to offset inflation pressures. Q3, the price component contributed approximately 3 points of net sales, which is ahead of last year's 1.5 points. Foreign exchange have less than a 1% impact on sales and our recent acquisitions added 2 points to sales growth in the third quarter. Overall we're very pleased with this year's sales performance. On a year-to-date basis, reported sales increased more than 10% and internal sales grew more than 6%. Let's turn to slide six to discuss our gross profit performance. Our gross profit for the quarter was $1.4 billion, a 5% increase on a reported basis versus the third quarter of last year. As you know, our focus is on gross profit dollars, as this is what allows us to continue to reinvestments in our business. On a year-to-date basis, gross profit was $4.2 billion, a 6% increase over 2007. Year-to-date gross profit margin declined by about 170 basis points to 42.6% consistent with our expectations. About half of the decline is due to our recent acquisitions and higher upfront investments in cost of goods, while the remaining decline is driven by commodity inflation, partially offset by additional project. Page 2 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Now let's turn to slide seven to discuss gross profit growth. Internal operating profit rose 9%, driven by 7% internal sales growth, cost savings and lower upfront cost offset by significantly higher commodity cost. Our North American business reported internal operating profit growth of 15% with lower upfront cost having a nice net impact. We are very pleased with this performance, which was driven by solid 9% sales growth and offset by significant cost inflation. Our European internal operating profit rose 3% versus last year as higher upfront cost reduced operating profit growth by more than 1%. In addition, higher commodity inflation had a negative impact on performance. In Latin America, the combination of softness in our top line, higher commodity cost and cost increases caused by Venezuelan Import restrictions resulted in a 10% decline in internal operating profit. And in Asia Pacific, internal operating profit increased by 55%, driven by 10% sales growth in a very strong performance in Australia partially helped by an advertising shift from Q3 to Q4. Below the operating profit line, we benefited from fewer shares outstanding and our tax rate was about 28% due to several discrete items in the quarter. We now expect the full-year tax rate to be approximately 30%. In addition, other income and expense resulted in income of $13 million and Q3 interest expense declined to $71 million. Let's turn to slide eight to review our advertising spending. At close to 9% of sale, our advertising investment remains significantly higher than the frequent average of about 5%. Our commitment to advertising investments is a key component of our strategy and our disciplined execution gives us the confidence that we will continue to achieve our goals. As previously discussed, we are also driving a series of initiatives across brand building to further improving the efficiency and effectiveness of lead investments in the new media environment. We began to see the benefits of these initiatives during the third quarter. Our spending declined slightly against last year's double-digit comparable growth. Effectiveness increased as evidenced by our strong sales performance. This slight decline in spend was driven by three items. First, a tough comparable. Second, timing in Australia as mentioned earlier. And finally, some initial efficiency gains. As we move forward, we will keep you updated on the progress of our efficiency and effectiveness initiatives. Let's move to slide nine to discuss cash flow. The third quarter's cash flow was $383 million, about even with last year's $392 million. Year-to-date cash flow was 893 million versus last year's $961 million. We continue to improve our co-working capital for the quarter. In fact, our cash conversion cycle improved by three days from the last year to an impressive 22 days. For full year, we still expect cash flow of 1 billion to $1.075 billion. Given the recent volatility in the financial markets, I also want to update you on our liquidity. We currently have about $1.5 billion of outstanding commercial paper, which is offset by approximately $700 million of cash on the balance sheet and backed by $2 million of bank lines that mature in 2011. We've maintained good access to the commercial paper market throughout the recent market disruptions and an extended maturity it's [indiscernible] another two-and-half years. I now would like to turn it back over to David for the business review. A.D. David Mackay, President and Chief Executive Officer Thanks, John. Continuing with slide 10, you can see our North American sales growth was a very strong 9% versus last year's 3% comparable. This growth was broad based across all their business units. And if we turn to slide 11, now, we can discuss each business units in more detail. And if we look at our North American cereal internal sales growth was 7% during the third quarter, which included strong growth in non-measured channel. We are obviously very pleased with the strength of the category and our performance this quarter, despite a higher level of competitive trade activity. We achieved strong price realization once again in Q3 and our price per pound in major channels rose by mid-single digits during the quarter in line with the category. A solid performance came from innovations like Mini-Wheats, and we saw a good performance from Special K Cinnamon Pecan, Raisin Bran, Crunch and Corn Pops. For the quarter Kashi's sales was double digits driven by GOLEAN Crunch!, I mean, in Flakes and Organic Promise. Our Canadian business continues to perform well, despite competitive conditions similar to the U.S. During Q3, we achieved solid growth and cash innovations, Mini-Wheats, Cinnamon and the Kashi [indiscernible] promotion. We're pleased to Page 3 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 achieve the strong third quarter, below [indiscernible] to relatively weak comp. And conversely, in