高露潔 (CL) 2018 Q2 法說會逐字稿

Good day, and welcome to today's Colgate-Palmolive Company Second Quarter 2018 Earnings Call.

This call is being recorded and is being simulcast live at www.colgatepalmolive.com.

Now for opening remarks, I would like to turn the call over to the Senior Vice President of Investor Relations, John Faucher.

Please go ahead, John.

Thanks.

Good morning, and welcome to our second quarter earnings release conference call.

This is John Faucher, Senior Vice President for Investor Relations.

Joining me this morning are Ian Cook, Chairman and Chief Executive Officer; and Henning Jakobsen, Chief Financial Officer.

Today's conference call will include forward-looking statements.

Actual results could differ materially from these statements.

Please refer to the earnings press release and our more recent filings with the SEC, including our 2017 annual report on Form 10-K and subsequent SEC filings, all available on Colgate's website, for a discussion of the factors that could cause actual results to differ materially from these statements.

This conference call will also include a discussion of non-GAAP financial measures, including those identified in Tables 8 and 9 of the earnings press release.

A full reconciliation to the corresponding GAAP financial measures is included in the earnings press release and is available on Colgate's website.

Thanks, John.

Good morning, everybody.

As you read in our press release earlier on, for us, the second quarter was indeed a challenging environment.

As you know, rising commodity costs and volatile exchange rates put pressure on our P&L, and we are sometimes questioned if we're responding with an appropriate sense of urgency.

I will say that our plans and programs for the balance of this year and 2019 are all developed with urgency in mind.

As a company, we focus on being smarter and faster in everything we do and working to build agility throughout the company and, of course, with our partners to deliver results.

Today, I'll focus on 3 areas that I think exemplify the steps we are taking and then I will close with some specific comments about pricing.

The first area of focus is making sure we are connecting with consumers in traditional advertising vehicles and increasingly, digital vehicles with engagement materials that are compelling and persuasive, and also making sure that our products are available for folks to purchase wherever they may shop.

And as you all know, the retail landscape is changing dramatically, and we have made and continue to make changes to address that.

In our traditional channels, we've expanded our focus on formats where we feel we have incremental opportunities for growth, like discounters and pharmacy.

We've also been aggressive in gaining access to new avenues of distribution to expand the availability of our products.

Not surprisingly, a primary area of focus is e-commerce, which, while only mid-single-digit percentage of our overall sales, is a key growth driver and particularly important for some key businesses.

For example, in the past year, we've seen increased e-commerce availability for our Hill's Prescription Diet brand, which has enabled us to gain market share in the therapeutic segment while still ensuring that we maintain a strong relationship with the veterinary community.

Through learning from EltaMD, we are expanding cross-border distribution into China for Colgate-Palmolive brands from other geographies or through e-commerce.

And this provides us another platform to build out our e-commerce business in this crucial market on top of our B2B and B2C platforms.

This channel flexibility is an especially important tool in our efforts to premiumize our portfolio in China and grow market share.

As most of you know, we also recently took an equity stake in the direct-to-consumer company, Hubble.

Our collaboration with Hubble provides expertise in the digital channel and a platform for us to launch several incremental direct-to-consumer offerings, providing us with the ability to enter new segments.

We launched our connected toothbrush in Apple Stores in the U.S. earlier this year.

And this month, we are launching in Apple Stores across Europe.

And while we're just beginning this journey, a journey that Hubble will also be able to help us with, we think connected health is a significant long-term opportunity for us in this digital world as we look to integrate consumer behavior, the profession and other interested parties to improve health outcomes across the world.

And you'll be hearing more from us on connected health in the future.

And finally, our recent acquisitions of EltaMD and PCA also give us an entrée into thousands of spas, dermatologists and aestheticians across the U.S. with the potential for further products and geographic platform and a base on which to continue to build our ambitions in skin health.

The second area I want to discuss is about providing consumers with what they want to buy as we focus on their changing tastes and, of course, that speaks to accelerating innovation across our portfolio.

And we have a broad, strong array of planned innovation over the balance of this year and next.

Let me talk today about one of their key innovation initiatives, Naturals, especially but not only in toothpastes.

Rest assured, we will be back to you on other important innovations when we are ready to make them public.

On Naturals, we're making progress in our rollout across the world.

We're now in 44 markets with the Naturals offering, and we expect to launch in an additional 32 markets by the end of the year.

In toothpaste, we've launched Naturals in every hub in Asia and broadly across Europe.

We will launch in Latin America and Africa/Eurasia through the balance of the year.

Importantly, these products sell at a meaningful premium in almost every market, which will help deliver positive mix.

Market shares are growing and repeat rates are strong, giving us the confidence to invest in generating more trial in the future.

Importantly, through our consumer innovation centers, which are based in the markets they serve, we're able to customize these products for local tastes.

For while Naturals is a global trend, each market has its own interpretation, whether it's ingredient-based, like Swarna Vedshakti in India, or more of a specialized naturals product like our Tom's of Maine in the U.S. and Canada.

And Naturals is not just about oral care.

In Personal Care, we've seen significant success in the free-from subsegment with Sanex Zero and Palmolive Natureza Secreta is a line of natural products across our Personal Care categories in Mexico and Brazil that is being rolled out across the rest of Latin America.

