Sanderson Farms' (SAFM) CEO Joe Sanderson on Q3 2014 Results - Earnings Call Transcript

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 |  About: Sanderson Farms, Inc. (SAFM)
by: SA Transcripts

Operator

Good day, and welcome to the Sanderson Farms' Third Quarter Fiscal 2014 Conference Call. Today's call is being recorded. At this time, I'd like to turn the call over to Mr. Joe Sanderson, Chairman and Chief Executive Officer. Please go ahead, sir.

Joe Sanderson

Thank you. Good morning, and welcome to Sanderson Farms' third quarter conference call. Lampkin Butts and Mike Cockrell are with me this morning. We reported net income for our third fiscal quarter of $76.1 million or $3.30 per share. This compares to net income of $67.9 million or $2.95 per share during last year's third quarter.

Results for our third fiscal quarter include approximately $17.5 million net of income taxes and expenses related to our bonus compensation plan and ESOP or $0.76 per share. In addition, the quarter was negatively impacted by approximately $0.51 per share, net of income taxes as a result of lower than expected volume processed at our plants.

Mike and Lampkin will discuss these two matters in more detail in a moment. I'll begin this morning's call with few general comments before turning the call over to Lampkin and Mike. Before making any further comments, I'll ask Mike to give the cautionary statement regarding forward-looking statements.

Mike Cockrell

Thank you, Joe, and good morning everyone. This morning's call will contain forward-looking statements about the business, financial condition, and prospects of the company.

Examples of forward-looking statements includes statements about our beliefs of future grain and fresh chicken prices, consumer demand, production levels, the supply of fresh chicken products and economic conditions, and our expansion plans.

The actual performance of the company could differ materially from that indicated by the forward-looking statements because of various risks and uncertainties. These risks and uncertainties are described in our Annual Report on Form 10-K for our fiscal year ended October 31, 2013 as well as subsequent Quarterly Reports on Forms 10-Q filed with the SEC. Our third quarter Form 10-Q was filed this morning.

You're cautioned not to place undue reliance on forward-looking statements made this morning and each such statement speaks only as of today. We undertake no obligation to update or to revise forward-looking statements, the external factors affecting our business such as feed grain costs, market prices for poultry meat and the overall health of the economy among others remain volatile, in our view this clearly might be different from our view a few days from now.

Joe Sanderson

Thank you, Mike. Our results reflect continued strong market conditions during our third fiscal quarter, including lower grain costs compared to last year's third quarter.

The higher market prices for fresh chicken during the quarter compared to last year's third quarter were driven in part by continued record high Georgia Dock whole bird prices and higher prices for boneless breast meat.

These increases were fueled by steady demand for chicken and the retail grocery store market and continued good white meat demand in food service. Food service demand and market prices for boneless breast fresh meat peaked below the $2.12 level achieved in May of 2013, but remained above $2 per pound longer than last year.

Grain costs were lower during our third fiscal quarter and the first nine months of the year compared to last fiscal year, and it appears this year's grain crop will meet expectations, meaning we should enjoy a tailwind from lower grain costs in fiscal 2015 as well.

Based on what we have priced today, I'm assuming we've priced our remaining meats through the end of the fiscal year at yesterday's closing prices on the Chicago Board of Trade, our cash costs for feed grain purchase will be approximately $199.6 million lower this fiscal year than last year.

Our cash costs for our fourth fiscal quarter would be $50 million lower than last year's fourth quarter, and these lower costs would translate into approximately $0.03 lower grain cost per pound of chicken processed once fully priced into our flocks. We have priced our corn needs through August and are soybean meal needs through September, but we'll be on the market as we head through the rest of the quarter and the heart of the harvest season.

In addition to these lower costs, a good harvest of this year's crop could extend the lower cost into fiscal 2015. While the crop is certainly not yet in the bin and we have priced none of our fiscal 2015 needs at this time, had we priced all of our fiscal 2015 needs at yesterday's close, our cash growing cost during fiscal 2015 would be $50 million lower than this fiscal year. And that number is net of the additional volume we'll need to purchase to feed the additional chickens; we'll have on the ground in Palestine. That would translate into $0.038 per pound lower feed cost in fiscal 2015 compared to our estimated cost for fiscal 2014.

As Lampkin will discuss in a moment, our third quarter was negatively impacted by lower than expected hatch rates at our hatcheries and lower than target lab weights of chickens processed.

I've said in May that we had done a poor job managing the male breeder we use, and that caused our hatch rate to drop. As a result, we processed 4.7 million fewer head of chickens during the quarter than we projected on the May call. All totaled, we processed 45 million fewer than expected pounds, and we estimate that reduced volume cost us $0.51 per share net of income taxes.

I do expect our lab weights to move higher during our fourth quarter, and we have moved our head process back to full capacity this week.

I'm pleased with our progress in Palestine, construction is on schedule and we continue to target the first calendar quarter of 2015 to begin processing chickens at the new facilities. The Palestine big bird deboning plant represents over 15% more production for the company, and we'll create opportunities for our employees, customers, and most importantly our shareholders.

At this point, I'll turn the call over to Lampkin for a more detailed discussion of the market and our operations during the quarter.

Lampkin Butts

Thank you, Joe, and good morning everyone. Overall market prices for poultry products were higher during the quarter when compared to our third quarter last year. The Georgia Dock whole bird price during our third quarter averaged $1.11 per pound compared to $1.05 per pound average during last year's third quarter.

The Georgia Dock price for this week is $1.1275 per pound, which compares to [$1.0650] per pound for the same week last year. The Georgia Dock price continues to reflect good demand for chicken in retail grocery stores.

Bulk leg quarter prices were down slightly for the quarter compared to last year's third quarter, decreasing 3.7%. This deal reflects relatively good export demand. Through the first half of the calendar year, overall industry exports of chicken products were up 1.2% compared to the same period last year and were down 3.6% in value.

