ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following management’s discussion and analysis of our results of operations and financial condition, which we refer to in this filing as “MD&A,” should be read in conjunction with the audited financial statements and the notes thereto. Discussions of fiscal 2021 items and fiscal year comparisons between fiscal 2022 and 2021 that are not included in this Form 10-K can be found in “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended May 29, 2022, which we filed with the SEC on July 27, 2022. Results for the fiscal year ended May 28, 2023 are not necessarily indicative of results that may be attained in the future.
Our MD&A is based on financial data derived from the financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) and certain other financial data (including product contribution margin on a consolidated basis, Adjusted earnings before interest, taxes, depreciation and amortization (“EBITDA”), Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted earnings per share (“EPS”)) that is prepared using non-GAAP financial measures. Refer to “Non-GAAP Financial Measures” below for the definitions of product contribution margin, Adjusted EBITDA, Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted EPS, and a reconciliation of these non-GAAP financial measures to their most directly comparable GAAP financial measures, gross profit, income from operations, net income, or diluted EPS, as applicable.
Acquisitions of Joint Venture Interests
In February 2023, we completed the acquisition of the remaining 50 percent equity interest in Lamb-Weston/Meijer v.o.f. (“LW EMEA”), and in July 2022, we acquired an additional 40 percent interest in Lamb Weston Alimentos Modernos S.A. (“LWAMSA”). With the completion of the transactions, we own 100 percent and 90 percent of the equity interests in LW EMEA and LWAMSA (the “Acquisitions”), respectively. We acquired the remaining interest in LW EMEA (the “LW EMEA Acquisition”) for consideration consisting of €531.6 million ($564.0 million) in cash, which excludes settlement of pre-existing relationships and cash held by LW EMEA, and 1,952,421 shares of our common stock. We used $42.3 million of cash to acquire the additional equity interest in LWAMSA. We began consolidating LW EMEA’s and LWAMSA’s results in our consolidated financial statements following the respective acquisitions. The results are included in our Global segment. We discuss the Acquisitions in more detail in Note 3, Acquisitions, in “Part II, Item 8. Financial Statements and Supplementary Data” of this Form 10-K. Changes in our fiscal 2023 financial results compared to fiscal 2022 were primarily driven by the consolidation of the financial results of LW EMEA in fiscal 2023.
Overview
Lamb Weston is a leading global producer, distributor, and marketer of value-added frozen potato products. We are the number one supplier of value-added frozen potato products in North America and are a leading supplier of value-added frozen potato products internationally, with a strong and growing presence in high-growth emerging markets. We offer a broad product portfolio to a diverse channel and customer base in over 100 countries. French fries represent most of our value-added frozen potato product portfolio.
During fiscal 2023, we operated our business in four reportable segments: Global, Foodservice, Retail, and Other. We report net sales and product contribution margin by segment and on a consolidated basis. Product contribution margin, when presented on a consolidated basis, is a non-GAAP financial measure. Product contribution margin represents net sales less cost of sales and advertising and promotion (“A&P”) expenses. Product contribution margin includes A&P expenses because those expenses are directly associated with the performance of our segments. Net sales and product contribution margin are the primary measures reported to our chief operating decision maker for purposes of allocating resources to our segments and assessing their performance. For additional information on our reportable segments and product contribution margin, see “Non-GAAP Financial Measures” below and Note 13, Segments, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” in this Form 10-K.
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Effective May 29, 2023, in connection with our recent acquisitions and to align with our expanded global footprint, our management, including our chief executive officer, who is our chief operating decision maker, began managing our operations as two business segments based on management’s change to the way it monitors performance, aligns strategies, and allocates resources. This resulted in a change from four reportable segments to two (North America and International), effective the beginning of fiscal 2024. All summary financial information on a prospective basis will be presented under the new reportable segments beginning with the Company’s Quarterly Report on Form 10-Q for the fiscal quarter ending August 27, 2023.
Executive Summary
The following highlights our financial results for fiscal 2023. For more information, refer to the “Results of Operations” and “Non-GAAP Financial Measures” sections below.
In fiscal 2023, we delivered record net sales and earnings through a combination of improved pricing and supply chain productivity savings, while we continued to operate in a significant input cost inflation environment. Our net sales growth was driven primarily by pricing actions across each of our core business segments, as well as incremental sales attributable to the acquisitions of additional equity interests in LW EMEA and LWAMSA. Sales volume declined, largely reflecting our efforts to strategically manage customer and product mix by exiting certain lower-priced and lower-margin business. To a lesser extent, sales volumes towards the end of fiscal 2023 were also negatively affected by softening traffic in casual dining and full-service restaurant channels (which largely impacted our Foodservice segment), certain international customers reverting to pre-Covid inventory practices (impacted our Global segment), and certain customers in select U.S. retail channels temporarily lowering prices to reduce private label inventories (impacted our Retail segment). Outside of North America, frozen potato demand varied, although restaurant traffic trends in our key markets, including Europe, generally softened as customers and consumers both faced similar or more severe macroeconomic environments, including persistent inflation and rising interest rates, than in the U.S.
Gross profit in fiscal 2023 increased as favorable price/mix more than offset higher manufacturing costs on a per pound basis and the impact of lower sales volumes. Incremental earnings from the consolidation of the financial results of LW EMEA beginning in the fiscal fourth quarter also contributed to the increase. Increased gross profit was partially offset by higher selling, general and administrative (“SG&A”) expenses, resulting in the increase in income from operations. Higher income from operations drove the increase in net income and diluted EPS.
In fiscal 2023, we generated net cash from operating activities of $761.7 million, up $343.1 million versus the prior year, due to higher earnings, partially offset by increased working capital. We ended fiscal 2023 with $304.8 million of cash and cash equivalents and a $1.0 billion undrawn U.S. revolving credit facility. In addition, we returned $191.1 million to our stockholders, including $146.1 million in cash dividends and $45.0 million of share repurchases.
Outlook
In fiscal 2024, we expect to deliver net sales and earnings growth, and to benefit from incremental sales and earnings during the first three quarters of the fiscal year attributable to the consolidation of the financial results of LW EMEA, as compared to the first three quarters of fiscal 2023. In addition to the incremental sales for the consolidation of LW EMEA, we expect our net sales growth to be largely driven by pricing actions (which may be more modest than fiscal 2023) to counter input cost inflation, and expect sales volumes will be pressured by our continued efforts to strategically manage our customer and product mix by exiting certain lower-priced and lower-margin business. We also anticipate that demand for our products in the near term may be tempered by ongoing softening restaurant traffic trends in the U.S. and other key markets as our customers and consumers both respond to challenging macroeconomic environments.
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We expect our earnings growth to be largely driven by sales and gross profit growth, and that the rate of input cost inflation, driven largely by higher potato costs, will, in aggregate, moderate as compared to fiscal 2023 inflation rates. In addition, our expectation of gross profit growth presumes that the yield and quality of the potato crops in our growing regions will be largely consistent with historical averages. We anticipate that the increase in gross profit will be partially offset by higher SG&A, reflecting incremental expense attributable to the consolidation of the financial results of LW EMEA, increased investments to upgrade our information systems and enterprise resource planning (“ERP”) infrastructure, the non-cash amortization of intangible assets associated with the LW EMEA Acquisition as well as prior investments in our ERP infrastructure, and higher compensation and benefits expense due to increased headcount.
