U.S. Markets closed

Edited Transcript of KHC earnings conference call or presentation 8-Aug-19 12:30pm GMT

Q2 2019 Kraft Heinz Co Earnings Call

Pittsburgh Sep 5, 2019 (Thomson StreetEvents) -- Edited Transcript of Kraft Heinz Co earnings conference call or presentation Thursday, August 8, 2019 at 12:30:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Christopher M. Jakubik

The Kraft Heinz Company - Head of Global IR

* David Knopf;Chief Financial Officer

* Miguel Patricio

The Kraft Heinz Company - CEO & Interim President of U.S. Zone

================================================================================

Conference Call Participants

================================================================================

* Andrew Lazar

Barclays Bank PLC, Research Division - MD & Senior Research Analyst

* Bryan Douglass Spillane

BofA Merrill Lynch, Research Division - MD of Equity Research

* Christopher Robert Growe

Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Analyst

* David Sterling Palmer

Evercore ISI Institutional Equities, Research Division - Senior MD & Fundamental Research Analyst

* Jason M. English

Goldman Sachs Group Inc., Research Division - VP

* Kenneth B. Goldman

JP Morgan Chase & Co, Research Division - Senior Analyst

* Steven A. Strycula

UBS Investment Bank, Research Division - Director and Equity Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good day. My name is Sherry, and I will be your operator today. At this time, I would like to welcome everyone to The Kraft Heinz Company's First Half 2019 Earnings Conference Call.

I would now like to turn the call over to Chris Jakubik, Head of Global Investor Relations. Mr. Jakubik, you may begin.

--------------------------------------------------------------------------------

Christopher M. Jakubik, The Kraft Heinz Company - Head of Global IR [2]

--------------------------------------------------------------------------------

Hello, everyone, and thanks for joining our business update. With me today are Miguel Patricio, our new Chief Executive Officer; and David Knopf, our Chief Financial Officer. We'll begin today's call with opening comments from both Miguel and David, and then we'll open up the lines for your questions.

Please note that during our remarks today, we will make some forward-looking statements that are based on how we see things today. Actual results may differ due to risks and uncertainties, and these are discussed in our press release and our filings with the SEC. We'll also discuss some non-GAAP financial measures during the call today. These non-GAAP financial measures should not be considered a replacement for and should not be read together with GAAP results. And you can find the GAAP to non-GAAP reconciliations within our earnings release.

Now it's my pleasure to introduce our Chief Executive Officer, Miguel Patricio.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [3]

--------------------------------------------------------------------------------

Thank you, Chris, and hello, everyone. Well, first of all, I'm honored to be with you today as the new CEO of Kraft Heinz. As someone who has worked on some of the biggest brands in the world, I know intimately they have power in the marketplace and with consumers. Kraft Heinz has some of the globe's best roughly 200 brands in nearly 200 countries, with nearly 20 of them maintaining their relevance for 100 years or more. We are in 97% of American households today, holding the #1 or 2 spots in 50 categories.

And I'm humbled to follow the great CEOs that have successfully adapted our brands and businesses through periods of tremendous change over more than 100 years. These are great assets for any business, but at Kraft Heinz, we have far bigger aspirations. That's why I wanted to be candid with you from the start of my tenure here. The valuation of our stock is now among the lowest in the industry, and you deserve straight talk from me about how this business is run. I promise that to you today and for as long as I'm here.

The entire Board has mandated a new approach to Kraft Heinz. As such, it's my job to tell you what we got wrong and why we got it wrong. Over the coming months, I will share more with you about how we'll fix it, but it starts right now with me and our entire senior management team. Our brands are icons, it's our job to ensure they are living icons.

To do that, we must understand the future so we can lead, not follow. We must understand the consumer better than any other company. We have a good start on being data and process-driven, but we must put more attention on deep consumer insights. For instance, we have sophisticated tools to tell quality-made impressions versus those that don't reach the consumer. But we are also the company that had the first plant-based burger, the Boca Burger, but find ourselves far behind the plant-based market today.

Many of you believe our story as one of cost control and zero-based budgeting. These have been strengths for our company because they have enhanced our margins since the time of our merger. Without this discipline, we would be in a worse place today. But we have to do more than that. We need to change so we can apply strong, consistent investment in our brands.

There is no doubt our industry is in such a big moment of transformation in retail, nontraditional channels, private label, premiumization, consumer values, health and well-being. Big transformation represents big opportunity, and we as an organization need to be at the forefront of this change.

My first 40 days at Kraft Heinz have been rich in learning with honest and candid conversations with our global leaders, employees as well as our customers. I've held numerous town halls, had one-on one with more than 300 employees and had the chance to visit all of our major offices around the world.

Those conversations have left me with an enormous appreciation for the team that we have here at Kraft Heinz. Our team is hard-working and motivated to drive the next chapter of the business. And the consistent message I hear from them is that while they've been through a lot, they still have a strong desire to win. Their commitment to the company is why I'm privileged to be their leader.

But before we get into my first impressions and thoughts on our path forward, I'm going to ask David to review our first half results.

--------------------------------------------------------------------------------

David Knopf;Chief Financial Officer, [4]

--------------------------------------------------------------------------------

Thank you, Miguel, and good morning, everyone. First off, with the filing of forms 10-Q for both the first and second quarters, we expect to regain our current filer status with the SEC. The accounting review and audit process for our 10-K was a thorough and time-intensive effort, and we restated past periods for misstatements that have occurred over the past 4 fiscal years.

Overall, the magnitude of adjustments to our historical numbers was a cumulative impact from 2015 to 2018 of less than 1% of net income. We are now taking extensive actions to improve internal policies and procedures and to strengthen internal controls, including over financial reporting.

