SUBSCRIBE TO TMCnet
TMCnet - World's Largest Communications and Technology Community

TMCNet:  HEINZ H J CO - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

[December 11, 2013]

HEINZ H J CO - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

(Edgar Glimpses Via Acquire Media NewsEdge) The Merger The H.J. Heinz Company has been a pioneer in the food industry for over 140 years and possesses one of the world's best and most recognizable brands - Heinz ®. The Company has a global portfolio of leading brands focused in three core categories, Ketchup and Sauces, Meals and Snacks, and Infant/Nutrition.


On February 13, 2013, the Company entered into the Merger Agreement with Parent and Merger Subsidiary. The terms of the Merger Agreement were unanimously approved by the Company's Board of Directors on February 13, 2013 and by the majority of votes cast at a special shareholder meeting on April 30, 2013. The acquisition was consummated on June 7, 2013, and as a result, Merger Subsidiary merged with and into the Company, with the Company surviving as a wholly owned subsidiary of Holdings, which is in turn an indirect wholly owned subsidiary of Parent. Parent is controlled by the Sponsors. Upon the completion of the Merger, the Company's shareholders received $72.50 in cash for each share of common stock. The total aggregate value of the Merger consideration was approximately $28.75 billion, including the assumption of the Company's outstanding debt. The Merger consideration was funded through a combination of equity contributed by the Sponsors totaling $16.5 billion and proceeds from long-term borrowings totaling $12.6 billion. The Company's capital structure is further discussed under Liquidity and Financial Position.

Purchase Accounting Effects. The Merger was accounted for using the acquisition method of accounting which affected our results of operations in certain significant respects. The Sponsors' cost of acquiring the Company has been pushed-down to establish a new accounting basis for the Company. Accordingly, the accompanying interim consolidated financial statements are presented for two periods, Predecessor and Successor, which relate to the accounting periods preceding and succeeding the completion of the Merger. The allocation of the total purchase price to the Company's net tangible and identifiable intangible assets were based on preliminary estimated fair values as of the Merger date, as described further in Note 2 to the Financial Statements. In addition to the transaction related expenses discussed further below, the following are reflected in our results of operations for the three month Successor period ended October 27, 2013 (the Three Month Successor period) and the Successor period from February 8, 2013 to October 27, 2013 (the Year-to-Date Successor period): • The preliminary purchase accounting adjustment to inventory resulted in an increase in cost of products sold of approximately $38 million and $383 million, respectively, as those products were sold to customers during the period subsequent to the Merger.

• Incremental amortization of approximately $14 million and $18 million, respectively, on the step-up in basis of definite-lived intangible assets which was included within cost of products sold.

• Incremental interest expense of $91 million and $164 million, respectively, related to new borrowings under the Senior Credit Facilities and the Notes issued in a private offering, in connection with the Merger.

• The purchase accounting adjustment to deferred pension costs resulted in a decrease in pension expense of approximately $9 million and $13 million, respectively, which was primarily reflected in cost of products sold.

• The purchase accounting adjustment to deferred derivative gains related to foreign currency cash flow hedges resulted in an increase in cost of products sold of approximately $9 million and $11 million, respectively.

• We recognized a gain of $118 million on interest rate swap agreements entered into by Merger Subsidiary prior to the Merger to mitigate exposure to variable rate debt that was raised to finance the acquisition. These agreements were not designated as hedging instruments prior to the Merger date, and as such, we recorded the gain due to changes in fair value of these instruments, and separately reflected in the accompanying statement of operations. As a result of the Merger and the transactions entered into in connection therewith, we have assumed the liabilities and obligations of Merger Subsidiary. As of the Merger date, these interest rate swaps were designated as cash flow hedges of the variable interest payments on the term notes issued in connection with the Merger, with changes in fair value of the derivatives reflected in other comprehensive income from that date forward.

Transaction Related Expenses. During the Three Month Successor period and the Year-to-Date Successor period, the Company incurred $7.5 million and $157.9 million, respectively, in Merger related costs on a pretax basis, including $9.6 million and $70.0 million, respectively, consisting primarily of advisory fees, legal, accounting and other professional costs. The Company also incurred $87.9 million during the Year-to-Date Successor period related to severance and compensation arrangements pursuant to existing agreements with certain former executives and employees in connection with the Merger. These amounts are separately reflected in the accompanying statement of operations for the Successor period.

36 -------------------------------------------------------------------------------- Prior to consummation of the Merger, the Company incurred $112.2 million of Merger related costs, including $48.1 million resulting from the acceleration of expense for stock options, restricted stock units and other compensation plans pursuant to the existing change in control provisions of those plans, and $64.0 million of professional fees. These amounts are separately reflected in Merger related costs in the accompanying statement of operations for the Predecessor period. The Company also recorded a loss from the extinguishment of debt of approximately $129.4 million for debt required to be repaid upon closing as a result of the change in control which is reflected in Other (expense) income, net, in the accompanying statement of operations for the Predecessor period.

Change In Fiscal Year. On October 21, 2013, our board of directors approved a change in our fiscal year-end from the Sunday closest to April 30 to the Sunday closest to December 31. The Company's Form 10-Q for the quarter ended October 27, 2013 will be the last interim filing under the old fiscal year, and the Company will file a Transitional Report on Form 10-K for the eight months ended December 29, 2013. The Company will subsequently file its quarterly and annual reports for the new fiscal year ending December 28, 2014.

