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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2019
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period
from ______to_______

Commission file number 1-183
 
THE HERSHEY COMPANY
(Exact name of registrant as specified in its charter)
    
Delaware
 
23-0691590
(State or other jurisdiction of incorporation
or organization)
 
(I.R.S. Employer Identification No.)
19 East Chocolate Avenue, Hershey, PA
17033
(Address of principal executive offices)
(Zip Code)
717-534-4200
(Registrant’s telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
x
 
Accelerated filer
¨
 
Smaller reporting company
¨
 
 
 
 
 
 
 
 
 
 
Non-accelerated filer
¨
(Do not check if a smaller reporting company)
 
Emerging growth company
¨
 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No  x

Indicate the number of shares outstanding of each of the registrant’s classes of common stock as of the latest practicable date.
Common Stock, one dollar par value—148,185,733 shares, as of April 19, 2019.
Class B Common Stock, one dollar par value—60,613,777 shares, as of April 19, 2019.









THE HERSHEY COMPANY
Quarterly Report on Form 10-Q
For the Period Ended March 31, 2019

TABLE OF CONTENTS

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 






PART I — FINANCIAL INFORMATION
Item 1. Financial Statements.
THE HERSHEY COMPANY
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
 (unaudited)
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Net sales
 
$
2,016,488

 
$
1,971,959

Cost of sales
 
1,123,984

 
997,899

Gross profit
 
892,504

 
974,060

Selling, marketing and administrative expense
 
453,573

 
485,324

Business realignment costs
 
62

 
8,224

Operating profit
 
438,869

 
480,512

Interest expense, net
 
37,458

 
29,339

Other (income) expense, net
 
5,477

 
1,942

Income before income taxes
 
395,934

 
449,231

Provision for income taxes
 
92,053

 
98,512

Net income including noncontrolling interest
 
303,881

 
350,719

Less: Net (loss) income attributable to noncontrolling interest
 
(477
)
 
516

Net income attributable to The Hershey Company
 
$
304,358

 
$
350,203

 
 
 
 
 
Net income per share—basic:
 
 
 
 
Common stock
 
$
1.49

 
$
1.71

Class B common stock
 
$
1.36

 
$
1.55

 
 
 
 
 
Net income per share—diluted:
 
 
 
 
Common stock
 
$
1.45

 
$
1.65

Class B common stock
 
$
1.36

 
$
1.55

 
 
 
 
 
Dividends paid per share:
 
 
 
 
Common stock
 
$
0.722

 
$
0.656

Class B common stock
 
$
0.656

 
$
0.596


See Notes to Unaudited Consolidated Financial Statements.




THE HERSHEY COMPANY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
(unaudited)

 
 
For the three months ended
 
 
March 31, 2019
 
April 1, 2018
 
 
Pre-Tax Amount
 
Tax (Expense) Benefit
 
After-Tax Amount
 
Pre-Tax Amount
 
Tax (Expense) Benefit
 
After-Tax Amount
Net income including noncontrolling interest
 
 
 
 
 
$
303,881

 
 
 
 
 
$
350,719

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
 
 
 
 
 
Foreign currency translation adjustments:
 
 
 
 
 
 
 
 
 
 
 
 
Foreign currency translation gains (losses) during period
 
$
3,428

 
$

 
3,428

 
$
(1,267
)
 
$

 
(1,267
)
Pension and post-retirement benefit plans:
 
 
 
 
 
 
 
 
 
 
 
 
Reclassification of tax effects relating to U.S. tax reform
 

 

 

 

 
(36,535
)
 
(36,535
)
Reclassification to earnings
 
6,718

 
(1,807
)
 
4,911

 
5,097

 
(1,025
)
 
4,072

Cash flow hedges:
 
 
 
 
 
 
 
 
 
 
 
 
Gains (losses) on cash flow hedging derivatives
 
(789
)
 
718

 
(71
)
 
4,245

 
(990
)
 
3,255

Reclassification of tax effects relating to U.S. tax reform
 

 

 

 

 
(11,121
)
 
(11,121
)
Reclassification to earnings
 
1,438

 
(891
)
 
547

 
2,260

 
(609
)
 
1,651

Total other comprehensive income (loss), net of tax
 
$
10,795

 
$
(1,980
)
 
8,815

 
$
10,335

 
$
(50,280
)
 
(39,945
)
Total comprehensive income including noncontrolling interest
 
 
 
 
 
$
312,696

 
 
 
 
 
$
310,774

Comprehensive income attributable to noncontrolling interest
 
 
 
 
 
78

 
 
 
 
 
1,300

Comprehensive income attributable to The Hershey Company
 
 
 
 
 
$
312,618

 
 
 
 
 
$
309,474


See Notes to Unaudited Consolidated Financial Statements.


4



THE HERSHEY COMPANY
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
 
 
March 31, 2019
 
December 31, 2018
 
 
(unaudited)
 
 
ASSETS
 
 
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
465,965

 
$
587,998

Accounts receivable—trade, net
 
694,136

 
594,145

Inventories
 
791,289

 
784,879

Prepaid expenses and other
 
265,539

 
272,159

Total current assets
 
2,216,929

 
2,239,181

Property, plant and equipment, net
 
2,108,075

 
2,130,294

Goodwill
 
1,803,601

 
1,801,103

Other intangibles
 
1,267,833

 
1,278,292

Other assets
 
459,754

 
252,984

Deferred income taxes
 
1,184

 
1,166

Total assets
 
$
7,857,376

 
$
7,703,020

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
500,633

 
$
502,314

Accrued liabilities
 
650,657

 
679,163

Accrued income taxes
 
74,562

 
33,773

Short-term debt
 
1,168,780

 
1,197,929

Current portion of long-term debt
 
3,553

 
5,387

Total current liabilities
 
2,398,185

 
2,418,566

Long-term debt
 
3,236,317

 
3,254,280

Other long-term liabilities
 
618,133

 
446,048

Deferred income taxes
 
181,381

 
176,860

Total liabilities
 
6,434,016

 
6,295,754

 
 
 
 
 
Stockholders’ equity:
 
 
 
 
The Hershey Company stockholders’ equity
 
 
 
 
Preferred stock, shares issued: none in 2019 and 2018
 

 

Common stock, shares issued: 299,287,967 at March 31, 2019 and December 31, 2018
 
299,287

 
299,287

Class B common stock, shares issued: 60,613,777 at March 31, 2019 and December 31, 2018
 
60,614

 
60,614

Additional paid-in capital
 
996,181

 
982,205

Retained earnings
 
7,193,240

 
7,032,020

Treasury—common stock shares, at cost: 151,275,897 at March 31, 2019 and 150,172,840 at December 31, 2018
 
(6,786,065
)
 
(6,618,625
)
Accumulated other comprehensive loss
 
(348,520
)
 
(356,780
)
Total—The Hershey Company stockholders’ equity
 
1,414,737

 
1,398,721

Noncontrolling interest in subsidiary
 
8,623

 
8,545

Total stockholders’ equity
 
1,423,360

 
1,407,266

Total liabilities and stockholders’ equity
 
$
7,857,376

 
$
7,703,020


See Notes to Unaudited Consolidated Financial Statements.


5



THE HERSHEY COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
Three Months Ended
 
March 31, 2019
 
April 1, 2018
Operating Activities
 
 
 
Net income including noncontrolling interest
$
303,881

 
$
350,719

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
72,329

 
74,416

Stock-based compensation expense
10,556

 
10,458

Deferred income taxes
1,300

 
2,521

Write-down of equity investments
1,152

 
434

Other
8,497

 
9,055

Changes in assets and liabilities, net of business acquisitions and divestitures:
 
 
 
Accounts receivable—trade, net
(99,991
)
 
(9,882
)
Inventories
(6,410
)
 
(11,266
)
Prepaid expenses and other current assets
(8,740
)
 
7,309

Accounts payable and accrued liabilities
(2,798
)
 
(146,623
)
Accrued income taxes
56,282

 
82,231

Contributions to pension and other benefit plans
(4,661
)
 
(7,449
)
Other assets and liabilities
(1,437
)
 
(9,866
)
Net cash provided by operating activities
329,960

 
352,057

Investing Activities
 
 
 
Capital additions (including software)
(92,814
)
 
(60,133
)
Proceeds from sales of property, plant and equipment and other long-lived assets
75

 
112

Equity investments in tax credit qualifying partnerships
(18,884
)
 
(6,281
)
Business acquisitions, net of cash and cash equivalents acquired

 
(915,457
)
Net cash used in investing activities
(111,623
)
 
(981,759
)
Financing Activities
 
 
 
Net (decrease) increase in short-term debt
(28,990
)
 
1,686,816

Long-term borrowings
1,370

 

Repayment of long-term debt and finance leases
(3,135
)
 
(607,922
)
Repayment of tax receivable obligation

 
(42,500
)
Cash dividends paid
(146,463
)
 
(134,300
)
Repurchase of common stock
(198,500
)
 
(178,073
)
Exercise of stock options
34,573

 
1,884

Net cash (used in) provided by financing activities
(341,145
)
 
725,905

Effect of exchange rate changes on cash and cash equivalents
775

 
52

(Decrease) Increase in cash and cash equivalents
(122,033
)
 
96,255

Cash and cash equivalents, beginning of period
587,998

 
380,179

Cash and cash equivalents, end of period
$
465,965

 
$
476,434

Supplemental Disclosure
 
 
 
Interest paid
$
35,271

 
$
38,323

Income taxes paid
28,733

 
12,817


See Notes to Unaudited Consolidated Financial Statements.


6



THE HERSHEY COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(in thousands)
(unaudited)

 
Preferred
Stock
 
Common
Stock
 
Class B
Common
Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Treasury
Common
Stock
 
Accumulated Other
Comprehensive
Income (Loss)
 
Noncontrolling
Interests in
Subsidiaries
 
Total
Stockholders’
Equity
Balance, December 31, 2018
 

 
299,287

 
60,614

 
982,205

 
7,032,020

 
(6,618,625
)
 
(356,780
)
 
8,545

 
1,407,266

Net income (loss)
 
 
 
 
 
 
 
 
 
304,358

 
 
 
 
 
(477
)
 
303,881

Other comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
 
8,260

 
555

 
8,815

Dividends (including dividend equivalents):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common Stock, $0.722 per share
 
 
 
 
 
 
 
 
 
(107,288
)
 
 
 
 
 
 
 
(107,288
)
Class B Common Stock, $0.656 per share
 
 
 
 
 
 
 
 
 
(39,763
)
 
 
 
 
 
 
 
(39,763
)
Stock-based compensation
 
 
 
 
 
 
 
10,463

 
 
 
 
 
 
 
 
 
10,463

Exercise of stock options and incentive-based transactions
 
 
 
 
 
 
 
3,513

 
 
 
31,060

 
 
 
 
 
34,573

Repurchase of common stock
 
 
 
 
 
 
 
 
 
 
 
(198,500
)
 
 
 
 
 
(198,500
)
Impact of ASU 2016-02 related to leases
 
 
 
 
 
 
 
 
 
3,913

 
 
 
 
 
 
 
3,913

Balance, March 31, 2019
 
$

 
$
299,287

 
$
60,614

 
$
996,181

 
$
7,193,240

 
$
(6,786,065
)
 
$
(348,520
)
 
$
8,623

 
$
1,423,360


 
 
Preferred
Stock
 
Common
Stock
 
Class B
Common
Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Treasury
Common
Stock
 
Accumulated Other
Comprehensive
Income (Loss)
 
Noncontrolling
Interests in
Subsidiaries
 
Total
Stockholders’
Equity
Balance, December 31, 2017
 

 
299,281

 
60,620

 
924,978

 
6,371,082

 
(6,426,877
)
 
(313,746
)
 
16,227

 
931,565

Net income
 
 
 
 
 
 
 
 
 
350,203

 
 
 
 
 
516

 
350,719

Other comprehensive income
 
 
 
 
 
 
 
 
 
 
 
 
 
6,927

 
784

 
7,711

Dividends (including dividend equivalents):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common Stock, $0.656 per share
 
 
 
 
 
 
 
 
 
(98,495
)
 
 
 
 
 
 
 
(98,495
)
Class B Common Stock, $0.596 per share
 
 
 
 
 
 
 
 
 
(36,130
)
 
 
 
 
 
 
 
(36,130
)
Stock-based compensation
 
 
 
 
 
 
 
10,474

 
 
 
 
 
 
 
 
 
10,474

Exercise of stock options and incentive-based transactions
 
 
 
 
 
 
 
(9,487
)
 
 
 
11,371

 
 
 
 
 
1,884

Repurchase of common stock
 
 
 
 
 
 
 
 
 
 
 
(178,073
)
 
 
 
 
 
(178,073
)
Reclassification of tax effects relating to U.S. tax reform
 
 
 
 
 
 
 
 
 
47,656

 
 
 
(47,656
)
 
 
 

Balance, April 1, 2018
 
$

 
$
299,281

 
$
60,620

 
$
925,965

 
$
6,634,316

 
$
(6,593,579
)
 
$
(354,475
)
 
$
17,527

 
$
989,655



See Notes to Unaudited Consolidated Financial Statements.