To date, we have already implemented a comprehensive disciplinary plan for all employees found to have engaged in this conduct; enhanced our organization, augmenting our procurement finance teams with additional experienced professionals in the area of supplier contracts and related arrangements; as well as realigned reporting lines so procurement finance now reports directly to the finance organization; and have enhanced the level of precision at which our internal controls for financial reporting for goodwill and indefinite-lived intangible asset impairment tests are performed.

We're also in the process of reassessing employees' KPIs and will be implementing checkpoints to evaluate the impact from significant changes in the environment as well as evaluating potential solutions to upgrade our procurement management software and deploying a comprehensive global procurement training program.

Taking these steps to improve internal controls is of the utmost importance for our Board, Miguel and myself. It will continue to be a high priority for the organization going forward. And I would like to thank all parties for their support and dedication, especially our finance and legal teams, our Board of Directors, our financial partners, among others.

Regarding our first half performance, overall, while our consumption and share trends continue to improve, our first half results were held back by actions at a number of our retail partners in both the U.S. and Canada to reduce the amount of inventory they carry. We continue to suffer from higher supply chain costs, and frankly, the absolute level of year-on-year declines in EBITDA and EPS are simply unacceptable.

If you recall, in February, we set out priorities around improving our growth and returns by driving consumption and market share and leveraging in-store sales and e-commerce investments to build our brands and grow our categories. So far this year, our retail takeaway in both the United States and Canada has continued to grow and improve since the second half of 2018 and into the first half of 2019.

In the United States, first half consumption in measured channels was up 1.1% versus the prior year with market share gains in more than half of our business. In Canada, retail sales consumption grew nearly 4% in the first half, although this was aided by a return to a more normal promotional calendar versus the prior year. And we've continued our strong push on condiments and sauces around the world with significant advertising and merchandising activity behind the Heinz 150-year anniversary. But on the whole, we are dissatisfied with our financial performance year-to-date as well as the fact that retailer inventory reductions dampened our potential for the first half and the full year.

In terms of sales for the first half, we outlined in February the sources of our organic net sales decline. These included unfavorable promotional timing in both the United States and Canada as well as difficult comparisons versus an exceptionally strong prior year in U.K. soups. In addition to that, we also saw a negative impact from lower inventory levels at retail in North America that we did not anticipate, as well as lost sales due to trade negotiations in parts of Continental Europe as we implemented good, better, best pricing in ketchup between our Heinz and newly repatriated Kraft brands.

From a total company perspective, organic net sales were down 1.5% in the first half, including an adverse impact of approximately 1.2 percentage points from retail inventory reductions, primarily in the U.S. and Canada. Volume mix was relatively flat in the first half as the reduction in retail inventory levels more than offset consumption growth in the United States, Canada and Latin America.

Pricing was negative, down 1.3 percentage points, driven by 3 factors. The first factor driving lower pricing was unfavorable timing of promotional expense, representing a roughly 80 basis point decrease in price on a global basis, including approximately 90 basis points in the U.S. In the U.S., while we expected promotional timing to be a source of year-over-year decline in the first half, it should turn favorable in the second half of the year and therefore relatively neutral for the full year. By contrast, the step-up in Canada reflects greater activity versus last year, including the natural cheese business that we just sold and it's not likely to reverse in the second half.

The second factor was key commodity-driven pricing in North America, representing a roughly 30 basis point drag on global pricing in the first half. And third, the remainder primarily reflects continued promotional support behind select U.S. categories, mainly in our Lunchables and frozen categories.

With respect to profitability, we spoke about our first quarter and indeed our first half being up against our toughest EBITDA comparisons for the year. This reflected our expected net inflation curve, stepped-up fixed cost investments and retail channel growth, marketing and our people as well as pricing not beginning to take effect until the second quarter.

In the end, the cost inflation picture, while improving, remains unfavorable versus the prior year across packaging, manufacturing and logistics in the United States. And this, together with stepped-up fixed cost investments, drove roughly half of the constant currency production and first half EBITDA we saw versus the prior year.

Regarding adjusted EPS, the decline we saw in the first half reflected lower adjusted EBITDA as well as higher depreciation and amortization expenses versus the prior year period. Other income and our effective tax rate versus the first half of 2018 were more favorable than we expected such that, in total, the [low-growth] items were a $0.02 benefit to adjusted EPS versus the first 6 months of 2018.

From a forward-looking perspective, we have now completed the 2 divestitures we previously announced, India nutritional beverages and Canada natural cheese. These divestitures resulted in a combined the after-tax proceeds of more than $1.5 billion, and we remain committed to using those proceeds to further deleverage and strengthen our balance sheet.

However, I will highlight here that with regard to our effective tax rate, we continue to expect roughly 21% for the full year. The first half was only 18.4% due to the timing of discrete items, but this benefit is not expected to repeat, resulting in a higher rate in the second half, especially in Q3.

And for the second half of 2019 specifically, we continue to expect to see an improvement in year-over-year top and bottom line growth rates versus what we saw in the first half. This should be driven by continued momentum in consumer uptake and more innovation coming to market; improved pricing trends, particularly as our price increases in the U.S. take hold; and lapping some of the stepped-up fixed costs and cost inflation that we saw in the back half of last year. Although I would note that we are seeing risk from further reductions in retail or inventory levels as well as accelerating key commodity costs in the U.S. that we had not anticipated at the start of the year.

Now I'll turn it back to Miguel.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [5]

--------------------------------------------------------------------------------

Thank you, David. I'll start by saying that the level of decline versus previous year is nothing we are proud of and nothing that any of us should find acceptable moving forward. And while I have officially been the CEO for roughly 40 days at this point, I think it's important to make a candid assessment of where I think we are today.

