Molson Coors Beverage Company
Q3 2009 Earnings Call Transcript

Published: 4 Nov 2009

[Operator:]

Good day, ladies and gentlemen, and welcome to the Molson Coors Brewing Company 2009 third quarter earnings conference call. (Operator Instructions) Before we get started, we want to paraphrase the company’s Safe Harbor language. Some of the discussion today may include forward-looking statements. Actual results could differ materially from what the company projects today, so please refer to its most recent 10-K, 10-Q and proxy filings for a more-complete description of factors that could affect these projections. The company does not undertake to publicly update forward-looking statements, whether as a result of new information, future events, or otherwise. Regarding any non-U.S. GAAP measures that may be discussed during the call, please visit the company’s website -- www.molsoncoors.com -- for a reconciliation of these measures to the nearest U.S. GAAP results. I would now like to turn the conference over to your host, Mr. Peter Swinburn, President and Chief Executive Officer of Molson Coors Brewing. Sir, you may begin.

[Peter Swinburn:]

Thanks very much, Matthew. Hello and welcome, everybody and thanks for joining us today. With me on this call are

[Stewart Glendinning:]

Thanks, Peter, and hello, everyone. I’ll start with third quarter financial highlights. Worldwide beer volume for Molson Coors declined 2.9% from a year ago, driven by industry weakness in our major geographies, as well as our pricing strategy in the U.K. On the bottom line, underlying after-tax income of $212.9 million, or $1.14 per diluted share, was 22.7% higher than the third quarter a year ago. As Peter mentioned, the headline profit result has some non-operating and unusual noise in the numbers, so it is helpful to look below the surface. Headwinds in the third quarter included unfavorable year-over-year currency movements, a mark-to-market hedge loss this year, and supplier negotiation benefits last year both in the U.K. These headwinds totaled more than $22 million pretax in the quarter, with foreign currency making up $13 million of this total. Meanwhile, our underlying results benefited from the favorable resolution of some unrecognized tax positions, which increased $36.4 million versus a year ago. If we take these factors out of our underlying results to get a better view of the ongoing performance of the business, after-tax earnings increased approximately 13% in the quarter. It is important to note that our third quarter underlying earnings do exclude some one-time gains and expenses, primarily related to our Foster’s cash-settled total-return swap and MillerCoors integration costs, as well as net special charges of $4.3 million. These adjustments to our U.S. GAAP results are described in detail in the earnings release we distributed this morning. Also, unless otherwise indicated, all financial results we share with you today will be in U.S. Dollars. In segment performance highlights, starting with Canada, underlying pretax income in local currency declined 2% versus a year ago. Positive net pricing and the benefit of cost savings initiatives were offset by declines in volume and higher MG&A expenses, driven by increased brand investment and the deconsolidation of our interest in the beer stores in Ontario, known as Brewers Retail Inc., or BRI. In U.S. dollars, Canada underlying earnings of $139.3 million in the third quarter declined 7.7% due to an approximate 6% year-over-year decline in the Canadian dollar versus the U.S. dollar. The weaker Canadian dollar this year reduced Canada segment underlying income by approximately $9 million in the quarter. To provide more-comparable results in our Canada discussions today, as we have done on our previous calls, we will exclude the sales and costs relating to exporting beer to MillerCoors as well as the reporting effects of deconsolidating BRI. So, let’s review some highlights -- our Canada sales to retail, or STRs, for the calendar quarter ended September 30th decreased 3.2% versus a year ago. Coors Light continued to show growth, while Molson Export and Molson Canadian declined versus prior year. Total Canadian beer industry sales to retail declined an estimated 0.7% in the calendar third quarter. Our estimated Canada market share decreased about one point in the third quarter versus a year ago. Our Canada sales volume was 2.5 million hectoliters in the third quarter, down 1.8% from a year ago. Comparable net sales per hectoliter increased 2% in local currency, driven by favorable net pricing, led by price increases across all major markets, partially offset by continued price discounting activity. Cost of goods sold per hectoliter in the third quarter was flat on a comparable basis in local currency. This increase was due to the net effect of three key factors

