Coca-Cola Europacific Partners PLC
Q2 2017 Earnings Call Transcript

Published: 10 Aug 2017

[Operator:]

Good day and welcome to the Coca-Cola European Partners First Half 2017 Conference Call. At the request of Coca-Cola European Partners, this conference is being recorded for instant replay purposes. At this time, I'd like to turn the conference over to Mr. Thor Erickson, Vice President of Investor Relations. Please go ahead, sir.

[Thor Erickson:]

Thank you, and thanks to everyone for being on our call today. We appreciate your interest and for joining us to discuss our second quarter and first half 2017 results, as well as our outlook for the 2017. Before we begin, I'd like to remind you of our cautionary statements. This call will contain forward-looking management comments and other statements reflecting our outlook for future periods. These comments should be considered in conjunction with the cautionary language contained in this morning's release, as well as the detailed cautionary statements found in reports filed with the UK, U.S., Dutch, and Spanish authorities. A copy of this information is available on our website at www.ccep.com. Today's prepared remarks will be made by Damian Gammell, our CEO; and Nik Jhangiani, our CFO. Following these prepared remarks, we'll open the call for your questions. In order to give as many people as possible the opportunity to ask questions, please limit yourself to one question and we'll take follow-up questions if time permits. Now, I'll turn the call over to Damian Gammell.

[Damian Paul Gammell:]

