Brown-Forman Corp (BF.B) 2009 Q4 法說會逐字稿

Good morning.

My name is Stephanie, and I will be your conference operator today.

At this time I would like to welcome everyone to the fourth-quarter fiscal 2009 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 session.

(Operator Instructions)

I would now like to turn the call over to Ben Marmor, Director of Investor Relations.

Mr.

Marmor, you may begin your conference.

Thank you, Stephanie.

Good morning, everyone, and thank you for joining us for Brown-Forman's fiscal 2009 earnings call.

This is Ben Marmor, the Director of Investor Relations at Brown-Forman.

Joining me today are Paul Varga, our President and Chief Executive Officer, Don Berg, Executive Vice President, Chief Financial Officer and Jane Morreau, Senior Vice President Finance Management Accounting and Technology.

Don will begin our call this morning with a review of our performance for the year and our outlook for fiscal 2010.

Paul will follow with additional commentary.

As always, this morning's conference call contains forward-looking statements based on our 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 and the Company undertakes no obligation to update any of these statements whether due to new information, future events, or otherwise.

This morning we issued a press containing our results for fiscal 2009.

The release can be found on our website under the section titled Investor Relations.

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

Our other significant risk factors are described in our Form 10-K, Form 8-K and Form 10-Q reports filed with the Securities & Exchange Commission.

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

These measures and the reasons management believes they provide useful information to the investors regarding the Company's financial conditions and results of operations are contained in the press release.

With that I will turn the call over to Don.

Thank you, Ben.

Good morning, everyone.

As we reflect on fiscal 2009, it was certainly one of the more challenging and volatile years we've experienced in quite some time.

A year ago at our fiscal 2008 year end conference call we indicated that we were seeing signs of a softening global consumer environment and had taken a number of steps in anticipation of these trends.

Our business remained fairly resilient during the first half even as we saw consumers continue to shift their drinking patterns to the off premise.

Then as the financial crisis began to take hold early last fall, the US dollar strengthened significantly, reducing our overseas profits for the year.

As the year progressed, the global economic downturn spread beyond the United States, Mexico, and the UK to most of western Europe and parts of Asia.

Despite the turmoil in the marketplace, we registered strong results for our second quarter.

During the holiday season in our third quarter we noted two increasing trends.

Retailers and distributors reduced their inventory levels in order to conserve cash, and consumers in coping with the economic downturn were trading down to less expensive brands.

In our fourth quarter we saw these trends continue and the global downturn also began to affect our business in central and eastern Europe.

Despite these significant challenges that intensified throughout the year, Brown-Forman delivered underlying operating income growth of 4% for fiscal 2009, a performance that we believe is at or near the top of our wine and spirit Company competitive set.

Let me expand on a few of these themes, namely the impact of foreign exchange, retail and distributor inventory reductions, and our ability to achieve underlying growth for the year.

While these three themes are important to understanding our fiscal 2009 results, they are also influencing our outlook for fiscal 2010.

Regarding the first theme, foreign exchange, the net effect of the significant strengthening of the US dollar in the middle part of our fiscal year reduced our net sales $152 million and our operating income $30 million net of hedges.

Turning to inventory reductions, our second theme, in our fourth quarter we continued to see retailers and distributors in many countries throughout the world reduce inventory levels.

Syndicated data indicated that consumer take away trends outpaced retail inventory replenishment or depletions, implying that inventory reductions continued at the retail level.

Distributor case sales for retailers outpaced our case sales to distributors, indicating distributors also reduced their inventories.

For fiscal 2009 we estimate that global inventory levels for Jack Daniel's decreased over 200,000 cases at the retail level.

Looking forward to fiscal 2010, it is still unclear when distributor sales to retailers and our sales to distributors will all normalize.

Moving on to our fiscal 2009 underlying performance, globally Jack Daniel's depletions showed slight growth for the year.

Internationally depletions grew 1% and in the United States they were flat.

Although depletions were flat in the US, consumer take away remained strong.

According to US Nielsen data Jack Daniel's grew volume 4% during our fiscal year while NABCA data showed 2% growth for the same period.

Both data sources showed that Jack Daniel's twelve-month take away trends were stronger in fiscal 2009 than in fiscal 2008.

In an environment where consumers have been trading down, we're pleased that on a consumer basis Jack showed improvement year-over-year.

Digging a bit deeper into the full year Nielsen data, Jack was able to increase its market share of whiskey as well as its share of a broader competitive set which includes Absolut, Bacardi, Captain Morgan, Crown Royal, Grey Goose, Jim Bean, Jose Cuervo, Ketel One, Smirnoff, among some others.

Outside the US, Jack Daniel's depletion gains in Australia, France, Poland, Romania, Canada, and Mexico were partially offset by declines in Spain, Germany, South Africa, Italy, and the travel retail channel due to economic conditions that led to the declines in these important markets.

Having said that, Jack Daniel's outperformed its competitors in most of these declining markets demonstrating its strong brand equity and somewhat greater resiliency.

Encouragingly Jack Daniel's showed growth in many of the economies in recession.

For example, in the United Kingdom Jack Daniel's largest market outside the United States, the brand grew nearly 1% and ended the year just 3,000 cases shy of the 1 million case depletion mark.

Throughout the year Jack Daniel's made substantial gains in the off premise channel with April twelve months Nielsen's showing 15% growth.

Jack Daniel's depletions in France grew at double-digit rates for the year.

As we have mentioned before, we see significant potential in France for our flagship brand given the size of the whiskey category, our relatively small share, and the speed at which Jack Daniel's is growing versus the competition.