Quoted bulk leg quarter prices averaged $0.4927 per pound during our third quarter of this year compared to $0.5114 per pound during last year's third quarter. Urner Barry bulk leg quarters are currently quoted at $0.44 per pound.

Let me mention a thing or two about Russia; we do not expect the recent ban by Russia of United States chicken imports to materially affect our company. Unlike in 2000, previous bans by Russia, the Russian market accounts for less than 7% of the industry's total export markets. And we believe the industry and our company can find alternative markets for product otherwise sold to rest of the customers. That is especially true now and at a time when chicken is enjoying good demand worldwide and the inventory of frozen leg quarters is near an all-time low.

We expect dark meat prices to soften a bit until alternate markets have found that worldwide demand for chicken is good.

While below last year's third quarter, prices for Jumbo wings improved during our third quarter. Jumbo wings averaged $1.14 per pound, down 10.9% from the average of $1.28 during last year's third quarter. Urner Barry closed currently $1.34 per pound.

Boneless breast prices were higher during the third quarter, increasing about 2% when compared to the third quarter a year ago. This year's third quarter average Urner Barry price of $1.98 per pound compares to an average of $1.94 during last year's third quarter.

Today, the Urner Barry quoted market for boneless breast is $1.87 per pound. The overall result of these market price changes was a slight increase of less than $0.01 per pound in our average sales price per pound of poultry product sold when compared to last year's third quarter. While our average sales price for poultry products increased slightly, we also enjoyed [$4.03] (ph) per pound advantage from lower grain prices.

Our average feed cost per pound processed during the third quarter was $36.01 per pound down from $40.05 per pound during last year's third quarter.

We sold 780.6 million pounds of poultry during our third fiscal quarter, a 1.3% increase from the 770.8 million pounds sold during last year's third quarter. We processed 770.4 million pounds of breast poultry during the quarter, down 1.2% from the 779.9 million pounds we processed during last year's third quarter.

Processed pounds were lower during the quarter compared to last year, and we're approximately 44.7 million below our previous estimate, as we processed fewer hens than expected during the quarter and our lab weights were lower than expected.

For the first nine months of the year, we sold 2.27 billion pounds of poultry products compared to 2.21 billion for the same period last year and processed 2.26 billion pounds this year compared to 2.22 billion last year.

We expect pound processed during our fourth fiscal quarter to be approximately 806 million pounds, down compared to the same quarter last year by 2.2%. We now expect to process 3.07 billion pounds this year, an increase of approximately 1% compared to 3.04 billion pounds processed during fiscal 2013.

We sold 21.7 million pounds of prepared chicken products at our foods division during the quarter, up from 13.4 million pounds last year. Our average sales price at foods increased 5.5%.

Profitability of foods has improved, and we'll benefit during the fourth quarter from higher volume than a year ago, but our raw material price will affect higher chicken costs.

At this point, I'll turn the call over to Mike.

Mike Cockrell

Thank you, Lampkin. Net sales for the quarter totaled $768.4 million, and that's up 3.98% from $739 million during the same quarter last year. The increase was the result of slightly higher poultry sales volume, substantially higher food sales volume, a slight increase in our average sales price for poultry products and higher food sales prices.

Our cost of sales for the three months ended July 31, 2014 as compared to the same three months a year ago increased less than 1%. Our lower feed costs were offset by the slight increase in pounds of poultry products sold in the third quarter this year compared to last year.

Feed cost and flocks processed decreased $4.04 per pound compared to last year's third quarter, and feed cost accounted for 49.5% of our cost to poultry products sold during the quarter. By comparison, feed cost accounted from 54.5% of our cost of poultry sold in last year's third quarter.

SG&A expenses from third fiscal quarter of 2014 were $45.7 million, and that compares to 29.5 million for the same quarter last year. Year-to-date, SG&A expenses included $11 million approved for an ESOP contribution and that compares to $5.5 million accrued through the first nine months in last year.

We expect to accrue approximately 4.1 million additional dollars for the ESOP during our fourth fiscal quarter. And I want to spend a minute to remind everyone about the bonus award program that the company has, the details of which can be found in the company's current report on a Form 8-K dated February 13, 2014. It benefits the most all of our salaried employees of the company, and they can earn up to 25% of their salary as a bonus if the earnings per share targets set out in the program are reached, and certain managers can earn actually a slightly higher percentage.

The plant's maximum award of 25% of salary will be earned if the top EPS target of $6.87 per share is reached. All earnings per share targets are calculated net of any bonus award program. If the top target is met, the bonus award program will cost approximately $23.6 million. Approximately $9 million of that will be booked as SG&A expenses, and approximately 14.6 million will be booked to cost of goods sold.

We are currently on track to earn the top bonus, so we begin accruing for that eventuality during the third fiscal quarter. SG&A expenses for the quarter include a $5.9 million accrual for a possible payout under the bonus reward program and our cost of goods sold includes a $9.6 million accrual for the program.

Accruals during our fourth fiscal quarter will be materially lower than during our third quarter because GAAP requires us to accrue approximately two thirds of the total to catch up on that accrual during the third quarter.

If we remain on target to earn the full award, cost of goods sold will include a $5 million accrual during Q4 versus the $9.6 million accrued in Q3, and SG&A expenses will include a $3 million accrual versus the 5.9 million accrued in Q3.

The company's effective tax rate for the quarter was 34% and for the balance of the year, we expect the rate to be 34.3%. At the end of our fiscal quarter, our balance sheet reflects the stockholders equity of $822.6 million and net working capital of $329.3 million.

Our current ratio was 2.8 to 1. Total debt was $20 million and our debt to cap ratio was 2.4% at July 31. We spent $113.4 million on CapEx during the third quarter, which includes $57 million in Palestine. We now have approved approximately $178 million for CapEx for the full year, of which 109.7 million is approved for the Palestine complex.

