Earnings Call: H1 2017

Aug 14, 2017

Good afternoon. I am Luis from WH Group. I am sure you have seen me quite a number of times. Welcome to our 2017 annual results announcement, interim results announcement. Before you came in, I think you have tried some of our products. Many plates are now empty. Most of them have been launched in the first half in various markets. They are new products. Have you tried the Berlinki chicken sausage? It will be launched in Hong Kong in 2 weeks' time. If you like it, please, you can find them in all the local supermarkets. Allow me to introduce to you members of the management. Our Chairman and CEO, Mr. Wan Long. Executive Director, Executive Vice President, and CFO, Mr. Guo Lijun. Executive Director, Mr. You Mu, who is also President of Shuanghui Development. He is responsible for our business in mainland China. Executive Director, Mr. Kenneth Sullivan. He is also President and CEO of Smithfield Foods. He is responsible for U.S. and Europe business. CFO of Smithfield Foods, Mr. Glenn Nunziata, who is here for the first time, I think. Finally, our Finance Director, Joanna Yan. I will hand over the time to our CFO, Mr. Guo Lijun. He will take you through our performance highlights in the first half, and then we will have Q&A session. Dear analysts and investors, I am going to announce our major performance and achievements in the first half of the year. There are 4 parts to my presentation. Major achievements in the first half of 2017. In the first half of this year, with our concerted effort, we have achieved sustainable growth in terms of our business scale and earnings. We have leveraged on the strength of our global footprint. Our Chinese business has gradually improved with significant quarter-on-quarter increase. Our U.S. business delivered strong results through further integration, leveraging advantages across pork value chain and regional development strategies. Fourthly, for our U.S. business, we have reduced future finance costs through refinancing. Finally, we enhanced our global production network through growth strategies. In the first half, hogs produced 10 million, up 6.8%. Hogs processed 25.9 million, up 7.2%. Packaged meat sales volume, 1.56 million tons, up 1%. Revenue, $10.658 million, up 2%. The following figures are before biological asset fair value adjustments. EBITDA up by 6.2%. Operating profit, $901 million, up 7.5%. Profit attributable to owners of the company, $492 million, up 5.6%. Earnings per share, $0.036, up by 5.6%. Because of our continuous growth, we have considered our future investment needs and cash flow. We have decided to propose an interim dividend per share at 0.05 Hong Kong dollars, which in total is around 730 million Hong Kong dollars. In the first half, pork prices in China for the first half was 16.2 renminbi on average, down by 16.1%. At the moment, it is about 14.5 renminbi. Compared to the peak of 20.5 renminbi per kilo, it is down by 30%. Pork price in the U.S., $1.19, up by 3.1%. The current level is about $1.33 per kilo. Our core business continues to be packaged meat business, taking up more than 50% of our revenue and 76.1% of operating profit. Fresh pork takes up 43.5% of our revenue and 27% of operating profit. Two-thirds of our revenue comes from U.S. and Europe and one-third from China. Because of the increase of profit level for U.S. business, the operating profit contribution is already more than half, while 40% go into China. With continuous improvement of our business and strong cash flow, we have lowered the level of debt and increased the level of return for our shareholders. We have accumulated $821 in terms of dividend payout. In the first half, Shuanghui Development continued to improve, with significant quarter-on-quarter increase. Cost pressure of packaged meat has been eased off due to reduced raw material prices. Our product mix improved gradually with continuous increase on the proportion of new products. We continued to expand our sales network. We have developed new markets and channels, and they will turn into future volume growth. In the first half, because of lowered raw material prices and seasonal factors, we see a slight drop of operating profit. In the second half, the sales peak will arrive and the whole year performance shows a trend of a lowest point in Q1 and gradual improvement over time. If you look at the Q2 performance, you already see this clear trend compared to Q1. Shuanghui operating profit improved by 25.8%. Packaged meat segment, together with fresh pork segment, both showed very healthy growth trends. In the first half, Smithfield performance continued to improve. U.S. and Europe business continued to expand. We acquired Farmer John and expanded into the western part of U.S. We acquired Pini facilities in Poland. This will be the platform for expansion of production base in Central Europe. We have reduced costs and improved efficiencies through further integration. We further improved operating results through leveraging advantages across the pork value chain. We enhanced our competitiveness with further expansion of global export business. Export level increased by 15% in the first half. If you look at further breakdowns of the figures, U.S. market continued to grow. Operating profit up by 17.1%. Margin improved by 0.5 percentage points. While hog prices have been rather low, we have made very good use of the export advantages, and we continue to improve overall operations of the business. We have seen very strong growth in our Europe market. Operating profit up by more than 200%. If you look at our group strategies and outlook, we will continue to adhere to our four major strategies. First, globalization. We will develop trading platform and business network in a global perspective to form competitive advantage and realize further development. We will limit hog production, sensibly develop fresh pork business, focus on the expansion of packaged meat business to improve our brand value. Thirdly, we will leverage complementary advantages and realize synergies by integrating global resources. Fourthly, at the right time, we will expand our business scope and diversify into various animal proteins. For the China business, operating performance continues to improve and maintain steady growth. There are six factors supporting this. Our raw material costs continue to decrease. New product launch showed very positive effect. Our new plants