And even in Pet Nutrition, we've just launched our new Hill's bioactive recipe line, which is seeing a very strong response from some of their pet specialty partners in the U.S. In Oral Care, we're also very focused on competing more effectively in the premium therapeutic segment of the category and have recently launched the elmex brand in 2 entirely new markets with a full line of products.

This marks the first geographic expansion of this brand outside Europe.

As I mentioned at the Bernstein conference, Elmex has been launched as an e-commerce exclusive brand in China.

And as we mentioned at the Deutsche Bank conference, we have also launched elmex into pharmacies in Brazil.

The third area of urgency I'll touch on briefly is one I think you know well, the streamlining of our structure and building new capabilities.

We talked about the benefits of hubbing before, and we continue to utilize our hub structure to roll innovation out more quickly across the divisions while adjusting our cost structure accordingly.

And we have also realigned our entire supply chain structure and streamlined processes like artwork approval and the creation of SKUs.

Colgate business service centers, as you know, we have 3 serving the world, while fully deployed, are still rather new, and we continue to believe there are future opportunities to build further capability while lowering costs even more.

Speaking of capabilities, we are rapidly building our revenue growth management tool, which will help us better partner with the trade to increase our average selling price with less reliance on pricing only coming from commodities and foreign exchange.

Finally, as I said, I'd like to touch on the subject of pricing this year, which is obviously a challenging area for our company and our industry right now.

As you can tell by our gross margin performance and by the performance of many of our peer companies, raw material inflation is putting pressure on gross margins, accounting for a 320 basis point headwind to our gross margin in the second quarter of this year.

It's important for us to offset this pressure with productivity and pricing as we do not want to reduce our brand support to offset these headwinds.

Taking pricing, as we know, in the first half, has been in the face of a challenging competitive promotion environment in many markets and thus far, in several of the emerging markets, low inflation.

Obviously, the moves in commodity pricing and foreign exchange will drive that underlying inflation.

So as we move into the second half, we have already put pricing in place in many markets around the world, particularly in emerging markets, but also in some developed markets and at Hill's.

Given the current promotional activity, we may not see competitors follow immediately, and we intend to remain rational, but we also understand the need to protect our market shares.

At this point, we're only expecting a modest sequential improvement in our pricing for the second half of the year.

But along with our productivity programs, which have started strongly, we believe this will allow us to improve our gross margin performance over the balance of the year.

So, while the environment remains challenging, we are working with focus, agility and real urgency to improve our results, consistent with our long-term strategies.

We will continue to invest behind our brands, deliver consumer-led innovation with compelling communication material and drive productivity up and down the income statement.

And now I'll turn it back to John.

Thanks, Ian.

We delivered net sales growth of 1.5% in Q2.

Volume grew 1.5%, including the negative 50 basis point impact versus our plan from the Brazilian truckers' strike.

Our recently acquired professional skincare businesses, EltaMD and PCA Skin, contributed 100 basis points to volume growth.

Pricing was flat year-over-year as we saw little incremental pricing in our categories and higher levels of promotion.

The recent strengthening of the dollar negatively impacted our net sales and profits.

And as a result, foreign exchange, which had been a positive impact for several quarters, was neutral to net sales growth this quarter.

At current spot rates, we expect foreign exchange to be a headwind to net sales growth in the second half of the year.

On a GAAP basis, our gross profit margin was down 90 basis points year-over-year.

Excluding the impact of our Global Growth and Efficiency Program, it was down 140 basis points year-over-year.

Our strong productivity savings, led by our funding-the-growth initiatives, were unable to completely offset the higher raw material costs Ian mentioned.

On an absolute basis, advertising investment was up slightly year-over-year in Q2.

On a percentage of sales basis, advertising was even with Q1 and with the year ago period.

Excluding the impact of our Global Growth and Efficiency Program, the remainder of our SG&A expense was down slightly year-over-year in Q2, absolutely and as a percentage of sales, as an increase in freight and logistics costs was more than offset by a reduction in overhead expenses.

We estimate that for the balance the year, the impact from higher freight and logistics costs will be similar to the impact we saw in Q2.

On a GAAP basis, diluted earnings per share of $0.73 were up 24% year-over-year in Q2.

Excluding the impact of our Global Growth and Efficiency Program and the benefit from a foreign tax matter, diluted earnings per share were up 7% to $0.77.

We estimate that the Brazilian truckers' strike had a $0.01 negative impact on our earnings per share.

Versus our expectations at the time of the first quarter conference call, movements in foreign currency on a translational basis reduced our earnings per share in the second quarter by $0.02.

Now we'll go to North America.

Net sales in North America increased 8% in the quarter with our recent professional skincare acquisitions contributing 5.5%.

The North America division posted its third straight quarter of organic sales growth with organic sales growth of 2%, driven by a combination of volume and pricing growth.

In the United States, our positive pricing was driven by our Oral Care business, led by toothpaste and manual toothbrushes.

Our market shares were flat or up in 8 of our 12 categories in the United States with strong gains in manual toothbrushes, liquid hand soap and cleaners.

In toothpaste, we continue to maintain leadership in the market, although our share is down year-over-year as we have seen aggressive couponing in the category.

Latin America had a difficult Q2 as we saw a negative impact from the Brazilian truckers' strike and weakness in Latin American currencies versus the U.S. dollar in the quarter.

