Brown-Forman Corp (BF.B) 2005 Q4 法說會逐字稿

Good morning.

At this time I would like to welcome everyone to the fiscal 2005 year-end conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks there will be a question-and-answer period. (OPERATOR INSTRUCTIONS) Mr. Graven, you may begin your conference.

Thank you.

Good morning.

This is T.J.

Graven, Director of Investor Relations at Brown-Forman Corporation.

Thank you for joining us for our fiscal 2005 year-end conference call.

Today Owsley Brown, Chairman and Chief Executive Officer of Brown-Forman Corporation will begin our call with an overview of business trends and key contributors to the company's fiscal 2005 performance.

Then Phoebe Wood, Executive Vice President and Chief Financial Officer of Brown-Forman Corporation will follow with a more detailed review of the financial results of both our beverage and consumer variables business segment.

And then we will provide some guidance on our expectations for fiscal 2006.

We will then take questions from investors.

Before we begin I would like to remind you that this morning's conference call contains forward-looking statements based on management's current expectations.

Numerous risks and uncertainties may cause actual results to differ materially from those anticipated or projected in these statements.

Many of the factors that will determine future results are beyond the Company's ability to control or predict.

You should not place undue reliance on any forward-looking statements.

The Company undertakes no obligation to update any of these statements whether due to new information, future events or otherwise.

Earlier today we issued a press release announcing our fiscal 2005 results.

The release is available on our website at www.Brown-Forman.com under the section titled "investor information."

We have listed on page 6 of the press release a number of the risk factors that you should consider in conjunction with our forward-looking statements.

Other significant risk factors are described in our form 10-K, form 8-K and form 10-Q reports filed with the SEC.

During the call we will also be discussing certain non-GAAP financial measures.

These measures, the purposes for which management uses them and the reasons why management believes they provide useful information to investors regarding the Company's financial condition and results of operations, are contained in the press release.

With that let me turn the call over to Owsley Brown.

Good morning.

It is a special pleasure to host this conference call to discuss the results of one of the best years in our Company's 135-year history.

Earlier today we reported earnings for our fiscal year, which ended April 30th of $2.52 a share, up 21% over the previous fiscal year.

After making some comparability adjustments our earnings per share were $2.28 a share, an increase of 10%.

These adjustments our for foreign exchange benefits and for the gain on the sale of our interest in Glenmorangie, for asset impairment charges primarily associated with our Lenox retail business, for an engineered reduction in global trade inventories and some litigation expenses incurred during fiscal '04 related to a change in our distribution in England.

This 10% organic earnings growth rate is one of the strongest in the wine and spirits industry and is a testament to the quality of our brand and equally importantly to the quality of our management team.

About two years ago we moved some very talented individuals, including Paul Varga, the President and Chief Executive Officer of Brown-Forman beverages into positions of significantly increased responsibility, and the team has worked diligently, collaboratively and brilliantly to capitalize on the enormous opportunities that exist for our portfolio of premium wine and spirit's products around the world.

As Chief Executive Officer of Brown-Forman, I am extraordinarily proud of the excellent results put forth by the people who are working so very hard to increase our business by making our brands come alive for the world's consumers and the trade that serves them.

As we announced on April 27th we are part of a consortium led by a Constellation brands which is considering a bid to acquire Allied Domecq.

Though the consortium has made a preliminary approach to Allied there is no certainty that this will lead to an offer or that any offer made would be successful.

We will continue to work diligently throughout this process and will make announcements on our progress whenever it is wise and appropriate.

Before Phoebe Wood gets into more specific financial and operating details, I would like to highlight some of the notable accomplishments our people made for our brands during the past fiscal year.

Not only did we get Jack Daniels to deliver volume growth for the 13th consecutive year, but fiscal 2005 was the largest year of actual case volume growth in the brand's history, adding over 680,000 cases to its already large base of business.

Also worth noting, the brands global depletion growth of over 9% was its highest rate of growth in over two decades.

Globally, Jack Daniels is rapidly approaching 8 million cases on an annual basis.

We are justifiably pleased at Jack Daniels long history of steady growth and are even more proud of its recent robust performance.