going into operation bring new capacity. We also enhanced performance through restructuring of R&D and operations. We continue to promote process innovation and re-engineering. Sales opportunities during the peak season in second half will create new opportunities. As for U.S. business, operating results will continue to be strong both in volume and profits. Our One Smithfield strategy will further drive cost reduction. Earnings improvement and growth plan will represent an important measure for further profit enhancement. We will also enhance business scale in Europe through acquiring new capacity. Then you will find our appendix on channel development for different market segments. You can also refer to some standards adopted in our calculation in the appendix. Thank you. Thank you, Mr. Guo. Now we proceed to Q&A. Before you ask your questions, please tell us your name and who you represent. I am from Citibank. My name is Hui Xiao. I have some questions about the China business. First, for Q2, concerning the volume breakdown, upstream and then downstream, can you provide some analysis? Concerning the hog processed volume, and then also for packaged meat. The second question is about the financial details. We refer to the balance sheet, payables down by $230 million. We have checked the balance sheet for Shuanghui as well. I think that is a rather large amount. What about your inventory? Up by $200 million. Can we get some analysis from the U.S. side, what has happened? The balance of inventory up a lot in the first half year-on-year. We just compare that with Shuanghui balance sheet, I can see that mainly related to Smithfield. Could you share with us what the items for the finished goods for the inventory, which is segmented, is it hog production or processed meat or fresh pork? The last question, the third question is about European business. You have done a fantastic job in European business, especially for hog production. Could you share with us the outlook for the hog production profitability for European business looking forward? Is that sustainable? Thank you. I will take the first two questions, and then our U.S. colleague will take the third question. For Q2, if you look at the volume, upstream and downstream, this is the situation for Q2. China business, 3.4 million processed, up 26% year-on-year, and 19% up quarter by quarter. Hogs processed up by 24% year-on-year. Packaged meat, a flat trend year-on-year at 4.1 million metric tons. We can see for Q2, we have seen some major changes to our operations in terms of scale and also profit level compared to Q1. We have seen very substantial growth. Your second question is about cash flow. In the first half, operating cash flow, consolidated figure compared to 2016, a drop of $300 million because of tax arrangements. In U.S., we have seen some adjustments to the tax regime. So there is about $100 million extra going into this area. Second factor is about the change in inventory level. Last year, the China business hog prices were quite high, and last year, we have consumed, so to speak, some of our inventory. The level of impact was about $70 million-$80 million in terms of cash flow. The final factor is about payables and receivables. Our U.S. business, as you have pointed out, some of our cash flow level has been affected because of payables and receivables. As for the third question. I can elaborate a little bit on the U.S. Sorry, it is distracting. On the U.S. cash flows. This year we have seen a good spike in raw material pricing. Obviously, you guys have probably heard about bellies and the pricing on pork belly in the U.S. Beef trimmings were up. Beef trimmings are a good input for some of our key brands. On the offset of that, we actually made an acquisition earlier in the year. You asked a question about inventory. I do not know if it was for China specifically or not, but I can say for the U.S., some of that inventory increase was acquired. It was not done through AP, but it was done through acquisition. Gordon did mention taxes. Really, what that is all about is the timing of deductions and refunds versus payments. I can tell you with certainty that our payment terms have not shifted or changed. Our income tax rate is fairly consistent. It has everything to do with timing. When our federal government seeks payment or decides to acknowledge a refund, those can trip over a quarter. But generally speaking, for the year, we expect those terms to be consistent. I am sorry? Because the timing difference of tax payment in the first half. Yeah. Overall, our cash taxes will not be significantly different from the prior year, so there will be some timing differences there. But we typically have a fair amount of supplier deferments in the last half and last quarter of the year. In the U.S., some of our suppliers prefer to defer because they're on a cash basis taxpayer, so they prefer to defer until the beginning of the year. So typically, we would see cash flow generation from that. Next question. Good afternoon. I'm from Morgan Stanley. I have three questions. First, Mr. Wan, since listing of the company, we have gone through many hog cycles. We've seen that profit coming from the improvement of U.S. business and stable development of China business. In the next three to five years, what do you think will happen to the three markets, China, U.S. and Europe? What will be the major growth engines in the future? Are you going to do more M&A, just like the acquisition in Poland? It was just mentioned that you're going to move into more protein products. Does that mean that you're already examining some possible projects? What about China business? I would like to get the breakdown for high temperature and low temperature packaged meat products. What is the growth target for the whole year? How much of that target has been achieved? What about medium to long term growth momentum? Is it going to be high temperature or low temperature products? The third question is for Ken. We noticed that as in second quarter, hog production still loss-making. I think partially is the market still didn't provide the opportunity to make a big gain. But also, if you look at the future curve in the quarter, actually it's a big jump versus last year. So should we expect quite a big improvement in hog production profit in the third quarter? Also, in terms of the packaged meat, are we going to see some further margin compression in