We believe in the long-term growth outlook for the frozen potato category and that Lamb Weston is well-positioned to drive sustainable, profitable growth, and to better serve customers around the world as we leverage the commercial and operational benefits of LW EMEA, as well as our previously announced capacity expansion investments in China, the U.S., Argentina, and the Netherlands.
Results of Operations
Fiscal Year Ended May 28, 2023 Compared to Fiscal Year Ended May 29, 2022
Net Sales, Gross Profit, and Product Contribution Margin
Year Ended
(in millions, except percentages) 2023 2022 Increase (Decrease)
Segment net sales
Segment product contribution margin
Add: Advertising and promotion expenses 34.4 18.9 82%
Net Sales
Lamb Weston’s net sales for fiscal 2023 increased $1,251.7 million, or 31%, to $5,350.6 million, and included $421.0 million of incremental sales attributable to the consolidation of the financial results of LW EMEA and LWAMSA beginning in our fiscal fourth and first quarters, respectively. Net sales, excluding the incremental sales attributable to the Acquisitions, increased 20% versus the prior year. Price/mix increased 26%, reflecting the benefit of pricing actions across each of our core business segments to counter input and manufacturing cost inflation. Volume declined 6%, largely reflecting our efforts to exit certain lower-priced and lower-margin business as we continued to strategically manage customer and product mix, as well as softer demand due to a slowdown in casual and full-service restaurant traffic. To a lesser extent, in late fiscal 2023, inventory destocking by certain customers in international markets as well as in select U.S. retail channels contributed to the volume decline.
Global net sales increased $870.2 million, or 42%, to $2,934.4 million, and included $421.0 million of incremental sales attributable to the consolidation of the financial results of LW EMEA and LWAMSA. Net sales, excluding the incremental sales attributable to the Acquisitions, grew 22%. The benefit of domestic and international
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pricing actions to counter multi-year inflationary pressures, as well as favorable mix, drove a 27% increase in price/mix. Volume declined 5%, largely reflecting our efforts to exit certain lower-priced and lower-margin business in international and domestic markets, and to a lesser extent, lower shipments in response to inventory destocking by certain customers in international markets late in fiscal 2023.
Foodservice net sales increased $170.9 million, or 13%, to $1,489.1 million, with price/mix up 22% and volume down 9%. The carryover benefits of pricing actions taken in the prior year, as well as actions taken in fiscal 2023, to counter inflationary pressures drove the increase in price/mix. The impact of our efforts to exit certain lower-priced and lower-margin business and a slowdown in casual dining and other full-service restaurant traffic drove the volume decline.
Retail net sales increased $203.1 million, or 34%, to $797.7 million. The carryover benefits of pricing actions taken in the prior year, as well as actions taken in fiscal 2023, across the branded and private label portfolios to counter inflationary pressures drove a 38% increase in price/mix. Volume fell 4%, largely driven by our efforts to exit certain low-margin, private label business, and to a lesser extent, the impact of certain customers in select retail channels taking actions to reduce private label inventories late in fiscal 2023.
Other net sales increased $7.5 million, or 6%, to $129.4 million, reflecting the benefit of pricing actions and volume growth in our vegetable business.
Gross Profit and Product Contribution Margin
Gross profit in fiscal 2023 increased $600.1 million, or 72%, to $1,432.1 million, and included $45.7 million ($33.9 million after-tax, or $0.23 per share) of costs impacting comparability in the fiscal fourth quarter, which included the sale of inventory stepped-up in the LW EMEA Acquisition and unrealized loss related to mark-to-market adjustments associated with natural gas and electricity hedging contracts at LW EMEA as the market experienced significant volatility.
Excluding these items, gross profit increased $645.8 million, or 78%, to $1,477.8 million driven primarily by the benefits from pricing actions more than offsetting the impacts of higher costs on a per pound basis and lower volumes. Incremental earnings from the consolidation of the financial results of LW EMEA beginning in the fiscal fourth quarter also contributed to the increase. The higher costs per pound primarily reflected double-digit cost inflation for key inputs, including: raw potatoes, edible oils, ingredients such as grains and starches used in product coatings, labor, and energy. The increase in gross profit was partially offset by a $29.0 million change in unrealized mark-to-market adjustments associated with commodity hedging contracts, reflecting a $38.5 million loss in the current year, compared with a $9.5 million loss related to these items in the prior year.
Lamb Weston’s overall product contribution margin in fiscal 2023 increased $584.6 million, or 72%, to $1,397.7 million. The increase was driven by higher gross profit (as described above), partially offset by a $15.5 million increase in advertising and promotion (“A&P”) expenses.
Global product contribution margin increased $343.3 million, or 136%, to $595.5 million, and included $27.0 million ($20.0 million after-tax, or $0.14 per share) of costs associated with the sale of inventory stepped-up in the LW EMEA Acquisition. Excluding this item, product contribution margin increased $370.3 million, or 147%, to $622.5 million. Pricing actions, incremental earnings from the consolidation of the financial results of LW EMEA, and favorable mix drove the increase, which was partially offset by higher costs per pound. Global cost of sales was $2,328.1 million, up 29%, primarily due to higher manufacturing costs.
Foodservice product contribution margin increased $101.7 million, or 23%, to $551.0 million. Pricing actions drove the increase, which was partially offset by higher costs per pound and the impact of lower sales volumes. Foodservice cost of sales was $930.8 million, up 8%, primarily due to higher manufacturing costs, partially offset by lower sales volumes.
Retail product contribution margin increased $170.7 million, or 156%, to $280.1 million in fiscal 2023.Pricing actions drove the increase, which was partially offset by higher costs per pound and a $7.6 million increase in A&P expenses. Retail cost of sales was $501.9 million, up 5%, primarily due to higher manufacturing costs, partially offset by lower sales volumes.
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Other product contribution margin decreased $31.1 million to a loss of $28.9 million in fiscal 2023, as compared to a $2.2 million gain in fiscal 2022. These amounts include a $48.4 million loss related to unrealized mark-to-market adjustments and realized settlements associated with commodity hedging contracts in fiscal 2023, and a $10.4 million loss related to contracts in fiscal 2022. Excluding these mark-to-market adjustments, product contribution margin increased $6.9 million, largely due to higher prices in our vegetable business.
Selling, General and Administrative Expenses
SG&A expenses in fiscal 2023 increased $162.4 million, or 42%, to $550.0 million, and included a net $21.8 million gain ($12.2 million after-tax, or $0.08 per share) related to actions taken to mitigate the effect of changes in currency rates on the purchase price of LW EMEA, net of other acquisition-related costs.Excluding this net gain, SG&A increased $184.2 million to $571.8 million,primarily due to higher compensation and benefits expense, incremental expenses attributable to the consolidation of the financial results of LW EMEA in the fiscal fourth quarter, higher expenses related to improving our information systems and ERP infrastructure, and a $15.5 million increase in A&P expenses.