Latin America net sales declined 7% in the quarter, as volume was down 1%, pricing was down 0.5% and foreign exchange was negative 5.5%.

We estimate that excluding the impact of the Brazilian truckers' strike, our volume would have been up low single digits for the division.

As we discussed at an investor conference in June, our market share performance in Latin America remains very strong.

Year-to-date, our value shares are up in 6 of 9 categories in Latin America, including all 3 Oral Care categories.

In Brazil, our shares are up year-to-date in 5 of 6 categories, including a 70 basis point increase in toothpaste market share, driven by Colgate Total visible health.

Our market share performance was more mixed in Mexico, where we continue to see higher levels of promotional activity, particularly in toothpaste, bar soap and dish soap.

The key issue in Latin America remains the lower levels of inflation in our categories.

We are optimistic that the combination of raw material inflation and recent weakness in Latin American currencies versus the dollar should lead to a more favorable pricing environment.

Moving to Europe.

Net sales in Europe grew 6% in Q2 while organic sales declined 1%.

Volume growth of 2.5% was offset by pricing of negative 3.5%.

Our home care market shares continue to improve in Europe, with our toothpaste share up year-to-date for the division, particularly in France, where our market share continues to rebound.

Moving to Asia Pacific, net sales in Asia Pacific were up 1.5% in the quarter with foreign exchange driving the growth as organic sales were flat.

Oral Care organic sales were positive, offset by a decline in Personal Care.

Asia Pacific pricing improved sequentially and was up year-over-year as we look to drive pricing growth to offset raw material cost inflation.

Our volume growth was impacted by our pricing actions, particularly in Greater China, where we expect that impact to moderate in the second half of the year.

Our e-commerce business in China continues to grow at a rapid pace and gain market share, driven by our continued efforts to premiumize our portfolio.

We saw sales growth in India in the quarter with a combination of both pricing and volume growth behind the line of Vedshakti ayurvedic toothpaste and the benefit of easier comparisons from the implementation of the goods and services tax in Q2.

The Africa/Eurasia division reported net sales growth of 1% in Q2 as solid organic sales growth was partially offset by a negative impact from foreign exchange, driven by weakness in the Russian ruble and the Turkish lira.

Encouragingly, we saw volume growth of 2%, our first quarter of volume growth in the division since Q1 '15.

With volume growth across every hub, pricing remained positive at plus 1%.

Last quarter, we mentioned the launch of our 12-gram sachet in Africa as part of our program to drive household penetration and per capita consumption in emerging markets.

This quarter, we will add a 3-gram sachet in Sub-Saharan Africa.

And we'll finish up with Hill's.

Hill's delivered 3.5% net sales growth in the second quarter.

Volume growth of 1% was led by the United States while pricing was up 1%.

On Science Diet, we've seen market share gains in the pet specialty channel in the U.S. as we benefit from the movement of several specialty brands into mass channels.

Now I'll turn to our updated outlook for 2018.

As stated in our press release, we now expect net sales to increase low single digits in 2018 as we incorporate the recent strengthening of the dollar.

We still expect organic sales to be up low single digits with growth in the second half above that in the first half.

Our second half plan does not include any recouped volume from the Brazil truckers' strike as it remains to be seen whether this volume will return in the second half or if the trade will look to keep inventories at this current lower level.

On a GAAP basis, we expect gross margin to be flat year-over-year in 2018.

Excluding the impact of our Global Growth and Efficiency Program, we expect gross margin to be down modestly.

The continued increase in raw material costs, including the impact of transactional foreign exchange, is the primary driver of our revised gross margin guidance.

We continue to expect that advertising will be up year-over-year on an absolute basis and as a percentage of sales for the full year versus 2017, driven by a year-over-year increase in the second half.

So it's on a GAAP basis and excluding the impact of our Global Growth and Efficiency Program and the benefit from a foreign tax matter, we still expect our tax rate to be in the range of 26% to 27% in 2018, but we now view the bottom of the range as more likely.

We expect GAAP earnings per share to be up double digits for the year, excluding charges related to the Global Growth and Efficiency Program, the onetime provisional charge resulting from U.S. tax reform in 2017 and the benefit from a foreign tax matter in 2018.

We now expect earnings per share growth to be in the mid-single-digits, again, incorporating recent moves in foreign exchange.

And with that, we'll open it up for questions.

(Operator Instructions) And we'll take our first question from our Dara Mohsenian with Morgan Stanley.

So it's helpful to hear about the sense of urgency.

But I think many of the points you made today on e-commerce innovation, et cetera, have been in place for a while.

I guess, it sounded like the biggest change is maybe less pricing in the back half than originally expected.

But it doesn't feel like any of these points are radical changes that would necessarily result in a material improvement in market share or organic sales growth.

So just at a very high level, as you think about managing the business, have you thought about more drastic actions here to drive a reintegration, perhaps lowering pricing in some areas, not just moderating the increases, but making bigger adjustments.

Or investing a lot more behind the business in some of the areas you mentioned.

So thoughts on those 2 specific areas would be helpful or any other areas perhaps that I'm missing that you might have pondered here.

Yes.

I guess, Dara, I obviously don't convey urgency well.