Thank you, Thor, and good morning, good afternoon, everybody and again I'd like to add my appreciation for you taking the time to join us to discuss our second quarter results and our outlook for the full year. As you're all aware, in May, we celebrated our first year as Coca-Cola European Partners and needless to say as we've talked about on previous calls it's been a busy first 12 months, but we are very encouraged by the strong progress that has been made to-date. Value creation remains at the heart of our strategic rationale for combining three businesses to create CCEP. And as you will hear today, we continue to see the benefits come through as a result of the transaction. This is clearly reflected in our first half results, where we've reported a 21.5% increase in diluted earnings per share on a comparable and currency neutral basis. Revenue for the first half was up 5% with volume growth of 3%, resulting in operating profits up 17%. All of the above are on a comparable and currency neutral basis. As a reminder, these growth numbers represent the combined performance of each of our territories, as if CCEP had existed throughout the entire first half of 2016. The second quarter was our fourth consecutive quarter of growth. During the second quarter, we achieved the revenue growth of 7.5% with both volume and revenue per unit case increases, reflecting ongoing brand and package innovation, strong execution, and notably benefits from favorable weather during most of the quarter. From a brand and volume perspective, our sparkling portfolio grew by 4% with a 3.5% increase in our Coca-Cola trademark brands. Within that, Coca-Cola Zero Sugar continued to perform extremely well, with growth of just over 20%. We're also pleased that we saw modest growth of Coca-Cola Classic of just under 1% in the second quarter. Across our flavor portfolio, we achieved excellent growth for Fanta, with volume up 8% benefiting from the launch of new packaging and marketing initiatives around the Fanta Twist bottle. Energy continues to do well, and was up 16% as we continue to execute our multi-brand strategy. Monster brands had another strong quarter benefiting from the recent launches of our sugar-free Ultra range and the new Lewis Hamilton 44 range. Our still brands grew 6.5% and this was driven by growth in sports drinks, water, and teas. Capri-Sun saw double-digit volume growth during the quarter. However, this was partially offset by a decline in other fruit and juice drinks given our focus on improving our price and mix across our dilutable business in GB. Water grew 5% and this was led by Aquabona and Chaudfontaine brands. Turning now just to share with you some more color around the revenue performance by territory, Iberia, our revenues were up 8.5% with solid growth coming from both volume and our revenue realization per case. This again was supported by the strong growth of Coca-Cola Zero Sugar as well as favorable channel and pack mix. Our German business grew revenue 7% benefiting from market share gains in energy and premium flavors, led by such brands as our VIO range as well as from the impact of pricing and promotional plan changes. I'm pleased that Great Britain had strong revenue growth of nearly 9% on a currency neutral basis with gains in both revenue per case and also volume. Again, like our Iberian and German businesses, it was driven by solid growth in the Coca-Cola trademark particularly Sugar Zero and then, also Fanta and energy. On a reported basis, Great Britain revenues were down 0.5% and as you're all aware that reflects a decline of the British pound versus the euro. In our French business, revenue was up 3.5% with strong volume growth and slightly negative revenue per case driven in part by solid results in the cold channel, including the impact from some new post mix business which we secured during the period. And finally, revenue on our North European territories was up 9%, led by Belgium, Luxembourg, the Netherlands and the inclusion of Iceland. This was offset by a decline in Norway, which was really driven by a range reduction in one of our large customers. During the quarter, we also continued to make important progress towards our stated goal of €315 million to €340 million in synergies by 2019. And I'm pleased to say, we remain firmly on track to achieve that target. We will continue to share best practices and work to improve our efficiency across all our functions and all our territories. Each of these factors contributed to the solid second quarter and first half results, with a combination of revenue per unit case and volume growth benefiting both our absolute revenue and our operating profit. Turning now to a revised 2017 outlook, given our results today, I'm pleased to say that we've increased our full year guidance for 2017. We now expect comparable and currency neutral diluted earnings per share to be in a 10% to 12% range, up from our previous guidance of a high single-digit range. Nik will discuss our financial results and the outlook in more detail shortly. While we are clearly pleased with our performance in the first half, we know we must continue to work hard to improve our long-term business growth outlook. Additionally, reaching our full year goals will require outstanding execution at the field level, and a continued focus on achieving our stated synergy objectives. We are confident in our approach, yet we always remain realistic about the marketplace and the environment. Having said that, we have plenty of exciting growth opportunities ahead of us. For example, we have continued our innovation, focus to our glacéau smartwater and Honest Tea expansion. We've seen the very successful launch of Royal Bliss in Spain and expansion of the VIO and Finley brands and the launch of Chaudfontaine Fusion flavors. From a package perspective, we continue to focus on more convenience-focused packaging, including the new Fanta Twist bottle, smaller can sizes and premium packaging such as our 200 ml returnable glass bottle. Importantly, our ability to seize future brand opportunities and to drive continued growth relies in our success in achieving even higher levels of service and execution for our customers. One area we are working on is to drive increased sales in single-serve beverages in away-from-home markets and in particularly through our cold distribution coolers. Sales force execution remains a core focus and we will continue to invest in new capabilities that will underpin increased efficiency and effectiveness for our frontline employees and for our customers. Overall, we are building brands, expanding our portfolio, increasing efficiency and making our operations more and more effective. Before I close, I wanted to draw your attention to our new GB sustainability packaging strategy that was launched last month. Our packaging is really valuable to us, and without it, our people and our consumers couldn't enjoy our drinks. We are continuing to innovate to ensure our packaging is as sustainable as possible, the first step of which is to double the amount of recycled plastic in every one of our bottles in GB over the next three years from the current 25% to 50% by 2020. We are in the process of developing an ambitious new sustainability plan for Western Europe, which will be released later in the year. So in closing, let me share some key thoughts. First, we are very encouraged by our fourth consecutive quarter growth and our revised guidance reflects a strong second quarter. We believe these results are a testament to our operating strategies and a commitment of our employees to succeed every day in the marketplace. That said, we still have a lot of work ahead to achieve our full year goals, as our prior year growth hurdles become much more difficult during the second half of 2017. Additionally, given what we've seen across our territories in July and early August, we do not anticipate the weather being a year-over-year positive factor in the third quarter. Further, we are on track to deliver our synergy objectives and continue to look for ways we can improve our longer-term business growth and achieve the full potential of our new company, CCEP. Second, we will continue to build on our solid strategic partnership with The Coca-Cola Company. Our two companies have shared goals on a clear and collaborative strategy for a sustainable long-term profitable growth in our markets. And finally, our commitment to driving growth in shareholder value, our most important priority, remains as strong as ever. As mentioned earlier, it has just been over one year since we created CCEP. Since then, we have had strong early results and we're encouraged by the opportunities we continue to see across the marketplace. That said, we're early in our journey and we will continue to look for ways to improve our growth platform and realize these long-term opportunities that lie ahead. Thank you very much for your time. I'll now turn the call over to Nik, who will share more detail on our financial results and our full year outlook. And I look forward to return for your questions later in the call. Nik?