Interest Expense, Net
Interest expense, net in fiscal 2023 declined $51.8 million to $109.2 million. The decrease reflects a $53.3 million ($40.5 million after-tax, or $0.27 per share) loss on extinguishment of debt associated with the redemption of our previously outstanding senior notes due 2024 and 2026, which occurred in fiscal 2022. Excluding this loss, interest expense, net increased $1.5 million due primarily to additional interest expense associated with debt incurred for the LW EMEA Acquisition. For more information, see Note 8, Debt and Financing Obligations, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” in this Form 10-K.
Income Taxes
Our effective tax rate was 18.2% for fiscal 2023, compared to 26.3% in fiscal 2022. Excluding $34.3 million of net tax expense and a $4.6 million benefit from items impacting comparability in fiscal 2023 and 2022, respectively, our effective tax rate was 21.8% for fiscal 2023 and 21.4% in fiscal 2022. Our effective tax rate varies from the U.S. statutory tax rate of 21% principally due to the impact of U.S. state taxes, foreign taxes, permanent differences, and discrete items.
For further information on income taxes, see Note 5, Income Taxes, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” in this Form 10-K.
Equity Method Investment Earnings (Loss)
We conducted meaningful business through unconsolidated joint ventures until we acquired the remaining interest of LW EMEA in February 2023. In fiscal 2023 and 2022, our share of earnings (loss) from our equity method investments was $460.6 million of earnings and a $10.7 million loss, respectively. The fiscal 2023 results include a $425.8 million ($379.5 million after-tax, or $2.62 per share) non-cash gain related to remeasuring our initial 50 percent equity interests in LW EMEA and LWAMSA to fair value. Equity method earnings also includes a $31.1 million unrealized loss related to mark-to-market adjustments associated with currency and commodity hedging contracts, of which $37.8 million ($28.0 million after-tax, or $0.19 per share) related to losses in natural gas and electricity derivatives as commodity markets in Europe have experienced significant volatility. Equity method investment gains in fiscal 2022 included a $26.5 million unrealized gain related to mark-to-market adjustments associated with currency and commodity hedging contracts, of which $31.7 million ($23.5 million after-tax, or $0.16 per share) related to gains in natural gas and electricity derivatives. Equity method investment earnings in fiscal 2022 also included a $62.7 million (before and after-tax, or $0.43 per share) non-cash impairment charge to write-off our then-current portion of LW EMEA’s net investment in its former joint venture in Russia.
Excluding these items (non-cash acquisition gains and impairment charge, and mark-to-market adjustments related to natural gas and electricity derivatives) and the other mark-to-market adjustments, earnings from equity method investments increased $52.3 million compared to the prior year, reflecting the benefit of pricing actions, partially offset by higher costs per pound, in both Europe and the U.S.
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Fiscal 2023 Compared to Fiscal 2022 Balance Sheet Changes
The changes in our Consolidated Balance Sheet, compared with May 29, 2022, related primarily to the LW EMEA Acquisition and liabilities incurred to fund the LW EMEA Acquisition. We increased our assets approximately $1,896.8 million and our liabilities approximately $449.3 million in total based on the fair values of LW EMEA’s assets and liabilities, respectively, on the acquisition date. In addition, we incurred $450.0 million of new borrowings, which were used to fund a portion of the purchase price for the acquisition and for general corporate purposes, and also issued 1,952,421 million shares of our common stock as additional consideration for the acquisition. For more information about the LW EMEA Acquisition, see Note 3, Acquisitions, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” of this Form 10-K.
Liquidity and Capital Resources
We ended fiscal 2023 with $304.8 million of cash and cash equivalents and a $1.0 billion undrawn U.S. revolving credit facility. We believe we have sufficient liquidity to meet our business requirements for at least the next 12 months. Cash generated by operations, supplemented by our total cash and availability under our revolving credit facilities, is our primary source of liquidity for funding business requirements. Our funding requirements include capital expenditures for announced manufacturing expansions in China, Idaho, the Netherlands, and Argentina, as well as capital investments to upgrade information systems and ERP infrastructure, working capital requirements, and dividends. We expect capital investments in fiscal 2024 to be approximately $800 million to $900 million, depending on timing of projects and excluding acquisitions, if any. These expenditures could increase or decrease as a result of a number of factors, including our financial results, future economic conditions, supply chain constraints for equipment, and our regulatory compliance requirements. At May 28, 2023, we had commitments for capital expenditures of $623.9 million.
Cash Flows
Below is a summary table of our cash flows, followed by a discussion of the sources and uses of cash through operating, investing, and financing activities:
For the Fiscal Years Ended May
Net cash flows provided by (used for):
Effect of exchange rate changes on cash and cash equivalents 18.2 (3.2)
Net decrease in cash and cash equivalents (220.2) (258.5)
Cash and cash equivalents, beginning of period 525.0 783.5
Cash and cash equivalents, end of period $ 304.8 $ 525.0
Operating Activities
During fiscal 2023, cash provided by operating activities increased $343.1 million to $761.7 million, compared to $418.6 million for fiscal 2022. The increase related to a $306.8 million increase in net income, adjusted for non-cash income and expenses, in addition to an increase of $36.3 million of cash provided by favorable changes in working capital. See “Results of Operations” in this MD&A for more information related to the increase in income from operations. Favorable changes in working capital primarily related to an increase in accounts payable due to timing, a decrease in receivables attributable to timing of collection, and an increase in accrued liabilities due to higher compensation and benefits accrued in fiscal 2023, compared with fiscal 2022. These favorable changes were offset by an unfavorable change in higher-cost finished goods inventories, due primarily to increased potato and input cost inflation.
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Investing Activities
Investing activities used $1,340.9 million of cash in fiscal 2023, compared with $310.5 million in fiscal 2022. The increase primarily relates to our investments in our chopped and formed capacity expansion and construction of our french fry processing line in Idaho and our greenfield french fry processing facility in China, and investments to upgrade our information systems and ERP infrastructure. In addition, in fiscal 2023, we used $610.4 million to purchase the remaining equity interest in LW EMEA and an additional 40 percent equity interest in LWAMSA.
Financing Activities
During fiscal 2023, financing activities provided net proceeds of $340.8 million, compared with $363.4 million used in during fiscal 2022. During fiscal 2023, financing activities included $529.5 million of proceeds from debt issuances including a new $450.0 million term loan facility to fund a portion of the LW EMEA Acquisition and $79.5 million of borrowings on other credit facilities. We also had proceeds of $41.4 million from short-term borrowings on other facilities. These activities were partially offset by the payment of $146.1 million of cash dividends to common stockholders and $32.6 million of debt and financing obligation repayments. In addition, we used $51.6 million of cash to repurchase 569,698 shares of our common stock at an average price of $78.99 per share and withheld 83,974 shares from employees to cover income and payroll taxes on equity awards that vested during the year. As of May 28, 2023, $223.9 million remained authorized for repurchase under our share repurchase program.
