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Campbell Soup Company (NYSE:CPB)

F2Q09 Earnings Call

February 23, 2009 10:00 am ET

Executives

Leonard F. Griehs – Vice President Investor Relations

Douglas R. Conant – President & Chief Executive Officer

Anthony DiSilvestro – Vice President & Controller

B. Craig Owens – Chief Financial Officer & Chief Administrative Officer

Analysts

Andrew Lazar - Barclays Capital

Eric Katzman - Deutsche Bank Securities

Vincent Andrews - Morgan Stanley

David Palmer - UBS

Alexia Howard - Sanford Bernstein

Judy Hong - Goldman Sachs & Company, Inc.

Terry Bivens - J.P. Morgan

Chris Growe - Stifel Nicolaus

Robert Moskow - Credit Suisse

Jonathan Feeney - Janney Montgomery Scott LLC

Edgar Roesch - Soleil

David Driscoll - Citi Investments

Alton Stump - Longbow Research

Operator

Good day ladies and gentlemen and welcome to the second quarter 2009 earnings conference call. (Operator Instructions) As a reminder, today’s call is being recorded.

I would now like to introduce your host for today’s conference, Mr. Leonard Griehs, Vice President Investor Relations. Sir you may begin.

Leonard F. Griehs

Good morning everyone and welcome to Campbell’s second quarter fiscal 2009 conference call. Our agenda for this morning’s call will be as follows. Doug Conant, President and Chief Executive Officer will have some opening remarks. Anthony DiSilvestro, Vice President and Controller will discuss our results for the second quarter. And Craig Owens, Senior Vice President, Chief Financial Officer and Chief Administrative Officer will have some closing comments. Then we’ll follow with a question-and-answer session.

Our financial results, press release and supplemental schedule were issued earlier this morning and they’re also posted on our website. Our call this morning will take approximately one hour. It will be available for replay approximately two hours after the call is complete through midnight, March 2, 2009. The replay number is 1-888-266-2081 or 1-703-925-2533 and the access code 1331351. You may also listen to a replay by logging onto our website, www.campbellsoupcompany.com and clicking on the webcast banner.

As a matter of policy, our conference calls are open to all interested investors and members of the media. Our discussion contains certain forward-looking statements that reflect the company’s expected future business and financial performance, including statements concerning the impact of marketing investments to strategies; pricing; share repurchase; new product introductions and innovation; cost savings initiatives; quality improvements; inflation; commodity hedging; currency translation; and portfolio strategies on sales, earnings, and margins.

These forward-looking statements rely on a number of assumptions and estimates that could be inaccurate and which are subject to risks and uncertainties. Please refer to the company’s most recent Form 10-K and subsequent Securities and Exchange Commission filings for a list of factors that could cause the company’s actual results to vary materially from those anticipated or expressed in any forward-looking statement.

This discussion includes certain non-GAAP measures as defined by SEC rules. We have provided a reconciliation of those measures, the most directly comparable measures. That is available on our Investor website.

Now let’s begin with remarks from Doug Conant.

Douglas R. Conant

Thank you Leonard and good morning everyone. Despite a tough economic environment we delivered a solid first half across most of our businesses, both in North America and international. In fact, our international businesses had a particularly strong quarter.

We also had a strong first half in U.S. Soup and a good second quarter in the midst of retail inventory reductions that impacted the sales of U.S. Soup, Sauces and Beverages by about three percentage points. In particular, retail inventory reductions had a more pronounced impact on our Condensed Soup and Sauce businesses.

From a consumer perspective, consumers have clearly responded well to our focus on wellness and quality and to our increased marketing spending behind soup. From a total company perspective, in the first half we modestly increased our marketing support beyond our typical target spending range as we launched major product initiatives such as Select Harvest, V8 Soup and Swanson Stock, and as we opportunistically increased our value campaign surrounding Condensed Soup.

Now some of our businesses are clearly feeling more of an impact from the recession. Certainly that’s true of Foodservice, Beverages and Premium Breads. All that said, I expect that overall we will weather the storm better than most companies, given our focused portfolio and our relative brand strength. Most of our categories are growing and our businesses are performing very competitively within those categories.

Bottom line, I believe that our portfolio continues to provide great value and in particular I am especially pleased to see the consumer response to our business propositions and our spending continues to hold up quite well.

Now I’ll turn the call over to Anthony for his detailed remarks.

Anthony DiSilvestro

Good morning. Before I begin I would like to comment on the basis of presentation of our results and items impacting comparability. The results of our divested Godiva business are reported as discontinued operations on the income statement. In the current and prior year quarter, we recognized items associated with the Godiva divestiture which are impacting the comparability of our results. I will highlight those items.

In April, 2008 we announced a series of initiatives to improve our operational efficiency and long-term profitability, including the divestiture of certain Salty snack-food brands in Australia; closing certain production facilities in Canada and Australia; and streamlining our management structure. During the second quarter of fiscal 2009, we recognized $8 million, $5 million after tax or $0.01 per share of accelerated depreciation and other exit costs in cost of products sold, bringing the first half total to $15 million, $10 million after tax or $0.03 per share.

As discussed during our last call, beginning in fiscal 2009 unrealized gains and losses on commodity hedging activities are recorded in unallocated corporate expenses and the volatility associated with the unrealized scanner loss will be treated as an item impacting comparability. In the second quarter, there was no change in the aggregate of unrealized losses which remained at $26 million, $16 million after tax or $0.04 per share.

Adjusted net earnings per share in the quarter were $0.65 compared to adjusted net earnings per share of $0.69 in the second quarter a year ago. For the first half of the fiscal year, adjusted net earnings per share were $1.41 compared to adjusted net earnings per share a year ago of $1.39.