Our depreciation was $46.6 million year-to-date and we now expect just over $62 million for the year. We also declared 13.8 million in dividends in the first three quarters of the year, and in July, we paid $9.7 million to terminate an aircraft capital lease early, and we were able to remove that obligation from the balance sheet. As of today, only approximately 13.8 million in letters of credit are outstanding on our $600 million committed revolver.

Before opening up the calls for questions, I'd like to remind everyone that the company will host an investor conference in New Orleans at the Hotel Monteleone, on Thursday morning, October 16, 2014. We'll host dinner at the Acme Oyster House the night before on Wednesday night, October 15th, and then the conference will start at 7:30 on Thursday morning, and we promise to have everybody out by noon on Thursday.

We hope many of you'll join us in from New Orleans and the registration information is posted on the Investor Relations page of our Web site. And that concludes our prepared remarks this morning and you can now open up the call for questions.

Question-and-Answer Session

Operator

Certainly. (Operator Instructions) We'll take our first question from Michael Piken with Cleveland Research.

Michael Piken - Cleveland Research

Yes. Hi, good morning. Just a couple questions on your outlook; as we think about next quarter, I guess, would it be fair to assume that the feed costs are going to be potentially lower? You're going to have lower ESOP contributions. And obviously nobody knows where pricing is going to be, but your volumes should recover. So I guess as we think about the sequential pattern of 3Q to 4Q, would it be fair to assume that 4Q may be stronger than 3Q? Thanks.

Joe Sanderson

We believe -- I don't have a forecast in front of me, but we believe that we're going to have more volume in the fourth quarter. We believe feed cost will be lower, and I certainly believe we'll have an opportunity not knowing the market, the grains not in the bin, but this has been a perfect growing year. I have never seen one like this. I have never seen it cool and wet and it's not over, but it's almost over. And I think our company is going to have an opportunity to post very strong fourth quarter if we do our job.

Michael Piken - Cleveland Research

Okay, great. And just flipping over to the feed costs a little bit more, at least in 3Q your cost for soybean meal came in a little bit higher than what I had modeled. Was that due primarily to basis? And it sounds like you have that hedged at least through the harvest period. Would that be a fair way to assess that? Thanks.

Joe Sanderson

Our basis in June, July, August, September is very high on meal, soy meal. I hope we have not bought anything past September. The Board has just gone crazy in August-September, we're looking for some relief in October, but our meal basis and board for those four months was high. We were banned on the market, we didn't forward-buy any of it, but it was high.

Michael Piken - Cleveland Research

Okay, great. And then finally, the last question, I guess, there has been a lot of talk about expansion and when the industry may start to see an increase in the pullets. What is your expectation for your fiscal 2015 in terms of how much the industry is going to grow on total percentage of pounds, and how much of that would be coming from weights versus number of birds? Thanks.

Joe Sanderson

We talked with our breeder yesterday, and as I've said in May they still expect 2% to 3% increase. They don't see any more than that, and I agree with that. If you look at -- as a result of the product placements that would take -- if you utilize the hens, the hen numbers -- from project that to hen numbers from pullet placements; that will take you to a flock of about 61 million …

Mike Cockrell

Pullet placements.

Joe Sanderson

Yes, and if there is normal utilization of that hen flock from those pullets, you'd be running 205 million, 206 million eggs. However, if you push those hens like they're doing right now and hold them over to older ages you could get 210 million eggs out of them. So it depends on what the pricing environment is and what the margins are like. If they hold the hens over, you could get up to 210 million eggs, 211 million eggs. As the margins are normal margins, you might not see that. You might see 206, 207 million eggs. But I don't think you're going to see a jump in pullet placements of more than 2% to 3%.

Operator

We'll take our next question from Farha Aslam from Stephens.

Farha Aslam - Stephens

Hi, good morning.

Joe Sanderson

Good morning.

Farha Aslam - Stephens

Just a little bit more detail on the volume in the quarter and it's about 5.5% short of your previous expectations. Could you just break down that shortfall? How much was it related to the hatch issue and how much was it due to birds not gaining weight as much as anticipated?

Joe Sanderson

It was 75% of them were headcounts at least -- I don't have that broken out but it was primarily hatchability. It was worst than we thought it was going to be. It didn't recover as fast as we thought it was. We had -- I guess on the conference call in May we had two of eight divisions at 85%. When I was home in July, we were one. Now, we have three, and they're all coming back now. We're up 2% in corporate hatch from where we were, but in July we were a percent lower than in May. And most of it was headcount. We never did get them to nine pounds as soon as we got to summer time. And right now they're lighter than they were in July.

Mike Cockrell

Two thirds, one third.

Joe Sanderson

Two thirds headcount, one third weight, and that's based off a nine pound bird.

Mike Cockrell

Right. Well, from what we -- that's based on what we targeted in May.

Joe Sanderson

Yes. We won't get to a nine pound bird until October.

Farha Aslam - Stephens

It sounds it's not the weight issue, was it just a factor of weather or just some optimal level.

Joe Sanderson

It's just summer time in the south. Go ahead, I'm sorry.

Farha Aslam - Stephens

Okay. Sure. Just continuing on the hatch issue, what percentage of the industry is using this particular rooster, and how much do you think this is impacting industry supply? And do you think this is going to be an issue that is solved by the start of the year, in that timeframe?

Joe Sanderson

Yes. It's just like in our company; three of our divisions are managed in this male well, and there are other people out there that are managing this male well. But it is -- and there are other males out there that if you overfeed them, they do the same thing. They don't -- they cannot perform -- they cannot mate. This male is more difficult to care for and to manage, but there is another male out there that has the same situation, very difficult to manage, if you overfeed him a little bit, they're done.