Executive Overview During the second quarter of Fiscal 2014, the Company's total sales were $2.72 billion, compared to $2.82 billion for the second quarter of Fiscal 2013. The decline in sales was principally due to unfavorable foreign exchange translation rates which decreased sales by 2.2% and a decrease in volume of 1.5% as favorable volume in emerging markets was more than offset by declines in developed markets. Volume in the current quarter was unfavorably impacted by category softness and the continuation of the strategic decision to realign promotional activity in the U.S. and U.K. Net pricing increased sales by 0.4%, driven by price increases in Brazil, Indonesia and the U.K.

In the second quarter of Fiscal 2014, gross profit, operating income and net income have been significantly impacted by Merger and restructuring related costs and expenses. In addition, for the Successor period, the effects of the new basis of accounting resulted in increased non-cash charges to cost of sales for the step up in inventory value, increased amortization expense associated with the fair value adjustments to intangible assets and the increased borrowings to fund the Merger resulting in higher interest costs compared to prior year quarter. See The Merger and The Results of Operation sections for further information on the Merger related costs and expenses and further analysis of our operating results for the quarter.

Fiscal 2014 Restructuring and Productivity Initiatives During Fiscal 2014, the Company is investing in restructuring and productivity initiatives as part of its ongoing cost reduction efforts with the goal of driving efficiencies and creating fiscal resources that will be reinvested into the Company's business as well as to accelerate overall productivity on a global scale. As of October 27, 2013, these initiatives have resulted in the reduction of approximately 2,000 corporate and field positions across the Company's global business segments as well as the closure and consolidation of manufacturing and corporate office facilities. Including charges incurred as of October 27, 2013, the Company currently estimates it will incur total charges of approximately $300 million related to severance benefits and other severance-related expenses related to the reduction in corporate and field positions and the ongoing annual cost savings is estimated to be approximately $250 million. The severance-related charges and cost savings assumptions that the Company expects to incur in connection with these work force reductions are subject to a number of assumptions and may differ from actual results. The Company recorded pre-tax costs related to these productivity initiatives of $199 million in the Three Month Successor period, $201 million in the Year-to-Date Successor period and $6 million in the Predecessor period which were recorded in the Non-Operating segment. See Note 4, "Fiscal 2014 Productivity Initiatives" for additional information on these productivity initiatives. There were no such charges in the second quarter and first half of Fiscal 2013.

On November 14, 2013, the Company announced the planned closure of 3 factories in the U.S. and Canada by the middle of calendar year 2014. The number of employees expected to be impacted by these 3 plant closures and consolidation is approximately 1,350. The Company currently estimates it will incur total charges of approximately $63 million related to severance benefits and other severance-related expenses related to these factory closures. In addition the Company will recognize accelerated depreciation on assets to be disposed of. The ongoing annual cost savings is estimated to be approximately $55 million. The severance-related charges and cost savings assumptions that the Company expects to incur in connection with these factory workforce reductions and factory closures are subject to a number of assumptions and may differ from actual results. The Company may also incur other charges not currently contemplated due to events that may occur as a result of, or related to, these cost reductions.

37--------------------------------------------------------------------------------Discontinued Operations During the first quarter of Fiscal 2014, the Company completed the sale of Shanghai LongFong Foods, a maker of frozen products in China, resulting in an insignificant loss which has been recorded in discontinued operations in the Successor period.

During the first quarter of Fiscal 2013, the Company completed the sale of its U.S. Foodservice frozen desserts business, resulting in a $32.7 million pre-tax ($21.1 million after-tax) loss which has been recorded in discontinued operations.

The operating results related to these businesses have been included in discontinued operations in the Company's consolidated statements of income for all periods presented. The following table presents summarized operating results for discontinued operations: Second Quarter Ended Successor Predecessor October 27, 2013 October 28, 2012 FY 2014 FY 2013 (In millions) Sales $ - $ 5.7 Net after-tax losses $ (3.9 ) $ (4.6 ) Tax benefit on losses $ - $ - Successor Predecessor February 8 - October April29 - June 7, Six Months Ended 27, 2013 2013 October 28, 2012 FY 2014 FY 2014 FY 2013 (In millions) Sales $ 2.9 $ 1.2 $ 15.9 Net after-tax losses $ (5.6 ) $ (1.3 ) $ (12.3 ) Tax benefit on losses $ - $ - $ 0.6 THREE MONTHS ENDED OCTOBER 27, 2013 (SUCCESSOR) AND OCTOBER 28, 2012 (PREDECESSOR)Results of Continuing Operations Sales for the three months ended October 27, 2013 decreased $104 million, or 3.7%, to $2.72 billion. Volume decreased 1.5%, as favorable volume in emerging markets was more than offset by declines in developed markets. Volume in the current quarter was unfavorably impacted by category softness and reduced promotional pricing mainly in the U.S. and U.K. when compared to the prior year period. Net pricing increased sales by 0.4%, driven by price increases in Brazil, Indonesia and the U.K. partially offset by price decreases in Australia, Italy and New Zealand. Divestitures decreased sales by 0.4% and unfavorable foreign exchange translation rates decreased sales by 2.2%.

Gross profit decreased $123 million or 12.1% to $890 million, and gross profit margin decreased to 32.8% from 35.9%. These decreases are primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory and severance costs related to the current year restructuring plan discussed above. Gross profit was also negatively impacted by the lower volume in current period. The charges related to the current year restructuring plan are recorded in the non-operating segment.

Selling, general and administrative expenses ("SG&A") increased $94 million, or 15.2% to $711 million, and increased as a percentage of sales to 26.2% from 21.9% period over period. The increase in SG&A is attributable to higher fixed selling and general and administrative expense resulting from the Restructuring and Merger related initiatives.

Merger related costs in the current period include $7.5 million consisting primarily of advisory fees, legal, accounting and other professional costs.

