Campbell Soup Company (CPB) — Q3 2020 Earnings Call Transcript

Good morning and welcome to Campbell's Third Quarter 2020 Earnings Presentation. I'm Rebecca Gardy, and I am excited to join Campbell as the new Vice President of Investor Relations. I look forward to getting to know you all in the coming months. As in prior quarters, we've created slides to accompany our earnings discussion. In addition to this earnings presentation, we will host an analyst Q&A-only session at 8:30 Eastern on the morning of June 3rd. A replay of the webcast and a transcript of this earnings presentation, as well as the Q&A session, will be available on the Investor Relations section of campbellsoupcompany.com. As part of our remarks this morning, we will make forward-looking statements, which reflect our current expectations. These statements rely on assumptions and estimates, which could be inaccurate and are subject to risk. Please refer to Slide 3 or our SEC filings for a list of factors that could cause our actual results to vary materially from those anticipated in forward-looking statements. Because we use non-GAAP measures to describe our business performance, we have provided a reconciliation of these measures to the most directly comparable GAAP measures, which is included in the appendix of this presentation and will be posted to the IR section of our website as part of the transcript of today’s call. On Slide 4, you can see our agenda. You will hear from Mark Clouse, Campbell’s President and CEO, and Mick Beekhuizen, Chief Financial Officer. Mark will share his thoughts on our performance in the quarter, and Mick will then walk through the financial details and our updated guidance for fiscal 2020. With that, let me turn it over to Mark.