the second quarter? So what's the dynamic for U.S. operating profit in the third quarter? Thanks. You asked the question. It's a very good question. We do pork processing. It's all about hog prices. Hog prices always affect us. Let's first talk about hog prices. Hog prices in China, as Mr. Guo Lijun reported earlier, hog prices decline over time in China. I expect in the next few years, hog prices in China will continue to drop. Why? Because last year and the year before, hog prices in China reached a historic peak of more than 20 CNY per kilo. That is nearly the most expensive around the world. Today, I think it is around 14 CNY. You see the drop from 20 CNY to 14 CNY, 14.6 CNY. By Q4, hog prices in China will continue to decline, and the same trend will be reflected in the U.S. It's about 4 CNY. When it comes to hog processing, packaged meat, when hog prices come down, it is always good news. It is good news for our hog processing work and packaged meat segment. In the next few years, we have to continue to leverage on this trend so as to support our hog processing and packaged meat business, so that we can operate in such a way to promote further growth of the company. In terms of our developmental strategies, Mr. Guo Lijun has already reported just now that we have to integrate our global resources. We need to expand our trading volume, construct a stronger network, and leverage on our competitive advantages. These are important issues we need to continue to consider. We're in the pork business. We are the biggest in the world. We must further integrate our assets around the world. We need to further expand our pork business. When it comes to future developments, we're going to limit hog production, and then sensibly develop hog processing and focus our efforts on packaged meat business. After integration of our global resources, we need to further expand our packaged meat business so that WH Group, Shuanghui, and Smithfield, all these brands will become the most famous brands anywhere in the world. Recently, you can see we have acquired some facilities in the U.S. and also Pini in Europe. This is beneficial to our developments in the U.S., in Europe, and also in China. From now on, other than focusing on our pork business, we will also explore other opportunities. Of course, it's still about processing meat and proteins. We'll focus on processing animal proteins in Asia, the Americas, and also in Europe. We'll continue to expand our footprint. I will take the first question. In the first half of the year, packaged meat performance, well, we have all seen the figures. This industry is going through some basic transformations in China. Concerning this segment's performance in the first half, we have seen year-on-year drop. The reason is mainly coming from high temperature products. Because of consumption upgrade, because of vicious competition, including competition from outside of China. Concerning the sales volume for lower-end products, lower-end high-temperature products, specifically, things have not been looking so well. The decline mainly comes from lower-end products. For low-temperature products, things are rather stable. The overall development trend is quite stable. 70% of our business comes from high temperature, and only 30% comes from low temperature. Because of that ratio, the overall performance seems to be a decline. What is the prospect or outlook for packaged meat? Mr. Guo Lijun already said it very clearly. Things will improve over time from Q1 to Q4. In the second half, raw material costs will continue to decline, and packaging materials costs will also be reduced. I think we have very good cost control. When it comes to packaged meat, we continue to launch new products, and in the second half, they will create greater contribution to the company. Thirdly, we have innovative management and workflows to reduce overall expenses. With all these three factors, in the second half, packaged meat segment will see a very good rebound. Compared to last year, I think there will be a growth. I would like to add one point. If you look at what has happened in Q2 compared to Q1, packaged meat improved by 14%. That is already very positive growth, especially for low-temperature products, we have more than 10% growth compared to Q1. The question is U.S. Okay. The hog production. Yeah. Your question Essentially was the outlook for hog production in the second half of the year. I would answer that question this way. Typically, in the United States, hog prices are seasonal. You do see the highest prices in the second and third quarters, the lowest prices in the first and fourth quarters. I expect 2000, the balance of this year to be no different. The beginning part of the year was no different. The back part of the year will be no different. What that means is you typically see losses in Q1 and Q4, profits in Q2 and Q3. That is what we are seeing again this year. To put it in context, we lost about $140 million or about $8 or $9 a head last year. I do not see us losing that same amount this year. I think we will essentially cut that loss in half this year. While the back half, in particular the fourth quarter, does have some losses in it, we are going to make money in the third quarter. I would tell you again by order of magnitude, if you compare the last year's last half to this year's forecasted last half, I think it will be the same kind of story. I think we will be able to cut the loss by about half of what we had last year. The next one is, there is still one more question. It is about the forecast for third quarter. What is that? Packaged meats? Yeah. Packaged meats, I think we are going to have a good second half in our packaged meats business. We had some challenges in the first half, in particular with our bacon. We sell a lot of bacon in the U.S., and belly prices were very high. Our raw materials pressured our packaged meats business in the first half. I think in the second half, we expect that there is going to be a lot more hogs coming to market in the second half. Even though the beginning part of the second half, we have tremendously high prices, in fact, record high belly prices. Our volumes have been challenged because there is a point, there is a price elasticity there where both customers and consumers will push back on the volume and the price. But I think in general terms, I am optimistic about our packaged meats performance in the second