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 OCTOBER 3, 1999
-------------------------------------------------
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
- -------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 23-0691590
------------------------------- ------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
100 CRYSTAL A DRIVE
HERSHEY, PENNSYLVANIA 17033
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (717) 534-6799
----------------------------
- --------------------------------------------------------------------------------
(Former name,former address and former fiscal year,if changed since last report)
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 - 107,927,348 shares, as of November 1, 1999. Class B
Common Stock, $1 par value - 30,443,908 shares, as of November 1, 1999.
Exhibit Index - Page 21
1
<PAGE>
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
--------------------------
OCTOBER 3, OCTOBER 4,
1999 1998
----------- -----------
NET SALES $ 1,066,695 $ 1,217,237
----------- -----------
COSTS AND EXPENSES:
Cost of sales 634,042 706,605
Selling, marketing and administrative 268,575 311,658
----------- -----------
Total costs and expenses 902,617 1,018,263
----------- -----------
INCOME BEFORE INTEREST AND INCOME TAXES 164,078 198,974
Interest expense, net 20,507 22,691
----------- -----------
INCOME BEFORE INCOME TAXES 143,571 176,283
Provision for income taxes 55,993 68,750
----------- -----------
NET INCOME $ 87,578 $ 107,533
=========== ===========
NET INCOME PER SHARE - BASIC $ .63 $ .75
=========== ===========
NET INCOME PER SHARE - DILUTED $ .62 $ .74
=========== ===========
AVERAGE SHARES OUTSTANDING - BASIC 139,504 143,438
=========== ===========
AVERAGE SHARES OUTSTANDING - DILUTED 140,834 145,434
=========== ===========
CASH DIVIDENDS PAID PER SHARE:
Common Stock $ .2600 $ .2400
=========== ===========
Class B Common Stock $ .2350 $ .2175
=========== ===========
The accompanying notes are an integral part of these statements.
2
<PAGE>
HERSHEY FOODS CORPORATION
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
FOR THE NINE MONTHS ENDED
-------------------------
OCTOBER 3, OCTOBER 4,
1999 1998
----------- -----------
NET SALES $ 2,865,086 $ 3,195,712
----------- -----------
COSTS AND EXPENSES:
Cost of sales 1,709,002 1,881,660
Selling, marketing and administrative 776,700 869,337
Gain on sale of business (243,785) ---
----------- -----------
Total costs and expenses 2,241,917 2,750,997
----------- -----------
INCOME BEFORE INTEREST AND INCOME TAXES 623,169 444,715
Interest expense, net 55,962 66,141
----------- -----------
INCOME BEFORE INCOME TAXES 567,207 378,574
Provision for income taxes 204,904 147,643
----------- -----------
NET INCOME $ 362,303 $ 230,931
=========== ===========
NET INCOME PER SHARE - BASIC $ 2.58 $ 1.61
=========== ===========
NET INCOME PER SHARE - DILUTED $ 2.55 $ 1.59
=========== ===========
AVERAGE SHARES OUTSTANDING - BASIC 140,451 143,440
=========== ===========
AVERAGE SHARES OUTSTANDING - DILUTED 141,841 145,564
=========== ===========
CASH DIVIDENDS PAID PER SHARE:
Common Stock $ .7400 $ .6800
=========== ===========
Class B Common Stock $ .6700 $ .6175
=========== ===========
The accompanying notes are an integral part of these statements.
3
<PAGE>
<TABLE>
<CAPTION>
HERSHEY FOODS CORPORATION
CONSOLIDATED BALANCE SHEETS
OCTOBER 3, 1999 AND DECEMBER 31, 1998
(IN THOUSANDS OF DOLLARS)
ASSETS 1999 1998
----------- -----------
CURRENT ASSETS:
<S> <C> <C>
Cash and cash equivalents $ 42,896 $ 39,024
Accounts receivable - trade 508,399 451,324
Inventories 613,846 493,249
Deferred income taxes 84,224 58,505
Prepaid expenses and other 105,099 91,864
----------- -----------
Total current assets 1,354,464 1,133,966
----------- -----------
PROPERTY, PLANT AND EQUIPMENT, AT COST 2,567,411 2,702,787
Less - accumulated depreciation and amortization (1,037,095) (1,054,729)
----------- -----------
Net property, plant and equipment 1,530,316 1,648,058
----------- -----------
INTANGIBLES RESULTING FROM BUSINESS ACQUISITIONS 453,508 530,464
OTHER ASSETS 89,443 91,610
----------- -----------
Total assets $ 3,427,731 $ 3,404,098
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 131,569 $ 156,937
Accrued liabilities 309,937 294,415
Accrued income taxes 69,241 17,475
Short-term debt 345,821 345,908
Current portion of long-term debt 2,485 89
----------- -----------
Total current liabilities 859,053 814,824
LONG-TERM DEBT 878,347 879,103
OTHER LONG-TERM LIABILITIES 333,390 346,769
DEFERRED INCOME TAXES 325,544 321,101
----------- -----------
Total liabilities 2,396,334 2,361,797
----------- -----------
STOCKHOLDERS' EQUITY:
Preferred Stock, shares issued:
none in 1999 and 1998 --- ---
Common Stock, shares issued:
149,506,964 in 1999 and 149,502,964 in 1998 149,506 149,503
Class B Common Stock, shares issued:
30,443,908 in 1999 and 30,447,908 in 1998 30,444 30,447
Additional paid-in capital 31,085 29,995
Unearned ESOP compensation (23,152) (25,548)
Retained earnings 2,450,490 2,189,693
Treasury-Common Stock shares at cost:
41,436,416 in 1999 and 36,804,157 in 1998 (1,550,550) (1,267,422)
Accumulated other comprehensive loss (56,426) (64,367)
----------- -----------
Total stockholders' equity 1,031,397 1,042,301
----------- -----------
Total liabilities and stockholders' equity $ 3,427,731 $ 3,404,098
=========== ===========
</TABLE>
The accompanying notes are an integral part of these balance sheets.
