HERSHEY CO — Interim / Quarterly Report 2002

Apr 26, 2002

10-Q 1 firstqtr10q02.htm FORM 10-Q-MARCH 31, 2002

UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549

FORM 10-Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2002

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from __to_

Commission file number: 1-183

HERSHEY FOODS CORPORATION 100 Crystal A Drive Hershey, PA 17033 Registrant's telephone number: 717-534-6799

State of Incorporation Delaware IRS Employer Identification No. 23-0691590

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes [ X ] No [ ]

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Stock, $1 par value - 106,059,131 shares, as of April 15, 2002. Class B Common Stock, $1 par value - 30,433,808 shares, as of April 15, 2002.

Exhibit Index - Page 16

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PART I - FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements (Unaudited)

HERSHEY FOODS CORPORATION CONSOLIDATED STATEMENTS OF INCOME (in thousands except per share amounts) For the Three Months Ended -------------------------- March 31, April 1, 2002 2001 ---- ---- Net Sales $ 988,506 $ 988,002 ---------- ---------- Costs and Expenses: Cost of sales 624,024 637,954 Selling, marketing and administrative 202,741 205,892 Business realignment charge 8,762 - ---------- ---------- Total costs and expenses 835,527 843,846 ---------- ---------- Income before Interest and Income Taxes 152,979 144,156 Interest expense, net 15,465 17,297 ---------- ---------- Income before Income Taxes 137,514 126,859 Provision for income taxes 50,469 47,953 ---------- ---------- Net Income $ 87,045 $ 78,906 ========== ========== Net Income Per Share-Basic $ .64 $ .58 ========== ========== Net Income Per Share-Diluted $ .63 $ .57 ========== ========== Average Shares Outstanding-Basic 136,707 136,750 ========== ========== Average Shares Outstanding-Diluted 138,219 138,227 ========== ========== Cash Dividends Paid per Share: Common Stock $ .3025 $ .2800 ========== ========== Class B Common Stock $ .2725 $ .2525 ========== ========== The accompanying notes are an integral part of these statements.

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HERSHEY FOODS CORPORATION CONSOLIDATED BALANCE SHEETS March 31, 2002 AND DECEMBER 31, 2001 (in thousands of dollars) ASSETS 2002 2001 ------ ------ Current Assets: Cash and cash equivalents $ 220,026 $ 134,147 Accounts receivable - trade 292,226 361,726 Inventories 559,556 512,134 Deferred income taxes 83,198 96,939 Prepaid expenses and other 90,670 62,595 ---------- ---------- Total current assets 1,245,676 1,167,541 ---------- ---------- Property, Plant and Equipment, at cost 2,896,366 2,900,756 Less-accumulated depreciation and amortization (1,383,869) (1,365,855) ---------- ---------- Net property, plant and equipment 1,512,497 1,534,901 ---------- ---------- Goodwill 388,691 388,702 Other Intangibles 40,298 40,426 Other Assets 137,382 115,860 ---------- ---------- Total assets $ 3,324,544 $ 3,247,430 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $ 162,332 $ 133,049 Accrued liabilities 372,495 462,901 Accrued income taxes 32,397 2,568 Short-term debt 7,045 7,005 Current portion of long-term debt 739 921 ---------- ---------- Total current liabilities 575,008 606,444 Long-term Debt 876,979 876,972 Other Long-term Liabilities 347,529 361,041 Deferred Income Taxes 266,112 255,769 ---------- ---------- Total liabilities 2,065,628 2,100,226 ---------- ---------- Stockholders' Equity: Preferred Stock, shares issued: none in 2002 and 2001 --- --- Common Stock, shares issued: 149,517,064 in 2002 and 2001 149,516 149,516 Class B Common Stock, shares issued: 30,433,808 in 2002 and 2001 30,434 30,434 Additional paid-in capital (2,686) 3,263 Unearned ESOP compensation (15,169) (15,967) Retained earnings 2,801,878 2,755,333 Treasury-Common Stock shares at cost: 43,525,109 in 2002 and 44,311,870 in 2001 (1,656,391) (1,689,243) Accumulated other comprehensive loss (48,666) (86,132) ---------- ---------- Total stockholders' equity 1,258,916 1,147,204 ---------- ---------- Total liabilities and stockholders' equity $ 3,324,544 $ 3,247,430 ========== ========== The accompanying notes are an integral part of these balance sheets.