At the outset, I shared many of the concerns that a good number of you have expressed over things like brand support, supply chain execution, the sustainability of our profits and just how long it would take to be in the position to start growing both the top line and the bottom lines. And now our Board of Directors made it clear that they wanted to bring change in light of the company's recent missteps and have given me their full support to contemplate any path that will create long-term, sustainable value for our shareholders.

So far, I have found, as you might expect, things that are rarely as bad or as good as what you read from the outside. What is clear is that we win when we strongly and consistently invest in our brands. For instance, thanks to innovations and investments to extend a 150-year-old brand into new segments, Heinz achieved an all-time high market share in U.S. ketchup, reaching 70% in the second quarter. And Philadelphia has consistently grown share and grown the category year-over-year since 2014 with a 68% share year-to-date by setting the standard for superior quality and taste.

We have also built a world-class quality organization that has had the fewest recalls in the food industry over the past 4 years. Since 2015, we invested more than $1 billion of CapEx in North America alone, including significant investments on the end of the line for detection, risk avoidance and consumer complaint mitigation. These are just some examples of great things I've seen at the company in my early days. But it's also important to face the cold, hard facts and assess where we have had shortfalls.

First and foremost, the company had a significant decline in adjusted EBITDA margins from a peak of 29.4% in the fiscal 2017 to roughly 24.5% for the trailing 12 months through the end of June this year. This was driven by a combination of inflation in our supply chain, including packaging freight over time and maintenance costs as well as significant step-up in fixed costs to support sales growth with price increases lagging higher costs.

Regarding our supply chain problems in 2018, it's clear we lost forecast accuracy and our ability to execute productivity initiatives to offset market inflation. I believe we persisted with integration-minded cost-cutting and did not pivot to a continuous-improvement productivity-driven mindset soon enough.

Before I arrived, the company started to take actions to make sure this doesn't happen again, but I see opportunity to go further by bringing in more technical expertise in critical areas, by improving collaboration and process between our category and supply chain teams, by doing a better job of understanding root causes of supply chain losses. And this needs to be supported by our finance team, leading a cross-functional effort to improve visibility.

So one of my main priorities now and going forward is to make sure we have a much better visibility in our supply chain as well as more robust ongoing productivity initiatives. I believe this critical part of the company should and can generate significant productivity. If we have the proper visibility, we can build a solid pipeline of efficiencies-oriented initiatives across our value chain.

Moving to our fixed costs or SG&A. Since 2015, we have taken out significant costs from the business. We also reinvested roughly $300 million last year in areas like people, go-to-market capabilities, marketing and innovation. To be honest, it's too early for me to tell which investments will generate the returns we expect, but my experience tells me that whenever there are a lot of big investments in such a short period of time, it's difficult to see all of them working at once.

It's therefore critical that we prioritize the ones that are working and that fit the strategic agenda that we are currently developing. And for the investments that are not working, we move those dollars to areas that may need more investment. As examples, I believe our investments in media remain low despite fixed costs and overall marketing spend increasing over the past 2 years.

On the brand and innovation side, we need to become more consumer-obsessed so we can better predict their behavior even before they know it. There are practices that need to change in the product development process so we can be faster and more consumer centric with our new products. And we need to better balance spending on market innovations versus core brand support.

And in terms of retail channel development, Kraft Heinz has grown rapidly and has had strong share performance in e-commerce that we really need to take a step back and develop a longer-term outlook of the channel growth and how Kraft Heinz can win and assess the incrementality of each customer.

So it's not just about cutting costs. It's becoming more about efficiency and making dollars already in our base work harder elsewhere.

Let me turn now to my priorities and the opportunities I see ahead of us. When I became CEO last month, I established 3 immediate goals with the Board. The first, which should be obvious, is to get to know our business, our consumers, our customers and our colleagues. The second is to execute our existing 2019 business plan. And the third and most important is to lead a comprehensive review to develop a new strategic agenda for the next 3 to 5 years.

It is critical that we get the organization to concentrate on setting our strategic direction and laying the foundation for our future now. We need to ask ourselves the hard questions about our business, not thinking about the short term or next quarter. And we need to take the time to seek out external and internal inspiration and build on best practices, both within Kraft Heinz and from other world-class brands.

From a financial perspective, we do expect many of the top and bottom line factors that held back the first half to fade in the second half. But I've asked David that we not provide or update specific point estimate financial guidance. Setting short-term targets publicly won't be productive as we set and work to deliver against our strategic directions and priorities.

In addition, as I'm learning the business and develop our strategic agenda, I want us to spend more time evaluating the questions of divestitures. We absolutely remain committed to our investment-grade credit rating, but our more urgent priority is to get the organization fixated on our consumers and customers, and in this process, ensure we don't rush to give away potential value to others. We have already started the work and taken some early actions to put in place the right team and the right structure to help achieve my 3 immediate priorities.

As you may have seen, my first act as CEO was to make some changes in our structure to help accelerate our progress. First, I have taken on the U.S. president role on an interim basis. U.S. represents 70% of our company and this will help me understand our business, consumers and the customers faster. For me, this deep dive is an essential step to developing the right plan that drives sustainable growth and shareholder value for Kraft Heinz.

I also established a new role, International Zone President for Kraft Heinz, combining our EMEA, Asia Pacific and Latin American zones, representing 20% of our global business. We did this to create a streamlined, more robust international structure to find commonalities, define their strategy and drive the business with greater speed. We will continue to share more of our approach to the strategic agenda over the coming quarters. We expect to complete our work by the year-end and anticipate sharing our conclusions with you early next year.

As we do with this plan, my experience has shown that to truly change the momentum of a business, we must understand the future, identifying where the consumer, their needs and the marketplace are headed, and then invest quickly and consistently to make sure our core brands will serve those needs better than the competition. Further, I believe we can and must find internal efficiencies, whether in our supply chain or fixed cost base that have both increased substantially in the last 2 years that can help to fund the strategy.