4
<PAGE>
<TABLE>
<CAPTION>
HERSHEY FOODS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS OF DOLLARS)
FOR THE NINE MONTHS ENDED
OCTOBER 3, OCTOBER 4,
1999 1998
----------- -----------
CASH FLOWS PROVIDED FROM (USED BY) OPERATING ACTIVITIES
<S> <C> <C>
Net Income $ 362,303 $230,931
Adjustments to Reconcile Net Income to Net Cash
Provided from Operations:
Depreciation and amortization 121,613 116,544
Deferred income taxes 9,259 3,620
Gain on sale of business, net of tax of $78,769 (165,016) ---
Changes in assets and liabilities, net of
effects from business acquisitions and divestitures:
Accounts receivable - trade (77,584) (73,164)
Inventories (145,853) (67,419)
Accounts payable (13,816) (12,637)
Other assets and liabilities (34,196) (30,163)
Other, net --- 48
--------- ---------
Net Cash Flows Provided from Operating Activities 56,710 167,760
--------- ---------
CASH FLOWS PROVIDED FROM (USED BY) INVESTING ACTIVITIES
Capital additions (91,175) (117,511)
Capitalized software additions (22,202) (29,709)
Proceeds from divestiture 450,000 ---
Other, net 3,337 5,858
--------- ---------
Net Cash Flows Provided from (Used by) Investing Activities 339,960 (141,362)
--------- ---------
CASH FLOWS PROVIDED FROM (USED BY) FINANCING ACTIVITIES
Net increase (decrease) in short-term debt (87) 96,392
Long-term borrowings 1,806 ---
Repayment of long-term debt (284) (25,139)
Cash dividends paid (101,506) (95,385)
Exercise of stock options 17,540 15,992
Incentive plan transactions --- (22,458)
Repurchase of Common Stock (310,267) (9,874)
--------- ----------
Net Cash Flows (Used by) Financing Activities (392,798) (40,472)
--------- ---------
Increase (Decrease) in Cash and Cash Equivalents 3,872 (14,074)
Cash and Cash Equivalents, beginning of period 39,024 54,237
--------- ---------
Cash and Cash Equivalents, end of period $ 42,896 $ 40,163
========= =========
--------------------------------------------------------------------
Interest Paid $ 71,520 $ 80,700
========= =========
Income Taxes Paid $ 133,485 $ 57,743
========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE>
<TABLE>
<CAPTION>
HERSHEY FOODS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
ACCUMULATED
CLASS B ADDITIONAL UNEARNED TREASURY OTHER TOTAL
PREFERRED COMMON COMMON PAID-IN ESOP RETAINED COMMON COMPREHENSIVE STOCKHOLDERS'
STOCK STOCK STOCK CAPITAL COMPENSATION EARNINGS STOCK INCOME (LOSS) EQUITY
- -----------------------------------------------------------------------------------------------------------------------------------
IN THOUSANDS OF DOLLARS
BALANCE AS OF
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
DECEMBER 31, 1998 $--- $149,503 $30,447 $29,995 $(25,548) $2,189,693 $(1,267,422) $(64,367) $1,042,301
----------
Comprehensive income:
Net income 224,670 224,670
Other comprehensive
income:
Foreign currency
translation
adjustments 4,996 4,996
----------
Comprehensive income 229,666
----------
Dividends:
Common Stock, $.24
per share (26,599) (26,599)
Class B Common
Stock, $.2175
per share (6,622) (6,622)
Incentive plan
transactions (480) (480)
Exercise of stock
options 2,304 18,808 21,112
Employee stock
ownership trust
transactions 127 799 926
Repurchase of
Common Stock (236,959) (236,959)
---- ------- ------ ------ ------- --------- ----------- ------- ----------
BALANCE AS OF
APRIL 4, 1999 --- 149,503 30,447 31,946 (24,749) 2,381,142 (1,485,573) (59,371) 1,023,345
Comprehensive income:
Net income 50,055 50,055
Other comprehensive
income:
Foreign currency
translation
adjustments 4,289 4,289
---------
Comprehensive income 54,344
---------
Dividends:
Common Stock, $.24
per share (26,233) (26,233)
Class B Common
Stock, $.2175
per share (6,622) (6,622)
Conversion of
Class B Common
Stock into
Common Stock 3 (3) ---
Exercise of stock
options (495) 4,086 3,591
Employee stock
ownership trust
transactions 121 798 919
Supplemental
retirement
contribution 172 172
Repurchase of
Common Stock (14,995) (14,995)
---- ------- ------ ------ ------ --------- ---------- ------- ----------
BALANCE AS OF
JULY 4, 1999 --- 149,506 30,444 31,744 (23,951) 2,398,342 (1,496,482) (55,082) 1,034,521
Comprehensive income:
Net income 87,578 87,578
Other comprehensive
income:
Foreign currency
translation
adjustments (1,344) (1,344)
----------
Comprehensive income 86,234
----------
Dividends:
Common Stock, $.26
per share (28,276) (28,276)
Class B Common
Stock, $.2350
per share (7,154) (7,154)
Exercise of stock
options (775) 4,245 3,470
Employee stock
ownership trust
transactions 116 799 915
Repurchase of
Common Stock (58,313) (58,313)
