Compania Cervecerias Unidas SA (CCU) 2005 Q2 法說會逐字稿

Good day, everyone, and welcome to the Compania Cervecerias Unidas second quarter earnings Web-based teleconference. Today's call is being recorded. And now, at this time, I would like to turn the conference over to Mr. Patricio Jottar, the Chief Executive Officer. Please go ahead, sir.

Good afternoon and thank you for attending this year's second quarter 2005 conference call. I'm here with Ricardo Reyes, the new CFO; Luis Eduardo Bravo CCU's IR manager; and analyst Jorge Bustos. First of all, I want to welcome back Ricardo Reyes as CCU's CFO after a year specially appointed in Vina San Pedro. You have all received the company's results for the second quarter 2005. On this occasion I would like to comment on the company's results in each business segment and also address some new developments presented during the quarter. After these remarks, I will gladly answer the questions you might have.

As I mentioned during the last conference call, CCU has a balanced strategy based mainly on building profitability, and the ways to do that are by increasing volumes and margins. As economies have continued growing between 6 and 7% in Chile and Argentina, we created our results through volume increases. For this reason the first half of 2005 was oriented to volume growth in all product categories.

Looking forward to the future, this higher volume base will give us the opportunity to build profitability on a strong and healthy base according to CCU's strategic pillars of profitability, growth and sustainability. Consistently, with this strategy, volumes grew 10.2% during the first half of 2005, supported by economic growth and higher marketing expenses.

Nevertheless, we faced some external factors that affected costs and expenses. Higher oil prices affected distribution expenses on plastic raw material cost to mainly PET. Additionally, the Argentine gas crisis obliged us to use diesel oil instead of natural gas. To mitigate in part this effect and to mitigate the effects of inflation, in June we began a process of adjusting prices in almost all our business segments that will be finished by August. In summary, we have built a strong volume base during the first half of the year which we expect to transform into higher EBITDA generation during the second half led by better prices.

As I also mentioned in the last conference call, this quarter we began presenting the pisco business as a new business segment. The new company Compania Pisquera de Chile has a very solid round portfolio and almost a 50% share of the pisco industry. We're very optimistic about the potential of this new company and future contributions to CCU's consolidated results. The benefits of this association will be captured by year-end and through 2006.

I will turn now to discuss briefly the main issues in each of our business segments. The operating results of the Chilean beer business improved 11.2% mainly explained by 11.1% higher revenues. This increase in revenues is a consequence of 10.7% higher volumes during the quarter. The premium segment volumes continue to lead in this growth increasing 20%. In the mainstream segment, Cristal grew its volumes by 9% and Escudo by 27%. In June the beer division increased prices by 5% on average to compensate for higher costs and expenses, as well as inflation since the last price increase in October 2003.

We are very satisfied with the good results obtained in Argentina. Sales volumes grew 8.4% during the quarter and prices in dollar terms increased from $34 per hectoliter in second quarter 2004 to $38 per hectoliter during the second quarter 2005. This good performance was reflected in 20.3% higher revenues and 12.4% higher operating results in dollar terms in our Argentine subsidiaries. Nonetheless, the Argentine beer business results in Chilean pesos are distorted due to the exchange rate variation.

Turning to soft drinks, nectar and mineral water segments. Volume of sales in all the categories increased. Soft drinks grew 4.5%, nectars 12.3% and mineral water 46.9%. In spite of higher costs and expenses, especially PET cost, operating results improved by $0.6 million.

We are very satisfied with the results of Mas, a brand extension of Cachantun. This new product launched at the end of February is a sugarless citric-flavored soft drink based on mineral water with calcium and Vitamin C. Mas has a premium price of approximately 45% over regular mineral water but provides further growth opportunities in volumes and profitability.

During June, after many years without significant variation, price of soft drinks, nectars and mineral waters were adjusted on average by 6% to recover part of the increasing costs and expenses previously mentioned, as well as inflation.

The wine segment has continued improving its profitability, although it remains low. During the second quarter of 2005 operating results grew by $0.3 million in spite of the appreciation of the Chilean peso. This improvement was the result of the rationalization plan undertaken by Vina San Pedro to reduce costs, expenses, and the number of SKUs, as well as price increases achieved by the company in the Chilean domestic market and in dollar terms in exports. During July and August we have also increased prices in wine and pisco in Chile and in beer in Argentina by approximately 7%.

After a year-and-a-half in the confectionery business, we are very satisfied with the performance of Calaf. We significantly increased volumes during the second quarter of 2005, selling more than 1,500 tons of Calaf product, 46% more than the previous year.