38 -------------------------------------------------------------------------------- Operating income decreased $224 million or 56.6%, to $172 million, reflecting the decrease in gross profit discussed above and the impact of the restructuring and merger related items discussed above.

Net interest expense increased $93 million, to $155 million, reflecting higher average debt balances resulting from the Merger. Other income(expense), net, was $11 million of expense this year compared to $6 million of expense in the prior year. The increase is primarily related to an increase in amortization of debt issuance costs related to the Merger.

For the current quarter the Company recorded a tax benefit of $34.2 million, or (582.7%) of pretax income. In the prior year the Company recorded a tax expense of $31.0 million, or 9.5% of pretax income. The current period tax benefit results from a significant amount of tax exempt income being offset by tax deductible expenses in higher tax rate jurisdictions. The prior year included a $63.0 million tax benefit that occurred as a result of an increase in the tax basis of both fixed and intangible assets resulting from a tax-free reorganization in a foreign jurisdiction.

The net income from continuing operations attributable to H. J. Heinz Company was $38 million compared to $295 million in the prior year.

OPERATING RESULTS BY BUSINESS SEGMENTNorth American Consumer Products Sales of the North American Consumer Products segment decreased $47 million, or 5.9%, to $748 million. Higher net price of 0.1% reflects higher pricing on ketchup primarily resulting from reduced promotions offset by price reductions on frozen appetizers and snacks. Volume was down 5.0% primarily reflecting declines in Heinz® gravy, Ore-Ida® frozen potatoes and Smart Ones® frozen entrees, partially due to the strategic decision to realign promotional activity as well as category softness. Unfavorable Canadian exchange translation rates decreased sales 1.0%.

Gross profit decreased $25 million, or 7.6%, to $303 million and the gross profit margin decreased slightly to 40.6% from 41.3%. These decreases are primarily related to lower volume and higher cost of products sold associated with the amortization of the preliminary purchase accounting adjustments relative to customer related assets. Operating income decreased $6 million or 3.1% to $184 million reflecting the decline in gross profit, partially offset by lower SG&A primarily related to reduced costs related to workforce reductions and lower marketing spend.

Europe Heinz Europe sales decreased $26 million, or 3.2%, to $783 million. Volume was down 3.0% as strong performance in Russia was more than offset by soft category sales in the U.K., Italy and Continental Europe. Volume in the U.K. was also impacted by the strategic decision to realign promotional activity. Net pricing increased 0.6% primarily reflecting higher pricing in the U.K partially offset by reduced pricing in Italy and Russia. The divestitures of a small soup business in Germany and a non-core product line in Russia decreased sales 1.5%.

Favorable exchange translation rates increased sales 0.7%.

Gross profit decreased $19 million, or 6.3%, to $289 million while the gross profit margin decreased to 36.9% from 38.1%. These decreases are primarily related to higher cost of products sold associated with the amortization of the preliminary purchase accounting adjustments relative to customer related assets and lower volume. Operating income decreased $24 million to $117 million reflecting the decline in gross profit and higher SG&A primarily related to increased marketing spend across Europe.

Asia/Pacific Heinz Asia/Pacific sales decreased $39 million, or 6.5%, to $562 million, as unfavorable exchange translation rates decreased sales by 7.3%. Volume increased 1.2% largely a result of continued strong performance of Master® branded sauces and Heinz branded infant feeding products in China and frozen products in Japan.

These increases were partially offset by declines in Glucon D® and Complan® branded products in India and by declines in ABC® products in Indonesia primarily due to the timing of Ramadan. Pricing decreased 0.4%, due to higher promotion spending in Australia and New Zealand partially offset by increased pricing on ABC® sauces in Indonesia.

Gross profit decreased $53 million, or 28.5%, to $132 million, while the gross profit margin decreased to 23.6% from 30.8%. These decreases are related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory, as well as, unfavorable foreign exchange translation rates. Operating income decreased $44 million to $10 million, reflecting the decline in gross profit, partially offset by lower SG&A.

39 --------------------------------------------------------------------------------U.S. Foodservice Sales of the U.S. Foodservice segment decreased $2 million, or 0.4%, to $346 million. Pricing decreased sales 0.4%, as price decreases on frozen soup were partially offset by price increases on ketchup. Volume was flat as increases across Heinz® ketchup and sauces were offset by declines in frozen soup.

Gross profit increased $3 million, or 2.7%, to $104 million and the gross profit margin increased to 29.9% from 29.0%. These increases are primarily related to lower manufacturing costs resulting from the current year restructuring initiatives partially offset by increased cost of products sold associated with the amortization of the preliminary purchase accounting adjustments relative to customer related assets. Operating income increased $13 million to $57 million reflecting the increase in gross profit and lower SG&A resulting from the current year restructuring initiatives.

Rest of World Sales for Rest of World increased $10 million, or 3.5%, to $279 million. Volume increased 5.6% as volume growth was realized across the segment. Pricing increased sales by 3.4%, largely due to price increases on Quero® branded products in Brazil and Heinz branded products in Egypt. Foreign exchange translation rates decreased sales 5.4%.

Gross profit increased $11 million, or 12.6%, to $100 million, and the gross profit margin increased to 35.8% from 33.0%. These increases are primarily related to higher sales and favorable product mix partially offset by higher cost of products sold associated with the amortization of the preliminary purchase accounting adjustments relative to customer related assets. Operating income increased $12 million to $39 million, primarily reflecting the increase in gross profit and lower G&A costs partially offset by increased marketing across the segment.