During fiscal 2022, financing activities primarily related to issuing U.S. dollar-denominated senior notes and a RMB-denominated loan facility for combined net proceeds of $1,676.1 million, offset by $1,698.1 million of debt and financing obligation repayments, including cash used to redeem our previously outstanding senior notes due 2024 and 2026 (including the payment of a call premium of $39.6 million), and the payment of $138.4 million of cash dividends to common stockholders. In addition, we used $158.4 million of cash to repurchase 2,407,184 shares of our common stock at an average price of $62.59 per share and withheld 118,204 shares from employees to cover income and payroll taxes on equity awards that vested during the year.
For more information about our debt, including among other items, interest rates, maturity dates, and covenants, see Note 8, Debt and Financing Obligations, of the Notes to the Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” of this Form 10-K. At May 28, 2023, we were in compliance with all covenants contained in our credit agreements.
Obligations and Commitments
As part of our ongoing operations, we enter into arrangements that obligate us to make future payments under contracts such as debt agreements, lease agreements, potato supply agreements, and unconditional purchase obligations. The unconditional purchase obligation arrangements are entered into in the normal course of business to ensure adequate levels of sourced product are available.
A summary of our material cash requirements for our known contractual obligations as of May 28, 2023 are as follows:
(in millions) Total Payable within 12 Months
Interest on long-term debt (b) 960.3 169.3
Purchase obligations and capital commitments (a) 1,233.9 717.1
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Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements as of May 28, 2023 that are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures, or capital resources.
Critical Accounting Estimates
Management’s discussion and analysis of financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, and expenses, and related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to our trade promotions, income taxes, and impairment, among others. We base our estimates on historical experiences combined with management’s understanding of current facts and circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Critical accounting estimates are those that are most important to the portrayal of our financial condition and operating results. These estimates require management’s most difficult, subjective, or complex judgments. We review the development, selection, and disclosure of our critical accounting estimates with the Audit and Finance Committee of our Board of Directors.
We have made appropriate accounting estimates based on the facts and circumstances available as of the reporting date. To the extent there are differences between these estimates and actual results, our consolidated financial statements may be affected.
Acquisitions
From time to time, we may enter into business combinations. In July 2022 and February 2023, we acquired an additional 40 percent interest in LWAMSA and the remaining equity interest in LW EMEA, respectively. With the completion of the Acquisitions, we own 90 percent and 100 percent of the equity interests in LWAMSA and LW EMEA, respectively. We recorded the assets acquired and the liabilities assumed at their estimated acquisition date fair values with the excess purchase price recorded as goodwill. The acquisition method of accounting requires us to make significant estimates and assumptions regarding the fair values of the elements of a business combination as of the date of acquisition, including the fair values (fair value is determined using the income approach, cost approach and/or market approach) of inventory, property, plant and equipment, identifiable intangible assets, deferred tax asset valuation allowances, and liabilities related to uncertain tax positions, among others. Additionally, for acquisitions of previously held equity interests, we remeasure the previously held equity interest to fair value based on consideration at the acquisition date utilizing a market approach based on comparable control premiums within our industry. This method also requires us to refine these estimates over a measurement period not to exceed one year to reflect new information obtained about facts and circumstances that existed as of the acquisition date that, if known, would have affected the measurement of the amounts recognized as of that date. If we are required to retroactively adjust provisional amounts that we have recorded for the fair values of assets and liabilities in connection with acquisitions, these adjustments could have a material impact on our financial condition and results of operations.
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Significant estimates and assumptions in determining the fair value of brands and other identifiable intangible assets include future cash flows that we expect to generate from the acquired assets. If the subsequent actual results and updated projections of the underlying business activity change compared with the assumptions and projections used to develop these values, we could record impairment charges. In addition, we have estimated the economic lives of certain acquired assets and these lives are used to calculate depreciation and amortization expense. If our estimates of the economic lives change, depreciation or amortization expenses could increase or decrease.
Sales Incentives and Trade Promotion Allowances
We promote our products with advertising, consumer incentives, and trade promotions. Sales promotions include, but are not limited to, discounts, coupons, rebates, and volume-based incentives. The estimates for sales incentives are based principally on historical sales and redemption rates, influenced by judgments about current market conditions such as competitive activity in specific product categories.
Trade promotion programs include introductory marketing funds such as slotting fees, cooperative marketing programs, temporary price reductions, and other activities conducted by our customers to promote our products. The costs of these programs are recognized as a reduction to revenue with a corresponding accrued liability. The estimate of trade promotions is inherently difficult due to information limitations as the products move beyond distributors and through the supply chain to operators. Estimates made by management in accounting for these costs are based primarily on our historical experience with marketing programs, with consideration given to current circumstances and industry trends and include the following: quantity of customer sales, timing of promotional activities, current and past trade-promotion spending patterns, the interpretation of historical spending trends by customer and category, and forecasted costs for activities within the promotional programs.
The determination of sales incentive and trade promotion costs requires judgment and may change in the future as a result of changes in customer demand for our products, promotion participation, particularly for new programs related to the introduction of new products. Final determination of the total cost of promotion is dependent upon customers providing information about proof of performance and other information related to the promotional event. Because of the complexity of some of these trade promotions, the ultimate resolution may result in payments that are different from our estimates. As additional information becomes known, we may change our estimates. At May 28, 2023 and May 29, 2022, we had $86.1 million and $41.2 million, respectively, of accrued trade promotions payable recorded in “Accrued liabilities” on our Consolidated Balance Sheets. The increase from May 29, 2022 is primarily due to the LW EMEA Acquisition.
Income Taxes
We compute the provision for income taxes using the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities, and for operating losses and tax credit carryforwards. We measure deferred tax assets and liabilities using the currently enacted tax rates that apply to taxable income in effect for the years in which those tax assets and liabilities are expected to be realized or settled.
Inherent in determining the annual tax rate are judgments regarding business plans, planning opportunities, and expectations about future outcomes. Management judgments are required for the following items:
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New and Recently Issued Accounting Standards
For a listing of new and recently issued accounting standards, see Note 1, Nature of Operations and Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” of this Form 10-K.
Non-GAAP Financial Measures
To supplement the financial information included in this report, we have presented product contribution margin on a consolidated basis, Adjusted EBITDA, Adjusted EBITDA including unconsolidated joint ventures, Adjusted Income from Operations, Adjusted Net Income, and Adjusted Diluted EPS, each of which is considered a non-GAAP financial measure.
