J M SMUCKER Co 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations. (Dollars and shares in millions, unless otherwise noted, except per share data) This discussion and analysis deals with comparisons of material changes in the unaudited condensed consolidated financial statements for the three months ended July 31, 2020 and 2019. All comparisons presented are to the corresponding period of the prior year, unless otherwise noted. We are the owner of all trademarks referenced herein, except for the following, which are used under license: Dunkin’ TM and Dunkin’ Donuts are trademarks of DD IP Holder LLC, and Rachael Ray is a trademark of Ray Marks II LLC. The Dunkin’ and Dunkin’ Donuts brands are licensed to us for packaged coffee products, including K-Cup ® pods, sold in retail channels such as grocery stores, mass merchandisers, club stores, e-commerce, and drug stores. All references to Dunkin’ in this Quarterly Report on Form 10-Q are deemed to include the Dunkin’ and Dunkin’ Donuts trademarks. Information in this document does not pertain to products for sale in Dunkin’ restaurants. K-Cup ® is a trademark of Keurig Green Mountain, Inc., used with permission. COVID-19 The continued spread of COVID-19 throughout the United States and the international community has had, and will continue to have, an impact on financial markets, economic conditions, and portions of our business and industry. During the first quarter of 2021, many state governments began a phased reopening of their economies. These phased approaches include limited foodservice offerings, outdoor dining, travel, and the reopening of certain retail establishments, among others, while adhering to new guidelines and enhanced safety measures, such as physical distancing and face mask protocols. However, certain states have delayed or reversed plans to reopen their economies as new cases of COVID-19 and related illnesses continue to rise. In general, consumers continue to stay at home as a precaution due to the sustained increase in new cases, and as a result, at-home food consumption and consumer demand remains high. In June, we commenced a phased approach to reopen our corporate headquarters in Orrville, Ohio, with increased safety protocols. However, occupancy levels remain low as the majority of our office-based employees continue to work remotely where possible, and we continue to monitor the latest public health and government guidance related to COVID-19. We have crisis management teams in place at all of our facilities, which are monitoring the continually evolving situation and implementing risk mitigation actions as necessary. To date, there has been minimal disruption in our supply chain network, including the supply of our ingredients, packaging, or other sourced materials, although it is possible that more significant disruptions could occur if the COVID-19 pandemic continues to impact markets around the world. We also continue to work closely with our customers and external business partners, taking additional actions to ensure safety and business continuity and maximize product availability. We have increased production at all of our facilities and expanded the availability of appointments at distribution centers. All of our production operations remain open and none have experienced significant disruptions or labor reductions related to COVID-19. Furthermore, we have implemented measures to allocate order volumes to ensure a consistent supply across our retail partners during this period of high demand. We continued to experience an increase in orders during the first quarter of 2021, primarily across our U.S. Retail Coffee and U.S. Retail Consumer Foods segments, in response to the increased consumer demand for our products related to the elevated at-home consumption. The continued increase in consumer demand may slow in the coming months as consumer purchasing behavior may change as a result of t he length and severity of the pandemic, duration of physical distancing requirements, stay-at-home orders, and macroeconomic implications. However, during the first quarter of 2021, consumer demand and customer orders for the U.S. Retail Coffee and U.S Retail Consumer Foods segments remain elevated compared to historical comparison periods. We have also experienced a decline in products sold in the away from home channels as a result of COVID-19, which has negatively impacted our net sales in our Away From Home operating segment, and we expect COVID-19 to continue to adversely affect our net sales while government restrictions and physical distancing measures are in place. However, as certain states have begun to reopen their economies, our net sales for the away from home channels has improved compared to the initial months of the pandemic and relative to our initial expectations. The impact of COVID-19 remains uncertain and ultimately will be dictated by the length and severity of the pandemic; the federal, state, and local government actions taken in response; and the macroeconomic environment. We will continue to evaluate the nature and extent to which COVID-19 will impact our business, consolidated results of operations, financial condition, and liquidity. 