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Insights from the Calls
Interesting tidbits from MO, KMB, TXN, GIS, and LANC’s conference calls
Our focus is on earnings quality analysis. However, our way of doing that goes far beyond tracking trends in accruals and looking at various ratios by themselves. Thorough earnings quality analysis always involves comparing the numbers to management’s narrative. As a result, we pour through a ton of conference call transcripts over the course of the quarter.
As part of our content for free subscribers, we plan to regularly share some of the more interesting tidbits from recent conference calls that may give investors useful insights into what is actually happening on the ground. The focus will not be on passing along company-specific information as much as highlighting comments that identify macro factors, industry developments, and accounting-related items which will impact multiple companies. Conference calls are a great source of insight not only into company-specific factors but also into macroeconomic trends and industry developments. While management’s prepared remarks are sometimes helpful, it’s the question-and-answer portion of the call where the most interesting information tends to bubble to the surface. Below are comments covering topics including rising discount rates driving impairments, benefits from filling backlog, disinflation, the changing promotional environment, and inventory destocking.
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Snippet 1- Altria (MO) explaining discount rates and impairments
When companies review valuations and impairment potential for various assets they forecast future cash flows and use an appropriate discount rate. When discount rates fall, valuations rise and when the discount rates rise, valuations fall – all other factors being roughly the same. Altria was asked about why it still took another write-down for its JUUL assets in 4Q22. One of the reasons given was about as simple as it gets and many people may forget this key point:
Jennifer Maloney of the WSJ
“My first question is about your JUUL valuation. I saw that you lowered the value of your stake to a price that values JUUL at $714 million. I wondered if you could explain the reasoning behind that valuation decrease. I was a little surprised because in the fourth quarter, JUUL resolved a large part of the litigation that it faced, which eliminated some of the uncertainty around the company. So, could you explain that valuation?”
Sal Mancuso- Altria CFO
“Yes, macro market conditions, inflation, discount rates, things like interest rates, consumer dynamics, all of that goes into the analysis.”
Billy Gifford- Altria CEO
“You’ll note, Jennifer, when you build a discount rate, it starts with a risk-free rate. So certainly, the interest rate increases we’ve seen through time are going to continue to impact it as long as they’re still on an upward trajectory.”
As the FED raised rates again after this conference call and is guiding to more, we believe people should continue to focus on assets such as Goodwill, Trademarks, and Brandnames as areas that will continue to be subjected to higher discount rates. We have discussed in detail how this impacts specific companies in previous reports including The Goodwill Boomerang.
Snippet 2- some commodities are reversing
A key trend to watch playing out in 2023 is retailers pushing back on consumer products companies raising prices. Companies have been able to get away with dramatic price increases by pointing to higher costs. Pushing through recent price increase will likley become more difficult as it becomes clear that costs are no longer rising. Invesors should be paying attention to quotes like these from Kimberly-Clark’s fourth-quarter call:
Mike Hsu- KMB CEO
“Recently, market prices of some inputs have begun to ease, although they remain elevated relative to pre-pandemic levels. While we’re encouraged by this, it will take time for these benefits to work through our contracts and flow through the P&L.”
“Overall, the fiber market prices have plateaued in Q3, and they actually began to turn slightly in Q4. And to your question as to do we take RISI as a reference, yes, we take it as a reference. And just reiterating where we’re at today, prices have more or less remained largely in line with where we in Q3 and what we’re projecting into this year is that on average, eucalyptus, as an example, would be down 10% for the full year. Now same goes for fluff, and NBSK and some of the other components of the whole fiber complex. We would see prices begin to ease throughout 2023.”
Snippet 3- Promotional conditions are normalizing
We explored in detail in our recent report Coupons Are Clipping Back how companies enjoyed lower promotional and advertising spending during Covid but that trend has now reversed. The report featured many recent quotes from consumer products companies on expecting higher costs. Here’s another from KMB’s fourth-quarter call:
Mike Hsu- KMB CEO
“In terms of the pricing environment, I would say the promotion environment right now remains competitive. But I would say overall constructive, given the cost environment, we’ve seen kind of, obviously the broad pricing actions from most manufacturers across categories.
Promotion frequency has returned to normal levels, both in tissue and personal care. And that, that happened, a while back. I would say the depth of promotion remains a bit shallower than historical. And I think that’s related to the cost environment. However, on the consumer side, we can certainly, our, my comments on elasticity and the essential nature of our categories, notwithstanding, I do sense the consumers under pressure. And so, and we’re – we’ve been, out talking to our top customers, and so we recognize that the consumer is working through some challenges pocketbook wise.”