This is not the only male that's difficult to manage. But this male represents about 25% to 28% of the industry right now. The new male is going to be -- we're replacing it where this is going to represent a higher percentage. I believe we actually have this new male; I had told some people when I was in New York a couple or three weeks ago, it was going to be September before we had it. In Mississippi -- we actually got it in Mississippi the last week of July, but we had the new male on the ground everywhere. And our breeder supplier was able to come up with it a month and a half early for us, and it's just going to be a much more forgiving and a little bit easier to raise bird.

Farha Aslam - Stephens

And so how much do you think this male issue has impacted industry production for 2014?

Joe Sanderson

Well, the hatch is off about 2% and this male represents 25% of the industry. So that's a half a percent production, so it's not that bigger deal.

Farha Aslam - Stephens

Okay. And then --

Joe Sanderson

The rest of the industry is off a little bit because they're holding hens longer, and so the rest of the industry is a percent because of the productivity of the males and the females because they're holding them longer.

Farha Aslam - Stephens

Okay. So you'd say about 1.5% production impact for the industry because of this older flock, and then 0.5% due to this restoration.

Joe Sanderson

Yes.

Farha Aslam - Stephens

So, going into next year, into 2015, how is -- will this 0.5% rooster issue be solved for the entire industry?

Joe Sanderson

Yes.

Farha Aslam - Stephens

Okay, and then how about the older flock issue?

Joe Sanderson

Well, I think that depends on the margins if -- well, I've said a while ago if people -- the breeder flock we're going to see, if they use them like they always do like we will do, and they sell them at 64, 65 days weeks of age, then I think their hatchability will be restored. But if they try to hold them longer -- its pullet placements are up 2% to 3%. They probably don't need to hold them as long. So I think their hatchability will be restored. And so, I don't think you will have a problem with hatch anymore.

Farha Aslam - Stephens

Okay. And then, my final question is for Sanderson Farms specific. In your fiscal 2015 year, what volume are you expecting in terms of pounds processed?

Joe Sanderson

It is right there. For 2015, 3.4 billion pounds -- 3.357

Farha Aslam - Stephens

Great. Thank you very much.

Joe Sanderson

Thank you.

Operator

We'll take our next question from Francesco Pellegrino with Sidoti & Company.

Francesco Pellegrino - Sidoti

Hey, guys. Thanks for taking for taking my question.

Joe Sanderson

You bet.

Francesco Pellegrino - Sidoti

Going forward, if a similar rooster infertility issue were to develop, what would you guys do differently? If something maybe like identifying the problem sooner, placing the rooster quicker, combination of the both, what do you guys basically learn from this process?

Joe Sanderson

Well, we did something that -- they were trying to do better. And they followed the instructions of the breeder and fed the rooster like the breeder recommended. What was wrong with that was I should have tested it. Every time we make a change, we test it. And they should have tested it on a couple of farms, see what happen, or they should have tested it in one division instead of changing it. I mean we were 85% hatching in every division. What they -- once you do it, you can't undo it. It's over and done, you can't undo it. You just got to work your way through and there is nothing to do. Once a rooster gets overweight, it's over and done. You cannot -- you are done for six months. And what we learned is not to do that again.

Francesco Pellegrino - Sidoti

Joe, you just elaborated that further testing should've been done on this male rooster; I believe it's the rock rooster. With that being said, is the company considering any litigation issues going forward against the supplier in terms of recuperating expenses?

Joe Sanderson

Absolutely not, it wasn't their fault, it was our fault. That is a great male they have. And Ross and Aviagen are great suppliers to us. They're the best there is and for the business we're in for trade-back and big bird deboning, they're at the very best. And they have been good for us ever since I have been here. They are the best. I switched them a long time ago. And what happened to that is we did that to our sales. And absolutely no, it had nothing to do with Ross. This is Sanderson Farms.

Francesco Pellegrino - Sidoti

So when you said that further testing should've been done, you are saying further testing should've been done internally at Sanderson?

Joe Sanderson

Yes, we should. If we want to change our feeding program, and to do we thought it would do better we should have done it on two farms and gone out and tried it on two farms, seeing what happens. And see what happened instead of doing it through the whole company that's what we do the every time we do. We tested before we -- we didn't do that.

Francesco Pellegrino - Sidoti

No, okay. Perfect. Thank you for the clarity. And the last thing I guess before I get back in the queue. Was the turnover that you're going to be having toward this new male rooster -- I know the you tend to amortize your breeder flock; I think it's over a nine-month period. What type of expenses are we looking for during the fourth quarter in terms of maybe some sort of impairment expense against the breeder, whether it's …

Joe Sanderson

None, zero. These new males will come into production. I've got a schedule. We're going to be using -- the males we have would just go out of production as they get 65 weeks old and the new males would come in as they get to be 25 weeks old. That will start in October, November, December and January. Mississippi and Kinston are the last ones and they go into production in January.

Francesco Pellegrino - Sidoti

All right, so no abnormal expenses in regard to the conversion to new breeder?

Joe Sanderson

No, no, none whatsoever.

Francesco Pellegrino - Sidoti

Okay, great. Thanks again, guys.

Joe Sanderson

You bet. Thank you.

Operator

We will go next to Ken Goldman from JPMorgan.

Ken Goldman - JPMorgan

Thanks for the question, and let me just say I am already salivating at the prospect of joining you at the Acme Oyster Bar. That place is fantastic.

Joe Sanderson

They don't forward to me. Welcome back. I am too.