---- ------- ------ ------ ------ --------- ----------- -------- ----------
BALANCE AS OF
OCTOBER 3, 1999 $--- $149,506 $30,444 $31,085 $(23,152) $2,450,490 $(1,550,550) $(56,426) $1,031,397
==== ======== ======= ======= ========= ========== ============ ======== ==========
</TABLE>
The accompanying notes are an integral part of this statement.
6
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of the Corporation and its subsidiaries after elimination of
intercompany accounts and transactions. These statements have been prepared
in accordance with the instructions to Form 10-Q and do not include
all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, all adjustments (consisting only of normal recurring accruals)
considered necessary for a fair presentation have been included. Certain
reclassifications have been made to prior year amounts to conform to the
1999 presentation. Operating results for the three months and year-to-date
ended October 3, 1999, are not necessarily indicative of the results that
may be expected for the year ending December 31, 1999. For more
information, refer to the consolidated financial statements and footnotes
included in the Corporation's 1998 Annual Report on Form 10-K for the
fiscal year ended December 31, 1998.
2. INTEREST EXPENSE
Interest expense, net consisted of the following:
FOR THE NINE MONTHS ENDED
-------------------------
OCTOBER 3, 1999 OCTOBER 4, 1998
--------------- ---------------
(IN THOUSANDS OF DOLLARS)
Interest expense $ 59,248 $ 70,238
Interest income (2,072) (2,302)
Capitalized interest (1,214) (1,795)
-------- --------
Interest expense, net $ 55,962 $ 66,141
======== ========
7
<PAGE>
3. NET INCOME PER SHARE
A total of 41,436,416 shares were held as Treasury Stock as of October 3,
1999.
In accordance with Statement of Financial Accounting Standards No. 128
"Earnings Per Share", Basic and Diluted Earnings per Share are computed
based on the weighted average number of shares of the Common Stock and the
Class B Stock outstanding as follows:
<TABLE>
<CAPTION>
INCOME SHARES PER-SHARE
FOR THE THREE MONTHS ENDED OCTOBER 3, 1999 (NUMERATOR) (DENOMINATOR) AMOUNT
- --------------------------------------------------------------------------------------------
In thousands of dollars except shares and per share amounts
Net Income per Share - Basic
- ----------------------------
<S> <C> <C> <C>
Net income $ 87,578 139,503,793 $.63
====
Effect of Dilutive Securities
- -----------------------------
Stock options - 1,274,054
Performance stock units - 16,543
Restricted stock units - 39,309
---------- -------------
Net Income per Share - Diluted
- ------------------------------
Net income and assumed conversions $ 87,578 140,833,699 $.62
========== ============= ====
INCOME SHARES PER-SHARE
FOR THE THREE MONTHS ENDED OCTOBER 4, 1998 (NUMERATOR) (DENOMINATOR) AMOUNT
- ---------------------------------------------------------------------------------------------
In thousands of dollars except shares and per share amounts
Net Income per Share - Basic
- ----------------------------
Net income $ 107,533 143,438,495 $.75
====
Effect of Dilutive Securities
- -----------------------------
Stock options - 1,900,602
Performance stock units - 87,958
Restricted stock units - 7,397
---------- -------------
Net Income per Share - Diluted
- ------------------------------
Net income and assumed conversions $ 107,533 145,434,452 $.74
========== ============= ====
</TABLE>
8
<PAGE>
<TABLE>
<CAPTION>
INCOME SHARES PER-SHARE
FOR THE NINE MONTHS ENDED OCTOBER 3, 1999 (NUMERATOR) (DENOMINATOR) AMOUNT
- --------------------------------------------------------------------------------------------
In thousands of dollars except shares and per share amounts
Net Income per Share - Basic
- ----------------------------
<S> <C> <C> <C>
Net income $ 362,303 140,451,439 $2.58
=====
Effect of Dilutive Securities
- -----------------------------
Stock options - 1,333,475
Performance stock units - 16,578
Restricted stock units - 39,394
---------- -------------
Net Income per Share - Diluted
- ------------------------------
Net income and assumed conversions $ 362,303 141,840,886 $2.55
========== ============= =====
INCOME SHARES PER-SHARE
FOR THE NINE MONTHS ENDED OCTOBER 4, 1998 (NUMERATOR) (DENOMINATOR) AMOUNT
- --------------------------------------------------------------------------------------------
In thousands of dollars except shares and per share amounts
Net Income per Share - Basic
- ----------------------------
Net income $ 230,931 143,440,288 $1.61
=====
Effect of Dilutive Securities
- -----------------------------
Stock options - 2,028,319
