Monster Beverage Corporation
Q3 2017 Earnings Call Transcript

Published: 9 Nov 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to Monster Beverage Corporation Third Quarter 2017 Financial Results Conference call. Currently at this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. Also as a reminder, this conference call is being recorded. I would now like to turn the call over to your host, Rodney Sacks, Chairman and Chief Executive Officer. Please go ahead.

[Rodney Cyril Sacks:]

Good afternoon, ladies and gentlemen. Thank you for attending this call. I'm Rodney Sacks. Hilton Schlosberg, our Vice Chairman and President is with me today; as is Tom Kelly, our Senior Vice President of Finance. Before we begin, I'd like to remind listeners that certain statements made during this call may constitute forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended, and Section 21E of the Securities Exchange Act of 1934 as amended, and which are based on currently available information regarding the expectations of management with respect to revenues, profitability, future business, future events, financial performance and trends. Management cautions that these statements are based on our current knowledge and expectations and are subject to certain risks and uncertainties, many of which are outside the control of the company that may cause actual results to differ materially from forward-looking statements made during this call. Please refer to our filings with the Securities and Exchange Commission, including our most recent Annual Report on Form 10-K filed on March 1, 2017, and our Form 10-Q filed on August 9, 2017, including the sections contained therein entitled risk factors and forward-looking statements for discussion on specific risks and uncertainties that may affect our performance. The company assumes no obligation to update any forward-looking statements whether as a result of new information, future events or otherwise. An explanation of the non-GAAP measure of gross sales and certain expenditures which may be mentioned during the course of this call is provided in the notes and designated with asterisks in the consolidated statements of income and other information attached to the earnings release dated November 8, 2017. A copy of this information is also available on our website at monsterbevcorp.com in the Financial Information section. The global beverage industry generally continues to face headwinds although the energy category continues to gain momentum. In the third quarter, net sales were $909.5 million, up 15.4% from $788 million in the third quarter of 2016. The company recorded third quarter gross sales of $1.04 billion, up 14.1% from $913.3 million in the third quarter of 2016. Gross profit as a percentage of net sales for the third quarter was 62.6% as compared to 63.8% for the comparable 2016 third quarter. The decrease in gross profit as a percentage of net sales was primarily attributable to geographic sales mix as our international operations generally have lower profit margins, product sales mix as well as the increases in other costs. Distribution costs as a percentage of net sales were 3.2% for the 2017 third quarter as compared to 3.1% in the 2016 third quarter. Selling expenses as a percentage of net sales were 12.7% compared to 12.1% in the same quarter a year ago. The increase was primarily due to increased sponsorship and endorsement costs, commissions, merchandise displays and trade development. General and administrative costs as a percentage of net sales were 11.8% as compared to 11.7% in the same quarter last year. Included in general and administrative costs were distributor termination expenses of $15.9 million and $4.7 million for the 2017 and 2016 third quarters, respectively. General and administrative expenses excluding distributor terminations were 10.1% of net sales for the 2017 third quarter compared with 11.1% of net sales for the comparable 2016 third quarter. Payroll expenses were up $6.5 million, primarily due to head count growth internationally, including to support the launches in China and other countries and stock-based compensation and non-cash item was $1.1 million higher. Legal expenses relating to regulatory matters and litigation concerning the advertising, marketing, promotion, ingredients, usage, safety and sale of the company's products were $2.9 million in the 2017 third quarter as compared to $4.9 million in the 2016 third quarter. Our effective tax rate decreased from 33.8% in the 2016 third quarter to 31.9% in the 2017 third quarter, primarily