the fourth quarter, we placed a tough 8% comparable and we expect shipments to be relatively flat versus last year. Let's turn to slide 12 to discuss the North American snacks performance. As you can see, our snacks business posted a very strong quarter with 10% sales growth versus last year's 5% comparable. And that success was driven by innovation, a second line of price increases and robust category growth. Let's turn to slide 13 to look at more detail on the quarter. Our Pop-Tarts business posted a solid quarter with high single-digit sales growth driven by higher blue box [ph] sales and price realization. We see a strong cracker performance resulted in IRI market share gain, and we delivered double-digit growth in Q3, driven by innovations like Cheez-It Duoz and Town House Flipsides. In addition, we continue to see good growth from both cracker and cookie portions in trial packs. Our cookie innovation remains strong, as we achieved low-single digit sales growth and gained IRI market share during the quarter. Also snacks sales grew at mid-single digit during Q3, and we achieved solid sales from Nutri-Grain, as well as innovations like Kashi, TLC Chewy Granola Bar, and Special K Bliss bars. Turning now to slide 14 to discuss our Frozen and Specialty Channels' performance. Frozen and Specialty Channels had another great quarter with sales rising 11% versus last year's 5% comparable. Third quarter sales included a slight trade inventory benefit due to the frozen food price increase taken light in Q3. We achieved double-digit frozen food sales growth due to the trends holding our [ph] food consumption, as well as strong innovation and advertising. Eggo sales grew double-digit, driven by strong price realization and innovations like Bake Shop Swirlz and Bake Shop Mini Muffin Tops. These successes resulted in more than a one point of IRI market share gain. Our Morningstar Farms Veggie Burgers and Veggie Country [ph] products posted strong sales for the growing season as well as our new hygiene Veggie curries, which were exceeding expectations at a percent of Kashi meal, once again we're double-digit driven by rising distribution of Kashi Frozen Entrees and Pizzas. Given the difficult away from home environment, we particularly pleased with our food service business, which exceeds high single-digit sales growth. You can see on slide 16 that our international sales grew 3% during the quarter versus last year's 5% growth. During Q3, the economic environment had a greater impact on the international business than on our North American business. We turn to slide 16, we can discuss this in further detail. In Europe we posted 3% internal sales growth for the quarter, and while we're pleased with our Q3 performance, the economic conditions across continental Europe in particular have become more challenging. A strong new category was driven by pricing, innovation, and category growth. In France, the trade inventory reduction resulted in Q3 shipment weakness however, this year is in market consumption as growing faster than the category resulting in market share gains in both cereal and snacks. European brands great Extra, Coco Pops, and Tresor performed well. Our European snacks business posted double-digit growth during the quarter with solid performance from Special K, Mini-Wheats, and Rice Krispies Squares. We see solid growth in Germany, Australia, Switzerland, [indiscernible]. In Latin America, internal sales declined slightly this quarter versus last year's very strong 12% growth. Sales in Mexico declined primarily due to the weaker economy and aggressive pricing by a largest competitor. Sales growth was strong in Brazil, Ecuador, Venezuela, Argentina, and Central America. Due to the weaker economic environment, we anticipate 2009 sales growth and closer to mid single-digits in Latin America. In Asia-Pacific, internal sales grew 10%, our Australian zero business grew mid-single digits driven by strong category growth and our prices [indiscernible] brand. In addition, our recent Special K advantage and [indiscernible] innovations performed well. We also achieved double-digit internal sales growth in South Korea, India, and South Africa. Before I turn it back over to John to review 2008 and 2009 preliminary guidance, I'd like to say a few words on slide 17 of that for year ahead and how we plan to adjust to the tough consumer environment and the slowing global economy. Clearly, they remind of the high degree of uncertainty about what lies ahead in this turbulent economy. It's important to Page 4 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 continue to manage task to help us in inflations and fund reinvestment in the business. We're doing sales through aggressive cost saving initiatives across three areas supply chain, [indiscernible], and brand building. First, we have a major new program focused on our manufacturing facilities under the banner of Kellogg Lean [ph], which spends lean, efficient, agile network. This program will ensure we are optimizing our manufacturing utilization producing waste and developing these practices across many of our global facilities. We'll hear more about Kellogg Lean as we progress through 2009 and we anticipate it will be our larger top front cost saving initiatives for the year. Secondly, we will continue to keep our eyes ahead as long as possible. And finally, as mentioned earlier our efforts to optimize our advertising and promotion efficiency and effectiveness are starting to be approved and should be near full implementation during the first half of next year. Ensuring, we continue to do our brand recognitions for the quality and added value is particularly critical in these tough economic times when private liable is likely to grow. Not only where we continue our drives the greater brand building efficiency, we also expect advertising spending will grow in line with [indiscernible] for 2009. Now I would like to turn it back to John on slide 18 to discuss our full-year 2008 and 2009 outlooks. John A. Bryant, Executive Vice President and Chief Financial Officer; President, Kellogg North America Thanks David. For