Intense discipline is a virtue, but it's not an end in itself. I believe great companies are the ones that keep expenses under control so they can use the capital for new investments that grow both the top line and the bottom line. It's not one or the other. And as I look ahead, I'm very excited about the opportunities at Kraft Heinz. Similar to my attention to consumers, customers and colleagues, I also look forward to engaging with the investment community over the coming months and quarters.

Now we would be happy to take your questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Our first question comes from Andrew Lazar with Barclays.

--------------------------------------------------------------------------------

Andrew Lazar, Barclays Bank PLC, Research Division - MD & Senior Research Analyst [2]

--------------------------------------------------------------------------------

Welcome, Miguel. So first from me, a little more broadly, as you mentioned there's been so much written and said about Kraft Heinz really just since even the 4Q results in February, which admittedly feels like a lifetime ago. It's a little hard to know from the outside, I guess, what rings true or not. So first off, perhaps you could just go through a little bit of specifics on what you see is some of maybe the biggest misperceptions among investors at this stage, both positive and negative. And then I've just got a follow-up.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [3]

--------------------------------------------------------------------------------

Well, I'm not -- sorry, I'm not going to comment on rumors or in speculation about what people think about Kraft Heinz, but I would like to tell you why I'm optimistic and why I joined Kraft Heinz. I really believe on the power of brands, and I think that we have an amazing portfolio of brands. Some are shiny, some are not. But I think that the heritage that we have in the brands, the household penetration that we have, the awareness that we have makes me feel very positive about the possibility of turning around some of the trends that we have in the brands that are not doing as well. I also think that we have a great scale, and that is a big competitive advantage in America. And I'm also very, very excited about the possibility of turning the business around. I've done it before in my life, and I think that it is possible.

Now to take a business around, I think it's critical that we define comprehensive strategy, and this strategy has to be based on understanding the future, understanding the consumer. I believe that if we -- that the industry is in a huge transformation today, and transformation is also a moment of opportunity. And the ones that are going to take this opportunity are the ones that will understand the future better than the others, so then we'll lead. The ones that will not understand will follow, and the followers will not win. So we need, again, steps, a comprehensive simple strategy for the future and be very disciplined on making and executing it. So I'm very excited. I'm much more excited today after 40 days than I was on day 1 about our future.

--------------------------------------------------------------------------------

Andrew Lazar, Barclays Bank PLC, Research Division - MD & Senior Research Analyst [4]

--------------------------------------------------------------------------------

Great. And I know you're not ready to address, obviously, what you see as sort of a more sustainable margin structure for the business yet going forward. But as you mentioned, EBITDA margins have sort of come in some 500 basis points or so in the past 3 years. Now some of that's been reinvestment, whether in marketing or capabilities, and some has been related to other items, but margins are still well above the group average. So I guess my question is do you think Kraft Heinz, with its sort of geographic portfolio and relative market share makeup, should be able to sustain the margin structure still well above the group or not? Because in your prepared remarks, I think you talked about more efficiently using the spending that's already in the base.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [5]

--------------------------------------------------------------------------------

Yes. Thank you, Andrew. Well, let me start saying again that I truly believe that we need to invest more, especially in our people and our brands. I think that, as I said before, that our media investments are below where they should be. But before going after new investments, I would really look at the possibility of inefficiencies in the system so I can reorganize and redeploy these investments. I'm still -- of course, it's early to talk about it, but I'm seeing a lot of inefficiencies, and these for me are big opportunities.

I'll give you just 2 examples so I'm not so theoretical. In marketing, Andrew, we increased investments in the last 2 years. But in media, we've been declining. We grew investments or we put money behind many other things, agency fees, production, research, product development. But the things that the consumer really sees, we declined to pay the other expense. These for me are inefficiencies that we can redeploy.

I'll give you another example. Maybe because of all the complexity that we put in the system, our supply chain losses have been increasing, actually, double digits in the last years. That's not acceptable. We need to understand very well the root causes of these supply chain losses and that's to reduce them. These are losses that can be converted in investments. So just 2 examples of inefficiencies that I see very early here in my job, and this has to be my focus. Before talking about new investments and reducing the margin, I would -- I'm going after inefficiencies that I can put back in the system to feed the growth, and I'm seeing that.

--------------------------------------------------------------------------------

Operator [6]

--------------------------------------------------------------------------------

Our next question comes from Chris Growe with Stifel.

--------------------------------------------------------------------------------

Christopher Robert Growe, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Analyst [7]

--------------------------------------------------------------------------------

Welcome, Miguel.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [8]

--------------------------------------------------------------------------------

Thank you.

--------------------------------------------------------------------------------

Christopher Robert Growe, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Analyst [9]

--------------------------------------------------------------------------------

I just wanted to ask the question, you spoke about -- and I had the benefit of listening to your comments there about needing visibility, improving processes, bringing in technical expertise. From a high level that sounds like, perhaps, a lot more blocking and tackling, basic improvements needed to be made to Kraft Heinz in order to get the business to where you would like it. I'm just trying to get a sense of whether timing or expense or something to understand those factors, those items that are kind of missing at Kraft Heinz today that -- how long are we talking, how much do you think it will cost to get the company to the point where you think you have the visibility you need and the processes in place to better grow the business?

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [10]

--------------------------------------------------------------------------------

Okay. So Chris, let me go back a little bit in time at Kraft Heinz. I think that when you put 2 companies together, the first cycle -- or first phase or the first cycle has to be really about bringing in new culture and extracting inefficiencies. And I think that the company did a good job on that. We extracted a lot of efficiencies. We cut a lot of costs. But then after 2 years, it's hard to continue cutting costs. You need to change the strategy or you need to change the path.