Performance stock units - 88,219
Restricted stock units - 7,419
---------- -------------
Net Income per Share - Diluted
- ------------------------------
Net income and assumed conversions $ 230,931 145,564,245 $1.59
========== ============= =====
</TABLE>
4. INVENTORIES
The majority of inventories are valued under the last-in, first-out
(LIFO) method. The remaining inventories are stated at the lower of
first-in, first-out (FIFO) cost or market. Inventories were as follows:
OCTOBER 3, 1999 DECEMBER 31, 1998
--------------- -----------------
(IN THOUSANDS OF DOLLARS)
Raw materials $ 219,792 $ 170,777
Goods in process 57,782 83,522
Finished goods 426,876 322,125
--------- ---------
Inventories at FIFO 704,450 576,424
Adjustment to LIFO (90,604) (83,175)
--------- ---------
Total inventories $ 613,846 $ 493,249
========= =========
9
<PAGE>
5. LONG-TERM DEBT
In August 1997, the Corporation filed a Form S-3 Registration Statement
under which it could offer, on a delayed or continuous basis, up to $500
million of additional debt securities. As of October 3, 1999, $250
million of debt securities remained available for issuance under the
August 1997 Registration Statement.
6. FINANCIAL INSTRUMENTS
The carrying amounts of financial instruments including cash and cash
equivalents, accounts receivable, accounts payable and short-term debt
approximated fair value as of October 3, 1999 and December 31, 1998,
because of the relatively short maturity of these instruments. The
carrying value of long-term debt, including the current portion, was
$880.8 million as of October 3, 1999, compared to a fair value of $877.6
million, based on quoted market prices for the same or similar debt
issues.
As of October 3, 1999, the Corporation had foreign exchange forward
contracts maturing in 1999 and 2000 to purchase $20.9 million in foreign
currency, primarily British sterling, and to sell $34.7 million in
foreign currency, primarily Canadian dollars and Japanese yen, at
contracted forward rates.
The fair value of foreign exchange forward contracts is estimated by
obtaining quotes for future contracts with similar terms, adjusted where
necessary for maturity differences. As of October 3, 1999, the fair
value of foreign exchange forward contracts approximated the contract
value. The Corporation does not hold or issue financial instruments for
trading purposes.
In order to minimize its financing costs and to manage interest rate
exposure, the Corporation, from time to time, enters into interest rate
swap agreements to effectively convert a portion of its floating rate
debt to fixed rate debt. As of October 3, 1999, the Corporation had no
such agreements outstanding.
7. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, ACCOUNTING FOR DERIVATIVE
INSTRUMENTS AND HEDGING ACTIVITIES (SFAS No. 133). SFAS No. 133
establishes accounting and reporting standards requiring that every
derivative instrument be recorded in the balance sheet as either an
asset or liability measured at its fair value. SFAS No. 133 requires
that changes in the derivative's fair value be recognized currently in
earnings unless specific hedge accounting criteria are met. Special
accounting for qualifying hedges allows a derivative's gains and losses
to offset related results on the hedged item in the income statement,
and requires that a company must formally document, designate, and
assess the effectiveness of transactions that receive hedge accounting.
The effective date for SFAS No. 133 has been deferred to fiscal years
beginning after June 15, 2000, but may be implemented as of the
beginning of any fiscal quarter after issuance.
10
<PAGE>
Retroactive application is not permitted. SFAS No. 133 must be
applied to (a) derivative instruments and (b) certain derivative
instruments embedded in hybrid contracts that were issued, acquired,
or substantively modified after December 31, 1997.
Changes in accounting methods will be required for derivative
instruments utilized by the Corporation to hedge commodity price,
foreign currency exchange rate and interest rate risks. Such derivatives
include commodity futures and options contracts, foreign exchange
forward and options contracts and interest rate swaps.
The Corporation anticipates the adoption of SFAS No. 133 as of January
1, 2001. As of October 3, 1999, net deferred losses on derivatives of
approximately $32.0 million after tax would have been reported as a
component of other comprehensive loss and classified as accumulated
other comprehensive loss on the consolidated balance sheets upon
adoption of SFAS No. 133.