Thanks, Rebecca. We’re excited to have you as part of our team. For those of you who may not know, Rebecca joined the company in late March and has been working closely with Ken Gosnell and the entire finance team on the transition. She brings a broad range of experience in finance and marketing, including nearly a decade in Investor Relations with companies such as Popeye's and Nike, and I’m confident that she will be a tremendous asset to the company and a fantastic resource for the investment community. Welcome. I want to start by saying thank you to the entire Campbell organization, especially our supply chain and front-line teams who have done a remarkable job in taking care of one another and ensuring that we keep our supply chain running as effectively as possible in this challenging and critical moment. The results we will discuss would not be possible without their inspiring efforts and the support of their families over the last several months. I also want to thank our customers for their partnership and collaboration and our suppliers who have supported us in what is an unprecedented operating environment. As a company, we have chosen to simplify our mission in response to this moment and focus on the areas that matter most. This has helped ensure the entire organization is aligned behind three key priorities. First, take care of our people. This is our most important responsibility. Next, produce and distribute our products as safely and as quickly as possible for our customers, consumers, and communities across North America. And finally, anticipate and plan for the future. We have dedicated resources focused on meeting the evolving consumer and retail trends, as well as procurement and manufacturing plans for a variety of demand scenarios. This simplified approach has served us extremely well. Our teams are executing well and delivering on this mission. Our plants have been running 24/7 to meet the unprecedented demand from our customers and consumers. This performance was, and continues to be, remarkable. It represents a tremendous effort across the business from our sales teams working with customers to our supply chain implementing safety and hygiene protocols for the new operating environment. The real heroes in the Company are those front-line teams at our plants, in our warehouses and distribution centers, and in-store sales ensuring our food gets onto the shelves. Although we do still see supply challenges, we are moving quickly to add targeted capacity, and we are working closely with customers to improve service levels and fully meet the demand we are experiencing. In recognition of this performance and the commitment shown by these front-line teams, we introduced temporary compensation to more than 11,000 of our front-line employees in manufacturing, warehousing and in-store sales to reward their enormous contribution to the country and the company. Early on, we also made the decision to commit to focus our community support in the locations where our people live and work. I am proud to share that we’ve contributed over $5 million in financial support and food to Campbell hometowns across North America. Now turning to our results in the quarter. The impact of the virus has been profound and has affected so many lives. Our thoughts and prayers are with all those families impacted. We are fortunate to be in a position to support the needs of our consumers, and this has translated into a quarter well above what we expected or had originally planned. We experienced broad-based demand across our portfolio as consumers sought food that delivered quality, value and comfort, all attributes that match our brands very well. Consistent with our strategic plan, the steps we had already taken to focus the portfolio, deleverage our balance sheet, sharpen our operating model, invest in our core brands, and strengthen our accountability and execution gave us a great foundation and strengthened our ability to meet these unprecedented demands on the business. This quarter we delivered growth across all key metrics with double-digit increases in organic sales, adjusted EBIT and adjusted EPS. Organic net sales increased 17%, with strong performance across both of our segments, led by U.S. retail soup which increased 35%. Not surprisingly, our in-market performance also surged across both divisions. In measured channels, our total company in-market consumption increased 29%, with double-digit consumption increases across most of the portfolio. In addition, our brands grew or held share in nine of our 13 stated priority categories. In-market results did exceed our net sales as the initial pantry loading exceeded shipment capacity and retail inventories were somewhat depleted. That situation is improving but has not fully recovered. The more recent slowdown of in-market results is much more a function of our current lower inventory levels than a material slowdown in demand. As capacity catches up with demand, we expect this will normalize in the fourth quarter or early in fiscal 2021. We continued to advance other key business metrics and strategic plan initiatives, including a 100-basis point adjusted gross margin expansion, supported by productivity improvements and cost savings. We generated $30 million of cost savings in the quarter, which reflect initiatives from our multi-year enterprise program and synergies from our Snacks integration. With the strong increase in net sales, adjusted EBIT increased 31%, even with a significant uptick in marketing investments across both divisions, and adjusted EPS increased 57% to $0.83 per share. We have attracted new consumers to our brands during the COVID-19 demand surge, giving us access to millions of buyers who had not purchased our brands in the prior 52 weeks. As you might imagine, many of the households are younger and represent significant incremental growth for our brands. We are now mobilizing behind retaining these new consumers as we look ahead. To that end, although demand has exceeded capacity, we continued to increase marketing investments across both divisions with a focus on helpful recipes and snack ideas. Building upon the tone and utility of our existing campaigns, our creative teams demonstrated agility with new digital and TV campaigns, including our Crowded Table anthem advertising that celebrated the role our brands play in comforting people together during this period of separation. This ad has resonated very well with consumers and in particular has accelerated the rejuvenation of the Campbell’s brand. We will continue to invest in the fourth quarter as we work to retain these new households. As you saw in our press release, we significantly raised our guidance for the year, based on our exceptional performance in the third quarter, and our current outlook for continued demand for our products. Mick will review our expectations in more detail in a few minutes. I would caution that there is still a great deal of volatility and many factors could influence our performance going forward, including the duration of the pandemic, further supply chain pressure, changes in consumer behavior, and macroeconomic conditions. However, we want to be as transparent as possible, so we are providing you our best perspective on the outlook for the business given what we are seeing today. As we look ahead, we anticipate that some of the changes we have seen will be more episodic while others will be more structural and lasting. In fact, we see four clear consumer and retail trends that we believe will continue to shape the landscape for the immediate future. First, what we call quick scratch cooking, simple ingredients assembled for a great tasting meal will continue. We expect this will be sustained due to a slow return to away-from-home occasions, growing cooking skills, and a continued desire for low-cost meal solutions. Next, we expect consumer online activities both in terms of home delivery and click & collect to accelerate. We believe the platforms and the convenience they provide will result in continued usage going forward. Third, we also are planning for the shelf to evolve in traditional retail environments that reflect these changing consumer trends. The relevance of certain center-store categories like soup will likely increase and require more in-store inventory, with perhaps a more limited assortment to optimize shelf sets for in-store and online click & collect demand. Finally, value will continue to play an important role as we anticipate the impact COVID will have on the economy. While we expect the economy to recover, it may take time. Ensuring we have affordable products that support consumers through some tougher times ahead will also be critical. All four of these trends line up very well with our portfolio and position us well for the immediate future. With that, let’s turn to a more detailed discussion of our two segments. We’ll start with Meals & Beverages. The Meals & Beverages segment contains many trusted and fabric-of-the-nation brands that consumers have been seeking out or returning to over the last several months based on the quality, convenience and value they offer. Consumers also have gravitated to these brands because of the comfort they bring. Think of tomato soup paired with grilled cheese or family spaghetti night with Prego pasta sauce or the fun of sharing SpaghettiOs with your kids. All of them have seen significant consumption gains during the crisis. For the third quarter, organic net sales increased 21% and operating profit was up 35%. The sales gains were broad based, with increases in U.S. soup, sauces, beverages and Canada. In market consumption advanced 39% in the quarter, and though fueled by the COVID surge, the underlying business had been performing well. We are fortunate that we already had a clear growth strategy and had returned our focus and resources to these businesses before the crisis began. Our Foodservice business was negatively impacted by reduced demand as consumers sheltered in place and avoided restaurants. Although a headwind, it is important to remember the Foodservice only represents approximately 5% of our total revenue, and our teams have moved quickly to maintain support in remaining critical areas like health care facilities and school lunch pick up programs, while repurposing capacity to higher retail demand areas. Marketing expense increased 26% versus prior year with A&C up 29%, as we continued to connect with consumers in ways that would help them enjoy great meals and beverages while at home. As you would expect, the majority of our increased investment was focused on soup, including Pacific. Let’s go deeper on soup. You have heard me speak about our full commitment to our Soup strategy for the past year, and the potential relevancy of our portfolio and the category. The foundational work we had put in place over the last year was always an important step in our long-term plan to re-ignite soup, and it has proven to be even more so in the context of the current moment. The quality improvements we made on our icon SKUs, Tomato, Chicken Noodle, Cream of Mushroom and Cream of Chicken have served us extremely well in this environment. Consumer response to these quality improvements has been very positive and well timed, supporting the increased household penetration and high repeat rates in new households. Total U.S. soup net sales grew 35% with double-digit sales gains on condensed, ready-to-serve and broth, including Pacific. These products brought a variety of benefits to consumers’ homes in this time, and we expect much of that relevance to continue as we move past the crisis. We did see pressure on share, which although never a good thing, we believe reflects challenges in availability rather than conscious consumer switching. With in-market consumption surges as high as 140%, we significantly depleted inventory in the initial stages of the pandemic. This was not a surprise, as we worked to make as much food as we possibly could and distribute it as quickly as possible. We also believe our share results, particularly in the ready-to-serve segment, are not fully reflected in syndicated data as we have strong distribution in key non-measured channels where growth was significant. Like everyone, we were and are operating in conditions unlike any we have ever experienced, and we didn’t get everything perfect in regard to product availability. We worked hard to balance the demand across all customers and channels. We've learned a lot along the way. We have already implemented necessary course corrections and saw improvements as the quarter progressed. Overall though, we are extremely pleased with our performance in the quarter, particularly the significant gains in household penetration, as our volume per buyers was up materially. Campbell's soup's household penetration increased nearly 10 percentage points versus the same quarter last year. We gained millions of households across all generations, with the largest gain being the Millennial cohort. It was also an important quarter for our Pacific Foods brand, as it too significantly increased its household penetration. With the scale and resources of Campbell behind it, the timing was right to accelerate the growth of this important brand and introduce it to many new consumers. Perhaps most exciting is the repeat rates we are seeing for these new households and the positive engagement with consumers we are experiencing in social and digital platforms. We continued our investment in marketing to drive the relevance of our soup brands, with a 57% increase in A&C in the quarter. We made the decision to keep our advertising on the air, as much of our existing creative was appropriate for the moment. Our increased advertising was directed toward efforts across condensed, ready-to-serve and broth, as we provided our consumers with ideas and inspiration for quick-scratch cooking, with a range of classic meals and new creative ideas. While there was an initial pantry load in the quarter, we did see strong consumer pull-through driven by increased usage and new eating patterns. Now more than ever, consumers are looking for quick, easy meals and soup clearly plays a vital role. In addition, there's no category better suited for at-home lunch than soup. These advertising spots have been very effective for us and have driven strong base velocity lifts while on air, while also increasing brand perception and relevance. Something we've discussed previously is our concerted effort to improve customer relationships. Overall, we are in a good place with our retail partners, and in fact I believe we have further improved our relationships as a result of the constant communication and collaboration throughout this crisis. It has been a process of planning, learning and re-planning to ensure we are meeting all our customer needs to the best of our ability in this dynamic environment. In other parts of the division, we saw similar results. In particular, the growth of our Prego pasta sauce brand accelerated dramatically with consumption up more than 50% versus prior year. Importantly, this quarter marked an entire year of Prego holding the number one share in Italian sauce. In addition to Prego, other parts of our Meals and Sauces portfolio saw strong growth, including Pace and supporting players such as SpaghettiOs, as consumers turned to these familiar shelf-stable favorites for comfort, quality, convenience and value. The V8 portfolio also continues to be a positive performer for us coming out of the quarter. Our sizeable Canadian business performed well, driven by similar consumer behavior as in the U.S. Of note, the largest share gains in soup in Canada came from our Pacific Foods brand. All-in-all, a truly remarkable performance in this environment, and a material step forward in our strategy of building relevance and expanding our consumer base across the portfolio. Let's next look at the other half of the company with a discussion of our Snacks segment. This was another strong quarter for the division with organic net sales increasing 12% and operating profit up 19%. Similar to our Meals & Beverages division, Snacks experienced increased demand and we continued to invest in our brands. The division delivered 19% consumption growth in Q3 in measured channels, with all nine power brands growing consumption double digits. Also similar to our Meals & Beverages division, Snacks in-market demand exceeded immediately available capacity, especially on brands like Goldfish and our bakery business with a more limited inventory. Consistent with Meals & Beverages, we are catching up on inventory and expect to be in a stronger position going into the next couple of months. Our in-market performance was balanced across the portfolio with increases coming from new brands like Late July leading with 38% growth and classic brands like Milano, which grew at 28%. The strong growth in premium snacks such as Late July, Milano and even Pretzel Factory underscore consumers’ desire for comfort and small indulgences during this time of uncertainty. Our snacking brands gained 5.4 percentage points of household penetration during the quarter, with increases across all 9 of our power brands. In the last four weeks, we’ve seen new households return to re-purchase our snacks, a positive sign of the relevancy of our brands and an early indicator of our ability to retain these new consumers. We’re now focused on making those new households stick and are looking at several levers to do this, including continuing to connect through compelling communications, ensuring continued availability, and providing the variety and formats that meet their needs today and into the future. Marketing expense in Snacks increased 11% in the quarter, and we intend to double down on our marketing investment in the fourth quarter to retain these new consumers. We will turn marketing on for all our power brands, with new campaigns for Late July and Goldfish. This quarter, seven of our nine power brands grew or held share. We grew by more than one point across five of the power brands, with the strongest growth coming from Late July at 2.5 points and Lance at 1.9 points. We saw small losses on Goldfish down 0.7 points and Snyder’s of Hanover 0.5 points despite strong consumption growth of 11% and 21% respectively. Even as some of the earlier COVID demand slows, with this rapid expansion of our brands we are well positioned for the future where we expect Snacks will continue to be a primary driver of growth in the industry. I’m also pleased with the performance we’re seeing on some of our new innovations that I discussed previously, specifically Veggie Goldfish, Snyder’s of Hanover Pretzel Rounds and Twisted Sticks as well as our Late July Organic Potato Chips. While we had slower distribution builds than we planned due to COVID-19, we are seeing early positive signs on repeat as we continue to build awareness. We have also developed new and creative ways to keep advancing new product launches. In fact, we just launched two new bakery items, just in time for Memorial Day. Farmhouse Honey Wheat Bread and the extension of our successful Farmhouse Butter bread into buns. Let’s finish our discussion of Snacks with a review of our progress against integration and value capture. The headline here is that we remain very much on plan to deliver the value capture synergies that we initially outlined as part of the acquisition of Snyder’s-Lance. The team did a great job adjusting elements of the integration plan in response to COVID-19, and I continue to be very pleased with the consistent progress of the integration of the business and teams. In Q3, we completed the actions we spoke of last quarter to improve the effectiveness of the Snacks organization. The result was a more streamlined and effective structure. Looking ahead, I expect value capture to continue in the fourth quarter with ongoing savings from our procurement and organizational effectiveness efforts. Our Snacks business, which represents about half of our annual sales, continued to perform well and fulfill its portfolio role. With that, let me turn it over to Mick for a deeper dive on our financial results and segment performance.