Much has been written over the past year about the dynamic growth of the spirits category, particularly for premium brands.

International brewers now acknowledge the loss of market share to spirits brands, especially on premise.

How long these favorable trends continue will be determined by marketplace dynamics and ultimately by consumer preferences.

But let me assure you that we will do our best to see that Jack Daniels and our other great brands get more than their fair share of the gain.

Southern Comfort also had a fantastic year with global depletions growing by 5% or over 100,000 cases.

This is the fastest rate of growth that that brand has experienced in 15 years.

We are particularly happy with the work of our sales and marketing teams and their partners.

The work that they have done with this brand in the U.S.

The brand's New Orleans is very helpful to its overall consumer message.

As a result, we are renovating a historic building in the heart of New Orleans to serve as the brand's consumer headquarters.

We are excited about the prospects of hosting both old friends of Southern Comfort and potential new friends when the renovation is complete later this year.

During the year we also completed the acquisition of the remaining equity interest in Finlandia Vodka.

Our work to create a winning brand building model for Finlandia continuous, and we've seen success with our efforts to date as global volumes rose 7% this year.

In Poland depletions grew nearly 30% to over 300,000 cases.

In the U.S. a market with no shortage of new premium and super premium vodkas, volumes grew 7% on the strength of the new model rollout and the introduction of Finlandia Mango.

We remain optimistic that the brand's consumer proposition centered around the ingredients of pure glacial spring water, six-row barley and Finnish authenticity, connects with consumers and will result in sustained and profitable growth.

Our work to reverse the profit squeeze we've experienced with our big wine brands continues.

Overall consumption trends in wine remain very good, and according to Adams Liquor handbook consumption rose 3.4% in the U.S. in calendar '04.

While global volumes for our wine brands increased nearly 5%, much of this growth came from promotional items at comparatively low margins designed to help us work through our contract surplus situations on certain varietals.

Fetzer and Bolla continue to struggle as we fight to slow our volume declines at the competitive 6 to 9 dollar price point.

In the last fiscal quarter we tested different combinations of price support and advertising and promotion expense in various states with some encouraging results.

We expect to implement the most promising of these during fiscal 2006 and hope more satisfactory volume and profit performance will come from it.

Our developing brand portfolio also holds very exciting promise with Tuaca Liqueur and Woodford Reserve both posting solid double-digit volume growth at very nice profit margins.

Another bright spot is Sonoma-Cutrer.

Volumes grew 20% during fiscal '05, again at good margins.

Sonoma-Cutrer remains on allocation with the vast majority being sold in fine restaurants throughout the U.S.

When we bought the brand in 1999 we acquired a 500-acre vineyard that was not yet mature.

We are pleased that this vineyard is now in full production and the superior fruit it is now yielding will enable us to increase sales of estate bottles of Sonoma-Cutrer in a meaningful way this fiscal year.

All in all our financial performance in the beverage segment was exceptional this year.

We remain optimistic about the global environment for premium spirits, too, and the many opportunities we see to use our fine portfolio of brands and the talents of some of the best brand builders in the business to generate exceptional returns for our shareholders.

With that, let me now turn the call over to Phoebe Wood for a discussion of the financial results for the year, a brief update on our consumer durables segment, and some discussion on our outlook for fiscal 2006.

Thank you.

And good morning everyone.

As Owsley mentioned we are pleased to once again report record results for fiscal 2005 with earnings per share increasing 21% to $2.52 per share.

Before we dive into the numbers here is a reminder that we chose to adopt FAS 123R during the fourth quarter of this year, which expenses the value of employee stock options.

Results for prior periods have also been restated to reflect this expense in order to compare properly.

The change reduced fiscal 2004 and 2005 earnings each by approximately $0.03 per share.

Adjusting our reported earnings growth of 21% for the unusual items that happened during the year, earnings per share increased approximately 10%.

We believe this is the best way to look at our ongoing organic business growth, and I detail these today.

So let's turn our attention to the outstanding performance registered by the beverage's segment this year.

Growth in our beverage's segment was again very strong.

Net sales grew to nearly $2.2 billion during fiscal 2005, an increase of 10% when compared with fiscal 2004.

