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CQB > SEC Filings for CQB > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for CHIQUITA BRANDS INTERNATIONAL INC | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for CHIQUITA BRANDS INTERNATIONAL INC


9-Nov-2012

Quarterly Report


Item 2 - Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
2012 is a year of transformation for Chiquita. We relocated our headquarters and consolidated management and administrative functions to be more efficient and improve the speed of decision-making. We changed our leadership and restructured our business to become a high-volume, low cost operator focusing on our core banana and salads businesses. In connection with these plans, we are reducing costs by eliminating 300 positions worldwide, limiting our consumer marketing activities, deploying efficiency and productivity initiatives in our value chain, and re-evaluating businesses and activities that are not central to our new strategy to focus on our core bananas and salads businesses. We expect these initiatives to result in annual savings of at least $60 million. The combined cost of these restructuring and relocation activities totaled $22 million and $33 million before taxes for the quarter and nine months ended September 30, 2012, respectively. We expect approximately $4 million of additional restructuring expense primarily related to severance in the fourth quarter of 2012, and approximately $2 million of additional expense primarily related to relocation, recruiting and other costs through 2013.
In the third quarter of 2012, lower overall banana industry production in Ecuador resulted in relatively balanced supply and demand in our core markets during a period when supply has typically exceeded demand. This led to stronger local pricing in European and Mediterranean markets than expected leading into the quarter, but did not overcome the lower average European exchange rates compared to the third quarter of 2011. Exchange rates adversely affected pricing by $21 million and $48 million in the quarter and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. We expect fourth quarter exchange rates to continue to negatively affect pricing comparisons to 2011. In June and July 2012, we increased our hedging coverage to reduce our exposure to further declines in the value of the euro. In the nine months ended September 30, 2012, pricing remained lower than the prior year period in each of our markets, as local European pricing improvements did not overcome lower average European exchange rates and the force majeure surcharge that was in effect for the first half of 2011 in North America did not recur in 2012; the 2011 surcharge was in place to recover higher sourcing costs that began in the fourth quarter of 2010. Base contract pricing for banana sales in North America was also below 2011 pricing.
Our salads business continues to reflect manufacturing and selling, general and administrative cost savings from our realignment of the overhead structure and innovation functions in the third quarter of 2011 and reduced spending for marketing and innovation. These cost reductions more than offset the effect of lower volumes of retail value-added salads, which were a result of 2011 customer conversions to competitor's private label products. However, volume remains the most important driver to grow the margins of the salads business, and in late 2011, we announced plans to expand our organic product offerings and to begin offering private label and whole-head lettuce products to be a complete salad supplier to our customers. We can offer these additional products using existing sourcing, manufacturing and distribution capacity. Most salad supply arrangements are multi-year contracts, and we do not expect to see growth from these new plans until 2013, including a key contract win for private label retail value-added salads beginning in the first quarter of 2013. We also remain on schedule in the construction of a new, more efficient and more automated salad production and warehousing facility in the Midwest that will replace three existing facilities in the region beginning in the second half of 2013. Comparisons of 2012 to 2011 were also affected by:
Salads and Healthy Snacks segment results for the third quarter of 2012 include $28 million of losses to fully impair our equity-method investment in and to record estimates of probable cash obligations related to Danone Chiquita Fruits SAS ("Danone JV"). The Danone JV sells Chiquita-branded fruit smoothies in Europe.

Other Produce results in the second quarter of 2011 included a $32 million reserve for advances to a grower of grapes and other produce. The grower declared bankruptcy in late 2011.

Income taxes in the second quarter of 2011 included an $87 million release of valuation allowances against U.S. deferred tax assets and $6 million of income tax expense related to a settlement in Italy.

Our results are subject to significant seasonal variations and interim results are not indicative of the results of operations for the full fiscal year. Generally, our results during the second half of the year are weaker than in the first half of the year due to increased availability of competing fruits and resulting lower banana prices, as well as seasonally lower consumption of salads in the fourth quarter. For a further description of our challenges and risks, see the Overview section of "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Part I - Item 1A - Risk Factors" in our 2011 Annual Report on Form 10-K, "Part II - Item 1A - Risk Factors" in this Form 10-Q and discussion below.