8. SHARE REPURCHASES
A total of 1,963,089 shares of Common Stock was purchased during the
first quarter of 1999 under the share repurchase program begun in 1996,
completing the $200 million program. In February 1999, the Corporation's
Board of Directors approved an additional share repurchase program
authorizing the repurchase of up to $230 million of the Corporation's
Common Stock. Under this program, the Corporation purchased 1,579,779
shares of its Common Stock from Hershey Trust Company, as Trustee for
the benefit of Milton Hershey School, and an additional 1,776,711 shares
through open market transactions during the first nine months of 1999.
As of October 3, 1999, a total of 41,436,416 shares were held as
Treasury Stock and $32.2 million remained available for repurchases of
Common Stock under the repurchase program approved in February 1999. In
October 1999, the Corporation's Board of Directors approved an
additional share repurchase program authorizing the repurchase of up to
$200 million of the Corporation's Common Stock, to be initiated upon
completion of the February 1999 repurchase program.
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
RESULTS OF OPERATIONS - THIRD QUARTER 1999 VS. THIRD QUARTER 1998
- -----------------------------------------------------------------
Consolidated net sales for the third quarter fell from $1,217.2 million in 1998
to $1,066.7 million in 1999, a decrease of 12% from the prior year. The sales
decline reflected reduced shipments in the United States of confectionery and
grocery products resulting from problems in order fulfillment (customer service,
warehousing, and shipping) encountered since the July start-up of a new
integrated information system and new business processes, in addition to lower
sales resulting from the divestiture of the Corporation's pasta business in
January 1999. The sales decrease was partially offset by incremental sales from
the introduction of new confectionery products.
The consolidated gross margin decreased from 42.0% in 1998 to 40.6% in 1999. The
decrease reflected reduced manufacturing efficiency and fixed cost absorption
resulting primarily from sales volume declines, higher freight and distribution
costs associated with difficulties arising from the new business systems and
processes and with distribution center capacity constraints, and higher
depreciation expense as a percentage of sales. These cost increases were offset
partially by reduced costs for raw materials and packaging.
Selling, marketing and administrative expenses decreased by 14%, primarily
reflecting lower expenses related to the divestiture of the pasta business and
decreased marketing expenditures for core confectionery brands, partially offset
by higher amortization expense for capitalized software and increased marketing
for the introduction of new products and development of international markets.
Net interest expense in the third quarter of 1999 was $2.2 million below the
comparable period of 1998, primarily as a result of lower short-term interest
expense as a portion of the proceeds from the sale of the pasta business was
used to reduce short-term borrowings.
The third quarter effective income tax rate was 39.0% in 1999 and 1998.
RESULTS OF OPERATIONS - FIRST NINE MONTHS 1999 VS. FIRST NINE MONTHS 1998
- -------------------------------------------------------------------------
Consolidated net sales for the first nine months of 1999 decreased by $330.6
million or 10%, primarily as a result of the divestiture of the Corporation's
pasta business and sales decreases in the United States of core confectionery
and grocery products early in the year and particularly in the third quarter as
a result of the problems encountered since the July start-up of the new business
systems and processes. These sales declines were partially offset by incremental
sales from the introduction of new confectionery products and increased export
sales in international markets.
The consolidated gross margin decreased from 41.1% in 1998 to 40.4% in 1999. The
decrease reflected lower profitability resulting from the mix of confectionery
items sold in 1999 compared with sales during the comparable period of 1998,
primarily related to lower sales of the more profitable standard bars. Higher
freight and distribution costs, reflecting increased costs related to the
implementation of new business systems and processes and distribution center
capacity constraints, and higher depreciation expense as a percentage of sales
also contributed to the lower gross margin
12
<PAGE>
in the first nine months of 1999. These cost increases were offset
partially by decreased costs for packaging materials and raw materials and a
one-time benefit from revisions to the Corporation's retiree medical program.
Selling, marketing and administrative expenses decreased by 11%, reflecting
lower expenses resulting from the divestiture of the pasta business, reduced
marketing expenses for core confectionery brands and lower administrative
expenses. These decreases were offset partially by increased spending associated
with the introduction of new products and international exports, in addition to
higher amortization expense for capitalized software.
Net interest expense was $10.2 million below the comparable period of 1998,
primarily as a result of lower short-term interest expense as a portion of the
proceeds from the sale of the pasta business was used to reduce short-term
borrowings.
Excluding the provision for income taxes associated with the gain on the sale of
the pasta business, the effective income tax rate was 39.0% in 1999 and 1998.
In January 1999, the Corporation recorded a gain of $243.8 million, $165.0
million or $1.16 per share - diluted after tax, on the sale of its pasta
business. Excluding the after-tax gain on the sale, net income for the first
nine months of 1999 of $197.3 million was 15% below the comparable period of the
prior year and net income per share - diluted excluding the after-tax gain was
$1.39 per share or $.20 per share below 1998.