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HERSHEY FOODS CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands of dollars) For the Three Months Ended March 31, April 1, 2002 2001 -------- ------ Cash Flow Provided from (Used by) Operating Activities Net Income $ 87,045 $ 78,906 Adjustments to Reconcile Net Income to Net Cash Provided from Operations: Depreciation and amortization 45,632 46,875 Deferred income taxes 15,891 (4,141) Business realignment initiatives 5,698 - Changes in assets and liabilities: Accounts receivable - trade 69,500 71,161 Inventories (44,122) (45,432) Accounts payable 29,283 (1,296) Other assets and liabilities (88,103) 106,472 ---------- ------- Net Cash Flows Provided from Operating Activities 120,824 252,545 ---------- ------- Cash Flows Provided from (Used by) Investing Activities Capital additions (17,405) (32,032) Capitalized software additions (2,297) (1,125) Other, net 19,604 9,415 ---------- ------- Net Cash Flows (Used by) Investing Activities (98) (23,742) ---------- ------- Cash Flows Provided from (Used by) Financing Activities Net increase (decrease) in short-term debt 40 (207,995) Repayment of long-term debt (214) (76) Cash dividends paid (40,500) (37,378) Exercise of stock options 55,569 15,134 Incentive plan transactions (49,742) (4,203) ---------- ------- Net Cash Flows (Used by) Financing Activities (34,847) (234,518) ---------- ------- Increase (Decrease) in Cash and Cash Equivalents 85,879 (5,715) Cash and Cash Equivalents, beginning of period 134,147 31,969 ---------- ------- Cash and Cash Equivalents, end of period $ 220,026 $ 26,254 ========== ======= Interest Paid $ 23,766 $ 30,109 ========== ======= Income Taxes Paid $ 1,342 $ 1,852 ========== ======= The accompanying notes are an integral part of these statements.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

For the Three Months Ended -------------------------- March 31, 2002 April 1, 2001 -------------- ------------- (in thousands of dollars) Interest expense $ 16,573 $ 18,541 Interest income (779) (972) Capitalized interest (329) (272) -------- -------- Interest expense, net $ 15,465 $ 17,297 ======== ========

For the Three Months Ended -------------------------- March 31, 2002 April 1, 2001 -------------- ------------- (in thousands of dollars except per share amounts) Reported net income: $ 87,045 $ 78,906 Add back: Goodwill amortization 2,913 Add back: Trademark amortization 377 -------- -------- Adjusted net income $ 87,045 $ 82,196 ======== ======== Basic earnings per share: Reported net income $ .64 $ .58 Goodwill amortization .02 Trademark amortization - -------- -------- Adjusted net income $ .64 $ .60 ======== ======== Diluted earnings per share: Reported net income $ .63 $ .57 Goodwill amortization .02 Trademark amortization - -------- -------- Adjusted net income $ .63 $ .59 ======== ========

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Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition

Results of Operations - First Quarter 2002 vs. First Quarter 2001

Consolidated net sales for the first quarter increased from $988.0 million in 2001 to $988.5 million in 2002. The nominal increase over the prior year primarily reflected higher sales resulting from: incremental sales from Visagis, the Brazilian chocolate and confectionery business acquired in July 2001; selected confectionery selling price increases; and increases in sales of base confectionery and grocery products in North America. These increases were substantially offset by lower sales resulting from higher promotion allowances and returns, discounts and allowances, the divestiture of the Luden's throat drop business in September 2001, and the timing of the acquisition of the Nabisco Inc. gum and mint business which resulted in incremental sales in the first quarter of 2001 compared to the same period of 2002.