The -- and yes, we have been talking about Naturals as one of our innovation areas for a while.

I think what I was trying to demonstrate is that our urgency is not only to get it established where it is, and where it is, it has been doing quite well, as I said, from a share point of view and from a repeat point of view, importantly.

But we are accelerating the expansion of that line of products around the world and have organized ourselves so that our speed of implementation across the broad geography is now accelerated, in other words, more urgent.

And when I say things like a sharpened focus on discounters and pharmacy, I mean, a sharpened focus.

Clearly, these were environments we always did business in, but we have increased our strategic focus on them because we think they can and will give us incremental growth.

And of course, e-commerce, yes, has been around for a long time.

But we are challenging ourselves on how can we really make sure that our e-commerce growth is faster than the growth of the category so we build market share, which implies new techniques, hence, Hubble, hence, taking products in our portfolio and selling through marketplaces in China direct on e-commerce, which were things we had not done before.

And indeed, transferring elmex to pharmacy in Brazil is a new initiative with urgency.

Now behind all of that, we have adjusted a lot of our marketing programs.

Let me use China, perhaps, as an example.

You know that our market share in China, on a value basis, has been under pressure.

And the primary reason for that has been the explosive growth of the Super Premium segment in that marketplace.

So while our volume share was holding up relatively well, our value share was penalized by a mix in our portfolio that didn't address the shape of the market.

Now we've approached that in 2 ways.

One way we have talked about is the Dare to Love toothpaste that was created in 5 months to be introduced locally at a super premium price.

The second is the Naturals line of products that we have moved within China, also at a super premium price.

And as I just mentioned today, now elmex coming in at a super premium price sold direct-to-consumer through the important, as you know, particularly in China, e-commerce market.

But we also, in China, through a very strong relaunch of the biggest business we have in China in toothpaste, took a very bold price move, supported by the quality of the relaunch, to tier up the pricing of our largest business in that marketplace.

That pricing is now established.

It is at the shelf in retail, it changes the mix of our portfolio in China favorably towards more premium.

And now we can drive not just the new innovation but we can drive our largest business at a different price point, which will give a top line benefit, of course, and a value market share benefit.

So all of those things have been put together within the last year and I think, going forward, change the shape of our portfolio in China.

Investment wise, we believe that the investment level we have maintained for this year is strong and appropriate.

We are flat at the half, year-on-year, maintaining at a good level and expect to be up for the balance of the year given our shape of innovation around the world.

And as we continue to advance our plans, we will, of course, decide which opportunities we believe have most potential and structure our investment behind them to make sure we get the maximum trial of the innovation we bring to market.

We are generally seeing improved quality of communication vehicle, both digitally and on the traditional media.

So we're very happy with the engagement vehicles we have behind our business.

So urgency, yes.

Panic?

No.

Finding the right balance in conveying this is obviously difficult at this time, but we are being dramatic and reevaluating, as the small example I gave, all aspects of our business as we move forward here.

And we'll take our next question from Ali Dibadj with Bernstein.

So I think, just pulling some of the threads together from your prepared remarks, your answer just now.

To me the overarching maybe longer term, maybe shorter term question, is if and when you guys need to really do a rebase of margins and earnings.

Your top line continues to decelerate further even on easy compares.

Market shares, as best as we can tell, down over 150 basis points again this quarter globally.

It doesn't seem, at least for the first half of this year, you found anything worth increasing the advertising spend on.

And I guess, the cadence is.

But you didn't feel like you had to increase your advertising spend to get those results.

Gross margin at this lofty level seems to be a struggle.

In each of the regions, it seems like you're spending more on overhead.

And you mentioned, certainly, great places you have to invest in, right, to be fair, like skin and health, like e-commerce, like Naturals, like a sharper focus on some of the brick-and-mortar retailers.

So do you think that the company, to put it bluntly, has been over-earning and needs a rebase here?

And perhaps, if you know, what does your new COO, Noel Wallace, think about a rebase as well?

The -- okay.

Well, thanks, Ali.

I must say the way you paint your question, of course, leads to a certain conclusion at a point in time.

Trying to take them in turn, I think I answered the way we are thinking about innovation and growth going forward.

And we feel confident that the innovation profile and portfolio we have going forward is compelling, and we will invest behind it.

The -- clearly, in terms of the gross margin right now, the overwhelming impact, and which came very sharply, was both in commodity costs and in raw -- and in foreign exchange and the transaction impact of that on those commodity costs.

And as I said, we are going to have to price in addition to our strong productivity programs to see that gross margin recover.

Much of the pricing is already announced and out there, and our ability to effectively price in the marketplace, I think, has been demonstrated already and will hold up in a more inflationary environment going forward.

And you know well, in some parts of the world, we have had to react to intense promotional activity, which we did not judge was rational, but we have reacted to.

And in the U.S., where our share has been under pressure, the share, of course, has popped back up as we have met the couponing pressure out there in the marketplace.

So we think the spending is appropriate.

We think the innovation is sound, and we think the selective M&A that we have made and which, of course, remains an aspect of our strategy, have been wise and have added value.

And were we to do more, we believe they would continue to add value as part of our portfolio.

So I would not say over-earning and I would say that we have been very focused on meeting these challenges as they have arisen.

And we have been putting in place a very clear strategy to meet them in the marketplace, geography by geography, around the world.