Product contribution margin is one of the primary measures reported to our chief operating decision maker for purposes of allocating resources to our segments and assessing their performance. Product contribution margin represents net sales less cost of sales and A&P expenses. Product contribution margin includes A&P expenses because those expenses are directly associated with the performance of our segments. Product contribution margin, when presented on a consolidated basis, is a non-GAAP financial measure. Our management also uses Adjusted Income from Operations, Adjusted Net Income, Adjusted Diluted EPS, Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures. Management uses these non-GAAP financial measures to assist in analyzing what management views as our core operating performance for purposes of business decision making. Management believes that presenting these non-GAAP financial measures provides investors with useful supplemental information because they (i) provide meaningful supplemental information regarding financial performance by excluding certain items affecting comparability between periods, (ii) permit investors to view performance using the same tools that management uses to budget, make operating and strategic decisions, and evaluate historical performance, and (iii) otherwise provide supplemental information that may be useful to investors in evaluating our results. In addition, we believe that the presentation of these non-GAAP financial measures, when considered together with the most directly comparable GAAP financial measures and the reconciliations to those GAAP financial measures, provides investors with additional tools to understand the factors and trends affecting our underlying business than could be obtained absent these disclosures.
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The non-GAAP financial measures provided in this report should be viewed in addition to, and not as alternatives for, financial measures prepared in accordance with GAAP that are presented in this report. These measures are not substitutes for their comparable GAAP financial measures, such as gross profit, income from operations, net income, diluted earnings per share, or other measures prescribed by GAAP, and there are limitations to using non-GAAP financial measures. For example, the non-GAAP financial measures presented in this report may differ from similarly titled non-GAAP financial measures presented by other companies, and other companies may not define these non-GAAP financial measures the same way we do.
See “Results of Operations – Fiscal Year Ended May 28, 2023 Compared to Fiscal Year Ended May 29, 2022 – Net Sales, Gross Profit, and Product Contribution Margin” above for a reconciliation of product contribution margin on a consolidated basis to gross profit.
The following table reconciles net income to Adjusted EBITDA and Adjusted EBITDA including unconsolidated joint ventures.
For the Fiscal Years Ended May
Equity method investment (earnings) loss (460.6) 10.7
Interest expense, net 109.2 161.0
Income tax expense 224.6 71.8
Income from operations 882.1 444.4
Depreciation and amortization 218.3 187.3
Items impacting comparability
Acquisition expenses, net (a) (21.8) —
LW EMEA derivative losses (gains) (a) 18.7 —
Inventory step-up (a) 27.0 —
Unconsolidated Joint Ventures
Equity method investment earnings (loss) 460.6 (10.7)
Interest expense, income tax expense, and depreciation and
amortization included in equity method investment earnings 29.1 42.0
Items impacting comparability
LW EMEA derivative losses (gains) (b) 37.8 (31.7)
Gain on acquisitions (b) (425.8) —
Write-off of net investment in Russia (b) — 62.7
Add: Adjusted EBITDA from unconsolidated joint ventures 101.7 62.3
Adjusted EBITDA including unconsolidated joint ventures $ 1,226.0 $ 694.0
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The following table reconciles income from operations to Adjusted Income from Operations, net income to Adjusted Net Income, and diluted EPS to Adjusted Diluted EPS:
For the Fiscal Years Ended May
Items impacting comparability:
LW EMEA acquisition-related items:
Gain on acquisitions (b) — — (364.4) — (2.52) —
Inventory step-up (c) 27.0 — 20.0 — 0.14 —
Acquisition expenses, net (c) (21.8) — (12.2) — (0.08) —
Loss on extinguishment of debt (d) — — — 40.5 — 0.27
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our operations are exposed to market risks from adverse changes in commodity prices affecting the cost of raw materials and energy, changes in currency rates, and interest rates. In the normal course of business, we may periodically enter into derivatives to minimize these risks, but not for trading purposes. All of the following potential changes are based on sensitivity analyses performed on our financial positions as of May 28, 2023 and May 29, 2022. Actual results may differ materially.
Commodity Price Risk
The objective of our commodity exposure management is to minimize volatility in earnings due to large fluctuations in the price of commodities. We may use commodity swap or forward purchase contracts, in addition to sourcing from multiple providers, to manage risks associated with market fluctuations in oil and energy prices. Based on our open commodity contract hedge positions as of May 28, 2023, a hypothetical 10 percent decline in market prices applied to the fair value of the instruments would result in a charge to “Cost of sales” of $9.0 million ($6.8 million after-tax). Based on our open commodity hedge positions as of May 29, 2022, a hypothetical 10 percent decline in market prices applied to the fair value of the instruments would have resulted in a charge to “Cost of sales” of $4.5 million ($3.5 million after-tax) and a charge to “Equity method investment earnings” of $6.1 million ($4.6 million after-tax). It should be noted that any change in the fair value of the contracts, real or hypothetical, would be substantially offset by an inverse change in the value of the underlying hedged item.
Foreign Currency Exchange Rate Risk
We are subject to currency exchange rate risk through investments and businesses owned and operated in foreign countries. Our operations in foreign countries export to, and compete with imports from other regions. As such, currency movements can have a number of direct and indirect impacts on our financial statements. Direct impacts include the translation of international operations’ local currency financial statements into U.S. dollars and the remeasurement impact associated with non-functional currency financial assets and liabilities. Indirect impacts include the change in competitiveness of exports out of the United States (and the impact on local currency pricing of products that are traded internationally). The currency that has the most impact is the Euro. From time to time, we may economically hedge currency risk with foreign currency contracts, such as forward contracts. Based on monetary assets and liabilities denominated in foreign currencies, we estimate that a hypothetical 10 percent adverse change in exchange rates versus the U.S. dollar would result in losses of $48.8 million ($37.1 million after-tax) and $6.5 million ($5.0 million after-tax) as of May 28, 2023 and May 29, 2022, respectively. The increased hypothetical risk from May 29, 2022 is primarily related to the increase in our non-U.S. assets and liabilities.
Interest Rate Risk
We issue fixed and floating rate debt in a proportion that management deems appropriate based on current and projected market conditions. At May 28, 2023, we had $2,170.0 million of fixed-rate and $1,309.8 million of variable-rate debt outstanding. At May 29, 2022, we had $2,170.0 million of fixed-rate and $575.0 million of variable-rate debt outstanding. A one percent increase in interest rates related to variable-rate debt would result in an annual increase in interest expense and a corresponding decrease in income before taxes of $13.3 million annually ($10.3 million after-tax) and $5.8 million annually ($4.5 million after-tax) at May 28, 2023 and May 29, 2022, respectively.
For more information about our debt, see Note 8, Debt and Financing Obligations, of the Notes to Consolidated Financial Statements in “Part II, Item 8. Financial Statements and Supplementary Data” of this Form 10-K.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Notes to Consolidated Financial Statements 55
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
Lamb Weston Holdings, Inc.:
Opinion on theConsolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Lamb Weston Holdings, Inc. and subsidiaries (the Company) as of May 28, 2023 and May 29, 2022, the related consolidated statements of earnings, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended May 28, 2023, and the related notes and consolidated financial statement schedule (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of May 28, 2023 and May 29, 2022, and the results of its operations and its cash flows for each of the years in the three-year period ended May 28, 2023, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of May 28, 2023, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated July 25, 2023 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Acquisition date fair value of the previously held equity interest in Lamb Weston EMEA
As described in Note 3 to the consolidated financial statements, on February 28, 2023, the Company acquired the remaining 50% interest in Lamb Weston EMEA, increasing the Company’s ownership interest to 100%. As a result of the transaction, the Company remeasured its previously held equity interest at the acquisition date fair value of $634.4 million and recognized a gain of $410.7 million, which is included in equity method investment earnings (loss) in the consolidated statement of earnings. The Company determined the estimated fair value of its previously held equity interest using the market approach, which included a control premium assumption.