[Peter Swinburn:]

Thanks very much, Stewart. Throughout 2009, we have consistently said that we would focus on brand building, reducing costs across our company, and generating cash, and that goes on. In Canada, for the balance of 2009, we expect a continued challenging environment due to overall weak economic conditions, soft beer industry volume, continued price discounting, and the cost of offering enhanced value propositions to consumers. Our commitment to improve the brand portfolio in Canada is now gaining traction. In the fourth quarter, we are launching Rickard’s Dark, Molson “M,” the first micro-carbonated lager, and Molson Canadian 67, the lowest calorie beer in Canada. Also, with the 2010 Vancouver Olympics approaching, we will begin to accelerate our promotional activity as the Official Beer Supplier to the Vancouver 2010 Winter Olympic and Paralympic Games. In the U.S., the first priority for MillerCoors is driving growth for our premium light portfolio. We believe we have the marketing platforms, tools and the beers to do that. First, we are supporting Miller Lite with great football and soon holiday programming. We’re driving its great taste message with the “Great Calls” campaign celebrating great sports moments, and we’re injecting humor into the message with “Love Your Beer” spots that have just started airing. Secondly, we believe the cold refreshment message will continue to drive Coors Light’s success and we’ll continue to innovate and drive distribution and display just to make sure that happens. Finally, we’re stepping up display, sampling and education behind MGD 64. In the U.K., we expect performance comparisons with prior year will become more challenging in the fourth quarter as we cycle the ramp up of our strategic initiatives, an extraordinary price increase in the fall of 2008, a greater portion of our sales coming from the higher-cost off-premise channel, and a reduction in marketing spending in 2008. We also anticipate higher incentive compensation in the fourth quarter this year in the UK. This business is now on much firmer footing and has made substantial progress in improving profitability. Our international business is increasing its investments in a number of new brand and market initiatives, particularly in developing markets. As a result, we expect MG&A expense to increase significantly in the fourth quarter from a year ago. Following are the most recent volume trends for each of our businesses early in the fourth quarter

[Operator:]

(Operator Instructions) Our first question comes from Kaumil Gajrawala.

[Kaumil Gajrawala:]

Stewart, on the free cash flow, your 90% of the way but you still have a quarter left. Could you give us a read on what we should be thinking about or if there is any reason why you haven’t taken up the free cash flow target for the year?

[Stewart Glendinning:]

Good question, Kaumil. We’re not going to give any guidance on where we are going to end up in the -- at the end of the year. That will come a little closer to the fourth quarter but I think really just step back and just say this is really a positive for us, given where we started the year and we set our targets, our earnings have come in stronger, and the business is performing better than we had expected. And that is showing through to our cash and that’s just got to be good news for the shareholders.

[Kaumil Gajrawala:]

Okay but there is nothing incremental in terms of uses of cash, maybe the increment CapEx related to the new cost savings at MillerCoors -- is there anything like that in there?

[Stewart Glendinning:]

No, I think we -- all of that we’ve shared with you. MillerCoors is at 84% of the one-time cash, the 450. They will be at 90 by the end of the year, so there is that piece. The other piece we look at is our exposure in Brazil and as we updated you last quarter, we are still in some discussions with [DEMSA] to decide how that will be resolved but that is a potential use of cash and I’d use -- I’d go to our Q and you’ll see we’ve got about $160 million of liability on the books. That’s not all related to those specific -- to that specific item. I’d say probably in the sort of 85% to 90% is the number on our balance sheet related to that and that’s the best guide for that particular issue.

[Kaumil Gajrawala:]

Okay, got it. And then last question, in every region, pricing was very -- or net revenue per hec was strong but volumes were weak. How comfortable do you feel in your ability to hold on to strong pricing?