Thanks, Mark. Clearly, our operating performance for the third quarter was significantly impacted by the surge in demand for our products stemming from the COVID-19 pandemic. I’ll now share my perspective on the quarter and outlook for the balance of the year. As Mark stated, organic net sales increased 17% from the prior year. Organic net sales for Meals & Beverages increased 21% for the quarter, driven by gains across a majority of our retail brands with our U.S. soups and Prego pasta sauces growing in excess of 30% year-over-year. In Snacks, organic net sales increased 12% driven by double-digit growth in eight of our nine power brands. Our adjusted gross margin benefitted primarily from favorable product mix and operating leverage, as well as supply chain productivity improvements and cost savings initiatives, offset partly by moderating cost inflation and other supply chain costs including mark-to-market losses on outstanding commodity hedges and incremental costs incurred related to COVID-19. We continue to make strong progress against our cost savings target of $850 million by the end of fiscal 2022, delivering $30 million of incremental savings in the third quarter, bringing the program-to-date total for continuing operations to $680 million. Top line growth, gross margin improvement, and delivery on our cost savings programs, combined with continued investment in our brands, resulted in year-over-year adjusted EBIT growth of 31% in the quarter. Year-over-year adjusted EPS growth was 57%, reflecting our adjusted EBIT performance, as well as the benefit of lower net interest expense as a result of our deleveraging efforts. Lastly, we are raising our fiscal 2020 guidance for net sales, adjusted EBIT and adjusted EPS as a result of our strong third quarter performance and outlook. As Mark cautioned, we continue to operate in an uncertain environment, and although the effect of the COVID-19 pandemic on our sales, adjusted EBIT and adjusted EPS cannot be predicted with certainty, this revised outlook reflects our current expectation of trends through the balance of the fiscal year.