Let’s begin our review of continuing operations for the second quarter. Net sales for the quarter decreased 4% to $2.122 billion. The change in sales breaks down as follows. Volume and mix subtracted 3%. Price and sales allowances add 9%. Increased promotional spending subtracted 3%. Currencies subtracted 5%. Divestitures subtracted 2%.

Gross margin for the quarter was $837 million compared to $889 million in the prior year. Gross margin percentage for the quarter was 39.4% compared to 40.1% a year ago. The current year included $8 million of costs related to the initiatives to improve our operational efficiencies and long-term profitability. After adjusting for this item, gross margin was $845 million and the gross margin percentage was 39.8%. The decline in gross margins was primarily due to cost inflation and increased promotional spending, partially offset by higher selling prices and productivity improvements.

Marketing and selling expenses decreased from $319 million a year ago to $315 million, due to the effect of currency, partly offset by higher advertising principally in our U.S. Soup and Sauce businesses.

Administrative expenses were $138 million compared to $141 million in the prior year quarter. The decline was primarily due to the impact of currency, partly offset by increased costs to establish our businesses in China and Russia. Research and development expenses increased $2 million to $27 million. Other expense was $2 million compared to $4 million a year ago.

Earnings before interest and taxes were $355 million compared to $400 million in last year’s second quarter. After adjusting for the previously mentioned items, EBIT was $363 million as compared to $400 million in the prior year quarter, a reduction of 9%. Five points of this decline is due to the unfavorable impact of currency. The balance of the decline is due to higher advertising and lower gross margins.

Net interest expense declined to $25 million from $42 million in the prior year, due to the significant decline in our short-term borrowing costs. The tax rate in the second quarter was 30.6% compared to 27.4% in the prior year’s quarter. Excluding the rate impact of the items impacting comparability, the tax rate for second quarter was 30.8%. The prior year quarter included a $13 million tax benefit from the favorable resolution of a state tax matter. Excluding this item, the tax rate in the year-ago quarter was 31.0%.

Average diluted shares outstanding declined to 362 million from 386 million, primarily due to repurchases utilizing net proceeds from the divestiture of the Godiva business and our strategic share repurchase programs.

Earnings from continuing operations for the quarter were $229 million or $0.63 per share compared to $260 million or $0.67 per share in the year-ago quarter. The current year included $5 million of costs or $0.01 per share related to the initiative to improve our operational efficiency and long-term profitability. The prior year quarter included a $13 million or $0.03 per share tax benefit from the favorable resolution of a state tax matter. After factoring these items into the reported results, adjusted earnings from continuing operations in the current quarter were $234 million compared to $247 million a year ago.

Adjusted earnings per share from continuing operations were $0.65 as compared to $0.64 in the year-ago quarter. Adjusted earnings per share from continuing operations for the quarter were negatively impacted by $0.04 from currency translation. The growth in adjusted EPS benefited from a significant decline in average diluted shares outstanding, which resulted from the repurchases utilizing net proceeds from the divestiture of Godiva and the company’s strategic share repurchase programs.

Earnings from discontinued operations in the second quarter were $4 million or $0.01 per share, reflecting an adjustment to the taxes on the previously recorded sale of Godiva. This compares to earnings of $14 million or $0.04 per share in the prior year quarter. The prior year earnings included $5 million or $0.01 per share of costs related to the sale of the Godiva business. After factoring this item and the current year tax adjustment into the reported results, adjusted earnings from discontinued operations were zero compared to $19 million or $0.05 per share in the year-ago quarter.

Net earnings per share, which includes both continuing and discontinued operations for the quarter were $0.64 compared to $0.71 a year ago. Excluding the items previously mentioned that impact comparability, adjusted net earnings per share in the second quarter were $0.65 compared to $0.69 in the year-ago quarter. Reflecting the strengthening of the U.S. dollar, adjusted net earnings per share for the quarter were negatively impacted by $0.04 from currency translation.

Now let’s turn to year-to-date performance beginning with continuing operations. Net sales decreased 1% to $4.372 billion. The change in sales for six months breaks down as follows. Volume mix subtracted 1%. Price and sales allowances added 8%. Increased promotional spending subtracted 3%. Currency subtracted 3%. Divestitures subtracted 2%.

Gross margin declined from $1.781 billion to $1.708 billion. Gross margin percentage declined to 39.1% from 40.4%. The current year included $26 million of unrealized losses on commodity hedges. The current year also included $15 million of cost related to the initiatives to improve our operational efficiency and long-term profitability. After adjusting for these items, gross margin was $1.749 billion and gross margin percentage was 40.0%. The decline in gross margin percentage was primarily due to cost inflation in excess of pricing.

Marketing and selling expenses increased from $615 million a year ago to $622 million due to higher advertising, principally in U.S. Soup, partly offset by reductions due to the impact of currency and lower selling expenses.

Administrative expenses were $278 million compared to $282 million in the prior year. The decline was primarily due to the impact of currency, partly offset by increased costs to establish our businesses in China and Russia. Research and development expenses increased $4 million to $56 million reflecting increased new product initiatives.

Other income of $2 million compared to other expense of $4 million in the prior year. Earnings before interest and taxes were $754 million compared to $828 million in the prior year. After adjusting the current year for the previously mentioned items, EBIT was $795 million as compared to $828 million in the prior year, a decrease of 4%. Three percentage points of the decline is due to the translation impact of the strengthening U.S. dollar.

Net interest expense was $57 million compared to $84 million in the prior year. The decline was generally due to the generous decline in our short-term interest rates. The tax rate was 29.8% compared to 29.0% a year ago. Excluding the raised impact of the items impacting comparability’s, the tax rate for the first half was 30.2%. The prior year included the $13 million benefit from the state tax matter. Excluding this item, the prior year tax rate was 30.8%.