18 Table of Contents Results of Operations Three Months Ended July 31, 2020 2019 % Increase (Decrease) Net sales $ 1,971.8 $ 1,778.9 11 % Gross profit $ 775.4 $ 699.6 11 % of net sales 39.3 % 39.3 % Operating income $ 361.1 $ 257.6 40 % of net sales 18.3 % 14.5 % Net income: Net income $ 237.0 $ 154.6 53 Net income per common share – assuming dilution $ 2.08 $ 1.36 53 Adjusted gross profit (A) $ 759.2 $ 670.6 13 % of net sales 38.5 % 37.7 % Adjusted operating income (A) $ 404.5 $ 290.7 39 % of net sales 20.5 % 16.3 % Adjusted income: (A) Income $ 270.0 $ 179.7 50 Earnings per share – assuming dilution $ 2.37 $ 1.58 50 (A) We use non-GAAP financial measures to evaluate our performance. Refer to “Non-GAAP Financial Measures” in this discussion and analysis for a reconciliation to the comparable GAAP financial measure. Net Sales Net sales in the first three months of 2021 increased $192.9, or 11 percent, driven by favorable volume/mix across all of our retail businesses, supported by increased at-home consumption for the U.S. Retail Coffee and U.S. Retail Consumer Foods segments. The retail business growth was partially offset by unfavorable volume/mix for the Away From Home operating segment. Operating Income The following table presents the components of operating income as a percentage of net sales. Three Months Ended July 31, 2020 2019 Gross profit 39.3 % 39.3 % Selling, distribution, and administrative expenses: Marketing 6.2 % 7.5 % Selling 3.3 3.9 Distribution 3.5 3.6 General and administrative 5.1 6.5 Total selling, distribution, and administrative expenses 18.1 % 21.4 % Amortization 3.0 3.3 Other special project costs — 0.2 Other operating expense (income) – net (0.1) — Operating income 18.3 % 14.5 % Amounts may not add due to rounding. Gross profit increased $75.8, or 11 percent, in the first quarter of 2021, primarily driven by favorable volume/mix and lower costs, partially offset by an unfavorable change in derivative gains and losses as compared to the prior year. Operating income increased $103.5, or 40 percent, primarily reflecting the increase in gross profit and a $23.0 decrease in selling, distribution, and administrative (“SD&A”) expenses. 19 Table of Contents Our non-GAAP adjustments include amortization expense and impairment charges related to intangible assets, integration and restructuring costs, and unallocated gains and losses on commodity and foreign currency exchange derivatives. Refer to “Non-GAAP Financial Measures” in this discussion and analysis for additional information. Gross profit excluding non-GAAP adjustments (“adjusted gross profit”) increased $88.6, or 13 percent, in the first quarter of 2021, reflecting the exclusion of unallocated derivative gains and losses, as compared to GAAP gross profit. Operating income excluding non-GAAP adjustments (“adjusted operating income”) increased $113.8, or 39 percent, as compared to the prior year. Interest Expense Net interest expense decreased $3.3, or 7 percent, in the first quarter of 2021, primarily as a result of a decrease in interest rates and reduced debt outstanding, as compared to the prior year, partially offset by interest expense related to interest rate contracts terminated in the fourth quarter of 2020. Income Taxes Income taxes increased $24.5, or 47 percent, in the first quarter of 2021, due to the increase in income before income taxes and partially offset by a lower effective tax rate of 24.4 percent, compared to 25.2 percent for the first quarter of 2020. During both the current and prior years, the effective tax rates varied from the U.S. statutory tax rate of 21.0 percent, primarily due to the impact of state income taxes. We anticipate a full-year effective tax rate for 2021 of approximately 24.0 percent. For further information, refer to Note 11: Income Taxes. Segment Results We have three reportable segments: U.S. Retail Pet Foods, U.S. Retail Coffee, and U.S. Retail Consumer Foods. Effective during the first