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, generally have been met by issuing commercial
paper. During the first nine months of 1999, the Corporation's cash and cash
equivalents increased by $3.9 million. Cash and cash equivalents on hand at the
beginning of the period, cash provided from operating activities and proceeds
from the divestiture of the pasta business were sufficient to repurchase $310.3
million of the Corporation's Common Stock, finance capital expenditures and
capitalized software additions of $113.4 million and pay cash dividends of
$101.5 million.
An increase in inventories of $120.6 million primarily reflected higher finished
goods inventories resulting from reduced sales in the third quarter of 1999
associated with problems encountered with the start-up of new business systems
and processes. An increase in accounts receivable of $57.1 million was due to
the timing of sales in September and to difficulties with the new business
systems and processes, which resulted in delays in receiving payment and/or
increased deductions from invoiced amounts from certain customers (including
penalties and fees which the Corporation is contesting).
The ratio of current assets to current liabilities was 1.6:1 as of October 3,
1999, and 1.4:1 as of December 31, 1998. 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 54% as of October 3, 1999 and December 31,
1998.
13
<PAGE>
As of October 3, 1999, the Corporation maintained a committed credit facility
agreement with a syndicate of banks in the amount of $576.8 million which could
be borrowed directly or used to support the issuance of commercial paper. The
Corporation has the option to increase the credit facility by $1.0 billion with
the concurrence of the banks. The Corporation also had lines of credit with
domestic and international commercial banks in the amount of approximately $24.5
million as of October 3, 1999 and $23.0 as of December 31, 1998.
In March 1997, the Corporation issued $150 million of 6.95% Notes under a
November 1993 Registration Statement. In August 1997, the Corporation issued
$150 million of Notes and $250 million of Debentures under the November 1993 and
August 1997 Registration Statements. As of October 3, 1999, $250 million of debt
securities remained available for issuance under the August 1997 Registration
Statement. Proceeds from any offering of the $250 million of debt securities
available under the shelf registration may be used for general corporate
requirements, which include reducing existing commercial paper borrowings,
financing capital additions, and funding future business acquisitions and
working capital requirements.
In January 1999, the Corporation implemented the first phase of an
enterprise-wide integrated information system in the United States. The first
phase of system implementation included new business systems and processes
related to purchasing, accounts payable, fixed assets, the general ledger,
production reporting, and tracking of plant inventories. The start-up of the
second phase of system implementation began on July 5, 1999 and included systems
and processes in the areas of sales order and billing, transportation planning
and management, electronic data interchange communications with warehouses,
finished goods inventories, accounts receivable and tracking of marketing
promotions. As of October 3, 1999, approximately $95.9 million of capitalized
software and hardware and $10.2 million of expenses have been incurred for the
enterprise-wide information system and related projects. Total commitments for
these systems are expected to be approximately $115 million to $120 million,
including incremental costs to resolve the system and process issues discussed
above and below. These expenditures will be financed with cash provided from
operations and short-term borrowings.
In July, the Corporation entered into an operating lease agreement for an amount
not to exceed $65 million for the purpose of financing construction costs of a
warehouse and distribution facility located on land owned by the Corporation
near Hershey, Pennsylvania. Under the agreement, the lessor pays for the
construction costs and thereafter leases the facility to the Corporation. The
lease term is six years. The lease provides for a substantial residual guarantee
and includes an option to purchase the facility at original cost. The first
phase of the distribution center is expected to open in the second quarter of
2000.
As of October 3, 1999, the Corporation's principal capital commitments included
manufacturing capacity expansion and modernization. The Corporation anticipates
that capital expenditures will be in the range of $150 million to $170 million
per annum during the next several years as a result of continued modernization
of existing facilities and capacity expansion to support new products and line
extensions. Such expenditures will be financed with cash provided from
operations and short-term borrowings.
14
<PAGE>
YEAR 2000 ISSUES
- ----------------
Year 2000 issues associated with information systems relate to the way dates are
recorded and computed in many computer systems. These year 2000 issues could
have an impact upon the Corporation's information technology (IT) and non-IT
systems. Non-IT systems include embedded technology such as microcontrollers
which are integral to the operation of most machinery and equipment.
Additionally, year 2000 issues could have a similar impact on the Corporation's
major business partners, including both customers and suppliers. While it is not
currently possible to estimate the total impact of a failure of either the
Corporation or its major business partners or suppliers to complete their year
2000 remediation in a timely manner, the Corporation has determined that it
could suffer significant adverse financial consequences as a result of such
failure.
Awareness and assessment of year 2000 issues regarding major business
applications software and other significant IT systems began in 1990. A formal
program to address year 2000 issues associated with IT systems was established
in late 1995. In early 1998, a team was established with representatives from
all major functional areas of the Corporation which assumed overall
responsibility for ensuring that remediation of both the Corporation's IT and
non-IT systems would be completed in time to prevent material adverse
consequences to the Corporation's business, operations or financial condition.
The team developed and implemented year 2000 testing and remediation programs
which in some cases relied upon year 2000 certification from key equipment
vendors. As of October 3, 1999, the Corporation's year 2000 testing and
remediation programs were essentially complete. The total cost of testing and
remediation of the Corporation's IT and non-IT systems not being replaced by the
integrated information system project is expected to be in the range of $6.0
million to $8.0 million.
