Hershey's: Trick or Treat?

 | Oct 31, 2012 | 2:58 PM EDT
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Because of hurricane Sandy, our town has moved the annual trick-or-treat festivities to Saturday. But that doesn't mean I'm not celebrating Halloween –- I am. If you've been long Hershey's (HSY) for the last few months, you've been celebrating, too. But with candy sales slowing, are investors in for a fright?

Last Thursday, Hershey's reported third-quarter earnings per share (EPS) of $0.87. Revenues rose 7.5% to $1.75 billion. The company's profit fell 10% for the quarter. Hershey reported a profit of $176.7 million, or $0.77 a share, which was down from the year-ago profit of $196.7 million, or $0.86 a share. Gross margin widened to 42.5% from 41.9%.

Management raised guidance and is now looking to achieve EPS of $3.22-$3.25, which is greater than the previous 12%-14% increase. Furthermore, the company expects sales for 2013 to grow within the 5% to 7% long-term target range.  Gross margin is expected to increase 120 to 140 basis points in fiscal 2013, as a result of ongoing restructuring. The board of directors even saw fit to raise the dividend 10.5%.

According to the National Confectioners Association, 2012 candy sales in America are expected to be up just 1%, year-over-year, to $2.38 billion. According to the association, that is the slowest growth rate in three years. The association says higher fuel and sugar prices along with manufacturing costs are weighing on the industry's profits. Candy makers are responding with higher prices and smaller packages.

In the third quarter, Hershey's was able to buck the trend through "tuck in" acquisitions, new products and solid performance at retail. For the 12 weeks ending Oct. 6, Hershey's candy, mint and gum (CMG) business was up 5.9%. The company managed to grow market share in the CMG business by 1.1%. New products drove the chocolate business. The chocolate business grew its market share 0.4%. Overall sales were driven by a 3.9-point increase in unit pricing and volume -- which is being driven by the dollar stores -- was up 2.1 points. Hershey's has used its marketing muscle to help stem the industry wide slowdown. For the first nine months of the year, the company increased advertising spending 12%, year-over-year, and management is expecting to increase it further. For the full year, Hersey's expects to increase ad spending 13% to 15% vs. 2011. Expect to see more dancing Twizzlers on TV.

Hershey's five-year plan is to increase net sales 5% to 7% and deliver earnings growth between 8% and 10%. Management has re-doubled efforts to invest in its industry leading brands, including Hershey's Kisses, Reese's Peanut Butter Cups and Jolly Rancher candies. The company's goal is to achieve sales of $10 billion by 2017.

International growth is the key to this plan. The company already holds 43% market share in the U.S., but Hershey's has little presence overseas. The confectionery markets in China, Brazil and India are growing anywhere from 7% to 23% annually, and Hershey's wants to bite into that action.

Year-to-date, Hershey's has performed in line with the market. I would expect the stock to trade in line with the S&P 500 until it can prove to investors the company has restarted its growth engine. Hershey's isn't scaring anyone this Halloween.

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