Eastern Europe was once again a source of growth for Jack Daniel's as well.

However, depletion results finished the year mixed.

The brand continued its strong gains in Poland and Bulgaria whereas in Russia the brand declined mainly due to some inventory disruptions during the year.

And in the Ukraine it declined with the slumping economy.

Additionally, some markets such as Romania finished the year with double-digit depletion gains but experienced a decline for the fourth quarter as the economy weakened.

Given these recent results, as we look ahead to fiscal 2010, we are cautious about the outlook in eastern Europe.

Moving on to Australia, Jack Daniel's Tennessee Whiskey had a fantastic year with depletion gains in excess of 30% and the brand passing the 300,000 case mark.

Additionally, our Jack Daniel's and Cola ready-to-drink brand achieved depletion gains despite the substantial increase in excise taxes levied on the ready-to-drink market in April of 2008.

We believe this is a result of actions we took including a proof reduction to keep the price affordable for consumers.

However, the improved volume trends have not offset the gross profit impact of these changes, but we believe the brand is better positioned today than after the excise tax first took effect.

In Latin America Jack Daniel's growth exceeded 20% for fiscal 2009.

Argentina, Peru, Chile and Brazil all delivered strong gains.

In addition, with the distribution operation in Mexico that we acquired with the Casa Herradura purchase we have seen a marked increase in our Jack Daniel's depletion trends where the brand grew over 30% in fiscal 2009 crossing the 50,000 case depletion mark.

Turning now to some of our other brands' performances, Jack Daniel's line extension, Gentleman Jack, once again posted excellent results with fiscal 2009 depletions growing over 20%.

While this growth rate is very impressive, the rate of growth slowed throughout the year to the high single digits in the fourth quarter which we believe was generally associated with the weaker economic climate.

Finlandia had another solid year.

We're very proud that Finlandia crossed the 3 million case depletion milestone earlier this year and it grew depletion 7% globally for fiscal 2009.

Finlandia has continued to be a powerful eastern Europe growth story as the brand's significant growth rates in the region fueled Finlandia's growth on a global basis.

The brand experienced double-digit gains in Poland, Russia, Georgia, the Czech Republic and Romania.

Southern Comfort -- global depletion trends were down 5% for fiscal 2009.

In the United States the brand experienced mid-single digit declines.

We believe inventory reductions represent about 3 points of this decline as Nielsen data indicated the brand declined only 2% and NABCA data reflects a 1% decline.

Southern Comfort has suffered from the consumer switch to the off premise where consumers are less inclined to make complicated drinks.

During fiscal 2010, as part of our efforts to reinvigorate Southern Comfort we will be introducing two new ready to pour line extensions, Southern Comfort Hurricane and Southern Comfort Sweet Tea.

In Australia Southern Comfort performed well as consumers switched from ready-to-drink products to full strength spirits following the RTD excise tax increase I mentioned earlier.

Overall our full strength tequila brands grew global depletions 2% for the year.

Within that, el Jimador grew globally at 3% with the introduction of a new package and the 100% agave reformulation.

Herradura declined 2%.

We have also begun to roll out a new package for Herradura beginning first here in the United States.

Also in the US we're working on increasing off premise points of distribution in order to lessen its reliance in the struggling on premise channel.

Antiguo, a line extension from Herradura has continued to do well in Mexico.

This is a 100% agave brand priced between el Jimador and Herradura.

It posted high single-digit gains for the year.

In 2010 we're planning to increase the offerings of the Antiguo brand in Mexico and introduce it to new markets.

The new mix tequila based ready-to-drink product also did well in fiscal 2009 growing depletion 7%.

In 2010 we're planning to introduce additional flavors as well as expand new mix distribution geographically.

Turning now to margins, gross margin for fiscal 2009 was 49.4%, 2.2 points lower than fiscal 2008.

During the year we shifted some of our advertising promotion expense to targeted consumer price promotions which is accounted for as a reduction from gross sales as well as to value-added packs which is charged to cost of sales.

Both of these line items affect the gross margin calculation when comparing to prior years.

In addition to these two items, gross margin was also impacted by foreign exchange, the Australia RTD tax, brand and geographic sales mix, higher input costs and the agave charge that we took earlier in the year.

Let me turn now and speak a bit about our brand building activities and let me start with our consumer price promotions or discounting.

While we have increased the amount of price promotions we are offering to consumers we're doing it on a measured and targeted basis.

Using Jack Daniel's as an example, looking on a constant currency basis, discounts were up double-digits.

However, with mix and price increases, net sales per case increased 2%.

In fact, Brown-Forman's overall underlying net sales growth was attributable to pricing which offset negative mix shift and flat underlying volumes.

In terms of advertising and promotion, we were able to achieve operating leverage through thoughtful resource allocation in addition to lower spending.

We did not merely reduce A&P expense across the board.

We reallocated a portion of our investments from certain markets that were severely impacted by recessions to our best opportunities for near term growth.

For example, we reduced spending in Spain and Italy but increased our investments behind Jack Daniel's in France, Finlandia in eastern Europe, and Gentleman Jack and el Jimador in the United States.

In fact, thinking about our A&P investment over longer term, underlying spending has increased at about a 6% compounded rate over the last five years.

Beyond brand building investments, operating margins were also supported by our belt tightening and other cost cutting measures behind our SG&A spending.

One of the more recent cost cutting measures included a voluntary early retirement program and a reduction in our workforce that together reduced our employee base by 8%.

We recognized $12 million in charges in fiscal 2009 related to these reductions, and we expect these actions and the elimination of merit increases to produce savings between $15 million and $20 million in fiscal 2010.

