UNLYF - Hershey: Quality Market Leader With Sweet Prospects

Summary

• Despite macro headwinds and supply chain bottlenecks, Hershey delivered solid results.
• North America confectionery has room for growth on the back of increasing chocolate consumption per capita, and Hershey's has continuous strategic efforts to capture share.
• North America salty snacks are well positioned to capitalize on demand for no-sugar snacks as well as Hershey's extensive distribution networks and marketing budget.
• Hershey's International segment has ample room for growth, with the company proactively exploring opportunities in markets such as India.

Despite operating challenges posed by supply chain disruptions and macroeconomic headwinds, Hershey (HSY) reported solid results for FY 2022 with revenues up 16% YoY to $10.4 billion, partly driven by pricing actions (8%), volume increase (4%), and benefits from net acquisitions and divestitures largely driven by the acquisition of Dot's Pretzels and Lily's Sweets (4.3%). This was offset slightly by foreign currency impacts (-0.2%). Net profits were up 11% YoY to $1.6 million.

Looking forward, there are reasons to be optimistic about Hershey's prospects. Americans are snacking more than ever ( 45% of U.S. consumers state they often eat snacks instead of homemade meals at home, a 3% point increase compared to the 5-year average according to data from research firm IRI). The country's snacking lifestyle shows little signs of changing and with snacking being particularly popular among America's young Gen-Z generation, 77% of whom reportedly snack daily (a habit they may possibly carry well into their adult years), America's appetite for snacks could remain robust for the foreseeable future.

Dominant player in the U.S. chocolate candy market which still has room for further increase in chocolate consumption

Hershey's North America Confectionery segment, which covers the company's chocolate and non-chocolate confectionery in the United States and Canada, is Hershey's biggest and most profitable business segment with segment revenues of $8.5 billion (accounting for more than 80% of revenues), segment profits of $2.8 billion (accounting for 91% of segment profits), and margins of 33% (versus 15.5% for North America Salty Snacks and 12.6% for International).

The segment's prospects are promising. In Canada (Hershey's biggest international market after the United States), chocolate consumption stands at just around 5.6 kg per capita which has room for growth considering their neighbor in the south consumes considerably more. In America, chocolate consumption also has some room for further growth with the country's per capita chocolate consumption lagging Switzerland, the world's biggest chocolate consumers at 11.6 kilograms per person versus 9 kilograms per person for the U.S. The Swiss also spend considerably more than the Americans on chocolate, at $270 per person spent on chocolate products, nearly two times higher than what Americans spend at $144.90 per person suggesting room for further growth.

Hershey's is by far the dominant chocolate manufacturer in the U.S. with the company owning four of America's top 5 most popular chocolate candy brands according to data from IRI. The company is thus well placed to benefit from continued growth in Americans' appetite for chocolate candy.

Hershey continues to nurture their brands through continuous innovation to keep their brands appealing, and capture new segments; Hershey's product portfolio is already strong on portion-controlled options (with options such as Reese's Thins and Hershey's Kisses) and the company is strengthening its portfolio through product innovation efforts, notably in the better-for-your segment with the launch of zero-sugar products (for both of their key brands Hershey and Reese's ), organic options for Reese's , as well as plant-based products (such as plant-based Hershey chocolate bars). Hershey is also combining flavor options from their chocolate and salty snacks business to drive further product innovation with the launch of innovative product options that combine "sweet and salty" such as Reese's Stuffed with Pretzels. Hershey management has also highlighted efforts to continuously refresh their products to offer a holistic portfolio of seasonal products during seasons such as Valentine's Day and Easter.

Hershey's Resse's brand, which has already been licensed for use in other food categories such as cookie dough and cereal, continues to explore further opportunities to expand their reach. Hershey recently tied up with Krispy Kreme ( DNUT ) to offer a new lineup of donut flavors with Reese's. Separate partnerships were also inked with Unilever ( UL ) and Cold Stone Creamery to offer a Reeese's flavored ice cream products.

Hershey's strategic product innovation and partnership efforts are being bolstered by aggressive marketing efforts as well. Management noted that a double digit increase in advertising is slated for this year with nearly half the increase dedicated to Reese's, Hershey's and seasonal products. All in all, Hershey's strategies are sound and should translate into continued increase in brand equity, and positive financial performance as well.

Salty snacks have room to grow

Hershey's North America Salty Snacks business which comprises the company's salty snacks portfolio including Dot's Pretzels, Pirate's Booty and Skinny Pop, is Hershey's second-biggest business segment by revenues, profits, and margins. Revenues amounted to $1 billion in FY 2022, earnings were $160 million and segment margins were 15.5%.

With consumers seeking snacking options while being mindful of their sugar intake, salty snacks are gaining popularity and Hershey's product portfolio is decently positioned to capitalize. For the nine months to September last year, U.S. savory snack sales rose 13% YoY to $8.3 billion with tortilla chips and popcorn leading the pack, followed by pretzels according to data from NielsenIQ. Hershey is positioned to cater to this demand with their Skinny Pop popcorn brand, Pirate's Booty puffed rice snack product, and Dot's Pretzels pretzel brand.

Pretzels, once a relatively boring category which has seen little innovation over the years, is now getting consumer attention as brands innovate to offer consumers new flavor options. Pretzels sales rose 16.2% in the U.S. to $1.7 billion for the 7 months to August 2022. Hershey-owned Dot's Pretzels, is America's second-biggest pretzel brand after Campbell-owned ( CPB ) Snyder's of Hanover, but Dot's was the fastest-growing brand with sales jumping 60% during the period versus 8.1% for Snyder's of Hanover.

Looking ahead, all three brands could see further market share gains and revenue expansion as these relatively small brands leverage Hershey's extensive distribution networks, and massive marketing budget. Dot's Pretzels already has the advantage of a relatively strong brand in the pretzel segment, and further market share gains thanks to expanded marketing and distribution activities could drive meaningful revenue growth; Snyder's is more than three times bigger than Dot's Pretzels and private label brands collectively are nearly double that of Dot's sales.

International expansion to support growth

International comprises Hershey's operations outside North America, in countries such as Brazil, Mexico, India, and Malaysia. With revenues of $853 million, segment profits of $107 million and margins of 12.6%, it is Hershey's smallest segment in terms of revenues, earnings, and margins but holds potential for significant growth with forecasts projecting global chocolate sales to grow in the low-to-mid single digits.

Hershey is strategically expanding into markets with the highest potential. In India, a country famous for decadently rich confections and desserts, chocolate consumption is just 1 kilogram per year, but rising incomes and growing appetites for international candies is driving demand in the country of 1 billion people. Chocolate sales are forecast to grow in the high single digits, over the coming years outpacing chocolate sales growth worldwide. Hershey is expanding its product portfolio in India to capitalize on the opportunity, and while competition is stiff (Mondelez ( MDLZ ) is the market leader in India with a market share of 65% with Mondelez-owned Cadbury alone commanding a share of 40%), the sheer size and growth of the Indian market should accommodate several players.

Conclusion

Hershey's forward P/E of 25 is quite rich, but it could be considered fair for the market leader. Hershey has delivered solid results despite operating challenges and their prospects are promising with the company continuously strengthening their brand portfolio through strategic acquisitions, brand building and innovation to capitalize on opportunities in the snack market both in its home market the U.S., and internationally.

The majority of analysts have a hold rating on the stock.

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