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We identified the evaluation of the acquisition date fair value of the previously held equity interest in Lamb Weston EMEA as a critical audit matter. Specifically, challenging auditor judgment was required to evaluate the control premium used to determine the acquisition date fair value. Additionally, specialized skills and knowledge were required to evaluate the relevance of comparable transactions in a similar industry.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of an internal control over the Company’s determination and selection of the control premium. We performed a sensitivity analysis over the control premium assumption to assess the impact of changes to that assumption on the Company’s determination of fair value. We involved valuation professionals with specialized skills and knowledge, who assisted in evaluating:
• the relevance of comparable transactions, including the industry and time period of the identified transactions
• the control premium by comparing it to relevant publicly available data for comparable transactions.
/s/ KPMG LLP
We have served as the Company’s auditor since 2016.
Seattle, Washington
July 25, 2023
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Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors
Lamb Weston Holdings, Inc.:
Opinion on Internal Control Over Financial Reporting
We have audited Lamb Weston Holdings, Inc. and subsidiaries' (the Company) internal control over financial reporting as of May 28, 2023, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of May 28, 2023, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of May 28, 2023 and May 29, 2022, the related consolidated statements of earnings, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended May 28, 2023, and the related notes and consolidated financial statement schedule (collectively, the consolidated financial statements), and our report dated July 25, 2023 expressed an unqualified opinion on those consolidated financial statements.
The Company acquired the remaining interest in Lamb-Weston/Meijer v.o.f. (Lamb Weston EMEA), its joint venture in Europe, during the year ended May 28, 2023, and management excluded from its assessment of the effectiveness of the Company’s internal control over financial reporting as of May 28, 2023, Lamb Weston EMEA’s internal control over financial reporting associated with 30% of total assets and 7% of total net sales included in the consolidated financial statements of the Company as of and for the year ended May 28, 2023. Our audit of internal control over financial reporting of the Company also excluded an evaluation of the internal control over financial reporting of Lamb Weston EMEA.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ KPMG LLP
Seattle, Washington
July 25, 2023
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Lamb Weston Holdings, Inc.
Consolidated Statements of Earnings
(dollars in millions, except per share amounts)
For the Fiscal Years Ended May
Selling, general and administrative expenses 550.0 387.6 357.2
Income before income taxes and equity method earnings 772.9 283.4 356.5
Equity method investment earnings (loss) 460.6 (10.7) 51.8
Earnings per share:
Weighted average common shares outstanding:
See Notes to Consolidated Financial Statements.
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Lamb Weston Holdings, Inc.
Consolidated Statements of Comprehensive Income
(dollars in millions)
For the Fiscal Years Ended May
Tax Tax Tax
Amount Benefit Amount Amount Benefit Amount Amount Benefit Amount
Other comprehensive income (loss):
See Notes to Consolidated Financial Statements.
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Lamb Weston Holdings, Inc.
Consolidated Balance Sheets
(dollars in millions, except share data)
May 28, May 29,
ASSETS
Current assets:
Cash and cash equivalents $ 304.8 $ 525.0
Prepaid expenses and other current assets 166.2 112.9
Property, plant and equipment, net 2,808.0 1,579.2
Operating lease assets 146.1 119.0
Equity method investments 43.5 257.4
Intangible assets, net 110.2 33.7
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Short-term borrowings $ 158.5 $ —
Current portion of long-term debt and financing obligations 55.3 32.2
Long-term liabilities:
Deferred income taxes 252.1 172.5
Other noncurrent liabilities 247.8 211.9
Total long-term liabilities 3,748.3 3,080.2
Commitments and contingencies
Stockholders’ equity:
Additional distributed capital (558.6) (813.3)
Accumulated other comprehensive loss (26.8) (15.6)
Total stockholders’ equity 1,411.3 360.5
Total liabilities and stockholders’ equity $ 6,519.8 $ 4,139.8
See Notes to Consolidated Financial Statements.
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Lamb Weston Holdings, Inc.
Consolidated Statements of Stockholders’ Equity
(dollars in millions, except share data)
Additional Accumulated
Common Stock, Common Treasury Paid-in Other Total
Shares Amount Amount Capital Earnings Income (Loss) Equity
Dividends declared, $0.93 per share — — — — (136.2) — (136.2)
Common stock issued 646,881 0.6 — 3.5 — — 4.1
Other — — — 2.0 (1.6) — 0.4
Comprehensive income — — — — 317.8 70.0 387.8
Common stock issued 404,952 0.4 — 1.5 — — 1.9
Other — — — 0.7 (0.7) — —
Comprehensive income — — — — 200.9 (45.1) 155.8
Other — — — 19.5 (2.1) — 17.4
Comprehensive income — — — — 1,008.9 (11.2) 997.7
See Notes to Consolidated Financial Statements.
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Lamb Weston Holdings, Inc.
Consolidated Statements of Cash Flows
(dollars in millions)
For the Fiscal Years Ended May
Cash flows from operating activities
Loss on extinguishment of debt — 53.3 1.0
Stock-settled, stock-based compensation expense 38.5 21.3 20.6
Gain on acquisition of interests in joint ventures (425.8) — —
Deferred income taxes 0.4 13.5 3.8
Foreign currency remeasurement (gain) loss (21.7) 0.5 (0.5)
Income taxes payable/receivable, net (12.3) 11.6 (3.3)
Prepaid expenses and other current assets 1.8 (6.8) (4.9)
Accrued liabilities 56.5 32.1 (9.0)
Net cash provided by operating activities $ 761.7 $ 418.6 $ 552.7
Cash flows from investing activities
Additions to property, plant and equipment (654.0) (290.1) (147.2)
Additions to other long-term assets (82.0) (16.3) (16.1)
Acquisition of interests in joint ventures, net (610.4) — —
Other 5.5 (4.1) 0.8
Net cash used for investing activities $ (1,340.9) $ (310.5) $ (162.5)
Cash flows from financing activities
Proceeds from issuance of debt 529.5 1,676.1 —
Payments of senior notes call premium — (39.6) —
Proceeds (repayments) of short-term borrowings, net 41.4 — (498.8)
Other 0.2 (5.0) 1.7
Net decrease in cash and cash equivalents (220.2) (258.5) (580.5)
Cash and cash equivalents, beginning of period 525.0 783.5 1,364.0
Cash and cash equivalents, end of period $ 304.8 $ 525.0 $ 783.5
See Notes to Consolidated Financial Statements.
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Notes to Consolidated Financial Statements
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Lamb Weston Holdings, Inc. (“we,” “us,” “our,” the “Company,” or “Lamb Weston”) is a leading global producer, distributor, and marketer of value-added frozen potato products and is headquartered in Eagle, Idaho. We have four reportable segments: Global, Foodservice, Retail, and Other.