7

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(amounts in thousands, except share data or if otherwise indicated)




1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The unaudited consolidated financial statements provided in this report include the accounts of The Hershey Company (the “Company,” “Hershey,” “we” or “us”) and our majority-owned subsidiaries and entities in which we have a controlling financial interest after the elimination of intercompany accounts and transactions. We have a controlling financial interest if we own a majority of the outstanding voting common stock and the noncontrolling shareholders do not have substantive participating rights, or we have significant control over an entity through contractual or economic interests in which we are the primary beneficiary.
The financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial reporting and with the rules and regulations for reporting on Form 10-Q. Accordingly, they do not contain certain information and disclosures required by GAAP for comprehensive financial statements. The financial statements reflect all adjustments which are, in our opinion, necessary for a fair presentation of the results of operations, financial position, and cash flows for the indicated periods.
Operating results for the quarter ended March 31, 2019 may not be indicative of the results that may be expected for the year ending December 31, 2019 because of seasonal effects on our business. These financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2018 (our “2018 Annual Report on Form 10-K”), which provides a more complete understanding of our accounting policies, financial position, operating results and other matters.
Recent Accounting Pronouncements
Recently Adopted Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2016-02, Leases (Topic 842). This ASU requires lessees to recognize most leases on their balance sheets as lease liabilities with corresponding right-of-use ("ROU") assets.  The Company adopted the standard as of January 1, 2019, using a modified retrospective approach and applying the standard’s transition provisions at January 1, 2019, the effective date.
We elected the package of practical expedients permitted under the transition guidance, which among other things, allows us to carryforward the historical lease classification.  In addition, we made accounting policy elections to combine the lease and non-lease components for asset categories that support selling, marketing and general administrative activities. These asset categories comprise the majority of our leases. Finally, we made elections to exclude from balance sheet reporting those leases with initial terms of 12 months or less.
Adoption of the new standard resulted in the recording of operating lease ROU assets and lease liabilities of $227,258 and $216,966, respectively, with the difference largely due to prepaid and deferred rent that were reclassified to the ROU asset value. In addition, we derecognized a build-to-suit arrangement in accordance with the transition requirements, which resulted in an adjustment to retained earnings of $3,913. The standard did not materially affect our consolidated net income or cash flows. See Note 7 for further details.
In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities, which amends ASC 815. The purpose of this ASU is to better align accounting rules with a company’s risk management activities and financial reporting for hedging relationships, better reflect economic results of hedging in financial statements, simplify hedge accounting requirements and improve the disclosures of hedging arrangements. We adopted the provisions of this ASU in the first quarter of 2019 using a modified retrospective approach. Adoption of the new standard did not have a material impact on our consolidated financial statements.


8

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

In June 2018, the FASB issued ASU No. 2018-07, Compensation – Stock Compensation (Topic 718), Improvements to Nonemployee Share-Based Payment Accounting. This ASU is intended to simplify aspects of share-based compensation issued to non-employees by making the guidance consistent with accounting for employee share-based compensation. We adopted the provisions of this ASU in the first quarter of 2019. Adoption of the new standard did not have a material impact on our consolidated financial statements.
In February 2018, the FASB issued ASU No. 2018-02, Income Statement-Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. This ASU permits a company to reclassify the income tax effects of the 2017 Tax Cuts and Jobs Act (“U.S. tax reform”) on items within AOCI to retained earnings. We adopted the provisions of this ASU in the first quarter of 2018. We elected to reclassify the income tax effects of U.S. tax reform from items in AOCI as of January 1, 2018 so that the tax effects of items within AOCI are reflected at the appropriate tax rate. The impact of the reclassification resulted in a $47,656 decrease to AOCI and a corresponding increase to retained earnings.
Recently Issued Accounting Pronouncements Not Yet Adopted
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU modifies the measurement of expected credit losses of certain financial instruments. ASU 2016-13 is effective for annual periods beginning after December 15, 2019 and interim periods within those annual periods. The amendments in this ASU should be applied on a modified retrospective basis to all periods presented. We are currently evaluating the effect that ASU 2016-13 will have on our consolidated financial statements and related disclosures.
In August 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement (Topic 820), Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. This ASU modifies the disclosure requirements for fair value measurements by removing, modifying or adding certain disclosures. ASU 2018-13 is effective for annual periods beginning after December 15, 2019 and interim periods within those annual periods, with early adoption permitted. The amendments on changes in unrealized gains and losses, the range and weighted average of significant unobservable inputs used to develop Level 3 fair value measurements, and the narrative description of measurement uncertainty should be applied prospectively for only the most recent interim or annual period presented in the initial fiscal year of adoption. All other amendments should be applied retrospectively to all periods presented upon their effective date. We are currently evaluating the effect that ASU 2018-13 will have on our consolidated financial statements and related disclosures.
In August 2018, the FASB issued ASU No. 2018-14, Compensation—Retirement Benefits—Defined Benefit Plans—General (Topic 715-20): Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans, which modifies the disclosure requirements for defined benefit pension plans and other post-retirement plans. ASU 2018-14 is effective for annual periods beginning after December 15, 2020, with early adoption permitted. The amendments in this ASU should be applied on a retrospective basis to all periods presented. We are currently evaluating the effect that ASU 2018-14 will have on our consolidated financial statements and related disclosures.
In August 2018, the FASB issued ASU No. 2018-15, Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40), Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. This ASU aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). ASU 2018-15 is effective for annual periods beginning after December 15, 2019 and interim periods within those annual periods, with early adoption permitted. The amendments in this ASU should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. We are currently evaluating the effect that ASU 2018-15 will have on our consolidated financial statements and related disclosures.
No other new accounting pronouncement issued or effective during the fiscal year had or is expected to have a material impact on our consolidated financial statements or disclosures.


9

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

2. BUSINESS ACQUISITIONS
2018 Activity
Pirate Brands
On October 17, 2018, we completed the acquisition of Pirate Brands, which includes the Pirate's Booty, Smart Puffs and Original Tings brands, from B&G Foods, Inc. Pirate Brands offers baked, trans fat free and gluten free snacks and is available in a wide range of food distribution channels in the United States. The purchase consideration for Pirate Brands totaled $423,002 and consisted of short-term borrowings and cash on hand. Acquisition-related costs for the Pirate Brands acquisition were immaterial.

The acquisition has been accounted for as a purchase and, accordingly, Pirate Brands' results of operations have been included within the North America segment results in our consolidated financial statements since the date of acquisition. The purchase price allocation presented below has been finalized as of the end of the fourth quarter of 2018. The purchase consideration was allocated to assets acquired and liabilities assumed based on their respective fair values as follows:

Inventories
$
4,663

Plant, property and equipment, net
48

Goodwill
129,991

Other intangible assets
289,300

Accrued liabilities
(1,000
)
Net assets acquired
$
423,002



Goodwill was determined as the excess of the purchase price over the fair value of the net assets acquired (including the identifiable intangible assets). The goodwill derived from this acquisition is expected to be deductible for tax purposes and reflects the value of leveraging the Company's resources to expand the distribution locations and customer base for the Pirate Brands' products.

Other intangible assets includes trademarks valued at $272,000 and customer relationships valued at $17,300. Trademarks were assigned estimated useful lives of 45 years and customer relationships were assigned estimated useful lives ranging from 16 to 18 years.

Amplify Snack Brands, Inc.

On January 31, 2018, we completed the acquisition of all of the outstanding shares of Amplify Snack Brands, Inc. (“Amplify”), previously a publicly traded company based in Austin, Texas that owns several popular better-for-you snack brands such as SkinnyPop, Oatmega and Paqui. Amplify's anchor brand, SkinnyPop, is a market-leading ready-to-eat popcorn brand and is available in a wide range of food distribution channels in the United States. Total consideration of $968,781 included payment of $12.00 per share for Amplify's outstanding common stock (for a total of $907,766), as well as payment of Amplify's transaction related expenses, including accelerated equity compensation, consultant fees and other deal costs. The business enables us to capture more consumer snacking occasions by contributing a new portfolio of brands.

The acquisition has been accounted for as a purchase and, accordingly, Amplify's results of operations have been included within the North America segment results in our consolidated financial statements since the date of acquisition. The purchase price allocation presented below has been finalized as of the end of the fourth quarter of 2018. The purchase consideration, net of cash acquired totaling $53,324, was allocated to assets acquired and liabilities assumed based on their respective fair values as follows:


10

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Accounts receivable
$
40,763

Other current assets
34,593

Plant, property and equipment, net
67,989

Goodwill
966,389

Other intangible assets
682,000

Other non-current assets
1,049

Accounts payable
(32,394
)
Accrued liabilities
(132,519
)
Current debt
(610,844
)
Other current liabilities
(2,931
)
Non-current deferred income taxes
(93,489
)
Non-current liabilities
(5,149
)
Net assets acquired
$
915,457



In connection with the acquisition, the Company agreed to pay in full all outstanding debt owed by Amplify under its existing credit agreement as of January 31, 2018, as well as the amount due under Amplify's existing tax receivable obligation. The Company funded the acquisition and repayment of the acquired debt utilizing proceeds from the issuance of commercial paper.

Goodwill was determined as the excess of the purchase price over the fair value of the net assets acquired (including the identifiable intangible assets) and is not expected to be deductible for tax purposes. The goodwill that resulted from the acquisition is attributable primarily to cost-reduction synergies as Amplify leverages Hershey's resources, expertise and capability-building.

Other intangible assets includes trademarks valued at $648,000 and customer relationships valued at $34,000. Trademarks were assigned estimated useful lives ranging from 28 to 38 years and customer relationships were assigned estimated useful lives ranging from 14 to 18 years.

The Company incurred acquisition-related costs of $20,577 related to the acquisition of Amplify, the majority of which were incurred during the first quarter of 2018. Acquisition-related costs consisted primarily of legal fees, consultant fees, valuation fees and other deal costs and are recorded in the selling, marketing and administrative expense caption within the Consolidated Statements of Operations.
3. GOODWILL AND INTANGIBLE ASSETS
The changes in the carrying value of goodwill by reportable segment for the three months ended March 31, 2019 are as follows:
 
 
North America
 
    International and Other
 
Total
Balance at December 31, 2018
 
1,782,845

 
18,258

 
1,801,103

Foreign currency translation
 
2,286

 
212

 
2,498

Balance at March 31, 2019
 
$
1,785,131

 
$
18,470

 
$
1,803,601




11

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The following table provides the gross carrying amount and accumulated amortization for each major class of intangible asset:
 
 
March 31, 2019
 
December 31, 2018
 
 
Gross Carrying Amount
 
Accumulated Amortization
 
Gross Carrying Amount
 
Accumulated Amortization
Intangible assets subject to amortization:
 
 
 
 
 
 
 
 
Trademarks
 
$
1,174,817

 
$
(70,271
)
 
$
1,173,770

 
$
(60,995
)
Customer-related
 
164,606

 
(36,485
)
 
163,860

 
(33,516
)
Patents
 
16,478

 
(16,027
)
 
16,306

 
(15,772
)
Total
 
1,355,901

 
(122,783
)
 
1,353,936

 
(110,283
)
 
 
 
 
 
 
 
 
 
Intangible assets not subject to amortization:
 
 
 
 
 
 
 
 
Trademarks
 
34,715

 
 
 
34,639

 
 
Total other intangible assets
 
$
1,267,833

 
 
 
$
1,278,292

 
 


Total amortization expense for the three months ended March 31, 2019 and April 1, 2018 was $12,238 and $8,451, respectively.
4. SHORT AND LONG-TERM DEBT
Short-term Debt
As a source of short-term financing, we utilize cash on hand and commercial paper or bank loans with an original maturity of three months or less. We maintain a $1.4 billion unsecured revolving credit facility, which currently expires in November 2020.
The credit agreement contains certain financial and other covenants, customary representations, warranties and events of default. As of March 31, 2019, we were in compliance with all covenants pertaining to the credit agreement, and we had no significant compensating balance agreements that legally restricted these funds. For more information, refer to the Consolidated Financial Statements included in our 2018 Annual Report on Form 10-K.
In addition to the revolving credit facility, we maintain lines of credit with domestic and international commercial banks. We had short-term foreign bank loans against these lines of credit for $125,226 at March 31, 2019 and $113,189 at December 31, 2018. Commitment fees relating to our revolving credit facility and lines of credit are not material.
At March 31, 2019, we had outstanding commercial paper totaling $1,043,554, at a weighted average interest rate of 2.5%. At December 31, 2018, we had outstanding commercial paper totaling $1,084,740, at a weighted average interest rate of 2.4%.


12

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Long-term Debt
Long-term debt consisted of the following:
 
 
March 31, 2019
 
December 31, 2018

2.90% Notes due 2020
 
$
350,000

 
$
350,000

4.125% Notes due 2020
 
350,000

 
350,000

3.10% Notes due 2021
 
350,000

 
350,000

8.8% Debentures due 2021
 
84,715

 
84,715

3.375% Notes due 2023
 
500,000

 
500,000

2.625% Notes due 2023
 
250,000

 
250,000

3.20% Notes due 2025
 
300,000

 
300,000

2.30% Notes due 2026
 
500,000

 
500,000

7.2% Debentures due 2027
 
193,639

 
193,639

3.375% Notes due 2046
 
300,000

 
300,000

Finance lease liabilities
 
78,185

 
101,980

Net impact of interest rate swaps, debt issuance costs and unamortized debt discounts
 
(16,669
)
 
(20,667
)
Total long-term debt
 
3,239,870

 
3,259,667

Less—current portion
 
3,553

 
5,387

Long-term portion
 
$
3,236,317

 
$
3,254,280


Interest Expense
Net interest expense consists of the following:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Interest expense
 
$
40,663

 
$
32,853

Capitalized interest
 
(1,257
)
 
(1,299
)
Interest expense
 
39,406

 
31,554

Interest income
 
(1,948
)
 
(2,215
)
Interest expense, net
 
$
37,458

 
$
29,339


5. DERIVATIVE INSTRUMENTS
We are exposed to market risks arising principally from changes in foreign currency exchange rates, interest rates and commodity prices. We use certain derivative instruments to manage these risks. These include interest rate swaps to manage interest rate risk, foreign currency forward exchange contracts to manage foreign currency exchange rate risk, and commodities futures and options contracts to manage commodity market price risk exposures.
In entering into these contracts, we have assumed the risk that might arise from the possible inability of counterparties to meet the terms of their contracts. We mitigate this risk by entering into exchanged-traded contracts with collateral posting requirements and/or by performing financial assessments prior to contract execution, conducting periodic evaluations of counterparty performance and maintaining a diverse portfolio of qualified counterparties. We do not expect any significant losses from counterparty defaults.
Commodity Price Risk
We enter into commodities futures and options contracts and other commodity derivative instruments to reduce the effect of future price fluctuations associated with the purchase of raw materials, energy requirements and


13

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

transportation services. We generally hedge commodity price risks for 3- to 24-month periods. Our open commodity derivative contracts had a notional value of $1,166,051 as of March 31, 2019 and $693,463 as of December 31, 2018.
Derivatives used to manage commodity price risk are not designated for hedge accounting treatment. Therefore, the changes in fair value of these derivatives are recorded as incurred within cost of sales. As discussed in Note 13, we define our segment income to exclude gains and losses on commodity derivatives until the related inventory is sold, at which time the related gains and losses are reflected within segment income.  This enables us to continue to align the derivative gains and losses with the underlying economic exposure being hedged and thereby eliminate the mark-to-market volatility within our reported segment income.

