The J M Smucker Company (NYSE: SJM) Q2 2023 earnings call dated Nov. 21, 2022
Corporate Participants:
Aaron Broholm — Vice President, Investor Relations
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Tucker H. Marshall — Chief Financial Officer
Analysts:
Andrew Lazar — Barclays — Analyst
Peter Galbo — Bank of America — Analyst
Kenneth Goldman — JPMorgan — Analyst
Robert Moskow — Credit Suisse — Analyst
Christopher Growe — Stifel Financial Corp. — Analyst
Stephen Powers — Deutsche Bank — Analyst
Jason English — Goldman Sachs — Analyst
Cody Ross — UBS — Analyst
Max Gumport — BNP Paribas Exane — Analyst
Presentation:
Operator
Good morning, and welcome to The J.M. Smucker Company’s Fiscal 2023 Second Quarter Earnings Question-and-Answer Session. This conference is being recorded, and all participants are in a listen-only mode. Please limit yourselves to two questions and re-queue if you have additional questions.
I will now turn the conference call over to Aaron Broholm, Vice President, Investor Relations. Please go ahead, sir.
Aaron Broholm — Vice President, Investor Relations
Good morning, and thank you for joining our fiscal 2023 second quarter earnings question-and-answer session.
I hope everyone had a chance to review our results as detailed in this morning’s press release and management’s prepared remarks, which are available on our corporate website at jmsmucker.com. We will also post an audio replay of this call at the conclusion of this morning’s Q&A session.
During today’s call, we may make forward-looking statements that reflect our current expectations about future plans and performance. These statements rely on assumptions and estimates, and actual results may differ materially due to risks and uncertainties. Additionally, we use non-GAAP results to evaluate performance internally. I encourage you to read the full disclosure concerning forward-looking statements and details on our non-GAAP measures in this morning’s press release.
Participating on this call are Mark Smucker, Chair of the Board, President, and Chief Executive Officer and Tucker Marshall, Chief Financial Officer. We will now open-up the call for questions.
Operator, please queue up the first question.
Questions and Answers:
Operator
Thank you. The question-and-answer session will begin at this time. [Operator Instructions] Our first question today comes from Andrew Lazar from Barclays. Your line is now live.
Andrew Lazar — Barclays — Analyst
Great, thanks so much. Good morning everybody.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Good morning.
Andrew Lazar — Barclays — Analyst
I was hoping to start-off on gross margin if we could. I guess, excluding the impact from the Jif recall in the quarter, trying to get a sense of what adjusted gross margin would have looked like and whether that would have been a sequential improvement from fiscal 1Q, again, excluding the Jif recall. Basically, I’m just trying to get an understanding of what sort of underlying gross margin trends look like and maybe more importantly, what caused the move to highlight a full year gross margin now at the low end of the previous range.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Andrew, good morning. We believe there was about a 50 basis point impact to the second quarter as a result of the Jif peanut butter product recall. So we would have been at 33.7% gross profit margin as compared to the 33.2% that we reported. We remain very confident in the outlook for our gross profit margin for the full fiscal year and have really focused in on the 33.5%. Again, that does have a 100 basis point impact due to the peanut butter recall. And I would also acknowledge that it also accounts for material year-over-year cost inflation where we have told folks that we would be mid-to-high teen increases in our total cost of products goods sold and we are also seeing the impact of business volume mix on that gross margin for the full year. As we continue to work through the second and third quarters, we would anticipate that gross margin improve with the fourth quarter being our best gross margin quarter.
Andrew Lazar — Barclays — Analyst
Great. Thanks for that. And then you are flowing through to the full year a bit less than the fiscal 2Q upside you saw in EPS. I guess, what are any discrete reasons for this or is there perhaps still some conservatism built in, just given how dynamic the environment continues to be? Thanks so much.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Andrew, we’re pleased to be able to take both our topline and bottom line guidance up. Let me begin with the topline. We are taking the midpoint of our previous guidance range up 150 basis points to approximately 6% on a reported basis. When you think of that 150 basis points, it’s really coming across continued momentum in our pet portfolio and our consumer portfolio, as well along with expectations coming out of the first quarter for our coffee portfolio playing out as expected. And as you translate the $0.15 improvement to the bottom line of our adjusted earnings per share going now up to $8.55 at the midpoint as compared to $8.40, that $0.15 benefit is really broken down by two things; one, $0.27 benefit from the volume mix due to the topline uplift, offset by $0.12 of additional investment, primarily through SG&A for business initiatives. And then I do want to call out that the portion of our second quarter over-delivery was due to timing of SG&A expenses that will reverse into the third quarter, and that was also what is causing the new outlook for the third quarter. But again, we are taking both topline and bottom line up.
