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Hershey (HSY) Well Poised on its Margin for Growth Plan

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On Jul 14, 2017, we issued an updated research report on The Hershey Company (HSY - Free Report) , the leading chocolate manufacturer in North America.

Hershey’s shares have outperformed the Zacks categorized Food-Confectionary industry year to date. The company’s shares have gained around 1.3%, while the broader industry declined 10.2%.

The company’s strong brand portfolio, focus on innovation and productivity improvements and cost savings programs are encouraging. However, the changing North American food industry raises concern.

Cost Saving Plans Combatting Weak Sales

The North American food industry has been witnessing sluggish growth and slowdown in consumption for the last few quarters. The industry is experiencing changes in consumer preference (for example, shift toward products with less artificial sweeteners, sodium and saturated fat), changes in consumer dynamics, demographic shifts, and also a spending shift toward lower-priced products.

Given these changes, Hershey, like a number of U.S. food producers namely Mondelez International, Inc. (MDLZ - Free Report) , ConAgra Foods Inc. (CAG - Free Report) and food giant General Mills, Inc. (GIS - Free Report) , has been facing the brunt of shifting consumer preference.

Hershey has been experiencing top-line pressure since 2014. In 2016, the company’s sales experienced a meager 0.7% growth. Meanwhile, the U.S. chocolate category is gradually slowing. In fact, the company is witnessing chocolate category softness in key international markets such as China. The chocolate category sales in China were flat and below the market level in first-quarter 2017.

Nevertheless, Hershey regularly brings innovation to its core brands to meet consumer demand and needs that are not addressed by its current portfolio. The company’s initiatives have been bearing fruit of late with net sales increasing 2.8% year over year in the first quarter. This marks the fourth straight rise in quarterly sales after few quarters of no growth.

Again, under its continuous improvement and productivity (CIP) program, management has optimized its North American manufacturing footprint, added manufacturing capabilities in international markets, increased supply chain productivity, invested in cost saving projects and improved the sales mix significantly.

The productivity and cost savings from these efforts are being invested in brand building and supporting growth and gaining marketplace insights, which in turn are boosting the company’s margins.

In the last reported quarter, Hershey’s adjusted gross margin expanded 70 basis points (bps) to 47.5% buoyed by favorable trade, supply chain productivity and costs-savings initiatives and lower input costs, which offset other higher supply chain costs. Operating margin also expanded 170 bps to 23.2%.

Additionally, the company unveiled a new cost-savings program, Margin for Growth, to boost profitability. The international division is expected to significantly narrow its operating loss in 2018 on the back of the new cost-reduction program.

As part of its Margin for Growth multi-year program, it will reduce its global workforce outside the U.S. by 15%. This multi-year program is intended to improve overall operating margin through supply chain optimization, a streamlined operating model and reduced administrative expenses, with savings primarily being achieved in 2018 and 2019. These moves are anticipated to boost efficiency, leverage global shared services and common processes and increase capacity utilization.

These initiatives will enable Hershey to achieve its adjusted operating profit margin target of around 22–23% by 2019. The company will incur pre-tax charges of $375 million to $425 million, and provide benefits between $80 million and $100 million from the layoffs.

Hershey holds a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 (Strong Buy) Rank stocks here.

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