Here are the items that had an impact on revenues in the segment.

First, the weaker U.S. dollar accounted for roughly $60 million or about 3 percentage points of the 10% year-over-year growth in revenue.

On a net basis the British pound remains our largest currency exposure followed by the Australian dollar, the euro and South African rand.

Second, while initial shipments of our new low carb wine brands 1.6 and 1.9 increased revenues, a significant planned reduction in global trade inventory more than offset this growth.

A little over half of this $16 million reduction came in continental Europe due to a previously announced change to a new distribution structure in Germany.

Under this structure we will begin selling directly to the retail trade with the assistance of our partner Bacardi.

This arrangement gives us full control over the marketing and pricing of our brands to the retail trade.

We believe it is an excellent way to increase our control over our brand in a very important market for us and thanks to our partnership, at a reasonable cost.

This new arrangement provides for more focused brand building, and we believe will yield positive profit contributions in the years ahead.

Trade inventory levels in the U.S. also declined for Jack Daniels and Southern Comfort due in part to our continued focus from supply chain efficiencies.

Stripping out these factors underlying revenue growth for fiscal 2005 is approximately 7% for the beverage's segment.

Gross profit grew 13% for the year, driven by higher volumes and price increases for Jack Daniels and Southern Comfort.

Foreign exchange also contributed to gross profit growth in this segment.

Adjusting for foreign exchange and netting the impact of lower global trade inventory levels against the favorable impact of the initial shipments of new wine products, we estimate that underlying gross profits grew about 10%.

Again this year we made significant advertising investments in support of our brands led by healthy increases for our global spirits brands.

We continue to see many opportunities to support their development and to invest to fuel future growth.

Advertising expenses were up 11% in fiscal 2005 in the beverage's segment on top of a healthy increase of 15% in fiscal 2005.

The weaker U.S. dollar was a factor contributing to our growth in spending accounting for approximately $8 million of the increase, or roughly 3 points.

So on a constant dollar basis average advertising expenses increased a robust 8%.

Beverage's SG&A costs were up 13% for the year.

This is a high rate of SG&A growth and worthy of some clarification.

First, higher incentive compensation representing adjustments to prior year estimates based on our favorable performance and strong underlying growth this year, contributed about 3 points of the growth.

Second, higher pension expenses and the negative impact of foreign exchange accounted for another 2 points of the increase.

Of the remaining 8% increase, about half represents inflationary growth, and the other half is attributable to such things as costs related to Sarbanes-Oxley compliance, the development of the Company's global distribution strategy and advisory fees related to the exploration of strategic alternatives for our Lenox business.

Putting it all together fiscal 2005 was the 11th consecutive year of record earnings for the beverage's segment.

Operating income grew 16%.

Let me take you through a few items that had an impact on operating income for the year.

First, foreign exchange contributed approximately $35 million to operating income for this segment.

Second, lower global trade inventory suppressed results by roughly $15 million, about half of which was related to our new distribution structure in Germany, and the remainder represents a reduction due to transition issues in a few of their markets and a healthy decline in U.S. trade inventories for both Jack Daniels and Southern Comfort.

Third, $5 million of incremental pension expense and a $3 million asset impairment charge reduced earnings.

Finally, the absence of $10 million of litigation expense incurred in the prior year benefited comparison.

Adjusting for these factors beverage's segment operating income increased 10%.

Now turning to our consumer durables segment, adjusting for the $37 million write-down of Lenox goodwill that was recorded in January related to the retail business, consumer durables operating profit of $9 million was down sharply compared to the prior year.

Despite the decline in operating profit for the year, the segment contributed an incremental $50 million to the Company's net cash flow.

Revenues declined across all three channels of distribution, and these declines were only partially offset by a reduction in advertising expenses of $11 million and reductions in SG&A expenses of $7 million.

Over the past several months we have continued our work exploring strategic alternatives for the Lenox business.

At this point in the process it would be premature to predict precisely how or when this will be resolved.

We are working toward a resolution during the summer months.

Cash flow from operations for the Corporation increased 30% from $304 million in fiscal 2004 to $396 million in fiscal 2005.