The Corporation has also assessed year 2000 remediation issues relating to its
major business partners. All of the Corporation's major customers have been
contacted regarding year 2000 issues related to electronic data interchange. The
Corporation has also contacted all of its major suppliers of ingredients,
packaging, facilities, logistics and financial services with regard to year 2000
issues. The information provided to-date by the Corporation's major business
partners indicates that overall their year 2000 remediation efforts, if properly
executed, should not result in material adverse consequences to the
Corporation's business, operations or financial condition as a whole. However,
contingency plans have been developed, including increases in raw material and
finished goods inventory levels, and the identification of alternative vendors
and suppliers. The Corporation has participated in industry-wide efforts to
develop contingency plans which, to the extent feasible, may be relied upon to
resolve any potential failures resulting from year 2000 issues. Operational and
incident specific contingency plans are being finalized within the context of an
overall business continuity contingency plan for all major functional areas of
the Corporation.
SUBSEQUENT EVENT
- ----------------
In October 1999, the Corporation entered into an interest rate swap agreement to
effectively convert $200 million of 6.7% Notes due 2005 (Notes) to variable rate
debt. The interest rate swap agreement is cancelable at the sole discretion of
the counterparty effective April 2, 2001. At the same time, the Corporation
entered into forward interest rate agreements to fix the interest rate on the
Notes at 5.8%
15
<PAGE>
through April 2, 2001. Subsequently, if the counterparty chooses not to cancel
the agreement, the interest rate on the Notes would be variable based on the
London InterBank Offered Rate (LIBOR) until expiration on October 1, 2005.
FORWARD-LOOKING INFORMATION
- ---------------------------
As indicated previously, the Corporation's sales and earnings declined in the
third quarter of 1999 primarily as a result of problems with the start-up of new
business systems and processes in the areas of customer service, warehousing and
order fulfillment encountered during the Corporation's peak shipping season.
These problems resulted in lost sales, longer turnaround times, significantly
increased freight and warehousing costs, and higher levels of inventories and
accounts receivable. While shipping volumes improved in September and October,
strong demand, distribution center capacity limitations and the need to
implement process changes continue to result in extended order lead times and
customer service difficulties. The Corporation expects customer service levels
to improve through the end of 1999, subsequent to the peak shipping period, as
identified process changes are implemented, and to be further enhanced as the
new distribution center becomes operational in 2000. The Corporation will
continue to incur increased costs for freight and warehousing, for increased
working capital requirements, for further enhancements to systems and processes
until such improvements are fully implemented, and for the start-up of the
Corporation's new distribution center.
The Corporation considers its customer relations to be good. However, customer
service and order fulfillment problems during the important
Back-to-School/Halloween shipping period caused distribution difficulties in the
form of incomplete and/or delayed shipments and selective regional/customer out
of stock conditions for the Corporation's products in certain markets. These
circumstances have resulted in lost sales and related market share declines. The
Corporation expects to resolve these issues, to return to historical levels of
customer service, and to restore confidence in Hershey as a valued and reliable
supplier. It is anticipated that these efforts will be effective in increasing
sales and regaining market share.
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 that the following factors, 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
income taxes; market demand for new and existing products; raw material pricing;
the Corporation's ability to remedy the problems and avoid the increased costs
encountered since implementing changes to the customer service, warehousing, and
order fulfillment processes and systems in July 1999; the ability to restore
customer service to historical levels; the effects service levels have on future
customer demand; and the ability to complete construction and commence operation
of the new distribution facility on schedule.
16
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The potential loss in fair value of foreign exchange forward contracts and
interest rate swaps resulting from a hypothetical near-term adverse change in
market rates of ten percent was not material as of October 3, 1999. 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 $7.6 million as of December 31, 1998, to $11.1 million as of
October 3, 1999. Market risk represents 10% of the estimated average fair value
of net commodity positions at four dates prior to the end of each period.
17
<PAGE>
PART II - OTHER INFORMATION
ITEMS 2 THROUGH 4 HAVE BEEN OMITTED AS NOT APPLICABLE.
ITEM 1. LEGAL PROCEEDINGS
In January 1999, the Corporation received a Notice of Proposed Deficiency
(Notice) from the Internal Revenue Service (IRS) related to the years 1989
through 1996. The most significant issue pertains to the Corporate Owned Life
Insurance (COLI) program which was implemented by the Corporation in 1989. The
IRS proposed the disallowance of interest expense deductions associated with the
underlying life insurance policies. The Corporation believes that it has fully
complied with the tax law as it relates to its COLI program. The Corporation
filed a protest of the proposed deficiency with the Appeals section of the IRS
in April 1999 and intends to vigorously defend its position on this matter.
The Corporation has no other material pending legal proceedings, other than
ordinary routine litigation incidental to its business.