Ken Goldman - JPMorgan

Thank you. A couple questions, and to build a little bit on some of the questions that were asked earlier including Farha's, Joe, I know you don't like to speculate, but I'm going to try anyway. If there were had been no genetic issues in the breeder flock, hypothetically no avian flu in Mexico, normal pullet flock -- or normal age, rather, what would your best guess be for how many eggs would be set these days? Because some of the numbers you threw out for next year, they just seem a little light given some of the margins we are seeing right now. Or maybe you are saying its 2% to 3% increased breeder flock versus meat production. I just want to make sure I understood those numbers and kind of see where you think things would have been in a more normal environment.

Joe Sanderson

Well, here is what I think -- here is my idea, the industry is setting 206 million eggs a day right now, and they're not going to let up. So when we're going to get to November and I think that's going to be too many chickens. And if you go back and look at last November/December, I think boneless breast went down to $1.36 pound or $1.33.

So if that happens my guess is we're going to get to January and they're going to see $1.33. Now I think everybody would be profitable, but then they're going to be profitable as they are right now. And so, I don't know that you are going to see 210 million eggs in January and to $1.33 boneless and let's say leg quarters are at 40 by then or 38 or whatever.

So I don't they are going to put the petal to the metal necessarily in January. And I don't know, I can't -- if we get PED virus again and beef is going to be high regardless, if PED virus starts spreading around again and we're at 206 million eggs, then you might see them pushing that breeder flock and that way I think you could get 210 million eggs starts showing up. But to do that, they really don't have to push that breeder flock. They don't have to hold them like they are doing right now.

We won't have to do that. We don't have the hens. We don't have the eggs and by that time we'll have our hatch bag and we are going to have plenty of eggs in our hatch and we won't have to do ours, but the industry will have to hold, I believe, will have to hold hens to get up to a big egg number.

Ken Goldman - JPMorgan

That makes sense. Let me just ask a follow-up if I can, which --

Joe Sanderson

You bet. You bet.

Ken Goldman – JPMorgan

Just having covered this industry for a little while now, what you're describing is a rational process. But what we are seeing over time is that even though a little bit of game theory here, the industry should be rational, sometimes certain players within the industry don't necessarily play nicely in the sandbox, right? They are trying to maximize short-term profit.

Joe Sanderson

Yes. I am not suggesting that. I think the industry if it could, would set more than that. But I think they're constrained yet by the breeder flock, from the primary breeders, the breeder flock and -- I wonder how much processing capacity is out there.

Ken Goldman - JPMorgan

Are the lenders still holding back or are the lenders -- I figured that was long gone by now.

Joe Sanderson

No, no, no. Who needs to borrow any money?

Ken Goldman - JPMorgan

Right. Well, I don't know how bad the balance sheets really were for some of your smaller competitors, but I assume they're all in good shape now.

Joe Sanderson

I know too, but I just don't know how much processing capacity is out there and there are three or four plants that are not running right now to match. At the peak in 2007 we were setting 220 million eggs and there are several plants that are closed today that were part of it 220 million eggs.

So, I am guessing processing capacity is maybe 210 million or 212 million eggs. I am guessing; I don't know that. I don't know what it is. But I just -- I think there are still some constraints in the primary breeders, and I am just telling what my primary breeder told me, and I think 2% to 3% is the number. There might be some more gains and lab weight from big bird deboning people.

Ken Goldman - JPMorgan

I will let it go there. Thanks everyone.

Joe Sanderson

You bet. Thank you.

Operator

We will go next to Brett Hundley.

Brett Hundley - BB&T

Joe, I think you bring up an interesting point on the processing capacity side because we understand that there are eggs available on the market right now. And honestly, the cut-out has hung in there better than I would've expected seasonally right now, especially over the past couple of weeks. And so -- I mean, it seems like there's processing capacity there. It also seems like there is demand there to the point you just made in talking about November forwarders. Does that give you any confidence that the cutout might hang in there better than expected this year or maybe relative to last year, or just in a vacuum that the cutout might hang in there better than expected this fall even if there are more eggs available?

Joe Sanderson

I think we are going to see a normal seasonal decline. I don't think it's going to fall off to table. We kind of think at post Labor Day, you are going to see a decline in boneless, but it's not going to crash, so to speak. I don't have a projection in front of me. I cannot spend a lot of time with those, but I think just like last year when you get to November, December, you don't have a similar circumstance. We're going to do our normal seasonal cutback for the holidays and two holidays in January. But a lot of it depends on what the port people do, they're going to expand or if they're going to have that virus.

Brett Hundley - BB&T

Okay. And then Lampkin, you might want to take this one. I just had a question on Mexico, and I don't know that there is a great answer here. But I'm just trying to understand, you have this sugar spat between Mexico and the US that we should get something on today. And behind the scenes, you have had these kind of anti-dumping duties on US chicken kind of waiting in the wings, so to speak. You also had this WTO decision where it looks like they're going to be rule in favor of Canada and Mexico again related to [amcol] here. What's the potential or the worry that Mexico comes back on US chicken in any form? How do you discount that, or how do you prepare for that?

Lampkin Butts

Well, you are exactly right. All this stuff is hanging out there and it's like the Russian market that we lost two weeks ago. Sometimes things happen like that overnight in these export arenas. That dumping duty in Mexico was imposed as a long time over a year, and just never reached the level of causing any interruptions or any problems. We set a lot of products to them. We have a lot of communications with our partners down there and we are not -- anything can happen, but we are not hearing anything that gives us a lot powerful alarm right now, not about Mexico.

Brett Hundley - BB&T

Okay. Just one other question for you, Mike, just wanted to talk about management of the balance sheet. You guys are going to have a lot of cash next year. Even when I look at my model and I build in the potential for you guys to spend some money in North Carolina -- call me crazy, but I think that might be on the radar. Even after accruing for that, you could potentially have up to $6 a share plus in cash after 2015. So can you talk about ways that you think about returning cash to shareholders or applying cash to other areas? Again, even after potentially building another plant somewhere?