[Manik H. Jhangiani:]

Thank you, Damian, and to each of you for taking the time to be with us today to discuss our second quarter and half year results and our outlook for the remainder of 2017. On a reported basis, second quarter diluted earnings per share was €0.61 or €0.67 on a comparable basis, up 22.5% in the second quarter. Currency translation reduced earnings per share by about €0.02. Key contributing factors in the quarter include the benefits of sales, marketing and brand initiatives, positive country mix, the timing of Easter and notably favorable weather. Revenue grew 7.5% on a comparable and currency neutral basis. This reflects revenue per case growth of 3% and volume growth of 4.5%. Second quarter cost of sales per unit case increased 2.5% on a comparable and currency neutral basis. So, while you have seen some modest cost inflation as noted in our first quarter earnings call in May, our second quarter benefited from some one-time favorable cost of sales items versus what we had in the first quarter. While this has impacted our quarterly year-on-year growth figures for COGS notably in the first half of 2016, we do not expect any material impact to the operating profit or full year growth figures for these one-time items. In the second quarter, operating expenses were up 3.5% on a comparable and currency neutral basis. This reflects the impact of volume growth partially offset by synergy benefits and a continued focus on managing operating expenses. These factors contributed to an operating profit growth of 18.5% on a comparable and currency neutral basis. During the quarter, we realized approximately €35 million in synergies. Excluding these synergies, operating profit growth was approximately 9% and ahead of our revenue growth. All in, including synergies, this resulted in an improvement of 130 basis points in our operating margin for the first half year. Clearly, our second quarter was a very good quarter and while we're pleased with the progress we're making, we acknowledge the favorable prior year growth hurdles, very favorable weather, and the late timing of Easter were all significant one-time contributors to our second quarter results, obviously, in addition to the other factors called out by Damian, including solid execution and innovation. Now, let's review our outlook for 2017. For the full year now, we have increased our outlook given the strong second quarter results. This reflects the benefits of favorable weather and our first half results and not an increase in our underlying second half growth outlook, where we do have more challenging comps to cycle. We now expect low single-digit revenue growth and operating profit growth at the top end of the previously stated range of high single-digit range. Additionally, for full year 2017, we now expect cost of sales per unit case to be up approximately 2% on a comparable and currency neutral basis. This increase versus our previous guidance of 1.5% is driven by year-over-year cost increases in key inputs principally concentrate, PET and aluminum, partially offset by benefits from our cost reduction programs. Given the strong second quarter revenue performance, we now expect a modest increase in our revenue per unit case for the full year and with our incidence model, this is expected to also increase our full year outlook for concentrate cost on a per unit case basis as I just alluded to, but this is all factored into the guidance that I provided. So, overall, while we've increased full year expectations for operating profit growth, excluding synergies, we now expect operating profit growth to be broadly in line with revenue growth for the full year. This slight change to our full year operating leverage expectation is driven by three key factors. First, while we still expect to see gross margin expansion for the full year, our outlook for revenue per unit case growth has increased less than our outlook for cost of sales per unit case. This has led to a slight decrease in our outlook (16

[Operator:]

Thank you. Our first question is from Sanjeet Aujla with Credit Suisse. You may begin.

[Sanjeet Aujla:]

Hi, guys. Thanks for the question. Can you just help us break down the price mix between the various components; rate, country mix and product or cash free mix. And then can you just give us a sense of how much sales and marketing investments are increasing year-over-year? You alluded to that as part of the impact on operating leverage. And if you could just put (21

[Damian Paul Gammell:]

Thank you, Sanjeet. Just to maybe cover the first part of – we haven't broken out exactly the components of the mix improvement, but as we've talked about on previous calls, we're seeing benefits from absolute price, package mix and also in some markets, channel mix. So we have been very much focused on trying to leverage all elements of mix market-by-market, and in some markets, one of those may be slightly higher than in another, but all three are being playing the results (22