Finally, I want to welcome Paolo Turner(ph) as the new CEO of Vina San Pedro and Guillermo Luksic as the new Chairman of the Board of the winery. These appointments show the commitment of CCU in (inaudible) with the wine business. Having discussed the highlights of the second quarter 2005, as well as some recent events, I would be pleased to answer the questions you might have.

(Operator Instructions). And we'll first hear from Rodrigo Martin of Santander Investments.

Good afternoon. My question is related with the Latin American market. Does the SAB Bavaria deal make you think differently on any oadditional expansion outside Argentina and Chile? And if so, this could be with or without Heineken.

Thank you, Rodrigo, for your question. We have stated many times that our focus is Chile and Argentina to build, as we have been doing, a strong base in different liquids and beverages in Chile to grow our business and to create synergies that will improve our relevance in the point of sale and in the stomach of our consumers, and this is what we are doing, and to make profitable our operation in Argentina. And we have no plans to do other business in different countries than Chile and Argentina.

Then the SAB deal doesn't effect our plans. On the contrary, I think that the SAB deal in Latin America will create probably more tension along competition between SAB and Andes which is probably a good scenario --

Yes?

-- for CCU.

Okay. Great. Thank you for that. Did you see any reaction in beer volume growth after introducing the price increase in June? What would you expect to see the price elasticity relation looking forward?

As I mentioned before, we increased price not just in beer but also in soft drinks, mineral water, nectar, wine in Chile, pisco in Chile, and also in beer in Argentina. The meaning of that is that beer is not more expensive compared to its substitutes than it used to be one month ago. Because we have increased the price of the other categories, which is again, pisco, wine, and soft drinks a little more than beer. This is number 1.

Number 2, this is the first increase we have made since October 2003. Then in a way we are adjusting by inflation.

Number 3, the amount of people employed in Chile is increasing importantly and the prospectus of the economy for the second half of the year are very good. Putting all together with big volumes not to suffer importantly in the second half of the year.

We think that the price elasticity is definitely less than 1 in a scenario like this. I mean, if the price elasticity were 1, it would be a very good build for us increase prices. If it is less than 1, it is an even better deal for us. And this is what we expect.

July - I mean, it's very difficult to make adjustments on what happened in July because the first month after you increase prices there are some distortions in the volumes, on one hand. On the other hand, we prefer not to make public our volumes in the third quarter until due time. But again, we're still optimistic about increasing -- continue increasing volumes in the second half of the year in spite of the price increases in all the categories.

Thank you very much for that, too. My last question will be regarding San Pedro. When do you think -- when do you expect volumes to stop decreasing under this new strategy of the company?

I mean, more than a new strategy -- some years ago we gained volumes through higher discounts in some countries, particularly in UK. And this is not a good business considering the current level of the exchange rate in Chile. And we are losing volumes there, improving our prices. But it's not a new strategy. I mean, we are regaining the same prices we had before higher discounting on UK.

We expect to stabilize our volumes in the fourth quarter 2005 because we began to increase prices and lose some volume in the last quarter 2004. And since then, we expect to build volumes again, but with better margins and with a better price.

Okay. Thank you very much. That will be all for me.

Thank you, Rodrigo.

You too.

Next we'll hear from Reynaldo Santana of Deutsche Bank.

Yes. Good morning. Well, my first question has to do with wine domestically in Chile. Wine prices have significantly improved in the last 12 months. How much further do you expect prices to increase for the remainder of the year?

Thank you, Reynaldo for your question. As you know, the price of the wine and domestic industries have consequence of two elements. Number one, how much -- how many liters of wine are we able to produce, which is something given because you cannot change the amount of wine that you could produce in Chile in the short term. You need to create new plantations and you could modify it in four or five years. But the given figure, the amount of wine you could produce, this is the first element.

The second element is how much wine we are exporting. Because it's always a better idea to export a liter of wine than to sell it in domestic market because the export side of the business is more profitable than the domestic side of the business.

Then you have the total amount of wine. You have to deduct the amount of wine that we are exporting and the difference is to be stored in Chile. And the difference is smaller day after day because the exports are booming and the amount of production is stable. This is the reason why the price of wine in Chile is increasing. And this is the reason the price of wine is today 40% more than it was one year and-a-half.

As I mentioned before, we have just increased prices of wine again, two weeks ago, by 8%. And I think that the price of wine are going to be high, at least in the next three years, if we consider the plantations on one hand and the rate of the exports on the other, which are very good news for domestic wine business because we are making better margins with lower volumes, which is good for the business and also it's good for the beer business for us.

Thank you. How much was the increase that you implemented two weeks ago?

7 to 8%. But it's -- if you will, it happened -- it will effect us possibly our results in some channels beginning August and in other channel at the middle of August. Then the second half -- I mean the third quarter of 2005 we'll be benefiting 50% of the time in its effect and we'll fully benefit of this effect in the last quarter.