quarter of 2021, the presentation of International and Away From Home represents a combination of all other operating segments that are not individually reportable. As a result of recent leadership changes, these operating segments are now being managed and reported separately, and no longer represent a reportable segment for segment reporting purposes. Prior year segment results have not been modified, as the combination of these operating segments represents the previously reported International and Away From Home reportable segment. The U.S. Retail Pet Foods segment primarily includes the domestic sales of Rachael Ray Nutrish, Meow Mix , Milk-Bone , 9Lives , Kibbles ’n Bits , Natural Balance, Pup-Peroni , and Nature’s Recipe branded products; the U.S. Retail Coffee segment primarily includes the domestic sales of Folgers, Dunkin’, and Café Bustelo branded coffee; and the U.S. Retail Consumer Foods segment primarily includes the domestic sales of Smucker’s, Jif , and Crisco branded products. International and Away From Home includes the sale of products distributed domestically and in foreign countries through retail channels and foodservice distributors and operators (e.g., health care operators, restaurants, lodging, hospitality, offices, K-12, colleges and universities, and convenience stores). 20 Table of Contents Three Months Ended July 31, 2020 2019 % Increase (Decrease) Net sales: U.S. Retail Pet Foods $ 692.6 $ 669.9 3 % U.S. Retail Coffee 570.9 465.7 23 U.S. Retail Consumer Foods 489.2 402.2 22 International and Away From Home 219.1 241.1 (9) Segment profit: U.S. Retail Pet Foods $ 125.3 $ 120.1 4 % U.S. Retail Coffee 182.6 128.9 42 U.S. Retail Consumer Foods 131.5 81.0 62 International and Away From Home 30.9 32.3 (4) Segment profit margin: U.S. Retail Pet Foods 18.1 % 17.9 % U.S. Retail Coffee 32.0 27.7 U.S. Retail Consumer Foods 26.9 20.1 International and Away From Home 14.1 13.4 U.S. Retail Pet Foods The U.S. Retail Pet Foods segment net sales increased $22.7 in the first quarter of 2021, primarily reflecting favorable volume/mix, which contributed 5 percentage points to net sales. The favorable volume/mix was driven by growth for 9Lives and Meow Mix cat food and Milk-Bone dog snacks, partially offset by declines for Natural Balance, Nature’s Recipe, and private label dog food. Lower net price realization reduced net sales by 2 percentage points, primarily reflecting increased trade spend for dog food and cat food. Segment profit increased $5.2, driven by lower manufacturing costs, the favorable volume/mix, and lower SD&A expenses, partially offset by lower pricing. U.S. Retail Coffee The U.S. Retail Coffee segment net sales increased $105.2 in the first quarter of 2021, reflecting favorable volume/mix, which contributed 23 percentage points to net sales, primarily related to growth for the Dunkin’ Donuts, Folgers , and Café Bustelo brands. The favorable volume/mix is reflective of elevated at-home consumption and re-stocking of retailer inventory following the surge in consumer demand during the fourth quarter of 2020. Segment profit increased $53.7, primarily due to the favorable volume/mix. U.S. Retail Consumer Foods The U.S. Retail Consumer Foods segment net sales increased $87.0 in the first quarter of 2021, as favorable volume/mix contributed 19 percentage points to net sales, reflecting growth for the Smucker’s brand, inclusive of Uncrustables ® frozen sandwiches and fruit spreads, Crisco oils and shortening, and Jif peanut butter. The favorable volume/mix is reflective of elevated at-home consumption and retailer inventory re-stocking following the surge in consumer demand during the fourth quarter of 2020. Higher net pricing increased net sales by 3 percentage points, primarily attributable to reduced promotional activity for Jif peanut butter and Smucker’s fruit spreads. S egment profit increased $50.5, primarily reflecting the favorable volume/mix, higher net pricing, and lower SD&A expenses. International and Away From Home International and Away From Home net sales decreased $22.0 in the first quarter of 2021, primarily reflecting a 33 percent decline for the Away From Home operating segment, partially offset by net sales growth of 21 percent for the International operating segment, most notably for flour and baking ingredients. Unfavorable volume/mix for the combined businesses reduced net sales by 8 percentage points and foreign currency decreased net sales by 1 percentage point. Segment profit decreased $1.4, primarily reflecting higher input costs and the unfavorable volume/mix, partially offset by lower SD&A expenses. 