Summarizing all of this, our operating margin performance for fiscal 2009 remained consistent with last year at approximately 21% of net sales.

In terms of our financial condition, our Company remains very healthy.

We have a strong balance sheet that was supported in fiscal 2009 with nearly $500 million in operating cash flows.

While cash flow was strong, it was less than last year due in part to the appreciation of the US dollar and the absence of approximately $26 million from a VAT tax refund received in fiscal 2008 related to our Herradura acquisition.

Cash dividends totaled $169 million in fiscal 2009, a 7% increase over fiscal 2008 and our 25th consecutive year of dividend per share increases.

In addition, we reduced our net debt by $225 million.

Now, moving to our fiscal 2010 guidance, to better understand how we approached our outlook, let me first talk a bit about fourth-quarter trends where we experienced flat underlying sales growth and a 2% decline in underlying gross profit.

Fourth-quarter depletions were down globally in the low single digits for Jack Daniel's Tennessee Whiskey, an improvement compared to the third-quarter declines.

Finlandia depletions were down in the mid-single digits reflecting a January buy-in before a February 1st price increase in Poland.

Finlandia's take away in Poland remained ahead of depletions in the quarter, however, the market appears to be softening.

Depletions were down in the high single digits for Southern Comfort, and bucking these trends were Jack Daniel's and Cola, el Jimador, New Mix, Gentleman Jack, and Woodford all posting strong depletion gains in the quarter.

While these fourth quarter depletion trends in our largest brands are concerning, syndicated data in many markets suggests stronger consumer take away and that the inventory reductions we saw in the third quarter continued into the fourth.

It is still unclear when global inventory reductions will end and the trends will stabilize, so we're taking a cautious view for fiscal 2010.

Now let me also address foreign exchange.

Looking at fiscal 2010 given that the dollar strengthened in the middle part of fiscal 2009, our hedging program from last year and hedges we have in place for this year, at recent spot rates the current foreign exchange impact would reduce fiscal 2010 year-over-year operating income about $27 million, and earnings per share by $0.12.

As foreign exchange fluctuates from this point forward, based on our current hedge position we have more downside risk than upside potential.

For example, if the US dollar were to weaken today by 10%, we would expect our fiscal 2010 earnings per share to improve by $0.05.

On the other hand if the US dollar were to strengthen by 10%, we would expect our earnings per share to decline by $0.08.

So, turning to our fiscal 2010 guidance, we are projecting modest underlying growth in operating income for fiscal 2010 despite an expectation that the consumer environment will continue to be challenging.

As we think about 2010, we remain cautious for a number of reasons.

First, we believe the continued volatility in the global economic environment may further impact consumer demand.

Second, this economic climate may continue to impact the volatility of foreign exchange rates.

Third, we believe it is uncertain as to how sustained credit and cash pressures may affect the purchasing behavior of our distributor partners and retailers this year.

Given these and other general uncertainties in this environment we project fiscal 2010 earnings per share to be in the range of $2.60 to $3.

With that, let me turn the call over to Paul for some additional perspective.

Thank you, Don, and good morning to everyone.

In addition to Don's recap of FY '09 and outlook for FY 2010 I would like to comment briefly on our performance on both a relative basis and over a longer period of time than just three months or one year.

While we're pleased with how our FY '09 performance stacks up versus important benchmarks, this most recent twelve months is only one year in our Company's very long and continuing success story.

In this morning's earnings release we provided an exhibit which detailed Brown-Forman's total shareholder return performance over several time periods relative to both the S&P 500 and many of our industry competition.

If you have had a chance to look at the numbers, you will have already observed the Brown-Forman short, mid-, and long-term performance has been strong relative to both the S&P and the nice group of companies that comprise our industry set.

Specifically, we out performed both the S&P 500 and the S&P 500 Consumer Staples over each of the four period measured -- one, five, ten and fifteen years.

Relative to the S&P 500 index the magnitude of our performance ranged from 21 points on a one-year basis to a full 5 points on a 15-year basis.

Because of the dramatic drop in equity markets in the last one to two years, it may be tempting to assume that all of this performance advantage occurred in the most recent 24 months, therefore validating a perception that our Company and to some extent our industry is merely a defensive investment.

So I took a look at the same performance comparison from April 30, 2007, two years ago, and prior to the recent global economic difficulties to see if the picture was any different.

What I found was that the S&P 500 had very good multi-year returns spanning the five, ten and fifteen year time horizon ending in April of 2007, but at the same time Brown-Forman had superior total shareholder returns over each of these three periods with the level of outperformance being 3 to 4 percentage points in each case.

What strikes me as significant and perhaps might strike some investors as surprising is that Brown-Forman outpaced this broad equity index as consistently during the market's impressive growth spurt as it did during the downturn of the last two years.

This historical performance reinforces our belief that Brown-Forman is both a growth Company during good times and a defensive investment in tough times.

I believe that these strong results in both good times and bad are a validation of the very manner in which we attempt to run our Company.

We strive to produce the consistent excellent results of a growth oriented Company while attempting to minimize the higher risk profile that is often associated with those results.

In doing this, we try to tip the scales in favor of our stakeholders.

For example, the continued health of our balance sheet today is a source of great comfort, pride and strength for Brown-Forman.

While we believe that our underlying operating income growth this past year is at or near the top of our industry, we appreciate this performance even more with the knowledge that it was achieved while also producing nearly a 16% return on invested capital, the highest within our identified set of industry competitors.

The strength of our performance in both good times and bad is also very much a testament to our brands, our people and partners, and the support of our long-term shareholders.