[Manik H. Jhangiani:]

Sure. And just one other comment I would make, I think the warm weather clearly would help us in terms of a more favorable channel mix too in terms of what we'll see both in terms of cold and then more of the single-serve. So that's clearly factored in. But overall, you can see that we had roughly about half of the contribution from volume and half from price mix. From a perspective of investments, we don't necessarily break that out to indicate the absolute amount, but I think we are doing three or four different things. We're looking at obviously and we've talked about this a lot in terms of what we want to do behind our digital capabilities, as well as what we're doing from an execution perspective in terms of sales force. We are very focused on what we can do in terms of investing in the cold channel, which is clearly a big opportunity for us, and then we're continuing to look at opportunities in terms of route to market, et cetera. So I think more importantly, everything that we have put into the business for the first half year and more importantly what we continue to look at for the second half year, is built into those guidance numbers that we've provided.

[Sanjeet Aujla:]

Got it. Many thanks.

[Operator:]

Thank you. Our next question comes from Stephen Powers with UBS. You may begin.

[Stephen R. Powers:]

Great. Thanks, guys. Good afternoon. So, just to clarify, Nik, is what you said on gross margin that you still expect modest improvement on the year just slightly less than before, or are you saying that you expect that to be fully absorbed by the COGS per case increase, just want to clarify that real quick and then I have a follow-up.

[Manik H. Jhangiani:]

Yes. So, we still expect margin expansion probably at a slightly lower rate given what we're seeing from a COGS pressure perspective. So, keep in mind, you have two elements of our COGS that you have to keep in mind, as our revenue goes up with our incidence model, our concentrate price goes up as well. And that accounts for about 40% to 45% of our COGS. Then you've got the elements that are coming through from the perspective of mix, one, that has an impact and then the other piece is what we're seeing on some of the commodity pressures, PET and aluminum in particular is what I would say. So, having said all that, we still expect margin expansion probably slightly less than what we had expected before.

[Stephen R. Powers:]

Okay. Perfect. And, if I – so taking that, and then I think about SG&A which is really where my question was starting from, should we expect kind of the same amounts in euro terms of SG&A spending in the second half versus the first half, as you're making your long-term investments? I mean historically, I think you've actually spent slightly less in the back half on SG&A...

[Manik H. Jhangiani:]

Yes.

[Stephen R. Powers:]

...but if gross margins are going to improve, it sounds like you're going to spend more this year, just want to clarify that.

[Manik H. Jhangiani:]

I would say that you're probably expecting a similar level, but there could be and we're still looking at some of these numbers to make sure that they are the right investments that we believe for the long-term. So, well, I would say roughly about the same level to slightly increased amounts in the second half for SG&A is what you should be trending towards.

[Stephen R. Powers:]

Okay. Perfect. Thank you very much.

[Operator:]

Thank you. Our next question comes from Lauren Lieberman with Barclays. You may begin.

[Lauren Rae Lieberman:]

Thanks. Good morning.

[Damian Paul Gammell:]

Good morning, Lauren.

[Lauren Rae Lieberman:]

First of all – great, or good afternoon, sorry. Little on Germany, in particular, that was one market where the comp wasn't quite as "easy" as it was in some of the other markets. So just a little bit more – and anything new that's happening there, channel versus rate, packaging initiatives, any kind of color you could share that would be great.

[Damian Paul Gammell:]

Yes, hi, Lauren. I mean we are obviously pleased with our performance in Germany and as we look at our performance, we're seeing it coming from both price mix and volume. On the price side, we're seeing price realization across all our channels in the first six months of the year. As we talked about in our Q1 call, we've also taken the decision to scale back on some of the really large multi-pack promotions like the 12 plus 2 and the 1 liter bottle. That's, obviously, helping in terms of price mix. And to just go back to what Nik talked about, obviously from a weather perspective in Germany, we've seen a benefit on some of our more profitable smaller packs and on sparkling and in particular, on our 33 returnable glass and that's also helped our price mix. So, strong volume, but encouraging for Germany, I'd have to say also very strong price mix which is something that we've been (27

[Lauren Rae Lieberman:]

Okay. All right, great. And then also if we could get an update just on tax, so first would be, in GB, looking at kind of the most recent period you'd have data for as a percentage of sales that are kind of falling below that threshold for exposure to sugar tax and then, early commentary on Catalonia and then I think Portuguese had a little bit more time, but just how the market response is then?