half. What it really underscores, though, is the vertically integrated model at Smithfield. I think we continue to demonstrate that over the last few years, that we are running the business a little bit differently and the vertically integrated model is working. We are seeing some pluses and minuses in all segments of the business, but overall, we are performing at a better rate than last year. And I think that is, again, if you look beneath it has got to do with the different pieces of the value chain and us extracting the value out of each part of the value chain. Okay. Thank you, Ken. Thank you. Next question. Good afternoon. I am from Goldman Sachs. I have three questions. First, Mr. Yeo, Mr. Wan, you have talked about the China business. Things will improve over time. Can you tell us more about what has happened in Q3 so far? Are we following more or less the same pattern? Can we expect Q3 will be improvement over Q2? I think profit margin for packaged meat was around 20% for Q2. It is regarding our slaughtering fresh pork margin for the U.S. business. So basically, I think in the second quarter, so the Smithfield fresh pork margin will still held up pretty well, similar as first quarter. But so how do you see the trend for the second half and next year, especially now you see a new capacity across the industry are coming on board in the second half. So what do you think are the normalized margin for the pack slaughtering business going forward? Final question is a follow on Mr. Wan concerning integration of global assets. WH Group debt level has been declining, so not too much pressure on repaying the loans. You talked about increasing the volume of trade and expanding your network. If there are suitable opportunities or projects, could be very large enterprises like JBS, they have some assets to be spun off. Are you interested in acquiring such assets in the next 1-2 years? Do you think you will have any large-scale M&A activities? I will take the first question. You asked about Shuanghui Q3 operations. Concerning the meat industry, the major trend in China ties in with our operational cycles. Poor Q1, slightly improved over Q2 all the way to Q4. This is the overall trend for China when it comes to meat industry. After entering Q3, packaged meat segment has improved. The scale will be bigger for Q3 compared to Q2. I think there was a growth of about 7.3% in terms of actually 14% improvement over volume and then more than 20% improvement for profit. I believe we can continue to achieve double-digit growth, profit definitely double-digit growth. Fresh or the whole processing business in terms of volume, there will be an increase in Q3 compared to Q2. So the overall business is to achieve better improvements in Q3. In recent years, WH Group has been presenting the same theory. Poor Q1, slight improvement in Q2, and more improvement going into Q4. This is something within our scope of expectation. The second is about- Sure. Second quarter is doing pretty well. Yeah. What is expectation for the second half? The fresh pork margins in the first half, you are right to observe that they have been relatively strong. In fact, I think they are over 7% operating margin. You asked about the second half. The second half, you are right, we do have new plant capacities coming online in the U.S. It is a major development, let us say, in the U.S. pork landscape with two major pork plants coming online. At the same time, we are going to have a lot more hogs. If you look at, excuse me, if you look at the live production, that is up as well. So I expect our fresh meat to be pressured a little bit, in the second half of this year, particularly compared to last year, where we had a very strong second half. Those dynamics, I think, will shift a little bit. I think that goes back to my remarks about packaged meats. I am cautiously optimistic about our packaged meats performance in the second half. I think we are going to have a lot more hogs and a lot more meat to deal with in the U.S. Our exports, in total, are up double digit through the first six months. We are going to have to continue to do that. It is just not China. We are actually down a little bit in terms of our exports to China, although that remains our largest export destination. It is other countries like Mexico and Korea, where we have made some major increases in our export volumes. I said earlier that I do not speak Mandarin. I do know one word, chukou. Trucco, chukou. That is what we are going to have to do in the second half as an industry in the U.S. Certainly, that is what we are doing at Smithfield. I think we are over-indexed in the export market, and we have become very good at seeking out new markets for pork. You asked about development in the second half. I understand you are very concerned about that, and that is something we also need to consider. Last year, we already talked about expansion of the trading volume. We need to expand our global footprint. We also need to construct a large network and leverage on our advantages. After considering the current situation and our future objectives, we must be stronger and have bigger scale. Shuanghui and Smithfield have made a big leap forward in the meat business. We will continue to expand our scale and achieve great achievements and developments. After merging with Smithfield, we can see JBS and Tyson, their global arrangement and business have been affected by us. We can be talking about beef and chicken meat. We have expanding capabilities, but in China, we are still focusing on pork. We are taking up a lot of the global trade in terms of pork. We have advantages in relation to our large scale, so we need to better integrate our global resources. That is why we have to develop our trading platform, expand our business network to achieve greater development. Our next step, other than reform measures internally, we will need to do expansions outward. We have established new factory facilities. Last year in China, Xi'an plant was commissioned and Shenyang, another plant, was commissioned. We are looking at organic growth and also M&A opportunities. We will continue to pay very close attention. That is our long-term development strategy. Just now, you have expressed your concern over the development of Shuanghui in China. My comments for Shuanghui is that Q1 is rather poor. Q2, some fluctuations, as Mr. Guo Lijun has already explained. There are 2 reasons. The