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Operations
                            Quarter ended September 30,       Nine months ended September 30,
(In millions)                 2012              2011              2012                2011
Net sales:
Bananas                            $446              $453             $1,499             $1,548
Salads and Healthy Snacks       240               240               729                   731
Other Produce                    28                30               112                   139
                                   $714              $723             $2,341             $2,418
Cost of sales:
Bananas                            $391              $394             $1,300             $1,263
Salads and Healthy Snacks       216               212               638                   632
Other Produce                    33                31               125                   141
Corporate costs                   3                 3                 9                     8
                                   $643              $640             $2,072             $2,044
Operating income (loss):
Bananas                            $(2)                $7                $46               $122
Salads and Healthy Snacks       (27 )              (3 )             (17 )                   7
Other Produce                    (3 )              (2 )             (13 )                 (38 )
Corporate Costs                 (34 )             (13 )             (66 )                 (45 )
                                  $(66)             $(10)              $(49)                $46

Tables may not total or recalculate due to rounding.
CONSOLIDATED NET SALES, COST OF SALES AND OPERATING INCOME Net sales declined on a consolidated basis by 1.2% and 3.2% in the quarter and nine months ended September 30, 2012, respectively, compared to the same periods in 2011 primarily as a result of lower banana pricing in both North America and on a U.S. dollar basis in Europe. Lower average European exchange rates more than offset local pricing improvements in Europe, and we expect year-over-year European pricing comparisons to remain challenging based on 2012 exchange rates that are anticipated to be significantly below 2011 rates. We increased hedging coverage through 2013 to reduce our exposure to further declines in the value of the euro. Further discussion of hedging can be found under the caption Item 3 - Quantitative and Qualitative Disclosures About Market Risk below. North American banana pricing in 2011 included a force majeure surcharge from late January 2011 until the end of June 2011 to recover higher sourcing costs that began in the fourth quarter of 2010; the surcharge did not recur in 2012. Additionally, base contract pricing for banana sales in North America was below the 2011 pricing. Increases in value-added salad sales to foodservice customers and sales of healthy snacks offset reductions in retail value-added salad volume, which are a result of 2011 customer conversions to competitors' private label products. Additionally, a change in standard contract language in the second half of 2011 for certain other produce sales in Europe resulted in net recognition of commission revenue as an agent, whereas in the first half of 2011 and prior we recognized gross sales and gross cost of sales as a principal. Additional detail of the variance is included in the segment discussion below.
Cost of sales increased on a consolidated basis by 0.4% and 1.4% in the quarter and nine months ended September 30, 2012, compared to the same periods in 2011 primarily as a result of increased sourcing and logistics costs that include fuel costs net of hedging, purchased fruit costs, and materials cost. In the third quarter of 2011, we implemented a new shipping configuration that reduced our total expected bunker fuel consumption and the ports where bunker fuel is purchased. As a result of these changes in bunker fuel purchasing, accounting standards required us to recognize $12 million of unrealized fuel hedging gains in the third quarter of 2011 for hedge positions originally intended to hedge fuel purchases in future periods. Additionally, bunker fuel forward contracts that were in excess of our expected core fuel demand were sold and gains of $2 million were realized. See Note 7 to the Condensed Consolidated Financial Statements and below under the caption Item 3 - Quantitative and Qualitative Disclosures About Market Risk for further information on hedging. Additional detail of the cost of sales variance is included in the segment discussion below.


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Operating income decreased on a consolidated basis in the quarter and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. Relocation and restructuring costs were $22 million and $33 million in the quarter and nine months ended September 30, 2012, respectively. Losses to impair our equity-method investment in and to record estimates of probable cash obligations to the Danone JV were $28 million in the third quarter of 2012 results of the Salads and Healthy Snacks Segment. The second quarter of 2011 includes a $32 million reserve in the Other Produce segment for grower advances to a grower of grapes and other produce in Chile. Aside from these items, 2012 operating results declined from 2011 primarily as a result of lower banana pricing in North American and European markets particularly as a result of lower average European exchange rates and the first half of 2011 North American force majeure surcharge that did not recur in 2012. Our salads business continues to reflect manufacturing and selling, general and administrative cost savings from our realignment of the overhead structure and innovation functions in the third quarter of 2011 and reduced spending for marketing and innovation. These cost reductions more than offset the effect of lower volumes of retail value-added salads, which were a result of 2011 customer conversions to competitors' private label products. Additional detail of the variances in operating income are included in the segment discussion below.
REPORTABLE SEGMENTS
We report three business segments: Bananas; Salads and Healthy Snacks; and Other Produce. Segment descriptions and results can be found in Note 13 to the Condensed Consolidated Financial Statements. Certain corporate expenses are not allocated to the reportable segments and are included in "Corporate costs," including costs related to the relocation of the company's headquarters and restructuring activities described in Note 2 to the Condensed Consolidated Financial Statements. Inter-segment transactions are eliminated.