Foreign Exchange Price Risk
We are exposed to foreign currency exchange rate risk related to our international operations, including non-functional currency intercompany debt and other non-functional currency transactions of certain subsidiaries. Principal currencies hedged include the euro, Canadian dollar, Japanese yen, British pound, and Brazilian real. We typically utilize foreign currency forward exchange contracts to hedge these exposures for periods ranging from 3 to 12 months. The contracts are either designated as cash flow hedges or are undesignated. The net notional amount of foreign exchange contracts accounted for as cash flow hedges was $66,330 at March 31, 2019 and $29,458 at December 31, 2018. The effective portion of the changes in fair value on these contracts is recorded in other comprehensive income and reclassified into earnings in the same period in which the hedged transactions affect earnings. The net notional amount of foreign exchange contracts that are not designated as accounting hedges was $7,933 at March 31, 2019 and $11,072 at December 31, 2018. The change in fair value on these instruments is recorded directly in cost of sales or selling, marketing and administrative expense, depending on the nature of the underlying exposure.
Interest Rate Risk
We manage our targeted mix of fixed and floating rate debt with debt issuances and by entering into fixed-to-floating interest rate swaps in order to mitigate fluctuations in earnings and cash flows that may result from interest rate volatility. These swaps are designated as fair value hedges, for which the gain or loss on the derivative and the offsetting loss or gain on the hedged item are recognized in current earnings as interest expense (income), net. We had one interest rate derivative instrument in a fair value hedging relationship with a notional amount of $350,000 at March 31, 2019 and December 31, 2018.
In order to manage interest rate exposure, in previous years we utilized interest rate swap agreements to protect against unfavorable interest rate changes relating to forecasted debt transactions. These swaps, which were settled upon issuance of the related debt, were designated as cash flow hedges and the gains and losses that were deferred in other comprehensive income are being recognized as an adjustment to interest expense over the same period that the hedged interest payments affect earnings.
Equity Price Risk
We are exposed to market price changes in certain broad market indices related to our deferred compensation obligations to our employees. To mitigate this risk, we use equity swap contracts to hedge the portion of the exposure that is linked to market-level equity returns. These contracts are not designated as hedges for accounting purposes and are entered into for periods of 3 to 12 months. The change in fair value of these derivatives is recorded in selling, marketing and administrative expense, together with the change in the related liabilities. The notional amount of the contracts outstanding at March 31, 2019 and December 31, 2018 was $23,501 and $33,168, respectively.


14

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The following table presents the classification of derivative assets and liabilities within the Consolidated Balance Sheets as of March 31, 2019 and December 31, 2018:
 
 
March 31, 2019
 
December 31, 2018
 
 
Assets (1)
 
Liabilities (1)
 
Assets (1)
 
Liabilities (1)
Derivatives designated as cash flow hedging instruments:
 
 
 
 
 
 
 
 
Foreign exchange contracts
 
$
2,065

 
$
786

 
$
3,394

 
$
485

 
 
 
 
 
 
 
 
 
Derivatives designated as fair value hedging instruments:
 
 
 
 
 
 
 
 
Interest rate swap agreements
 
504

 

 

 
4,832

 
 
 
 
 
 
 
 
 
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
 
Commodities futures and options (2)
 
5,862

 
552

 
7,230

 
262

Deferred compensation derivatives
 
3,043

 

 

 
4,736

Foreign exchange contracts
 
44

 
169

 
70

 
484

 
 
8,949

 
721

 
7,300

 
5,482

Total
 
$
11,518

 
$
1,507

 
$
10,694

 
$
10,799



(1)
Derivatives assets are classified on our balance sheet within prepaid expenses and other as well as other assets. Derivative liabilities are classified on our balance sheet within accrued liabilities and other long-term liabilities.
(2)
As of March 31, 2019, amounts reflected on a net basis in assets were assets of $94,078 and liabilities of $89,233, which are associated with cash transfers receivable or payable on commodities futures contracts reflecting the change in quoted market prices on the last trading day for the period. The comparable amounts reflected on a net basis in assets at December 31, 2018 were assets of $63,978 and liabilities of $57,351. At March 31, 2019 and December 31, 2018, the remaining amount reflected in assets and liabilities related to the fair value of other non-exchange traded derivative instruments, respectively.
Income Statement Impact of Derivative Instruments
The effect of derivative instruments on the Consolidated Statements of Income for the three months ended March 31, 2019 and April 1, 2018 was as follows:
 
 
Non-designated Hedges
 
Cash Flow Hedges
 
 
 
 
 
Gains (losses) recognized in income (a)
 
Gains (losses) recognized in other comprehensive income (“OCI”)
 
Gains (losses) reclassified from accumulated OCI into income (b)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2019
 
2018
 
2019
 
2018
 
2019
 
2018
Commodities futures and options
 
$
(26,641
)
 
$
66,590

 
$

 
$

 
$

 
$

Foreign exchange contracts
 
215

 
(152
)
 
(789
)
 
4,245

 
931

 
136

Interest rate swap agreements
 

 

 

 

 
(2,369
)
 
(2,396
)
Deferred compensation derivatives
 
3,043

 
(393
)
 

 

 

 

Total
 
$
(23,383
)
 
$
66,045

 
$
(789
)
 
$
4,245

 
$
(1,438
)
 
$
(2,260
)

(a)
Gains (losses) recognized in income for non-designated commodities futures and options contracts were included in cost of sales. Gains (losses) recognized in income for non-designated foreign currency forward exchange contracts and deferred compensation derivatives were included in selling, marketing and administrative expenses.


15

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

(b)
Gains (losses) reclassified from AOCI into income for foreign currency forward exchange contracts were included in selling, marketing and administrative expenses. Losses reclassified from AOCI into income for interest rate swap agreements were included in interest expense.
The amount of pretax net losses on derivative instruments, including interest rate swap agreements and foreign currency forward exchange contracts expected to be reclassified into earnings in the next 12 months was approximately $8,287 as of March 31, 2019. This amount is primarily associated with interest rate swap agreements.
Fair Value Hedging Relationships
The following table presents amounts that were recorded on the balance sheet related to cumulative basis adjustments for interest rate swap derivatives designated as fair value accounting hedges as of March 31, 2019 and December 31, 2018.
Line Item in the Consolidated Balance Sheet in Which the Hedged Item is Included
 
Carrying Amount of the
Hedged Asset/(Liability)
 
Cumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount Assets/(Liabilities)
 
 
March 31, 2019
 
December 31, 2018
 
March 31, 2019
 
December 31, 2018
Long-term debt
 
$
(349,496
)
 
$
(354,832
)
 
$
504

 
$
(4,832
)

For the three months ended March 31, 2019 and April 1, 2018, we recognized net incremental interest expense of $630 and a net pretax benefit to interest expense of $278 relating to our fixed-to-floating interest swap arrangements.
6. FAIR VALUE MEASUREMENTS
Accounting guidance on fair value measurements requires that financial assets and liabilities be classified and disclosed in one of the following categories of the fair value hierarchy:
Level 1 – Based on unadjusted quoted prices for identical assets or liabilities in an active market.
Level 2 – Based on observable market-based inputs or unobservable inputs that are corroborated by market data.
Level 3 – Based on unobservable inputs that reflect the entity's own assumptions about the assumptions that a market participant would use in pricing the asset or liability.

We did not have any level 3 financial assets or liabilities, nor were there any transfers between levels during the periods presented.


16

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The following table presents assets and liabilities that were measured at fair value in the Consolidated Balance Sheet on a recurring basis as of March 31, 2019 and December 31, 2018:
 
 
Assets (Liabilities)
 
 
Level 1
 
Level 2
 
Level 3
 
Total
March 31, 2019:
 
 
 
 
 
 
 
 
Derivative Instruments:
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Foreign exchange contracts (1)
 
$

 
$
2,109

 
$

 
$
2,109

Interest rate swap agreements (2)
 

 
504

 

 
504

Deferred compensation derivatives (3)
 

 
3,043

 

 
3,043

Commodities futures and options (4)
 
5,862

 

 

 
5,862

Liabilities:
 
 
 
 
 
 
 
 
Foreign exchange contracts (1)
 

 
955

 

 
955

Commodities futures and options (4)
 
552

 

 

 
552

December 31, 2018:
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
Foreign exchange contracts (1)
 
$

 
$
3,464

 
$

 
$
3,464

Commodities futures and options (4)
 
7,230

 

 

 
7,230

Liabilities:
 
 
 
 
 
 
 
 
Foreign exchange contracts (1)
 

 
969

 

 
969

Interest rate swap agreements (2)
 

 
4,832

 

 
4,832

Deferred compensation derivatives (3)
 

 
4,736

 

 
4,736

Commodities futures and options (4)
 
262

 

 

 
262


(1)
The fair value of foreign currency forward exchange contracts is the difference between the contract and current market foreign currency exchange rates at the end of the period. We estimate the fair value of foreign currency forward exchange contracts on a quarterly basis by obtaining market quotes of spot and forward rates for contracts with similar terms, adjusted where necessary for maturity differences.
(2)
The fair value of interest rate swap agreements represents the difference in the present value of cash flows calculated at the contracted interest rates and at current market interest rates at the end of the period. We calculate the fair value of interest rate swap agreements quarterly based on the quoted market price for the same or similar financial instruments.
(3)
The fair value of deferred compensation derivatives is based on quoted prices for market interest rates and a broad market equity index.
(4)
The fair value of commodities futures and options contracts is based on quoted market prices.
Other Financial Instruments
The carrying amounts of cash and cash equivalents, accounts receivable, accounts payable and short-term debt approximated fair values as of March 31, 2019 and December 31, 2018 because of the relatively short maturity of these instruments.
The estimated fair value of our long-term debt is based on quoted market prices for similar debt issues and is, therefore, classified as Level 2 within the valuation hierarchy. The fair values and carrying values of long-term debt, including the current portion, were as follows:


17

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

 
 
Fair Value
 
Carrying Value
 
 
March 31, 2019
 
December 31, 2018
 
March 31, 2019
 
December 31, 2018
Current portion of long-term debt
 
$
3,553

 
$
5,387

 
$
3,553

 
$
5,387

Long-term debt
 
3,299,257

 
3,228,877

 
3,236,317

 
3,254,280

Total
 
$
3,302,810

 
$
3,234,264

 
$
3,239,870

 
$
3,259,667


Other Fair Value Measurements
In addition to assets and liabilities that are recorded at fair value on a recurring basis, GAAP requires that, under certain circumstances, we also record assets and liabilities at fair value on a nonrecurring basis.
In connection with the acquisitions of Amplify in the first quarter of 2018 and Pirate Brands in the fourth quarter of 2018, as discussed in Note 2, we used various valuation techniques to determine fair value, with the primary techniques being discounted cash flow analysis, relief-from-royalty, and a form of the multi-period excess earnings valuation approaches, which use significant unobservable inputs, or Level 3 inputs, as defined by the fair value hierarchy.
7. LEASES
We lease office and retail space, warehouse and distribution facilities, land, vehicles, and equipment. We determine if an agreement is or contains a lease at inception. Leases with an initial term of 12 months or less are not recorded on the balance sheet.
Right-of-use ("ROU") assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. ROU assets and liabilities are based on the estimated present value of lease payments over the lease term and are recognized at the lease commencement date.
As most of our leases do not provide an implicit rate, we use our estimated incremental borrowing rate in determining the present value of lease payments. The estimated incremental borrowing rate is derived from information available at the lease commencement date.
Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. A limited number of our lease agreements include rental payments adjusted periodically for inflation. Our lease agreements generally do not contain residual value guarantees or material restrictive covenants.
For real estate, equipment and vehicles that support selling, marketing and general administrative activities the Company accounts for the lease and non-lease components as a single lease component. These asset categories comprise the majority of our leases. The lease and non-lease components of real estate and equipment leases supporting production activities are not accounted for as a single lease component. Consideration for such contracts are allocated to the lease component and non-lease components based upon relative standalone prices either observable or estimated if observable prices are not readily available.