Now as to Noel joined -- became President quite recently.

That, of course, is part of a long-standing succession process that we have had, been running perhaps for the last decade.

And like all of the senior leaders in Colgate, Noel already has a strong voice in shaping our action for this year and indeed for 2019.

And we will develop a plan that we believe will drive the top line with quality innovation.

And we will spend what we need to spend to get full return on that innovation in the best interests of the company and all stakeholders for the long turn.

And we'll take our next question from Stephen Powers with Deutsche Bank.

Ian, to build on your pricing comments, I'm assuming one pocket of improvement will be the increased pricing I think you expect to get in Latin America.

I really want to understand the confidence there because the lack of pricing year-to-date in that market and the negative pricing in the quarter really stands out, not just against your history but against what we've heard from peers this earnings season.

I know the country and category mix is different.

But Coke and Pepsi saw very robust pricing in Latin America, for example, Kimberly-Clark and Unilever, they've arguably struggled more similar to you to realize price, but each of them at least called out sequential improvement Q1 to Q2, whereas your pricing seems to have gone the other way.

So I guess, why do you think you've been different?

What gives you the confidence that things get better from here?

And I know you mentioned rising input costs and the worsening FX, that those should help.

But I guess my question there is, is it that really a good thing?

Because I'm assuming, in dollar terms, your outlook is still lower.

So it's not pricing in real terms as I see it.

But maybe you can steer me in a different direction there.

So just comments on Latin America and pricing would be great.

Well, the -- in terms of pricing in Latin America, our brands still have very good pricing power.

You will remember the story last year, where we took very, very significant pricing in the first half, which eased off in the back half of the year.

So we're up against a very strong prior year comparison.

And the Latin American pricing was, I mean, essentially flat.

That said, the foreign exchange pressure that is clearly there requires offsetting from a gross margin point of view.

And for the key Latin American markets, pricing has already been announced and is making its way to the marketplace.

So I don't think we'll meet any resistance in taking the pricing in Latin America.

And we have a very strong innovation plan.

So I think the year-on-year comparison is telling the competitive activity I recall mentioning on the last quarterly call in Mexico, which we have now begun to meet to a certain extent.

But that said, the pricing in Latin America is announced, is in the plan and is moving to the marketplace.

And we'll take our next question with Nik Modi with RBC.

Ian, I was hoping you can just provide some perspective around competition, and specifically, what Glaxo is doing in the sensitive toothpaste market.

And then the local competitors in the emerging markets, maybe you can call out areas where there's some catch-up to be done, whether it be a local innovation or insight.

And then on P&G, in terms of what you're seeing from them in the marketplace right now, as we've been hearing they've been pretty aggressive, pretty broadly in Oral Care.

Well, thanks, Nik.

First of all, I think it would be fair to say, as we categorize the first quarter, the competitive environment from several quarters, but certainly a couple of the companies you mentioned in your question have been quite elevated.

And I mentioned on the last quarter that, in some cases, we did not judge the activity to be sustainable or sensible, and we did not meet it.

In other cases, to defend our market shares, we have reacted in order to meet that competitive activity.

And of course, that has a predictably immediate effect on recovering our market share.

So it is our objective to remain rational in this space and prefer to drive growth in the company through innovation and marketing rather than short-term, unsustainable promotional activity, but we will meet what we have to meet.

In terms of the local brands, the pockets are the ones that we have discussed before, largely China and India.

And candidly, in China, it will take all of the call to list all of the local brands in China.

There are a couple of important players.

And we -- 2 responses in China that I think I described in quite a bit of detail is the growth of the premium segment, which we had reacted to in the manner I outlined before, and an acceleration of those Naturals innovation done differently in China than in India.

In India, I will say that the Vedshakti product that we had introduced is growing quite nicely.

We believe it is an adequate foil to the local brand there, as I repeat, as I mentioned, is at a very strong level.

And the market shares are moving up on an ongoing basis.

Indeed, in the modern trade, the short share is already up beyond 3 percentage points.

So we know the product will be effective in the marketplace, and we will remain committed to put advertising behind it.

And we'll take our next question from Jason English with Goldman Sachs.

I guess, I'm going to pivot off of sort of market competitive dynamics and instead ask a question on margins.

You absorbed a lot of cost pressure this quarter, the 320 basis point drag on GMs, a sharp uptick from the first quarter.

Two questions on that.

First, what drove such a meaningful acceleration in your rate of inflation from the first quarter to the second quarter?

It doesn't really seem congruent with kind of what we've seen in the spot markets out there.

And second, there's always this rather strange and not quite intuitive cadence or seasonality to your inflation rate where every year, it seems to build through the fourth quarter, drop off in the first quarter, then once again ramp beyond.

Should we expect that same ramp this year?

In other words, should we expect that inflation drag to get even bigger as we progress through the remainder of the year?

Yes, good questions, Jason.

And obviously, areas we spend a lot of time focusing on as we construct our activity for the balance of the year and thinking about it in terms of setting up 2019.

It really is as simple as a very sharp run-up in commodity costs, both on the first quarter and on the second quarter of the previous year, and the effect of the very sharp run-up in the U.S. dollar.

And therefore, foreign exchange negative for us in the transaction costs of those raw materials.

