We highlight The J. M. Smucker Company (SJM) in our Deception Spotlight following the company’s 2Q20 earnings call on 22 November 2019. Despite beating EPS estimates, the underlying story remains unsettling. The beat drove shares up 5% on Friday, though a look through fresh eyes after the weekend saw shares trade down 4% on Monday.

Focusing more on the longer-term, our analysis finds questions about revenue have triggered deceptive answers by management in earnings calls at an increasing rate, which may further erode confidence given the ongoing calls for top-line improvements. This sort of evidence may provide fodder for bear theses and be a honeypot for activists. We narrate the context for our concern and detail deceptive language detected by Amenity’s NLP models below.

The Pre-Earnings Saga

SJM is a leading manufacturer of packaged consumer and pet foods in the United States, though the company has been plagued by fundamental challenges for years. Incumbency advantages in end markets have lost ground as the product lineup fails to keep pace with changing consumer preferences. Attempts to innovate have fallen short and new entrants have taken share, particularly in pet food. And having missed guidance in six of the last seven years, the company faces something of an existential crisis in dealing with an anachronistic brand portfolio that seems to offer all the wrong products in all the right categories.

The week before the call, that crisis came to a head with a sweeping executive changeup aimed at righting the ship. New leadership is now inbound for the roles of CFO, COO (newly created role), the heads of Pet Food & Snacks and US Retail Sales & Away-From-Home, and more. (For Pet Food driven investors, the company is also bringing on an experienced consultant to assist with the turnaround...) While these efforts might be appreciated, they hint at the severity of the underlying business challenges while amplifying expectations of headwinds through the transition. In any event, we appreciated one analyst noting the absence of changes to the executive compensation structure, which is pegged to EPS growth rather than revenue growth. Once again, the wrong product in the right category.

The J.M. Smucker Company (SJM) – Amenity Score vs Share Price

Looking to the fundamentals expressed on earnings calls as represented by our Amenity Scores (see Figure above), we observe that SJM’s management has offered investors a roller coaster ride in both the sentiment expressed in quarterly earnings calls and the resulting share price movements in a procession of fits and starts.

The Post-Earnings Saga

Underlying the musical chairs of the ongoing organizational shakeup is concern about the ability of management to grow top-line revenue. While management seems to be taking the right actions with initiatives focused on product innovation and brand support, we find concerning evidence in our Deception Model that suggests questions about revenues are increasingly triggering deceptive answers from management. SJM presents an outlier case where the overall deception has improved while deception related to a core concern like revenue has increased three fold.

We visualize this data in the figure below, which portrays SJM’s deceptive event count (in blue), Deception Score (in red), and the portion of SJM’s Deception Score attributable to questions on the topic of revenues (in purple). We observe a marked uptick over the past five quarters in deceptive answers to revenue related questions, which may serve as further evidence that erodes confidence in management’s ability to deliver (on) their message.

The J.M. Smucker Company (SJM) – Deception Over Time

Coupled with the fact that (1) the 2Q20 earnings beat came from lower costs due to financial discipline and lighter marketing spend and (2) management guided down FY20 performance, the spike in deceptive answers to questions about revenue may be a tip off for broader underlying issues. To the extent that the ongoing turnaround efforts will require steep transition costs, potential price cuts, and new marketing spend, we see good reason for concern.

For context, we provide illustrative deceptive commentary from the call for your reference below. As always, please feel free to reach out with any questions or concerns.

Illustrative Deceptive Commentary

Mark Smucker – CEO, President & Director, SJM:‍

• "We’ve begun a search for those roles, and those are underway. It's hard to say when we will actually fill them. Those things can take time. We are moving as fast as we can, but we want to make sure that we find the right individual that has both the right level of operating experience, but also the appropriate level of leadership experience in terms of developing people and culture. So I won’t commit to a time frame, but suffice it to say, we’re on it, and we’re moving as quickly as we can."
• "And then ultimately, at the end of the day, I just go back to my prepared comments, that the intent of the structure outside of any individual change is really intended again to increase agility, make sure that we have the right level of accountability and the right sets of eyes on the business that are going to really drive strategy."
• "I can't give you much more color, so I'm not sure you'll be that pleased with the answer, but I do -- what I would say is we previously talked about a restage."
• "So if you look across some of the FDA comments that came out, I don't know, a couple of months ago, there has been a modest impact to all brands that were named in that, and that does not include -- that includes our brands but it also includes all of the competitive brands as well. It is difficult, very difficult to quantify what that is."

Mark Belgya – Vice Chair & CFO, SJM:‍

• "So in terms of just forecasting generally, I think that with some of the derisking, if you will, of our guidance for the rest of the fiscal, we feel that we have taken a prudent approach to consider the competitive activity, particularly in premium pet, have thought through where we had some strong finishes last year there might be a bit more of a challenge to get through, and do feel that we have appropriately recognized that we would expect earnings growth, albeit not as fast as we originally expected at the beginning of the year, but we would expect that to be in Q4, as I commented on Q3 being down slightly. And I don’t think there’s anything dramatically different in our ability to do so."

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‍About Amenity

Amenity Analytics is the industry leader in providing insights from unstructured text by using Natural Language Processing (NLP) assisted by Artificial Intelligence (AI) and Machine Learning (ML). Amenity’s NLP system is a sector-agnostic, language-dependent tool for quantitative text analysis that is deployed across the financial services industry and beyond.

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This communication does not represent investment advice. Transcript text provided by FACTSET and S&P Global Market Intelligence.

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