18 July 2024
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Market + Management

Ralcorp Holdings: Posts Solid Quarter Despite Headwinds

St. Louis / MO. (rh) Ralcorp Holdings Inc. reported results for the fourth quarter and fiscal year ended September 30, 2010; which include the operations of AIPC American Italian Pasta Company (acquired July 27), Sepp´s Gourmet Foods Limited (acquired June 25), J.T. Bakeries Inc. and North American Baking Limited (both acquired May 31) from their respective acquisition dates. Highlights:

  • Net Sales grew in the fourth quarter as a result of incremental sales from acquisitions as well as improvement in overall base-business sales volume, with increases in most product categories.
  • Diluted Earnings per Share (EPS) were negatively affected in the fourth quarter by the impairment of intangible assets, increased merger and integration costs, a provision for legal settlement, and the absence of any gains or earnings related to Ralcorp´s former investment in Vail Resorts Inc. (Vail). These items are excluded from Adjusted Diluted EPS.
  • Fourth quarter earnings (reported and adjusted) include the effect of 11,8 million USD, or 0,13 USD per share, of systems upgrade and conversion costs and stock-based compensation expense versus 3,6 million USD, or 0,04 USD per share, in the same period last year. Favorable tax adjustments in the fourth quarter of fiscal 2010 had an impact of approximately 7,0 million USD, or 0,13 USD per share.
  • Acquisitions completed in fiscal 2010 were accretive by approximately 0,18 USD per share for the fourth quarter, driven primarily by AIPC, and are expected to contribute at least 0,75 USD per share in fiscal 2011.

Commenting on the 2010 results, co-CEO Kevin Hunt said, «We are pleased with the performance of all four of our business acquisitions during the quarter, and we are continuing to execute our revenue and cost synergy plans for each of the acquired companies». Regarding the Branded Cereal Products segment, co-CEO David Skarie said, «This was a transitional quarter for Post as we executed our previously announced plans to reduce our trade spending. We will continue to focus on improving innovation and trade spending efficiency in 2011. We are excited about our new product pipeline and improvements to our existing products that we will announce during the year. Ralcorp is facing significant raw material cost increases as we enter the new fiscal year. We intend to aggressively reduce internal costs, eliminate inefficient trade spending and take pricing actions when justified. We expect these mitigation efforts to largely offset cost increases».

Net Sales

Net sales increased 15 percent from last year´s fourth quarter, primarily as a result of recent acquisitions which accounted for 14 percent of the increase for the three months ended September 30, 2010. Base-business net sales increased one percent in the fourth quarter due to four percent higher volumes, with growth in most of the Company´s significant product categories. Net sales were reduced by lower net selling prices in several categories.

Margins

Gross profit decreased as a percentage of net sales due to lower net pricing and changes in product mix, particularly shifts from higher-margin categories such as ready-to-eat cereals to lower-margin private label products in the Snacks, Sauces and Spreads segment and nutritional bars.

Selling, general and administrative expenses decreased as a percentage of net sales largely due to the aforementioned change in sales mix. This decrease was partially offset by increased expenses related to information system conversions and stock-based compensation expense. Stock-based compensation expense increased largely due to the timing of expense recognition for awards to retirement-eligible recipients.

Along with incremental sales, the current year acquisitions brought significant intangible assets related to customer relationships and trademarks. The resulting incremental amortization expense totaled 5,2 million USD, or 0,06 USD per share, in the quarter ended September 30, 2010.

In addition to the items discussed above, operating profit margin was affected by the impairment of intangible assets, merger and integration costs, and the provision for legal settlement discussed below. Excluding the effects of those amounts, adjusted operating margins were 11,6 percent and 12,5 percent for the quarter and year ended September 30, 2010 compared to 12,7 percent and 12,3 percent for the corresponding periods of fiscal 2009.

Impairment of Intangible Assets

In September 2010, a trademark impairment loss of 19,4 million USD was recognized in the Branded Cereal Products segment related to the Post Shredded Wheat and Grape Nuts trademarks based on reassessments completed in the fourth quarter. The trademark impairment was due to a reallocation of advertising and promotion expenditures to higher-return brands and reductions in anticipated sales-growth rates.

Merger and Integration Costs

As discussed above, the Company completed four acquisitions during fiscal 2010. During the three months ended September 30, 2010, Ralcorp recorded approximately 14,5 million USD of expenses related to recent acquisitions. Those expenses included professional services fees and a one-time finished goods inventory revaluation adjustment related to the AIPC transaction, as well as Post Foods transition and integration costs, and severance costs related to all four fiscal 2010 acquisitions. No additional Post Foods transition and integration costs will be incurred in fiscal 2011. Of the 14,5 million USD merger and integration costs, 4,5 million USD is included in «Cost of goods, sold» 1,6 million USD in «Selling, general and administrative expenses», and 8,4 million USD in «Other operating expense, net».

During the three months ended September 30, 2010, the Company accrued 7,5 million USD in connection with the potential settlement of certain contractual claims by a customer currently pending in mediation. Those claims arose primarily as a result of the customer´s recall of certain peanut-butter based products in January 2009.

Interest Expense and Income Taxes

Interest expense increased 6,6 million USD for the three months ended September 30, 2010 compared to the same period in the prior year due to a 981,1 million USD increase in outstanding debt since September 30, 2009. To help finance the AIPC acquisition, the Company incurred approximately 1,1 billion USD of debt in July with a weighted-average interest rate of approximately 3,8 percent. The weighted-average interest rate on all of the Company´s outstanding debt was 5,7 percent and 6,0 percent in the fourth quarter of fiscal 2010 and 2009, respectively. Fourth quarter income taxes include entries to adjust income tax expense amounts from the estimates previously recorded to the amounts reflected on recently filed tax returns, including the effects of lower than anticipated effective state rates and the final tax effects of the sale of Vail shares. These adjustments resulted in effective tax rates of 24,2 percent and 33,5 percent for the quarter and year ended September 30, 2010, respectively, compared to 34,8 percent and 35,9 percent for the corresponding periods in the prior year.