the current year, we continue to expect mid-single digit revenue growth, [indiscernible] strong execution and continued price realization. Operating profit is still expected to grow at mid-single digits including cost of goods, cost pressure of 9%, as well as upfront cost savings investments of $0.14 per share. In addition, we anticipate a foreign exchange headwind starting in Q4, which will be largely mitigated by translational hedges in the fourth quarter. Despite a difficult trading environment, we are maintaining our full-year earnings guidance of $2.95 to $3 per share and we now have additional confidence if that earnings will be at the high-end of this range. Last, we want to update you on two housekeeping items. First, we will now finalize how we will use our fourth quarter's 52 weeks profits. We plan to use these profits to largely reinvest back into our recent acquisitions in Russia, China, Australia and U.S. Second, we expect a full-year net interest expense to be unchanged from 2007. Third, full-year tax rate is now expected to be approximately 30% versus our earlier expectations of approximately 31%. And finally, we do not plan to repurchase any shares during the fourth quarter. To summarize, we expect to continue to achieve our goals, deliver our targets and reinvest in the business despite high inflation. Let's turn to slide 19 to discuss our outlook for inflation. This slide highlights the high level of inflation we have experienced in recent years. Based on recent market declines in many commodity prices, some of you maybe anticipating a decline in our costs. Thanks to our aggressive hedging program in 2008, we avoided the full impact of commodity cost increases. Without these hedges, our inflation rate would have been even higher than the 9% shown on this chart. As hedges were also in 2009, we anticipate another step-up of cost pressure equation at approximately 5% of cost of goods. The commodities component of this inflation is skewed to Europe and Latin America for 2009. We have recently announced or executed pricing actions to cover this additional inflation. We have demonstrated an ability to manage our way through the high inflation and volatility. We expect to do this in 2009 through expanded savings programs as David mentioned earlier. Please turn to slide 20 for our 2009 outlook. We expect 2009 will be another year of sustainable and dependable performance. We will enter the year with momentum, yield by our business model and strategy. We have invested in our long-term growth through innovations, advertising, cost savings initiatives and acquisitions. Our forecast cost for internal sales to increase by mid-single digits. As we discussed, cost pressures will remain significant, but will moderate from 2008 levels to about 9% of cost of goods. We expect inflation to have a proportionally larger impact in Europe and Latin America. Page 5 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Overall, we expect gross profit margin to be about flat resulting in mid-single digit internal gross profit and mid-single digit internal operating profit growth year-on-year. We're realistic about the headwinds we faced in 2009, including additional inflation and the weaker economy. While the unprecedented strengthening of the U.S. dollar is also like the impact reported earnings per share, we are confident in our ability to deliver high-single digit EPS growth on a currency neutral basis next year. The recent volatility of the foreign exchange markets however make it difficult to forecast reported earnings per share. We will plan to update you regarding foreign exchange on future calls. Our guidance includes and assume tax rate of approximately 30 to 31% and fewer shares outstanding. A key driver of that confidence in our sustainable and dependable growth is an intensified focus on delivering cost savings, for productivity and efficiency initiatives. In addition, we will invest back into the business with upfront cost saving investments. Consistent with prior years, our 2009 forecast includes upfront costs of $0.14 per share. Now lot of this upfront investment for the year will be the Kellogg Lean manufacturing program. Along with that continued growth of our overhead cost control, these initiatives will go fox at the headwinds we face in 2009. Despite these challenges, our business model and strategy continue to give us the confidence that we will once again deliver another year of sustainable and dependable performance. Now, I'll turn it over to David. A.D. David Mackay, President and Chief Executive Officer Thanks, John. As we move into 2009, the pressure of the weak global economy on consumers and the additional volatility from an unprecedented depreciation of the U.S. dollar are adding up to another challenging year. We'll speak to our business model and strategy, reinvesting back into the business for future growth. This gives us continued confidence in our ability to deliver another year of sustainable and dependable growth. We will continue to aggressively manage risks by stepping up our focus on cost saving initiative, productivity gains and SG&A optimization. In particular, our focus on the Kellogg Lean manufacturing initiative will provide savings at our manufacturing cost and prices. This project just kicks off and will run through 2009. We will continue to invest in great innovation and effective advertising programs to keep consumers engaged in the world that brands and their benefits. In addition, we will drive our advertising programs across the globe for lower cost while delivering even more effective consumer brand building. All of these moves making the right investments, achieving price realization, focusing on cost saving initiatives and investing in future growth provide us with a confidence that 2009 will be another year of sustainable and dependable performance. As we move into the New Year, we will continue to address the issues we face and give you another update on our Q4 call. And now I would like to open it up for questions. Q&A Operator Thank you. We will now conduct a question-answer session. [Operator Instructions]. Our