Coca-Cola Femsa SAB de CV (KOF) 2005 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Coca-Cola FEMSA's Second Quarter earnings event. My name is Beverly and I will be your coordinator for today. [OPERATOR INSTRUCTIONS].

This conference call may discuss certain forward-looking statements concerning Coca-Cola FEMSA's future performance and should be considered as good faith estimates made by the Company. These forward-looking statements reflect management expectations that are based upon currently available data. Actual results are subject to the future events and uncertainties, which could materially impact the Company's actual performance.

At this time I would now like to turn the presentation over to your host for today's call, Mr. Hector Trevino, Chief Financial Officer. Sir, please proceed.

Good morning everyone, and thank you for joining us today. Certainly our operations performed well in this quarter. Our leaner operating structure, coupled with our understanding of retail dynamics and revenue management initiatives, enabled us to take advantage of an improved macro-economic environment, positive seasonal and weather conditions, a stable pricing environment in Mexico, and year-over-year currency appreciation against the U.S. dollar in most of our markets.

Our consolidated quarterly revenue grew more than 10% and our consolidated operating income increased more than 20%. More than 90% of all of our operations produced top-line growth for the second quarter of this year, with Mexico and Brazil accounting for more than 90% of our incremental operating income.

For the second quarter of 2005, we achieved improved profitability in the majority of our operations. Indeed, this is the second time that our Brazilian operations have produced more than 100% profitability flow, progressively becoming a centerpiece of our growth story. We'll talk more about that in a moment.

Our growth trajectory is also supported by an important pipeline of plain carbonated and non-carbonated product launches for the second half of the year. However, it is important to note that due to seasonal conditions the second quarter of the year has become our Company's top quarter in terms of revenue and cash flow generation.

Despite a significantly lower integral cost of financing, we experienced a year-over-year decline in net income because of the one-time benefit from a tax reimbursement from the Mexican Government in the second quarter of last year. Excluding this non-recurring extraordinary income incurred last year, our net income would have grown almost 130%.

Let me talk about Mexico. The past two years, our Mexican team has focused on developing a wider portfolio of carbonated diverse choices for every identified consumption occasion. This practically has helped us to develop a stronger business model that is better able to operate under more complex market conditions. It has also helped us to capitalize on an improved economic environment and to capture incremental volumes in both single and multi-serve presentations, especially brand Coca-Cola this year.

Product innovation has also played an important role in our flavored carbonated soft drinks category. Over the past two years, these categories have driven our carbonated soft drinks volumes up in Mexico, and consequently is facing a tougher year-over-year comparison with 2005. We'll continue working with the Coca-Cola company to strengthen our presence in this segment.

Our marketing team is working more closely than ever with our colleagues of the Coca-Cola company to deploy our marketing resources more efficiently and strengthen our presence in the various categories where we hold a leadership position.

The success of the "Toma lo Bueno" campaign exemplifies our coordination. Our performance this quarter underscores our successful execution of these and other initiatives, accomplishing volume growth of more than 8% year-over-year.

On top of these initiatives, several developments work in our favor. We have two more working days than a year ago because Easter fell in the first quarter of this year, low comparable sales volume, because May 2004 was one of the weakest Mays in the last five years, and higher temperatures, especially in Mexico City.

Our CSD volume grew 5.6% for the quarter, mainly driven by brand Coca-Cola and line extensions such as Coca-Cola Citra and Coca-Cola Citra Lite, which compensated for the phase out of Coca-Cola Vanilla, launched last year as part of our continuous effort to energize the brand.

Bottled water volumes show a significant improvement. We have undertaken considerable research to enhance our understanding of the dynamics of the jug and single-serve water business in Mexico. For now, we will continue with the jug water business in the Mexican territories that we acquired in 2003. Favorable weather conditions, combined with our introduction of new jug bottles and increasing colors, contributed to achieve our strong results.

Going forward, the jug water business should show some moderate volume growth.

During the quarter, we launched a new line extension of Ciel Water brand, [Ciel Aquarius], no calorie flavored water in three different flavors. Our single-serve water volumes grew by almost 20%, accounting for more than 10% of our sales volume growth for the quarter.

Additionally, our non-carbonated products continued to show positive traction from a relatively low base, generating year-over-year growth of more than 15%. The new Nestea [Doraglo] and in the [Still Lite] flavors, combined with the increasing progress of Powerade, contribute to this result.

On this front, we have worked with the Coca-Cola company and the rest of the Coca-Cola system to develop a comprehensive strategy that allows us to start participating more in the non-carbonated market segment and to capitalize on new consumption occasions. Consequently, we expect to start launching a wider array of non-carbonated beverage brands on products within the next 12 months, which should -- will improve our portfolio of choices and capture a greater share of [indiscernible] from other categories. We will keep you abreast of these launches as they take place.

On the pricing front, our average price per unit case increased in real terms by almost 1% year-over-year and by 1.4% sequentially. It was the first time since the third quarter of 2002 that our consolidated average price compensated for inflation year-over-year. The average price increase resulted from a 3% weighted average price increase implemented in the first quarter of this year, which targeted multi-serve package and was followed by the majority of our competitors. And more than 40% of our sales volume growth coming from single-serve presentations and strong volume growth across all of our market territories, particularly the Valley of Mexico, which carries average prices, higher average prices than the rest of our Mexican territories.