Earnings from continuing operations for six months were $489 million or $1.34 per share compared to $528 or $1.36 per share in the prior year. The current year included $16 million or $0.04 per share of unrealized losses on commodity hedges. The current year also included $10 million of costs or $0.03 per share related to the initiatives to improve our operational efficiency and long-term profitability.

The prior year included the $13 million asset from the state tax matter. After factoring these items into the reported results, year-to-date adjusted earnings from continuing operations were $515 million in both years. Adjusted earnings per share were $1.41 as compared to $1.33 a year ago.

The year-to-date negative impact of currency translations on adjusted earnings per share was $0.05 per share. The growth in adjusted earnings per share benefited from a decline in diluted shares outstanding from 387 million to 364 million, primarily due to repurchases utilizing net proceeds from the divestiture of Godiva and the company’s strategic share repurchase program.

Earnings from discontinued operations in the first half were $4 million or $0.01 per share, reflecting an adjustment to the taxes on the sale of Godiva. Earnings from discontinued operations in the first half of 2008 were $16 million or $0.04 per share. The prior year included $5 million or $0.01 per share of costs related to the sale of the Godiva business. After factoring these items into the reported results, adjusted earnings from discontinued operations were zero compared to $21 million or $0.05 per share in the prior year half.

Net earnings per share, which includes both continuing and discontinued operations, were $1.35 per share compared to $1.41 a year ago. Excluding the items previously mentioned that impact comparability, adjusted net earnings per share in the first half was $1.41 compared to $1.39 a year ago, an increase of 1%. For the first half, the negative impact of currency translation on adjusted net earnings per share was $0.05 per share.

U.S. Soup, Sauces and Beverages sales for the second quarter rose 3% to $1.128 billion from $1.093 billion in the year ago quarter. Here is the breakdown of the change in sales. Volume and mix subtracted 3%. Price and sales allowances added 10%. Increased promotional spending subtracted 4%.

Let’s touch on a few highlights. U.S. Soup sales increased 4% with condensed up 1%, ready-to-serve up 7% and broth up 3%. U.S. Soup sales, especially condensed, were negatively impacted by reductions in customer inventory levels. Condensed sales increased due to gains in cooking varieties, reflecting the increase of in-home dining occasions in the current economic environment.

Ready-to-serve soup sales increased due to the successful introduction of Select Harvest and V8 soups, and gains in Chunky cans, partly offset by a decline in the convenience platform which includes soups in microwaveable bowls and cups. The Wolfgang Puck Soup, Stock and Broth business, acquired in the fourth quarter of last fiscal year, contributed modestly to soup sales growth in the quarter. Broth sales increased reflecting the successful introduction of Swanson Stock, partly offset by increased promotional spending in response to competitive activity.

Beverage sales grew slightly following double-digit growth a year ago. The increase was driven by continued double-digit growth of V8 V-Fusion Juice and growth in V8 Splash, partly offset by declines in V8 Vegetable Juice and Campbell’s Tomato Juice.

Prego Pasta Sauce sales increased while sales of Pace Mexican Salsas were flat versus the prior year quarter. Both Prego and Pace sales have been significantly impacted by reductions in customer inventory levels. Growth in consumer take-away of these products remains strong, driven by Prego Heart Smart varieties and Pace specialty sauces.

Operating earnings decreased to $270 million from $286 million. The decrease in operating earnings was due to higher costs including advertising associated with the launches of Select Harvest, V8 aseptic soups and Swanson Stocks, both offset by increased sales.

Sales for the first half rose 6% to $2.326 billion from $2.190 billion a year ago. Here is the breakdown of the change in sales. Price in sales allowances added 9%. Increased promotional spending subtracted 3%.

Let’s touch on a few highlights. U.S. Soup sales increased 8% with condensed up 8%, ready-to-serve up 7% and broth up 13%. Sales of condensed soups increased in both cooking and eating varieties. Ready-to-serve soup sales increased due to the successful introduction of Select Harvest and V8 soups, partly offset by a decline in Chunky canned and the convenience platform. Broth sales were driven by the continued success of our base business and the introduction of our Swanson [inaudible]. The Wolfgang Puck Soup, Stock and Broth business contributed modestly to soup sales growth in the half.

Beverage sales grew slightly following double-digit growth a year ago. The increase was driven by continued double-digit growth in V8 V-Fusion Juice, partly offset by declines in V8 Vegetable Juice and Campbell’s Tomato Juice. Prego Pasta Sauces and Pace Mexican Sauces sales increased.

Operating earnings for the first half declined to $584 million from $595 million as an inflation driven decline in gross margin percentage and higher levels of marketing associated with the new product launches were only partially offset by higher sales.

Baking and Snacking sales in the second quarter declined 10% to $440 million from $491 million in the year-ago quarter. The change in sales for the quarter breaks down as follows. Volume and mix subtracted 1%. Price and sales allowances added 9%. Increased promotional spending subtracted 2%. Currency subtracted 8%. Divestitures subtracted 8%.

Pepperidge Farm sales increased driven by growth in the cookies and crackers business and the bakery business. Sales of cookies and crackers increased driven by double-digit gains in Goldfish Snack Crackers and Milano Cookies. Sales also benefited from the introduction of Baked Naturals. Bakery sales increased due to gains in whole grain bread varieties and swirl breads.

As reported, Arnott’s sales declined due to the divestiture of certain Salty snack food brands in May, 2008 and the unfavorable impact of currency. Excluding these factors, sales increased due to growth in all segments; savory, chocolate and sweet. Sales of our biscuit business in Indonesia also grew strongly.