first question comes from David Palmer with UBS. Please proceed with your questions. <Q - David Palmer>: Hi, guys. One simple question, and that is about currency in the interconnection with commodities that I think this is the first time you're giving a constant currency guidance. But I'm wondering how we should think about to how that connects or I would assume with commodities and the outlook for that. In other words, a stronger dollar we coincide with year-over-year decline toward more than nine outlook for commodities and perhaps you would assume if we had a weaker dollar environment, how should we think about that? On the phase that I would assume that you would choose to have a raised or a firm dollar and less inflation that perhaps there are some other tiny things going on here where you haven't done certain hedges on currency, but you have on commodities that might be Page 6 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 shaping your outlook for '09? <A - Joel Wittenberg>: Okay. David, I'll let John take the effects and then I'll come back and talk a little bit about commodities. <A - John Bryant>: Just to clarify in foreign exchange is, it couldn't turn back and look at our business, certainly the internal mid single-digit sales growth and profitable forecast we get, give you a sense that our business is doing well. But key point, David, is doing some unprecedented moves in foreign exchange, and to leave us in two markets, the transactional and a translation impact of foreign exchange. The transactional, just gives an example, be an export product from the U.S., the Canada, the Canadian dollar is the value by 20%. So obviously products going to Canada cost more. That sort of impact of foreign exchange we can price away in the market place. The translation impact though that the profits in Canada now translated a 20% less in U.S. dollars that's something that we can't trace away. If you think about the size of the translation issue that we have, you look at the operating profit from an international business plus Canada that 40 to 45% and the company's total operating profit. And quite frankly, we have a lower tax rate outside the U.S. and inside the U.S., so more in a ballpark of 50% of net income. And we've had 10 to 20% move in foreign exchange, then you can see a 10-point impact on EPS. So the size and magnitude of the movement is quite substantial. <A - A.D. David Mackay>: Just as we provide [indiscernible] on FX. Our FX were currently 1 to 2% EPS impact, we wouldn't be having this conversation, but simply observe it into our guidance. But it's clear the volatility in FX is unprecedented. To be quite frank, we've got no clue what impact will be January 2009, just yesterday in one-day the U.S. dollar weakened roughly 3% than most global currencies. So, we remain confident in our business model ability to deliver sustainable and dependable results and we will keep you updated on this with another review in January and February. But on the commodity side, David, to your question there, as you are aware when you look at cogs inflations and cost inflation is very complex, a lot of puts and takes, we've said that the next year we expect our cost of goods to rise 5%, of that roughly half is factory expense wider than benefits. That's relatively consistent with what we've had over the last five to 10 years. The balance is a combination of packaging energy and commodity inflation. As we said on the call, we have some positive '08 hedges that well off to '09 and while our stock prices are down in some commodities, if you look at stock prices on things like sugar and rice 2009 versus 2008 they're up in aggregate of between 40 and 50%. You got packaging inflation which is hardly energy sensitive in tends to lag the market by anything up to six months. So we will not see the benefits that reduce the energy input cost there for probably six months until the second half. And as we have told you in the past the Kellogg's like most other FMCG companies since the lag of pricing versus inflation that to an extent we are still catching up to the allied cost, net net cost will be up year-on-year in 2009 when you look across the entire basket. <Q - David Palmer>: Okay, I will stop there, thank you. <A - John Bryant>: Thanks. Operator Our next question comes from Judy Hong with Goldman Sachs. Please proceed with your question. <Q - Judy Hong>: Thanks, good morning everyone. <A - A.D. David Mackay>: Good morning, Judy. <Q - Judy Hong>: John, just a follow-up on currency, you said the fourth quarter you had translational hedges in place that is not impacting the fourth quarter outlook. Do you have any hedges in place for '09 at this point? <A - John Bryant>: That is all we have with translational hedging, if we don't get hedge accounting for that, we actually have to mark that to market, each month, you might know the third quarter results that other income expenses about 13 million those of other income. The reason for that – one of the reasons for that is within the third quarter and Page 7 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 we had the mark-to-market. Our fourth quarter translation oriented is actually two pennies a good news in Q3 because of those hedges and what I actually mean that who aren't get those benefits in Q4. If we would hedge after 2009, then we just – even more volatility into 2008 P&L. That's on transnational, obviously on transactional, we do have hedging in place in different degrees, in different markets around the world already for 2009. <Q - Judy Hong>: Okay. And then David, as we think about your efforts to optimize your marketing and efficiency, I'm just trying to get a better perspective on your confidence level in maintaining your sales or share momentum. We've seen some of your competitor taking advertising up comp and as you think about your total marketing, spending market and as you optimize the level of the pending. In terms of how you think about that in an absolute basis and then as you think about optimizing both of your competitors and may be thinking it up on a macro basis? <A - A.D. David Mackay>: Judy, it