Thank you, Mick. This is a unique moment for Campbell and the entire food industry. How will this crisis impact consumer behavior in terms of the food they eat, where they eat it, and how they shop for it? What changes are episodic and what changes are structural? These are questions that we are focused on addressing as we work our way through the fourth quarter and plan for the upcoming fiscal year, including anticipating the various scenarios and ensuring our supply is ready and in place to meet that demand. I’d like to leave you with four clear thoughts on the business. One, we are executing very well while remaining safe, and we expect to continue to do so. Two, the actions we have taken over the last year to focus the portfolio and organization, reduce debt, and return resources to core brands was critical for our preparedness to react to this crisis. Three, this environment does not require a change in strategy for the company. In fact, it has materially advanced our strategy of building relevance in our classic, core brands, while accelerating growth in our differentiated snack brands. Finally, we expect the primary consumer and retail trends discussed earlier to continue going forward. Consumers seeking comfort food, while still wanting wholesome food from brands they can trust; quick scratch home cooking; an increased focus on value; and the acceleration of online shopping and marketing. As I said earlier, all of these trends are very much aligned with our portfolio and capabilities. I am confident that we are prepared to make the most of a tough situation and ensure that Campbell is well-positioned in this new world. Thank you for your time this morning. This concludes our prepared remarks. Our live Q&A call will begin at 8:30 AM Eastern this morning.