first one is about cost, the second one is about structural changes leading to such fluctuations. Q3, according to the trend reflected in Q1 and Q2, and also changes due to structural re-engineering, we are optimistic about Q3. Q4, we need to establish a new scenario and realize new growth. We have to achieve our original targets. Thank you. Can we take the next question? Hi, Angie. I am Christine Pong, a UBS analyst. I have 2 questions for Ken. One is for the Smithfield export business. You mentioned that in second quarter, the export to China market actually declined. But we all know that China is very important export market for Smithfield. Can you elaborate more as regards to how Smithfield is going to offset the decline in export to China market going forward? I think that is the first question. The second question is regarding the European profit. I think previously, one of the analysts asked about the very big profit jump in the hog production profit in Europe in first half. Could you share with more colors why the profit jumped significantly in European hog production profit? I also would like to understand a bit more about the acquisitions you made in the first half. What is going to be the profit implications going forward, and how does the acquisition fit into the long-term strategy development of Smithfield going forward? I think that is the two questions I have for you, Ken. I also have one question for Mr. You Mu. Mr. You Mu, just now you mentioned that in the first half, packaged meat volume declined because of high temperature product. You also talked about low temperature or low-end products, the decline was most serious. Can you quantify everything for us? First half, high temperature product declined by how much, and low temperature declined or grew by how much? How much contributed by low-end products? I just want further breakdown so that I can understand better changes to the company structure. Congratulate you by getting in 10 questions with one raise of the hand. The first question you asked was about how can we offset any decreased volume year-over-year in terms of exports to China. The answer quite simply is other markets. If you look at Mexico, our volume was up 41% through the first 6 months. If you look at Korea, we are up 36%. If you look at Canada, which is a smaller market, but we are up 53%. In other words, when I look at my export report and I see across the board, we have got 20 major countries on there that we export to. Certainly, the China number is down. The dynamics, we have all talked about it already. We already understand very low price in China. That gap, if you will, has tightened. We have to look for other markets, and that is what we do. We have sales offices in many different countries. We have people assigned to different countries. We have become very proficient at selling pork through to other places. Chairman Wan said it correctly, which is one of our fundamental strengths as a WH Group, has to be the arbitrage of meat around the world. We have to find the best market for that. We have a mechanism here, in Hong Kong, a trading group in which we work with on a daily basis, and we are always looking for the best markets. It is not about trying to fulfill some volume target for any particular country. It is about where can we sell that meat for the highest possible value, and that is where we try to take it. That was your first question. Your second question, I think had to do with live production in Europe. You are right. We have had a very strong performance in the first half in live production, in Europe. I would say it is attributable to two things. One, we have become very good at live production in Central Europe. We started an investment there, 15-plus years ago. We had some difficult years in the beginning. But we have stabilized that operation to the point where our raising cost there, meaning the cost to raise a pound of pork, is the cheapest it is anywhere in the world. So in Romania today, that is our lowest cost live production anywhere in the world, actually by a pretty fair margin. It goes back to our whole investment thesis in Central Europe, which is Central Europe has a lot of people, that is number one. Number two, they are short pork. They eat pork, and they are short pork. Meaning, if you look at the total Europe in the total EU countries exports. But if you look at that swath of Central Europe, they are short pork there. We are going to be there to supply that pork. I mentioned the feed grains. That is where the feed grains are grown. If I make an analogy to the U.S., in the U.S., we call the Midwest states the Breadbasket of America and indeed the world. It is really very analogous to our operations in Poland and Romania, which is where these feed grains are grown. We have very favorable conditions there. When price levels in Europe are like they are today, and much of that market is set by the Western European countries, the larger, excuse me, pork-producing countries like Spain and Germany and Denmark. But when those prices are high, we have a significant advantage. That is what we are seeing this year in terms of those price levels. I do expect the cost side of that to continue. Really, the only threat to us there is animal disease, and that is not unique to that part of the world. We have animal disease everywhere. We have that threat in the U.S. We have it everywhere. We are bullish. If you cannot tell, I am bullish about our Central European strategy. You asked about the growth and give you a little bit more color. We have acquired some assets there that is going to allow us to expand our packaged meats businesses, and also our fresh meat business. I think it has the potential to triple the profits of that business from a 2016 baseline. 2016 being the baseline, I think we can triple the profits there on a sort of nominal basis or regular basis. I think it has the ability to grow the top line there by almost $1 billion, these acquisitions that we have made and the additional capacities that we have added. We are excited about Central Europe as being a growth driver for the future. There was a question about China. 