due to profits earned by foreign subsidiaries in lower tax jurisdictions. Net income was $218.7 million in the 2017 third quarter compared to net income of $191.6 million in the 2016 third quarter, an increase of 14.1%. The weighted average number of diluted shares outstanding decreased from 583.3 million for the third quarter of 2016 to 578.4 million for the third quarter of 2017 as a result of share buybacks. Diluted earnings per share for the 2017 third quarter increased 15.1% to $0.38 from $0.33 in the third quarter of 2016. We estimate that distributor termination expenses in the 2017 third quarter reduced reported earnings by approximately $0.02 per share after tax. We continue to make good progress in the implementation of our strategic alignment with Coca-Cola bottlers globally. We are also making good progress in the U.S. in non-traditional channels, including food service, accounts and e-commerce. In EMEA, we commenced distribution of Monster with Coca-Cola bottlers in Georgia and Kuwait in the third quarter of 2017, and in Ghana and Morocco in October 2017. Additional launches are planned during the fourth quarter of 2017 and in the first quarter of 2018. In the third quarter of 2017, we commenced distribution of Monster with Coca-Cola bottlers in Nicaragua, and in October, we transitioned Monster Energy in the Bahamas, Grenada and Jamaica, the latter not to a Coca-Cola bottler. We also are planning to launch in and or transition to additional countries in the Caribbean and Central and South America in 2018. In China, during the third quarter of 2017, we launched the final two operating units and are now focusing our efforts towards establishing Monster in the country with an emphasis on key cities and accounts. We also transitioned Vietnam and have begun distribution in Taiwan. We are also planning to re-launch Monster in India. Raw material cost savings from the AFF transaction were approximately $27.7 million in the third quarter of 2017 as compared to $23.3 million in the third quarter of 2016. According to Nielsen reports, for the 13 weeks through October 21, 2017, all outlets combined, namely convenience, grocery, drug, mass merchandisers, sales in dollars in the energy drink category, including energy shots, increased by 2.6% versus the same period a year ago. Sales of Monster grew 6.6% in the 13-week period, while sales of NOS increased 10.3% and sales of Full Throttle decreased 1%. Sales of Red Bull increased 2.8%, sales of Rockstar increased by 0.2%, sales of 5-Hour decreased 6.4% and sales of Amp decreased 32.2%. According to Nielsen, for the four weeks ended October 21, 2017, sales in the convenience and gas channel, including energy shots in dollars, increased 3.6% over the same period last year. Sales of Monster increased by 7.9% over the same period last year while NOS was up 5.8% and Full Throttle sales decreased 3.6%. Sales of Red Bull increased by 5.1%, Rockstar was up 1%, 5-Hour was down 6.6% and Amp was down 39.4%. We pointed out that the energy shot category has been slowing for some time. If we exclude energy shots as well as energy coffee and energy protein drinks where we have experienced production capacity shortages, for the four weeks ended October 21, 2017, sales in the convenience and gas channel in dollars in fact increased by 5.8% over the same period last year with sales of Monster increasing by 11%. According to Nielsen, for the four weeks ended October 21, 2017, Monster's market share of the energy drink category in the convenience and gas channel, including energy shots, in dollars increased by 1.5 points over the same period last year to 37.2%, NOS's share increased 0.1 points to 4.1% and Full Throttle share decreased 0.1 points to 0.9%. Red Bull share increased 0.5 points to 35%, Rockstar's share was down 0.2 points to 7.8%, 5-Hour share was lower by 0.7 points at 6.9%, and Amp's share decreased by 0.6 points to 0.9%. According to Nielsen, for the four weeks ended October 21, 2017, sales of Energy Plus Coffee drinks in dollars in the convenience and gas channel decreased 8.6% over the same period last year. Sales of Java Monster were 12.2% lower than in the same period last year, while sales of Starbucks Doubleshot Energy were 4.8% lower. We have worked through our production capacity shortages for both Java Monster and Muscle Monster. We've secured additional production of Java Monster and Muscle Monster in the United States which came online in the third quarter of 2017. Those products came off allocation at the end of the quarter. Such production to give (10