[Damian Paul Gammell:]

Yes. Obviously, in GB, we've continued our program with The Coke Company around reformulation and preparing our portfolio for April 2018. And as you've seen in our results, a lot of the brands that are driving our growth are coming from the sugar-free segment. So, that's pushing our percentage of our business above 40% today. Obviously, between now and April, we would like to see that accelerate, as we continue to – is to get ready for the sugar tax. So, that would leave us with, as we come out of the quarter, about 60% in sugar-free and 40% in sugar and we'll work on continue to evolve that with The Coke Company towards the end of the year, that will put us in good shape for April 2018. Our Portuguese business and the market in Portugal certainly had a very slow start to the year. I think we've talked about that in our Q1 results. We've seen that rebound quite well. So, that was probably about six weeks to eight weeks of dislocation in the marketplace, as consumers and customers adjusted to the new pricing. In Catalonia, it's probably a bit early to say, I mean that really went in May. We had a very strong performance in Spain generally as you saw from our results. So, a bit early to call, we've seen the tax being passed on to consumers. So, that has happened. But once we get a bit more color on any potential volume or transaction impact, we'd be able to share that, but it's probably a bit premature. And as also we came through a period, where we also enjoyed favorable weather and it was hard then to get a lead through on what's the net-net impact of that price change. But we'll share once we get a bit more clarity.

[Lauren Rae Lieberman:]

Okay, great. Thank you.

[Operator:]

Thank you. Our next question comes from Ali Dibadj with Bernstein. You may begin.

[Ali Dibadj:]

Hey, guys. Two questions. The first one is on top line, I mean clearly we saw you deliver, we sort of got a sneak peek from when Coke reported some very strong revenue growth and you were kind enough to disaggregate by region and a little bit by product in the prepared remarks. But can I ask you to do the – kind of, arguably more difficult task, which is try to disaggregate it by kind of operational drivers. So how much do you think really was weather? I know it's hard, but how much was weather, how much was the compares like the reminisce (30

[Damian Paul Gammell:]

Hi, Ali. Yes, I mean, obviously we haven't gone into that communicating that level of breakup, but let me just share my perspective on it. As you pointed out, our full year guidance probably shapes best how we're thinking about the sustainability of the revenue growth. So we do expect to grow in the second half of the year. So that's the first point. So while there may be a slowdown relative to where we've been in Western Europe, we believe it's a fairly healthy guidance on top of two very strong quarters in 2016. So as we've talked about (31

[Manik H. Jhangiani:]

And, Ali, I'd just like to keep reminding you that keep in mind our growth in the first half was supported by those one-off factors that we've just talked about. We were also cycling being down 1.5% for the first half last year. And we have 3.5% growth in the second half of next – of last year to cycle through. So, all those factors are very important that you keep in mind as well. So, when you look at our full year guidance, clearly, what we have pulled through is the beat in the second quarter, and we've kind of maintained what we had originally anticipated in the second half of the year.

[Damian Paul Gammell:]

And just the final (34

[Ali Dibadj:]

Okay. Okay. No, it's helpful for the discussion. It still feels a little bit conservative I guess, even with the different comparison and really because all the sustainability, all the other factors that you've driven, whether it be Coke Zero Sugar, et cetera, to drive the sustainability. But okay. The second question I had is just, you mentioned you recently anniversaried a year, looks like things are going really well. How ready is the organization kind of workflow-wise or appetite-wise to integrate more territories at this point? Or do you think there is still more digesting that needs to go on?