Basis of Presentation
These Consolidated Financial Statements present the financial results of Lamb Weston for the fiscal years ended May 28, 2023, May 29, 2022, and May 30, 2021 (“fiscal 2023, 2022, and 2021”), and have been prepared in accordance with generally accepted accounting principles (“GAAP”) in the United States of America (“U.S.”). The fiscal year of Lamb Weston ends the last Sunday in May. The fiscal years for the Consolidated Financial Statements presented consist of 52-week periods.
The financial statements include all adjustments (consisting only of normal recurring adjustments) that we consider necessary for a fair presentation of such financial statements. Our consolidated financial statements include the accounts of Lamb Weston and all of our majority-owned subsidiaries. Intercompany investments, accounts, and transactions have been eliminated.
Certain amounts in the prior period consolidated financial statements have been reclassified to conform with the current period presentation.
The equity method of accounting is applied for investments when the Company has significant influence over the investee’s operations, or when the investee is structured with separate capital accounts and our investment is considered more than minor. Our equity method investments are described in Note 4, Joint Venture Investments.
Use of Estimates
The preparation of the consolidated financial statements in conformity with GAAP requires us to make certain estimates and assumptions that affect the amounts reported in our consolidated financial statements and the accompanying notes. On an ongoing basis, we evaluate our estimates, including but not limited to those related to the measurement of assets acquired and the liabilities assumed based on fair value at the acquisition date, provisions for income taxes, estimates of sales incentives and trade promotion allowances. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. We adjust such estimates and assumptions when facts and circumstances dictate. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in these estimates will be reflected in the consolidated financial statements in future periods.
Revenue from Contracts with Customers
Generally, we recognize revenue on a point-in-time basis when the customer takes title to the product and assumes the risks and rewards for the product. However, for customized products, which are products manufactured to customers’ unique specifications, we recognize revenue over time, utilizing an output method, which is generally as the products are produced. This is because once a customized product is manufactured pursuant to a purchase order, we have an enforceable right to payment for that product. Our Global segment sells the majority of our customized products, for which revenue is recognized when a purchase order is received to the extent the product has been manufactured, as opposed to sales of non-customized products, for which revenue is generally recognized upon shipment. As a result, the timing of the receipt of a purchase order may create quarterly fluctuations in this segment.
The nature of our contracts varies based on the business, customer type, and region; however, in all instances it is our customary business practice to receive a valid order from the customer, in which each party’s rights and related payment terms are clearly identifiable. Our payment terms are consistent with industry standards and generally include
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early pay discounts. Amounts billed and due from customers are short-term in nature and are classified as receivables, since payments are unconditional and only the passage of time is required before payments are due. As of May 28, 2023, and May 29, 2022, we had $146.9 million and $122.7 million, respectively, of unbilled receivables for customized products for which we have accelerated the recognition of revenue and recorded the amounts in “Receivables” on our Consolidated Balance Sheets. We generally do not offer financing to our customers. We also do not provide a general right of return. However, customers may seek to return defective or non-conforming products. Following a customer return, we may offer remedies, including cash refunds, credit towards future purchases, or product replacement. As a result, customers’ right of return and related refund or product liabilities are estimated and recorded as reductions in revenue.
We have contract terms that give rise to variable consideration including, but not limited to, discounts, coupons, rebates, and volume-based incentives. We estimate volume rebates based on the most likely amount method outlined in the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 606, Revenue from Contracts with Customers. We estimate early payment discounts and other customer trade incentives based principally on historical sales and coupon utilization and redemption rates, influenced by judgments about current market conditions such as competitive activity in specific product categories, which is consistent with the expected value method outlined in ASC 606. We have concluded that these methods result in the best estimate of the consideration we are entitled to from our customers. Because of the complexity of some of these trade promotions, however, the ultimate resolution may result in payments that are materially different from our estimates. As additional information becomes known, we may change our estimates. At May 28, 2023 and May 29, 2022, we had $86.1 million and $41.2 million, respectively, of sales incentives and trade promotions payable recorded in “Accrued liabilities” on our Consolidated Balance Sheets.
We have elected to present all sales taxes on a net basis, account for shipping and handling activities as fulfillment activities, recognize the incremental costs of obtaining a contract as expense when incurred if the amortization period of the asset we would recognize is one year or less, and not record interest income or interest expense when the difference in timing of control or transfer and customer payment is one year or less.
Advertising and Promotion
Advertising and promotion expenses totaled $34.4 million, $18.9 million, and $17.8 million in fiscal 2023, 2022, and 2021, respectively, and are included in “Selling, general and administrative expenses” in the Consolidated Statements of Earnings as the expenses are incurred.
Research and Development
Research and development costs are expensed as incurred and totaled $17.2 million, $16.2 million, and $12.9 million in fiscal 2023, 2022, and 2021, respectively, and are included in “Selling, general and administrative expenses” in the Consolidated Statements of Earnings.
Stock-Based Compensation
Compensation expense resulting from all stock-based compensation transactions is measured and recorded in the consolidated financial statements based on the grant date fair value of the equity instruments issued. Compensation expense is recognized over the period the employee or non-employee director provides service in exchange for the award. See Note 10, Stock-Based Compensation, for additional information.
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Pension and Post-Retirement Benefits
Certain U.S. employees covered by collective bargaining agreements are covered by defined benefit pension plans. We make pension plan contributions that are sufficient to fund our actuarially determined costs, generally equal to the minimum amounts required by the Employee Retirement Income Security Act of 1974, as amended. From time to time, we may make discretionary contributions based on the funded status of the plans, tax deductibility, income from operations, and other factors. In fiscal 2023 and 2022, we made $2.0 million of discretionary contributions to our qualified plan. There are no minimum required contributions in fiscal 2024, however, in July 2023, we made a $2.5 million discretionary contribution to our qualified pension plan.
We also have a nonqualified defined benefit pension plan that provides unfunded supplemental retirement benefits to certain U.S. executives. This plan is closed to new participants and pension benefit accruals are frozen for active participants.
Our pension benefit obligations and post-retirement benefit obligations, and the related costs, are calculated using actuarial concepts. The measurement of such obligations and expenses requires that certain assumptions be made regarding several factors, most notably including the discount rate and the expected rate of return on plan assets. We evaluate these assumptions on an annual basis. The funded status of our plans are based on company contributions, benefit payments, the plan asset investment return, the discount rate used to measure the liability, and expected participant longevity. The benefit obligations of the plans exceeded the assets by $9.3 million and $11.0 million for the pension plan and $4.3 million and $5.5 million for the other post-retirement benefit plan for the years ended May 28, 2023 and May 29, 2022, respectively. We recognize the unfunded status of these plans in “Other noncurrent liabilities” on the Consolidated Balance Sheets, and we recognize changes in funded status in the year changes occur through the Consolidated Statements of Comprehensive Income. Net periodic benefit costs were $2.5 million, $2.7 million, and $3.8 million in fiscal 2023, 2022, and 2021, respectively.