21 Table of Contents Financial Condition – Liquidity and Capital Resources Liquidity Our principal source of funds is cash generated from operations, supplemented by borrowings against our commercial paper program and revolving credit facility. At July 31, 2020, total cash and cash equivalents was $396.6, compared to $391.1 at April 30, 2020. The following table presents selected cash flow information. Three Months Ended July 31, 2020 2019 Net cash provided by (used for) operating activities $ 409.0 $ 221.5 Net cash provided by (used for) investing activities (49.2) (52.1) Net cash provided by (used for) financing activities (357.3) (222.6) Net cash provided by (used for) operating activities $ 409.0 $ 221.5 Additions to property, plant, and equipment (76.6) (73.0) Free cash flow (A) $ 332.4 $ 148.5 (A) Free cash flow is a non-GAAP financial measure used by management to evaluate the amount of cash available for debt repayment, dividend distribution, acquisition opportunities, share repurchases, and other corporate purposes. The $187.5 increase in cash provided by operating activities in the first quarter of 2021 was primarily driven by lower working capital requirements in 2021, as well as higher net income adjusted for noncash items in the current year. The decrease in cash required to fund working capital, as compared to the prior year, was primarily attributable to lower payments for accounts payable driven by working capital initiatives, inclusive of a supplier financing program entered into during the second half of 2020, as well as a reduction in trade receivables this quarter, due to the timing of sales and payments. Cash used for investing activities in the first three months of 2021 consisted of $76.6 in capital expenditures, partially offset by a $27.6 decrease in our derivative cash margin account balances. Cash used for investing activities in the first three months of 2020 consisted of $73.0 in capital expenditures, partially offset by a $20.9 decrease in our derivative cash margin account balances. Cash used for financing activities in the first three months of 2021 consisted primarily of long-term debt repayments of $300.0 and dividend payments of $100.1, partially offset by a net increase in short-term borrowings of $47.8. Cash used for financing activities in the first three months of 2020 consisted primarily of a $130.0 net decrease in short-term borrowings and dividend payments of $96.5. Supplier Financing Program As part of ongoing efforts to maximize working capital, we work with our suppliers to optimize our terms and conditions, which includes the extension of payment terms. Payment terms with our suppliers, which we deem to be commercially reasonable, generally range from 0 to 180 days. During the second half of 2020, we entered into an agreement with a third-party administrator to provide an accounts payable tracking system and facilitate a supplier financing program which allows participating suppliers the ability to monitor and voluntarily elect to sell our payment obligations to a designated third-party financial institution. Participating suppliers can sell one or more of our payment obligations at their sole discretion, and our rights and obligations to our suppliers are not impacted. We have no economic interest in a supplier’s decision to enter into these agreements. Our obligations to our suppliers, including amounts due and scheduled payment terms, are not impacted by our suppliers’ decisions to sell amounts under these arrangements. As of July 31, 2020, $192.3 of our outstanding payment obligations were elected and sold to a financial institution by participating suppliers. During the first quarter of 2021, we paid $122.1 to a financial institution for payment obligations that were settled through the supplier financing program. Contingencies We, like other food manufacturers, are from time to time subject to various administrative, regulatory, and other legal proceedings arising in the ordinary course of business. We are currently a defendant in a variety of such legal proceedings, including certain lawsuits related to the alleged price-fixing of shelf stable tuna products prior to 2011 by a business previously owned by, but divested prior to our acquisition of, Big Heart Pet Brands, the significant majority of which were settled and paid 22 Table of Contents during the second half of 2019. While we cannot predict with certainty the ultimate results of these proceedings or potential settlements associated with these or other matters, we have accrued losses for