THE PERIOD FROM FEBRUARY 8, 2013 THROUGH OCTOBER 27, 2013 (SUCCESSOR), THE PERIOD FROM APRIL 29, 2013 THROUGH JUNE 7, 2013 (PREDECESSOR) AND SIX MONTHS ENDED OCTOBER 28, 2012Results of Continuing Operations Sales were $4.24 billion for the Successor period and $1.11 billion for the Predecessor period, respectively, compared to $5.60 billion for the six months ended October 28, 2012, a decrease of $248 million or 4.4% period over period.

Volume decreased 3.0%, as favorable volume in emerging markets was more than offset by declines in developed markets. Volume in the current six month period was unfavorably impacted by reduced promotional pricing mainly in the U.S. when compared to the prior year period and by one extra month of sales (approximating 0.7% of sales) being reported in Brazil in the prior year period as the subsidiary's fiscal reporting was conformed to the Company's fiscal period as the subsidiary no longer required an earlier closing date to facilitate timely reporting. Net pricing increased sales by 0.5%, driven by price increases in Brazil, Indonesia and the U.K. partially offset by price decreases in Australia and Venezuela. Divestitures decreased sales by 0.4% and unfavorable foreign exchange translation rates decreased sales by 1.6%.

Gross profit decreased $537 million or 26.6% to $1,095 million for the Successor period and $383 million for the Predecessor, respectively, from a gross profit of $2.01 billion for the six months ended October 28, 2012, and gross profit margin decreased to 27.6% from 35.9%. These decreases are primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory and incremental amortization of the step-up in basis of definite lived intangible assets. Gross profit was also negatively impacted by the lower volume and by Fiscal 2014 restructuring and productivity initiatives of $41 million for the Successor period and $6 million for the Predecessor period, respectively. The restructuring and productivity related charges are recorded in the non-operating segment.

Selling, general and administrative expenses ("SG&A") increased $56 million, or 4.7% to $1,016 million for the Successor period and $243 million for the Predecessor period, and increased as a percentage of sales to 23.5% from 21.5% period over period. The increase in SG&A is attributable to severance related to the Fiscal 2014 Restructuring and Productivity Initiatives.

Merger related costs in the Successor period include $70 million consisting primarily of advisory fees, legal, accounting and other professional costs and $87.9 million related to severance and compensation arrangements pursuant to existing agreements with certain former executives and employees in connection with the Merger. In the Predecessor period, Merger related costs include $48 million resulting from the acceleration of stock options, restricted stock units and other compensation plans, and $64 million of professional fees.

40 -------------------------------------------------------------------------------- Operating income decreased $863 million to an operating loss of $79 million for the Successor period and an operating income of $28 million for the Predecessor period, respectively, reflecting the decrease in gross profit discussed above and the impact of the merger related charges.

Net interest expense increased $168 million, to $261 million for the Successor period and $32 million for the Predecessor period, respectively, reflecting higher average debt balances resulting from the Merger. Included in the Successor period is $25 million of interest expense incurred by Merger Subsidiary prior to the consummation of the Merger. Other income(expense), net, decreased $153 million, to an expense of $31 million for the Successor period and expense of $126 million for the Predecessor period, respectively, primarily related to the costs for early extinguishment of debt related to the Merger.

Prior to the Merger, Merger Subsidiary entered into interest rate swap agreements to mitigate exposure to variable rate debt that was raised to finance the acquisition. These agreements were not designated as hedging instruments prior to the Merger date, and as such, we recorded a gain of $118 million due to changes in fair value of these instruments and separately reflected in the accompanying statement of operations. As a result of the Merger and the transactions entered into in connection therewith, we have assumed the liabilities and obligations of Merger Subsidiary.

For the Successor period the Company recorded a tax benefit of $221 million, or 87.0% of pretax loss. For the Predecessor period the Company recorded a tax expense of $61 million, or (46.9%) of pretax loss. In the first six months of Fiscal 2013, the Company recorded a tax expense of $93 million, or 13.6% of pretax income.

The tax benefit in the Successor period included a benefit of $106 million related to the impact on deferred taxes of a 300 basis point statutory tax rate reduction in the United Kingdom which was enacted during July 2013, and a favorable jurisdictional income mix. The benefit of the statutory tax rate reduction in the United Kingdom was favorably impacted by the increase in deferred tax liabilities recorded in purchase accounting for the Merger.

The tax provision for the Predecessor period was principally caused by the effect of repatriation costs of approximately $100 million for earnings of foreign subsidiaries distributed during the period and the effect of current period nondeductible Merger related costs.

The tax provision for the first six months of Fiscal 2013 included the $63 million tax benefit that occurred as a result of an increase in the tax basis of both fixed and intangible assets resulting from a tax-free reorganization in a foreign jurisdiction, a $13 million tax benefit from an intangible asset revaluation for tax purposes elected by a foreign subsidiary, and a benefit of $10 million related to a 200 basis point statutory tax rate reduction also in the United Kingdom.

The net loss from continuing operations attributable to H. J. Heinz Company was $36 million for the Successor period and $194 million for the Predecessor period, compared to net income of $581 million in the first six months of Fiscal 2013.

OPERATING RESULTS BY BUSINESS SEGMENT North American Consumer Products Sales of the North American Consumer Products segment decreased $101 million, or 6.5%, to $1,144 million for the Successor period and $308 million for the Predecessor period, respectively. Higher net price of 0.3% reflects higher pricing on ketchup in the U.S. primarily resulting from reduced promotions partially offset by lower pricing on frozen appetizers and snacks. Volume was down 6.2% reflecting declines in Heinz® ketchup and gravy, Ore-Ida® frozen potatoes and Smart Ones® frozen entrees, primarily due to the strategic decision to realign promotional activity and category softness. Unfavorable Canadian exchange translation rates decreased sales 0.6%.