Participants that do not actively participate in a pension plan are eligible to participate in defined contribution savings plans with employer matching provisions. Eligible U.S. employees participate in a contributory defined contribution plan (“the 401(k) Plan”), which permits participants to make contributions by salary reduction pursuant to Section 401(k) of the Internal Revenue Code of 1986, as amended. Regardless of employee participation level, we generally provide a 3% contribution to the 401(k) Plan. In addition to this, we will generally match 100% of the first 6% of the participating employee’s contribution election to the 401(k) Plan. The Plan’s matching contributions have a five-year graded vesting with 20% vesting each year. We made employer-matching contributions of $38.7 million, $30.5 million, and $28.8 million in fiscal 2023, 2022, and 2021, respectively.
We sponsor a non-qualified deferred compensation savings plan that permits eligible U.S. employees to continue to make deferrals and receive company matching contributions when their contributions to the 401(k) Plan are stopped due to limitations under U.S. tax law. In addition, we sponsor a non-qualified deferred compensation plan for non-employee directors that allow directors to defer their cash compensation and stock awards. Both deferred compensation plans are unfunded nonqualified defined contribution plans. Participant deferrals and company matching contributions (for the employee deferred compensation plan only) are not invested in separate trusts, but are paid directly from our general assets at the time benefits become due and payable. At May 28, 2023 and May 29, 2022, we had $22.6 million and $21.6 million, respectively, of liabilities attributable to participation in our deferred compensation plans recorded on our Consolidated Balance Sheets.
Cash and Cash Equivalents
Cash and all highly liquid investments with an original maturity of three months or less at the date of acquisition are classified as cash and cash equivalents and stated at cost, which approximates market value. We maintain various banking relationships with high quality financial institutions, and we invest available cash in money market funds that are backed by U.S. Treasury securities and can be redeemed without notice.
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Trade Accounts Receivable and Allowance for Doubtful Accounts
Trade accounts receivable are stated at the amount we expect to collect based on our past experience, as well as reliance on the Perishable Agricultural Commodities Act, which was enacted to help promote fair trade in the fruit and vegetable industry by establishing a code of fair business practices. The collectability of our accounts receivable is based upon a combination of factors. In circumstances where a specific customer is unable to meet its financial obligations (e.g., bankruptcy filings, substantial downgrading of credit sources), a specific reserve for bad debts is recorded against amounts due to the Company to reduce the net recorded receivable to the amount that we reasonably believe will be collected. For all other customers, reserves for bad debts are recognized based on forward-looking information to assess expected credit losses. If collection experience deteriorates, the estimate of the recoverability of amounts due could be reduced. We periodically review our allowance for doubtful accounts and adjustments to the valuation allowance are recorded as income or expense in “Selling, general and administrative expenses” in our Consolidated Statements of Earnings. Trade accounts receivable balances that remain outstanding after we have used reasonable collection efforts are written off through a charge to the valuation allowance and a credit to accounts receivable.
Inventories
Inventories are valued at the lower of cost (determined using the first-in, first-out method) or net realizable value and include all costs directly associated with manufacturing products: materials, labor, and manufacturing overhead. Inventories are reduced to net realizable value after consideration of excess, obsolete, and unsaleable inventories based on quantities on hand and estimated future usage and sales. The components of inventories were as follows:
Raw materials and packaging $ 145.7 $ 96.1
Leased Assets
Leases consist of real property and machinery and equipment. Operating lease assets and liabilities are recognized at the commencement date of the lease based on the present value of the lease payments over the lease term. Our leases may include options to extend or terminate these leases. These options to extend are included in the lease term when it is reasonably certain that we will exercise that option. Some leases have variable payments, however, because they are not based on an index or rate, they are not included in lease assets and liabilities. Variable payments for leases of land and buildings primarily relate to common area maintenance, insurance, taxes, and utilities. Variable payments for equipment, vehicles, and leases within supply agreements primarily relate to usage, repairs, and maintenance. As the implicit rate is not readily determinable for most of our leases, we use an incremental borrowing rate to determine the initial present value of lease payments over the lease terms on a collateralized basis over a similar term, which is based on market and company specific information. This rate is updated quarterly for measurement of new lease liabilities. Assets and liabilities related to leases having a lease term of twelve months or less are not recorded on the balance sheet and the related lease expense is recognized on a straight-line basis over the term of the lease. In addition, we account for lease and non-lease components as a single lease component for all of our leases. See Note 9, Leases, for more information.
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Property, Plant and Equipment
Property, plant and equipment are recorded at cost. Cost includes expenditures for major improvements and replacements and the amount of interest cost associated with significant capital additions. The amount of interest capitalized from construction in progress was $17.5 million, $6.0 million, and $1.9 million in fiscal 2023, 2022, and 2021, respectively. Construction in progress does not include deposits made on equipment, materials, and services yet to be received. As of May 28, 2023 and May 29, 2022, deposits for construction in progress were $30.5 million and $57.8 million, respectively, and were recorded in “Other assets” on our Consolidated Balance Sheets. Repairs and maintenance costs are expensed as incurred. The components of property, plant and equipment were as follows:
Land and land improvements $ 163.2 $ 114.1
Buildings, machinery and equipment 3,524.3 2,919.0
Furniture, fixtures, office equipment and other 177.5 92.1
Property, plant and equipment, at cost 4,683.8 3,281.3
Less accumulated depreciation (1,875.8) (1,702.1)
Property, plant and equipment, net $ 2,808.0 $ 1,579.2
Depreciation is computed on a straight-line basis over the estimated useful lives of the respective classes of assets as follows:
Land improvements 1-30 years
Buildings 10-40 years
Machinery and equipment 5-20 years
Furniture, fixtures, office equipment, and other 3-15 years
We recorded $211.3 million, $181.5 million, and $177.7 million of depreciation expense in fiscal 2023, 2022, and 2021, respectively. At May 28, 2023 and May 29, 2022, purchases of property, plant and equipment included in accounts payable were $82.6 million and $38.3 million, respectively.
Long-Lived Asset Impairment
We review long-lived assets for impairment upon the occurrence of events or changes in circumstances which indicate that the carrying amount of the assets may not be fully recoverable, measured by comparing their net book value to the undiscounted projected future cash flows generated by their use. Impaired assets are recorded at their estimated fair value.
Goodwill and Other Identifiable Intangible Assets
We perform an annual impairment assessment of goodwill at the reporting unit level in the fourth quarter of each year, or more frequently if indicators of potential impairment exist. We have an option to evaluate goodwill for impairment by first performing a qualitative assessment of events and circumstances to determine whether it is more likely than not that the fair value of a reporting until is less than its carrying amount. If we determine that it is not more likely than not that the fair value of a reporting unit is less than its carrying amounts, then a quantitative goodwill impairment test is not required to be performed. The quantitative assessment requires us to estimate the fair value of our reporting units using a weighted approach based on discounted future cash flows, market multiples and transaction multiples. If the carrying amount of the reporting units is in excess of their estimated fair value, the reporting unit will record an impairment charge by the amount that the carrying amount exceeds the reporting unit’s fair value, not to exceed the total amount of goodwill allocated to the reporting unit.
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