[Peter Swinburn:]

A couple of things I think we mentioned in the script -- first of all in the U.K., we’ve locked out negotiations with all the major pub-cos this year, so that gives us -- those deals are three-year deals at least, so the pricing is -- the price increase mechanisms are locked in for those and that would account roughly for about a third of our business in the U.K., so we feel comfortable in the U.K. If you were listening to the MillerCoors call earlier this morning, I think that both Leo and Gavin talked about where the MillerCoors business was. They’ve got about 80% of their pricing through this year, cost of goods look a bit more reasonable going forward so again, I think we are relatively comfortable in the U.S. And in Canada, it’s a slightly different perspective, to be honest with you. I think we’ve shared with you that we will be competitive in Canada. The team there is really getting its act together but we manage pricing by market, by SKU there and across the piece, to be honest with you, to ensure that we are competitive. So I think that’s the best summary I can give you, if that’s helpful.

[Kaumil Gajrawala:]

Thank you.

[Operator:]

Your next question comes from Judy Hong of Goldman Sachs.

[Judy Hong:]

I guess my question is really by looking at Canada more closely, you know, your share decline has gotten worse in the quarter. Maybe you can shed a little bit more light into sort of the competitive activity in terms of what is going on there. It sounded like in the beginning of the year, really the discounting was more limited to Quebec and I’m wondering if that is spreading out into other regions. What’s causing sort of the heightened competitive environment and at what point do you think that you may have to take more aggressive steps just beyond some of the innovation things that you are doing to really stem the market share losses in that market?

[Peter Swinburn:]

I’ll pass the main body of the question on to Dave but I think that you hit one of the main points again, Judy, and that is that we see the market being managed in totality and we have been pretty open in the past saying that we weren’t happy with our overall portfolio in Canada and we believe we are making very good steps, great strides, in fact, to sorting that out with the innovations that we’ve got coming into the market place and the new creative with Canadian, which we are very excited about. But Dave, do you want to address the main body of the question?

[Dave Perkins:]

Thanks, Peter, and thanks, Judy, for the question. Judy, as I look at Q3 and our year-to-date share results, obviously we are not where we need to be. I think it’s valuable to go a little bit below the surface in looking at our Q3 share results. We did actually make progress in our competitiveness and our share results in our major markets of Quebec and Ontario and I feel good about what I am seeing starting to happen there as we get to a better balance of price and volume. We are dealing with challenges and opportunities in the remainder of the country. I think as we went through the quarter, we also saw some progress which felt good to me. But no question we saw smaller regional brewers in each market grow share at the expense of the two major brewers combined and that is something that we will continue to be focused on. As we have heard, we are really taking action now to strengthen our market position and our brand portfolio in a variety of ways. We feel very good about the innovation that we have coming up with Molson Canadian 67, Molson M, and Rickard’s Dark. I think the announcement regarding Granville Island Brewing is another commitment to strengthening the portfolio, and particularly in the above premium segment there, so that’s a well-known, well-regarded brand in B.C. that we think has the ability to travel and we are excited by that. We also have work underway to strengthen Molson Canadian, as Peter referenced, and we have the upcoming Olympic platform, and we will certainly leverage that fully. And finally, as we noted, we continue to improve our competitive position and finding that right balance between price and volume. So I would say as you go below the surface in the quarter, there are some encouraging signs. Certainly the entire team here is focused on the share challenge because we know we need to step into that and feel good about the activity in fact that we have in front of us there.

[Judy Hong:]

Just following up on your comment about the smaller regional brewers getting more competitive outside of Quebec and Ontario, can you maybe tell us what sort of are the factors that are driving that competitive behavior in those markets?

[Dave Perkins:]

A lot of it is in fact price or value related. I would say though that during Q3 there was in fact some innovation activity, lime entries, that in fact did get fairly high trial. They have subsequently diminished but they did get high trial. But generally what we are seeing is small brewer pricing activity that we are needing to deal with.

[Judy Hong:]

Okay, and then just a clarification -- when you said the Canada SPR was down high single digits so far in the quarter, can you tell us what the industry volume has been during that time?