[Damian Paul Gammell:]

No, I think obviously, we talked earlier about the pre-work that we did in the months leading up to the creation of CCEP and the operating model that we've set up to run CCEP which is a business unit focused operating model. Clearly, that in itself allows additional territories if and when they became available to be integrated quite seamlessly into our business. So, from a system's perspective and an operating model perspective, we don't see any issue. From a balance sheet perspective, we certainly don't see any issue. We believe our free cash flow generation, our leverage, would allow us to do an acquisition if it's a right acquisition. And from a leadership management capability, again, we feel quite confident that we have the right people in the right roles and that would also allow us to take on more opportunities if they arise. So, clearly, we're focused on managing what we have, because that's what's going to deliver shareholder value in the short and medium-term, but that would not prevent us from taking on more opportunity obviously subject to it being the right opportunity. So as I said from a capability, from a financial perspective and from an operating perspective, that's been in our mind as we created CCEP, so we feel quite prepared for that as I said if and when it arose.

[Ali Dibadj:]

Okay. Thanks very much.

[Operator:]

Thank you. Our next question comes from Judy Hong with Goldman Sachs. You may begin.

[Judy E. Hong:]

Thank you. Hi, everyone.

[Manik H. Jhangiani:]

Hi, Judy.

[Damian Paul Gammell:]

Hi, Judy.

[Judy E. Hong:]

So, Damian, I guess, I just wanted to get your perspective or your assessment of how the still brands are performing within your portfolio? Clearly, the sparkling brand being up 4%, seems pretty positive, still brands are outperforming sparkling, but kind of in the context of your shift to become more of a total beverage company, or you and The Coca-Cola Company, it seems like you can get a lot faster growth out of like water and tea and et cetera, so maybe just give us kind of your assessment of what's happening now, what you think you want to see, to really accelerate that shift and accelerate the growth of some of these brands

[Damian Paul Gammell:]

Yes, obviously, our stated intent with The Coke Company, as you mentioned, Judy, is to build out a broader portfolio of brands, particularly in the areas of tea, energy, value-added water, I'd kind of cautioned around the value piece in the water statement. And I think we're pleased with the progress we've made in 2017 relative to our plans. We have been very much focused on expansion with a view to delivering value. So, pretty much all of our still's initiatives have been focused on single-serve, immediate consumption. So, that in itself, from a volume perspective, obviously, plays a role in the size of it and from a revenue perspective, and a management perspective, it's obviously a better strategy. So, we'll continue to prioritize packs and brands that we believe can generate sustainable profitability for the business. Having said that, we are also taking the opportunity with The Coke Company, I just alluded it to (38

[Judy E. Hong:]

Okay. That's helpful. Just a quick follow-up, Nik, just on the free cash flow for the year going up to the high end, that's all really would be operating profit coming up on top line and are there sort of other initiatives that you are focused on to get that up because obviously that's been a pretty clear key focus of you?

[Manik H. Jhangiani:]

Yes, I would say largely driven by better top line and enhanced (40

[Judy E. Hong:]

Understood. Okay. Thank you.

[Operator:]

Thank you. Our next question comes from Mark Swartzberg with Stifel. You may begin.

[Mark David Swartzberg:]

Oh, thanks. Good afternoon, everyone. I guess, two-part question for you, Damian, and second part for you, Nik, both relating to Great Britain and the tax. We've got a little color and helpful to hear your response there, Damian. Can you give us a little more color on market readiness so to speak for price increase on the portion of your volume that will continue to have high fructose corn syrup or other things that are considered sugar? And by market readiness, what I'm trying to get a gauge on is, and I'm also certainly considering your experience in France several years ago, whether it's right to think some channels are more tolerant of a completely offsetting price increase than others, and whether you're planning assumption is that (41

[Damian Paul Gammell:]

Thanks, Mark. Well, I suppose just this data from a pricing perspective is that, it's at the remit (42

[Mark David Swartzberg:]

That's super.

[Manik H. Jhangiani:]

And, Mark, just to be clear, we don't use any HFCS in our products here and one other point I would make, France was an excise tax that was across the board. This is a sugar tax and that came very quickly and in GB we've had over two years that we've been planning for this too, so I think we are doing the right things as Damian has just outlined to you.