2.4% drop for packaged meat business in the first half. 3% drop for high-temperature products. For general products, a drop of 9.5%, and that is the main reason behind the drop for high-temperature products. We have seen a growth of 6.3% for low-temperature products. Different people may have different ideas about the industry. Many people are not so optimistic looking forward. Maybe it is related to instant noodles. When you eat instant noodles, you will eat ham or sausages at the same time. Perhaps these two are connected. For pork sausages, we continue to do innovation. You can put them into instant noodles, and you can put them into different dishes, different types of consumption. Low-temperature products, we are also innovating a lot. In terms of packaging, consumption methods, we are innovating everywhere. The development of high-temperature products. Well, China is huge and it's very complicated. There are many layers, many tiers of consumption. Future development of high-temperature products in China, I think I am more confident, but of course it's not blind optimism. Mr. Wan has already said that we will continue to reintegrate. We will stabilize high-temperature products and grow low-temperature products. We have to promote messy products or gourmet products, and we have to innovate, and you can see innovation reflected in our new products. We need to make our products more and more convenient. We also need to focus on healthy trends. Mr. Wan have talked about five to six major points in relation to our future development, and these are his conclusions after looking into the Chinese market. For decades, when it comes to the trends of meat industry, we have accumulated a lot of experience, and therefore today we are very sensitive to any changes in the market. We continue to re-engineer our resources, restructure our product mix. We will continue to do our best to create the best returns. Next question. Good afternoon. I'm Lu Chen, I have three questions. First question for Mr. Ye. Actually, a follow-up question. In the second half this year, profit margin for packaged meat segment, you said that there will be some sort of improvement. Last year was 21.7%. Second half this year, do you think we can push it to 24%? What about volume? Q3 will be improvement over Q2. What about year-on-year? Do you think it's going to be the same trend? Another follow-up question. As Mr. Wan has mentioned, you need to do integration around the world and M&A opportunities will be explored. What about the acquisition of the asset in Poland? What was the consideration? Are you going to continue on with M&A activities? Are you going to acquire things that are similar to the asset in Poland or the project acquired in the western part of U.S.? What about the scale of M&A? Are you going to do something bigger? The third question is about Smithfield. We all know that Smithfield has been a key growth driver for WH Group over the past two years. Smithfield has kept on offering positive earnings surprise. But going into the second half, we're actually seeing some moving parts. On one hand, as you mentioned, the fresh pork business may be under some pressure in the U.S., especially given the abnormally high base in second half last year. But on the other hand, we are pretty positive with the packaged meats business, and we are also looking for loss reduction for the hog production business. Given all these moving pieces parts, are we still looking for positive earnings growth for Smithfield in second half this year? Still looking for what? Positive growth. Okay. Yeah. I already have one boss. I don't need pressure from you. Who wants to go first? I will take the first question. You asked about Q3 profit margin for packaged meat. It was 19% for Q1. Yes, it's a poor quarter because the Chinese New Year is normally in Q1, and that is a key factor. It's a very busy season. In that month, when we have spring break, the consumption level could be 1.5 times of a normal month. And the cost is normally higher at the beginning of the year. That is why we always say Q1 is a poor quarter. So only 19% profit. Q2 was 22%, or very close to 22. Q3, according to what has happened so far, I think it's quite good. Well, I dare not say whether it will reach 24% or not, but I think we should be optimistic. The whole year, I think there will be growth compared to 2016. You also asked about volume. I keep thinking about volume as well. Q2, Q3 represent growth and positive changes in general. But year-on-year growth, perhaps not so significant. As Mr. Wan has said, we have to re-engineer when it comes to packaged meat business in China. We are going through restructuring, so our group has to do some restructuring at the same time. It is easy to talk about it, but it comes down to the actual work, it is quite complicated. For example, high-temperature products and leisure-use products, low-temperature products. We have launched many new products. In the first half, more than 70 new products have been launched. The level of contribution from all these new products is not yet certain. Perhaps a few of them will become a big hit. We have done a lot to achieve product mix restructuring. For the post-80s, post-90s, and post-millennium consumers, we hope to satisfy all of them. We continue to re-engineer our product mix. We will continue to work on new product innovation. We are confident with single-digit growth concerning the scale of packaged meat segment. To be more optimistic, looking into next year, in the second half, of course, we will continue to launch many new products. Some of these newly launched products, as we can see from the past, some products will have very good performance, and we hope to achieve new breakthroughs. Allow me to add one point. When it comes to the second half outlook for packaged meat business, I believe in the second half, things will improve for sure over the first half. What are the reasons? The first reason being reduced cost. Secondly, restructuring has presented some changes. Recently, we have gradually launched different new products. When we carry out this restructuring, we believe we are able to lock down, so to speak, some improvements. Of course, there are external factors. We also have internal factors. We need to stabilize high-temperature products and improve performance of low-temperature products. As Mr. Yeo already explained to you, packaged meat, high-temperature products, I believe our brands are very strong in Mainland China, and there is a lot of further room for growth. We must stabilize high-temperature products and improve performance of low-temperature products, including gourmet products. We introduced Smithfield products into