Operating earnings decreased to $53 million from $68 million due to a decline in Pepperidge Farm and the unfavorable impact of currency, partly offset by significant growth in Arnott. The current quarter included $2 million in accelerated depreciation and other adds of cost related to the previously announced restructuring program.

Sales for the first half declined 7% to $949 million from $1.023 billion a year ago. The change in sales for six months breaks down as follows. Volume and mix subtracted 1%. Price and sales allowances added 9%. Increased promotional spending subtracted 2%. Currency subtracted 5%. Divestitures subtracted 8%.

Pepperidge Farm sales increased, primarily driven by growth in both the cookies and crackers and bakery businesses. As reported, Arnott sales declined due to the snack foods divestiture and the unfavorable impact of currency. Excluding these factors, sales increased due to significant growth of Savory cracker varieties. Sales of our biscuit business in Indonesia also grew strongly.

Operating earnings for the first half decreased to $136 million from $140 million due to the negative impact of currency translation. Excluding currency, significant growth in Arnott was partly offset by a decline in Pepperidge Farm. The current year included $2 million in accelerated depreciation and other aggregate costs related to the previously announced restructuring program.

International Soup, Sauces and Beverages sales for the quarter declined 16% to $391 million from $458 million in the year-ago quarter. The change in sales for the quarter breaks down as follows. Volume and mix subtracted 5%. Price and sales allowances added 5%. Decreased promotional spending added 1%. Currency subtracted 13%. Divestitures subtracted 3%. In Europe sales declined, primarily due to currency; the divestiture of the company’s French Sauce and Mayonnaise business in September, 2008; and lower sales in Germany.

In the Asia-Pacific region sales increased primarily due to gains in the Australia Soup business and in the Malaysian business, partly offset by the unfavorable impact of currency. In Canada sales declined, primarily due to the unfavorable impact of currency, partly offset by gains in the Soup business.

Operating earnings decreased to $50 million from $61 million a year ago, due to the unfavorable impact of currency. Excluding the impact of currency, operating earnings increased in Europe, reflecting the benefit of our cost savings initiatives and in Canada, primarily offset by costs to establish our businesses in Russia and China.

Sales for the year-to-date period decreased 9% to $771 million from $848 million. The change in sales breaks down as follows. Volume and mix subtracted 2%. Price and sales allowances added 4%. Increased promotional spending subtracted 1%. Currency subtracted 8%. Divestitures subtracted 2%. Excluding the impact of currency and divestitures, sales increased as gains in the Asia-Pacific region and Canada were partly offset by declines in Europe.

Operating earnings for the first half decreased to $88 million from $112 million a year ago due to the incremental costs to establish businesses in China and Russia and the unfavorable impact of currency, partly offset by gains in Europe and the Asia-Pacific region.

North American Foodservice sales for the quarter declined 7% to $163 million from $176 million in the year-ago period. The change in sales breaks down as follows. Volume and mix subtracted 9%. Price and sales allowances added 6%. Increased promotional spending subtracted 1%. Currency subtracted 3%.

Sales were significantly impacted by weakness in the Foodservice sector. Operating earnings decreased from $20 million to $10 million. The current quarter included $6 million in accelerated depreciation and other adds of cost related to the previously announced restructuring program. The remaining decline was primarily due to lower volumes.

Sales for the six months decreased 5% to $326 million from $342 million in the year-ago period. The change in sales breaks down as follows. Volume and mix subtracted 8%. Price and sales allowances added 6%. Increased promotional spending subtracted 1%. Currency subtracted 2%. Operating earnings decreased from $44 million to $21 million. The current year included $13 million in accelerated depreciation and other exit costs related to previously announced restructuring program. The remaining decline was primarily due to lower volume.

Unallocated corporate expenses decreased from $35 million a year ago to $28 million in the current quarter. The decrease was primarily due to the lower expenses associated with the SAP implementation in North America. For the first half, unallocated corporate expenses increased to $75 million from $63 million a year ago. The increase was due to $26 million of unrealized losses on commodity hedging included in the current year, partly offset by lower SAP implementation costs.

Now let’s turn to cash flow and the balance sheet. Cash flow from operations for the first half was $418 million compared to $442 million a year ago. The decline in cash flow from operations is primarily due to lower net earnings. Capital expenditures were $98 million compared to $90 million in the year-ago period. We now expect capital expenditures in fiscal 2009 to be approximately $370 million.

During the first half we repurchased 9 million shares at a total cost of $295 million. Total debt was $2.711 billion compared to $2.756 billion in the prior year. Cash and cash equivalents were $80 million as compared to $95 million in the prior year. Net debt was deduct cash and cash equivalents from total debt was $2.631 billion versus $2.661 billion, a decrease of $30 million.

This concludes my discussion of our results. Craig Owens will now have some closing comments.

B. Craig Owens

Thanks for that review, Anthony. Well I’m pleased that we delivered slightly better earnings per share in the second quarter and first half than we had projected in December. The main reasons for that were a lower than expected tax rate and an especially favorable interest expense.

I want to specifically comment on our margin performance in the U.S. Soup, Sauce and Beverage segment because I know this is getting some very understandable attention. Consistent with our plans, margins declined in the first half due to several factors.

First, our results to date reflect the significant cost inflation which accelerated in the back half of last year. While we’ve taken pricing, this is not sufficient to fully offset inflation in year-to-date. Second, we’ve launched several major new product initiatives including the launch of Select Harvest, V8 Aseptic Soups and Swanson Stock. Marketing costs including advertising and trade as planned negatively impacted first half margins. These factors are temporary and we fully expect margins to recover going forward, beginning in the second half of this fiscal year.