The first year, you have 2 CEOs. You cut 1 CEO, that's a cost cutting. But the following year, you don't have another CEO to cut. Cost cutting is a one-off activity and is necessary when you have the opportunity. But then you have to move and you have to think about how do you reduce costs but in a different way. And that way is, really, you have to change the way of operating the business. It's about efficiencies. It's about making better every day forever. You need to change the mindset. And if you continue cutting costs, you can get in trouble.

I think that this second phase starts now with me. Yes, it could have started before. And I think the company would have benefit from that, but it didn't. And so it's time now with me, and I'm going to put a big emphasis on that. Not on cost cutting, but on efficiencies in the system, extracting inefficiencies from the system, making better every day, making our factories much more efficient, making our execution in sales much better, making our market investments, as I mentioned before, much better as well, so we invest on things that the consumers see not on the consumer doesn't see, et cetera, et cetera. Hopefully, I was able to answer your question, Chris.

--------------------------------------------------------------------------------

Christopher Robert Growe, Stifel, Nicolaus & Company, Incorporated, Research Division - MD & Analyst [11]

--------------------------------------------------------------------------------

Yes. That makes good sense. I had a quick question for David. Just that do you expect -- you're not giving guidance for the year, but you provided some context around FX and variable compensation and non-key commodities. But are those figures you can update today, David? Or would you rather wait to give more information on those?

--------------------------------------------------------------------------------

David Knopf;Chief Financial Officer, [12]

--------------------------------------------------------------------------------

Yes. Chris, thanks for the question. So like Miguel said, we're not providing point estimate guidance, but I can give some additional color on some of the items below the line.

So we continue to expect up to $0.25 of unfavorability below our adjusted EBITDA line for the full year relative to 2018, and this negative impact will be greater in the second half relative to what we saw in the first half for a couple of different reasons. First off, the largest driver is tax. We had some discrete benefits in the first half, whereas we expect some discrete costs within the back half of the year.

Second, we did see some FX favorability in the first half in other income that may flip in the second half. Third, related to incentive-based comp, we'll have a significant expense in the second half of the year, and this is due to the timing of the delayed filings of our 10-K and our 10-Qs, whereas typically expect that to happen in the first half of the full year. And then finally, we may see some higher interest expense in the second half as well.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [13]

--------------------------------------------------------------------------------

David, let me just add on this question about, Chris, because I believe this was a big disappointment for you that we are not giving you guidance. I want to go further a little bit and tell you why. I think that, first, because I believe that for Kraft Heinz, now we need -- what we don't need is to be focused on internal -- on product targets on the short term. We have a big agenda to build. We have a second half to deliver. But I think that working on structure and targets will not help.

But second, since I've been here just for 40 days, I wouldn't feel comfortable about giving a guidance that I still do not have the necessary confidence about that number. I'm not sure if I'm going to overachieve by second half, if I'm going to underachieve or I will achieve. When -- in this situation, when managers look at the leaders always with empty pockets, right, like they don't know me yet. But what I know is that in the second half, some of the pressures that we had in the first half will fade, pressures like supply costs or even commercial costs. And that is positive.

However, there's also risks, and risks such as further retailer inventory reductions, commodity inflation in categories where private label has had a lot of success like natural cheese, meat and coffee. But one observation that I can -- that I made early on is that from a seasonality standpoint, historically, Kraft Heinz usually earns 50% of the 50 -- at least 50% of the EBITDA in the first half of the year, but that's just an observation. So we'll see how we do.

--------------------------------------------------------------------------------

Operator [14]

--------------------------------------------------------------------------------

Our next question comes from Bryan Spillane with Bank of America.

--------------------------------------------------------------------------------

Bryan Douglass Spillane, BofA Merrill Lynch, Research Division - MD of Equity Research [15]

--------------------------------------------------------------------------------

So first question from me, I guess, we've gotten this a few times this morning, just how we should be thinking about confidence in the dividend going forward, particularly in the context of at least, I guess, not having the EBITDA guidance we had before. So if we could just talk about what's -- how you're thinking about the dividend and what factors may or may not affect it.

--------------------------------------------------------------------------------

David Knopf;Chief Financial Officer, [16]

--------------------------------------------------------------------------------

Sure. Bryan, this is David. Thanks for the question. So as we said before, we're committed to our investment-grade rating, and we firmly believe that our business today generates sufficient free cash flow to support both delevering organically over time, as we've committed, as well as to support the current dividend payout that we have. On top of that, we have taken actions, as you know, earlier this year to accelerate the delevering, producing our dividends and successfully divesting the India beverages and Canada cheese businesses at double-digit multiples. So again, we feel that the business currently generates sufficient cash flow to cover the dividend and also to delever organically.

--------------------------------------------------------------------------------

Bryan Douglass Spillane, BofA Merrill Lynch, Research Division - MD of Equity Research [17]

--------------------------------------------------------------------------------

Okay. And then Miguel, just because you're going through the process of reviewing the business, now there's been some commentary in the past about potentially just evaluating the portfolio and this implied additional asset sale. So could you just provide your perspective, not so much on what you might be thinking about doing, but just probably more from a higher level, just how you think about asset sales in terms of how they create value, don't create value. Just what parameters you're thinking about in terms of what would trigger you to do something along those lines.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [18]

--------------------------------------------------------------------------------

Bryan, nice talking to you. I don't want to be evasive on your question. But actually, I don't want to talk about divestitures or nondivestitures until we make our strategic decision. I think that there has to be a consequence as to what portfolio we're going to carry for the future. And only after defining and having this approved with our Board, and discussed and approved, I think we should be talking about divestitures. So for that reason at this moment, that question is not on the table.