China, and they have now become very well-known among Chinese consumers. I think for low-temperature products, Smithfield brand is ranked at number 3. Number 1 is Shuanghui. We can see the growth momentum is very strong. Our strategies surrounding high temperature and low temperature products, we are very confident. We are confident about future developments. Secondly, we need to further develop our large-scale production capabilities. Especially gourmet products and high-temperature products. Perhaps this year, we have not done 100%. Looking into the future, there is room for us to do more. We have sent our teams to different markets to work on expanding our capabilities. We have also focused on improving the technologies in relation to our productions. We continue to learn from best practices around the world and incorporate them into our operations. We have to focus on large-scale production. Our packaged meat products. You see a drop in sales volume recently. I think that is because of large-scale production capabilities. Post-80s, post-90s, post-millennium consumers, they feel a bit distant to our products. We need to re-engineer our products. Other than our high-temperature products, we also need to promote more low-temperature products. Leisure products, we need to make our offerings more convenient. We have looked into this concept. When we talk about leisure products, you can pick them up and eat them anytime around the clock, basically. Anytime you feel like it, you can pick it up and eat it. That's how convenient and leisurely it needs to get. Of course, health is a big trend. We need to combine healthy elements with our products as well. We will continue to do restructuring for our packaged meat offerings. There will be major changes, but we are confident we can go beyond 2 million tons. We are the biggest brand when it comes to packaged meat business. 80% of our profit comes from packaged meat. We must continue to strengthen our business. This is our mission. We must do well restructuring. We must expand the scale of production. We may say Q1 is always poor, Q2 there will be fluctuations, improvements in Q3, and the peak will come at Q4. This will continue to be our major strategy surrounding packaged meat business. There will be major changes happening in second half. I think Mr. You already explained a lot just now. Of course, when good opportunities arise, we will examine them very closely. As we have heard from our colleague concerning our production assets in Europe, they have very low cost. Are we going to acquire more assets? We are a multinational enterprise. We have footprint all over the world. We will continue to focus on globalization. We will always examine closely different types of assets around the world because we need to develop our global footprint. Of course, Mainland China will always be one of our focal points, and pork will be the core of our business. We will go into other types of animal proteins. We've done a lot of hog processing and production. Are we going to do the same for cows? I think we need to focus on our strength. We need to position ourselves in such a way that we can compete in a stronger manner. We will continue to acquire and expand our footprint. It's just like when we acquired Smithfield. I know we've overcome a lot of obstacles and challenges. Today, we have many competitive advantages. After acquiring Smithfield, we have accumulated very useful experience in relation to international enterprises. Now we know a lot more. When we move on to global expansion, we are better positioned, and we have more confidence. Looking into the future, just like what I've said, we will continue to do the right thing and make the right choices. I think we have one more question for Ken. About the outlook for the second half. Yeah. You mentioned moving parts, a lot of moving parts in the second half, and you are right. I think that fresh pork will be pressured, and that has a lot to do with, again, just a lot more meat and a lot more hogs that we are going to have in the U.S. But I think the story of the second half will be somewhat the story of the first half, which is our vertically integrated model will benefit. Our packaged meats business will benefit from that. But I think it is more than the vertical integration. It is our geographic diversification as well. So if I think about the full year of 2017, I am very confident that we will have year-over-year earnings growth in 2017, even after absorbing the $70 million charge. I am very confident in what we are going to have for the full year. But predicting where the values will fall out on the value chain is always hard. But this year in particular, in the U.S., with these two new plants coming on board, it makes it even more difficult to sort of handicap what those values will be. But I would tell you, I expect continued good performance out of Europe. I think our hog losses will narrow. I mentioned earlier, I think it is on the order of magnitude of probably half of what they were in last year's second half. So the combination of, yes, pressure in fresh pork, but good packaged meats, narrowing of the hog production losses, and continued performance from Europe, I think will, in total, give us a very good result for the year. Okay. Last question. Thanks a lot. This is for the analyst from CICC. I have two questions for Ken first. The first is, can you help me to understand better about your acquisition plan, acquisition strategy? Or we make it more clear as a buy to grow strategy. It seems like a little bit of random work for me, too. It is like to go back to the last year, and we acquired two West Coast brands. We call them brands, right? Okay. And focus on the swine, and then about six months later, we jump into the Central Europe, but this time we call it acquire of the asset or the capacity. Okay. And focus on both poultry and also the swine. Also, I read from the news press, you once talked about consideration of an entry into the other protein areas. Okay. If we just put into the two years horizon, because we know no one can forecast too long time. So, can we understand better of your acquisition strategy in terms of your geographic focus, your protein category target on, and also, if possible, can you touch base on your scale preference in your pipeline? So this is the first question. The second one is, I noticed you have raised a new initiative, or we say the slogan is like earnings improvement growth plan. So can you elaborate more about that? Is that a succession to the One Smithfield view or a totally different streams overlap? No. Also- I am sorry, I did not hear that second question. What did you reference? The earnings and growth improvement plan. Yeah, the earnings. You raised the new initiatives, right. Earnings improvement- Yeah, got you. and growth plan. Yeah. Okay. Is there a succession to the One Smithfield or a totally different stream that just overlap? If there's a new one, what kind of financial impact we can expect from that? Those are the two questions for you. Mr. Guo, Mr. You, three small questions for you. Very simple ones. First. You always talk about what you expect may happen. 