looks like no one is confused. We're still planning to strike the number of impressions that we have it against our brands up year-on-year for 2009, which as of next year we will be striking out screened up mid-single digit. And remember, if we drive these efficiency gains, then we'll be getting more impressions for lower cost, but yet with hiking investment up mid-single-digit for 2009. So anyone who makes the wrong assumption with trimming our brand building support is not getting the message. The message is pretty clear we are one of the highest vendors on advertising information in the food category at around 9% of net sales. We think that gives us a strategic advantage versus our competitors. Well, I'm trying to catch up, but it also is important for us is the company to recognize broadly a billion-dollars in spend there that there are opportunities to improve the efficiency and effectiveness to that spend to make sure that our brands remain vital and strong and that's exactly what we intend to do going forward. <Q - Judy Hong>: Okay. Thank you. Operator Our next question comes from Andrew Lazar with Barclays Capital. Please proceed with your question. <Q - Andrew Lazar>: Good morning everyone. <A - A.D. David Mackay>: Good morning, Andrew. <Q - Andrew Lazar>: To start a quick one, it's a little out of the scope, I guess, over the quarter itself, but it's quite that perhaps to get sort of leading a charge to change sort of the course [indiscernible] box size and integration. I guess that's already changed on our number. Packaging and shipping, and pricing maybe a shorter quarter box. I guess the compassion maybe enlarging surgeon [indiscernible] and if it is, you know, that meant to put Kellogg had a competitive advantage or by changing like the price per ounce so the unit in sort of profit metrics, or is that fair to same and its truly more about obviously the efficiency side and as the consumers perception of value change if the box size configurations sort of changes? <A - A.D. David Mackay>: Yeah, Andrew, what you are talking at there something that we're playing around very much is part of our environmental sustainability drive. As a company we've always had a strong history of trying to leave a positive footprint wherever we compete, we think we need to step that up, we have a number of initiatives going on, looking at how we can make positive changes in what we do to improve our footprints and to drive efficiency and effectiveness. It's too early to say any more than that. And helpfully, once we have more consumer learning, we will see with that tax. <Q - Andrew Lazar>: Okay. And then is pricing that you had to take more overseas now, given us some from where the inflation is coming from, is that a tougher charge than we have seen in the U.S. where it's obviously going through quite successfully for you and for the industry? <A - A.D. David Mackay>: I think that the credit of that retail partners, they always like to understand this pricing that we are taking justified and we work very closely with them both in North America and internationally to claim what's going on because quite often not unnecessarily have a clear picture is we like them to have. And as we do that clearly Page 8 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 the understanding, I think in this tough economic time, there is no doubt people would rather there wasn't any inflation, but unfortunately even though I think that moderated and if you look at the some of the commodities that they're coming down, as we've said in the call obviously the next year is going to be outside. So, on pricing, we're taking the actions we need we think that our brands is strong enough and we think it is necessary to offset inflation that we are having. <Q - Andrew Lazar>: Thanks very much. <A - A.D. David Mackay>: Thanks. Operator Our next question comes from David Driscoll with Citi Investment Research. Please proceed with your question. <Q - David Driscoll>: Thank you, good morning everyone. <A - A.D. David Mackay>: Hi, David. <Q - David Driscoll>: Two items on the line here. First one is back on the commodity side, John or David, can you guys comment on how your competitors and your private label may be most importantly is positioned is kind of historically within the commodities? And what I am really trying to drive at lot of folks are looking at these commodity prices and expecting them to be down. If you guys were benefiting in 2008 from lower and stock price numbers because of good hedge that you put on in '07, then the question is after benefiting '08 but of course it turned out to be a negative in '09 as inflation catches up with you and hedges were low, thus the competitive position of Kellogg, is it at a disadvantage in '09 because you have competitors who are on a spot basis? <A - A.D. David Mackay>: David, it's virtually impossible for us to comment on what competitors are doing and I think it's probably very much a mixed bag. But as we look at 2009, and will look at our 2009 hedges, we believe we're currently, slightly favorable to the accounts stock prices. So as we have talked about hedges to investors, there is always good news and bad news and you don't want too much of either because we can't have a dramatic impact year-to-year. I think we're pretty well placed. And as I said our hedges, we believe are currently slightly favorable to current stock prices as we look at 2009. <Q - David Driscoll>: My final question is what comment can you make to us about the effects of Wal-Mart efforts to increase private label penetration, how significant is this for Kellogg in 2009 certainly in light of the fact that non-measured channels have been such a strong component of the growth here in '08? <A - A.D. David Mackay>: Yeah, I think the first thing to remember when you're thinking about the private label is that from a Kellogg perspective, we are in categories and we have products that represent great value, our private label typically have lot of relative shares because of the strength in our brands and the value proposition that we demonstrate. Across the world the categories in