Mike Cockrell

Yes, you are right. I think as we talked before and we looked at a new plan. We always want to model, let's say, it's the best way to get our shareholder more value about the stock back at whatever price it is or spend that money and produce 15% to 16% more pounds for the next 50 years in leverage on margin on those pounds and getting away these products not solved today, but still is at a point where it just makes more sense to keep investing back in the company.

Yes, everybody in the world knows that we won a second plan in North Carolina and we are working very diligently to finish our due diligence on that, so we can do that. The thing is that's not going to be our last plan. Maybe it means if our cash position is as you described that maybe we have to build it more quickly than we have in the past, but we are certainly going to continue to grow the company. We got a 30% more capacity right now on the growing border between Palestine and North Carolina and we will add to that. That's not going to be our last quote.

Brett Hundley - BB&T

Okay. I appreciate those comments. Thanks guys.

Joe Sanderson

You bet.

Operator

We will go next to Adam Samuelson from Goldman Sachs.

Adam Samuelson - Goldman Sachs

A lot of ground has been covered today. But Joe, I think in the past you've talked about earnings next year being down. And I want to revisit that notion in light of some of the comments you've made on the volume growth you're expecting in 2015, the feed cost tailwinds that you'd get if commodity prices stay near where they are today. And if you think that the Company, in light of those factors, could actually grow earnings next year despite a little bit higher chicken supply.

Joe Sanderson

It's just hard for me to imagine, if we do what we think we are going to do in the fourth quarter. And I have just never done two in a row like that. I don't know, I have seen the projections and if this is unique if we get to this grain, if this -- and we get to tailwind from grain and beef and pork, I guess you can, it's building my career. I have never heard back-to-back $9.50 of share; do you know what I am saying? I have just never been there before. We would love to do that and be good for our shareholders and it can come in a different way, I guess, 2005 was not quite as good as '04, but it was a good year. But I just never have seen it, but we may have an opportunity to do it.

Adam Samuelson - Goldman Sachs

Okay. I appreciate that color. And then just a quick follow-up; on the -- and given the production shortfall that you had this quarter, drawn down inventories pretty meaningfully. Do you think that the ending inventories where they are now is going to be a new normal, or do you think you can get your inventories back to more historical levels by the end of the calendar year when you get to the seasonally slower period?

Mike Cockrell

Yes. The inventory was down and we did sell out our inventory during the quarter.

Joe Sanderson

That's down on both.

Mike Cockrell

Yes. But that was because we invoiced, Joe just said that's because of both, and it is true, we invoiced some export product right at the end of the quarter and we -- at the end of October, our sales guys, they try to get it sold …

Joe Sanderson

It just depends on when both shipped, though, they could ship the last week of October, for me, it's the first week of November. You never know when that happens.

Mike Cockrell

Just don't know.

Adam Samuelson - Goldman Sachs

Okay.

Joe Sanderson

I appreciate that makes it difficult …

Mike Cockrell

Your live inventory will be down little bit.

Joe Sanderson

It will, because our …

Mike Cockrell

Your live inventory will be down because of your -- how they could, but you don't know about your processed inventory because of …

Adam Samuelson - Goldman Sachs

Okay. That's helpful. And then just one last follow-up from me; other production costs ex-feed, ex-incentive comp, which obviously is a big number in the COGS build-up. But it's up a little bit year-on-year, how should we be thinking about that in '15 given the start of the Palestine?

Joe Sanderson

It's going to go up a penny. If you look back at last plant we built, our non-feed cost of goods sold went up a little over a penny until we got that plant running forward, and I suspect we'll have the same impact next year.

Adam Samuelson - Goldman Sachs

And it can actually go down in 2016 once Palestine is up and running? Does it mean they are on North Carolina?

Joe Sanderson

I was just about to say if there is not another plant coming on.

Adam Samuelson - Goldman Sachs

Okay, perfect. That's very helpful. Thanks very much, guys.

Joe Sanderson

Thank you.

Operator

We'll take our next question from Akshay Jagdale from KeyBanc Capital Markets.

Lubi Kutua - KeyBanc Capital Markets

Hi, good morning. This is actually Lubi on for Akshay. How are you?

Joe Sanderson

Good. Good morning.

Lubi Kutua - KeyBanc Capital Markets

Good morning. I was just curious to get their thoughts on demand as we look towards 2015, so obviously demand has been really strong this year and even last year, I'm just wondering if you have any reason to believe that demand might weaken somewhat in 2015 or just how sustainable you think these strong levels for demand are?

Mike Cockrell

It depends on the supply and price of pork. To me, I think the demand is going to be there. I hope it improves with food service. We've gotten tremendous prices last two years out of boneless breast and chicken tenders, frankly. And we don't really compete with pork at food service. And we've got good prices this year without any features. Last year, if you recall, it was features in food service; mainly quick serve. So I feel pretty good about the demand side, but we think retail will continue to be good and what we really want is people start going out to eat a little more, the corn meal will improve another notch and labor participation rates improve and wages improve, which we hope that to start inching up little bit. Food service demand should improve a little bit. So I'm optimistic about demand.

Lubi Kutua - KeyBanc Capital Markets

Thank you. Mike, I think you mentioned that for 2015 you are thinking of a pounds-processed number somewhere in the region of about 3.4 billion. Can you comment on how much of that is sort of incremental from the new plant in Palestine? And then also if you could update us maybe on your thoughts about the additional plant in North Carolina that you guys have mentioned in the past, if those plants have changed at all or maybe potential timing or something like that. Thanks.

Mike Cockrell

To answer your first question, as I've said, 3.357 billion pounds in fiscal 2015, 134 million of those pounds would come from Palestine. We're not modeling any pounds in Q1 even though you'll start to plan, it won't be anything material. And then in Q2, 23 million pounds out of that plant; and Q3, 39 million, excuse me, 38 million pounds and 72 million pounds in the fourth quarter. So, you see how that ramps up for 133 million - 134 million pounds for the year.

