J M Smucker Co Q3 Earnings Get a Jolt from Dunkin' K-Cups and Divestiture

By Markets Fool.com

Source: J.M. Smucker

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J.M. Smucker reported its third quarter fiscal 2016 earnings last week. The packaged food and coffee maker's year-over-year revenue increased 37%, entirely because of its acquisition of Big Heart Pet Brands in 2015. Adjusted earnings per share expanded 14%, while GAAP EPS dipped 2%.

Adjusted EPS of $1.76 beat analyst estimates of $1.62, though revenue of $1.97 billion fell slightly short of the $2.05 billion consensus.

Shares of Smucker have generally held steady since the announcement -- the market's neutral reaction makes sense, as there were notable surprises. The entire earnings beat came from the divestiture of the company's U.S. canned milk business, which added $0.14 to adjusted EPS, and revenue was just a tad short of expectations.

Smucker stock has returned about 15% over the past year, significantly outpacing a nearly 6% loss for the S&P 500. Stocks of packaged foods companies have generally been holding up well in this tough market.

Key third quarter numbers

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Metric

Fiscal Q3 2016

Fiscal Q3 2015

YoY Growth

Revenue

$1.97 billion

$1.44 billion

37%

Operating Income (GAAP)

$313.3 million

$255.1 million

25%

Operating Income (Adjusted)

$356.1 million

$248 million

44%

Earnings Per Share (GAAP)

$1.55

$1.58

(2%)

Earnings Per Share (Adjusted)

$1.76

$1.54

14%

Source: J.M. Smucker

Revenue growth driven by "savior" Big Heart
Big Heart Pet Brands contributed $580.3 million in revenue during the quarter, or 29.5% of the top line (the bulk of this revenue falls into Smucker's U.S. pet foods business, though $9.4 million goes to the international and foodservice segment). Smucker acquired the maker of pet food and snacks, with a portfolio that includes Milk-Bone and Kibbles 'n Bits, last March for about $5.8 billion.

Excluding Big Heart, the impact from foreign currency exchange, and the impact of the U.S. canned milk divestiture, Smucker's revenue declined $17.9 million, or 1%. Before the Big Heart acquisition, Smucker's revenue growth had been stagnant or declining slightly for the last few years.

This 1% revenue decline was driven by a 2% retail pricing drop on coffee and 1% increased volume. The volume benefited from Dunkin' Donuts K-Cups andSmucker's Uncrustablesfrozen sandwiches, which offset declines in several other brands, notablyFolgersandJif.

Like Smucker, many of the traditional packaged food makers have been struggling to increase sales volume, at least in part, because of changing consumer eating behavior. Oreo maker Mondelez, for instance, experienced a 3.1% decrease in volume in its most recent quarter.

Here's how Smucker's four segments performed.

U.S. retail coffee: profit margin expands for the profit engine

Metric

Fiscal Q3 2016

YoY Growth

Revenue

$575.5 million

1%

Segment Profit

$175.9 million

17%

Segment Profit Margin

30.6%

4.3 percentage points

Source: J.M. Smucker

The coffee segment accounts for almost 40% of company profits, thanks to its juicy margins. Revenue growth was slight, though the profit margin solidly expanded. An increase in volume contributed 5% of growth, driven by Dunkin' Donuts K-Cups and Folgers' mainstream offerings (includes everything except K-Cups), partially offset by declines in Folgers K-Cups. However, lower retail prices on Folgers' mainstream products offset 4% of this growth.

Profit growth was driven by the introduction of Dunkin' Donuts K-Cups, as they sport higher profit margins than mainstream products, lower manufacturing overhead costs, and lower commodity (coffee bean) costs. Smucker began exclusively distributing Dunkin' K-Cups last May to places groceries are sold, while manufacturer Keurig Green Mountainis the exclusive distributor for specialty stores.

U.S. retail consumer foods: results weaker than key numbers suggest

Metric

Fiscal Q3 2016

YoY Growth

Revenue

$569.8 million

(5%)

Segment Profit

$128 million

6%

Segment Profit Margin

22.5%

2.4 percentage points

Source: J.M. Smucker

About 30% of the revenue decline in this segment was due to the divestiture of the U.S. canned milk business, which generated sales of $9.4 million in the prior-year period. About three percentage points of the revenue drop was due to a decline in volume and an unfavorable mix, driven by Jif peanut butter and Pillsbury baking mixes and frosting. That more than offset growth in Smucker's Uncrustables frozen sandwiches. Lower retail prices on Pillsbury products were also a factor.

The bottom line growth $25.3 million gain on the U.S. canned milk divestiture. Excluding this gain, profit would have dropped about 14%. The culprits included an increase in marketing expense, lower retail pricing, and higher manufacturing overhead costs. Excluding the gain from the divestiture, profit margin is 18%.

U.S. retail pet foods: a growth hiccup

Metric

Fiscal Q3 2016

YoY Growth

Revenue

$570.9 million

N/A

Segment Profit

$97.2 million

N/A

Segment Profit Margin

17%

N/A

Source: J.M. Smucker

There are no prior-year comparables for Big Heart under Smucker ownership. However, the company provided investors with commentary about year-over-year performance.

Revenue declined a "low single digit" percent from the prior-year period, driven by decreased sales of mainstream pet food brands, notably Kibbles 'n Bits. This offset the high single digit growth in pet snacks and premium pet food brands, led by Milk-Bone and Natural Balance. Profit decreased by over $40 million from the prior-year period. However, roughly 75% of the decline was due to planned increases in marketing costs to support new product launches and higher amortization expense related to the acquisition.

A low single digit revenue decline isn't a notable concern at this point, since Smucker is still integrating the huge Big Heart acquisition.

International and foodservice: currency headwinds remain

Metric

Fiscal Q3 2016

YoY Growth

Revenue

$257.7 million

(4%)

Segment Profit

$43.3 million

4%

Segment Profit Margin

16.8%

1.2 percentage points

Source: J.M. Smucker

Foreign currency exchange negatively affected revenue by $17.5 million, more than offsetting Big Heart's $9.4 million contribution. Excluding these two factors, revenue would have decreased by 0.6%. Profit rose because of an increase in volume and a decrease in selling expenses, partially offset by sourcing certain products from the U.S., reflecting the impact of a weaker Canadian dollar.

Looking ahead
Smucker updated its fiscal 2016 earnings guidance to account for this quarter's $0.14 gain on the U.S. canned milk divestiture, with adjusted earnings per share expected to range from $5.84 to $5.94, rather than the previous range of $5.70 to $5.80. So, there was no meaningful change in earnings guidance. Smucker pared back it fiscal 2016 revenue expectation from $7.9 billion to $7.8 billion.

Analysts were expecting earnings of $5.79 per share on revenue of $7.86 billion in fiscal 2016.

Big Heart has added a much-needed jolt to Smucker's revenue growth. However, Smucker will need to increase the pet food segment's profit margins -- which are about tied with international and foodservice for the lowest -- if Big Heart is to help power earnings growth.

The article J M Smucker Co Q3 Earnings Get a Jolt from Dunkin' K-Cups and Divestiture originally appeared on Fool.com.

Beth McKenna has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.