This strong cash flow from operations combined with proceeds from the sale of Glenmorangie shares net of our additional investment in Finlandia contributed to the significant reduction in our net debt of $276 million.

Said a different way, our cash balances grew from $68 million at the end of fiscal 2004 to $295 million as of April 30, 2005.

During the year we invested $49 million in capital expenditures and paid dividends totaling $111 million.

Looking ahead, we expect capital expenditures to be in the range of $60 to $70 million, moderately higher than what we've experienced over the last two years.

Now turning to our outlook for fiscal 2006.

First on foreign exchange, for 2006 our hedging strategy is to provide protection at exchange rates that in the aggregate are no worse than our fiscal 2005 rates.

As a result in fiscal 2006 we do not expect significant year-over-year downsize to our earnings in the event of a strengthening dollar.

Conversely we believe 2006 may benefit from a continued weakening of the dollar.

We currently project that fiscal 2006 earnings will be in the range of $2.70 to $2.80 per share.

Excluding the net impact of the Glenmorangie gain and the asset impairment charges from fiscal 2005 earnings, this represents growth in the range of 10% to 14%.

However, we do expect the competitive landscape to be challenging in fiscal 2006 as the large international brewers and other spirit and wine companies work to gain market share for their brands.

As Owsley mentioned earlier, rest assured we will do our best to see that Jack Daniels and our other great brands get more than their fair share of market share gains, and that we continue to manage this Company for the benefit of our shareholders.

This concludes our prepared remarks.

Now Owsley, T.J. and I will answer the questions you may have.

(OPERATOR INSTRUCTIONS) Brian (indiscernible) with Banc of America Securities.

(indiscernible) calling in for Brian.

A couple of questions for you regarded the distribution change in Europe.

Now the impact from the trade inventory impact you said that half of that was related to what was going on in Germany.

Are there any other markets where there is some distribution change that there could be some impact?

It is Owsley Brown answering.

Yes, I think there could be a few.

Italy, we have made some changes.

Spain is another.

Russia is another.

So that there are some additional markets.

But Germany is far and away the biggest of those as far as I know.

Anybody have any extra comments on this?

(multiple speakers) yes, moving from one distributor to another, a couple of transitions, same sort of thing in the U.S., Germany is the big one.

Okay so the impact here the lower global trade inventories, that 4% number, is that mostly related to -- said another way actually this 4% number, what happened in Germany is that mostly in the fiscal fourth quarter?

Yes.

It is all in the fiscal fourth quarter, in fact it is really $0.08 a share in the fourth quarter if you're going to look at the fourth quarter.

And so it is because we are moving to a different kind of structure where we have more direct control over those inventories.

We are selling it ourselves as opposed to selling it to a distributor.

It just takes months out of the system.

And does that also help improve margins?

Yes.

And is this impact, do you expect it to continue also in the first fiscal quarter of '06?

No.

We think it's a onetime event.

Onetime event, so if I am looking at fiscal '06, thinking about the seasonality of the business, the trade inventory, the distribution change shouldn't really impact the seasonality of the business in '06?

That's correct.

Okay.

And then just in Europe in general what are you guys seeing?

I know Western Europe has been weak for a lot of different consumer products companies.

Are you noting any weakness there, softness, especially in the UK?

We are not -- Europe is a large place.

And so I think that when you look country by country you can find that our brands are generally really doing very well.

We have had success with our Jack Daniels and Southern Comfort brands in the UK, and they continue to grow very well.

If you move toward Eastern Europe you get more strength coming out of Finlandia Vodka, such as the great increase that we've seen in Poland.

So you actually have and sort of in what I will call continental Europe we have had pretty good growth.

I think it hasn't been stellar, but it hasn't been poor.

It has been just a very healthy growth of our brand.

Okay.

I just wanted to go back to the distribution change.

Are there any charges associated with that?

The charge comes through in this change in inventories, and that is how it all gets expressed in the financial statements.

So just look at that $15 million.

That is the global spirit inventory -- global -- and it's really just reduced shipments.

Okay, and in terms of what's going on with Allied Domecq, are you seeing any disruption with their kind of shipments or how -- because they put out a release today saying because of everything that is going on with the acquisition and then the potential bid here from the consortium but there might be some disruption in their shipping, have you seen any of that in the U.S.?