17% dividend payout ratio last year in the first half. What about the whole year? You have other different considerations, right? Do you think you can maintain the same level or major fluctuations for dividend payout level? Mr. You, towards the end of the first half, what do you think about your inventory level? When hog prices are coming down towards the middle of the year, how long can you rely on the inventory level? What about USD to RMB depreciation? 5%? Exactly 5%. Your first question was about M&A. What I would tell you about M&A, you pointed out Farmer John. We acquired Farmer John. We acquired these Pini assets. We've actually done a couple smaller things. We acquired a small biosciences operation in an effort to diversify. Fundamentally, what we look for in acquisitions is value. Our most important metric is return on invested capital. All things being equal, if packaged assets were out there and were trading at the same values as a core protein, we would probably gravitate towards the further processed or the further value added. They don't trade for the same values. They're expensive. That's not to say that we're not interested. We are. We look at each and every acquisition opportunity through the lens of what type of return on capital can we get from those. That, I think, has been Chairman Wan's guidance to us. I think it's consistent with the WH Group recent history here, not only through Smithfield, but the other smaller things that we've done. We're going to be disciplined in our approach to M&A. Your second question related to the idea of the earnings improvement and growth plan. Is that the same as One Smithfield? It's not the same, actually, although One Smithfield is a component of it. The earnings improvement and growth plan is a sort of a broader set of plans that we have to grow the business. I don't know if I've spoken to you or not about our plan, but we've got over 40 different initiatives that we have defined as a management team to try and grow the business, and it falls into five different categories. The first is continuous improvement projects. These are really cost improvement projects, and One Smithfield certainly encompasses that. It's things like improving our transportation cost. It's things like improving our fresh pork results. So we've got specific initiatives. These are not just sort of broad-based sayings about how we're going to improve something. We've got specific plans to do it. So the first pillar is continuous improvement. The second is organic growth. What that really means in the U.S., in particular, where growth is harder to come by, is it's portfolio expansion, it's innovation, it's new products. We've got a slide in the deck, I think, that shows some of the new products that we're introducing. We're introducing products in parts of the store that we've never been in before, including the freezer case. So we've got specific plans in terms of our portfolio expansion. But we've also got plans in terms of channel expansion. So historically, retail, food service, deli channels, these have been our big channels. I think there's opportunity in e-commerce. I think there's opportunity in the convenience store channel in the United States, which is really a rapidly changing channel in the U.S. More and more Americans are shopping at convenience stores and even buying grocery at convenience stores. That's the second pillar. The third one would be new plant capacities. That encompasses what it sounds like, which is we're building new lines, new production lines. We've got some existing footprint that we can fill out, and we can put in new production lines, including this year, we've done some dry sausage lines. And we're doing some more processed lines in a couple of our plants. But it's also in Mexico, where we have two joint ventures, and we are building a brand-new fresh pork plant in Mexico as part of that joint venture. So we're looking to expand there. By the way, Mexico's got great dynamics. I talked earlier about Central Europe and the dynamics that are going on there. Mexico has very good dynamics as well. So we're expanding in Mexico. The fourth one is strategy pivots. Strategy pivots is really looking at the way we do business now and thinking about it differently. Let me give you two or at least one concrete example. Cold storage. Today, we rely on a lot of third-party cold storage providers, and we're paying more than 50 different cold storage providers. I think the last number I saw was something like 75 different cold storage providers. We're going to build more company-owned cold storage, plant-attached cold storage, and that will have a very positive impact on cost in our distribution. The fifth one is M&A, in terms of the improvement plan. So it is actually separate and apart from One Smithfield, although One Smithfield sort of runs through some of that. But I will take the other question about inventory. How long does it take to consume the inventory? It really depends on many factors, price fluctuations and consumption level and seasonal fluctuations, weather changes. Raw material inventory. How long would it last? I cannot really tell you an exact number because it involves our procurement strategy, and I don't think we can publicize that. We will simply say we will do what is beneficial to our operations. Allow me to add one thing. Inventory. We prepare for the peak season. After the peak season, no need for high level of inventory. Normally, we will consider the consumption level. Shuanghui inventory, after the peak season, things will go back to normal level. All right. Due to time constraints, this is the end of today's event. Thank you very much for your attendance.