We believe that both the Brown family and our cherished long-term shareholders are a source of competitive advantage for the Company as their commitment to a strong, enduring and independent Brown-Forman enables us to thoroughly balance our short-term and long-term needs.

This is particularly helpful in a business where brands and companies such as Brown-Forman can and often do thrive for generations.

No one truly knows how long or how difficult the global recession will be.

And, navigating our way through it we will be striving to improve the productivity of everything we do.

This will include placing an even higher priority on resource allocation, on the pace and quality of new ideas.

If we do this well, I believe we will improve our underlying growth prospects and position an already strong and healthy Brown-Forman for even greater rewards as conditions improve around us.

Thank you for listening and we're now happy to take any of your questions.

Your first question is from the line of Kaumil Gajrawala with UBS.

Good morning, everybody.

Good morning.

Are you guys yet in a position to provide us with an update on excise taxes on a state and federal basis?

Yes, we can.

On a federal basis nothing is really clear yet.

There is a lot of discussion that's going on right now around Washington, DC related to this.

There is a -- most of the discussions have been related to the healthcare bill that people are talking about.

We're keeping a close eye on it.

But at this stage it is not really clear what all might happen there.

At the state level -- not surprisingly I think it is pretty well known that all the states are in budget shortages, and we're one of the areas that they're looking at in terms of how to make up some of their budget shortfalls, so we're continuing to lobby pretty aggressively through DISCUS against any of these federal excise -- or state excise tax increases.

Up to now I think we have lost in about three states.

We have won in some pretty important ones, and we'll just keep the battle going there.

We are seeing some increases at the state excise tax level.

We do see it as almost an assault on the hospitality industry.

It is much broader than just the effect on our industry alone.

And there are a lot of jobs that are at stake when excise taxes go up.

And so it has been pretty effective at this stage -- when we talk about the overall impact that this really has on an economy and that it is not just a win for the state.

There is also some good data that we have been able to utilize to demonstrate particularly for these folks who are trying to close gaps in their budgets the regressive nature of some of this taxation that's being proposed.

So it is very early in all of this, and we'll just keep you posted as we learn more.

Is there a particular date by which you would be notified if you're on the list or not, not magnitude wise but if there is going to be something versus nothing?

No.

It just doesn't quite work that way.

It really is pretty fluid.

Every day you hear different news.

For example, earlier this week we had heard some promising developments coming out of Max Baucus' office -- he is the Head of the Finance Committee -- that was encouraging.

But this thing is just moving back and forth and until there is an actual bill in Congress that you know what you're dealing with, it is just going to be fluid.

Got it.

And then the second one on the inventory levels or the reducing the inventory levels, would you be able to provide some insight on a more regional basis?

Are there particular parts of the country that where inventories are higher than you would like them to be, and then also if you can try to provide us with that same sort of insight internationally?

Are you talking at retail or are you talking at distributor?

At the distributor level.

Yes.

At the distributor level generally the inventory levels in the US year to year have really only fluctuated plus or minus a day or two, and they average somewhere in the 40-day range.

It is something that has worked very well for us.

Where the issue really comes into play is really more outside the United States.

And outside the United States it depends on the country and what our route to consumer model is.

But in those markets where we do not own our own distribution, and where we go through third party distributors, given that most of our exported products are all produced in one location, you end up having a lot of time on the water.

You end up having a lot of time in their warehouses, so you can be seeing inventory days of anywhere from 90 to 120 days in those cases.

And while we think those are the correct amount of inventories that you need to have, there is no doubt that if distributors wanted to try to eek out some efficiencies, it is an area that they could go to.

And so we do see the potential for some risk next year at the distributor level for distributor inventory reduction, but as we look at it today, and across our network, there isn't any area that we look at where we're overly concerned that we may have too much or too little.

As it relates to the retail side of it, I think a lot of it hinges on the degree to which your development is in the off premise relative to the on premise.

And so when we cited some of the examples we have, you will see that the way that we actually make the estimates of these are by studying where we have decent data, the underlying consumer take away rates relative to what our depletion rates are and then we try to make good estimates associated with it.

It looks like -- I think in Don's opening remarks he talked about -- like the example of Jack Daniel's potentially having as much as 200,000 cases taken out at retail.

And just to give you a scale of magnitude that it is hard to really ever know, because we're not in the direct retail business, what levels of inventory you have at any point in time, but that's a pretty significant number we think.

So we thought a lot came out at the retail level during fiscal year '09, and so we don't think that if people go down further and further and further you will have serious risk to stock out.

And particularly on higher margin brands where the cost of typically of carrying the inventory on a brand like Jack Daniel's significantly outweighs the cost of selling it -- or excuse me, the benefits of selling it outweighs the cost of carrying it.

So we think that a large part of it has already been taken out, but I will reiterate what Don said.

I think that the single point of production that we have got for our international markets by design forces to us carry higher inventory levels.

So there is some potential risk there although we have seen a little bit of it this year but not at a huge level.

Got it.

Thank you very much.

Your next question comes from the line of Lauren Torres with HSBC.

Good morning.

Good morning.

I was curious to hear a bit more about some of the fourth-quarter trends that you spoke about.

Don, you said that depletions were concerning or at least the declines were concerning but you're seeing stronger consumer take away.

I was curious to hear why you think that's the case?

Is it just more promotional activity on your end or do you think by brand or channel we're seeing some health or strength return in this type of environment?

Yes.

I will talk to the first, first and then I will come back to the second.

When you look at the trends across the fourth quarter, there were really a lot of mixed results, and it is not surprising in this kind of volatile time things are moving in different directions regularly.