[Mark David Swartzberg:]

Well, it's great. And then thank you both of you. If I could follow up, Nik, I know this is unconventional to ask about next year, but it's not unconventional to ask about next year, before you're ready to talk about it, but I will ask nonetheless and simply ask you the question. Is there any reason for you to think you can't achieve your long-term algorithm, given the soft drink tax, particularly in GB and of course in some other markets?

[Manik H. Jhangiani:]

So, I will use the unconventional card and say, yes, you can ask, but I'm not answering, because it's unconventional for me to answer this, early in the year about next year. So, we'll provide you more color on that in due course, Mark.

[Mark David Swartzberg:]

Fair enough. Well played.

[Damian Paul Gammell:]

(46

[Mark David Swartzberg:]

Thank you, guys.

[Damian Paul Gammell:]

Thanks.

[Operator:]

Thank you. Our next question is a follow-up from Lauren Lieberman with Barclays. You may begin.

[Lauren Rae Lieberman:]

Oh, thank you. (46

[Manik H. Jhangiani:]

No. It's actually not cold drink for the most part, because we try and load (46

[Lauren Rae Lieberman:]

Okay.

[Damian Paul Gammell:]

Yes. A number of the packaging initiatives that we're planning in 2018 obviously requires some, not significant, but some investment on some of our lines to run different pack sizes and some backend changes. So, we've been working with our supply chain team to try and get them in to 2017, so we can hit the ground running in 2018. So that's a bit of the factor as well.

[Lauren Rae Lieberman:]

Okay, great. And since I have you, I did notice that both in the prepared remarks and in the press release, smartwater would not be called out as one of the stronger performers in the water portfolio. I was just curious why, if there is any sort of softening in that business or is it just a matter of the absolute size of it in the entire portfolio?

[Damian Paul Gammell:]

No. Smartwater continues to do well, so certainly if it wasn't, it could have been and we've certainly expanded it now into sparkling in GB and we're looking at that for the markets. So, we continue to be pleased with our smartwater performance and it's grown extremely well both in the first, second quarter, so, yes, there was nothing behind that at all, Lauren.

[Lauren Rae Lieberman:]

All right, great. Thank you so much.

[Manik H. Jhangiani:]

(48

[Damian Paul Gammell:]

Yes, that's right.

[Manik H. Jhangiani:]

But, it grew high single digits in the first half of the year and I think we also introduced new variants with the sparkling and the flavored. So, now all going well.

[Lauren Rae Lieberman:]

Okay, perfect. Thank you.

[Damian Paul Gammell:]

And we're actually looking at more capacity behind that brand. So, we're very confident about it.

[Operator:]

Thank you. Our next question comes from Andrew Holland with Société Générale. You may begin. Andrew Holland - Société Générale SA (UK) Yes, hi. Can I just take you back to your earlier answer about the proportion of your business in the UK that is going to be captured by the sugar tax? Did I hear right that you're saying that that currently, the sugar-free is over 40% or is that the sugar added that is over 40%?

[Manik H. Jhangiani:]

The sugar added is over 40%. Damian clarified and said that about 60% of our portfolio with our reformulations would fall under the tax threshold. So, about 40% which is essentially Coke Red and Monster Green would fall into the tax band. Andrew Holland - Société Générale SA (UK) Okay. And that 60% that avoids it, what is that figure now? In other words, what is the size of the task to get there?

[Damian Paul Gammell:]

We're on track to get there. I mean we've seen even last year, if you look at some of the Nielsen data, it's got close to 50% already in retail. So we're pretty pleased with our progress to make sure we hit that 60%-40% split. Andrew Holland - Société Générale SA (UK) Okay. And obviously, so I was just going to say the Zero Sugar version is an important part of that that's obviously doing very well in the UK. Can you give us an idea of what proportion of total cola is Zero Sugar in the UK and maybe an idea or a way you think that could stabilize?