And it's those 2 things that effectively drive the gross margin.

Now let me just take a little bit longer to describe the composition of the second quarter.

So if you go back to the second quarter of last year, our gross margin was 60.7%.

As you know, pricing gave nothing to gross margin in this quarter.

The funding-the-growth, up 170 basis points, was a good start, in line with last year.

As you know, our curve tends to build across the year in terms of our funding-the-growth.

And then as I said in my prepared remarks, and you just echoed, the material prices hit us by 320, 10 bps of other and that takes you to the current year gross profit.

So that's the swing.

And I can sort of dimensionalize it, even understanding that oil takes time to work its way through the system.

But if you take the price of Brent, first quarter of last year, first quarter of this year, it was up 23%.

If you take the second quarter of last year and the second quarter of this year, it was up 47%, a 12% sequential increase quarter-on-quarter.

And it's that similar pace of change that created the impact.

Now our current plan effectively sees that level of impact continuing for the balance of the year.

So we don't expect, at current stock rates and with what we know about commodity prices, that curve will continue to rise.

Obviously, our funding-the-growth curve does continue to rise as the year unfolds.

And as we said, there will be a benefit from modest movements in pricing, which allow us to build a plan that sees gross margin begin to recover across the back half of the year.

But I wouldn't say there are sort of predictable cycles that seem to come all the time.

Usually, for us, the impact on gross margin is all about commodity price move and foreign exchange move.

And as you know, the foreign exchange move is instant.

And we'll take our next question from Andrea Teixeira with JPMorgan.

I have just a clarification and, also, 1 specific question.

So on the clarification about just reinvesting the business and the funding for growth.

So have you delayed some of the discretionary spending given the headwinds in commodities and price increase, which, I believe, it was more massive than anyone anticipated?

So I know you kept the outlook of marketing investments above sales.

But I was just wondering if -- how we should think through the balance of the year and that, that could actually be a way for you to reach that mid-single-digit EPS guidance.

And on the specific question, if you can elaborate on the competitive dynamics and destocking in Mexico, I understand that in -- most of the destockings probably you're lapping that from the third quarter of last year.

And you said in the pricing announcements, which I was a bit confused, were implemented in the third quarter.

So were implemented in Mexico now.

But you were facing a tough comp from last year when you also implemented a price increase that did not stick.

So what makes you confident that this time, you're going to have the price -- the pricing sticking this time around?

Thanks, Andrea.

Delayed discretionary spending.

And you talked about above the line.

So a few things to say, I guess.

You probably saw that our SG&A was down year-on-year.

And the SG&A was down, notwithstanding, as John said, an impact of increased logistics costs, which we carry in overhead.

That means that our overhead ratio was down meaningfully year-on-year and that traces to the Global Growth and Efficiency Program that we have had, which you've us, through the hubbing and businesses services and some discrete activity, change the shape of our organization and reduce overhead cost.

So in that sense, we have been very focused and quite urgent about making sure we get the benefit of that to run through overhead and run through the SG&A.

Therefore, in terms of discretionary, yes, we are being very cautious on discretionary income -- discretionary spend.

In terms of the above the line, I mentioned in my prepared remarks this idea of revenue growth management, which includes everything from taking a list price increase on the face of the invoice to negotiating alternate promotional activity in partnership with retailers in a way that is more efficient and yet as productive for both of us.

So that's -- that is, yes, an area of focus for us but nothing unusual.

I mean, to this point about are we not doing things that we think are important to do for the ongoing development of the company, absolutely not.

So where we think it's appropriate to invest, we are.

I would say on Mexico, the destocking will be behind us at the end of this quarter.

The issue in Mexico had more to do with stepped-up competitive activity, which we did not meet instantly because we didn't think it was rational, but to some extent, we have now adjusted our plans to meet.

And the pricing in Mexico is announced, it's moving to the marketplace as we work our way through the third quarter.

In the context of foreign exchange, it is quite traceable to cost impact because of the translation -- transaction impact, and we feel that, compared to the peak increases of the first quarter and second quarter last year, overall at a lesser level, and we think will stick in the marketplace, given the inflationary pressures now resurging across Latin America, including Mexico.

And we'll take our next question from Bonnie Herzog with Wells Fargo.

I just had a quick question on pricing.

You mentioned you've already put it in place in several markets.

So curious to hear what you're seeing so far in terms of the impact on your volumes or possible down-trading within your categories, especially relative to past increases.

And then there's been a lot of discussion about stepped-up private label penetration from some of your peers.

So just curious to hear how much of a risk you think there might be from retailers stepping up investments in private label across your categories, if any.

Yes, in many cases, Bonnie, with the new pricing, they are announced and moving to the shelf.

So I don't yet have empirical data to tell you about the impact on volume.

I will make the point, as I said in my prepared remarks, that the pricing we are taking in the second half of the year, while meaningful to the structure of our plan, is not significant in the absolute.

Our experience in Latin America is that there is usually a short-term volume impact as much in the retail equation as with the consumer, and I don't see why this time would be any different.

If we turn to private label, pleasingly, given the nature of our categories, at least Oral Care and Pet and Personal Care, given the emotional engagement those categories have with consumers, given that, particularly with a toothpaste, if you're going to put something in your mouth or your kid's mouth, you want to trust that brand.