And so, for example, if you look at fourth-quarter trends compared to the third-quarter trend, we saw improving trends in markets like the US, Germany, France, South Africa, Bulgaria, Australia, and a host of other markets.

When you look at where trends softened versus the third quarter, the UK softened a little bit.

We also continue to see softening in Spain and Italy, and then as I mentioned we started seeing a little bit of concern around central and eastern Europe.

All these markets I'm talking about, I am citing for Jack Daniel's.

But we did see some softening -- we still saw nice growth rates but we saw some softening in Poland, for example.

We saw some softening in Russia and Romania.

And so in some of these markets that were a little bit later coming into the economic downturn, we're starting to see the impact on our business.

In some of those markets that were early, in some cases we're seeing some positive results, and in other cases we haven't seen as good a strengthening.

In terms of what we're seeing at the -- my consumer comments and at the retail level, we have talked a lot throughout the year and I have talked a lot about it again today, about how we really did refocus a lot of our efforts to really improving top line sales and really getting very competitive in the off premise channel, and we have really tried to gear up our creativity around that area.

We talked a lot about leveraging our assets that we have today.

We have directed a bunch of our spending in that direction, and I think you're seeing the result of it there.

I think the one I might highlight, Lauren, and Don alluded to this in terms of the acceleration of the Jack Daniel's trend in the United States where we have at the underlying level the consumer take away level, where we're actually able to get the best data, and I will be more specific on it.

A year ago we would have seen almost a flat level of performance ending April for Jack Daniel's in the NABCA data, so this would be data you all would -- a lot of you all would have access to.

You fast forward twelve months ending April '09, and it was up about 1.7%, so we consider the performance across the year in this tough environment at the underlying level that to be a pretty strong one.

And a lot of discussion has been going on throughout the industry on trading down and things like that, and so I think the performance of Jack Daniel's against that backdrop is pretty strong.

We also saw -- we had mid-single digit declines a year ago on brands that are big in the United States like Canadian Mist and Early Times, and we saw a pretty significant moderation of those trends when you fast forward twelve months later.

So I think you have to look at that data so you can begin to really see how much may be coming out based on either conscious inventory reductions or changes in trading patterns.

We have always tried to -- particularly at the distributor level -- give you all as much insight as we have related to changes in buying patterns, sometimes those are associated with changes in the timing of price increases, et cetera.

But, in this environment we have been digging deeper on the retail side to try to make estimations, and that's why we were talking about it in Don's opening comments today.

So, when you think about your performance this year or your ability to continue to reallocate spend or adjust your promotional mix, is something like that sustainable this year?

Can you do more of that or you have worked through that already and we just have to go forward on your previous action?

I think we have to do more of it.

I think the reality is that today -- it comes in a variety of ways.

I think there is oftentimes in these environments people shortcut that to promotional pricing or discounting.

I actually think it comes in the form of off -- really just to be specific here on the US -- off premise retail innovation.

I think you can have significant impact with primary and secondary packaging changes, and we have been working pretty hard on that the last twelve months or so.

So I think it is in that area where you need -- I think in order to be more competitive and to do it in the most efficient way, so that you can actually have good underlying growth you have to continue it.

I guess just lastly, to bring it together, in the past you have always talked about, particularly on Jack Daniel's, taking some incremental pricing despite being promotional or working on value-added packages.

In this type of environment into this year can you continue to do that or that's really not possible considering the environment we're in today?

I mean, I think we certainly hope so.

I think more of the emphasis this year is likely to be on how competitive promotional pricing unfolds, I think, and that's true I think not just in the United States but globally.

We're going to look as we always do at trying to look size by size, market by market where the best price opportunities are.

In an environment like this you look at it much more closely because of the sensitivity that you might have at the consumer level, but you still have to do it.

You have to go through and look at it because otherwise you almost bake in the assumption of margin erosion if you're giving the prices back at a more frequent or deep level.

So we think it is a combination of the two, continuing to try to find the best ways to take the prices up but then where it is appropriate to give value to the consumers and in an environment where they're looking for it, try to be there as well.

Okay.

Great.

Thanks.

Sure.

Your next question comes from the line of Tim Ramey with D.A.

Davidson.

Good morning.

Hey, Tim.

Good morning.

The ready-to-drink segment performed pretty well for you, and I am sure that's the trade from on premise to at home, but would you also characterize that or would your research think of ready-to-drink as a trade down opportunity or is it comp to beer which would make it a premium opportunity?

The way -- we look at it a couple of ways, of course.

But on a profit per drink basis for a company like Brown-Forman it is a trade up.

And because you're always looking, depending upon what the item is, on what your composition is.

And for example if it is a whiskey base you're looking at the utility of the whiskey and the ability to package it in a drink format for -- you're exactly right -- mostly off premise consumption.

It actually in our view is a trade up.

It has all kinds of other trade offs associated with it.

You have to sell a lot more, and as you tend to do volumetrically.

But the best way to look at it on a comparable basis is down at the drink level.

I understand it from your perspective, but from the consumer's perspective have you done any research on that?

Do consumers view that as a value opportunity?

I think it does -- maybe I don't know if it is a value but maybe because it is more regular purchase -- it tends to be a lower out of pocket occasion where while they may purchase more frequently, because they're buying by the drink, I would say it is almost no different than the way we study the on premise versus the off premise.

There is more value typically for the consumer to buy in the off premise versus the on premise because you don't have the cost of the preparation and the environment of consumption like do you in the on premise.