[Damian Paul Gammell:]

Well, we haven't called out any specific targets for the mix, but if you look at the category in total, you're seeing the growth in cola for the last number of years and GB being led by sugar-free. We started contributing more to that to be honest, Stephen, in the last – or, Andrew, in the last 12 months, we were behind that trend a little bit as you know. So our Coke Zero Sugar Free has definitely put us back in and we're gaining share within that segment. So we would expect that to continue from a volume perspective. And we also believe that over time on the revenue side, we can still generate revenue on the Coke Classic side of our business through smaller packaging and innovation because we do see a lot of consumers who really enjoy the taste and love that brand. So, while we are very much focused now in sugar-free in the context of coming into 2018, (51

[Manik H. Jhangiani:]

And, Andrew, on Trademark Coke, we're currently about 55% Red or Classic and then 45%, which is Diet and Zero. So, it's roughly a half-and-half split. And then obviously in flavors, that's where you have a lot of the reformulation happening that would take it below the threshold for sugar tax? Andrew Holland - Société Générale SA (UK) Okay. And just longer-term on Diet Coke and I must say from what I see around the UK, nobody is drinking that stuff. Does that have a long-term future?

[Damian Paul Gammell:]

Absolutely, I need to find that where you're going in the UK.

[Manik H. Jhangiani:]

(52

[Damian Paul Gammell:]

Yes. So, I mean Diet Coke has an extremely loyal consumer base in the UK and Coke Light on the continent. So, we certainly believe that having a dual brand strategy in such a large segment of the market makes sense. It continues to do well. You will see more focus going forward behind Coke Light and Diet Coke that's something that we've looked at in terms of can we do more with that brand. And that's something that we've taken on with The Coke Company. So you'll see a bit more coming from Diet Coke going forward, but certainly it's still a big part of our business with a lot of loyal consumers and we feel encouraged that having both Coke Zero Sugar Free and Diet Coke in that segment is a good strategy for CCEP.

[Manik H. Jhangiani:]

Yes. And again just to be clear, it actually grew modestly in the first half of the year too, Diet Coke. Andrew Holland - Société Générale SA (UK) Okay. Thank you.

[Operator:]

Thank you. Our next question comes from Ali Dibadj with Bernstein.

[Ali Dibadj:]

Hey, guys. Just want to go back to gross margins for a second if I could. So, totally understand still expanding the less favorable than you thought originally. I want to understand a little bit more kind of why, why the outlook of price per unit case versus COGS per unit case, why that gap kind of is less wide than you thought it was? Is it kind of retailer pushback, is it competition, is it kind of timing of the year when you could take pricing? I get the concept that COGS is going to be higher on a per unit basis. But, I just want to understand why you can't pass that through? Thanks.

[Manik H. Jhangiani:]

Look, simple answer. It's more just the timing. Remember, as we go into the year, you have assumptions and you go in with your price negotiations with your retailers. One, obviously, as we have seen some better revenue realization that has an impact on our concentrate and so we don't go back to our retailers to try and renegotiate some of that or reposition our pricing. And then also we always had some open positions, from a raw material perspective, PET in particular and then there was some on aluminum and we've seen pressure on both of those versus what our initial assumptions were. So, I think, it's more just timing than anything else.

[Ali Dibadj:]

Okay, great. Thank you.

[Damian Paul Gammell:]

So, thank you, Ali. That was the last question on today's call. So, just as we close, first of all, on behalf of Nik, Thor and I, we'd like to thank you again for taking the time to join us today. So, one year into our journey, we clearly remain pleased with the progress we've made and we've enjoyed a very good start to 2017. We remain confident in delivering the improved guidance that we've shared with you today for the remainder of 2017. And, critically, we remain focused on delivering long-term sustainable shareholder value through expanding our portfolio, as we've shared with you today, with The Coca-Cola Company and other partners to improving our ongoing marketplace execution through our sales force, delivering the synergy commitments that we've outlined as part of the creation of CCEP. A strong and very clear focus around free cash flow generation and I'm also very pleased that we're continuing to evolve our culture at CCEP into one that will allow us to unlock what still remains a lot of opportunity in Western Europe for long-term shareholder value creation, throughout 2017 and into 2018 and beyond. So, we look forward to talking to you again after our third quarter results and sharing with you an update on our exciting journey at CCEP. Thank you very much.

[Operator:]

Ladies and gentlemen, this concludes today's conference. Thanks for your participation. Have a wonderful day.