--------------------------------------------------------------------------------

Operator [19]

--------------------------------------------------------------------------------

Our next question comes from Ken Goldman with JPMorgan.

--------------------------------------------------------------------------------

Kenneth B. Goldman, JP Morgan Chase & Co, Research Division - Senior Analyst [20]

--------------------------------------------------------------------------------

Just a clarification and not to beat the dead horse, but you do already have guidance for the year, right? You've talked about positive organic sales growth and adjusted EBITDA of $6.3 billion to $6.5 billion. I just want to make sure I understand, are you officially pulling this guidance? Or are you just opting not to address it today?

--------------------------------------------------------------------------------

David Knopf;Chief Financial Officer, [21]

--------------------------------------------------------------------------------

Ken, this is David. So that's right that we're not providing guidance for the full year, so we're pulling guidance. But I can provide a little bit of color on our expectations for the full year without giving enough data point estimate for sales or EBITDA.

So like I said before, we do expect to see better year-on-year performance on top and bottom line in the second half versus the first half. And some of the drivers are what's consistent with what we said in February, and there's some new potential risks to that as well. So what hasn't changed versus our expectations in February are continued retail takeaway that we've seen in the market with U.S. consumption up 1%, Canada consumption up 4% and that we expect to be -- continue to be supported by accelerated innovation in the back half. And we've also seen some promising growth globally in our Foodservice business as well.

On top of that, we expect to see improved pricing trends in the back half of the year versus what we saw in the first half. And this will happen with some of the trade timing that we're lapping as well as the price increases in the U.S. that we implemented later in the first half that we'll fully lap in the second half as well. And then finally, on the positive side, as Miguel mentioned earlier, we do expect to see improving cost inflation as we start to lap some of the higher costs that we had in the second half of 2018.

What has changed versus our expectations in February and as we progress through Q2, is we do see risks for further retail inventory reductions in the second half. Although we can't say what that may look like, we do see additional risk. And on top of that, we also see risk from accelerating key commodity inflation, particularly in the U.S. in meats and dairy. But we'll definitely try to manage via price but could be a risk to us in the second half. And then finally, we also have some potential adverse currency translation versus our expectations in February.

--------------------------------------------------------------------------------

Kenneth B. Goldman, JP Morgan Chase & Co, Research Division - Senior Analyst [22]

--------------------------------------------------------------------------------

Okay. I appreciate it. And then my follow-up, Miguel, I know you're not ready to really talk about this in detail. I understand it. But there's been a lot of talk today about supply chain shifting the mindset of going from a merger savings model to ongoing productivity. But is there anything you can give us specifically in terms of what's really gone wrong on the top line? I know you mentioned media spending having gone down and so forth. But just your initial take, because to me that's the most important thing that Kraft can do to turn the story around is to reverse the top line trends. So if there's any specifics you can share with us right now, that'd be great.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [23]

--------------------------------------------------------------------------------

I think that we need to have a big focus on both bottom line and top line. Maybe in the past, we were too focused on the bottom line. We need a strategy, first of all, for growth, which is critical. We need to find opportunities, find white spaces, what brands to invest, what channels today that we have lower share, what channels to divest more and structure for growth, what countries where we should attack and grow and invest on. And this will all be part of our strategy for growth.

So examples, I was talking here with my colleagues that a country that I know very well, China. In China, we have a very good business on soy sauce. We are leaders in 2 of the provinces, Guandong and Fujian. They're 2 of the most -- the richest provinces. But we are only there. It's a business or it's an industry -- starts off as an industry of $12 billion, it grows 8% per year and we have great equity there. But we are just in 2 provinces. Big opportunities to grow outside of this provinces. There's a big opportunity to have other sauces, not only soy sauce. Why haven't we done it? I don't know exactly. But I see this as a big opportunity, it's a white space that we have to organize ourselves for growth.

It's also mentality, it's mindset, that we have to do it. And to fund -- and we have to work on the other side to fund these growth initiatives. We have to be very efficient. We have to be more efficient than everybody else. And to tell you the truth, when I came and when arrived here, I was absolutely sure that I would find these opportunities for growth, I was not sure if we had the opportunities for efficiencies because I didn't know the business. And I -- today, I know that we have.

But there are many other white spaces like in the West, talking about ethnicity. 20% of the population in America are Hispanics and represents 40% of the growth of the population. We don't have absolutely anything in our portfolio today to attend this population. We don't even communicate to the Hispanic community. That is an opportunity.

So I'm looking at these opportunities everywhere from a brand standpoint, from a channel standpoint, from an ethnicity standpoint, from a country standpoint. And this will be only inputs that we will put in our strat plan that we'll present to our Board at the end of the year and to you at the beginning of next year. Hopefully, I was able to answer your question.

--------------------------------------------------------------------------------

Operator [24]

--------------------------------------------------------------------------------

Our next question comes from David Palmer with Evercore ISI.

--------------------------------------------------------------------------------

David Sterling Palmer, Evercore ISI Institutional Equities, Research Division - Senior MD & Fundamental Research Analyst [25]

--------------------------------------------------------------------------------

Welcome, Miguel. Supply chain savings or the lack thereof was cited as a big reason for delayed 2018 shortfall. Where do you believe your supply chain costs, and not just the competencies, are relative to where they should be? And I ask because I think there's a lot that wouldn't be surprised to hear some reinvestment is needed given the stories we've heard out there, not just that the savings are not there as the company stated last year. And then I have a quick follow-up.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [26]

--------------------------------------------------------------------------------

Look, the good news is that the service levels that we had in the first half, I think, were the best. I don't know if ever or in the last years, but were very, very high and very, very good. So that is the good news. And I would credit this to the changes that were made, not by me, that were made before, on the leadership of the supply area. So this is what's [part] and we are putting things in place, the present working on simple things, which is basically execution. We are in a much better place.