As we ramp for significant inflation of last year and achieve the benefits of price realization, gross margins will improve. We should see some further cost advantage late this year and in the next fiscal year as unfavorable commodity hedges mature. Marketing activity will remain fully competitive, but with the major product launch activity behind us, it will be lower in the second half.

Given our better than expected first half EPS performance we expect on adjusted and currency neutral basis our EPS will be at the upper end of the range of the 5 to 7% with the adjusted base of $2.09. We expect sales growth to be consistent with our 3 to 4% long-term target and we expect earnings before interest and taxes to be slightly below our long-term target of 5 to 6% growth.

A quarter in rates exchange, our sales, EBIT and EPS growth rates would all be negatively impacted by approximately five percentage points due to currency translation. That’s a dramatic single year impact that we have not been able to fully offset.

With that I’ll turn the call back to Len and we’ll move to Q&A. Thank you.

Leonard F. Griehs

[Devon], you can start the Q&A and I’d just like to ask one thing before we start. We’d like each of you asking a question if you could limit yourself to one question and one follow-up on each of the responses so we can make sure we get through everybody.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Your first question comes from Andrew Lazar – Barclays Capital.

Andrew Lazar - Barclays Capital

I guess I think as of last quarter you had been looking for flattish gross margins for the year. I was just trying to get a sense of whether that still held. And given you had pricing that was very solid in both the fiscal 1Q and 2Q I guess I’m surprised that gross margin improved a bit sequentially given the significant shipment volume deceleration. So I want to get a sense of why volume de-leveraging didn’t hurt margins more or maybe it did and there was some offset that came up in the second quarter that helped you.

Douglas R. Conant

Andrew, at a high level I will tell you that we do expect to see gross margins very solid for the full year. So that implies we’re going to continue to have growth in the second half. Anthony or Craig, do you want to get at the – a little more detail to it?

B. Craig Owens

Sure. I mean, on a full year basis we expect growth margins to be ahead of the prior year. And to your question about volume, we did actually see a negative impact on margins due to the volume related to the inventory reductions and that’s reflected in our U.S. Soup, Sauce and Beverage segment results.

Andrew Lazar - Barclays Capital

Was there something that helped offset that relative to the first quarter? Because you had good pricing in both first and second quarters.

B. Craig Owens

No, there wasn’t anything extraordinary underneath that.

Leonard F. Griehs

Okay. Next question Devon.

Operator

Your next question comes from Eric Katzman - Deutsche Bank Securities.

Eric Katzman - Deutsche Bank Securities

I guess my question has to do with the trade de-loading, Doug, and how much impact that had on soup. I think you gave a 3% hit for the entire division, but can you be more specific as to what happened in soup? And you also kind of suggested that that was below I guess your consumer off-take was better, and maybe you could give us some sense as to what that means.

Douglas R. Conant

Eric, the information we provided was that there was about three points of sale lost to this inventory reduction. And it happened in our warehouse businesses, which would land it squarely in our U.S. Soup, Sauce and Beverage categories. It was most pronounced in our U.S. Soup and Sauce businesses. And it was even more pronounced, surprisingly to me, in condensed soup and sauces where consumer demand was actually increasing. We have great visibility into this because we have good consumer CRM capability in terms of consumer replenishment, excuse me. So we have visibility into the dynamics of the categories.

The retailers simply cut back pretty much across the board and then tried to respond if they had particular shortages they tried to respond in a very surgical way. But basically they made cuts across the board and it transcended any one particular customer. It happened in multiple customers.

Eric Katzman - Deutsche Bank Securities

I know you have difficulty in kind of giving out the detail on consumption, but it seems to me that if there was ever a point in time to give it out it would be about now. So can you give us some sense as to what – assuming that you can now ship to consumption in the second half, can you give us some sense as to either how much better soup should be on the top line, either soup specifically or the division?

Douglas R. Conant

The answer probably won’t be fulfilling and definitely won’t be fulfilling enough for you, but I tend not to get into quarters too much, especially in the soup business because you sort of have the seasonal run there. But I would tend to look at the half and say soup sales were up a solid 8% for the half and I think whatever inventory reductions that have happened are – it’s about as low as we’re going to go. So I would expect in the second half sales and consumer takeaway to be parallel. And we’re optimistic about our second half sales performance in soup.

Leonard F. Griehs

Okay. Next question Devon.

Operator

Your next question comes from Vincent Andrews - Morgan Stanley.

Vincent Andrews - Morgan Stanley

Just a follow-up on Eric’s question on the de-load, can you give us a sense as to – it sounds like not very much took place in baking and snacking. Can you give us any sort of broad sense from a retailer perspective but how they’re picking categories or I know that you were surprised about condensed given the takeaway performance, but is there any rhyme or reason as to what’s taking place here as far as you can tell?

Douglas R. Conant

Well, just to expand a little bit, it’s on warehouse delivered products. So if you have DSC products which we have in our bakery business with Pepperidge Farm, that’s never in the retailers inventory, in their warehouses. So that fundamentally was not a part of their exercise. That’s why Pepperidge Farm being DSC was excluded. Also whatever DSD work we do with our venture with Coca-Cola Enterprises in Beverages is unaffected by what retailers are doing in their warehouses.

That’s why it was most pronounced in our Soup and Sauce businesses. My sense is – and you’d have to ask the retailers this, that they made some pretty broad cuts in their warehouse businesses with specific inventory goals in mind as they wrapped up their year-end, and that they surgically responded when they had to, only when they had to. My instinct is there was more out-of-stocks than we have experienced in the past, especially in soup, especially with the inclement weather we realized in January. But we don’t have great data on that yet. We will.

Leonard F. Griehs

Okay. Next question Devon.