certain contingent liabilities that we have determined are probable and reasonably estimable at July 31, 2020. Based on the information known to date, with the exception of the matter discussed below, we do not believe the final outcome of these proceedings will have a material adverse effect on our financial position, results of operations, or cash flows. In addition to the legal proceedings discussed above, we are currently a defendant in CERT v. Brad Barry LLC, et al., which alleges that we, in addition to nearly eighty other defendants who manufacture, package, distribute, or sell coffee, failed to provide warnings for our coffee products of exposure to the chemical acrylamide as required under Proposition 65. As part of a joint defense group organized to defend against the lawsuit, we dispute these claims. Acrylamide is not added to coffee, but is inherently present in all coffee in small amounts (measured in parts per billion) as a byproduct of the coffee bean roasting process. The outcome and the financial impact of the case, if any, cannot be predicted at this time. Accordingly, no loss contingency has been recorded for this matter as of July 31, 2020, as the likelihood of loss is not considered probable or estimable. However, if we are required to pay significant statutory penalties or to add warning labels to any of our products or place warnings in certain locations where our products are sold as a result of Proposition 65, our business and financial results could be adversely impacted, and sales of those products could suffer not only in those locations but elsewhere. For additional information, see Note 13: Contingencies. Capital Resources The following table presents our capital structure. July 31, 2020 April 30, 2020 Current portion of long-term debt $ 399.8 $ — Short-term borrowings 296.0 248.0 Long-term debt, less current portion 4,672.8 5,373.3 Total debt $ 5,368.6 $ 5,621.3 Shareholders’ equity 8,345.2 8,190.9 Total capital $ 13,713.8 $ 13,812.2 In April 2018, we entered into a Term Loan with a syndicate of banks and an available commitment amount of $1.5 billion. The full amount of the Term Loan was drawn on May 14, 2018, to partially finance the Ainsworth acquisition. Borrowings under the Term Loan bear interest on the prevailing U.S. Prime Rate or LIBOR, based on our election, and is payable either on a quarterly basis or at the end of the borrowing term. The Term Loan matures on May 14, 2021, and does not require scheduled amortization payments. Voluntary prepayments are permitted without premium or penalty. As of July 31, 2020, we have prepaid $1.1 billion on the Term Loan to date, including $300.0 in the first quarter of 2021. The interest rate on the Term Loan at July 31, 2020, was 0.97 percent. We have available a $1.8 billion unsecured revolving credit facility with a group of 11 banks that matures in September 2022. Additionally, we participate in a commercial paper program under which we can issue short-term, unsecured commercial paper not to exceed $1.8 billion at any time. The commercial paper program is backed by our revolving credit facility and reduces what we can borrow under the revolving credit facility by the amount of commercial paper outstanding. Commercial paper will be used as a continuing source of short-term financing for general corporate purposes. As of July 31, 2020, we had $296.0 of short-term borrowings outstanding, all of which were issued under our commercial paper program, at a weighted-average interest rate of 0.25 percent. We are in compliance with all of our debt covenants. For additional information on our long-term debt, sources of liquidity, and debt covenants, see Note 6: Debt and Financing Arrangements. During the first quarter of 2021, we did not repurchase any common shares under a repurchase plan authorized by the Board. At July 31, 2020, approximately 3.6 million common shares remain available for repurchase pursuant to the Board’s authorizations. There is no guarantee as to the exact number of shares that may be repurchased or when such purchases may occur. Absent any material acquisitions or other significant investments, we believe that cash on hand, combined with cash provided by operations, borrowings available under our commercial paper program and revolving credit facility, and access to capital markets, will be sufficient to meet our cash requirements for the next 12 months, including the payment of quarterly dividends, principal and interest payments on debt outstanding, and capital expenditures. However, as a result of COVID-19, we may 23 Table of