[Dave Perkins:]

We believe what we are seeing in October is largely related to industry. There does appear to be during October a fairly significant drop-off in industry. Last year I would tell you that we had particularly favorable weather and so we believe that that’s a factor in it. Tough to know what all the factors are -- I mean, there’s even impact in Canada related to the flu going around, so you look at the various factors and there’s probably a combination of weather, economy, and other factors that are at play.

[Judy Hong:]

Okay, thanks. And then just my question for Stewart -- on the free cash flow side of the equation, I mean, clearly it sounds like you are pretty pleased with the cash flow generation performance and even if you are to use a portion of that to settle some of the tax liabilities in Brazil, it seems like you are going to be left with still a pretty ample cash flow. And so I’m just wondering why not again sort of commit to some of that going to shareholders at this point?

[Stewart Glendinning:]

Great question, Judy. We are in a place I guess where if you looked at our cash holding, the cash balance at the end of this quarter, about $575 million, so we are in a place now where we feel good about our cash balance. I will reiterate the point we made in previous quarters, which is that on a quarterly basis, we review this with our board and there’s a range of cash options that we could look to. If you looked at some of the places we have put cash this year, we’ve made two great purchases of smaller brands this year -- well, we haven’t completed the purchase of Granville Island but we’ve made effectively a down payment on that. We also have purchased Cobra, so we are trying to use cash first and foremost in ways that will grow shareholder value. We will also look then at ways to take liabilities off our balance sheet and tax would be an example of that. Last year you saw a use of funds for pensions, and then we will look at what our dividend policy is and consider buy-backs. And again, we have our board meeting next week so we will go through that with the board and if there is any change to any of that, we expect to update shareholders in the next quarter.

[Judy Hong:]

Okay. Thank you.

[Operator:]

Your next question comes from Marc Greenberg of Deutsche Bank.

[Marc Greenberg:]

Just to dig a little deeper on Judy’s question around shareholder value, Peter, can you comment more broadly with regard to what kind of a dividend pay-out over the long-term you think is appropriate for a business like Molson Coors and if shareholders would be more significantly enhanced by a repurchase and as an adjunct to that, what kinds of net debt to EBITDA levels are gearing this kind of business should have over the longer term?

[Peter Swinburn:]

Thanks, Marc -- I’m probably going to disappoint you by saying that no, I probably can’t give you all of that but I think you’ve got to look at our track record. We’ve increased our dividend by a pretty substantial rate last year and this year and so I think the important thing, or the way that we look at it is that we need to come to our shareholders and hold our heads up in terms of how we use their cash and I think as Stewart said, in the recent -- in the last 12 months, we put $100 million into the pension scheme in the U.K. We have got very, very good returns from that investment over this year. We have made a couple of really smart acquisitions I think with Cobra and Granville Island. Although you guys get quite excited about it, we are not sitting on a ton of cash. We are in a comfortable position and we will continue to look at the options out there that will give us the best possible return for shareholders and that will include dividends, obviously, it will include share backs, but it would include other options in terms of strengthening our balance sheets as well and that’s just an ongoing dialog that we have with our board, as Stewart said.

[Marc Greenberg:]

Great, and just a quick follow-up -- on the U.K. business, nice to see the operating profit trending up but it is still, at least based on your 2002 pro formas, below what CBL earned eight years ago, so I guess it’s been kind of a long road there and I’m wondering, as you look at that business today, what kind of sign posts you look at to gauge the success of that business, how might we properly characterize progress there sort of beyond the obvious metrics?

[Peter Swinburn:]

I will let Mark take most of the question but I think my -- the initial response is that you have put a couple of sort of sign posts out there that we look at and most importantly, the sort of cost of -- return on capital we get on that business has got to be acceptable to shareholders. I think we have made good progress this year. We are not where we want to be. The percentage that we achieve in -- our net sales percentage we are achieving is still not where we want to be but again, I think the team is making really good strides in that direction and most importantly for this year and probably last year as well, it’s been about developing a platform that allows us to address those issues. And I think, Mark, you can probably speak to that more effectively than I can in terms of the strategic initiatives and your pricing strategy.