Operator

Your next question comes from David Palmer – UBS.

David Palmer – UBS

You guys seem to get very good trial from Select Harvest. I’m wondering if you might be able to give us some numbers and just your overall judgment about repeat on Select Harvest, therefore helping us getting a feeling of your confidence on the sustainability and future profitability of that brand. Thanks.

Douglas R. Conant

Sure David. You’re right. Trial has been quite good. Repeat is also very much on our projections, so we expect Select Harvest to continue to contribute incrementally to our growth. It’s right in the sweet spot in terms of the consumer interest in wellness, particularly women 35 plus. And it’s also delivering on a value proposition with that target. So we’re ahead of the curve on trial. We’re meeting expectations on repeat. And we’re continuing to support the brand. So expectations are that it will grow and become an increasingly meaningful part of the portfolio.

David Palmer – UBS

And just a technical question here, tight interest rate, I had had somewhere a little bit below 4% in the quarter. Maybe that’s right or wrong or you know you can tell me what you think yours was, but whatever rate you calculate it at is that sustainable for Campbell? Does this number include some currency impact? Perhaps there’s a significant portion of flooding rate debt. Any color would be helpful. Thanks.

Douglas R. Conant

David, we all missed the beginning of that sentence. Somehow there was a glitch in the line.

David Palmer – UBS

Oh. The beginning is I calculated your implied interest rate at a little below 4% for the quarter. Basically just trying to get some color around the interest cost for Campbell. Does it include some currency impact at hedges, significant portion of floating rate debt, any color about interest costs going forward would be helpful.

Douglas R. Conant

Yes, the biggest impact there is just the really low commercial paper rates that we’re realizing, David. I don’t think there’s a significant movement related to currency in that number.

David Palmer – UBS

And so including CP, what percent is effectively floating rate? Do you have that at your fingertips?

Douglas R. Conant

Yes, we’ve got about $800 million in commercial paper out of the total.

B. Craig Owens

Yes, David, just a reminder we did refinance that $300 million during the quarter that we had in commercial paper, so that did impact. Gave us lower rates, too, in the quarter.

Douglas R. Conant

Our average floating rate debt in the quarter would be a little higher than it was at the end of the quarter given the refinancing.

Leonard F. Griehs

Okay Devon next question.

Operator

Your next question comes from Alexia Howard - Sanford Bernstein.

Alexia Howard - Sanford Bernstein

Yes, question on the outlook on promotional activity and volumes going forward. It seems as though I guess quite naturally there’s been a step-up in pricing. That’s been matched to a certain extent – or not matched, but there’s also been a step-up in promotional spending over the last couple of quarters. How are you thinking about that back half or in fiscal ’10 with regards to those two factors?

Douglas R. Conant

Clearly as we expand our gross margin we’re going to be getting more traction with our pricing and it does put some of the volume growth at risk. And we’re just going to have to manage that very carefully as we go through the back half. We do expect to see – we’re confident in our margin expansion. We expect to hold onto the volume, but we’re going to get our margins right in the back half.

Leonard F. Griehs

Devon.

Operator

Your next question comes from Judy Hong - Goldman Sachs & Company, Inc.

Judy Hong - Goldman Sachs & Company, Inc.

In terms of your guidance for the full year it sounds like you’re – hello?

Douglas R. Conant

Yes we’re here.

Judy Hong - Goldman Sachs & Company, Inc.

Okay. Sorry. It sounds like your sales growth outlook is a little bit lower than before and I presume that that’s all just because of the inventory de-stocking in the second quarter, but you’ve also talked about improved margin outlook for the full year. So I was hoping if you can just kind of clarify how you’re thinking about guidance because you are taking the 5 to 7% now up to the high end of that range. And is that mostly interest expenses or is the margin also improving at the same time?

Anthony DiSilvestro

Judy, you’re right. The top line guidance is slightly lower and it is largely associated with the retailer inventory de-stocking that we saw in the second quarter. The fact that we’ve been able to move the bottom line guidance up is really sort of the same dynamic that we saw in the quarter. We had some better below the EBIT line dynamics related to interest cost and taxes.

Judy Hong - Goldman Sachs & Company, Inc.

In the press release though you called out improved margin outlook as part of the increase in guidance. Is it just mostly interest expenses?

B. Craig Owens

No, that would go to the operating performance. As you noticed we pulled the sales guidance down a little bit but maintained the EBIT guidance. Therefore by definition those margins come up a little bit as a result of some cost saving initiatives that we have undertaken. And the EPS outlook also does reflect some favorability on interest expense.

Douglas R. Conant

Yes, Judy, we have taken an incremental cut at our overhead expenses and done some significant belt-tightening. And that was not in place in the first half of this year. That will be reflected on our second half performance. That’s giving us increased confidence on the margin for EBIT margin performance. And then the softness that Anthony alluded to relative to our earlier discussions, we are just trying to be realistic about the performance of our Foodservice business in the back half, our Pepperidge Farm Bakery business and our V8 Beverage business. So we’re calling down rates of growth there slightly and as we tighten the margins we’re also trying to tighten the range around our expectations for sale.

B. Craig Owens

So as you step down through the three elements of our guidance, slightly softer at the top line offset by the time you get to EBIT by tighter expense control and slightly better margins and then improvement at the EPS guidance because of the better interest.

Leonard F. Griehs

Okay next question Devon.

Operator

Your next question comes from Terry Bivens - J.P. Morgan.

Terry Bivens - J.P. Morgan

Doug, just from our numbers it looks like you’re doing a pretty good job outperforming the competition at Wal-Mart. I’m just trying to get a handle there on how you know Wal-Mart’s trade practices – their trade inventory practices, you know it seems you’re doing so well there I’m just wondering if how big a factor were they in the de-loading versus some of your other big accounts here domestically?