Operator
Thank you. Next question today is coming from Peter Galbo from Bank of America. Your line is now live.
Peter Galbo — Bank of America — Analyst
Hey guys, good morning. Thank you for taking the questions. Tucker, maybe we could just unpack a bit on the topline or revised topline. Is it fair to assume that the full raise is really on the volume mix side? I think previously you had said, you had about 15 points of price that you expected for the year. I just wanted to make sure that, that number hadn’t moved.
Tucker H. Marshall — Chief Financial Officer
That is, correct. It’s largely driven by volume mix across our portfolio.
Peter Galbo — Bank of America — Analyst
Okay. And then maybe if we could just talk a little bit about coffee. Coffee costs — I think, green coffee costs have started to roll over and so just seeing the change that Andrew brought up on the gross margin side, understanding there’s a bit of timing, but when might we expect some of that benefit if coffee prices have rolled to kind of start to flow through and impact the gross margin?
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Peter, it’s Mark. Thanks for the question. As we always say on coffee, it’s largely a pass-through category, and we will pass through cost increases or decreases at the time that we realize them. And so although we are not transparent with our hedging practices, we do take a very prudent approach to how and when we pass those costs through. I guess I would also just highlight that our strategy has been to ensure that we are recovering dollar-for-dollar cost that continues to be the case and so, as we did lead on the way up in pricing, we have now seen and continue to see competitive price gaps close and the performance of our portfolio in aggregate has been satisfactory. Obviously, the solid topline growth, continued share growth, as well as our ability to meet consumers across the entire value spectrum continues to be very important.
Tucker H. Marshall — Chief Financial Officer
And Peter, I also want to remind you that the first and second quarters were the highest coffee costs year-over-year for us, and then it begins to moderate in the third and fourth quarters, as such you should anticipate the margin profile within our coffee business to improve as we continue to work through the second quarter and into the fourth quarter as we step into those year-over-year changes.
Operator
Thank you. Next question today is coming from Ken Goldman from JPMorgan. Your line is now live.
Kenneth Goldman — JPMorgan — Analyst
Hi, thank you. Can we just get a little bit of a clearer sense of what your marketing dollars are expected to look like in the third quarter versus the fourth quarter? Just because they’re such a shift, it might help us sort of model that a little more cleanly. And then I guess, I’m curious, where do you expect in terms of categories or brands for some of these dollars to go in the back half of the year?
Tucker H. Marshall — Chief Financial Officer
Ken, good morning. Just acknowledging that we remain committed to reinvesting in our business and building our brands. We continue to support a 5.5% spend of net sales against our marketing budget. And just acknowledging there was some timing favorability in the second quarter that is trending into the third quarter. We will be slightly above that 5.5% in the quarter as you think about modeling and the flow for the year.
Kenneth Goldman — JPMorgan — Analyst
You raised your outlook for earnings, but not for capex or free cash flow. So what’s incrementally negative in operating cash flow that’s perhaps offsetting that expectation for higher net income that will keep free cash kind of constant versus your prior expectation?
Tucker H. Marshall — Chief Financial Officer
Ken, so we maintained our capital expenditure outlook at $550 million for the fiscal year. Again, the predominance of that is in support of our strategic growth around the Uncrustables brand. And then acknowledging, we did not take our free cash flow guidance up, that was largely due to an additional estimated cash tax payment that we forecasted in for the fiscal year.
Operator
Thank you. Next question is coming from Robert Moskow from Credit Suisse. Your line is now live.