BANANA SEGMENT
Net sales for the segment were $446 million and $453 million for the third
quarters of 2012 and 2011, respectively, and $1.5 billion for each of the nine
months ended September 30, 2012 and 2011. Significant increases (decreases) in
segment net sales compared to the year-ago period were as follows:
(In millions)                                           Q3            YTD
Pricing, including the force majeure surcharge
during the first half of 2011 in North America     $       15     $      (24 )
Volume                                                     (5 )           16
Average European exchange rates1                          (21 )          (48 )
Other                                                       4              7
Change in Banana segment net sales                 $       (7 )   $      (49 )

1 Average European exchange rates include the effect of hedging, which was an expense of $1 million for the third quarter of 2012 and less than $1 million for the third quarter of 2011, and a benefit (expense) of $3 million and $(3) million for the nine months ended September 30, 2012 and 2011, respectively.

Cost of sales in the Banana segment was $391 million and $394 million for the third quarters of 2012 and 2011, respectively, and $1.3 billion for each of the nine months ended September 30, 2012 and 2011, respectively. Significant increases (decreases) in segment cost of sales compared to the year-ago period were as follows:

(In millions)                                          Q3      YTD
Volume                                               $ (3 )   $ 23
Sourcing and logistics costs                            5       12
Average European exchange rates                       (11 )    (10 )
Acceleration of losses on ship sublease arrangements    -        6
Tariffs                                                (1 )     (4 )
Absence of 2011 gains on asset sales                    5        5
Other                                                   2        5
Change in Banana segment cost of sales               $ (3 )   $ 37


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Sourcing costs include costs of purchased fruit, which were higher in 2012 than in 2011. Logistics costs are significantly affected by fuel prices, and include the effect of bunker fuel hedges, which was a benefit of $4 million and $24 million for the third quarters of 2012 and 2011, respectively and a benefit of $13 million and $41 million for the nine months ended September 30, 2012 and 2011. In third quarter of 2011, we implemented a new European shipping configuration that partially offset other increases in sourcing and logistics costs. The new configuration involves shipment of part of our core volume in container equipment on board third-parties' container ships. This container capacity is more flexible than leasing entire ships, which is expected to primarily benefit the second half of the year, when volume demand is typically lower. These changes reduced our total expected bunker fuel purchases and the ports where bunker fuel is purchased, and accounting standards required us to recognize $12 million of unrealized fuel hedging gains in the third quarter of 2011 for hedge positions originally intended to hedge fuel purchases in future periods. Additionally, bunker fuel forward contracts that were in excess of our expected core fuel demand were sold and gains of $2 million were realized. See Note 7 to the Condensed Consolidated Financial Statements for further description of our hedging program. Also as a result of the shipping reconfiguration, five chartered cargo ships have been subleased until the end of 2012; two subleases began in December 2011, and three began in the first quarter of 2012. An equivalent number of ship charters will not be renewed for 2013. We accelerated $6 million of losses on the three sublease arrangements in the first quarter of 2012, net of $2 million of related deferred sale-leaseback gain amortization during the sublease period. We accelerated $4 million of losses on the other two sublease arrangements in the fourth quarter of 2011. Operating income (loss) in the Banana segment was $(2) million and $7 million for the third quarters of 2012 and 2011, respectively, and $46 million and $122 million for the nine months ended September 30, 2012 and 2011, respectively. Significant increases (decreases) in segment operating income compared to the year-ago period were as follows:

(In millions)                                            Q3       YTD
Change in Banana segment net sales from above          $ (7 )   $ (49 )
Change in Banana segment cost of sales from above         3       (37 )
Marketing investment                                      3        12
Allowance for doubtful accounts for a customer in Iran   (7 )      (7 )
Selling, general and administrative expenses              2         4
Other                                                    (2 )       1
Change in Banana segment operating income              $ (8 )   $ (76 )