And in the same vein, they look at it more from a convenience factor and the standpoint of perhaps -- Jack Daniel's, for example, where we have our largest RTD presence -- that and the New Mix business down in Mexico -- the Jack Daniel's portion of that is all at premium prices to standard priced RTDs, so I don't know that it is necessarily value driven as much as it may be convenience driven.

Got it.

Just for Don on the gross margin.

It was surprising at least to me on the upside.

Would you characterize that as being more input cost driven or cost reductions, workforce reduction, or how would you sort that out for us?

Are you talking about the gross margin?

Yes.

Or operating.

Or operating margin?

Well, take it either way, but okay.

The gross margin declined during the course of the year.

I guess it was -- I am thinking of the fourth quarter versus my expectations.

It was a 4Q upside surprise.

Where the gross margin improved?

Yes.

Yes.

Yes.

The gross margin did improve in the quarter and I would say that some of it is due to lower input costs, freight costs that we started to enjoy in the fourth quarter.

In addition we didn't have as much value-added packaging that we had earlier in the year, so those two things were the biggest drivers of the improved margin.

Thanks, Jane.

Your next question comes from the line of Lindsay Mann with Goldman Sachs.

Hi, everyone.

Good morning.

Good morning.

So it looks like in most of your key markets outside of central and eastern Europe that consumption trends have bottomed or at least are close to bottoming, so once we hit that bottom, what do you think it takes to get the consumer to resume trading up the way that we had been for the past five years or so?

In terms of -- are you talking about just specific Brown-Forman brands or are you just talking about general consumer (multiple speakers)?

Well, let's talk about Jack Daniel's and just your portfolio generally.

Actually it is sort of interesting.

We're seeing -- albeit from a core smaller basis -- some of our higher priced items have higher growth rates than some of our larger items.

It is some of that stage of development.

So on some level while, yes, I think the environment is a little more difficult and challenging for the consumer to trade up, it doesn't mean it is not occurring in particular places.

I would cite the performance of the Woodford Reserves and Gentleman Jack's, and I have really been impressed and pleased with one of our US SKUs which is Sonoma-Cutrer off premise channel expression which has been doing very well over the last couple of years.

So I don't know that it is fair to declare that trading up is completely done or over.

I really see -- continue to see really nice pockets of it for the right brands positioned the right way, and particularly at the right stages of development.

But I do -- I think a lot of it will depend on -- one of the big factors in this my view -- will depend on when you see the traffic in the on premise environment globally picking up.

I think that as much as anything will have an influence on the rate of change between the either popular or standard price categories and more premium price categories.

I think a lot of it hinges on how frequently people are doing their drinking in the on premise.

And just switching to the inventory destocking.

Don, I guess I was hoping you could clarify -- you mentioned in the US distributor inventory days are pretty much in line with what they had been at let's say last year.

But to reconcile what your depletion trends are versus what you're seeing in the NABCA and the Nielsen data, what's driving that delta then outside of maybe some of the weakness in the on premise?

When you're looking at NABCA's consumer take away, and you're looking at depletions in terms of what distributors are selling, it really is all a matter of how much retailers are restocking their shelves.

That's really the only influencing delta that's in there.

And it can come in a variety of ways.

It can be back room inventory, cases on display.

All of that -- there can be influences -- we don't have good data on this, but anecdotally we know there are maybe smaller stores that may actually be really drawing down their inventories or closing, and you lose the total inventory from a store like that, and if they're not being replaced by new openings, you actually take an inventory hit.

So the reason we go into the detail of it is so you can understand what we think is happening at the consumer level related to our brands, and because it is impactful to our reported earnings because we have a more -- in my view -- this multi-tiered system of distribution that -- and it actually varies all over the world -- has a lot of inventory relative to many other industries where you may be more single tier.

It is helpful for you all to try to actually understand that data and understand what it what's going on at the very core level with the consumer.

I think in the third quarter and the fourth quarter it looks as if -- at the gross profit level anyway -- distributor destocking was around 2 points for the second half of '09.

So why shouldn't -- if this is true destocking, why shouldn't we expect for much of that anyway to be given back -- to be a boost to your gross profit number as we lap it?

I hope you're right.

I think that a lot of it depends on -- I think a whole bunch of this depends on how the world unfolds in front of us here.

As I was saying, we think that the examples we gave you on Jack Daniel's in the opening comments are pretty significant numbers, so it gives us some comfort that a whole bunch has already been taken out.

But it is impossible to predict whether these trading patterns and the availability of cash for retailers to actually stock the inventory -- we would hope -- will unfold in a way that will meet the expectation that you just cited there.

But I hope you're right, particularly as we get into the second half of the year and you start to cycle it that we actually could see some benefit from it, but that remains to be seen.

Okay.

And then --

Inventory levels, too, they fluctuate quite a bit throughout the year.

There is a seasonality to the business, and a lot of our comparisons are this year versus last year.

But you will tend to see distributor inventories coming down at this time of the year and then you will see them start building back up again as they get ready for the holiday season.

And then when you get into January and they see how the holiday came in, they'll start readjusting again.

It is not as though there is one level throughout the whole year.

It does fluctuate quite a bit.

Okay.

And then just two questions on the cost side.

First of all, beyond the workforce reductions -- first of all, where was most of the workforce reduction?

What areas of your workforce did you pare back and are there other opportunities here to take some costs out?

The one we just concluded back at the very latter part of fiscal year 2009 was heavily concentrated in the United States and Mexico.

And a lot of what goes on as it relates to any further reductions is directly related -- in my view -- to how the world unfolds and how our performance unfolds over the next year or two, three years.

So I think that's going to be the largest determining factor related to how we're looking at our SG&A investment and how we're looking at our investment posture in general.