Contents experience an increase in the cost or the difficulty to obtain debt or equity financing, or to refinance our debt in the future, which could affect our financial condition or our ability to fund operations or future investment opportunities. As of July 31, 2020, total cash and cash equivalents of $85.1 was held by our foreign subsidiaries, primarily in Canada. The undistributed earnings of our foreign subsidiaries remain permanently reinvested. Non-GAAP Financial Measures We use non-GAAP financial measures, including: adjusted gross profit, adjusted operating income, adjusted income, adjusted earnings per share, and free cash flow, as key measures for purposes of evaluating performance internally. We believe that investors’ understanding of our performance is enhanced by disclosing these performance measures. Furthermore, these non-GAAP financial measures are used by management in preparation of the annual budget and for the monthly analyses of our operating results. The Board also utilizes certain non-GAAP financial measures as components for measuring performance for incentive compensation purposes. Non-GAAP financial measures exclude certain items affecting comparability that can significantly affect the year-over-year assessment of operating results, which include amortization expense and impairment charges related to intangible assets, integration and restructuring costs (“special project costs”), and unallocated gains and losses on commodity and foreign currency exchange derivatives (“unallocated derivative gains and losses”), as well as the related tax impacts of these exclusions. The special project costs in the following table relate to specific integration and restructuring projects, and the unallocated derivative gains and losses reflect the changes in fair value of our commodity and foreign currency exchange contracts. Additionally, income taxes, as adjusted is calculated using an adjusted effective income tax rate that is applied to adjusted income before income taxes. While this adjusted effective income tax rate does not generally differ materially from our GAAP effective income tax rate, certain exclusions from non-GAAP results can significantly impact our adjusted effective income tax rate. These non-GAAP financial measures are not intended to replace the presentation of financial results in accordance with U.S. GAAP. Rather, the presentation of these non-GAAP financial measures supplements other metrics we use to internally evaluate our businesses and facilitate the comparison of past and present operations and liquidity. These non-GAAP financial measures may not be comparable to similar measures used by other companies and may exclude certain nondiscretionary expenses and cash payments. The following table reconciles certain non-GAAP measures to the comparable GAAP financial measure. Three Months Ended July 31, 2020 2019 Gross profit reconciliation: Gross profit $ 775.4 $ 699.6 Unallocated derivative losses (gains) (16.2) (29.0) Adjusted gross profit $ 759.2 $ 670.6 Operating income reconciliation: Operating income $ 361.1 $ 257.6 Amortization 59.6 58.8 Unallocated derivative losses (gains) (16.2) (29.0) Other special project costs — 3.3 Adjusted operating income $ 404.5 $ 290.7 Net income reconciliation: Net income $ 237.0 $ 154.6 Income tax expense 76.6 52.1 Amortization 59.6 58.8 Unallocated derivative losses (gains) (16.2) (29.0) Other special project costs — 3.3 Adjusted income before income taxes $ 357.0 $ 239.8 Income taxes, as adjusted 87.0 60.1 Adjusted income $ 270.0 $ 179.7 Weighted-average shares – assuming dilution 114.1 113.9 Adjusted earnings per share – assuming dilution $ 2.37 $ 1.58 24 Table of Contents Off-Balance Sheet Arrangements and Contractual Obligations We do not have material off-balance sheet arrangements, financings, or other relationships with unconsolidated entities or other persons, also known as variable interest entities. Transactions with related parties are in the ordinary course of business and are not material to our results of operations, financial condition, or cash flows. As of July 31, 2020, there were no material changes to our future contractual obligations as previously reported in our Annual Report on Form 10-K for the year ended April 30, 2020. Critical Accounting Estimates and Policies A discussion of our critical accounting estimates and policies can be found in the “Management’s Discussion and Analysis” section of our Annual Report on Form 10-K for the year ended April 30, 2020. There were no material changes to the information previously disclosed.