Douglas R. Conant

Terry, as you know we don’t comment on specific customers. I would say that this was across several major customers and was not – it was not specifically identifiable with one particular customer. I would also say that any customer that has a value-oriented proposition they’re taking to market we’ve had good success with in the first half from a sales and a takeaway perspective. And so it transcends any one particular customer.

Terry Bivens - J.P. Morgan

Just a quick follow-up on inventories. You know as we look forward into the third quarter do you anticipate further de-loading or do you think inventory levels are about where they should be now?

Douglas R. Conant

We expect inventory levels will not appreciably change.

Leonard F. Griehs

Great. Next question Devon.

Operator

Your next question comes from Chris Growe - Stifel Nicolaus.

Chris Growe - Stifel Nicolaus

I just had a question for you, sort of a follow-up from before, but on your ready-to-serve business just looking at your market share using IRI data, it shows that it’s sort of flat from when you started the soup season. And I guess as I think about it you’ve gotten a lot more promotional during the quarter and you’ve of course had a couple of new products, so in the second half as you anticipate kind of pulling back on some of those promotional levels and maybe a bit on the advertising, is there risk there? I mean you’ve seen your price points hit down pretty close to private label and Progresso and as you pull back is there some risk to your market share?

It sounds like you’re feeling perhaps some weaker volumes in that period, you know, if you could speak to that please.

Douglas R. Conant

First of all, Chris, we expect to be fully competitive on the spending side in the second half. We’re just calling it down from the introductory levels that we had in the first half. The second piece I would expect us to be very competitive in terms of consumer takeaway in the second half. We’re continuing to get trial of Select Harvest and we see that proposition actually strengthening in the second half as we continue to get trial and leverage is stronger with deep face.

And then Chunky came on with a great solid second quarter and the outlook for the second half is very competitive. So we expect that we’ll be fully competitive in the back half.

Chris Growe - Stifel Nicolaus

The way you report your sales you get the pricing and you get the promotion. Would that promotional factor kind of again what you signaled so far likely be less negative?

Douglas R. Conant

Yes, I would say – intuitively yes.

Leonard F. Griehs

Okay next question.

Operator

Your next question comes from Eric Katzman - Deutsche Bank Securities.

Eric Katzman - Deutsche Bank Securities

Certain times for a company to kind of play offense and other times to play defense and you know outwardly at CAGNY last week, you know, you kind of dismissed General Mills as being that much of a factor and you kind of gave what I thought was a pretty positive outlook. But I don’t know – internally I would think that you would be kind of upset at this situation because our control condensed. And I mean you’re 80% of the category.

I mean it seems to me that it’s your job to or Denise’s job to convince the retailer that this is the product you don’t want to de-load. This is the product that they should be selling off your shelves like crazy, probably without any promotion even associated with it because consumers are so pressured. So I guess I’m just – like you said you were surprised at the consumer de-load or the trade de-load here. And I guess I just want you to react like do you feel that you were unsuccessful in convincing the retailer? Did they talk with you about this decision?

Because it seems to me that if there’s ever a time for Campbell Soup to be playing offense with it’s highest margin product and most well-recognized product, it’s like right now.

Douglas R. Conant

Eric, I think you make a very good point. We were intimately in dialog with all of our customers as we went through the heart of the soup season. It’s reflected in very strong performance. Consumer takeaway was very strong through the entire soup season. And some of our retailers while they were managing their inventories chose to take the risk on out-of-stock as they were even more committed to managing their working capital. And it was a frustrating experience. I think we all learned from it. And I think both the retailers and we would have done it differently in hindsight.

But the reality is we had a good season with the consumer and we were up 8% in the first half and quite frankly it should have been more, I wish it was, and it wasn’t. So we just regroup and we move on from here. But I’m not embarrassed by 8% growth in the first half.

B. Craig Owens

I think any time the retailer is trying to take inventory down it’s really across the whole dry grocery segment that it’s the pieces of business, the SKUs that are doing best that they’re going to sort of inadvertently de-load the most. I mean, I think it was the strength of the condensed business that caused us to have the biggest gap there between consumer takeoff and inventory.

Douglas R. Conant

It is what it is. Now we just have to pick up and go forward.

Leonard F. Griehs

Devon next question.

Operator

Your next question comes from Robert Moskow - Credit Suisse.

Robert Moskow - Credit Suisse

This is kind of a longer term question, but you have a bunch of re-stagings planned for 2010, Chunky and whatnot. This is actually a question about BPA. It seems to be finding its way into the public press. It’s a concern that a lot of consumers have about the lining of steel cans and the attributes of it. Have you explored different types of packaging yet and what would be the impact of re-staging if you were forced to do packaging without BPA?

Douglas R. Conant

We are totally in touch with expectations on this front and we’re I think we’re at the front edge of understanding what the options would be. We don’t see any near term or mid-term risk on this front and we are quite confident that we can adjust to whatever comes our way over the next 12 to 18 months. And so what I would say is in the near term over the next 18 months this is a non-issue. And we’ll be prepared to deal with anything beyond that.

Leonard F. Griehs

Next question Devon.

Operator

Your next question comes from Jonathan Feeney - Janney Montgomery Scott LLC.

Jonathan Feeney - Janney Montgomery Scott LLC

Doug, do you have any way of – I’m not sure if you’ve been asked this before, but of giving us an aggregate sense of how much retailer inventory is carried in soup and how many – in terms of weeks of sales? And how far that’s off its peak?

Douglas R. Conant

Well, it’s a very tricky, seasonal build and de-load. So you know we can talk averages, but then it wildly fluctuates quarter-to-quarter. Anthony do you want to give him just the broad?