Our primary markets are in North America and Europe, but we also have sales in the Middle East and other markets. The majority of our sales in the Middle East are in Iran under specific licenses from the U.S. government that allow sales of food products to non-sanctioned parties. These sales are in U.S. dollars and represent $31 million of "Trade receivables" on the Condensed Consolidated Balance Sheet at September 30, 2012. Even though the sales in Iran are permitted, the international sanctions against Iran are affecting the ability of Iranian customers to pay invoices within terms because it is difficult for them to obtain U.S. dollars, euros or other suitable currencies in sufficient quantity on a regular basis. Over the course of 2012, our receivable balance with these customers has increased, and we have established payment plans with each of these customers to reduce their balances. Most customers have so far been able to find acceptable methods of payment to comply with their payment plans. However, one significant customer has not, and as a result, we reserved $7 million of these receivables in the third quarter of 2012 representing balances in excess of related collateral. If this customer is able to find acceptable methods of payment to comply with its payment plan, the reserve may be reversed as appropriate. We source bananas from the Philippines for sale in the Middle East under a long term purchase contract with a former joint venture partner through 2016 with committed volumes. We continue to develop other markets for these bananas, such as Iraq, to diversify our risk in the region. However, Iran remains an important market particularly during this period of industry oversupply in the Middle East that was exacerbated by the recent closure of the Chinese market to Philippine-sourced bananas. Our banana sales volumes1 in 40-pound box equivalents were as follows:

                                                                 %
(In millions, except percentages)      Q3 2012     Q3 2011     Change     YTD 2012     YTD 2011    % Change
North America                            16.3        16.2       0.8  %       48.8         48.8       (0.1 )%
Europe and the Middle East:
Core Europe2                              8.6         9.4      (8.0 )%       29.2         30.4       (3.9 )%
Mediterranean3                            2.7         2.2      22.8  %        8.2          5.7       42.9  %
Middle East                               1.8         1.6       8.1  %        5.1          4.6       10.3  %


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The following table shows year-over-year favorable (unfavorable) percentage changes in our banana prices for 2012 compared to 2011:

                     Q3        YTD
North America4     (2.2 )%   (8.4 )%
Core Europe:2
U.S. Dollar Basis5 (3.3 )%   (6.4 )%
Local currency      8.4  %    2.0  %
Mediterranean3     30.4  %    2.3  %
Middle East         1.8  %    2.5  %

1 Volume sold represents all banana varieties, including Chiquita to Go, Chiquita minis, organic bananas and plantains.

2 Core Europe includes the 27 member states of the European Union, Switzerland, Norway and Iceland. Banana sales in Core Europe are primarily in euros but also include other European currencies.

3 Mediterranean markets are mainly European and Mediterranean countries that do not belong to the European Union.

4 North America pricing includes fuel-related and other surcharges.

5 Prices on a U.S. dollar basis exclude the effect of hedging.

To minimize the volatility that changes in fuel prices could have on the operating results of our core shipping operations, we use hedging instruments (derivatives) to lock in prices of future bunker fuel purchases for up to three years in the future. We also use hedging instruments to reduce the negative cash flow and earnings effect that any significant decline in the value of the euro would have on the conversion of euro-based revenue into U.S. dollars for up to 18 months in the future. Exchange rates adversely affected pricing in 2012 compared to 2011, and we expect year-over-year European pricing comparisons to remain challenging based on 2012 exchange rates that are anticipated to be significantly below 2011 rates. Exchange rates affected pricing by $21 million and $48 million in the quarter and nine months ended September 30, 2012, respectively, net of hedging. In June and July 2012 we increased hedging coverage through 2013 to reduce our exposure to further declines in the value of the euro. Further discussion of hedging risks and instruments can be found under the caption Item 3 - Quantitative and Qualitative Disclosures About Market Risk below and Note 7 to the Condensed Consolidated Financial Statements. The average spot and hedged euro exchange rates were as follows:

(Dollars per euro)                   Q3 2012       Q3 2011     % Change      YTD 2012       YTD 2011     % Change
Euro average exchange rate, spot   $    1.25     $    1.42      (12.0 )%   $     1.28     $     1.40       (8.6 )%
Euro average exchange rate, hedged      1.24          1.41      (12.1 )%         1.29           1.39       (7.2 )%

EU Banana Import Regulation. From 2006 through 2010, bananas imported into the European Union ("EU") from Latin America, our primary source of fruit, were subject to a tariff of 176 per metric ton, while bananas imported from African, Caribbean and Pacific sources continue to enter the EU tariff-free (since January 2008 in unlimited quantities). In 2009, the EU and 11 Latin American countries reached the World Trade Organization ("WTO") Geneva Agreement on Trade in Bananas ("GATB"), under which the EU agreed to reduce tariffs on Latin American bananas annually, ending with a rate of 114 per metric ton by 2019. The GATB resulted in tariff rates per metric ton of 143 and 136 in 2011 and 2012, respectively. The GATB still needs to be formalized in the WTO. The EU also signed a WTO agreement with the United States, under which it agreed not to reinstate WTO-illegal tariff quotas or licenses on banana imports. In another regulatory development, in June 2012, the EU signed free trade area ("FTA") agreements with (i) Colombia and Peru and (ii) the Central American countries. Under both FTA agreements, the EU committed to reduce its banana tariff to 75 per metric ton over ten years for specified volumes of banana exports from each of the countries covered by these FTAs, and further required that the banana volumes assigned to each country under the Central American FTA be administered through export licenses. The agreements are currently scheduled to be approved by the European Council and ratified by the European Parliament and Latin American legislatures by late 2012 or early 2013. Because the approval procedures and implementation arrangements remain unsettled, it is unclear when, or whether, these FTAs will be implemented, and what, if any, effect they will have on our operations.


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SALADS AND HEALTHY SNACKS SEGMENT
Net sales for the Salads and Healthy Snacks segment were $240 million for each
of the quarters ended September 30, 2012 and 2011, respectively, and $729
million and $731 million for the nine months ended September 30, 2012 and 2011,
respectively. Significant increases (decreases) in segment net sales compared to
the year-ago period were as follows:
(In millions)                                           Q3      YTD
Pricing:
Retail value-added salads                             $ (6 )   $ (6 )
Healthy snacks, foodservice and other                    -       (4 )
Volume:
Retail value-added salads                               (6 )    (26 )
Healthy snacks, foodservice and other                   11       31
Mix:
Retail value-added salads                               (1 )     (1 )
Healthy snacks, foodservice and other                   (4 )     (8 )
Other                                                    6       12
Change in Salads and Healthy Snacks segment net sales $  -     $ (2 )

Cost of sales in the Salads and Healthy Snacks segment were $216 million and $212 million for the third quarters of 2012 and 2011, respectively, and $638 million and $632 million for the nine months ended September 30, 2012 and 2011, respectively. Significant increases (decreases) in segment cost of sales compared to the year-ago period were as follows:

(In millions)                                               Q3       YTD
Volume:
Retail value-added salads                                 $ (4 )   $ (16 )
Healthy snacks, foodservice and other                       10        30
Mix:
Retail value-added salads                                   (1 )      (1 )
Healthy snacks, foodservice and other                        -         5
Industry input and manufacturing costs:
Retail value-added salads                                   (1 )       8
Healthy snacks, foodservice and other                       (2 )     (13 )
Quality-related and manufacturing disruption costs           -        (5 )
Other                                                        2        (2 )
Change in Salads and Healthy Snacks segment cost of sales $  4     $   6

We were able to reduce commodity, manufacturing and quality costs through harvesting and manufacturing process improvements together with improved first quarter raw product yields and quality. We realized cost savings from our realignment of the overhead structure and innovation functions in the third quarter of 2011, and we reduced our marketing investment in 2012. In the first quarter of 2012, the warm weather in the Yuma growing region improved raw product yields and quality and combined with process improvements to significantly reduce quality costs in the first and second quarters of 2012 compared to the year-ago periods. The first quarter of 2012 also included costs of $1 million ($1 million, net of tax), primarily related to inventory write-offs, to exit healthy snacking products that were not sufficiently profitable. The reduction in quality-related and manufacturing disruption costs is expected to continue to favorably affect comparisons to 2011.


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