Gross profit decreased $187 million, or 29.1%, to $332 million for the Successor period and $123 million for the Predecessor period, and the gross profit margin decreased to 31.3% from 41.3%. These decreases are primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory, and lower volume.

Operating income decreased $163 million to $145 million for the Successor period and $66 million for the Predecessor period reflecting the decline in gross profit, partially offset by lower SG&A primarily related to lower marketing spend and G&A expenses related to the current year restructuring initiatives.

41--------------------------------------------------------------------------------Europe Heinz Europe sales decreased $77 million, or 4.8%, to $1,225 million for the Successor period and $285 million for the Predecessor period. Volume was down 4.5% as strong performance in Russia and Germany was more than offset by soft category sales in the U.K., Italy and The Netherlands. Volume in the U.K. was also impacted by the strategic decision to realign promotional activity and by the timing of sales related to the Project Keystone go-live in May. Net pricing increased 0.2% primarily reflecting higher pricing in the U.K offset by pricing declines in Italy and Russia. The divestitures of a small soup business in Germany and a non-core product line in Russia decreased sales 1.3%. Favorable exchange translation rates increased sales 0.8%.

Gross profit decreased $157 million, or 25.9%, to $350 million for the Successor period and $98 million for the Predecessor period, while the gross profit margin decreased to 29.7% from 38.1%. These decreases are primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory and lower volume.

Operating income decreased $153 million to $92 million for the Successor period and operating income of $33 million for the Predecessor period, reflecting the decline in gross profit, partially offset by lower SG&A expenses.

Asia/Pacific Heinz Asia/Pacific sales decreased $52 million, or 4.1%, to $927 million for the Successor period and $272 million for the Predecessor period, as unfavorable exchange translation rates decreased sales by 5.2%. Volume increased 1.0% largely a result of continued strong performance of Master® branded sauces in China and Heinz branded infant feeding products in China as well as frozen products in Japan. These increases were partially offset by declines in Glucon D® and Complan® branded products in India. Pricing increased 0.2%, as price increases on ABC® sauces in Indonesia and Master® branded sauces in China were offset by higher promotion spending in Australia and New Zealand.

Gross profit decreased $106 million, or 26.9%, to $195 million for the Successor period and $93 million for the Predecessor period, while the gross profit margin decreased to 24.0% from 31.5%. These decreases are related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory, as well as, unfavorable foreign exchange translation rates. Operating income decreased $96 million to an operating loss of $1 million for the Successor period and operating income of $38 million for the Predecessor period, reflecting the decline in gross profit, partially offset by lower SG&A expense across the region as well as lower marketing spend in India. SG&A in the prior year benefited from a gain on the sale of excess land in Indonesia.

U.S. Foodservice Sales of the U.S. Foodservice segment decreased $11 million, or 1.7%, to $516 million for the Successor period and $136 million for the Predecessor period.

Pricing increased sales 0.2%, largely due to price increases on ketchup partially offset by pricing decreases on frozen soup. Volume decreased by 1.9% reflecting declines primarily in ketchup and frozen soup.

Gross profit decreased $38 million, or 20.3%, to $112 million for the Successor period and $39 million for the Predecessor period and the gross profit margin decreased to 23.1% from 28.5%. These decreases are primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory and lower volume.

Operating income decreased $28 million to $38 million for the Successor period and operating income of $16 million for the Predecessor period reflecting the decline in gross profit partially offset by lower SG&A primarily related to the current year restructuring initiatives.

Rest of World Sales for Rest of World decreased $8 million, or 1.4%, to $431 million for the Successor period and $112 million for the Predecessor period. Volume increased 0.3% as volume gains across the segment were partially offset by the one extra month of sales reported in Brazil in the prior year as discussed above, the impact of which was split evenly between the Ketchup & Sauces and Meals & Snacks categories and mainly impacted Quero® branded sales. Pricing increased sales by 2.8%, largely due to price increases on Quero® branded products in Brazil, partially offset by price decreases in Venezuela. (See the "Venezuela- Foreign Currency and Inflation" section below for further discussion on inflation in Venezuela.) Foreign exchange translation rates decreased sales 4.5%.

Gross profit decreased $1 million, or 0.6%, to $145 million for the Successor period and $36 million for the Predecessor period while the gross profit margin increased to 33.3% from 33.0%. The decrease in gross profit is primarily related to higher cost of products sold associated with the preliminary purchase accounting adjustments related to the step up in value of inventory and the lower volume in Brazil resulting from the extra month of results in the prior year period, partially offset by the favorable impact of the higher pricing.

Operating income increased $2 million to $49 million for the Successor period and $11 million for the 42 --------------------------------------------------------------------------------Predecessor period, primarily reflecting the decline in gross profit which was more than offset by lower SG&A primarily related to the current year restructuring initiatives.

Liquidity and Financial Position In connection with the Merger, the cash consideration was funded from equity contributions from the Sponsors and cash of the Company, as well as proceeds received by Merger Subsidiary in connection with the following debt financing pursuant to the Senior Credit Facilities and the Notes: • $9.5 billion in senior secured term loans, with tranches of 6 and 7 year maturities and fluctuating interest rates based on, at the Company's election, base rate or LIBOR plus a spread on each of the tranches, with respective spreads ranging from 125-150 basis points for base rate loans with a 2% base rate floor and 225-250 basis points for LIBOR loans with a 1% LIBOR floor. Prior to the Merger, Merger Subsidiary entered into interest rate swaps to mitigate exposure to the variable interest rates on these term loans and as a result, the rate on future interest payments beginning in January 2015 and extending through July 2020 have been fixed at an average fixed rate of 2.1%, • $2.0 billion senior secured revolving credit facility with a 5 year maturity and a fluctuating interest rate based on, at the Company's election, base rate or LIBOR, with respective spreads ranging from 50-100 basis points for base rate loans and 150-200 basis points for LIBOR loans, on which nothing is currently drawn, and • $3.1 billion of 4.25% secured second lien notes with a 7.5 year maturity, which are required to be exchanged within one year of consummation of the Merger Agreement for registered notes.