Robert Moskow — Credit Suisse — Analyst
Hi, thanks. Just looking through our Nielsen tracking data, it looked like there was actually a pretty significant slowdown in your single-serve coffee sales. Is that a good reflection of what’s going on? And if so, can you talk about the drivers for it?
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Sure, Rob. This is Mark. I think, when you look at the total coffee category coming back to this notion of ensuring that we’re addressing all of the needs of consumers, we did see a little bit of a shift as you highlight on K-Cup. We watch consumer behavior very closely. There may have been some folks brewing more drip coffee. We don’t necessarily view that as a sustainable trend. Obviously, brewer penetration in the Keurig brewers has grown significantly over the last several quarters. So we would expect over-time that would continue to benefit us. There was a little bit of a deceleration in premium coffee, and that would be across the segment as opposed to our brands specifically. And so, again, price gaps in the premium coffee space have continued to close. And so we would expect over the subsequent quarters to continue to see growth for our Dunkin business, as well as our single-serve business.
Robert Moskow — Credit Suisse — Analyst
Okay. And just a follow-up. You’ve said actually, I think for several months that you are prepared for an environment where coffee costs fall and you’re taking more steps in advance to prepare for it. Can you be more specific as to maybe something you’re doing differently this time so that the flow-through is more seamless?
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Well, the first thing that we’ve tried to remind everyone is that we haven’t seen record coffee costs like we saw a decade or so ago. And so the environment as we manage through has been — the playbook has remained the same, we continue to execute against those same activities that we always would, whether that’s being very prudent about passing through the pricing, being — thinking about promotional activity in a normalized way. So in other words, not out-of-the ordinary and then very importantly and maybe most significantly, continuing to invest in our brands even in a period of inflation. And so just always taking the approach, Rob, of balancing, pricing, volume mix and the ways in which we support our brands, both with the consumer and customer, we’ve got to continue to take a balanced approach and that has served us well and we believe it will continue to do so.
Operator
Thank you. Our next question today is coming from Chris Growe from Stifel. Your line is now live.
Christopher Growe — Stifel Financial Corp. — Analyst
Hi, good morning.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Good morning.
Christopher Growe — Stifel Financial Corp. — Analyst
Good morning. I just had a question for you first on a bit of a follow-up on an earlier question on inflation. Is there any nuance to how much inflation you realized in the second quarter? Is that pretty well in line with what you expect for the year? And if I could just add to that, is pricing offsetting cost inflation on a dollar basis in the second quarter? Have you gotten to that point yet?
Tucker H. Marshall — Chief Financial Officer
Chris, what we would say is, is that the second quarter did have a higher level of inflation, primarily due to the impact of green coffee. We in the grain coffee space recovered on a dollar-for-dollar basis that cost inflation and we put the predominance of our pricing actions in place prior to the beginning of our fiscal year, so that we believe that we are recovering our inflation as we come through the fiscal year.
Christopher Growe — Stifel Financial Corp. — Analyst
In that comment then, Tucker, was more than just coffee, overall for the company, you have pricing in place to offset inflation. Is that correct?
Tucker H. Marshall — Chief Financial Officer
Correct.
Christopher Growe — Stifel Financial Corp. — Analyst
Okay. And then just one final question, if I could. I think about the gross margin, and you talked about in a couple of areas of your business where you have higher manufacturing costs. I think you mentioned it in coffee and consumer. Is that sort of ongoing supply chain challenges that every company has seen, perhaps lower volume as well. I’m guessing — what I like to get to if I could would be, to what degree you’re seeing a gross margin drag today from these supply chain challenges? Like, how much can the gross margin improve from here if you had a more normalized supply chain environment?
Tucker H. Marshall — Chief Financial Officer
Chris, as we think about our full year outlook for the gross profit margin at 33.5%, really what that reflects is again the year-over-year cost input inflation. It reflects the impact of the Jif peanut butter recall. It does have a component of supply chain environment and it also acknowledges that the volume mix profile of the business has evolved, particularly as you sell more pet food. And so, as a result of that, that’s all comprised within the gross profit margin guidance. But as we move forward and when we begin to experience cost moderation or even deflation, when we see stability in supply chains, and as we continue to advance the strategy of the company, particularly on the growth front, but also as we bring along continuous improvement programs such as our transformation office, those will all continue to support the margin profile of the company over-time.