18

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The components of lease expense for the three months ended March 31, 2019 were as follows:
 
 
 
 
Three Months Ended
Lease expense
 
Classification
 
March 31, 2019
Operating lease cost
 
Cost of sales or SM&A (1)
 
$
10,214

Finance lease cost:
 
 
 
 
Amortization of ROU assets
 
Depreciation and amortization (1)
 
1,934

Interest on lease liabilities
 
Interest expense, net
 
1,101

Net lease cost (2)
 
 
 
$
13,249

(1)
Supply chain-related amounts were included in cost of sales.
(2)
Net lease cost does not include short-term leases, variable lease costs or sublease income, all of which are immaterial.

Information regarding our lease terms and discount rates as of March 31, 2019 were as follows:
 
 
March 31, 2019
Weighted-average remaining lease term (years)
 
 
Operating leases
 
14.8

Finance leases
 
32.0

 
 
 
Weighted-average discount rate
 
 
Operating leases
 
3.9
%
Finance leases
 
6.0
%


Supplemental balance sheet information related to leases as of March 31, 2019 was as follows:
Leases
 
Classification
 
March 31, 2019
Assets
 
 
 
 
Operating lease ROU assets
 
Other assets (non-current)
 
$
219,138

 
 
 
 
 
Finance lease ROU assets, at cost
 
Property, plant and equipment, gross
 
99,551

Accumulated amortization
 
Accumulated depreciation
 
(1,364
)
Finance lease ROU assets, net
 
Property, plant and equipment, net
 
$
98,187

 
 
 
 
 
Total leased assets
 
 
 
$
317,325

 
 
 
 
 
Liabilities
 
 
 
 
Current
 
 
 
 
Operating
 
Accrued liabilities
 
$
30,178

Finance
 
Current portion of long-term debt
 
3,688

Non-current
 
 
 
 
Operating
 
Other long-term liabilities
 
179,636

Finance
 
Long-term debt
 
74,497

Total lease liabilities
 
 
 
$
287,999





19

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The maturity of our lease liabilities as of March 31, 2019 were as follows:
 
Operating leases
 
Finance leases
 
Total
2019 (remaining of year)
$
28,698

 
$
5,594

 
$
34,292

2020
24,025

 
6,303

 
30,328

2021
16,876

 
4,996

 
21,872

2022
15,514

 
4,491

 
20,005

2023
13,507

 
4,595

 
18,102

Thereafter
185,621

 
169,941

 
355,562

Total lease payments
284,241

 
195,920

 
480,161

Less: Imputed interest
74,427

 
117,735

 
192,162

Total lease liabilities
$
209,814

 
$
78,185

 
$
287,999



Supplemental cash flow and other information related to leases for the three months ended March 31, 2019 was as follows:
 
 
Three Months Ended
 
 
March 31, 2019
Cash paid for amounts included in the measurement of lease liabilities:
 
 
Operating cash flows from operating leases
 
$
9,524

Operating cash flows from finance leases
 
1,101

Financing cash flows from finance leases
 
994

 
 
 
ROU assets obtained in exchange for lease liabilities:
 
 
Operating leases
 
717

Finance leases
 
3,172


8. ASSETS AND LIABILITIES HELD FOR SALE
As of March 31, 2019, the following disposal groups have been classified as held for sale, in each case stated at the lower of net book value or estimated sales value less costs to sell:
The Lotte Shanghai Foods Co., Ltd. joint venture, which was taken out of operation and classified as held for sale during the second quarter of 2018. We sold a portion of the joint venture's equipment in the third and fourth quarters of 2018, and expect the sale of the remaining business to be completed by mid-2019.
Other assets, which are predominantly comprised of select Pennsylvania facilities and land that met the held for sale criteria in the third quarter of 2018. We expect these long-lived assets to be sold during 2019.

The amounts classified as assets and liabilities held for sale at March 31, 2019 include the following:

Assets held for sale, included in prepaid expenses and other assets
 
 
Property, plant and equipment, net
 
$
20,905

Other assets
 
2,516

 
 
$
23,421

 
 
 
Liabilities held for sale, included in accrued liabilities
 
 
Accounts payable and accrued liabilities
 
$
596

 
 
$
596




20

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

9. BUSINESS REALIGNMENT ACTIVITIES
We periodically undertake business realignment activities designed to increase our efficiency and focus our business in support of our key growth strategies. Costs recorded during the three months ended March 31, 2019 and April 1, 2018 related to these activities were as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Margin for Growth Program:
 
 
 
 
Severance
 
$

 
$
4,048

Accelerated depreciation
 

 
717

Other program costs
 
484

 
10,088

Operational Optimization Program:
 
 
 
 
Other program costs
 

 
1,098

Total
 
$
484

 
$
15,951


Margin for Growth Program
In the first quarter 2017, the Company's Board of Directors ("Board") unanimously approved several initiatives under a single program designed to drive continued net sales, operating income and earnings per-share diluted growth over the next several years.  This program is focused on improving global efficiency and effectiveness, optimizing the Company’s supply chain, streamlining the Company’s operating model and reducing administrative expenses to generate long-term savings. 
We originally estimated that the Margin for Growth Program would result in total pre-tax charges of $375,000 to $425,000, to be incurred from 2017 to 2019. The majority of the initiatives relating to the program have been executed, with the final initiatives to be completed over approximately the next nine months. To date, we have incurred pre-tax charges to execute the program totaling $336,779. This includes long-lived asset impairment charges of $208,712 related to the operations supporting our China business in 2017, as well as the $16,300 incremental impairment charge resulting from the sale of Shanghai Golden Monkey Food Joint Stock Co., Ltd. ("SGM"). In addition to the impairment charges, we have incurred employee separation costs of $47,932 and other business realignment costs of $63,835. We expect the remaining spending on this program to be minimal in 2019, bringing total estimated project costs to approximately $340,000 to $355,000. The cash portion of the total program charges is estimated to be $97,000 to $110,000. The Company reduced its global workforce by approximately 15% as a result of this program, with a majority of the reductions coming from hourly headcount positions outside of the United States.
During 2019, we recognized total costs associated with the Margin for Growth Program of $484. During 2018, we recognized total costs associated with the Margin for Growth Program of $14,853. These charges include employee severance, largely relating to initiatives to improve the cost structure of our China business and to further streamline our corporate operating model, as well as non-cash, asset-related incremental depreciation expense as part of optimizing the global supply chain. In addition, we incurred other program costs, which relate primarily to third-party charges in support of our initiative to improve global efficiency and effectiveness.
2016 Operational Optimization Program
In the second quarter of 2016, we commenced a program (the “Operational Optimization Program”) to optimize our production and supply chain network, which included select facility consolidations. The program encompassed the transition of our China chocolate and SGM operations into a united Golden Hershey platform, including the integration of the China sales force, as well as workforce planning efforts and the consolidation of production within certain facilities in China and North America. During the first quarter of 2018, we incurred pre-tax costs totaling $1,098, relating primarily to third-party charges in support of our initiative to optimize our production and supply chain network. This program was completed in 2018.


21

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Costs associated with business realignment activities are classified in our Consolidated Statements of Income as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Cost of sales
 
$

 
$
2,214

Selling, marketing and administrative expense
 
422

 
5,513

Business realignment costs
 
62

 
8,224

Costs associated with business realignment activities
 
$
484

 
$
15,951


The costs and related benefits of the Margin for Growth Program relate approximately 60% to the North America segment and 40% to the International and Other segment. However, segment operating results do not include these business realignment expenses because we evaluate segment performance excluding such costs.
The following table presents the liability activity for costs qualifying as exit and disposal costs for the three months ended March 31, 2019:
 
Total
Liability balance at December 31, 2018
$
14,605

2019 business realignment charges (1)
186

Cash payments
(5,655
)
Liability balance at March 31, 2019 (reported within accrued liabilities)
$
9,136


(1)
The costs reflected in the liability roll-forward represent employee-related and certain third-party service provider charges. These costs do not include items charged directly to expense, such as accelerated depreciation and amortization and certain of the third-party charges associated with various programs, as those items are not reflected in the business realignment liability in our Consolidated Balance Sheets.
10. INCOME TAXES
The majority of our taxable income is generated in the U.S. and taxed at the U.S. statutory rate of 21%. The effective tax rates for the three months ended March 31, 2019 and April 1, 2018 were 23.2% and 21.9%, respectively. Relative to the statutory rate, the 2019 effective tax rate was impacted by state taxes and an unfavorable foreign rate differential, which were partially offset by the benefit of ASU 2016-09 for the accounting of employee share-based payments. 
Hershey and its subsidiaries file tax returns in the U.S., including various state and local returns, and in other foreign jurisdictions. We believe adequate provision has been made for all income tax uncertainties. We are routinely audited by taxing authorities in our filing jurisdictions, and a number of these audits are currently underway. We reasonably expect reductions in the liability for unrecognized tax benefits of approximately $9,807 within the next 12 months because of the expiration of statutes of limitations and settlements of tax audits.
U.S. Tax Cuts and Jobs Act of 2017
The U.S. Tax Cuts and Jobs Act, enacted in December 2017 (“U.S. tax reform”), significantly changed U.S. corporate income tax laws by, among other things, reducing the U.S. corporate income tax rate to 21% starting in 2018 and creating a territorial tax system with a one-time mandatory tax on previously deferred foreign earnings of U.S. subsidiaries.  Under GAAP (specifically, ASC Topic 740), the effects of changes in tax rates and laws on deferred tax balances are recognized in the period in which the new legislation is enacted.
During the fourth quarter of 2017, we recorded a net provisional charge of $32.5 million, which included the estimated impact of the one-time mandatory tax on previously deferred earnings of non-U.S. subsidiaries offset in part by the benefit from revaluation of net deferred tax liabilities based on the new lower corporate income tax rate. During 2018, we recorded net benefits totaling $19.5 million as measurement period adjustments to the net provisional charge. The


22

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

accounting for income tax effects of U.S. tax reform is complete based on additional tax regulations available as of December 31, 2018.
11. PENSION AND OTHER POST-RETIREMENT BENEFIT PLANS
Net Periodic Benefit Cost
The components of net periodic benefit cost for the three months ended March 31, 2019 and April 1, 2018 were as follows:  
 
 
Pension Benefits
Other Benefits
 
 
Three Months Ended
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
 
March 31, 2019
 
April 1, 2018
Service cost
 
$
5,207

 
$
5,335

 
$
38

 
$
58

Interest cost
 
9,156

 
7,839

 
1,959

 
1,732

Expected return on plan assets
 
(13,496
)
 
(14,766
)
 

 

Amortization of prior service (credit) cost
 
(1,809
)
 
(1,799
)
 
203

 
209

Amortization of net loss (gain)
 
8,420

 
6,687

 
(96
)
 

Total net periodic benefit cost
 
$
7,478

 
$
3,296

 
$
2,104

 
$
1,999



We made contributions of $898 and $3,763 to the pension plans and other benefits plans, respectively, during the first quarter of 2019. In the first quarter of 2018, we made contributions of $1,005 and $6,444 to our pension plans and other benefit plans, respectively. The contributions in 2019 and 2018 also included benefit payments from our non-qualified pension plans and post-retirement benefit plans.
12. STOCK COMPENSATION PLANS
We have various stock-based compensation programs under which awards, including stock options, performance stock units (“PSUs”) and performance stock, stock appreciation rights, restricted stock units (“RSUs”) and restricted stock may be granted to employees, non-employee directors and certain service providers upon whom the successful conduct of our business is dependent. These programs and the accounting treatment related thereto are described in Note 10 to the Consolidated Financial Statements included in our 2018 Annual Report on Form 10-K.
For the periods presented, compensation expense for all types of stock-based compensation programs and the related income tax benefit recognized were as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Pre-tax compensation expense
 
$
10,556

 
$
10,458

Related income tax benefit
 
2,322

 
2,604


Compensation costs for stock compensation plans are primarily included in selling, marketing and administrative expense. As of March 31, 2019, total stock-based compensation cost related to non-vested awards not yet recognized was $92,298 and the weighted-average period over which this amount is expected to be recognized was approximately 2.3 years.


23

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Stock Options
A summary of activity relating to grants of stock options for the period ended March 31, 2019 is as follows:
Stock Options
Shares
Weighted-Average
Exercise Price (per share)
Weighted-Average Remaining
Contractual Term
Aggregate Intrinsic Value
Outstanding at beginning of year
5,394,382

$94.28
5.6 years
 
Granted
1,640

$109.74
 
 
Exercised
(603,525
)
$81.10
 
 
Forfeited
(16,263
)
$104.90
 
 
Outstanding as of March 31, 2019
4,776,234

$95.91
5.6 years
$
90,361

Options exercisable as of March 31, 2019
3,589,392

$94.22
4.7 years
$
73,967


The weighted-average fair value of options granted was $15.25 and $15.58 per share for the periods ended March 31, 2019 and April 1, 2018, respectively. The fair value was estimated on the date of grant using a Black-Scholes option-pricing model and the following weighted-average assumptions:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Dividend yields
 
2.7
%
 
2.3
%
Expected volatility
 
17.0
%
 
16.6
%
Risk-free interest rates
 
2.5
%
 
2.8
%
Expected term in years
 
6.5

 
6.6


The total intrinsic value of options exercised was $17,598 and $9,145 for the periods ended March 31, 2019 and April 1, 2018, respectively.
Performance Stock Units and Restricted Stock Units
A summary of activity relating to grants of PSUs and RSUs for the period ended March 31, 2019 is as follows:
Performance Stock Units and Restricted Stock Units
 
Number of units
 
Weighted-average grant date fair value
for equity awards (per unit)
Outstanding at beginning of year
 
999,018

 
$101.57
Granted
 
433,109

 
$113.65
Performance assumption change (1)
 
(71,694
)
 
$137.34
Vested
 
(328,136
)
 
$98.05
Forfeited
 
(9,198
)
 
$101.00
Outstanding as of March 31, 2019
 
1,023,099

 
$105.65

(1)
Reflects the net number of PSUs above and below target levels based on the performance metrics.
The following table sets forth information about the fair value of the PSUs and RSUs granted for potential future distribution to employees and non-employee directors. In addition, the table provides assumptions used to determine the fair value of the market-based total shareholder return component using the Monte Carlo simulation model on the date of grant.