which we compete are growing and growing strongly. After this net number one and number two, both are out preferred and I think if the – we remain very positive with our ability to grow the business going forward. If you look at Q3, I think it's the solid example of that with 7% internal growth and our base depends against private label is to play our game, strong innovation and brand building. That we are being pragmatic is we sit on the call, private label growth in the recessionary environment is likely that some consumers are going to have little choice in fact to price down. But again our categories are growing, now we feel our brands are strong, we're going to keep playing our game and as you may have seen we had a campaign starting on October that try to help consumers understand the great value that ready-to-eat cereal represents on a per serving basis <Q - David Driscoll>: Great, thanks for the comments. <A - A.D. David Mackay>: Thanks. Page 9 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Operator Our next question comes from Chris Growe with Stifel Nicolaus. Please proceed with your question. <Q - Chris Growe>: Hi, thank you, good morning. <A - A.D. David Mackay>: Hi Chris. <Q - Chris Growe>: Hi. I have questions first in relation to your price increase you mentioned Europe and Latin America, two areas are taking pricing, this is one of the rare quarters sort of Latin America has been a little weaker competitive dynamic maybe challenge you that, so is the price increase with the category in Latin America that's going to be more challenging environment for you in 2009, you mentioned little bit of sales growth for the year? <A - A.D. David Mackay>: Yeah, I think when you look at Q3 for Latin America we mentioned Mexico was actually down. We did have a very tough comp across whole of Latin America were plus 12, and that was true for Mexico as well. We are seeing the Mexican economy slowing a little, but the key issue perhaps in Q3 on the top line was a very aggressive competitive activity that the court is a little half guard. As we look at Q4, we'd expect the back around mid-single digit and we did the reflect that the 2009 with more pressure across a number of the Latin American markets, so that forecast would be around low mid single-digit when it have been historically a little higher and that is just a pragmatic view reflecting that the some consumers across those markets will be under a little pressure. <Q - Chris Growe>: Okay. And then I had just one more question. It's just in relation to we are seeing significant growth in alternate channels obviously and IRI's becoming less predictive of your business. I wonder if you could comment on your success in the quarter of alternate channels? And related to that is there any inventory trading for reductions that you're seeing or feeling or you can turn out in the fourth quarter just given the environment we're in there today? <A - A.D. David Mackay>: On alternate channels, I think it's true, you're seeing growth that are low across all retail category. Our categories are growing if you look at our IRI share performance, they probably does understate how we're doing if you look at all channels because in all channels we probably grew 3 or 4% the categories. For example grew probably 5 or 6, we didn't lose about few tens of shares, but the category is growing strongly. So I think a number of the all channels actually do well, but I don't think you see a significant big reduction in the normal retail business. Then the second part of the question, Chris, what it was? <Q - Chris Growe>: You said that the trade inventory decline, are there any concerns that in just in the environment we're in today? <A - A.D. David Mackay>: I mean, I think as we've looked to that trade inventories relatively consistent year-on-year, we did mention in the call that we took a price increase on late Q3. So our anticipation would be that we've got some incremental shipments in Q3 that will come out in Q4 as inventories readjust. And I think retailers are being very cautious on inventory level that we also have managed inventory with well over 50% of our customers, so we've been working very closely to keep our inventory relatively tight, so well it could be a little bit of an issue, I don't feel it's being significant. <Q - Chris Growe>: Okay. That's great. Thanks for the time. <A - A.D. David Mackay>: Thanks. Operator Our next question comes from Ken Zaslow with BMO Capital Markets. Please proceed with your question. <Q - Ken Zaslow>: Hi, good morning every one. <A - A.D. David Mackay>: Hi, Ken. Page 10 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 <Q - Ken Zaslow>: If I just got to – back for a second, would you say that the over locking [ph] environment for package food and for Kellogg is better or worse than it would be last year? <A - A.D. David Mackay>: I think it's not changed dramatically, I mean, they only – issue with what I mentioned earlier, if you take a pragmatic view on where we are from a economic strength, weakness perspective there will be some consumers whom might have call, might have no choice, but to try down. That's the view, as we look at 2009, as we take that view we're also looking at what programs and tips we can make to keep our brands front and say that and to make sure that within inflating the value of everything we do. The great things news is, if you look at Q3, is I believe the U.S. economy has been weak through the bulk of Q3, we have very strong growth, our categories were strong. We did pretty well in most of those categories, some very well, some not so well, but still well. So I don't actually think that the dynamic have changed – and the one benefit I think all of this will get, if we don't have the massive food service business depended on [indiscernible] meal is that added on consumption is declining – has declined through, I think the last three or four months and our anticipation would be that will be a continuation of that through 2009. So you've got some slight negatives with the negative impact on consumers, in our ability to buy all branded goods and we have some