[Mark Hunter:]

Yes, I certainly can. Thanks for the question, Mark. We’ve been very clear in our business that currently our return on invested capital is below our [WAC] rate and we have set out as part of our three-year plan an ambition to move that return on invested capital ahead of our [WAC] rate, so we start growing shareholder value. Our return on sales have improved significantly over the last 18 to 24 months and we have set a very clear ambition for the business to start to generate returns which get us back to where we were in the early part of the 2000s. All of the activities that you are seeing taking place through the latter half of 2008 and through 2009 are very consistent with that ambition and job number one has been to reset our pricing and ensure that our net sales [have always starts to] support those ambitions. That job is almost complete as we go through 2009. We’ve continued to invest heavily behind our brands. We’ve been investing a growth rate which is a low double-digit on a per hectoliter basis as we’ve moved our pricing up. And as we move into 2010, we expect to see pricing continue to move forward and we expect to see our share performance start to rebound, having reset pricing -- all of that relative to an ambition that we’ve set for the organization on a 36-month timeline.

[Marc Greenberg:]

Mark, just briefly, how would you characterize the market environment heading into the important winter holidays?

[Mark Hunter:]

The market environment remains challenging. If you look at where industry volume was as we left 2008, the market finished down about 5.5%. On a year-to-date basis, the market is still tracking down about 4.3%. On-trade has improved but it is still declining at kind of mid-single-digits. Off-trade has been extremely volatile -- up until Q3 of this year, we’ve seen four straight quarters of pretty substantial decline. That rebounded slightly in the third quarter, so still enormous volatility and certainly no tailwinds from an industry volume perspective and that is why our focus on not chasing any low margin volume, focusing on revenue growth at a time when we’ve got very high asset utilization because of our contract brewing deal -- all of that I think puts us in a pretty strong position as we move into Q4 and into 2010.

[Marc Greenberg:]

Thank you.

[Operator:]

Your next question comes from the line of John Faucher from J.P. Morgan.

[John Faucher:]

I want to talk a little bit about the Canadian pricing again and you know, strong revenue per barrel growth -- can you talk about what the industry revenue per barrel growth was? So how did you guys compare? And then also, looking at the quarter to date trends, you talked about your being down I think it was mid-single-digits in Canada and can you compare that -- you said it’s an industry issue, so I am assuming the industry is basically in line with your quarter to date trend, is that correct?

[Dave Perkins:]

Yeah, the quarter to date would be largely industry related, so you are correct on that. With regard to the NSR for the industry, I wouldn’t have data on that. I only obviously have ours, so I am not able to give you the comparison.

[John Faucher:]

Can you give us a rough idea in terms whether you think the rest of the category is -- I’m not looking specifically, I’m looking sort of general trends in terms of whether you feel like the rest of the category is up a similar amount.

[Dave Perkins:]

Well, we certainly are achieving the kind of balance we want on price and volume so I would say we are not dramatically out of line with what would be happening within the industry but it is really difficult obviously to get more precise than that.

[John Faucher:]

Okay, thanks.

[Operator:]

Your next question comes from Mark Swartzberg of Stifel Nicolaus.

[Mark Swartzberg:]

Canada, on the cost side of things, Stewart or David, we heard from MillerCoors this morning, they described their costs per hectoliter view for the U.S. next year being essentially flat on ’09 levels. Can you share with us, given where your hedges are and where the commodities are and your mix, how you think your costs per hectoliter will shake out next year versus this year’s levels?

[Stewart Glendinning:]

I’ll take that. I think MillerCoors did give some of that sense of 2010. For the Molson Coors business, normally we would give that kind of guidance early in the next year and I think that is what our plan is.

[Mark Swartzberg:]

Can you give us any directional feel at this juncture?

[Stewart Glendinning:]

We can't give you any guidance on that. I can say though that I think that team has done a terrific job in terms of managing costs. If you looked at this past quarter, keeping costs flat on a year-over-year basis I think was a great result.

[Mark Swartzberg:]

And can you just remind us about your strategy in terms of hedging for commodities?