[Operator:]

Thank you, sir. Our first question comes from Judy Hong of Goldman Sachs. Question please?

[Judy Hong:]

Thank you. Hi, everyone.

[Rodney Cyril Sacks:]

Hi, Judy.

[Hilton Hiller Schlosberg:]

Hi, Judy.

[Judy Hong:]

So, I guess, I wanted to just start off with the gross margin question. Rodney, you called out a few factors that negatively impacted the quarter. I just wanted to get a little bit better sense of some of the callouts, specifically product mix, and then I think you said other costs. So hoping you can elaborate a little bit more? And then how much of those are really more transitory and one-time if it's something about getting the Java back online.

[Rodney Cyril Sacks:]

Well, Judy, we've always said that the international margins are lower than domestic margins. So the quarter was more pronounced because there was a larger growth in sales internationally. So that accounted for a significant portion of the reduction in overall gross margin. We had some other issues relating to input costs, some cost increases – I shouldn't say issues – cost increases in relation to input costs. And there was some impact as well of product mix where we have different products that we sell that have different – every SKU has a different margin. So on balance, this quarter there was – and with the Java coming back on stream, there was a reduction in the overall margin because of those items. So those are the three major factors that contributed to the reduction in gross margin.

[Operator:]

Thank you. Our next question comes from Bill Chappell of SunTrust. Question please?

[William B. Chappell:]

Thanks. Just to follow up on the U.S. markets. I understand the issues with Java Monster and what have you, but the overall energy drink category has kind of had the whole year low at low-single digits. Are you seeing from the competition, Red Bull in particular, just lack of innovation? Are you seeing an overall slowdown? And are you just gaining share? Or – and maybe with that, what are you seeing out of the c-store channel? We had heard earlier in the year that that had slowed down, but it seems to maybe be picking back up. So kind of any comments on kind of the state of the U.S. energy market overall, not just you gaining share and getting products back?

[Rodney Cyril Sacks:]

I think that as we have said on previously calls, there had been a slowing of the convenience category, which traditionally had grown at a higher rate than the other categories, and we were sort of – everybody was sort of scratching their heads a little to try and find out why. And we didn't really – weren't able to really put our finger on it. We are seeing a pickup back in the convenience category sales, and they do seem to be starting to turn around and come back, as I indicated earlier on, on the numbers. So we are positive about the category and about the convenience traffic as well. That does seem to be doing better.

[Operator:]

Thank you. Our next question comes from Vivien Azer of Cowen. Question please?

[Vivien Azer:]

Hi. Good afternoon.

[Rodney Cyril Sacks:]

Hi.

[Vivien Azer:]

So I know you guys aren't in the habit of offering guidance, but given the volatility that we've seen around Java Monster, which has historically been such a good growth driver, can you give us a sense of how we should think about distribution coming back online? Thanks.

[Rodney Cyril Sacks:]

Yes. I'm not sure we can give you very much a guidance. Obviously the energy and coffee category has continued to grow through our difficulties. We, obviously, lost sales and we lost some market share. And as we indicated at the end of the quarter, everybody is – we are back with products in inventory, we're shipping orders in full to our bottlers, and they are now – and we are together now getting product back on the shelf. So we've got to, obviously, fight back and get back the shelf space that contracted during that period, but we are – we're quite encouraged that we'll get back shelf space quite quickly. We are positive for the coffee category, and that is why we're right in the throes literally this week of starting to sell and launch Espresso Monster, and we will be coming – launching, early in the new year, we'll be launching Café Monster in glass bottles. So we think there is good growth potential for the coffee category and the coffee plus energy category. We still think those are good – it's a good growth category beverages, generally and for us. And with getting back into our inventory position and eliminating our shortages, we think that from the fourth quarter we will start to see the benefits come through. So we are positive about it. But to what extent and how quickly, obviously, we're not going to give guidance on that because it is uncertain anyway to us even at this time.

[Unknown Speaker:]

Yeah. All we can say is that our bottler partners are committed to getting the shelf space back and committed to the product.

[Operator:]

Thank you. Our next question comes from Robert Ottenstein of Evercore ISI. Question please.

[Robert Ottenstein:]

Great. Thank you very much. I'm wondering if you can give us an update on Hydro, how it's doing in the marketplace, and whether you've gotten by the supply issues at this point, and maybe perhaps compare Hydro's reception in the market with Mutant. Thank you.

[Rodney Cyril Sacks:]

I think they're two very different products. Let's just focus on Hydro for the moment. Hydro we've had a really good response, both to the package and to the ingredients and taste. So both of them have risen rather (31

[Operator:]

Thank you. Our next question comes from Andrea Teixeira from JPMorgan. Question please.

[Andrea F. Teixeira:]

Thank you, gentlemen – and ladies and gentlemen there. Just on the – if you can comment a little bit on China and what are the impressions now that you've probably reached where you wanted to be. And I know you can't compare with last year, but if you can tell us how it's tracking against plan. And if you – I think building with the last question, if you can talk a little bit about Mutant. Thank you.