Now for the future, what we did was to open a front, both with inside and outside or external people or talent, to help us define what is this map for efficiencies for the future. We opened 8 fronts that go from supply chain losses to service level, that go to people, that go to costs, is there productivity on the lines. And these are not -- it's not a project, this will be a way of living. We've been too focused on the present and literally on firefighting. If there's a fire there, let's extinguish the fire. We need to work on our competencies for the future with the mentality of making it better every day.

This -- again, this is a mentality shift that I lived before in my life, in my professional life, that I know what it means and will come forever. This will feed our future in supply, in service level, but also on costs through doing things better through efficiencies.

--------------------------------------------------------------------------------

David Sterling Palmer, Evercore ISI Institutional Equities, Research Division - Senior MD & Fundamental Research Analyst [27]

--------------------------------------------------------------------------------

And just a quick follow-up. There was some reinvestment that was made late last year. I think it was $300 million in some levels of brand support. You've said that there's some inefficiencies there. But as far as the return on that investment and return on any investment you're making in marketing your brands in the categories you're in, do you feel like there are enough microcosms or individual success stories that you can build upon here? And what would those be? Because I think there's a lot of questions about return on any marketing investment in some of the categories that you're in.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [28]

--------------------------------------------------------------------------------

Look, let me start with the positives. Consumption is up. We haven't seen consumption up for a long time. Shares are flat. And I would say the same -- here in front of me I have here reports from Nielsen with 21 categories, 13 of them had positive shares in the first half of the year. So I could argue with you that some of -- there are a lot of investments that are working. I would mention Heinz Ketchup, with the innovation that we had and the communication, is a very good example. Innovation to premiumize the brand, launching organic version, no added sugar, that we can charge more, that have higher margins. And that helps us well in the image of the brand. And that is a very good example of what to do. We put more money behind the brand and we achieve all-time share, achieving 70% share. That's a good example.

So -- but on the other hand, again, as I said, I think we can do a much better job on focus on investments on core brands, not dilute at among a lot of brands and small brands. Do more innovation on big brands instead of launching too many new brands. Having innovation that is more incremental and not dilutive. I think we did a lot of brand extensions but not enough of a creative innovation. So there's the big homework to be done in marketing. I don't think everything is wrong at all. I think there are a lot of good examples. But we could -- we can do better and consistently invest in our brands.

--------------------------------------------------------------------------------

Operator [29]

--------------------------------------------------------------------------------

Our next question comes from Jason English with Goldman Sachs.

--------------------------------------------------------------------------------

Jason M. English, Goldman Sachs Group Inc., Research Division - VP [30]

--------------------------------------------------------------------------------

Welcome, Miguel. Two questions from me as well, and you probably just kind of touched on it by referencing the consumption and market share trends. But I appreciate the commentary on the reinvestment into people, in media and maybe into some white space opportunities. A lot of investors we speak with have also questioned whether or not investment may be necessary in price, whether it be to narrow price gaps with private label or change the economics of retailers to incent them to focus more on your brands. I would love it if you could just maybe comment on that, on where you see these price gaps and the retail economics today, and whether or not you think they're properly aligned.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [31]

--------------------------------------------------------------------------------

Look, I think that the pricing is an area of opportunity. And I would even say that above pricing, revenue management overall. Specifically on pricing, I think that on categories that we lead, we need to meet the pricing. And maybe in the past, it took us too much time to pass inflation and have suffered with that. I also think that pricing -- averages on pricing are dangerous because we have brands like Heinz Ketchup or like Philadelphia that industrial innovation -- or not innovation, we have been able to pass price. And we continue growing and we're achieving all-time highs market share. But of course, we have more pressure on categories where we have more competition from private label and where -- are more driven by commodities like cheese.

So David mentioned before that, yes, one of the risks we have in the second half is because cheese -- the commodity of cheese is increasing dramatically, the price of cheese. And we have asking prices. And they are expecting private label to follow, but we don't know. We don't know if -- so that's a risk. So that would be my comments on pricing.

But I would like to go beyond. I think opportunities in revenue management exists as well. I think we can do a better job of -- to maximize the discounts. Discount is a big investment. And I think we can be much better on allocating discounts by accounts, by product, throughout the year. Understand better what works and in what way and when and how. And I also think that innovation can play a big role on revenue management and, as a consequence, on pricing. So I think there are good opportunities in this area that I want to explore moving forward.

--------------------------------------------------------------------------------

Jason M. English, Goldman Sachs Group Inc., Research Division - VP [32]

--------------------------------------------------------------------------------

That's helpful. And my last question, I appreciate that you guys don't want to box yourself in with specific guidance for this year, but you did have another impairment charge and fairly sizable and related to a new 5-year operating forecast, revised expectations and priorities. I was hoping you could put a little more context around what is changing as you look out over the next 5 years versus maybe where your expectations were at the end of last year.

--------------------------------------------------------------------------------

David Knopf;Chief Financial Officer, [33]

--------------------------------------------------------------------------------

Yes. Sure, David -- Jason, this is David. Thanks for the question. So on the impairment side, first off, our impairment testing, as you know, occurs in Q2 every year. And so we performed our testing procedures this year after we filed the 10-K concurrent with preparing our Q1 and Q2 financial statements. And to reiterate, these are preliminary numbers that we disclosed in the 8-K.

So the preliminary impairment charges in the first half were driven by 2 main factors. So first off, as you said, we did have revised expectations in response to current market factors in some of our international businesses that were evaluated during the first quarter of 2019 as we developed these 5-year plans. And as a reminder, these are the EMEA East reporting unit, LTA Exports reporting unit and Brazil where we had an impairment.