24

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Units granted
 
433,109

 
302,947

Weighted-average fair value at date of grant
 
$
113.65

 
$
98.27

Monte Carlo simulation assumptions:
 
 
 
 
Estimated values
 
$
48.40

 
$
29.17

Dividend yields
 
2.6
%
 
2.6
%
Expected volatility
 
20.3
%
 
20.4
%

The fair value of shares vested totaled $36,003 and $15,605 for the periods ended March 31, 2019 and April 1, 2018, respectively.
Deferred PSUs, deferred RSUs and deferred stock units representing directors’ fees totaled 347,073 units as of March 31, 2019. Each unit is equivalent to one share of the Company’s Common Stock.
13. SEGMENT INFORMATION
Our organizational structure is designed to ensure continued focus on North America, coupled with an emphasis on profitable growth in our focus international markets. Our business is organized around geographic regions, which enables us to build processes for repeatable success in our global markets. As a result, we have defined our operating segments on a geographic basis, as this aligns with how our Chief Operating Decision Maker (“CODM”) manages our business, including resource allocation and performance assessment. Our North America business, which generates approximately 90% of our consolidated revenue, is our only reportable segment. None of our other operating segments meet the quantitative thresholds to qualify as reportable segments; therefore, these operating segments are combined and disclosed below as International and Other.
North America - This segment is responsible for our traditional chocolate and non-chocolate confectionery market position, as well as our grocery and growing snacks market positions, in the United States and Canada. This includes developing and growing our business in chocolate and non-chocolate confectionery, pantry, food service and other snacking product lines.
International and Other - International and Other is a combination of all other operating segments that are not individually material, including those geographic regions where we operate outside of North America. We currently have operations and manufacture product in China, Mexico, Brazil, India and Malaysia, primarily for consumers in these regions, and also distribute and sell confectionery products in export markets of Asia, Latin America, Middle East, Europe, Africa and other regions. This segment also includes our global retail operations, including Hershey's Chocolate World stores in Hershey, Pennsylvania, New York City, Las Vegas, Niagara Falls (Ontario) and Singapore, as well as operations associated with licensing the use of certain of the Company's trademarks and products to third parties around the world.
For segment reporting purposes, we use “segment income” to evaluate segment performance and allocate resources. Segment income excludes unallocated general corporate administrative expenses, unallocated mark-to-market gains and losses on commodity derivatives, business realignment and impairment charges, acquisition-related costs and other unusual gains or losses that are not part of our measurement of segment performance. These items of our operating income are managed centrally at the corporate level and are excluded from the measure of segment income reviewed by the CODM as well the measure of segment performance used for incentive compensation purposes.
As discussed in Note 5, derivatives used to manage commodity price risk are not designated for hedge accounting treatment. These derivatives are recognized at fair market value with the resulting realized and unrealized (gains) losses recognized in unallocated derivative (gains) losses outside of the reporting segment results until the related inventory is sold, at which time the related gains and losses are reallocated to segment income. This enables us to align the derivative gains and losses with the underlying economic exposure being hedged and thereby eliminate the mark-to-market volatility within our reported segment income.


25

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Certain manufacturing, warehousing, distribution and other activities supporting our global operations are integrated to maximize efficiency and productivity. As a result, assets and capital expenditures are not managed on a segment basis and are not included in the information reported to the CODM for the purpose of evaluating performance or allocating resources. We disclose depreciation and amortization that is generated by segment-specific assets, since these amounts are included within the measure of segment income reported to the CODM.
Our segment net sales and earnings were as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Net sales:
 
 
 
 
North America
 
$
1,806,958

 
$
1,751,688

International and Other
 
209,530

 
220,271

Total
 
$
2,016,488

 
$
1,971,959

 
 
 
 
 
Segment income:
 
 
 
 
North America
 
$
564,761

 
$
534,426

International and Other
 
20,243

 
17,680

Total segment income
 
585,004

 
552,106

Unallocated corporate expense (1)
 
114,504

 
123,967

Unallocated mark-to-market losses (gains) on commodity derivatives
 
27,967

 
(96,250
)
Costs associated with business realignment activities
 
484

 
15,951

Acquisition-related costs
 
3,180

 
27,926

Operating profit
 
438,869

 
480,512

Interest expense, net
 
37,458

 
29,339

Other (income) expense, net
 
5,477

 
1,942

Income before income taxes
 
$
395,934

 
$
449,231

(1)
Includes centrally-managed (a) corporate functional costs relating to legal, treasury, finance, and human resources, (b) expenses associated with the oversight and administration of our global operations, including warehousing, distribution and manufacturing, information systems and global shared services, (c) non-cash stock-based compensation expense, and (d) other gains or losses that are not integral to segment performance.
Activity within the unallocated mark-to-market losses (gains) on commodity derivatives is as follows:

 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Net losses (gains) on mark-to-market valuation of commodity derivative positions recognized in income
 
$
26,641

 
$
(66,590
)
Net gains (losses) on commodity derivative positions reclassified from unallocated to segment income
 
1,326

 
(29,660
)
Net losses (gains) on mark-to-market valuation of commodity derivative positions recognized in unallocated derivative (gains) losses
 
$
27,967

 
$
(96,250
)

As of March 31, 2019, the cumulative amount of mark-to-market gains on commodity derivatives that have been recognized in our consolidated cost of sales and not yet allocated to reportable segments was $12,351. Based on our forecasts of the timing of the recognition of the underlying hedged items, we expect to reclassify net pretax gains on commodity derivatives of $4,265 to segment operating results in the next twelve months.


26

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

Depreciation and amortization expense included within segment income presented above is as follows:
 
Three Months Ended
 
March 31, 2019
 
April 1, 2018
North America
$
53,945

 
$
47,985

International and Other
7,350

 
14,288

Corporate (1)
11,034

 
12,143

Total
$
72,329

 
$
74,416


(1)
Corporate includes non-cash asset-related accelerated depreciation and amortization related to business realignment activities, as discussed in Note 9. Such amounts are not included within our measure of segment income.
14. TREASURY STOCK ACTIVITY
A summary of our treasury stock activity is as follows:
 
Three Months Ended March 31, 2019
 
Shares
 
Dollars
 
 
 
In thousands
Shares repurchased in the open market under pre-approved share repurchase programs
1,386,193

 
$
150,000

Shares repurchased to replace Treasury Stock issued for stock options and incentive compensation
463,305

 
48,500

Total share repurchases
1,849,498

 
198,500

Shares issued for stock options and incentive compensation
(746,441
)
 
(31,060
)
Net change
1,103,057

 
$
167,440


The $100,000 share repurchase program approved by our Board of Directors in October 2017 was completed in the first quarter of 2019. In July 2018, our Board of Directors approved an additional $500,000 share repurchase authorization, to commence after the existing 2017 authorization was completed. As of March 31, 2019, $410,000 remained available for repurchases of our Common Stock under this program. We are authorized to purchase our outstanding shares in open market and privately negotiated transactions. The program has no expiration date and acquired shares of Common Stock will be held as treasury shares. Purchases under approved share repurchase authorizations are in addition to our practice of buying back shares sufficient to offset those issued under incentive compensation plans.
15. NONCONTROLLING INTEREST

Noncontrolling Interest in Subsidiary
We currently own a 50% controlling interest in Lotte Shanghai Foods Co., Ltd. (“LSFC”), a joint venture established in 2007 in China for the purpose of manufacturing and selling product to the joint venture partners.
A roll-forward showing the 2019 activity relating to the noncontrolling interest follows:
 
Noncontrolling Interest
Balance, December 31, 2018
$
8,545

Net loss attributable to noncontrolling interest
(477
)
Other comprehensive income - foreign currency translation adjustments
555

Balance, March 31, 2019
$
8,623




27

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

16. CONTINGENCIES
We are subject to various pending or threatened legal proceedings and claims that arise in the ordinary course of our business. While it is not feasible to predict or determine the outcome of such proceedings and claims with certainty, in our opinion these matters, both individually and in the aggregate, are not expected to have a material effect on our financial condition, results of operations or cash flows.
17. EARNINGS PER SHARE
We compute basic earnings per share for Common Stock and Class B common stock using the two-class method. The Class B common stock is convertible into Common Stock on a share-for-share basis at any time. The computation of diluted earnings per share for Common Stock assumes the conversion of Class B common stock using the if-converted method, while the diluted earnings per share of Class B common stock does not assume the conversion of those shares.
We compute basic and diluted earnings per share based on the weighted-average number of shares of Common Stock and Class B common stock outstanding as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
 
 
Common Stock
 
Class B Common Stock
 
Common Stock
 
Class B Common Stock
Basic earnings per share:
 
 
 
 
 
 
 
 
Numerator:
 
 
 
 
 
 
 
 
Allocation of distributed earnings (cash dividends paid)
 
$
106,700

 
$
39,763

 
$
98,170

 
$
36,130

Allocation of undistributed earnings
 
115,223

 
42,672

 
157,952

 
57,951

Total earnings—basic
 
$
221,923

 
$
82,435

 
$
256,122

 
$
94,081

 
 
 
 
 
 
 
 
 
Denominator (shares in thousands):
 
 
 
 
 
 
 
 
Total weighted-average shares—basic
 
148,709

 
60,614

 
150,114

 
60,620

 
 
 
 
 
 
 
 
 
Earnings Per Share—basic
 
$
1.49

 
$
1.36

 
$
1.71

 
$
1.55

 
 
 
 
 
 
 
 
 
Diluted earnings per share:
 
 
 
 
 
 
 
 
Numerator:
 
 
 
 
 
 
 
 
Allocation of total earnings used in basic computation
 
$
221,923

 
$
82,435

 
$
256,122

 
$
94,081

Reallocation of total earnings as a result of conversion of Class B common stock to Common stock
 
82,435

 

 
94,081

 

Reallocation of undistributed earnings
 

 
(209
)
 

 
(343
)
Total earnings—diluted
 
$
304,358

 
$
82,226

 
$
350,203

 
$
93,738

 
 
 
 
 
 
 
 
 
Denominator (shares in thousands):
 
 
 
 
 
 
 
 
Number of shares used in basic computation
 
148,709

 
60,614

 
150,114

 
60,620

Weighted-average effect of dilutive securities:
 
 
 
 
 
 
 
 
Conversion of Class B common stock to Common shares outstanding
 
60,614

 

 
60,620

 

Employee stock options
 
582

 

 
844

 

Performance and restricted stock units
 
422

 

 
377

 

Total weighted-average shares—diluted
 
210,327

 
60,614

 
211,955

 
60,620

 
 
 
 
 
 
 
 
 
Earnings Per Share—diluted
 
$
1.45

 
$
1.36

 
$
1.65

 
$
1.55




28

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

The earnings per share calculations for the three months ended March 31, 2019 and April 1, 2018 excluded 1,476 and 3,689 stock options (in thousands), respectively, that would have been antidilutive.
18. OTHER (INCOME) EXPENSE, NET
Other (income) expense, net reports certain gains and losses associated with activities not directly related to our core operations. A summary of the components of other (income) expense, net is as follows:
 
 
Three Months Ended
 
 
March 31, 2019
 
April 1, 2018
Write-down of equity investments in partnerships qualifying for tax credits
 
$
1,152

 
$
434

Non-service cost components of net periodic benefit cost relating to pension and other post-retirement benefit plans
 
4,337

 
(98
)
Other (income) expense, net
 
(12
)
 
1,606

Total
 
$
5,477

 
$
1,942





29

THE HERSHEY COMPANY
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
(amounts in thousands, except share data or if otherwise indicated)

19. SUPPLEMENTAL BALANCE SHEET INFORMATION
The components of certain Consolidated Balance Sheet accounts are as follows:
 
 
March 31, 2019
 
December 31, 2018
Inventories:
 
 
 
 
Raw materials
 
$
245,848

 
$
237,086

Goods in process
 
147,881

 
107,139

Finished goods
 
569,486

 
618,798

Inventories at FIFO
 
963,215

 
963,023

Adjustment to LIFO
 
(171,926
)
 
(178,144
)
Total inventories
 
$
791,289

 
$
784,879

 
 
 
 
 
Prepaid expenses and other:
 
 
 
 
Prepaid expenses
 
$
47,735

 
$
68,490

Assets held for sale
 
23,421

 
23,421

Other current assets
 
194,383

 
180,248

Total prepaid expenses and other
 
$
265,539

 
$
272,159

 
 
 
 
 
Property, plant and equipment:
 
 
 
 
Land
 
$
103,116

 
$
102,074

Buildings
 
1,219,652

 
1,211,011

Machinery and equipment
 
2,981,331

 
2,988,027

Construction in progress
 
268,202

 
280,559

Property, plant and equipment, gross
 
4,572,301

 
4,581,671

Accumulated depreciation
 
(2,464,226
)
 
(2,451,377
)
Property, plant and equipment, net
 
$
2,108,075

 
$
2,130,294

 
 
 
 
 
Other assets:
 
 
 
 
Capitalized software, net
 
$
133,328

 
$
126,379

Operating lease ROU assets
 
219,138

 

Other non-current assets
 
107,288

 
126,605

Total other assets
 
$
459,754

 
$
252,984

 
 