slight positives with the probably greater propensity for renowned consumption, which will certainly help that business. Net-net, we seem to still the balancing off, so we don't see a massive change. <Q - Ken Zaslow>: Okay. And if [indiscernible] is were to follow-up, would you be able to keep whatever price increases you have pass through or did you price and – did you price the add-on behind, I mean some of your prices behind it right now are ahead though, it should be pretty sticky. Is that fair and then I'll let it go? <A - A.D. David Mackay>: As we've said consistently and I think we're not the only company. We typically lag inflation in that processing and especially when it's volatile as it's been because you make a forecast, you price the trend, cover that and would be in long for the last 18 plus months, and even as we look at 2009, our Kellogg's inflation is forecast to be around 5%, albeit that half of that is really pension wages affect the expense, which is fairly consistent. But the other half is a mismatch of commodities and energy and packaging and various inflation hitting at different levels around the world, we did say on the call that Europe and Latin America, we are seeing a disproportion a large percentage on their commodity inflation coming in those two areas a variety of reasons. <Q - Ken Zaslow>: So we shouldn't expect to see lower cookies or cereal or cracker pricing in my own home grocery? <A - A.D. David Mackay>: I would think not on an ongoing basis, we will ensure we will find a way to [indiscernible]. <Q - Ken Zaslow>: Great, thank you. Operator Our next question comes from Eric Katzman with Deutsche Bank. Please proceed with your question. <Q - Eric Katzman>: Hi, good morning everybody. <A - A.D. David Mackay>: Hi Eric. <Q - Eric Katzman>: I guess I have a question on the – why inflation and input lag in EU and Latin America, it seems in this time with information moving so quickly I don't understand why there will be such a lag there. And then doesn't that quick your forecast more at risk that you're taking pricing in those markets because of that lag into what appears to be a much weaker consumer in the EU and I suppose Latin America as well? <A - A.D. David Mackay>: Eric, I think that's why we've called our 2009 view on Europe at low-single digit and Latin America and its sales around on mid-single digit. So, we are anticipating a little bit of a passing there. You do have some situations for example rice is up dramatically year-on-year. And in the EU in particular, there always have been a lag affect and given the volatility and what's been going on in the commodity market, some of that still flowing through in Europe in particular. Page 11 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 <Q - Eric Katzman>: As you look at the forecast probably, we all understand how much that is moving around because we're experiencing that everyday too. <A - A.D. David Mackay>: Yeah. <Q - Eric Katzman>: Is that the greatest in terms of your view risk to your forecast in terms of how that consumers behave in EU and Latin America vis-a-vis this price move? <A - A.D. David Mackay>: We hope we have reflected it in the way we have given guidance for 2009 as we have said, we have few changes as we given to Jan-Feb, we will give an update. At this point, we think we've taken a pragmatic view that across continental Europe in particular things would slow a little bit just because of what's going on markets like Spain and Italy, and Latin America and if we get any greater intelligence and we thought we have – we will update our forecast and give you better visibility, but that as we look at going forward that's our current view, Eric. <Q - Eric Katzman>: Okay. I'll pass it on. Thank you. <A - A.D. David Mackay>: Thanks. Operator Our next question comes from Bryan Spillane with Banc of America Securities. Please proceed with your question. <Q - Bryan Spillane>: Hi good morning. Just a quick clarification in the outlook for '09, you mentioned your shares outstanding, is that predicated on starting share repurchases again in '09? Or is that just based on what's been done in the past? <A - A.D. David Mackay>: Well, it's a great question as you sit back and look at our potential uses of cash in 2009, obviously we're going through a fairly volatile period right now on the financial markets, but we want to be quite flexible and how we think about this. And the couple of different options for us, one is that we can continue to pay down debt. As we said in the prepared remarks, we have got $1.5 billion commercial pay per program, certainly $100 million in cash backed up by $2 million credit facility. So we feel good about our liquidity, but if situation does improve that's always an option for us. And other thing we need to keep looking at is our pension status whose historically being very well funded against the pension, as you would expect our assets have a pretty good equity allocation and those assets to come down this year. Well, I don't see any mandatory funding requirements for 2009. We would certainly historically, going ahead of this with voluntary contribution is something else that we would look at. And being said all that, our long-term intend is to return cash to shareholders well over last three or four year, that was our long-term plan going forward and as soon as we've constructed our outlook for 2009, we still have that $500 million share buyback recurring in the first half of '09, that's what getting at that lower shares outstanding. But having said all that again, one step back from the '09, usage of cash and just dragged it we're going to see how the markets develop over the next two or three months and they come back in January and provide more specific guidance in this area, but clearly with the comp volatility, which is need to stay very flexible. <Q - Bryan Spillane>: Okay great. Thank you. Operator Our next question comes from Terry Bivens with J.P. Morgan. Please proceed with your question. <Q - Terry Bivens>: Hi good morning everyone. <A - A.D. David Mackay>: Hi, Terry. <Q - Terry Bivens>: You know obviously you guys are