[Stewart Glendinning:]

Well for us, like any hedging program, and you can certainly see some of those disclosures in our Q. We have a declining hedging balance so you will have more hedging in the early periods than the later periods and then so obviously in any kind of rising price market, you’d be slower to see some of that rising prices coming through. In a declining price market, you will obviously be a little bit slower to see some of that benefit coming through. I should also point out, Mark, that we did at least give guidance for the fourth quarter, which shows Canada to be down low single digits in terms of their COGS, so combine that together with the performance in the third quarter and I think you probably get a good answer for next year.

[Mark Swartzberg:]

Great. Thank you, Stewart.

[Operator:]

And our final question in queue comes from Ross Turner of [Pelham].

[Ross Turner:]

It’s [inaudible] from Pelham Capital. Just looking at the Canadian business, you obviously reported 2% increase in revenue per hectoliter, but if you actually look at your revenue and divide it by your volume, it actually was a decline. I’m guessing that is due to the import side of the Canadian business. Can you give us some feel about how the mix effect that you have seen in the Canada business from your import and how much that should decline specifically?

[Stewart Glendinning:]

Let me just pick up the first part of that -- you are better off looking at some of the comparable numbers that we have given you because there is a little bit of noise in there as we look at the impact obviously of FX -- that’s going to be one impact. I think the other impact you are going to see is the Molson -- sorry, the Blue Moon that we stopped producing in Canada has a negative impact on a reported basis on our NSR of about 3%. So we stopped producing Blue Moon last year in Canada. We have that year-over-year comparison issue, so best to really stick with the comparison --

[Ross Turner:]

What I am looking at -- the way I’ve looked at it, to be honest, and also a [few other things in Canada], is actually look at your Q2 sales this year and your Q3 sales and divide that by your volume for Q2 and Q3. Now I know there’s seasonal effects, I’m sure, but even then just looking at those three months sequentially, it’s down sort of 3% or 4% in Canadian dollars per hectoliter.

[Stewart Glendinning:]

I think one of the things you are going to see there is potentially the impact of exports and I think that was the second part of your question, which perhaps Dave can pick up.

[Dave Perkins:]

I’m sorry, Stewart, we didn’t hear the original question.

[Ross Turner:]

The question was basically that obviously you said that on a comparable basis, sales per hectoliter in Canada increased 2%. Looking at it sequentially from Q2 to Q3 09, if you look at revenue per hectoliter on the Canadian dollar, it actually declines sort of 3% or 4%. And I am guessing that’s to do with imports, because you exclude imports when you are looking at it on a comparable basis. I’m just trying to understand how much were your imports down and what sort of effect this is going to have going forward.

[Dave Dunnewald:]

The answer to the question is essentially you had a flip of the impact that Stewart mentioned related to exports to MillerCoors. In the second quarter, the -- essentially the accounting for those exports increased revenue per hectoliter as well as cost of goods per hectoliter. In the third quarter again on a year over year basis, the exports to MillerCoors reduced the revenue per hectoliter and the cost of goods per hectoliter and that is why when we present comparable analysis of our Canadian results, we strip those out because it’s basically just noise in the numbers, change in the way we account for the beer that we sell to MillerCoors. Now, subsequent to the formation of MillerCoors and subsequent to the moving of Blue Moon product production from Canada to the U.S.

[Ross Turner:]

Okay -- going forward, this should be -- this sort of noise won't -- is less likely to be there?

[Dave Dunnewald:]

Actually in the fourth quarter, you should see a similar effect to what we saw in the third quarter and then more normal thereafter.

[Ross Turner:]

Thank you very much.

[Operator:]

Thank you. I have no other questions in queue. I would like to return the program to the presenters for any concluding remarks.

[Peter Swinburn:]

Thank you very much, Matthew and thank you, everybody, for joining us this morning, this afternoon and for your interest in the business. We look forward to speaking to you again at the end of our next quarter. Bye now.

[Operator:]

Ladies and gentlemen, thank you for your participation on today’s conference. This does conclude the program and you may now disconnect.