Operator
Thank you. Next question is coming from Steve Powers from Deutsche Bank. Your line is now live.
Stephen Powers — Deutsche Bank — Analyst
Yes, thanks. And you may have sort of just addressed this, but I just wanted to clarify, because you cited volume mix is coming in better just related to your higher topline and dollar-based profit outlook on the year, but you also have cited that same volume mix is the primary reason for full year gross margin moving to the lower end of the prior range just given the inflation and pricing seem largely unchanged on the year. So could you just unpack that a bit more? Is that the mix shift to pet food that you just mentioned, just so we understand the move lower to 33.5% gross margin on the year alongside the better topline.
Tucker H. Marshall — Chief Financial Officer
Yeah. I think the 33.5% reflects our best outlook for the back half of the fiscal year and therefore the full fiscal year, acknowledging that as we took up our topline, we took into account the portfolio and the growth across pet and consumer and that’s all embedded in our $0.27 uplift due to volume mix. And again, that’s being partially offset by some business investments through SD&A.
Stephen Powers — Deutsche Bank — Analyst
Okay, thank you.
Operator
Thank you. Next question is coming from Jason English from Goldman Sachs. Your line is now live.
Jason English — Goldman Sachs — Analyst
Hey, good morning, folks. Thanks for slotting me in.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Good morning, Jason.
Jason English — Goldman Sachs — Analyst
A couple of quick questions. You mentioned that you have confidence in your ability to hold coffee prices until you see the deflation. Assuming that’s a couple of quarters from now, are you happy with where price gaps are today or for you to be able to hold for that long, do you need to see competitors continue to raise prices and close the gaps from where they are?
Tucker H. Marshall — Chief Financial Officer
Jason, for the most part, we’ve seen the gaps close as I mentioned in an earlier question. On premium, we’re seeing those gaps close now over these last several weeks and we think that will continue to be the case. And again, a little bit of that shift in the premium space has been indicative of the entire segment as opposed to maybe just our brands. So we think that those competitive gaps will come back in line as have the gaps have closed meaningfully in the mainstream space as well. So, just continuing to leverage the entire value spectrum of our portfolio will continue to bode well for us.
Jason English — Goldman Sachs — Analyst
Okay. So just to paraphrase real quick to make sure I understood. You’ve seen the gaps close, but you expect to see them to close further. So you do need further convergence. Is that correct?
Tucker H. Marshall — Chief Financial Officer
No. In most segments, we have seen and in premium, they have largely closed to the extent that we would expect the competitive dynamics to normalize.
Jason English — Goldman Sachs — Analyst
Got it. And quickly on Pet. There is about $1.5 billion worth of capacity coming online in the US in Pet next year. How do you expect that to impact the competitive environment?
Tucker H. Marshall — Chief Financial Officer
Well, at first, what I would highlight is that there have been as you know some supply chain challenges across pet in general, and that’s an industry comment. We have continued to fare very well throughout that dynamic. And our focus has been on optimizing our portfolio, focusing primarily as you know on pet snacks and cat food and the optimization in particular in our dog food portfolio has performed very well and has allowed us to capture value there, as well as experience some stabilization into moderate growth in the dog food space. So again, at the end of the day, we’ve got to remain focused on snacks and pet because that’s where we have the ability to continue to lead and then executing the playbook that we’ve previously talked in our dog food portfolio is yielding fruit.
Jason English — Goldman Sachs — Analyst
Okay. All right. Thanks a lot guys and I’ll pass it on.
Operator
[Operator Instructions] Our next question is coming from Cody Ross from UBS. Your line is now live.
Cody Ross — UBS — Analyst
Good morning, folks. Thank you for taking our questions.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Good morning.
Cody Ross — UBS — Analyst
Tucker, I just want to go back to one of the responses you gave earlier just around the $0.12 EPS impact from SD&A expenses. I believe that’s a shift. Can you just unpack that a little bit more? What is shifting from 2Q to 3Q? And can you just perhaps quantify it a little bit for us? Thank you.