 
 
 
Accrued liabilities:
 
 
 
 
Payroll, compensation and benefits
 
$
124,116

 
$
180,546

Advertising, promotion and product allowances
 
345,642

 
293,642

Operating lease liabilities
 
30,178

 

Liabilities held for sale
 
596

 
596

Other
 
150,125

 
204,379

Total accrued liabilities
 
$
650,657

 
$
679,163

 
 
 
 
 
Other long-term liabilities:
 
 
 
 
Post-retirement benefits liabilities
 
$
193,648

 
$
195,166

Pension benefits liabilities
 
65,751

 
66,379

Operating lease liabilities
 
179,636

 

Other
 
179,098

 
184,503

Total other long-term liabilities
 
$
618,133

 
$
446,048

 
 
 
 
 
Accumulated other comprehensive loss:
 
 
 
 
Foreign currency translation adjustments
 
$
(93,803
)
 
$
(96,678
)
Pension and post-retirement benefit plans, net of tax
 
(200,319
)
 
(205,230
)
Cash flow hedges, net of tax
 
(54,398
)
 
(54,872
)
Total accumulated other comprehensive loss
 
$
(348,520
)
 
$
(356,780
)



30



Item 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Management's Discussion and Analysis (“MD&A”) is intended to provide an understanding of Hershey's financial condition, results of operations and cash flows by focusing on changes in certain key measures from year to year. The MD&A should be read in conjunction with our Unaudited Consolidated Financial Statements and accompanying notes. This discussion contains a number of forward-looking statements, all of which are based on current expectations. Actual results may differ materially. Refer to the Safe Harbor Statement below as well as the Risk Factors and other information contained in our 2018 Annual Report on Form 10-K for information concerning the key risks to achieving future performance goals.
The MD&A is organized in the following sections:
Overview
Non-GAAP Information
Consolidated Results of Operations
Segment Results
Liquidity and Capital Resources
OVERVIEW
The Overview presented below is an executive-level summary highlighting the key trends and measures on which the Company’s management focuses in evaluating its financial condition and operating performance. Certain earnings and performance measures within the Overview include financial information determined on a non-GAAP basis, which aligns with how management internally evaluates the Company's results of operations, determines incentive compensation, and assesses the impact of known trends and uncertainties on the business. A detailed reconciliation of the non-GAAP financial measures referenced herein to their nearest comparable GAAP financial measures follows this summary. For a detailed analysis of the Company's operations prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"), referred to as "reported" herein, refer to the discussion and analysis in the Unaudited Consolidated Results of Operations.
Our first quarter 2019 net sales totaled $2,016.5 million, an increase of 2.3%, versus $1,972.0 million for the first quarter 2018, reflecting a volume increase of 1.7%, a benefit from the prior year Amplify and Pirate Brands acquisitions of 0.9%, and a favorable price realization of 0.2%, partially offset by unfavorable impact from foreign currency exchange rates of 0.5%. Excluding foreign currency, our first quarter 2019 net sales increased 2.8%. Consolidated volumes increased due to improvements in the United States driven by a longer Easter season in 2019 versus 2018, as well as new product launches.
Our reported gross margin was 44.3% for the first quarter 2019, a decrease of 510 basis points compared to the first quarter 2018. Our first quarter 2019 non-GAAP gross margin was 45.7%, an increase of 80 basis points compared the first quarter 2018 due to favorable raw material costs, volume and savings from our productivity and cost savings initiatives.
Our first quarter 2019 reported operating profit and reported operating profit margin totaled $438.9 million and 21.8%, respectively, compared to the first quarter 2018 reported operating profit and reported operating profit margin of $480.5 million and 24.4%, respectively. From a non-GAAP perspective, first quarter 2019 adjusted operating profit and adjusted operating profit margin totaled $470.5 million and 23.3%, respectively, compared to the first quarter 2018 adjusted operating profit and adjusted operating profit margin of $428.1 million and 21.7%, respectively. The increase in our adjusted operating profit margin was primarily due to higher non-GAAP gross margin and SM&A efficiencies.
Our first quarter 2019 reported net income and reported EPS-diluted totaled $304.4 million and $1.45, respectively, compared to the first quarter 2018 reported net income and reported EPS-diluted of $350.2 million and $1.65, respectively. From a non-GAAP perspective, first quarter 2019 adjusted net income was $333.5 million, an increase of 11.9% versus adjusted net income of $298.0 million in the first quarter 2018. Our adjusted EPS-diluted for the first quarter 2019 was $1.59 compared to $1.41 for the same period of 2018, an increase of 12.8%. The increases in our adjusted net income and adjusted EPS-diluted in 2019 compared to 2018 were primarily due to favorable operating profit, lower income taxes and fewer weighted-average shares outstanding.


31



NON-GAAP INFORMATION
Comparability of Certain Financial Measures
The comparability of certain of our financial measures is impacted by unallocated mark-to-market losses (gains) on commodity derivatives, costs associated with business realignment activities and costs relating to the integration of acquisitions.
To provide additional information to investors to facilitate the comparison of past and present performance, we use non-GAAP financial measures within MD&A that exclude the financial impact of these activities. These non-GAAP financial measures are used internally by management in evaluating results of operations and determining incentive compensation, and in assessing the impact of known trends and uncertainties on our business, but they are not intended to replace the presentation of financial results in accordance with GAAP. A reconciliation of the non-GAAP financial measures referenced in MD&A to their nearest comparable GAAP financial measures as presented in the Consolidated Statements of Income is provided below.
Reconciliation of Certain Non-GAAP Financial Measures
Consolidated results
Three Months Ended
In thousands except per share data
March 31, 2019
 
April 1, 2018
Reported gross profit
$
892,504

 
$
974,060

Derivative mark-to-market losses (gains)
27,967

 
(96,250
)
Business realignment activities

 
2,214

Acquisition-related costs
56

 
4,962

Non-GAAP gross profit
$
920,527

 
$
884,986

 
 
 
 
Reported operating profit
$
438,869

 
$
480,512

Derivative mark-to-market losses (gains)
27,967

 
(96,250
)
Business realignment activities
484

 
15,951

Acquisition-related costs
3,180

 
27,926

Non-GAAP operating profit
$
470,500

 
$
428,139

 
 
 
 
Reported provision for income taxes
$
92,053

 
$
98,512

Derivative mark-to-market losses (gains)*
1,367

 
(8,941
)
Business realignment activities*
(105
)
 
3,827

Acquisition-related costs*
759

 
5,403

Non-GAAP provision for income taxes
$
94,074

 
$
98,801

 
 
 
 
Reported net income
$
304,358

 
$
350,203

Derivative mark-to-market losses (gains)
26,600

 
(87,309
)
Business realignment activities
589

 
12,124

Acquisition-related costs
2,421

 
22,523

Noncontrolling interest share of business realignment and impairment charges
(433
)
 
456

Non-GAAP net income
$
333,535

 
$
297,997

 
 
 
 
Reported EPS - Diluted
$
1.45

 
$
1.65

Derivative mark-to-market losses (gains)
0.13

 
(0.41
)
Business realignment activities

 
0.06

Acquisition-related costs
0.01

 
0.11

Non-GAAP EPS - Diluted
$
1.59

 
$
1.41


* The tax effect for each adjustment is determined by calculating the tax impact of the adjustment on the Company's quarterly effective tax rate.



32



In the assessment of our results, we review and discuss the following financial metrics that are derived from the reported and non-GAAP financial measures presented above:
 
Three Months Ended
 
March 31, 2019
 
April 1, 2018
As reported gross margin
44.3
%
 
49.4
%
Non-GAAP gross margin (1)
45.7
%
 
44.9
%
 
 
 
 
As reported operating profit margin
21.8
%
 
24.4
%
Non-GAAP operating profit margin (2)
23.3
%
 
21.7
%
 
 
 
 
As reported effective tax rate
23.2
%
 
21.9
%
Non-GAAP effective tax rate (3)
22.0
%
 
24.9
%

(1)
Calculated as non-GAAP gross profit as a percentage of net sales for each period presented.
(2)
Calculated as non-GAAP operating profit as a percentage of net sales for each period presented.
(3)
Calculated as non-GAAP provision for income taxes as a percentage of non-GAAP income before taxes (calculated as non-GAAP operating profit minus non-GAAP interest expense, net plus or minus non-GAAP other (income) expense, net).

Details of the activities impacting comparability that are presented as reconciling items to derive the non-GAAP financial measures in the tables above are as follows:

Mark-to-market losses (gains) on commodity derivatives
The mark-to-market losses (gains) on commodity derivatives are recorded as unallocated and excluded from adjusted results until such time as the related inventory is sold, at which time the corresponding losses (gains) are reclassified from unallocated to segment income. Since we often purchase commodity contracts to price inventory requirements in future years, we make this adjustment to facilitate the year-over-year comparison of cost of sales on a basis that matches the derivative gains and losses with the underlying economic exposure being hedged for the period. For the three months ended March 31, 2019 and April 1, 2018, the net adjustment recognized within unallocated was a loss of $28.0 million and a gain of $96.3 million, respectively. See Note 13 to the Unaudited Consolidated Financial Statements for more information.

Business realignment activities
We periodically undertake restructuring and cost reduction activities as part of ongoing efforts to enhance long-term profitability. For the three months ended March 31, 2019 and April 1, 2018, we incurred $0.5 million and $16.0 million, respectively, of pre-tax costs related to business realignment activities. See Note 9 to the Unaudited Consolidated Financial Statements for more information.
 
Acquisition-related costs
For the three months ended March 31, 2019 and April 1, 2018, we incurred expenses totaling $3.2 million and $27.9 million, respectively, related to the acquisitions of Amplify in January 2018 and Pirate Brands in October 2018. This primarily includes legal and consultant fees, as well as severance and other costs relating to the integration of the businesses. See Note 2 to the Unaudited Consolidated Financial Statements for more information.

Noncontrolling interest share of business realignment and impairment charges
Certain of the business realignment and impairment charges recorded in connection with the Margin for Growth Program related to Lotte Shanghai Foods Co., Ltd., a joint venture in which we own a 50% controlling interest. Therefore, we have also adjusted for the portion of these charges included within the (income) loss attributed to the non-controlling interest.



33



Constant Currency Net Sales Growth
We present certain percentage changes in net sales on a constant currency basis, which excludes the impact of foreign currency exchange.  This measure is used internally by management in evaluating results of operations and determining incentive compensation.  We believe that this measure provides useful information to investors because it provides transparency to underlying performance in our net sales by excluding the effect that foreign currency exchange rate fluctuations have on the year-to-year comparability given volatility in foreign currency exchange markets.

To present this information for historical periods, current period net sales for entities reporting in other than the U.S. dollar are translated into U.S. dollars at the average monthly exchange rates in effect during the comparable period of the prior fiscal year, rather than at the actual average monthly exchange rates in effect during the current period of the current fiscal year. As a result, the foreign currency impact is equal to the current year results in local currencies multiplied by the change in average foreign currency exchange rate between the current fiscal period and the comparable period of the prior fiscal year. 

A reconciliation between reported and constant currency growth rates is provided below:

 
Three Months Ended March 31, 2019
 
Percentage Change as Reported
 
Impact of Foreign Currency Exchange
 
Percentage Change on Constant Currency Basis
North America segment
 
 
 
 
 
Canada
(6.6
)%
 
(4.6
)%
 
(2.0
)%
Total North America segment
3.2
 %
 
(0.2
)%
 
3.4
 %
 
 
 
 
 
 
International and Other segment
 
 
 
 
 
Mexico
4.6
 %
 
(2.5
)%
 
7.1
 %
Brazil
(17.9
)%
 
(13.4
)%
 
(4.5
)%
India
(6.8
)%
 
(8.3
)%
 
1.5
 %
China
(31.4
)%
 
(4.5
)%
 
(26.9
)%
Total International and Other segment
(4.9
)%
 
(3.5
)%
 
(1.4
)%
 
 
 
 
 
 
Total Company
2.3
 %
 
(0.5
)%
 
2.8
 %



34



CONSOLIDATED RESULTS OF OPERATIONS
 
 
Three Months Ended
 
Percent
 
 
March 31, 2019
 
April 1, 2018
 
Change
In millions of dollars except per share amounts
 
 
 
 
 
 
Net Sales
 
$
2,016.5

 
$
1,972.0

 
2.3
 %
Cost of Sales
 
1,124.0

 
997.9

 
12.6
 %
Gross Profit
 
892.5

 
974.1

 
(8.4
)%
Gross Margin
 
44.3
%
 
49.4
%
 
 
SM&A Expense
 
453.5

 
485.3

 
(6.5
)%
SM&A Expense as a percent of net sales
 
22.5
%
 
24.6
%
 
 
Business Realignment Costs
 
0.1

 
8.2

 
(99.2
)%
Operating Profit
 
438.9

 
480.5

 
(8.7
)%
Operating Profit Margin
 
21.8
%
 
24.4
%
 
 
Interest Expense, Net
 
37.5

 
29.3

 
27.7
 %
Other (Income) Expense, Net
 
5.5

 
1.9

 
182.0
 %
Provision for Income Taxes
 
92.0

 
98.5

 
(6.6
)%
Effective Income Tax Rate
 
23.2
%
 
21.9
%
 
 
Net Income Including Noncontrolling Interest
 
303.9

 
350.7

 
(13.4
)%
Less: Net (Loss) Income Attributable to Noncontrolling Interest
 
(0.5
)
 
0.5

 
NM

Net Income Attributable to The Hershey Company
 
$
304.4

 
$
350.2

 
(13.1
)%
Net Income Per Share—Diluted
 
$
1.45

 
$
1.65

 
(12.1
)%
 
 
 
 
 
 
 
Note: Percentage changes may not compute directly as shown due to rounding of amounts presented above.
NM = not meaningful.