Secondly, we also had the application of a higher discount rate to reflect the sustained decline in our stock price since the start of the year. And so also, we should keep in mind that we did start the year with nearly $60 billion of goodwill and indefinite-lived intangibles with less than 20% cushion relative to their carrying value. So what that means is there's going to be continued risk of future impairments, given any change in forecast or modeling assumption can particularly trigger that.

And to answer your question specifically. As we kind of updated and developed these operating forecasts, we did have lower revenue and margin expectations, specifically for the 3 reporting units that I mentioned, EMEA East, Brazil and LTA Exports. The 6 brands that were impaired within Q2 were driven by the increased discount rate, which again was reflecting the sustained reduction in our stock price since the start of the year.

--------------------------------------------------------------------------------

Operator [34]

--------------------------------------------------------------------------------

And our final question today will come from Steve Strycula with UBS.

--------------------------------------------------------------------------------

Steven A. Strycula, UBS Investment Bank, Research Division - Director and Equity Research Analyst [35]

--------------------------------------------------------------------------------

Welcome, Miguel.

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [36]

--------------------------------------------------------------------------------

Thank you, Steve.

--------------------------------------------------------------------------------

Steven A. Strycula, UBS Investment Bank, Research Division - Director and Equity Research Analyst [37]

--------------------------------------------------------------------------------

So a very short opening question, then a little bit more of a strategic one. So the short question would be as you think about the strategic review, when should the investment community as a whole kind of expect to receive the output of that notification? And then from a strategic standpoint, wanted to understand, given your experience at ABI, a different industry, what are some of the similarities and dissimilarities relative to Kraft's portfolio that you observed and how that ultimately impact, call it, the earnings power of the company? I recognize that private label is low in that energy, but how does that kind of shape your view with the current portfolio that you're working with?

--------------------------------------------------------------------------------

Miguel Patricio, The Kraft Heinz Company - CEO & Interim President of U.S. Zone [38]

--------------------------------------------------------------------------------

Okay. Steve, look, we'll update you throughout -- or through the rest of the year on how strategic work is going, but it's our intention to share with our Board at the end of the year and then sharing with you at the beginning of next year.

Now talking a little bit about my experience with food -- well, with beer and how this has -- can be adapted to food. I think there are lot of similarities, but there are a lot of differences as well. And I think this has been actually pretty good, arriving here with fresh eyes and asking questions that some were obvious but people were not asking themselves for a long time. Some were not obvious and they had not been asked about it before. And so this has been positive.

I think that my experience in the past, both from leading global brands at ABI and using premiumization as a way to grow top line, were very interesting. When I was Head of Marketing, ABI has been growing substantially because of mix, because of premium brands, and I think, to me, this is an opportunity in the food industry. There is a big premiumization going on, but the premiumization actually is coming much more from the small players not from the big food players. But let me share with you another experience from my past that, I think, we can adapt here in -- at Kraft Heinz.

I ran our business in Asia, and China has been the best story of organic growth for ABI. And the reason why we succeeded was because we understood the future of business in China better than anybody else. And we understood that the economic growth would bring huge premiumization, wealth, the channels would change -- night-life channel would grow immensely. And so we'd make all the best in the future. We'd make all the best in what would grow not what was big necessarily. And that happened.

And making that parallel with Kraft Heinz, I think this is critical for us. Yes, we need to navigate through the present, but we need to give a strategy for the future. We need to define where this business is going to grow, where food is going to grow and be ahead of everybody else. In the case of China, we understood that much better even than the local brewers. We understood China better than them. And I think that, again, this what I was talking about the future before. If we understand the future and we lead the future, we're going to win. And the ones that will not understand will just follow. And I really want to be in the first group not in the second group.

So -- and as I said before, there's big transformation in food. Negative people would be afraid of that. I'm an optimistic by nature, and I believe that this transformation is an area of big opportunity. And the ones that will understand the future are the ones that are going to win, and we'll be those.

Well, this was the last question. I just would like to finish by saying a couple of words maybe summarizing a little bit of what we talked during this call.

I wanted to tell you, to reinforce, how excited and how delighted I am with the opportunity to take Kraft Heinz to the next level. I am, the way that you are, disappointed with the first half results, but I'm determined to rebuild our business momentum. I have our Board's support, and not only support, and expectation to set a new direction, a new forward. And for me, there are no sacred cows, no preconceived ideas, just fresh eyes and just thinking about what is best for our great company.

I know there's a lot of headwinds, but I see also encouraging solid consumption trends that are very positive. But we must continue to work our portfolio, our strategy and invest strategically to put ourselves in a position for top line and bottom line growth. We need to improve our speed. We need to become absolutely obsessed with the consumer and understanding the future better than anybody else. We need to pivot from a cost-cutting mentality to a continuous improvement, efficiency-focused. And we need to strengthen the balance sheet. That remains a priority.

So thank you very much for your time. I'm delighted to be here with you today and really looking forward to knowing you personally and to be sharing our -- my views and to be learning from you as well. Thank you very much.

--------------------------------------------------------------------------------

Operator [39]

--------------------------------------------------------------------------------

Ladies and gentlemen...

--------------------------------------------------------------------------------

Christopher M. Jakubik, The Kraft Heinz Company - Head of Global IR [40]

--------------------------------------------------------------------------------

Thank you, everyone, for joining us. For analysts who have follow-up questions, Andy Larkin and myself will be available. And for those in the media, Michael Mullen will be available for you as well. So thank you very much, and have a great day.

--------------------------------------------------------------------------------

Operator [41]

--------------------------------------------------------------------------------

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect, and have a wonderful day.