On June 7, 2013, Merger Subsidiary's indebtedness was assumed by the Company, substantially increasing the Company's overall level of debt. Refer to Note 13 of consolidated interim financial statements for a more thorough discussion of our new debt arrangements.

Cash used for operating activities was $130 million for the Successor period and $372 million for the Predecessor period, compared to cash provided by operating activities of $291 million for the six months ended October 28, 2012. The decline reflects the operating loss in the current period resulting from merger and restructuring related costs and charges incurred on the early extinguishment of debt. The decline also reflects unfavorable movements in accounts payable and income taxes, additional pension funding, partially offset by favorable movements in inventories.

Cash used for investing activities totaled $21.6 billion for the Successor period and $89.8 million for the Predecessor period, compared to $151 million for the prior year. Reflected in our cash flows used in investing activities for the Successor period is the merger consideration, net of cash on hand, of $21.5 billion.

Cash provided by financing activities totaled $24.3 billion for the Successor period and $85.4 million for the Predecessor period, compared to cash used for financing activities of $422 million in the prior year. The Merger was funded by equity contributions from the Sponsors totaling $16.5 billion as well as proceeds of approximately $11.5 billion under Senior Credit Facilities (of which $9.5 billion was drawn at the close of the transaction), and $3.1 billion upon the issuance of the Notes. The Company used such proceeds, which was partially offset by $320.8 million of debt issuance costs, to repay $4.2 billion of the Predecessor's outstanding short and long term debt and associated hedge contracts. Net cash used in the first six months of Fiscal 2013 primarily related to an additional interest acquired in Coniexpress S.A. Industrias Alimenticias ("Coniexpress") for $80 million and dividend payments of $333 million.

At October 27, 2013, the Company had total debt of $14.86 billion and cash and cash equivalents of $2.59 billion.

In order to more efficiently manage foreign cash, we had a taxable distribution of earnings from certain foreign subsidiaries to the U.S. in the Predecessor period ended June 7, 2013 totaling approximately $420 million which resulted in a charge to our provision for income taxes of approximately $100 million in the same period. We are able to use existing foreign tax credit carryforwards to offset the tax liability created by such distributions such that there were no incremental cash taxes incurred in the period. Prior to the Merger, our intent was to reinvest the accumulated earnings of our foreign subsidiaries in our international operations, except where remittance could be made tax free in certain situations, and our plans did not demonstrate a need to repatriate them to fund our cash requirements in the U.S. and, accordingly, a liability for the related deferred income taxes was not reflected in the Company's financial statements as of April 28, 2013. While we continue to expect to reinvest a substantial portion of the future earnings of our foreign subsidiaries in our international operations, as of the Acquisition date we determined that a portion of our accumulated unremitted foreign earnings are likely to be needed to meet U.S. cash needs. For the portion of unremitted foreign earnings preliminarily determined not to be permanently reinvested, a deferred tax liability of approximately $195 million is 43 --------------------------------------------------------------------------------recorded. As of October 27, 2013, the Company has not yet finalized its estimate of acquisition date deferred taxes associated with repatriation plans and further adjustments of this estimate may be made as the purchase price allocation is finalized during the measurement period.

Berkshire Hathaway has an $8.0 billion preferred stock investment in Parent which requires a 9.0% annual dividend to be paid quarterly in cash or in-kind.

The Company expects to continue to make quarterly cash distributions to Holdings to fund this dividend.

The Company will continue to monitor the credit markets to determine the appropriate mix of long-term debt and short-term debt going forward. The Company believes that its operating cash flow, existing cash balances, together with the credit facilities and other available capital market financing, will be adequate to meet the Company's cash requirements for operations, including capital spending, debt maturities and interest payments. While the Company is confident that its needs can be financed, there can be no assurance that increased volatility and disruption in the global capital and credit markets will not impair its ability to access these markets on commercially acceptable terms.

Venezuela- Foreign Currency and Inflation The Company applies highly inflationary accounting to its business in Venezuela.

Under highly inflationary accounting, the financial statements of our Venezuelan subsidiary are remeasured into the Company's reporting currency (U.S. dollars) and exchange gains and losses from the remeasurement of monetary assets and liabilities are reflected in current earnings, rather than accumulated other comprehensive loss on the balance sheet, until such time as the economy is no longer considered highly inflationary. The impact of applying highly inflationary accounting for Venezuela on our consolidated financial statements is dependent upon movements in the official exchange rate between the Venezuelan bolivar fuerte and the U.S. dollar and the amount of net monetary assets and liabilities included in our subsidiary's balance sheet, which was $101.2 million at October 27, 2013.

On February 8, 2013, the Venezuelan government announced the devaluation of its currency relative to the U.S. dollar, changing the official exchange rate from 4.30 to 6.30. The monetary net asset position of our Venezuelan subsidiary was also reduced as a result of the devaluation. While our future operating results in Venezuela will be negatively impacted by the currency devaluation, we plan to take actions to help mitigate these effects. Accordingly, we do not expect the devaluation to have a material impact on our operating results going forward. In Fiscal 2013, sales in Venezuela represented 3% of the Company's total sales.