Results of Operations - First Quarter 2019 vs. First Quarter 2018
Net Sales
Net sales increased 2.3% in the first quarter of 2019 compared to the same period of 2018, reflecting a volume increase of 1.7%, a benefit from the prior year Amplify and Pirate Brands acquisitions of 0.9%, and a favorable price realization of 0.2%, partially offset by unfavorable impact from foreign currency exchange rates of 0.5%. Excluding foreign currency, our first quarter 2019 net sales increased 2.8%. Consolidated volumes increased due to improvements in the United States driven by a longer Easter season in 2019 versus 2018, as well as new product launches.
Key U.S. Marketplace Metrics
For the first quarter of 2019, our total U.S. retail takeaway, including Amplify, decreased 8.7% in the expanded multi-outlet combined plus convenience store channels (IRI MULO + C-Stores), which includes candy, mint, gum, salty snacks, snack bars, meat snacks and grocery items. Our U.S. candy, mint and gum ("CMG") consumer takeaway decreased 9.7%, resulting in a CMG market share loss of approximately 47 basis points due to the timing of Easter, which shifted into the second half of April, versus April 1, 2018.
The CMG consumer takeaway and market share information reflect measured channels of distribution accounting for approximately 90% of our U.S. confectionery retail business. These channels of distribution primarily include food, drug, mass merchandisers, and convenience store channels, plus Wal-Mart Stores, Inc., partial dollar, club and military channels. These metrics are based on measured market scanned purchases as reported by Information Resources, Incorporated ("IRI"), the Company's market insights and analytics provider, and provide a means to assess our retail takeaway and market position relative to the overall category.


35



Cost of Sales and Gross Margin
Cost of sales increased 12.6% in the first quarter of 2019 compared to the same period of 2018. The increase was driven by an incremental $93.2 million unfavorable impact from mark-to-market adjustments on our commodity derivative instruments intended to economically hedge future years' commodity purchases, higher sales volume, higher freight and logistics costs and higher plant costs. These drivers were partially offset by supply chain productivity.
Gross margin decreased by 510 basis points in the first quarter of 2019 compared to the same period of 2018. The decrease was primarily due to unfavorable year-over-year mark-to-market impact from commodity derivative instruments and higher freight and logistics costs. These factors were partially offset by favorable supply chain productivity and favorable product mix.
Selling, Marketing and Administrative
Selling, marketing and administrative (“SM&A”) expenses decreased $31.8 million or 6.5% in the first quarter of 2019. Total advertising and related consumer marketing expenses declined 0.8% due mainly to spend optimization and shifts relating to our emerging brands. Selling, marketing and administrative expenses, excluding advertising and related consumer marketing, decreased approximately 9.7% in the first quarter due to less spending from the Margin for Growth Program and lower acquisition-related costs.
Business Realignment Activities
In the first quarter of 2019 and 2018, we recorded business realignment costs of $0.1 million and $8.2 million, respectively. The costs related primarily to the Margin for Growth Program, which is discussed in more detail in Note 9 to the Unaudited Consolidated Financial Statements.
Operating Profit and Operating Profit Margin
Operating profit decreased 8.7% in the first quarter of 2019 compared to the same period of 2018 due to lower gross profit, partially offset by lower SM&A and lower business realignment costs in the 2019 period, as noted above. Operating profit margin decreased to 21.8% in 2019 from 24.4% in 2018 driven by these same factors.
Interest Expense, Net
Net interest expense was $8.1 million higher in the first quarter of 2019 compared to the same period of 2018. The increase was due to $1.2 billion of notes issued in May 2018, as well as higher interest rates on our short-term debt.
Other (Income) Expense, Net
Other (income) expense, net totaled expense of $5.5 million in the first quarter of 2019 versus expense of $1.9 million in the first quarter of 2018. The increase in the net expense was primarily due to higher non-service cost components of net periodic benefit cost relating to pension and other post-retirement benefit plans during 2019, as well as higher write-downs on equity investments qualifying for federal historic and energy tax credits.
Income Taxes and Effective Tax Rate
Our effective income tax rate was 23.2% for the first quarter of 2019 compared with 21.9% for the first quarter of 2018. Relative to the 21% statutory rate, the 2019 effective tax rate was impacted by state taxes and an unfavorable foreign rate differential, which were partially offset by the benefit of ASU 2016-09 for the accounting of employee share-based payments.
Net Income attributable to The Hershey Company and Earnings Per Share-diluted
Net income decreased $45.8 million, or 13.1%, while EPS-diluted decreased $0.20, or 12.1%, in the first quarter of 2019 compared to the same period of 2018. The decrease in both net income and EPS-diluted was driven primarily by lower operating profit and higher interest expense in 2019, which were partly offset by lower income taxes, as noted above.



36



SEGMENT RESULTS
The summary that follows provides a discussion of the results of operations of our two reportable segments: North America and International and Other. The segments reflect our operations on a geographic basis. For segment reporting purposes, we use “segment income” to evaluate segment performance and allocate resources. Segment income excludes unallocated general corporate administrative expenses, unallocated mark-to-market gains and losses on commodity derivatives, business realignment and impairment charges, acquisition-related costs and other unusual gains or losses that are not part of our measurement of segment performance. These items of our operating income are largely managed centrally at the corporate level and are excluded from the measure of segment income reviewed by the CODM and used for resource allocation and internal management reporting and performance evaluation. Segment income and segment income margin, which are presented in the segment discussion that follows, are non-GAAP measures and do not purport to be alternatives to operating income as a measure of operating performance. We believe that these measures are useful to investors and other users of our financial information in evaluating ongoing operating profitability as well as in evaluating operating performance in relation to our competitors, as they exclude the activities that are not directly attributable to our ongoing segment operations. For further information, see the Non-GAAP Information section of this MD&A.
Our segment results, including a reconciliation to our consolidated results, were as follows:
 
 
 
Three Months Ended
 
 
 
March 31, 2019
 
April 1, 2018
Net Sales:
 
 
 
 
North America
 
$
1,806,958

 
$
1,751,688

International and Other
 
209,530

 
220,271

Total
 
$
2,016,488

 
$
1,971,959

 
 
 
 
 
Segment Income:
 
 
 
 
North America
 
$
564,761

 
$
534,426

International and Other
 
20,243

 
17,680

Total segment income
 
585,004

 
552,106

Unallocated corporate expense (1)
 
114,504

 
123,967

Unallocated mark-to-market losses (gains) on commodity derivatives (2)
 
27,967

 
(96,250
)
Costs associated with business realignment activities
 
484

 
15,951

Acquisition-related costs
 
3,180

 
27,926

Operating profit
 
438,869

 
480,512

Interest expense, net
 
37,458

 
29,339

Other (income) expense, net
 
5,477

 
1,942

Income before income taxes
 
$
395,934

 
$
449,231

(1)
Includes centrally-managed (a) corporate functional costs relating to legal, treasury, finance and human resources, (b) expenses associated with the oversight and administration of our global operations, including warehousing, distribution and manufacturing, information systems and global shared services, (c) non-cash stock-based compensation expense and (d) other gains or losses that are not integral to segment performance.
(2)
Net losses (gains) on mark-to-market valuation of commodity derivative positions recognized in unallocated derivative losses (gains). See Note 13 to the Unaudited Consolidated Financial Statements.


37



North America
The North America segment is responsible for our chocolate and non-chocolate confectionery market position, as well as our grocery and growing snacks market positions, in the United States and Canada. This includes developing and growing our business in chocolate and non-chocolate confectionery, pantry, food service and other snacking product lines. North America accounted for 89.6% and 88.8% of our net sales for the three months ended March 31, 2019 and April 1, 2018, respectively. North America results for the three months ended March 31, 2019 and April 1, 2018 were as follows:
 
 
Three Months Ended
 
Percent

 
March 31, 2019
 
April 1, 2018
 
Change
In millions of dollars
 
 
 
 
 
 
Net sales
 
$
1,807.0

 
$
1,751.7

 
3.2
%
Segment income
 
564.8

 
534.4

 
5.7
%
Segment margin
 
31.3
%
 
30.5
%
 
 
Results of Operations - First Quarter 2019 vs. First Quarter 2018
Net sales of our North America segment increased $55.3 million or 3.2% in 2019 compared to 2018, which includes a 1.6% benefit from the prior year Amplify and Pirate Brands acquisitions. Excluding the Amplify and Pirate Brands acquisitions, our North America segment net sales increased 1.6%. Volume increased 1.4% driven by stronger Easter sales and new product launches. Net price realization increased 0.4% attributed to higher prices on certain products. Foreign currency exchange rates resulted in an unfavorable impact of 0.2%.
Our North America segment income increased $30.4 million or 5.7% in 2019 compared to 2018, primarily due to higher sales volume, favorable price realization, and lower supply chain costs, partially offset by higher freight and logistics costs and higher other plant costs.
International and Other
The International and Other segment includes all other countries where we currently manufacture, import, market, sell or distribute chocolate and non-chocolate confectionery and other products. Currently, this includes our operations in China and other Asia markets, Latin America, Europe, Africa and the Middle East, along with exports to these regions. While a less significant component, this segment also includes our global retail operations, including Hershey’s Chocolate World stores in Hershey, Pennsylvania, New York City, Las Vegas, Niagara Falls (Ontario) and Singapore, as well as operations associated with licensing the use of certain trademarks and products to third parties around the world. International and Other accounted for 10.4% and 11.2% of our net sales for the three months ended March 31, 2019 and April 1, 2018, respectively. International and Other results for the three months ended March 31, 2019 and April 1, 2018 were as follows:
 
 
Three Months Ended
 
Percent

 
March 31, 2019
 
April 1, 2018
 
Change
In millions of dollars
 
 
 
 
 
 
Net sales
 
$
209.5

 
$
220.3

 
(4.9
)%
Segment income
 
20.2

 
17.7

 
14.5
 %
Segment margin
 
9.7
%
 
8.0
%
 
 



38



Results of Operations - First Quarter 2019 vs. First Quarter 2018
Net sales of our International and Other segment decreased $10.8 million or 4.9% in 2019 compared to 2018, reflecting a 4.6% reduction in net sales primarily from the divestiture of Shanghai Golden Monkey Food Joint Stock Co., Ltd. ("SGM"), an unfavorable impact from foreign currency exchange rates of 3.5%, and unfavorable price realization of 0.8%, partially offset by volume increases of 4.0%. Excluding the divestiture of SGM and unfavorable foreign currency exchange rates, our International and Other segment net sales increased 3.2%. The volume increase was primarily attributed to solid marketplace growth in Mexico, India and Regional Markets where constant currency net sales increased by 7.1%, 1.5% and 4.8%, respectively. The unfavorable net price realization was driven by increased levels of trade promotional spending compared to the prior year.
Our International and Other segment generated income of $20.2 million in 2019 compared to $17.7 million in 2018, with the improvement primarily resulting from our efforts to drive sustainable gross margin improvements as we executed our Margin for Growth program and optimized the product portfolio across various international markets. Additionally, segment income benefited from continued growth across Mexico, India and Regional Markets.
Unallocated Corporate Expense
Unallocated corporate expense includes centrally-managed (a) corporate functional costs relating to legal, treasury, finance and human resources, (b) expenses associated with the oversight and administration of our global operations, including warehousing, distribution and manufacturing, information systems and global shared services, (c) non-cash stock-based compensation expense and (d) other gains or losses that are not integral to segment performance.
In the first quarter of 2019, unallocated corporate expense totaled $114.5 million, as compared to $124.0 million in 2018 primarily driven by savings from our productivity and cost savings initiatives.
Liquidity and Capital Resources
Historically, our primary source of liquidity has been cash generated from operations. Domestic seasonal working capital needs, which typically peak during the summer months, are generally met by utilizing cash on hand, bank borrowings or the issuance of commercial paper. Commercial paper may also be issued, from time to time, to finance ongoing business transactions, such as the repayment of long-term debt, business acquisitions and for other general corporate purposes.
At March 31, 2019, our cash and cash equivalents totaled $466.0 million. At December 31, 2018, our cash and cash equivalents totaled $588.0 million. Our cash and cash equivalents during the first three months of 2019 decreased $122.0 million compared to the 2018 year-end balance as a result of the net uses of cash outlined in the following discussion.
Approximately 90% of the balance of our cash and cash equivalents at March 31, 2019 was held by subsidiaries domiciled outside of the United States. The Company recognized the one-time U.S. repatriation tax due under U.S. tax reform and, as a result, repatriation of these amounts would not be subject to additional U.S. federal income tax but would be subject to applicable withholding taxes in the relevant jurisdiction. Our intent is to reinvest funds earned outside of the United States to finance foreign operations and investments, and our current plans do not demonstrate a need to repatriate them to fund our U.S. operations. We believe we have sufficient liquidity to satisfy our cash needs, including our cash needs in the United States.