Tucker H. Marshall — Chief Financial Officer
Cody, the $0.12 impact to the $0.27 topline improvement due to volume mix is largely due to new additional business investments that we’re making. An example of that would be in support of our transformation office. And then I would also acknowledge that a portion of our $0.21 over-delivery in the second quarter was due to timing of SD&A and some of that will now transition into the third quarter. So you will have a portion of the incremental $0.12 investment in the third quarter, a portion in your fourth quarter and then you will have timing from the second quarter of already previously planned SD&A fall into your third.
Cody Ross — UBS — Analyst
That’s helpful. Thank you. And then just real quick, I want to pivot back to your Pet segment. You grew 14% organically, which is quite substantial, but trailed Nielsen in the quarter by roughly four points based on our calculations and your growth decelerated on three-year stack basis. What is causing the mismatch between consumption and shipments today? Thank you.
Tucker H. Marshall — Chief Financial Officer
Well, again, let me just start it, Cody, with pet snacks. We grew in our pet snacks business at 2 times the category rate and gained a meaningful amount of share. So where our strategy hinges, first and foremost on pet snacks, we are very pleased with our performance and that is a comment that is relative to both our core biscuit business as well as the innovations that we’ve launched against our snacks, primarily in the premium space. And you can’t deny the growth on Meow Mix of significant growth, 19 over the last 20 quarters. So where we have focused and really executed our strategy, the portfolio is performing exactly as we would have expected and in many cases had exceeded our expectations.
Operator
Thank you. Next question is coming from Max Gumport from BNP Paribas Exane. Your line is now live.
Max Gumport — BNP Paribas Exane — Analyst
Hey, thanks for the question.
Tucker H. Marshall — Chief Financial Officer
Good morning.
Max Gumport — BNP Paribas Exane — Analyst
With price increases continuing to hit the shelf and the consumer continuing to feel more of an impact from the economic environment, are you starting to see more significant signs of price elasticities or trade-down emerging in any categories? And if so, are there any similarities that these categories share?
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Max, this is Mark. I would start by highlighting that our categories are very advantaged, particularly in the fact that we have — we under-index in those categories as relative to private label. And so some of the return of share growth that you’ve seen in private label is attributable to the fact that those brands had many supply chain challenges during the pandemic and their supply chain has gotten a bit better for some of the store brands and has allowed them to recapture some of the shares that they have lost in the pandemic, but overall, our categories remain extremely strong, our brands remains strong and the fact that we provide the consumers with a number of different options across the value spectrum, consumers will continue to be able to find brands in our portfolio that meet their budget and deliver ultimately value for them. So we continue to remain very confident in our strategy and our ability to meet consumers’ needs across that spectrum.
Max Gumport — BNP Paribas Exane — Analyst
Thanks. And one follow-up. You recently reduced the SKU counts of your Smucker’s fruit spreads by 30% in order to position the business for improved profit, opportunities for growth and continued category leadership. You mentioned in your prepared remarks that velocities are up 40%. Can you discuss what other impacts you’ve seen from this adjustment so far?
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Well, first, I’d actually like to thank you for highlighting that. That is obviously our namesake business, of course, it’s not our largest business. But over the years, we’ve had a very significant proliferation of SKUs and as we looked at that business and got much more strategic about it, realized that we stand to benefit from a significant optimization of the portfolio and basically what you said, came true, is that we reduced our SKU count and we saw significant flow back into our core items which has benefited both topline and bottom line and again, it ultimately comes back to a strategy of being focused.
Operator
Thank you. We’ve reached end of our question-and-answer session. I’d like to turn the floor back over to management for any further or closing comments.
Mark T. Smucker — Chair of the Board, President and Chief Executive Officer
Well, first of all, I’d like to thank everyone for taking the time on a holiday week early on a Monday morning for being with us, just really appreciative of the fact that we’ve had another very strong quarter and that’s a tribute to our employees who at the end of the day are responsible for our results and execute tirelessly every day and with a lot of passion. So I really want to thank them for the great results. And then we really look forward to seeing all of you on our Investor Day which is Wednesday, December 14 in New York. So, for any additional details, you can reach out to Aaron. We wish all of you a very happy Thanksgiving and a great holiday week, have a great day.
Operator
[Operator Closing Remarks]