44 --------------------------------------------------------------------------------Contractual Obligations The Company is obligated to make future payments under various contracts such as debt agreements, lease agreements and unconditional purchase obligations. In addition, the Company has purchase obligations for materials, supplies, services, and property, plant and equipment as part of the ordinary conduct of business. A few of these obligations are long-term and are based on minimum purchase requirements. Certain purchase obligations contain variable pricing components, and, as a result, actual cash payments are expected to fluctuate based on changes in these variable components. Due to the proprietary nature of some of the Company's materials and processes, certain supply contracts contain penalty provisions for early terminations. The Company does not believe that a material amount of penalties are reasonably likely to be incurred under these contracts based upon historical experience and current expectations.

The following table represents the contractual obligations of the Company as of October 27, 2013.

Fiscal Year 2019 2014 2015-2016 2017-2018 Forward Total (In thousands) Long Term Debt(1) $ 393,536 $ 1,431,672 $ 1,330,168 $ 16,760,743 $ 19,916,119 Capital Lease Obligations 3,343 19,377 20,029 13,383 56,132 Operating Leases 42,471 127,715 105,202 303,987 579,375 Purchase Obligations 664,233 816,081 180,318 222,064 1,882,696 Other Long Term Liabilities Recorded on the Balance Sheet 115,687 190,036 159,551 588,527 1,053,801 Total $ 1,219,270 $ 2,584,881 $ 1,795,268 $ 17,888,704 $ 23,488,123 (1) Amounts include expected cash payments for interest on fixed rate long-term debt. Due to the uncertainty of forecasting expected variable rate interest payments, those amounts are not included in the table.

Other long-term liabilities primarily consist of certain incentive compensation arrangements and pension and postretirement benefit commitments. Long-term liabilities related to income taxes and insurance accruals included on the consolidated balance sheet are excluded from the table above as the Company is unable to estimate the timing of the payments for these items.

As of the end of the second quarter of Fiscal 2014, the total amount of gross unrecognized tax benefits for uncertain tax positions, including an accrual of related interest and penalties along with positions only impacting the timing of tax benefits, was approximately $67.5 million. The timing of payments will depend on the progress of examinations with tax authorities. The Company does not expect a significant tax payment related to these obligations within the next year. The Company is unable to make a reasonably reliable estimate as to when cash settlements with taxing authorities may occur.

Recently Issued Accounting Standards See Note 3 to the Condensed Consolidated Financial Statements in Part I Item 1 of this Form 10-Q.

Non-GAAP Measures Included in this report are measures of financial performance that are not defined by generally accepted accounting principles in the United States ("GAAP"). Each of the measures is used in reporting to the Company's executive management and as a component of the Board of Directors' measurement of the Company's performance for incentive compensation purposes. Management and the Board of Directors believe that these measures provide useful information to investors, and include these measures in other communications to investors.

For each of these non-GAAP financial measures, a reconciliation of the differences between the non-GAAP measure and the most directly comparable GAAP measure has been provided. In addition, an explanation of why management believes the non-GAAP measure provides useful information to investors and any additional purposes for which management uses the non-GAAP measure are provided below. These non-GAAP measures should be viewed in addition to, and not in lieu of, the comparable GAAP measure.

45 --------------------------------------------------------------------------------Results Excluding Special Items Management believes that this measure provides useful information to investors because it is the profitability measure used to evaluate earnings performance on a comparable year-over-year basis.

Fiscal 2014 Results Excluding Charges for Productivity Initiatives and Merger Related Costs The adjustments were charges in Fiscal 2014 for productivity initiatives and merger related costs that, in management's judgment, significantly affect the year-over-year assessment of operating results. See "The Merger" and "Fiscal 2014 Productivity Initiatives" sections for further explanation of these charges and the following reconciliation of the Company's second quarter of Fiscal 2014 results excluding charges for merger related costs and productivity initiatives to the relevant GAAP measure.

Successor Second Quarter Ending October 27, 2013 FY 2014 Merger Net Income Related Operating Pre-Tax attributable to H.J.

(Continuing Operations) Sales Gross Profit SG&A Costs Income Income Heinz Company (In thousands) Reported results $ 2,717,336 $ 890,248 $ 710,917 $ 7,538 $ 171,793 $ 5,866 $ 37,977 Charges for productivity initiatives and merger related costs - 38,861 159,801 7,538 206,200 206,200 143,926 Results excluding charges for productivity initiatives and merger related costs $ 2,717,336 $ 929,109 $ 551,116 $ - $ 377,993 $ 212,066 $ 181,903 Successor February 8 - October 27, 2013 FY 2014 Net (Loss) / Income Merger Operating Pre-Tax (Loss) attributable to H.J.

(Continuing Operations) Sales Gross Profit SG&A Related Costs (Loss) / Income / Income Heinz Company (In thousands) Reported results $ 4,243,841 $ 1,094,952 $ 1,015,839 $ 157,938 $ (78,825 ) $ (253,591 ) $ (36,199 ) Charges for productivity initiatives and merger related costs - 40,901 159,895 157,938 358,734 358,734 248,592 Results excluding charges for productivity initiatives and merger related costs $ 4,243,841 $ 1,135,853 $ 855,944 $ - $ 279,909 $ 105,143 $ 212,393 Predecessor April 29 - June 7, 2013 FY 2014 Merger Operating Pre-Tax (Loss) Net Loss attributable (Continuing Operations) Sales Gross Profit SG&A Related Costs Income / Income to H.J. Heinz Company (In thousands) Reported results $ 1,112,872 $ 383,335 $ 243,364 $ 112,188 $ 27,783 $ (130,327 ) $ (194,298 ) Charges for productivity initiatives and merger related costs - 5,725 317 112,188 118,230 247,598 168,735 Results excluding charges for productivity initiatives and merger related costs $ 1,112,872 $ 389,060 $ 243,047 $ - $ 146,013 $ 117,271 $ (25,563 ) There were no such adjustments in the Company's second quarter of Fiscal 2013.