39



Cash Flow Summary
The following table is derived from our Consolidated Statement of Cash Flows:
 
 
Three Months Ended
In millions of dollars
 
March 31, 2019
 
April 1, 2018
Net cash provided by (used in):
 
 
 
 
Operating activities
 
$
329.9

 
$
352.1

Investing activities
 
(111.6
)
 
(981.8
)
Financing activities
 
(341.1
)
 
725.9

Effect of exchange rate changes on cash and cash equivalents
 
0.8

 

Increase (decrease) in cash and cash equivalents
 
(122.0
)
 
96.2

Operating activities
We generated cash of $329.9 million for operating activities in the first three months of 2019, a decrease of $22.2 million compared to $352.1 million in the same period of 2018. This decrease in net cash from operating activities was mainly driven by the following factors:
Net income adjusted for non-cash charges to operations (including depreciation, amortization, stock-based compensation, deferred income taxes, write-down of equity investments and other charges) resulted in $49 million of lower cash flow in 2019 relative to 2018.
Incomes taxes generated cash of $56 million in 2019, compared to $82 million in 2018. This $26 million fluctuation was mainly due to the variance in actual tax expense for 2019 relative to the timing of quarterly estimated tax payments.
The above cash results were partially offset by our working capital (comprised of trade accounts receivable, inventory, accounts payable and accrued liabilities), which consumed cash of $109 million in 2019 and $168 million in 2018. This $59 million fluctuation was mainly driven by:
$143.8 million decrease in cash used by accounts payable and accrued liabilities, due to the timing of payments for trade-related and other accounts payables, as well as prior year spending necessary to settle certain accrued liabilities acquired in conjunction with the Amplify acquisition, specifically Amplify's acquisition-related costs and accelerated equity compensation.
$90.1 million increase in cash used by accounts receivable, primarily attributed to the timing of sales during the quarter. U.S. sales were measurably higher in the last 15 days of the first quarter of 2019 versus the first quarter of 2018, which drove a higher investment in accounts receivable as of the 2019 quarter-end.
Investing activities
We used cash of $111.6 million for investing activities in the first three months of 2019, a decrease of $870.2 million compared to $981.8 million in the same period of 2018. This decrease in net cash used in investing activities was mainly driven by the following factors:
Capital spending. Capital expenditures, including capitalized software, primarily to support capacity expansion, innovation and cost savings, were $92.8 million in the first three months of 2019 compared to $60.1 million in the same period of 2018. For full year 2019, we expect capital expenditures, including capitalized software, to approximate $330 million to $350 million.
Business Acquisition. We had no acquisition or divestiture activity in 2019. In January 2018, we acquired Amplify for $915.5 million, net of cash acquired. Further details regarding our business acquisition activity are provided in Note 2 to the Unaudited Consolidated Financial Statements.
Investments in partnerships qualifying for tax credits. We make investments in partnership entities that in turn make equity investments in projects eligible to receive federal historic and energy tax credits. We invested


40



approximately $18.9 million in the first three months of 2019, compared to $6.3 million in the same period of 2018.
Financing activities
We used cash of $341.1 million for financing activities in the first three months of 2019, an increase of $1,067.0 million compared to cash generated of $725.9 million in the same period of 2018. This increase in net cash used in financing activities was mainly driven by the following factors:
Short-term borrowings, net. In addition to utilizing cash on hand, we use short-term borrowings (commercial paper and bank borrowings) to fund seasonal working capital requirements and ongoing business needs. During the first three months of 2019, we had a net reduction in short-term borrowings of $29.0 million primarily due to repayments on commercial paper, partially offset by increases in short-term foreign borrowings. During the first three months of 2018, we generated cash flow of $1.7 billion through the issuance of short-term commercial paper, partially offset by payments in short-term foreign borrowings. We utilized the proceeds from the issuance of commercial paper to fund the Amplify acquisition and repayment of Amplify's outstanding debt owed under its existing credit agreement.
Long-term debt borrowings and repayments. During the first three months of 2019, our long-term debt borrowings and repayments activity was minimal. During the first three months of 2018, we repaid $607.9 million of debt assumed in connection with the Amplify acquisition, including all of the outstanding debt owed by Amplify under its existing credit agreement.
Tax receivable obligation. In connection with the Amplify acquisition in 2018, the Company agreed to make a payment to the counterparty of a tax receivable agreement. During the first three months of 2018, we paid $42.5 million of the tax receivable obligation.
Share repurchases. We used cash for total share repurchases of $198.5 million and $178.1 million during the first three months of 2019 and 2018, respectively, pursuant to our practice of replenishing shares issued for stock options and incentive compensation, as well as shares repurchased in the open market under pre-approved share repurchase programs.
Dividend payments. Total dividend payments to holders of our Common Stock and Class B Common Stock were $146.5 million during the first three months of 2019, an increase of $12.2 million compared to $134.3 million in the same period of 2018.
Proceeds from the exercise of stock options. We received $34.6 million from employee exercises of stock options, net of employee taxes withheld from share-based awards, during the first three months of 2019, an increase of $32.7 million compared to $1.9 million in the same period of 2018.
Recent Accounting Pronouncements
Information on recently adopted and recently issued accounting standards is included in Note 1 to the Unaudited Consolidated Financial Statements.


41



Safe Harbor Statement
We are subject to changing economic, competitive, regulatory and technological risks and uncertainties that could have a material impact on our business, financial condition or results of operations. In connection with the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995, we note the following factors that, among others, could cause future results to differ materially from the forward-looking statements, expectations and assumptions that we have discussed directly or implied in this report. Many of the forward-looking statements contained in this report may be identified by the use of words such as “intend,” “believe,” “expect,” “anticipate,” “should,” “planned,” “projected,” “estimated,” and “potential,” among others.
The factors that could cause our actual results to differ materially from the results projected in our forward-looking statements include, but are not limited to the following:
Issues or concerns related to the quality and safety of our products, ingredients or packaging could cause a product recall and/or result in harm to the Company’s reputation, negatively impacting our operating results;
Increases in raw material and energy costs along with the availability of adequate supplies of raw materials could affect future financial results;
Price increases may not be sufficient to offset cost increases and maintain profitability or may result in sales volume declines associated with pricing elasticity;
Market demand for new and existing products could decline;
Increased marketplace competition could hurt our business;
Disruption to our manufacturing operations or supply chain could impair our ability to produce or deliver finished products, resulting in a negative impact on our operating results;
Our financial results may be adversely impacted by the failure to successfully execute or integrate acquisitions, divestitures and joint ventures;
Changes in governmental laws and regulations could increase our costs and liabilities or impact demand for our products;
Political, economic and/or financial market conditions could negatively impact our financial results;
Our international operations may not achieve projected growth objectives, which could adversely impact our overall business and results of operations;
Disruptions, failures or security breaches of our information technology infrastructure could have a negative impact on our operations;
We might not be able to hire, engage and retain the talented global workforce we need to drive our growth strategies;
We may not fully realize the expected costs savings and/or operating efficiencies associated with our strategic initiatives or restructuring programs, which may have an adverse impact on our business;
Complications with the design or implementation of our new enterprise resource planning system could adversely impact our business and operations; and
Such other matters as discussed in our 2018 Annual Report on Form 10-K.
We undertake no obligation to publicly update or revise any forward-looking statements to reflect actual results, changes in expectations or events or circumstances after the date this Quarterly Report on Form 10-Q is filed.  



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Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The total notional amount of interest rate swaps outstanding at March 31, 2019 and December 31, 2018 was $350 million. The notional amount relates to fixed-to-floating interest rate swaps which convert a comparable amount of fixed-rate debt to variable rate debt at March 31, 2019 and December 31, 2018. A hypothetical 100 basis point increase in interest rates applied to this now variable-rate debt as of March 31, 2019 would have increased interest expense by approximately $0.9 million for the first three months of 2019 and $3.5 million for the full year 2018.
In addition, the total amount of short-term debt, net of cash, amounted to $703 million and $610 million, respectively, at March 31, 2019 and December 31, 2018. A hypothetical 100 basis point increase in interest rates applied to this variable-rate short-term debt as of March 31, 2019 would have increased interest expense by approximately $1.8 million for the first three months of 2019 and $9.0 million for the full year 2018.
We consider our current risk related to market fluctuations in interest rates on our remaining debt portfolio, excluding fixed-rate debt converted to variable rates with fixed-to-floating instruments, to be minimal since this debt is largely long-term and fixed-rate in nature. Generally, the fair market value of fixed-rate debt will increase as interest rates fall and decrease as interest rates rise. A 100 basis point increase in market interest rates would decrease the fair value of our fixed-rate long-term debt at March 31, 2019 and December 31, 2018 by approximately $149 million and $121 million, respectively. However, since we currently have no plans to repurchase our outstanding fixed-rate instruments before their maturities, the impact of market interest rate fluctuations on our long-term debt does not affect our results of operations or financial position.
The potential decline in fair value of foreign currency forward exchange contracts resulting from a hypothetical near-term adverse change in market rates of 10% was $15.1 million as of March 31, 2019 and $4.5 million as of December 31, 2018, generally offset by a reduction in foreign exchange associated with our transactional activities.
Our open commodity derivative contracts had a notional value of $1,166.1 million as of March 31, 2019 and $693.5 million as of December 31, 2018. At the end of the first quarter 2019, the potential change in fair value of commodity derivative instruments, assuming a 10% decrease in the underlying commodity price, would have increased our net unrealized losses by $125.3 million, generally offset by a reduction in the cost of the underlying commodity purchases.
Other than as described above, market risks have not changed significantly from those described in our 2018 Annual Report on Form 10-K.


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Item 4. CONTROLS AND PROCEDURES    
Evaluation of Disclosure Controls and Procedures
We have established disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)) designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Management, with the participation of the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the Company’s disclosure controls and procedures as of March 31, 2019. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of March 31, 2019.
We rely extensively on information systems and technology to manage our business and summarize operating results. We are in the process of a multi-year implementation of a new global enterprise resource planning (“ERP”) system, which will replace our existing operating and financial systems. The ERP system is designed to accurately maintain the Company’s financial records, enhance operational functionality and provide timely information to the Company’s management team related to the operation of the business. The implementation is expected to occur in phases over the next several years. We have completed the implementation of certain processes, including our consolidated financial reporting platform in the second quarter of 2018, as well as our trade promotions and direct marketing systems in the first quarter of 2019. These transitions did not result in significant changes in our internal control over financial reporting. However, as the next phases of the updated processes are rolled out in connection with the ERP implementation, we will give appropriate consideration to whether these process changes necessitate changes in the design of and testing for effectiveness of internal controls over financial reporting.
There have been no changes in our internal control over financial reporting during the quarter ended March 31, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


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PART II — OTHER INFORMATION
Item 1. Legal Proceedings.
Information on legal proceedings is included in Note 16 to the Unaudited Consolidated Financial Statements.
Item 1A. Risk Factors.
When evaluating an investment in our Common Stock, investors should consider carefully, among other things, the risk factors previously disclosed in Part I, Item 1A, “Risk Factors,” of our 2018 Annual Report on Form 10-K and the information contained in this Quarterly Report on Form 10-Q and our other reports and registration statements filed with the SEC.  There have been no material changes in our risk factors since the filing of our 2018 Annual Report on Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
Issuer Purchases of Equity Securities
The following table shows the purchases of shares of Common Stock made by or on behalf of Hershey, or any “affiliated purchaser” (as defined in Rule 10b-18(a)(3) under the Securities Exchange Act of 1934, as amended) of Hershey, for each fiscal month in the three months ended March 31, 2019:
Period 
 
Total Number
of Shares
Purchased (1)
 
Average Price
Paid
per Share
 
Total Number of
Shares Purchased
as Part of Publicly
Announced Plans 
or Programs (2)
 
Approximate
Dollar Value of
Shares that May
Yet Be Purchased
Under the Plans or
Programs (2)
 
 
 
 
 
 
 
 
(in thousands of dollars)
January 1 through January 27
 
34,455

 
$
104.96

 

 
$
560,000

January 28 through February 24
 
1,728,850

 
$
107.50

 
1,300,000

 
$
419,549

February 25 through March 31
 
86,193

 
$
110.79

 
86,193

 
$
410,000

Total
 
1,849,498

 
$
107.33

 
1,386,193

 
 
(1) During the three months ended March 31, 2019, 463,305 shares of Common Stock were purchased in open market transactions in connection with our practice of buying back shares sufficient to offset those issued under incentive compensation plans.
(2) In October 2017, our Board of Directors approved a $100 million share repurchase authorization.  This program was completed in the first quarter of 2019. In July 2018, our Board of Directors approved an additional $500 million share repurchase authorization. As of March 31, 2019, approximately $410 million remained available for repurchases of our Common Stock under this program. The share repurchase program does not have an expiration date.
Item 3. Defaults Upon Senior Securities.
Not applicable.
Item 4. Mine Safety Disclosures.
Not applicable.
Item 5. Other Information.
Not applicable.


45



Item 6. Exhibits.
The following exhibits are filed as part of this Quarterly Report on Form 10-Q:
Exhibit Number
 
Description
 
 
 
 
 
 
 
 
101.INS
 
XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document. 
101.SCH
 
XBRL Taxonomy Extension Schema
101.CAL
 
XBRL Taxonomy Extension Calculation Linkbase
101.LAB
 
XBRL Taxonomy Extension Label Linkbase
101.PRE
 
XBRL Taxonomy Extension Presentation Linkbase
101.DEF
 
XBRL Taxonomy Extension Definition Linkbase
 
 
 
*
 
Filed herewith
**
 
Furnished herewith



46



SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 
 
 
THE HERSHEY COMPANY
 
 
 
 
 (Registrant)
 
 
 
 
 
 
Date:
April 25, 2019
 
/s/ Patricia A. Little
 
 
 
 
Patricia A. Little
 
 
 
 
Senior Vice President, Chief Financial Officer
 
 
 
 
(Principal Financial Officer)
 
 
 
 
 
 
Date:
April 25, 2019
 
/s/ Javier H. Idrovo
 
 
 
 
Javier H. Idrovo
 
 
 
 
Chief Accounting Officer
 
 
 
 
(Principal Accounting Officer)
 



47