To break that out by quarter, in Q1, 742 million; in Q2, 829 million; Q3 882; and then in the fourth quarter of fiscal 2015 we're modeling 904 million. That could change. We'll do this every quarter. Between now and then a lot happens, whether as we saw this quarter. So, as Joe would say that's not the work the paper is written on, but that's what we got right now.

And then as far as the next plant in North Carolina, we hadn't said anything about a timetable for there yet. We're still doing our due diligence, and we have some more work to do there, but after we finish our due diligence, our board will consider it.

Lubi Kutua - KeyBanc Capital Markets

Okay. That was very helpful. Thank you very much.

Mike Cockrell

Thank you.

Operator

We'll go next to Andrew O'Conor from Bank of Montreal.

Andrew O'Conor - Bank of Montreal

Good morning, guys. Thanks for taking my question.

Joe Sanderson

You bet.

Andrew O'Conor - Bank of Montreal

Joe, for the project to date in Palestine, Texas, is the construction cost above or below plan? And how do you guys see total costs shaping up through project completion? Thanks.

Joe Sanderson

That's right on the money. We have a contract that says what it is going to cost, and it doesn't vary from that that contract.

Andrew O'Conor - Bank of Montreal

Okay. And then can you remind me what economic return do you expect on the new facility? In terms of payback of initial capital expenditure spend or internal rate of return or some other metric, that would be helpful. Thanks.

Joe Sanderson

It ought to be north of 11% return on invested capital. That's big bird deboning facility. And it ought to be better than 11%.

Andrew O'Conor - Bank of Montreal

All right, guys, good luck. Thank you.

Joe Sanderson

Thank you very much.

Mike Cockrell

Thank you.

Operator

We'll go next to Ken Zaslow from Bank of Montreal.

Ken Zaslow - Bank of Montreal

Thank you. Good morning to everyone.

Mike Cockrell

Good morning.

Ken Zaslow - Bank of Montreal

So just a couple of questions, a couple of clean-up questions, you threw around a lot of numbers. I just want to make sure what is the actual production expected for the fourth quarter?

Mike Cockrell

For us …

Ken Zaslow - Bank of Montreal

Yes.

Mike Cockrell

In the fourth quarter of fiscal 2014, we expect to process 806 million pounds.

Ken Zaslow - Bank of Montreal

That's still about 30 million pounds less than you expected last quarter?

Mike Cockrell

That's correct. During August, we have run fewer hens than we originally projected, and our weights are off. As Joe said in his prepared remarks we're now this week -- we're running back full in terms of feed, but our lab weights are still not up to target, but they should be by October.

Joe Sanderson

As it cools off, I mean we were 100 degrees this weekend in Texas and Mississippi.

Ken Zaslow - Bank of Montreal

Okay. I just wanted to make sure I -- okay. The same question I had is how did you guys get bonuses from Agri Stats if you guys were so shortfall on your production side? I would've thought that would've had an impact on your ability to actually get bonuses.

Joe Sanderson

We get bonuses two ways; earnings per share is one, and Agri Stats, we get bonus if we rank in the top 10% of chickens processed, margin per head, top 20% or top 30% of margin per head. First six months of the year, we were in the top 10% of chickens processed. When we started accruing, we dropped down to probably the top 20%. We don't know what we did in July. We hadn't gotten our results yet.

Ken Zaslow - Bank of Montreal

Is that possible you might fall out of that for the full year …

Joe Sanderson

We could, by our margin per head doesn't count for pounds.

Ken Zaslow - Bank of Montreal

Okay, I see, all right. I'd have thought -- okay, I thought it would have more of a direct impact. Okay. Then …

Joe Sanderson

Earnings per share does count for pounds; margin per head …

Ken Zaslow - Bank of Montreal

We're well over that. I don't think the earnings per share is going to be an issue.

Joe Sanderson

That's correct.

Ken Zaslow - Bank of Montreal

Let's call a spade a spade, right, that's not going to be an issue.

Joe Sanderson

That's correct.

Ken Zaslow - Bank of Montreal

Okay.

Joe Sanderson

But that does count pounds.

Ken Zaslow - Bank of Montreal

Right, fair enough. How much -- if we were to take out the increase in production, how much would feed be the year-over-year on a like-for-like basis?

Joe Sanderson

Yes. Hold on just a second, I've got that number for you. If you neutralize the volume, compared to '14 is $189 million.

Ken Zaslow - Bank of Montreal

Okay. So …

Joe Sanderson

We'll stay at the 189 million based on yesterday's close. That's $0.038 a pound

Ken Zaslow - Bank of Montreal

Right. So, in order for you to break even, obviously you would have to have $0.038 less pricing on that whole bird the whole year?

Joe Sanderson

Yes.

Ken Zaslow - Bank of Montreal

And -- I guess I'm trying to go back -- I forgot to ask the question, but year-over-year, it seems like on a year-over-year basis your margin structure should be relatively neutral to maybe slightly down, and then on top of that you'll have a new production facility which should add EPS growth. So --

Joe Sanderson

Well, it won't add the first year. That would be making a mess up there for the first year.

Ken Zaslow - Bank of Montreal

Okay, that's fair enough. Okay.

Joe Sanderson

I wish they'd be neutral in the first year, but they would be running a $0.35 plan cost up there for maybe the first six months. They don't have any volume going through it. They'll be running their full depreciation in the first day they process chicken.

Ken Zaslow - Bank of Montreal

Okay. Fair enough, that's actually very helpful. And when you said production would be up 2% to 3% for next year that's your best guess? Could you tell me about the skew between the first half and the second year of cap? Would you expect 1% in the first half and then 6% in the back -- or I guess it would be 5% in the back half. Is that the way you think about it? So by the time you're exiting the 2015, you would kind of be at a 5% production level, or is that too high?