Great. And my last question has to do with the pisco business. What steps are you implementing to improve the profitability in this segment?

Yes, we made a merger with Control in March 15. And during March, April May, and June we kept the two companies operating on separate basis. And we're not making money in fiscal before the merger and Control was not making money.

Then during the second quarter, what we really did was to put together two companies which were not making money and we didn't create synergy. Synergy began on July 1st and on August 1st because we are closing warehouses. In fact, we closed 15 warehouses two weeks ago. We are reducing the number of employees. We reduced 140 employees two weeks ago and we're creating many synergies in order to install all the pisco operation in our shared services system. Then on the cost side the effect will be seen in the third quarter, but especially in the fourth quarter 2004.

On the price side we got improved prices by 8 to 10% one week ago. Then, again, we expect to fully benefit of this result in the second half of the year, as we said before and especially in the last quarter. At the same time we're spending a lot of money in marketing in order to improve the profile of some of the brands that we bought which were not very strong in terms of brand equity or first preference. Then again, we expect not to make very good results in 2005, but this is a deal to build profitability in 2006.

Great. Thank you very much.

Thank you.

(Operator Instructions). We'll now hear from Andrea Teixeira of JP Morgan.

Hi, good morning everyone. I just want to - I don't know if you already talked about this, but in terms of Argentina we saw some problems with the currency and I understand that -- I just want to see if there is anything in terms of pricing given that you had volumes little bit lower than Quinones if there is any indication that you have to get - I know they're very rational on their end but there an indication that prices are a bit too high on your end. And also is profitability also in - we could continue to see those same margins in Chile? Thank you.

Thank you Andrea for your question regarding -- regarding Argentina. Price in dollar terms were $38 per hectoliter and we just increased prices 10 days ago by 7% in Argentina and we expect to sell at a price of more than $40 per hectoliter in the third quarter and the rest in the rest of the year. As the economy is still growing we expect to increases prices again in the future. In fact most of the consumers of beer in Argentina are socioeconomic CMB and the net income of CMB socioeconomic groups in Argentina is growing by 30%, comparing 2005 to 2004. And our consumers have more money in their pockets and they're willing to spend this money buying their products. Then we feel very comfortable with increasing prices and increasing volumes at the same time in the second half of the -- in the second half of the year. Could you repeat the questions regarding Chile please?

Yes, no definitely. Chile we saw some improvement of course of the price increase but as far as I know Quinones hasn't followed the price increase right, yet?

Yes, no, no, no. we have increased, I mean we increased prices in beer during June and soft drinks, mineral water and nectar during June. I mean wine and pisco beginning July and August. Then the effects of price increase in all categories will be captured partially in the third quarter and totally fourth quarter 2004.

In, but in terms of the competition --

And you miss - have followed that partially. In fact, increase price in beer by 5% we think that well we have seen in the market place that they have increased their prices by 3%. In fact they are highly discounting in cans, in supermarkets in the north of Chile and they have gained some volume in these two places, in the north of Chile and in supermarkets. But I don't know if they're going to, to, to follow us. We think that at end of the day, yes, because they need to build profitability in Chile. But again we increased prices by 5% and they followed us by increasing prices by like -- something like 3%. But because of discounting in cans and I think that they will correct that. But I don't know.

So do you think that in general you're going to lose, continue to lose a little bit of market share in Chile?

Probably. I mean if they continue discounting strongly in cans, I mean, we prefer not to - probably we are going to lose a little, a little bit market share. We're expecting Quinones to launch sooner than later, probably in September a brand in Chile. And I think that is good news because we don't mind to lose a little bit market share if our competitor launch a new brand and makes a lot of noise and make a lot of marketing because if they do that then per capita consumption is going to grow. If we lose market share just because of price discounting and no more than that, it's not a good idea because they don't make money. We lose volume and the market share, the market stays it's doesn't go. In fact if it continue happening of course we are going to recover our market, our market share.

And do you think that when you increase prices in Argentina now - you're probably going to increase, you haven't increased it yet ,right, in the third quarter. If, if you fear they're going to follow as well, or --?

In Argentina?

In Argentina.

No. What happened is that they increase prices first and then two weeks ago - two weeks after we decided to follow.

Okay. Great. And in terms of cost we saw the quarter obviously with aluminum prices and a lot of cost pressures in transportation. Going forward should we assume the same on the third and the fourth quarter? I understand that there is some decline on those costs. Can you -

No, but they - we are, we are expecting a second half the year with high costs of energy, distribution and PET, probably they could decrease slightly but pressure - cost pressures will be there in the second half of the year and we will like and we are going to offset that by - with volumes and with prices. I mean the first half of the year we offset that gap just with volumes not with prices, the second half of the year we'll have also good prices.