And then just lastly, in the third quarter you had cited a performance revaluation boosted -- or helped your SG&A expense and had guided to that being a driver in the fourth quarter as well.

I think it was $15 million in the third quarter.

Did that actually play out?

You're talking --

This is incentive comp.

Yes.

What specific number did you cite?

I am sorry Lindsay.

I didn't hear it.

You had booked -- you had said $15 million of it helped you in the third quarter of '09 and had expected a similar amount I believe in the fourth quarter.

Did that actually play out?

It wasn't as large as what we had anticipated.

About how much was it?

It was about 3 to 4 percentage points of our underlying growth as I recall.

Okay.

Thanks very much.

Underlying growth in SG&A.

Sorry.

Not at [large] underlying growth.

Okay.

Thank you.

Your next question comes from the line of Ian Shackleton with Nomura.

Good afternoon, gentlemen.

Two questions.

First just a point of clarification on the 200,000 cases of retail destocking on Jack Daniel's.

Is that a pure US number or is that a global number you're giving us?

And I wonder whether you have some idea of where we are in terms of number of day sales in stock that the major retailers in the US or possibly the UK are now carrying?

The second question I had was around international pricing.

How have you reacted particularly in a market like the UK to sterling devaluation?

Have you priced to compensate for that?

On the 200,000 cases that's a global number.

It is an estimate in the US.

We have estimated it to be about 80,000 in the balance outside the United States.

Then --

The second question related to in terms of where we think some of the retailers may be in the US and in the UK in terms of where their inventories are now post -- it sounded like, Ian, I think post some of these reductions.

And I might just add one thing that on that, we don't really know exactly what people carry, but I think it is safe estimate on a -- this is one way of doing an estimation on Jack Daniel's -- would be that because of floor displays and the promotional activity that go on on Jack Daniel's, one might estimate that Jack Daniel's carries on average and it will vary widely, but something like maybe three weeks of inventory at retail.

It will totally depend on the frequency of service being done by at the local level.

But if you use that as an estimation, and then you backed out how many days 200,000 cases represented, it would be about one-third of the retail inventory that would have previously existed.

So we consider that a pretty good chunk of inventory coming out if it was seven days say out of three weeks.

In terms of your second question, we have talked a lot about how we manage the business towards underlying sales and underlying operating income and we keep that philosophy as we think about pricing across the world.

And so whether we own our own distribution operation in a country or we go through a distributor, we to want make sure our brands are positioned against its competition and that we are as competitive with the consumer as we can.

And so we take all the foreign exchange risk if you will here centrally and we price everything in terms of local currency.

So just to make absolutely clear, in sterling terms, we should expect the water being pricey.

What I am also concerned around is to what extent you could see gray market activity being driven by either differences in pricing around the world?

We have seen gray market activity.

It is something that just comes with the territory and that we deal with all the time.

And there are times when the euro -- when you see where it is happening between the euro and the pound, you will start to see some movement across some countries around western Europe.

I will say that relative -- we believe that we have more a consistent low level of it from our experience over the -- this is probably a ten-year comment -- relative to what you might have observed with peaks of other companies or brands.

I really feel like ours is at a pretty modest level, but there is always some consistent activity associated with it.

And you're right.

You will see this arbitrage going on around the world, but over the years you start to get to know who are the riskier people that you sell to that will engage in those things more often, and you just avoid selling into those channels.

Thanks very much indeed.

Thank you.

Your next question comes from the line of Thomas Russo with Gardner, Russo and Gardner.

Hi, Paul and Don.

Hi, Tom.

Hi, Tom.

Hi.

Question on the NABCA numbers that you gave us, Paul, where you showed that there was a gain of 1.7% year-to-date -- or through April '09 compared to flat in April '08.

When Don referred to revenue realizations per barrel, how does that work in the regions, in the markets covered where you've had the growth of 1.7%?

What's that the net revenue experience that you've had there?

Tom, the dollars would be ahead of that growth rate.

Both last year -- a year ago they would have been higher than the volumetric growth rate reflecting higher pricing, and then additionally the twelve months ending here they would have been higher as well.

I don't have in front of me the specific delta though between the two years.

But I know pricing and overall dollars would have been higher than the reported volumetric rates.

Thank you.

All of the activity on premise, all of the stuff that you're doing to help to drive that volume growth off premise, is that -- does that show up in the net revenue number or is that the expense at the marketing and SG&A level?

I think it varies by what the actual investment is.

I think Don outlined some of it is showing up actually -- to the extent it might be some promotional pricing it is showing up in the net sales.

To the extent that it is value-added packaging, it would have been a shift out of the A&P and into the cost of sales.

And then you will also of course have some A&P activity that is very directed at the retail business.

Thank you.

Then, Paul, just a second to walk us through those twelve markets that you highlight where you probably claim that Jack is now over 100,000 a year in a series of markets where the potential for growth is greater because you've just penetrated the markets at a level now that's economic.

What highlights would you cite from those markets, the smaller markets where you have established that foothold?

I think it is actually just some of the same thing we have seen in terms of Jack Daniel's overall in global appeal historically.

It is an extremely well-positioned brand.

Oftentimes when it goes into these countries it has -- in my view -- the benefit of global pop culture which has helped it to have an initial almost latent level of awareness before even we have changed our route to market or put additional investment in to really fuel the consumer's interest in it.

I think another piece, Tom, that has really been helpful has been -- in particularly a place like some of the countries of eastern Europe -- has been the strength of Finlandia where we've been able to go in and because we have a combination there where you can actually work both the premium spirits business through both vodka and whiskey, we're able to generate I think higher gross profits for reinvestment.