Thank you, operator. I hope everyone has had the chance this morning to read our press release and listen to our prerecorded management presentation, both of which are available on the Investor Relations section of campbellsoupcompany.com. In addition, we have posted a transcript for the prerecorded presentation. After the conclusion of today's live Q&A session, we will post the transcript and an audio replay of this call. Please note that during today's Q&A session we may make forward-looking statements, which reflect our current expectations about our business plans, our 2020 guidance and the potential impact of the COVID-19 pandemic on our business. These statements rely on assumptions and estimates which could be inaccurate and are subject to risk. We will also refer to certain non-GAAP measures. Please refer to today's earnings release available on the Investors section of our website campbellsoupcompany.com for a list of factors that could cause our actual results to vary materially from those anticipated in forward-looking statements, and for reconciliations of non-GAAP measures to their most directly comparable GAAP measures. Joining me today are Mark Clouse, Campbell's President and CEO; and Mick Beekhuizen, Chief Financial Officer. We kindly ask that you limit yourself to two questions. And now with that, I'll turn it over to the operator for the first question.

Love to start off by picking up on some of your comments from today's slides and transcript around household penetration and repeat rates. I think you described soup repeat rate as exciting, especially for new households. Some of the work we've done suggest repeat rates for some of these new trialers is running ahead of the rates maybe shown by this group at this time a year ago? So understanding we're not yet by any means in a normalized environment with many still sticking close to home. I would really like to hear your thoughts sort of on this, what you find exciting about it specifically. And maybe while early, what this all implies to about the potential stickiness of some new consumer purchases, which again, in light of all the investment Campbell is making obviously to perpetuate this trend?

That's a great question. Let me provide some context regarding how we've observed demand cycles during this period. I would characterize the third quarter as having two distinct phases. The first phase felt more psychological, similar to a weather-related pantry load—like a blizzard affecting cities nationwide. Consumers were focused on bringing shelf-stable products into their homes for long-term use. This initial phase witnessed dramatic demand spikes; for instance, ready-to-eat soup saw a 140% increase, which substantially impacted manufacturing capacity. Our team effectively prioritized bringing products to market and ensuring they reached retailers and communities, without imposing constraints on distribution. While this deplete our inventories—something we'll discuss shortly—it was a clear first phase. The second phase has been exciting because it allows us to engage consumers with our brands through behavioral changes. These adjustments stem from life changes, like being sheltered-in-place, and new skills such as quick scratch cooking. Our products are increasingly relevant within these behaviors, fostering sustained demand and repeat purchases. Despite varying economic conditions in the future, I foresee that many of the consumer trends we've observed will maintain their relevance. As people develop skills in quick scratch cooking and simple lunches, our products will continue to play a vital role. Even as the economy reopens, I anticipate a gradual shift back to away-from-home consumption and a persistence of remote working, which will keep our products relevant. However, we also expect economic strains that will make value a vital consideration for consumers. Historically, our products have remained important during economic downturns. There are additional trends we must focus on to capitalize on opportunities, particularly the shift toward online shopping and delivery services. We are working hard to adapt to these changes, as we believe they will persist. Moreover, we need to ensure that our offerings in traditional retail are optimized, maintaining balance in inventory as demand evolves while making space for important innovations. Looking ahead, while I can't predict exact demand levels, I'm confident that these trends will be beneficial for us. Even if there is a slight slowdown, we will benefit from replenishing our inventory levels throughout the fourth quarter and into the new year. This broader view reflects the cycle we've experienced, underscoring our belief in the continued momentum ahead. We must remain adaptable, as predicting the future with certainty is challenging, but the indicators are positive.

I wanted to ask about the decision to push hard on marketing at a time when demand exceeded your production capacity. I really do appreciate the unique opportunity you have to keep all of these new consumers to lean in on your retention efforts. And I do very much appreciate the value in that. But I also imagine there's risk of overheating demand, which can lead to some out of stock disappointment, so to speak. So just curious how you thought about that balance during the quarter and also how it informs your, I guess, implied fourth quarter guidance as well?

Yes, it is definitely a balancing act. However, what is crucial for us right now is to seize this unique opportunity. Reflecting on the company’s strategy, especially for brands like soup, our goal has been to build relevance, attract our lapsed users, and engage younger households joining our franchise. As we mentioned earlier, this is precisely what has been happening at this moment. I don’t want to overly dramatize the situation, but considering this rare opportunity, we need to solidify our relationship with these consumers and households. This approach differs from simply incentivizing purchases, so you might not see the same level of promotional support we’ve historically offered. Nonetheless, we are focusing on usage, quality, and differentiation of our products, building brand equity, and connecting with consumers in relevant ways depending on the demographic. This could involve promoting classic comfort food associated with our offerings or sharing an appealing recipe idea targeting younger households through various media and digital channels, like how to make risotto with tomato soup, which has garnered significant interest. Our aim is to capitalize on this opportunity to enhance brand equity and connection, without solely focusing on selling more products. It's also important to note that we are not operating in isolation; we are experiencing a remarkable level of collaboration with our retail partners, unlike anything I have seen in a long time. Our objective is to work together without causing frustration for consumers on either side. I believe we can navigate this situation effectively to retain customers while managing demand carefully. I hope this provides some context, and this is how we are approaching the matter.