[Rodney Cyril Sacks:]

China is a great opportunity for us. It's a logistically very, very big and complex country, and we are continuing to make progress. We are learning how to market and promote our products, distribute our products in China. We had some challenges in basically securing space for us. Basically there's no real energy category. So it's not as though you can focus on the energy category and say you've got an energy product. They just put your new product in the energy category. And so there has been some struggle with the Coke bottlers where their focus and perhaps the easier way where they believe they were doing an adequate job is to – if they're struggling to find a position for the product, they find a position in the Coke cooler and your product goes into the Coke cooler. Now that seems to sound fine, but ultimately, if the other products like the Red Bull Gold, which is the leader in the category and are being sold in an independent cold door, even on the warm shelf, the consumer is not expecting to go into the Coke cooler and find an energy drink. And we're really going through a learning curve with our bottlers to try and explain to them that the first prize is not actually being in the Coke cooler. The first prize is actually being – and the essential distribution point is to be right next to Red Bull. And if you get a secondary point of distribution which is obviously always positive, then you're going to the Coke cooler with that secondary distribution point. So that is just an educational challenge to really get and communicate that to the very, very big sales force. So on the one hand, you've got this really big sales force available to us, which is a very big positive. On the other hand, they're used to selling and putting their product into the Coke door and into the Coke cooler where they have many of them. We're really having to refine that and tweak that slightly, and that's part of the challenge we have. So we remain very positive, and we believe that it's going to continue to grow. Our sales are going to continue to grow, and it is a very, very important market for us. It's just going through a learning curve and getting everything down as we continue to progress. So that is really all we can say on China is the sales are good. They're substantial. If you look at our other markets and comparable other markets that we've launched at, the sales are higher, but we are working through these operational challenges and we'll get through them. There's no doubt. It's just a question of getting them and having the time to train everybody and understand what the priorities are. So that's really an update on China.

[Unknown Speaker:]

And I always – when I look at China, I always look at what happened in other countries where we launched, and generally we sustained losses in those countries in the earlier years. You can look at Europe and track through the various Qs and Ks, and China I don't believe will be any different. So we will sustain a loss in China this year and it's something we were prepared for and is not a shock to us.

[Rodney Cyril Sacks:]

So we still remain ultimately at the end of the day positive that that's going to be a large contributor to the company and to the brand going forward in future years. With regard to Mutant, we're still putting our heads down. We are sort of looking at expanding our distribution and our channels. We believe that the brand has got a good potential. We are continuing to put promotional efforts behind the brand this year, and we have the bottlers' support, and we will continue to put focus on Mutant. And we see that as a long-term potential benefit and good opportunity for the company. But it is, again, if we're looking at an analysis, you look at the brands in the soft drink industry and the average age of the brands of old – decades old that we're going up against. We're doing quite well if you look at where we are in relation to the other brands, and we are going to continue to – we will continue to make progress against them as we continue to develop the brand. We're doing some testing at the moment. We're going out to test a 38 ml cap as opposed to the 26 ml, which is really – really looks good on the product. It does transform the visual image of the product and its position. And as soon as we get some input back from some key channels and key accounts we're testing this larger cap formatting, we will determine whether we actually transition all the production into the larger cap or stay with the traditional 28 ml or 26 ml cap that you normally use for soda products. So that's the one thing we are looking at in the Mutant line, and we think this is so far out from our own feeling internally is that we think that this cap will be quite a positive addition to the line going forward.

[Operator:]

Thank you. This concludes our Q&A portion. At this time, I'd like to turn the call back over to Rodney Sacks, Chairman and CEO. Please go ahead.

[Rodney Cyril Sacks:]

Thank you. On behalf of Monster, I'd like to thank everyone for their continued interest in the company. We continue to believe in the company and our growth strategy, and remain committed to continuing to develop and differentiate our brands and to expand the company both at home and abroad, and in particular to expand distribution of our products through the Coca-Cola bottling system internationally. We are particularly excited by the new opportunities that we have going forward with the portfolio of energy drink products throughout the world, comprised of our Monster Energy brand together with the strategic brands as well as Mutant. Thank you very much for your attendance.

[Operator:]

Thank you, ladies and gentlemen, for attending today's conference. This concludes the program. You may all disconnect. Good day.