I would ask them about that, frankly.

I think they would be much closer to it than we would.

Right.

I think just in general for the cash flow outlook for '06.

Yes?

What is the cash flow outlook.

We do not make a specific forecast of our cash.

I just note the very significant increase that we've had in our cash from operations this year.

Okay, great.

That's all I have.

Thanks for your call.

Tim Ramey with D.A. Davidson.

Good morning.

Congratulations.

Thank you, Tim.

Hi, how are you?

Very good, thanks.

Just on the divestiture of Lenox, I know you are not going to say too much about it now but the way you worded the release it sounds like Hartmann is not a part of the strategic initiative or whatever were calling it.

That is correct.

Is there a reason for keeping a small tag business like that?

What is the rationale?

It is totally unconnected with Lenox.

We are concentrating on our alternatives in that field.

It is performing well, and we are happy with it.

Okay.

The (indiscernible) Frederickson number showed some improvement in the wine business in the February timeframe, now but one month doesn't make a year obviously, and it didn't.

But are you seeing even though the performance is poor are you seeing a sequential improvement there?

It certainly does.

Aggregate numbers for consumer demand have been good in the U.S.

I don't know the specific numbers you're referring to, but it is no surprise the aggregate numbers are good that those numbers would be good.

These are Fetzer numbers, so.

Look, each month is not identical to the next.

So we always get very hopeful when we see an upturn in anything up.

But a lot of it is price driven, which is not our very favorite kind of ways to get volume.

But it is the reality of the marketplace today, and we are real competitors in a real world, and so we need to deal with it appropriately.

Okay, and then just with regard to the Allied Domecq situation I know you're not going to talk much about that either, but can you talk at all about whether you would be interested in the wine assets there or is your primary focus spirits?

I assume it is not doughnuts or ice cream.

We just are very constrained in what we can say, which is no surprise.

We are working hard as we possibly can here exploring all of our options there with our partners.

And anything we can say is really got to be governed by the UK takeover panel laws, and which we will follow very completely as you would expect and want us to.

Understood.

Thanks so much.

(OPERATOR INSTRUCTIONS) Dara Mohsenian with J.P. Morgan.

Phoebe, can you give us the tax rate assumption in 2006 EPS guidance?

32.5%.

32.5, okay.

Between 32 and 33, but I just average them.

Okay.

And in the U.S. what is really the driver behind lower trade inventories in the U.S., and I guess is the trade at appropriate inventory levels now or do you expect more adjustments going forward?

Dara, for a long time we have seen with really with the coming of the computer age and a consolidation of distributor warehouses, we have seen simply more efficiency in the trade channels in the United States.

And so we have for a long time had a program of taking that into account and slowly reducing the number of days that really, that people that we sell to, our wholesalers have in the field.

We think it's very appropriate.

Some years, because we are selling to third parties it is not entirely our choice as to how it flows.

It is very much a choice of our partners that we are selling to.

But sometimes we underachieve in our program.

This year maybe we overachieved a little bit, but on average over time we intend, we think appropriately, to take advantage of efficiencies in the distribution system and so they have the number of days of inventory drop.

So it has been something we worked on and off for years; maybe we slightly overachieved this year.

Fair enough.

And Owsley, can you discuss the range of options, at least that you are considering for Lenox?

Well, the one that we mentioned in our February 22nd news release when we announced the program was that those options did include exploration of a sale.

And so that is certainly one that we mentioned.

Obviously one of the most obvious options is to keep it.

And there are many permutations and combinations in between.

And that is what the process is designed to help produce information that will allow us to come to a good recommendation to the Board and the Board to come to a good decision.

And it all will come to a head as Phoebe said, perhaps in the summer months, but certainly would be an appropriate estimate of when that might come to an end; the process is working just fine.

Thank you very much.

At this time there are no further questions.

Mr. Graven are there any closing remarks?

No, just thank everyone for joining us today.

We hope you all enjoy the upcoming holiday weekend and some of our fine brands in the process.

Thank you.

This concludes today's conference call.

You may now disconnect.