ITEM 5. OTHER INFORMATION
In June 1999, the Pennsylvania Supreme Court determined that the manufacturing
exemption for Pennsylvania Capital Stock - Franchise Tax purposes is facially
discriminatory under the Commerce Clause of the United States Constitution, and
remanded for a determination whether the tax on foreign corporations is a valid
compensatory tax. The court further suggested that the result might be that the
entire exemption would be ruled unconstitutional. If such a ruling is eventually
sustained, the Corporation may be subject to additional Pennsylvania state
franchise tax liability.
In October 1999, the Corporation entered into an interest rate swap agreement to
effectively convert $200 million of 6.7% Notes due 2005 (Notes) to variable rate
debt. The interest rate swap agreement is cancelable at the sole discretion of
the counterparty effective April 2, 2001. At the same time, the Corporation
entered into forward interest rate agreements to fix the interest rate on the
Notes at 5.8% through April 2, 2001. Subsequently, if the counterparty chooses
not to cancel the agreement, the interest rate on the Notes would be variable
based on LIBOR until expiration on October 1, 2005.
18
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
--------
The following items are attached and incorporated herein by reference:
Exhibit 12 - Statement showing computation of ratio of earnings to fixed
charges for the nine months ended October 3, 1999 and October 4, 1998.
Exhibit 27 - Financial Data Schedule for the period ended October 3,
1999 (required for electronic filing only).
b) Reports on Form 8-K
-------------------
A report on Form 8-K was filed September 13, 1999 announcing that the
Corporation's earnings for the third quarter and fiscal year 1999 may be
below market expectations.
19
<PAGE>
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 November 12, 1999 /s/ William F. Christ
----------------- -------------------------------------
William F. Christ
Senior Vice President,
Chief Financial Officer
and Treasurer
Date November 12, 1999 /s/ David W. Tacka
----------------- -------------------------------------
David W. Tacka
Corporate Controller and
Chief Accounting Officer
20
<PAGE>
EXHIBIT INDEX
Exhibit 12 - Computation of Ratio of Earnings to Fixed Charges
Exhibit 27 - Financial Data Schedule for the period ended October 3, 1999
(required for electronic filing only)
21
<PAGE>
EXHIBIT 12
HERSHEY FOODS CORPORATION
COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
(IN THOUSANDS OF DOLLARS EXCEPT FOR RATIOS)
(UNAUDITED)
FOR THE NINE MONTHS ENDED
-------------------------
OCTOBER 3, OCTOBER 4,
1999 1998
----------- --------------
EARNINGS:
Income before income taxes $ 567,207(a) $ 378,574
Add (deduct):
Interest on indebtedness 58,034 68,443
Portion of rents representative of the
interest factor (b) 10,269 9,265
Amortization of debt expense 364 340
Amortization of capitalized interest 2,825 2,652
---------- ----------
Earnings as adjusted $ 638,699 $ 459,274
========== ==========
FIXED CHARGES:
Interest on indebtedness $ 58,034 $ 68,443
Portion of rents representative of the
interest factor (b) 10,269 9,265
Amortization of debt expense 364 340
Capitalized interest 1,214 1,795
---------- ----------
Total fixed charges $ 69,881 $ 79,843
========== ==========
RATIO OF EARNINGS TO FIXED CHARGES 9.14 5.75
========== ==========
NOTE:
(a) Includes a gain of $243.8 million on the sale of the Corporation's pasta
business.
(b) Portion of rents representative of the interest factor consists of
one-third of rental expense for operating leases.
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM HERSHEY
FOODS CORPORATION'S CONSOLIDATED CONDENSED BALANCE SHEET AS OF OCTOBER 3, 1999
AND CONSOLIDATED STATEMENT OF INCOME FOR THE NINE MONTHS ENDED OCTOBER 3, 1999
AND IS QUALIFIED IN ITS ENTIRETY TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<CIK> 0000047111
<NAME> HERSHEY FOODS CORPORATION
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> OCT-03-1999
<CASH> 42,896
<SECURITIES> 0
<RECEIVABLES> 508,399<F1>
<ALLOWANCES> 0
<INVENTORY> 613,846
<CURRENT-ASSETS> 1,354,464
<PP&E> 2,567,411
<DEPRECIATION> 1,037,095
<TOTAL-ASSETS> 3,427,731
<CURRENT-LIABILITIES> 859,053
<BONDS> 878,347
0
0
<COMMON> 179,950
<OTHER-SE> 851,447
<TOTAL-LIABILITY-AND-EQUITY> 3,427,731
<SALES> 2,865,086
<TOTAL-REVENUES> 2,865,086
<CGS> 1,709,002
<TOTAL-COSTS> 2,241,917<F2>
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 55,962
<INCOME-PRETAX> 567,207
<INCOME-TAX> 204,904
<INCOME-CONTINUING> 362,303
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 362,303
<EPS-BASIC> 2.58
<EPS-DILUTED> 2.55
<FN>
<F1>Balance is net of reserves for doubtful accounts and cash discounts.
<F2>Total includes the gain on the sale of business of $243,785.
</FN>
</TABLE>