No, it does, and I appreciate the challenge. We're in uncharted waters here. I guess for my follow-up speaking of uncharted waters, as we think about your implied fourth quarter guidance, we're drawing up an outlook in this kind of environment, one we've never seen before. I'm just curious, do you naturally leave yourself a bit more wiggle room on the downside than the upside, sort of a just in case factor. I know you said that the implied range does reflect your best estimate at the moment and as it should, right? But I just want to understand kind of what's assumed behind the scenes maybe to get to the low and high ends of the range if I could.

Yes, Ken, what we aim to do is build some new capabilities as we deal with a variety of significant factors that can influence our outlook. Our approach is to establish a set of assumptions based on current observations and our expectations for the future. We then develop sensitivities around these assumptions for different scenarios, which helps us frame the low and high ends of our predictions. With just two months left in the quarter, I felt a stronger obligation to provide a clearer perspective while acknowledging that some variables are difficult to predict. I want to clarify that we aim to maintain flexibility in responding to unforeseen factors. However, there are situations where the guidance may not appear conservative, and others where it could be. Ultimately, we are striving to present our best efforts.

Thank you. Good morning, everyone. I have two questions. The first one is for Mark. In your prepared remarks, you discussed the future of the retail landscape, particularly regarding potential changes in shelf sets and possibly limited assortments. Can you explain how this might impact new product development, especially in soups? Our expectation was that as we entered fiscal '21, we would see more new products and innovation instead of just renovation. If shelf sets are changing, how will that affect your approach to new product development? I have a follow-up after this.

I believe it's still early in understanding the data and projecting our future regarding shelf space. We need to ensure we effectively utilize that space, particularly as many retailers are facing the realities of how their shelf space reflects the retail shopping experience alongside the online click and collect model, which serves as a sort of warehouse for shopping. We have conducted detailed work to collaborate with customers and identify the best way forward. Fortunately, our understanding of the innovation platforms we plan to launch is closely tied to this effort. Moving forward, we will continue to push for innovation, though some platforms may launch later than others due to delays in areas like plant trials. However, I don't anticipate this hindering our ability to deliver relevant offerings, especially as we cater to new consumers who prioritize convenience, flavor, and healthier options. We may need to reconsider whether we truly need items at the lower end of our portfolio. For instance, in our ready-to-eat segment, we've noticed a significant share loss in the third quarter related to some less popular items, and we've opted to rationalize those in the short term while seeking a long-term strategy. Additionally, we have a couple of products in our core range that are performing like new innovations. While I won't label condensed soup as a new product launch, we're treating it as such, supporting its usage in households that may be trying it for the first time. Our strategy is to build relevance and encourage repeat purchasing of these established products in new households instead of quickly moving on to new items.

I think tomato soup and risotto is probably new to a lot of people on this? I'm going to do it. Hey, and just one follow up Mark, maybe this follows up a little bit on Ken Goldman’s question. He discussed refilling retailer inventory. One question we get frequently is whether we have accumulated a significant amount of pantry inventory. If you could provide a brief update on where pantry inventories stood before all this began, and where you believe they are today in relation to sell-through and its impact on revenue moving forward?

Yes, we have a good system for surveying that to gain a more quantitative perspective, and the numbers indicate healthy levels. Some areas may show higher inventory levels in the pantry, particularly for items like soup, given the time of year. However, when normalizing for days or weeks of supply in the pantry, it generally remains below historical levels. We do not anticipate a scenario where there is a significant decrease in pantry inventory. Overall, I think we are in good shape. We will likely discuss the recent slowdown in consumption and demand, which is partly due to our efforts to replenish inventory. Many have asked how we know this is happening, and we see it manifested in two ways. The first is in the shipment and orders we are receiving. Throughout the third quarter, from March to April, we have not observed significant changes in order demand. Initially, we faced the highest demand and managed it well, and I'm proud of the supply chain team's efforts, especially since we have transitioned from supporting a relatively flat business to accommodating 40% to 50% increases. While we did well during the initial surge, we did deplete a lot of inventory and are now in the recovery phase. Shipment requests have remained steady; it's more about aligning with customers to meet their needs. The second indicator is TDP trends. The decline in TDPs from the start of the crisis to now reflects what is missing from shelves. We saw a 3% to 4% decline that has now escalated to double digits. We expect to see recovery in this area, possibly through the fourth quarter or into early next year, when we anticipate having inventory back in place. This provides a way to quantify our situation. While this doesn't directly address the retail inventory versus pantry question, we recognize there's a need to replenish supply in both areas in the coming months.