We have seen private label development around the world, probably most developed in Europe, but still low single digits, negligible in the United States and in the emerging markets almost nonexistent because consumers have serious doubts about quality of certain products in those marketplaces.

So we're very attentive to it, we track it all the time.

But so far, given the emotional connection with the product category and our brand in that category, it has not been a significant factor.

And we'll take our next question from Kevin Grundy with Jefferies.

First, a cleanup question on category growth rates.

Can you just provide the EM, DM and overall category growth rates relative to the 0.5 point of organic sales growth in the quarter?

And then the larger question is just sort of your level of confidence on the strategy, and specifically the 3 key factors you touched on, Ian, to start the call.

And your level of visibility and sort of the tangible glide path in terms of when Colgate can return to the 3% to 5% organic sales growth.

Do you feel comfortable at the low end of that range looking to the back half of this year?

Is that something you feel comfortable looking at the next year?

So any commentary there will be helpful.

And then just one last piece, Ian.

Just to summarize the earlier response because I think it's important.

It sounds like you believe you can get back to improved levels of growth with current investment levels, so that is in the absence of the sort of the proverbial earnings rebase.

I just wanted to make sure I heard that right because I think it's important.

Yes, thanks, Kevin.

Well, if I look at the category growth rates, I would say that the U.S. continues to grow around 2%, which is a wild euphoria compared to just some not so distant history.

The European environment continues to be very tepid overall between 0% to 1%.

Latin America had slowed because of that lower inflation.

So the rates, which had been mid-single digits, fell off to low single digits.

We expect to those to come back.

The volume is there.

We expect those to come back with the pricing in the second half, which we expect to see across the markets.

And Asia, Africa, you would say in the mid-single digits, perhaps 4% there.

So those are the categories.

Now in terms of the strategy and what I mentioned this morning, I mentioned some stuff this morning.

The stuff I mentioned this morning were areas that we wanted to emphasize on this call.

Those 3 areas don't embody the company's strategy overall.

And so we revisit this all the time.

And you can rest assured that one of the key areas of revisiting has been and will continue to be, on a regular basis, what we are doing to accelerate growth, and that involves all of the senior leadership in the company.

And every time we do it, that leads, with the sense of urgency that we have, that leads to specific actions that we start to deploy immediately.

And I think, to this point, even though we have made quite a lot of changes within the confines of the overall strategy we've had, we are confident and driving towards returning to that 3% to 5% growth rate.

I think that, for this year, we guided the organic growth for the balance of the year and the full year low single digits.

That will see a step up from the first quarter, but I would not state that the organic growth will be 3% for the third quarter.

I think we will be looking at our 2019 plan to return solidly there for that year with the innovation we see and the plans that we will put behind the business.

Now in terms of that improved growth, that improved growth is the strategy we're deploying.

Increased investment will be there in the second half of this year.

And as I said earlier, we will do what is right to support the growth ambitions we have in 2019, consistent with that strategy, reflecting the quality of innovation and marketing programs we believe we have and with a balance of responsibility to all stakeholders in the company in terms of what the shape of that ultimately looks like.

But you're right, I was not implying that this company is actively thinking of a so-called rebase.

And we'll take our next question from Steve Strycula with UBS.

A quick question to dig into Jason English's question on the gross margin piece a little bit more.

Ian, how should we think about the down modestly for the year given the trajectory of commodities?

Just thinking about the third and fourth quarter and rising inflation, it feels like -- is 50 basis points down year-over-year a modest range?

And can you kind of unpack how much transactional was a weight to the gross margin degradation in 2Q?

Yes.

So to answer the second point, transaction cost in the second quarter was about 50 basis points of that 320.

And I think I mentioned in response to an earlier question, the overall impact of material costs, both commodity and transaction, we expect to run at around the same level as the second quarter of this year.

So we framed what we framed purposefully.

What that requires, with the rundown I gave earlier on the second quarter and the additional contribution of pricing in the third and fourth, it assumes a build back, an increase of gross margin across the second half of the year.

And frankly, I would leave modestly at modestly, and I guess I would leave it there.

And we'll take our next question from Olivia Tong with Bank of America.

I wanted to focus more on the non-Colgate oral care brands...

Olivia, sorry, I'm not picking you up very clearly.

Can you hear me now?

Yes, I can.

I wanted to focus a little bit on the non-Colgate oral care brands as you start putting a little bit more focus on that part of the portfolio, elmex for example.

How does your approach change?

Because the product's different, some of the retailers are different.

But is the customer different?

And how do you change your marketing strategies accordingly?

And do your existing retailers that carry the Colgate brand, would they be interested in that as well?

And does that potentially present an opportunity for you?

Well, I think you capture a very important point, Olivia.

We have, since the years of acquisition, actually expanded elmex to several important European markets.

Given its premium nature, we have usually started in pharmacy because that is part of the gestalt of the development of the brand and then, ultimately, move into broader retailer distribution without damaging the pricing strategy integrity of the business.

And I would say, based on our European experience, that our retail partners, be they pharmacy or broader marketplace, are very attracted by an additional brand in the Colgate portfolio, knowing the quality of that product alongside Colgate and the fact it's targeted at different users.

So it's incremental for us and incremental for them.