So margins will continue to expand in Chile for the second half of the year?

This is what we expect. I mean today the exchange - I mean the exchange rate in Chile continuing going down. In fact today, in the morning, before beginning the conference call, the exchange rate was 562, which is the lowest level in the last -- many years. Of course, this is very good for us because we buy - because more than 90% of our raw material in the beer business has relation with the dollar or with the exchange rate and in the case of soft drink, more than 70%.

Then, I mean, the reduction in costs in the soft drink and in the beer business is much more beneficial for CCU than the worst restarting the expert side of Vina San Pedro. Then, I mean this transitional element - I mean if exchange rate continues being low this (inaudible), which will improve our margins in the second half of the year.

And could you also comment on management increasing their stake in CCU? What is the rationale behind it?

More than management, the controller -

The controller -

-- it was announced publicly, the controlling group of CCU in percentage of run has increased stake from 51.62% to 64.16% with an investment of approximately $41 million. This is all that I could comment. I mean, I assume that if they're buying it means that they are optimistic about CCU but of course you should ask Quiniento(ph) and Heineken to give, to give explanation about this point.

Sure, fair enough. Thank you very much.

Thank you Andrea.

Next we'll hear from Rupert Brandt of F&C Fund Management.

Yes, hi there. In terms of the impact of your price increases, if the costs remain flat from this period to the end of the year, what sort of EBITDA margin uplift would you have in Chile beer in terms of basis points because of the recent price increase that you've put for -

I mean we, we put where -- I provide you with all the information, the filing information in order to allow you to make your calculations and presume which could be EBITDA margin. But always we prefer not, not to make official projections and figures for the future.

But just so I understand the importance of the price increases, I mean would, by themselves would they stay at 100 basis points for the EBITDA margin? Or would it be less than that?

Well again, again, you could make your own calculation but, I mean, we have three things for the second half of the year or four things. Number one we expect volumes to continue growing because of the economy and because the price of substitutes of beer have grown as much as beer and more than the case of beer increase. So this number 1.

Number 2 we expect prices to be 5% higher. Number 3 we expect cost of raw material to be lower, because of the exchange rate in Chile and we expect the cost of energy, the cost of energy and transportation to remain high because there are no significant variations in these two costs. And if you put all together of course, we're expecting better margins in the second half of the year.

Additional things that we expect to make more marketing efforts in the second half of the year, especially if a Kilmet(ph) or especially promise launch with a lot of marketing. Of course this is going to affect, to affect our results. If you put all together of course we have our own projections but again, again we have never made -- we have never made public projections regarding figures. But those are the elements.

Okay, maybe I can ask in a different way. I mean, in the first half of the year, if we look at the two courses together, your EBITDA margin was down 280 basis points year-on- year, in the second half of the year you're obviously expecting it to be down less than that. But would it be flat compared to last year. Or do you think or would it be between the decline in the first half of the year and flat compared to the second half of last year?

If it were in because of the marketing efforts it would be definitely higher. The marketing effort that we're going to make in the second half of the year, it's something that is going to be decided depending on the competition and could change of course the EBITDA margin, then it's impossible for me to say now. I mean marketing costs of course is going to be high because of the reasons I explained before. With the marketing effect it's not possible to answer now.

Okay, but, but if you assume a sort of middle of the road scenario in marketing expenditure and the other assumptions that you talked about, would the EBITDA margin in the second half of the year still be less than the EBITDA margin in the second half of last year?

No, this what I said before. Without increasing marketing expenses we expect it to be higher.

But, but you are going to increase market expenses, so - I mean, that's your plan. Presumably that's helping you drive your volume growth.

Of course.

So with that assumption of increasing marketing expenses, could your EBITDA margins in the second half of 2005 still be flat against those in the second half of 2004? Or would they be lower do you think?

As I've said you, you heard before and I don't like to be impolite but really we have never, I mean this is a policy of the company for many years, we have never made a, we have made, we have never made a projection on volumes, on margins, on benefits for the future in CCU. This is really I'm not allowed to, to, to discuss on that. I could give you some guidelines that I have made during the conference but I cannot make projections.

Okay, thank you very much.

Thank you.

And Mr. Jottar, it appears there are no further questions at this time. I'll turn the conference back over to you for any additional or closing comments.

We're optimistic about the future of CCU. Economic recovery continues in Chile and Argentina with a positive impact on the economy's results and Vina San Pedro has improved it profitability in spite of the appreciation of the Chilean peso. Additional the price increases recently carried out in almost all our categories will make the profitability for the second half of the year to improve. This is at least what we expect. Finally, I would like to thank all of you for attending our conference call and I hope to see you soon.

That does conclude today's teleconference. Thank you all for your participation. You may now disconnect.