46 --------------------------------------------------------------------------------EBITDA & Adjusted EBITDA (from Continuing Operations) EBITDA is defined as earnings (net income or loss) before interest, taxes, depreciation and amortization, and is used by management to measure operating performance of the business. Adjusted EBITDA is a tool intended to assist our management in comparing our performance on a consistent basis for purposes of business decision-making by removing the impact of certain items that management believes do not directly reflect our core operations. These items include share-based compensation and non-cash compensation expense, other operating (income) expenses, net, and all other specifically identified costs associated with projects, transaction costs, restructuring and related professional fees.

EBITDA and Adjusted EBITDA are intended to provide additional information only and do not have any standard meaning prescribed by generally accepted accounting principles in the U.S. or U.S. GAAP. EBITDA and Adjusted EBITDA are not measurements of our financial performance under GAAP and should not be considered as alternatives to net income or other performance measures derived in accordance with GAAP, or as alternatives to cash flow from operating activities as measures of our liquidity.

We believe that EBITDA and adjusted EBITDA are useful to investors, analysts and other external users of our consolidated financial statements because they are widely used by investors to measure operating performance without regard to items such as income taxes, net interest expense, depreciation and amortization, non-cash stock compensation expense and other one-time items, which can vary substantially from company to company depending upon accounting methods and book value of assets, financing methods, capital structure and the method by which assets were acquired.

Because of their limitations, neither EBITDA nor adjusted EBITDA should be considered as a measure of discretionary cash available to us to reinvest in the growth of our business or as a measure of cash that will be available to us to meet our obligations. Additionally, our presentation of Adjusted EBITDA is different than Adjusted EBITDA as defined in our debt agreements.

Second Quarter Ended Successor Predecessor October 27, 2013 October 28, 2012 FY 2014 FY 2013 (In thousands)Income from continuing operations, net of tax $ 40,048 $ 296,850 Interest expense, net 154,631 61,567 (Benefit from)/provision for income tax (34,182 ) 31,037 Depreciation 77,920 74,696 Amortization 20,968 10,370 EBITDA $ 259,385 $ 474,520 Amortization of inventory step-up 38,306 - Merger related costs 7,538 - Severance related costs 150,726 - Other special charges/(income) 37,185 (2,609 ) Asset write downs and accelerated depreciation 7,362 - Other expense, net 11,296 6,277 Stock based compensation 224 14,200 Adjusted EBITDA $ 512,022 $ 492,388 47-------------------------------------------------------------------------------- Successor Predecessor April 29 - Six Months Ended February 8 - October June 7, October 28, 2012 27, 2013 FY 2014 2013 FY 2014 FY 2013 (In thousands) (Loss)/income from continuing operations, net of tax $ (32,853 ) $ (191,424 ) $ 589,677 Interest expense, net 261,460 32,472 125,832 (Benefit from)/provision for income tax (220,738 ) 61,097 92,624 Depreciation 114,330 35,880 147,334 Amortization 29,821 4,276 21,075 EBITDA $ 152,020 $ (57,699 ) $ 976,542 Amortization of inventory step-up 383,300 - - Merger related costs 157,938 112,188 - Severance related costs 152,989 - - Other special charges/(income) 39,085 (12,136 ) (7,361 ) Asset write downs and accelerated depreciation 7,362 6,000 - Unrealized gain on derivative instruments (117,934 ) - - Loss from the extinguishment of debt - 129,367 - Other expense/(income), net 31,240 (3,729 ) 3,994 Stock based compensation 224 4,318 29,800 Adjusted EBITDA $ 806,224 $ 178,309 $ 1,002,975 The decrease in net income in the Successor and Predecessor periods of Fiscal 2014 was driven by productivity initiatives, merger related costs, and a increase in interest expense related to new borrowings under the new Senior Credit Facilities and the Notes. The decrease was partially offset by an unrealized gain on interest rate swap agreements that served as economic hedges of future interest payments on new borrowings and a decrease in income tax expense. The decline in Adjusted EBITDA was primarily due to the strategic decision to realign promotional activity in the U.S. and the U.K., one extra month of sales being reported in Brazil in the prior year as the subsidiary's fiscal reporting was conformed to the Company's fiscal period as the subsidiary no longer required an earlier closing date to facilitate timely reporting, the timing of sales in the U.K. related to the Project Keystone go-live in May, and unfavorable exchange translation rates.

Discussion of Significant Accounting Estimates In the ordinary course of business, the Company has made a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of its financial statements in conformity with GAAP. Actual results could differ significantly from those estimates under different assumptions and conditions. The Company addresses in the Annual Report on Form 10-K for the year ended April 28, 2013 its most critical accounting policies, which are those that are most important to the portrayal of the Company's financial condition and results and require management's most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. No changes to such policies as discussed in the Company's current Form 10-K have occurred as of October 27, 2013.

[ Back To Technology News's Homepage ]

OTHER NEWS PROVIDERS







Technology Marketing Corporation

800 Connecticut Ave, 1st Floor East, Norwalk, CT 06854 USA
Ph: 800-243-6002, 203-852-6800
Fx: 203-866-3326

General comments: tmc@tmcnet.com.
Comments about this site: webmaster@tmcnet.com.

STAY CURRENT YOUR WAY

© 2014 Technology Marketing Corporation. All rights reserved.