Now in the markets I've mentioned, we are starting in China direct-to-consumer from an e-commerce point of view and in Brazil through pharmacy, which is a very important category or retailer segment for high-end therapeutic products, and that's where we will start always with elmex.

But I think if the European experience plays out the same way in these markets, you could indeed expect, over time, us to broaden the aperture of sales for elmex.

And I think we would get the same support and positive results that we have seen in Europe.

And we'll take our next question from Caroline Levy with Macquarie.

So just very quickly, inventory destocking on a global basis.

Ian, could you just touch on whether you think this remains a significant risk that, as retailers' margins are under pressure, we're really going to see this wave hit the U.S. and other markets as well.

More substantially, do you think it's something we're going to be talking about a lot over the next few years?

And if there are any markets where it has had substantial impact already.

Yes, the -- so we have talked before about inventory destocking impacts in various marketplaces, I guess, most especially in Mexico and China.

And there is always going to be at the edges a rebalancing of inventory as the mix of retail environments shift, particularly where e-commerce is a factor, but I would say, going forward, this is likely to be more of an emerging market issue.

Why?

Because a lot of the distribution in those markets is indirect distribution and you are reaching customers through distributors and wholesalers.

And when they get shy of events they see in the marketplace, they tend to stop buying in the moment and wait until they see signs of a recovery in whatever trade sector they service.

But to your implication that could we see this coming to North America, I think, when we track our inventory levels with our major customers in North America, honestly, we have seen a general decline in inventory levels held by the more sophisticated customers down into the low single weeks.

And if you went back a decade, it would have been double-digit weeks.

And I think, with all of the technology available to us today with the simplification of portfolios and efficiency in supply chains, some of the levels we're now at in the U.S. with the most sophisticated customers are at, I would say, baseline operating levels.

So a significant piece of volatility, in that regard, I think is unlikely.

I think both parties will be working to find efficiency, but I think it will be a continual, gradual progress.

And we'll take our next question from Lauren Lieberman with Barclays.

Ian, I'm just curious about some of the longer range things that you mentioned.

Because I think the dynamics of the things you're doing in the short-term and medium-term to improve results, whether it's pricing or broadening distribution, e-commerce, these will just -- we'll have to see play out.

But I was really intrigued by both the mention of connected health and also still the professional skin acquisitions that I knew are not news today.

It's different for, I think, Colgate to be exploring 2 vectors that are arguably really quite new, right, it would be -- let alone 1, but to be looking into kind of 2 areas that are a bit -- a step away from the core.

So can you just talk about that?

I mean, it's sort of, I guess, capabilities from a corporate standpoint to be exploring new avenues and really how aggressively you can kind of go after these things, would will be one?

And then, two, what to read into or not at all about your views on kind of the growth potential of the core business?

Is sort of there a different perspective on what the growth can look like with where -- your current footprint outside of these 2 areas that you mentioned?

Okay, Lauren, thank you.

The answer of both connected health and skin trace to strategy, and we think that they are important plays for the future.

From a Personal Care point of view, we have laid out territory where we want to establish and build a position in skin health, true skin health.

And that requires dermatologists.

It requires a portfolio that the professionals in that space will recommend.

And there is opportunity to build organically with the 2 assets we have today.

And as I implied earlier, it is also a nice platform upon which we can build, should we so choose, other assets externally that would fit that generalized strategy of skin health.

Interestingly, some of the thinking that we have on our base business around recommendation and endorsement translate and apply very, very well.

We obviously learn in new areas of skin application and skin science, which we can trickle down to our base businesses, like Sanex and Palmolive, but we can also now move up in terms of clinically demonstrable health care delivery.

We think that's a good space.

We think that, with population trends in the world, is a long-term growth space with pricing advantage and margin advantage for the long term.

And once people use these products, like the suntan lotion from Elta for a particular skin condition to protect them from the sun, I hate to use the word for a skin care product.

But there's a lot of stickability because people will stay with a product that gives them the benefit they are looking for.

On the connected brush, what we've seen and have seen for a while is that the combination of behavior and data can be a powerful way to build the businesses going forward.

And if you think about where data is going, the ubiquity of it, the miniaturization of it, the depth of what it can provide as AI starts to play a role, the toothbrush is a wonderful vehicle to be an informed adviser to a person using that product, and never mind if you can translate that same benefit in emerging parts of the world to a manual offering, for example.

And so we think this is a step into the future, but we think it will take time to build.

We think the capability we can bring from an information point of view to consumers will grow.

We think Apple is a terrific partner in terms of the technical reputation that it brings to the buying consumer.

It so happens that their colors are in line with Colgate's colors, which is good, red and white.

So it's an area we are committed to and we see ourselves building.

I think in terms of the core business, we continue to believe there is vitality in the categories in which we do business.

One of the structural changes we have embarked upon with revenue growth management talked to a specific action in China, talked to in terms of tiering up the business, we think there is rich opportunity to take our big businesses and, in addition to the new product innovation, bring meaningfully scientifically supported innovation to our bigger businesses with a corresponding value increase both perceived and asked to a consumer and that, that can grow the top line of our base sustainably into the future.

So those are all the questions we have today.

I thank everybody for participating on the call, and we look forward to catching up with you later in the year.

Bye-bye.

And that does conclude today's conference.

Thank you for your participation.

You may now disconnect.