Mark, I was hoping you can just comment on, just given the current state of affairs, how you think about the cost structure longer term. I mean is there an opportunity here to reshape just given how some of the work processes have changed, maybe you have found some incremental opportunities? And then just thinking about some of the upside that you've seen, is there an opportunity to accelerate initiatives that maybe you have planned a year or two years out that you feel like you can maybe pull forward now. Any thoughts around that would be really helpful?

Yes, you can see it in our numbers and the operating leverage we're experiencing. I'll let Mick highlight a couple of areas where we're noticing that leverage. Clearly, a more optimized supply chain will be more efficient. However, we want to avoid prolonged periods where we cannot meet demand. We're trying to ensure we don't invest in capital before we confirm steady demand. We're juggling various factors to present our best approach. Some areas are straightforward. For instance, we've accelerated our efforts to safely progress on Goldfish capacity, adding a new line in our Willard, Ohio facility, and we've managed to keep that initiative moving during the crisis. That's an easy decision. Regarding areas like soup, we have focused on optimizing our assortment and identified a need for more flexibility. We want to be prepared in case the virus resurfaces next year, so we need some additional flexibility without committing to major infrastructure that we may not need. We're adopting a pay-as-you-go model for investments as we adapt to meet those needs. For other growth opportunities, we're aiming to move forward as quickly as possible. Our strategy hasn't changed; this crisis has actually accelerated our progress. We've concentrated on one geography and two divisions, refocusing on core businesses where we see relevance, like soup, pasta sauces, and Pace for the Mexican market. This situation has fast-tracked our path. We also need to be nimble, which relates to balancing investments in the fourth quarter. We are pushing these initiatives forward and striving to complete quality improvements and ramp up new packaging formats, executing our plans more swiftly as we're significantly ahead of where we anticipated at this point.

Good morning, everyone. Rebecca, welcome to your first call, and congratulations on a strong quarter. I have a couple of questions for you. First, regarding the inventory replenishment that Mark mentioned, if we assume there's about a week of inventory catch-up, that would likely align with the midpoint of your organic sales guidance for the fourth quarter. We've seen strong consumption trends in May, and you have provided reasons to believe that some of this will continue. So my first question is, why shouldn’t we expect the fourth quarter's organic sales strength, considering the potential for inventory catch-up, to resemble that of the third quarter? What are the key assumptions behind your outlook?

Yes, Jason, the most important aspect is the pace at which we anticipate the recovery to unfold. In all fairness, we foresee one of two scenarios: either demand stays significantly high throughout the summer, in which case we may have to pursue inventory throughout the rest of the fourth quarter and likely into the first quarter of next year. Alternatively, if demand slows down or moderates over the summer, we can take that opportunity to restock inventory as you mentioned. I don’t believe we can effectively support both situations simultaneously. We need to understand the capacity within the supply chain as we calibrate our expectations. I do think we will gain ground as time progresses, and I expect some slowdown in demand as we enter the peak summer period for certain categories, although it will still be higher than what we experienced a year ago. Ultimately, it will be the interplay of these two factors that we are trying to calibrate our assumptions around. At the same time, we're continuously improving our capacity and output. It's essential for us to set realistic expectations, as there are no certainties in these matters. Does that make sense?

I don't want to discuss what next year will look like, but if we focus on Q3, you are correct that we experienced the impact of the mark-to-market, which we mentioned in the prepared remarks regarding gross margin. This had roughly a 100 basis points effect out of the 300 basis points due to inflation and other factors. A significant portion of this is reflected in our cost of goods, and as I indicated regarding gross margin, the additional COVID-19 costs are included there, but they also affect other areas of the profit and loss statement. Looking at the third quarter, the total incremental COVID-19 expenses were about $25 million. This impact was only for half of the quarter in Q3. I hope this provides you with some additional insight.

Hi. I had a question for you, if I could, first, on e-commerce. We've seen a significant development there of that channel. And I just wanted to understand how you think you're keeping pace relative to the category development in e-commerce? And then how your margins are performing in that business. That's an area you've invested in over the last several years. Are your margins up near where they are in a product sold through the store, for example?

Sure. I'll begin by saying that there are notable differences among various online shopping channels, including traditional e-commerce, order delivery, and click-and-collect. In terms of click-and-collect, I believe we've effectively collaborated with our retail partners. One of the advantages of click-and-collect is the easier management of inventory and product assortment. For the direct e-commerce side, we've held our own compared to similar businesses, but there is room for improvement. We need to enhance our route to market and ensure our inventory levels rise, which has been a challenge for everyone in the past quarter. However, prior to that, refining the experience for our e-commerce customers was already critical. When it comes to our more stable business lines, we perform well. We're particularly focused on understanding how to foster impulse purchases in the online space, which is more complex than merely being visible on a webpage. We’re investing in experimentation in this area as we anticipate consumers becoming more comfortable with these tools, including platforms like Instacart that act as intermediaries between consumers and traditional retailers, engaging significantly with how purchases are made. We're eager to explore these dynamics further to enhance our effectiveness. The encouraging aspect is that there are numerous resources available, whether from traditional online retailers or specialized companies, and there's a noticeable willingness to collaborate. Historically, accessing data has been a hurdle, but our discussions have become more open, which will aid us moving forward. Regarding margins, it’s clear that the costs associated with supporting these models present challenges that we need to address. This includes third-party shopper fees, additional labor expenses for traditional retailers, and the infrastructure costs linked to managing a supply chain that may not be aligned with the company handling it. We must find ways to mitigate these costs, which could involve limited product assortments or varying pack sizes. We acknowledge that this is an emerging reality and must figure out how to manage it without significantly impacting our finances. We have assessed immediate projections, and while I anticipate some headwinds, I don’t view them as significant obstacles to fulfilling our financial goals.