Anthony DiSilvestro

Yes, I think on average we would be at the high end of two to three weeks. And Doug quantified earlier what the sales impact was in the second quarter of the de-load which implies when you do the math it’s about three days of inventory.

Jonathan Feeney - Janney Montgomery Scott LLC

You know you mentioned year-over-year change in operating profit in Soups, Sauces and Beverages being the first factor you mentioned was cost and then chiefly advertising. I guess is there any way you could tell us roughly how much incremental year-over-year change in advertising compressed that segment operating margin?

B. Craig Owens

I guess if we just took the three launches we’re talking about, Select Harvest, V8 Aseptic and Swanson Stock, most of the operating profit decline in this segment is attributable to the increase in advertising.

Leonard F. Griehs

Okay next question Devon.

Operator

Your next question comes from Edgar Roesch – Soleil.

Edgar Roesch - Soleil

I have a question about Baking and Snacking, just trying to get a little bit more color on the profit decline there. You know, is it fair to say then that the divestiture which was eight points negative to the top line didn’t have much profit impact? Then you’ve got the FX and then if you could give a little more color on Pepperidge Farm on the decline there whether it was the main factor in the overall segment decline.

Douglas R. Conant

Yes, I guess if you looked at the Baking and Snacking segment, I guess first is the significant decline due to the currency translation which is about two-thirds of the operating profit decline. And then the balance of the decline is due to the lower profit at Pepperidge Farm. And it does reflect the significant cost inflation that they experienced beginning in the back half of last year.

Edgar Roesch – Soleil

So then looking at the second half, I mean you signal a little bit of caution on Pepperidge with at least the premium breads maybe slowing down in volume, but yet your pricing you know up nine in the quarter should compare pretty favorably to the year-over-year cost increase in the second half. Is that a fair way to characterize the second half there?

Douglas R. Conant

Yes, that would be competing pressure in the back half there, you know one is the pressure on volumes and sort of the economic environment offset by the year-on-year improvement in gross margin performance as we begin the more significant inflation that occurred in the back half of last year.

B. Craig Owens

And we’re talking about a slowing of growth. We’re not necessarily talking about a decline in sales. We’ve been on quite a roll with Pepperidge Farm for the last five years and what we’re seeing is a slowing of growth in the category and a slowing of growth of Pepperidge Farm as opposed to a significant decline.

Leonard F. Griehs

Devon, how many more questions in queue?

Operator

We have four sir.

Leonard F. Griehs

Okay. We’ll take those and then we’ll stop.

Operator

Yes sir. Your next question comes from David Driscoll - Citi Investments.

David Driscoll - Citi Investments

Doug, I wanted to try my hand just a little bit at this inventory de-loading. Very surprising comment and certainly I agree with almost entirely what Eric was saying earlier, but I wanted just to say that and ask you this question, I thought the whole concept of the vendor inventory management system was to reduce the inventory levels at the retailers. You guys have insight as to what their levels are and you do automatic replenishing.

So this was completely off my radar as a possibility because it seems like if there’s good takeaway then you see the reduction at the retail level, you replenish and everybody wins because the retailer’s doing what they’re supposed to do which is make sales. I really don’t understand this. How could this possibly be an issue? How can this come up and what do these retailers say to you guys? Do they just say, “Hey, we just didn’t want the sales”? Because it seems to make zero sense.

Douglas R. Conant

Well, broadly speaking these retailers made executive decisions across their whole network that they were going to reduce inventories as they hit the end of their calendar year. And that was done largely across all their major dry grocery categories. We’re not the only organization that’s talked about this. And this was somewhat of an executive decision that enabled them to significantly reduce their inventory and some of them delivered very solid performance on the strength of that decision at a high level.

However, some categories and some individual businesses might have been adversely affected. And we were one of those. Our growth was slowed as a result of this. The good news is our consumer takeaway held up very well and our performance for the half was solid. We missed an opportunity there. We missed it. The customer missed it. But this transcended any relationship we have with a category manager or buyer. This was an executive decision.

David Driscoll - Citi Investments

Can you comment on whether or not you perhaps lost any shelf space?

Douglas R. Conant

There’s no evidence that we’ve lost shelf space. In fact there’s evidence that we’ve held or gained shelf space with virtually every customer.

David Driscoll - Citi Investments

Are you seeing any trade de-loading in Europe?

Douglas R. Conant

No.

Leonard F. Griehs

Okay next question Devon.

Operator

Your next question comes from Alton Stump - Longbow Research.

Alton Stump - Longbow Research

Just a quick question on the [inflate] cost and I’m sorry if you mentioned this in your opening remarks and I missed it, but are you still looking for a 9 to 11% inflation cost number for this year?

B. Craig Owens

Yes, about a 9% inflation rate for the full year.

Alton Stump - Longbow Research

There has been some word on some pretty hefty metal can cost increases going through at the first of the year. Is that factored in to your updated guidance over the long term?

Douglas R. Conant

Yes, it is factored into the updated guidance and it is true that there is some pretty significant upward pressure on tin plate costs.

Leonard F. Griehs

Okay next question Devon.

Operator

Yes sir. Your last question comes from [Liesel Henderson] – Campbell Soup.

Leonard F. Griehs

No, that’s not a question. That’s – that one’s not a question. That’s just one of our participants. So that’ll wrap it up for us then. Okay you can conclude the session Devon.

Operator

Ladies and gentlemen thank you for your participation in today’s conference. This concludes the program. You may all disconnect. Thank you and have a nice day.

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Source: Campbell Soup Company F2Q09 (Qtr End 2/1/2009) Earnings Call Transcript
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