doing pretty well that Wal-Mart we heard kinds of same thing from crap [ph] this morning. But you know kind of a shaggy dog question here, we've seen some prime time ad's that Page 12 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 basically say if you buy your Kellogg cereal with Wal-Mart you save exact time. But it looks quite a bit of money on the yearly basis. And I'm wondering about those – what kind of role those play in your results at Wal-Mart maybe it's too early there, but also orders classify, would you classified such ads as trade promotion or will that bill under advertising? <A - A.D. David Mackay>: Hi, Terry. Just to clear that up, we ran a Kellogg campaign demonstrating the value of Kellogg's cereals at $0.50 a bowl with milk. We paid for that Kellogg advertising. And Wal-Mart has been constantly pushing their angle as being the retailer that gives the best value may pay for the advertising that I think featured an array of Kellogg products and suggest that the consumers could save [indiscernible]. <Q - Terry Bivens>: Yeah. That's the one I'm thinking of that, Dave. <A - A.D. David Mackay>: That's an ad that they ran, we didn't pay for it, no doubt and Wal-Mart is helping our business, we would hope so and I am sure they would too. But the campaign we ran was stating the value of [indiscernible] at $0.50 bowl. <Q - Terry Bivens>: Okay, but with regards to Wal-Mart, would you do anything in terms of trade promotion in connection with those ads that had strictly them? <A - A.D. David Mackay>: I mean we try to deal with all of our trading partners on an equal basis. And the big important customer, we value everything we do to give that but that was an initiative that Wal-Mart chose to run and we thank them for the support. <Q - Terry Bivens>: Okay, just one quick one. What did you say to U.S. cereal category was strong at? <A - A.D. David Mackay>: Yeah, if you look at all channel is 5 to 6%, if you look at IRI for the quarter it's showing 3.4. But typically we had add 2 to 3%. So we're saying 5 to 6, all channels for the category. <Q - Terry Bivens>: Okay, terrific. <A - A.D. David Mackay>: Okay. <Q - Terry Bivens>: Thank you. <A - A.D. David Mackay>: Thanks, Terry. Operator Our next question comes from Alexia Howard with Sanford Bernstein. Please proceed with your question. <Q - Alexia Howard>: Hello, Dave. <A - A.D. David Mackay>: Hi, Alexia. <Q - Alexia Howard>: Just a real quick one. In terms of actions you mentioned that the commodity pressures were at the peak this quarter, another loss turnaround we spoken, you mentioned on the last earnings call that I think that were $0.24 in the second quarter, $0.15 in the first quarter, can you give numbers to how much it were this quarter and you're still expecting $0.90 for the full year? <A - A.D. David Mackay>: Alexia, we're still in the ballpark of $0.90 for the full year, we still have 30% of that come through in the third quarter. So you are around in the $0.27 to $0.30 for the quarter. <Q - Alexia Howard>: Okay, great, thank you very much. <A - Joel R. Wittenberg>: Latonia, we'll take one more question please. Page 13 of 14
  • Company Name: Kellogg Market Cap: 19,368.62 Bloomberg Estimates - EPS Company Ticker: K US Current PX: 51.05 Current Quarter: 0.571 Date: 2008-10-29 YTD Change($): -1.38 Current Year: 2.998 Event Description: Q3 2008 Earnings Call YTD Change(%): -2.632 Bloomberg Estimates - Sales Current Quarter: 3123.467 Current Year: 12985.235 Operator Okay. Our last question comes from Vincent Andrews with Morgan Stanley. Please proceed with your question. <Q - Vincent Andrews>: Thank you. Just a quick one. Dave, you referenced a couple of times a high level of competitive trade activity and I think you already mentioned in terms of geographies, could you just characterize that a little more for us and tell us whether is it continuing into the fourth quarter? <A - A.D. David Mackay>: Our reference – the two references, one was Mexico, which I think, we've just a quarterly phenomenon and then the other was U.S. cereal and I think again we had a major competitor who year ago had gone through a major change in the box size though and we promise when you look at this year, they chose the opportunity to support their business strongly. We don't believe that that something that they'll do on an ongoing basis that's clearly in [indiscernible], but it certainly do have an impact as you look at the [indiscernible] deal in the quarter, but again having said that we still did pretty well and the category did very well. So not a major issue just variable fair results for the quarter. <Q - Vincent Andrews>: Okay. Just how does the U.S. issue was very much like it was last quarter and then I guess [indiscernible]. Thanks a lot. <A - A.D. David Mackay>: Thank you. Operator We'll like to turn the call back over to Mr. Joel Wittenberg for closing comments. Joel R. Wittenberg, Corporate Vice President, Treasury and Investor Relations Thanks very much. We want to thank you for participating in today's call and for your continued interesting comments. Have a good day. Operator This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation. This transcript may not be 100 percent accurate and may contain misspellings and other inaccuracies. This transcript is provided quot;as isquot;, without express or implied warranties of any kind. Bloomberg retains all rights to this transcript and provides it solely for your personal, non-commercial use. Bloomberg, its suppliers and third-party agents shall have no liability for errors in this transcript or for lost profits, losses, or direct, indirect, incidental, consequential, special or punitive damages in connection with the furnishing, performance or use of such transcript. Neither the information nor any opinion expressed in this transcript constitutes a solicitation of the purchase or sale of securities or commodities. Any opinion expressed in the transcript does not necessarily reflect the views of Bloomberg LP. © COPYRIGHT 2008, BLOOMBERG LP. All rights reserved. Any reproduction, redistribution or retransmission is expressly prohibited. Page 14 of 14