The consolidated gross margin increased from 35.4% in 2001 to 36.9% in 2002. The increase reflected higher profitability resulting from the mix of confectionery items sold in 2002 compared with sales during 2001. Decreased costs for certain major raw materials, primarily milk and cocoa, reduced supply chain costs and selected confectionery selling price increases also contributed to the higher gross margin. The impact of these items was partially offset by higher promotion allowances and returns, discounts, and allowances, both of which were higher as a percent of sales compared to the prior year. Selling, marketing and administrative expenses decreased by 2% in 2002, primarily reflecting the elimination of goodwill amortization in 2002. Excluding the impact of goodwill amortization in 2001, selling, marketing and administrative expenses in 2002 were flat compared to 2001.

Net interest expense in the first quarter of 2002 was $1.8 million less than the comparable period of 2001, primarily reflecting a decrease in short-term interest expense due to a decrease in the average short-term borrowing rates and reduced average short-term borrowings.

Net income for the first quarter increased $8.1 million, or 10%, from 2001 to 2002, and net income per share - diluted increased $.06, or 11%. Excluding the after-tax effect of the business realignment initiatives recorded in 2002, as well as the after-tax effect of goodwill amortization in 2001, net income for the first quarter increased $10.5 million, or 13%, from 2001 to 2002, and net income per share - diluted increased $.08, or 14%.

Business Realignment Initiatives

In late October 2001, the Corporation’s Board of Directors approved a plan to improve the efficiency and profitability of the Corporation’s operations. The plan included asset management improvements, product line rationalization, supply chain efficiency improvements, and a voluntary work force reduction program. As of March 31, 2002, there have been no significant changes to the estimated costs and savings for the business realignment initiatives. The major components of these initiatives remain on schedule for completion by the fourth quarter of 2002.

Asset management improvements included the decision to outsource the manufacture of certain ingredients and the related removal and disposal of machinery and equipment related to the manufacture of these ingredients. As a result of this outsourcing, the Corporation was able to significantly reduce raw material inventories, primarily cocoa beans and cocoa butter, in the fourth quarter of 2001. The remaining portion of the project was substantially completed during the first quarter of 2002.

Product line rationalization plans included the sale or exit of certain businesses, the discontinuance of certain non-chocolate confectionery products and the realignment of the Corporation’s sales organizations. Costs associated with the realignment of the sales organizations related primarily to sales office closings and terminating the use of certain sales brokers. During the first quarter of 2002, sales offices were closed as planned and the use of certain sales brokers was discontinued.

To improve supply chain efficiency and profitability, three manufacturing facilities, a distribution center and certain other facilities were planned to be closed. These included manufacturing facilities in Denver, Colorado; Pennsburg, Pennsylvania and Palmyra, Pennsylvania and a distribution center and certain minor facilities located in Oakdale, California. During the first quarter of 2002, the manufacturing facility in Palmyra, Pennsylvania was closed and additional costs were recorded, as incurred, relating to retention payments. In addition, asset write-offs relating to the closure of the three manufacturing plants were begun.

In October 2001, the Corporation offered a voluntary work force reduction program (VWRP) to certain eligible employees in the United States, Canada and Puerto Rico in order to reduce staffing levels and improve profitability. The VWRP

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consisted of an early retirement program which provided enhanced pension, post-retirement and certain supplemental benefits and an enhanced mutual separation program which provided increased severance and temporary medical benefits. A reduction of approximately 500 employees occurred during the first quarter of 2002 as a result of the VWRP. Additional pension settlement costs of $8.6 million before tax were recorded in the first quarter of 2002 principally associated with lump sum payments of pension benefits.