Prior year earnings were affected by changes in the fair value of the Company´s forward sale contracts related to its shares of Vail, gains on the sale of its Vail shares, and equity method earnings from its investment in Vail. Fair value adjustments on forward sale contracts and sales of securities resulted in gains of 17,6 million USD (non-cash) and 70,6 million USD, respectively, for the year ended September 30, 2009. The forward sale contracts were settled by the end of the third quarter of fiscal year 2009 and all remaining shares of Vail common stock were sold during the remainder of fiscal 2009 with a fourth quarter gain of 26,8 million USD. As of September 30, 2009, Ralcorp no longer owned any shares of Vail common stock.

Segment Results

Branded Cereal Products: Fourth quarter net sales in the Branded Cereal Products segment (Post Foods) were down twelve percent from last year, primarily as a result of a nine percent volume decline. Post consumption lagged the ready-to-eat cereal category as the Company reduced trade spending from last quarter´s aggressive levels. Trade spending levels in the fourth quarter were also below those in the first two quarters of fiscal 2010, but above those in last year´s fourth quarter, as the segment transitions to more efficient trade programs. The segment´s profit decreased compared to the prior year fourth quarter primarily as a result of the lower sales volume and higher promotional spending, as well as unfavorable production cost variances. Those effects were partially offset by reduced spending for advertising.

Other Cereal Products: Fourth quarter net sales in the Other Cereal Products segment were five percent higher than in the prior year. The increase was driven by two percent volume growth and a favorable mix, partially offset by lower selling prices. Favorable variances in volume and mix are mainly attributable to a 42 percent volume increase in nutritional bars, as ready-to-eat cereal volume declined nearly six percent for the fourth quarter. The segment´s profit increased compared to the prior year fourth quarter as a result of the higher sales, as well as lower package design, brokerage and distribution costs per unit. These increases were partially offset by higher raw material costs (specifically sugar, vitamins, and cocoa).

Snacks, Sauces + Spreads: For the three months ended September 30, 2010, net sales for the Snacks, Sauces + Spreads segment were up 15 percent as a result of incremental sales from recently acquired cracker producers, J.T. Bakeries and North American Baking, as well as increases within the base business. Net sales of the base business were up seven percent compared to last year´s fourth quarter as a result of nine percent volume growth driven by non-measured channel gains, partially offset by reduced selling prices. The segment´s fourth quarter profit was up more than two percent from a year ago as a result of increased profits from the base business as well as results from recent business acquisitions. Base-business profit was up more than one percent as a result of higher volumes and lower production costs, partially offset by the effects of price declines. Compared to the third quarter of fiscal 2010, the segment´s profit margin declined due to reduced selling prices, higher tree-nut costs, and increased sales of lower-margin snack nuts and saltine crackers.

Frozen Bakery Products: In the Frozen Bakery Products segment, fourth quarter net sales grew ten percent from a year ago, primarily due to results from the recently acquired Sepp´s Gourmet Foods business as well as increases within the base business. Base-business net sales were up four percent as the effects of increased volume and a favorable sales mix were partially offset by the effects of lower pricing. Base-business volume was up five percent, driven by new and expanded product distribution with two major retailers and year-over-year volume growth in the foodservice channel for the first time in eight quarters. The segment´s profit was down for the three months ended September 30, 2010 versus the same period in 2009, primarily as a result of lower pricing, partially offset by higher volumes and results from the recent acquisition.

Pasta: Net sales in the Pasta segment (AIPC) decreased approximately three percent for July 27 through September 30 compared to August and September in the prior year. The decrease is attributable to lower average selling prices and increased promotional spending, partially offset by an increase in volume.

Outlook

As discussed above, Ralcorp´s fiscal 2010 results were affected by a number of events and circumstances that affect the comparability of those results. Looking ahead to fiscal 2011, the Company provided the following discussion of expectations regarding costs and margins, sales volume and promotional plans, debt servicing and capital expenditures, tax rates and other key financial and operational factors.

«We currently forecast that our ingredient, packaging and freight costs will rise approximately 200 million USD net of hedges for fiscal 2011, with the most significant impacts from wheat (durum and common), nuts, sugar, and oils.

Our Post cereal operating results were hurt in fiscal 2010 by lower volumes, notwithstanding higher promotional spending. While the promotional spending achieved its objective of increasing market share, some of the spending was inefficient and did not achieve targeted sales volume increases. During fiscal 2011, we plan to improve several of our existing products and introduce some innovative new products into the market. We also plan to eliminate inefficient trade programs as we increase our investment in advertising and consumer spending to support our new product initiatives.

We completed four acquisitions with debt financing during 2010. These financings raised our ratio of total debt to pro forma Ebitda to approximately 3,4 times at September 30, 2010. Our long-term goal is a leverage ratio of between 2,5 and 3,0 times. In order to reduce leverage, we plan to focus on debt repayment during the first half of fiscal 2011.

In addition, for fiscal 2011, we currently project capital expenditures of between 150 and 165 million USD (including maintenance expenditures of approximately 50 million USD), depreciation expense of approximately 150 million USD, amortization expense of approximately 75 million USD, and an effective tax rate of approximately 36 percent. Also, we expect system upgrade and conversion costs to be similar to fiscal 2010».

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