Joe Sanderson

I don't think 5%. I don't think 5%. I don't.

Ken Zaslow - Bank of Montreal

Okay. You don't think you would be even running that high.

Joe Sanderson

No. If you'd add 5% to the 206 million eggs we're doing right now, that would be 216 million eggs minimum, 217 million eggs. And I don't believe that -- I don't think that's in the card.

Mike Cockrell

I don't either. And Ken, if you go back and look at egg sets in January or February, March and April of last year, they were 199, 200, 201, 199, 199, 201, 202. So the industry today has the capacity to set 206 to 205, and they said everything they can; 206 versus 200, you're already 3% above a year ago even to start the year.

So you don't need 5% to 6% in the second half to get to that number Joe said he thinks we're going to see. And I agree with Joe. I don't think you're going to see 5% in the back half; 5% on top of 206, which is what we've seen here in the back half, that's 216. I don't think you get there.

Joe Sanderson

What do we have last November and December?

Mike Cockrell

Last November 202.

Joe Sanderson

We saw 202 million last November. That took boneless breast down to $1.33, so you don't get 206 this November and December.

Mike Cockrell

And I'm saying it's going.

Ken Zaslow - Bank of Montreal

So, let me ask a different question. What situation would you guys actually end up losing money in 2016, and if you can't increase production more than 4%-5%?

Joe Sanderson

I don't think we're going to lose money.

Ken Zaslow - Bank of Montreal

Because I've asked you the question, like is there anything different about this cycle than other cycles, and you said pretty much no. I was like …

Joe Sanderson

I don't … I think people are just constrained a little bit. I just don't think they can blow the roof off the building right now.

Ken Zaslow - Bank of Montreal

But every cycle ends with a loss, right …

Joe Sanderson

Eventually, yes. Eventually -- I can't say yet. We're getting cover from beef and pork right now. And I know pork is crashed the last two weeks, but I don't think that's going to last either.

Ken Zaslow - Bank of Montreal

Okay. Fair enough. I just think that, again, it seems like the production cycle -- you can't increase production, you have lower corn prices and you have high cost …

Joe Sanderson

I agree with that 100%. I don't …

Ken Zaslow - Bank of Montreal

Perfect, thank you very much.

Joe Sanderson

Thank you, Ken.

Operator

We'll take our next question from Jeremy Scott from CLSA.

Jeremy Scott - CLSA

Hey, good morning, guys.

Joe Sanderson

Good morning Jeremy.

Jeremy Scott - CLSA

Just on -- I think most of the questions have been already asked. But on the marketing spend; I noticed a big uptick in the quarter. Should we view this as revving up over the long-term campaign similar to what you did when you had the good margin streak in 2004, 2006? I think at the time you did about 1% of sales over the course of those three years. So if you could help us with a run rate spend from marketing in 2015?

Joe Sanderson

Well, yes, we'll probably do a budget and we'll amortize it over the years instead of, like, we're doing it right here. We decided to do this -- when did we make decisions to do -- July 4 is …

Mike Cockrell

We ran in Christmas …

Joe Sanderson

And then we decided to do it …

Mike Cockrell

And then we decided to do it July the 4th. We got a good response to our Christmas commercial, and so we decided to go back and we're going to continue our marketing, but we'll do it differently, we'll budget it for the year and we'll amortize it on a monthly basis. So it won't hit big numbers in the quarter. That's why we used to do it. That's why we'll start doing it. And it will be evenly spread out over the year.

Jeremy Scott - CLSA

Okay. But in terms of the magnitude, do you expect it to be somewhere near where 2004, 2006 where it was 1% of sales, or is it high?

Joe Sanderson

Yes. I hadn't thought about sales. No, it won't be 1%. What is 1% of sales?

Mike Cockrell

30 million?

Joe Sanderson

No, it won't be that; half of that.

Jeremy Scott - CLSA

Half of that; okay, and I don't know if you have a read on what you might expect for startup and training expense for the new plant. I'm just trying to get a read on what the baseline SG&A number is next year before ESOP bonus considerations.

Joe Sanderson

It will just be in the first quarter, then, it all goes as planned.

Mike Cockrell

Yes, the training expenses -- the start up expense will go away. The start up expense you see in the 3.5 million in the first nine months, we have another 5 million to spend before the plant begins operations in January. And then all of that would go back to cost of good sold. So you can take that out of your model for next year, until and if we announced a new plan and then you'll have obviously start up expenses in connection with that, but there is nothing announced there. So you could take that out.

And then we of course talked about how we do bonus and ESOP; during the first two quarters nothing, maybe if we're very profitable then you'll start considering that in the third and fourth quarter of '15 if you're modeling that far out.

Joe Sanderson

Your bonus and ESOP is going to be based off …

Mike Cockrell

Higher numbers.

Joe Sanderson

A higher number; it's based on 20% on average equity.

Mike Cockrell

Yes, your bonus coverage will be much higher for fiscal 2015.

Joe Sanderson

Training expenses are going to continue, Jeremy, keep modeling what we're doing there, because we always have 125 trainees in the company.

Mike Cockrell

Yes. I don't know when that next plant, North Carolina is going to open, but we're going to have our next plant. So we're going to keep training for that.

Jeremy Scott - CLSA

Got it, thank you.

Joe Sanderson

Thank you.

Operator

As I do not see that there is anyone else waiting to ask the question, I'd like to turn the call back over to Mr. Sanderson for closing comments, please go ahead, sir.

Joe Sanderson

Good. We look forward to seeing everyone in New Orleans in October, and look forward to reporting our year end results in December. Thank you.

Operator

This does conclude today's conference. We thank you for your participation.

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