We're able to be of more importance in the retail trade, whether it is on premise or off premise, so I think that has really helped Jack Daniel's in the last couple of years.

And the stronger we make both Finlandia, Jack Daniel's and to some extent Southern Comfort and some of these RTDs, it gives us even greater advantage to do that in the future.

Last question -- just a brief chat about South Africa which you cited as a positive market.

They're going through some changes in the marketplace, and I am wondering how that is working for you.

Yes.

I tell you, Tom, in South Africa it was one of our early markets we put a lot of effort in and it grew quite rapidly and at one point it superseded the 200,000 case mark.

And this is true -- just to follow up a little bit with what Paul was saying.

In a lot of these newer developing markets that we have been in, we've developed them now to a relatively large enough size that they do start being affected more by what's going on in some of the local economies.

So for example with South Africa we have struggled there over the last couple of years as the economy there has struggled and unemployment has soared and what have you.

And in that particular market a lot of our strength has been due to the work that we had done in what we call the main market.

And that has suffered the most during these economic downturns that South Africa has been feeling for the last couple of years.

So South Africa has not been one of the markets that's continued to grow for us over the course of the last year.

I do think, though, as you think about these new and developing markets, when you stand back and look at over the longer term, there are a couple of things that when you think about it it continues to get you really excited for the long-term which is -- first of all demographically.

Most of these countries have a very large population coming into the legal drinking age to 30-year-old age segment where we tend to do well.

They also tend to be very interested and aspirational towards western lifestyles which also helps us a lot.

So to the extent that the economy gets back on their feet and people start getting back into the bars, we do still see a lot of long-term opportunities in those markets going forward.

Tom, I will add one thing here, too.

A silver lining in this economic downturn for those particular markets, I think over the next -- perhaps the next couple of years is during the boom times of the last several years, leading up to this most recent downturn the level of investment in some cases by competitors to try to get that long-term -- get a foothold and then try to hold it for the long-term -- in some instances was crazy with very high levels of investment.

I just don't think they'll be sustainable.

So on some level I think in these markets for brands like Jack Daniel's or Finlandia or Southern Comfort we'll actually see an opportunity to invest at a more -- what we think is a more level playing field out there and maybe that will give us some advantage as well.

Thank you.

Thank you very much.

Sure.

Thank you.

Your final question comes from the line of John Faucher with JPMorgan.

Good morning, everyone, I just wanted to go through some of the FX assumptions as we look out into fiscal year 2010, and I think you guys mentioned $0.12 in terms of negative FX impact.

I was wondering if that includes -- or is that mostly based on cycling the FX hedging gains that we saw in the current quarter which I am coming out at about $0.08 on that -- so want to see if that's in fact a right number.

But then also just give us an idea in terms of whether we should expect further gains or losses from a hedging standpoint as we look at FX in 2010?

Thanks.

Most of what we're seeing in terms of FX effect coming into 2010 is attributable to two things.

One, the strong appreciation of the US dollar didn't happen until about halfway through our year last year, so we're -- in the first half of this next year we're still going to be going up against a pretty weak dollar in terms of the comparative, so you're going to see that effect.

Then secondly, because of the hedge positions we took last year, which mitigated a lot of it, we did not have those same hedge positions rolling into this year, and so a lot of the postponement is ending up coming through as well.

It is all wrapped into that $0.12 number that we gave you, but the largest effect within that $0.12 is the remaining effect that we still have because of the large strengthening that the US dollar did last year.

Do you want to clarify Q4 as well with the FX?

Yes.

I think you were referring to about an $0.08 gain for the quarter.

I think it is about $0.02 is what we had in the quarter, so just to confirm that.

Okay.

Because in looking at the schedule it looked like the impact -- well, I guess then can you do the transference as we go from a minus 10% impact on the top line from currency to a plus 3% impact on the operating profit line, what gets you there?

Because that's how we're trying to back into it in terms of looking at the differential in impact from currency going from negative at the top line to positive at the bottom line.

Our gains -- we had certainly from a top line all the down to a bottom line we had [some distractions] going on, too, that you need to take into consideration, one of which is our working capital as of the end of January.

So in other words our receivables at the end of January were realized losses at that time -- unrealized losses at that time.

Well, the dollar weakened in the quarter, and we revalued those.

When we actually received them they resulted in gains.

Okay?

So that's not a hedging gain.

That's just a fact that the dollar weakened.

In addition, we had a -- some international restructuring that we were doing in the quarter, and that's about the $0.02 piece that I am referring to that was really a one-off kind of thing.

Okay.

So the $0.02 you're referring to is a restructuring -- a restructuring?

I am sorry.

I was having trouble hearing you there.

I am sorry.

It was some hedging activity that we had on some international tax restructuring that we were doing internally.

That's the $0.02.

The other piece is really strictly related to the revaluation of our --

Working capital balances.

From the third quarter.

Thanks.

I will follow up on this offline.

I think the thing here is don't over read.

One of the lessons I hear is -- don't over read the fourth quarter as being a reversal.

And the impact that we were seeing and still foresee going into FY 2010 related to FX, I think they were related more to one-off things.

And so I think try -- if you need to get additional information from Ben, fine.

I think the thing is try not to over read that as some change in the direction of it.

Okay.

Thank you very much.

Thanks for the question.

We have reached the allotted time for questions.

Gentlemen, do you have any closing remarks?

We do not have any closing remarks today.

Thank you, everyone, for joining us, and have a great day.

Thank you all.

Thank you.

This concludes today's conference call.

You may now disconnect.