Liquidity and Capital Resources

Historically, the Corporation’s major source of financing has been cash generated from operations. Domestic seasonal working capital needs, which typically peak during the summer months, generally have been met by issuing commercial paper. During the first quarter of 2002, the Corporation’s cash and cash equivalents increased by $85.9 million. Cash provided from operations was sufficient to fund dividend payments of $40.5 million and capital expenditures and capitalized software additions totaling $19.7 million. Cash used by other assets and liabilities of $88.1 million primarily reflected a pension plan contribution and changes to liabilities associated with taxes and incentive compensation. Cash provided from other assets and liabilities in the first quarter of 2001 of $106.5 million was principally the result of commodities transactions and increased taxes payable, partially offset by a pension plan contribution.

In order to improve the funded status of the Corporation’s domestic pension plans, a contribution of $75.0 million was made in February 2001. Additional contributions of $95.0 million and $75.0 million were made in December 2001 and March 2002, respectively, to fund payments related to the early retirement program and to improve the funded status. These contributions were funded by cash from operations.

The ratio of current assets to current liabilities was 2.2:1 as of March 31, 2002, and 1.9:1 as of December 31, 2001. The Corporation’s capitalization ratio (total short-term and long-term debt as a percent of stockholders’ equity, short-term and long-term debt) was 41% as of March 31, 2002, and 44% as of December 31, 2001.

Other Matters

A collective bargaining agreement covering approximately 2,700 employees at two of the Corporation’s principal manufacturing plants in Hershey, Pennsylvania expired in November 2001. On February 27, 2002, the employees voted not to ratify a new contract offer, despite recommendations by their union negotiating committee and executive board to approve the new contract. On April 16, 2002, the employees voted again not to ratify an amended contract offer following the rejection of that offer by the union negotiating committee. On April 23, 2002, the union provided 72 hours advance notice of a potential work stoppage and on April 26, 2002, initiated a strike.

Safe Harbor Statement

The nature of the Corporation’s operations and the environment in which it operates subject it to changing economic, competitive, regulatory and technological conditions, risks and uncertainties. In connection with the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, the Corporation notes the following factors which, among others, could cause future results to differ materially from the forward-looking statements, expectations and assumptions expressed or implied herein. Many of the forward-looking statements contained in this document may be identified by the use of forward-looking words such as “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated,” and “potential,” among others. Factors which could cause results to differ include, but are not limited to: changes in the confectionery and grocery business environment, including actions of competitors and changes in consumer preferences; changes in governmental laws and regulations, including taxes; market demand for new and existing products; changes in raw material and other costs; the Corporation’s ability to implement improvements to and reduce costs associated with the Corporation’s distribution operations; pension cost factors, such as actuarial assumptions and employee retirement decisions; the outcome of labor negotiations and the duration and resulting impact of potential work stoppages; and the Corporation’s ability to sell certain assets at targeted values.

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Item 3. Quantitative and Qualitative Disclosure About Market Risk

The potential loss in fair value of foreign exchange forward contracts and interest rate swap agreements resulting from a hypothetical near-term adverse change in market rates of ten percent was not material as of March 31, 2002. The market risk resulting from a hypothetical adverse market price movement of ten percent associated with the estimated average fair value of net commodity positions increased from $4.7 million as of December 31, 2001, to $4.9 million as of March 31, 2002. Market risk represents 10% of the estimated average fair value of net commodity positions at four dates prior to the end of each period.

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PART II - OTHER INFORMATION

Items 1 through 5 have been omitted as not applicable.

Item 6 - Exhibits and Reports on Form 8-K

a) Exhibits

b) Reports on Form 8-K

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

HERSHEY FOODS CORPORATION (Registrant) Date April 26, 2002 /s/ Frank Cerminara Frank Cerminara Senior Vice President, Chief Financial Officer Date April 26, 2002 /s/ David W. Tacka David W. Tacka Vice President, Corporate Controller and Chief Accounting Officer

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EXHIBIT INDEX

Exhibit 10.1 Amended and Restated Key Employee Incentive Plan

Exhibit 10.2 Amended and Restated Supplemental Executive Retirement Plan

Exhibit 12 Computation of Ratio of Earnings to Fixed Charges

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