Snippet 3- China is normalizing after reopening in 3Q
It’s no secret China has reopened its economy to the world after its drastic Covid shutdowns. Here’s Texas Instruments (TXN) discussing the trends it saw impacting its fourth quarter:
“Hey, how’s it going? Thank you so much for taking the question. Dave, hoping you guys could talk a little bit about trends in China, what you saw in Q4, if there was any choppiness toward the end of the quarter, and more importantly, how you’re thinking about Q1 and beyond. I guess, there’s hope out there that China as an economy bounces back in 2023. Are you guys seeing any early signs of a recovery in terms of end consumption of your products?”
Dave Pahl- TXN CEO
“Yes, I’d say, some of the disruptions that we saw earlier in the year, we didn’t see any of that here in the fourth quarter. And so nothing exceptional to report with China as a region versus the other regions. And we long held the practice that we call it out if there’s something going on. So really nothing exceptional. And certainly, as that economy comes back and consumption increases in China, obviously helping the world GDP, but that would obviously help us as well. It was what we would expect.”
Snippet 4- working down backlog is helping manufacturing
We have discussed in a couple of past articles how we expected companies working down backlog from supply chain problems would help drive sales growth as these orders were filled for companies like National Instruments (NATI) and Texas Instruments (TXN). See It Cuts Both Ways and Supply Chain Constraints Show the Limits of Common Size Income Statements.
Below, Dan Florness, CEO of Fastenal (FAST) gives and excellent discussion of how this phenomene on benefitted FAST in the fourth quarter and how it may be benefitting companies in the industirals sector and the economy as a whole:
“I think a couple of things are going on. And again, put that in the category, this is from talking to a lot of people and this isn't from studying a lot of numbers. I think what's helping manufacturing is a really healthy backlog that existed through much of 2022. So let's just say you're a manufacturer and your backlog is 100 units and whatever that revenue is because, say, it's 100 units. And because of supply chain constraints, because of just demand in the marketplace from the last several years, maybe some deferred maintenance, whatever it might be, that backlog goes from 100 to 150. And then we get into the latter third of 2022. And let's say that backlog goes from 150 to 120. It's still a really good backlog.
And the question is, is the PMI reflecting the 120? Or is it reflecting the concern, the angst that comes with, well, the backlog went from 150 to 120? And is the PMI giving us a head fake or is the PMI really telling us what's going to happen? We honestly don't know. But to Holden's point, the activity we're seeing feels okay. But we are -- we, like everybody else, are a bit nervous about where things are going.”
On a related note, here are his comments on how FAST’s supply chain has freed up which could be foreshadowing of the benefit impact companies may see materialize as the year moves on:
“I'm pleased to say that our fourth quarter operating margin remained stable at 19.6% and our ability to generate cash. So we're looking at our cash conversion, it returned to historic levels. And that's really a sign of moderation and the level of inflation that we're seeing in the marketplace. But also a more stable supply chain and the ability to not need -- that for a double negative, not need to expand our stocking levels to ensure a reliable supply line for our customers.”
“I mean you go back 6, 9, 12 months ago and the availability of products in the marketplace was fairly sketchy. It's gotten much better.”
Snippet 5- Was there a retailer inventory destocking in 4Q?
We noticed some companies in the consumer products area hint at retailers taking down their inventories as evidenced by some consumer products companies posing slower sales growth than the growth of their products at the point of sale. Does this mean there will be a rebound in 1Q, are retailers holding off to push for better pricing as commodity costs come down, or are some companies using this as an excuse for poor sales growth? It’s too early to tell.
This was a subject covered in Lancaster Colony’s recent quarterly call:
David Ciesinski- LANC CEO
“Yes. So you're exactly right. If you look at the scanner consumption, it was in fact stronger than what we shipped in the period. Honestly, we can't necessarily speak to whether it was a deload or something else. But generally, we have been shipping to consumption. And it's just -- I would say, it's just a bit of a timing thing that's going on there. As we look in on the magnitude of the discontinuations on Retail alone that accounted for several points of growth as well in terms of shipments that are in the mix.”
General Mills (GIS) said something similar regarding its pet food business:
“While we continue to believe in the long-run growth opportunity for our Pet business, we experienced an unexpected headwind in Q2 in the form of inventory reductions at some key retailers.”
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