Okay. Thank you for all that color. Just a quick one for you, if I could. You talked about some market share losses in soup. I think a lot of that related to inventory and product availability. And then you also mentioned in Goldfish, for example, as well. Is that just competitors were able to get more product on the shelf? Have you lost some of these consumers to other categories as they shift around from meals or snacks? I'm just curious there from a high level.

It's a great question, and the situation is somewhat unique. Looking at soup, no one wants to see a decline in market share, and we have made considerable progress this year as we approach the third quarter. However, there are two factors affecting those numbers. First, supply has indeed been challenging, and it has exerted more pressure on our market share recently than it did throughout the entire quarter. When supply is limited and we cannot fully meet demand, it allows other brands to take some space on the shelf. After an initial surge in demand where we performed well, we have seen some impact from this. The good news is that we are starting to see improvement as we cycle back. I believe we will eventually return to a stronger position. The second factor in soup is a noticeable shift toward the ready-to-serve segment, which brings increased competition. For context, we hold an 85% share in the condensed soup market compared to a 44% share in the ready-to-serve segment. As more consumers lean toward ready-to-serve options, our overall share is affected. On a positive note, in the third quarter, our chunky soup brand gained share in the ready-to-serve category, while the rest of this segment experienced a slight decline in market share. Additionally, regarding our broth business, we still have work to do in distinguishing Swanson from private labels, which has contributed to some share loss in that segment. However, I am optimistic about the recovery of our Pacific brand, where we have seen significant improvements in share as we restore supply. For Goldfish, we entered the pandemic with lower inventory levels, and initial demand surged dramatically. This has been compounded by a shift in demand from smaller, on-the-go portion packs to larger bulk sizes for home use. We have adapted to this shift, but not at the pace we would like. Supply challenges required us to reduce promotions in collaboration with our customers, further impacting the business. I’m not worried long-term, as the share loss for Goldfish is primarily against other cracker brands that are not true substitutes. I believe we will rebound and continue to grow Goldfish. We just need to catch up, and I am confident that we will make progress in the fourth quarter, with promotional activities picking back up by June. By the end of summer, I expect we will be in a much better position.

Mark and Rebecca, I really like this new format. Thank you for making the change. In your prepared remarks, Mark, I thought it was very positive when you mentioned that soup will be a much more relevant category this fall than usual. Could you elaborate on how your retailers are perceiving this? Additionally, could you address the inherent tension of advising retailers to reduce variety and rationalize some of the SKUs while indicating that there will be stronger demand this season than normal? Are retailers worried about losing sales if they reduce variety? I also have a quick follow-up.

Yes. It is truly a collaborative discussion. Everyone is reacting to the current situation and wants to ensure that as we enter the next season, we are prepared to meet demand effectively. While we did achieve some short-term capacity increases through our SKU rationalization, this approach may not align with the long-term needs of consumers. Households today require a variety of cooking options, and striking the right balance is essential. I expect that we will reintroduce many of the SKUs we temporarily reduced, as they have long-term value. Our customers are also eager to find this balance, and we need to instill confidence in our ability to supply during what we expect to be a peak demand season. It will be most effective if we manage our shelf inventory and facings appropriately for high-demand SKUs while ensuring a diverse assortment to meet consumer preferences. This might involve reducing redundant items on the shelf. Ultimately, achieving the right balance will require some negotiation, but there seems to be a consensus among retailers regarding this approach. Yes. I believe there are two main points we've consistently communicated. First, we anticipated a slight extension of soup's seasonality due to its growing role in cooking, which naturally varies during the summer months. We have always seen a significant opportunity for soup to be relevant beyond the traditional season. The second area we’ve noticed substantial growth in is the function soup serves at lunchtime, which we hope will become less dependent on seasonality. While I expect demand to soften somewhat in the summer, I believe it will still remain at an elevated level. These are all areas where we will continue to focus on strengthening consumer habits. If we are successful in these efforts, there’s potential to extend the season for soup. However, we are still in the early stages and learning from these experiences. To reiterate your initial point, that’s why I have tended to see it as immediate. We will provide more updates as we progress, and as we approach the end of this fiscal year and begin discussing the next, I expect to have a clearer outlook on this matter.