Moving on to our cost structure, our gross margin improved by 50 basis points year-over-year, despite an approximate 36% increase in PET resin price in dollar terms, and more than 40% of our volume growth coming from single-serve presentations, which carry a higher cost of goods sold.

Measured in unit cases, our cost of sales decreased slightly year-over-year, driven by the Mexican peso appreciation against the U.S. dollar, as applied to our PET resin purchases and lower sweetener costs. Going forward, PET resin prices could decline gradually from the peak reached in the first quarter of this year. By the end of the second quarter, our resin prices have already declined slightly. We have yet to fully capture the benefit of potential lower resin costs.

Our operating income in Mexico increased by more than 15% for the quarter, resulting in a margin expansion of 180 basis points, driven mainly by our top-line growth.

Going forward, a combination of balanced growth for single and multi-serve presentations and a more favorable raw material price environment and our tight control at the SG&A level should let us grow our top and bottom lines.

Now let me turn your attention to our Latin Central Division. Despite a more challenging competitive environment in Costa Rica, Nicaragua -- and Nicaragua, our sales volume grew 4.4% in the quarter, as a result of the product packaging initiatives that were executed in Central America. We have provided more affordable value propositions to our consumers by decreasing the point-of-sale coverage of our [2 point] liter returnable PET presentation of brand Coca-Cola in Costa Rica, and reintroducing our two-liter returnable PET presentation of brand Coca-Cola in Nicaragua.

Our revenues declined for the quarter, driven by the higher sales volume of larger multi-serve packages, which carry a lower average price per unit case. These presentations will better position us to face the competitive changes in these markets resulting from the entrance of low-price brand producers.

The majority of our incremental volumes came from the strong 5% growth in brand Coca-Cola. The balance came from bottled water and the non-carbonated market segment. But in the rest of our territories, better execution of the point-of-sale fueled non-carbonated growth by almost 20%.

More efficient execution practices implemented in our Central America operation, such as a better route productivity, warehouse management and savings from our back office shared services programs, more than offset our decline in revenues and enabled us to increase EBITDA by 3%.

In Colombia, strong volumes and higher average prices drove a 15.4% growth in total revenues. Going forward, our top line should be driven mainly by volume growth. Innovative product and packaging initiatives in the Colombian beverage industry, combined with an improved economic environment, generated a strong volume growth in the quarter. For example, in flavored categories that we implemented at the start of the year, to which we introduced brand Crush in different flavors and packages, is producing robust growth. It was the first time in ten quarters that our carbonated sales volumes showed double-digit growth.

This also was the first quarter that our water volumes saw some growth with single-serve presentations of our proprietary water brand growing almost 20%.

In the quarter, our cost of sales per unit case increased by 4% because of our greater exposure to high PET prices.

More than 80% of our incremental volume came from PET non-returnable packages, which combined with the incremental resin prices resulted in a slight reduction in our gross margin. Nevertheless, our revenue growth more than compensated for these factors and produced gross profit growth of 12% in absolute terms.

Our operating income grew 4% in the quarter. Our revenue growth more than offset higher operating expenses, in conjunction with the launch of our flavor strategy. Our rollout of bottles and cases for brand Crush is helping us to develop a national returnable bottle strategy, from which we expect to gain significant operating leverage. In the near future, our marketing investment will return to normal levels and our Colombian operation profitability should improve.

In Colombia, we can say that our patience, industry knowledge and hard work are paying off. We are implementing the right strategy. First, we rationalized significantly our manufacturing base, then we reinvigorated brand awareness and volume growth for brand Coca-Cola, and now we are developing a strong flavor carbonated soft drink base.

We are confident in the model that our operators are implementing in Colombia. This is no longer new ground for us. We have worked hard in Colombia for the last 36 months.

In the quarter, our sales volumes in Venezuela grew more than 11.6%, driven mainly by brand Coca-Cola, which accounted for almost 70% of our incremental volumes. Our strong volume growth, combined with the higher average prices, produced almost 16% growth in revenues. Our focus on expanding the unbranded segment produced a strong volume growth in our 600ml non-returnable PET presentation and to advance non-returnable glass presentations, with each generating growth of more than 25% in the quarter.

Increasing coverage drove 19% growth in our single-serve presentation of bottled water. Additionally, our returnable presentations started to reverse a negative trend experienced over the last four quarters, thanks to the improved performance of our [indiscernible] and one-liter returnable package.

In terms of our profitability, higher revenues offset incremental raw material costs denominated in U.S. dollar, increased PET prices and our greater exposure to higher resin costs, given that the majority of our incremental volume came from non-returnable PET presentations.

On the SG&A level, quarterly operating expenses increased 11% year-over-year, impacting adversely our results, mainly driven by higher wages and transportation costs, both increasing significantly above inflation.

Our top-line growth in Venezuela is robust. Now we must focus our efforts on redefining our operating model to face the competitive challenge.

In general, during the second half of the year, our Latin Central division should benefit from a strong pipeline of products and packages, further improvements in productivity and a less adverse outlook for raw material prices.

Now I will talk about our Mercosul division. In Argentina, our total revenues increased 7.1% in the second quarter of 2005, supported mostly by price increases and a better product mix. Volume increased 2.4%, driven by growth in our core brands. Brand Coca-Cola increased 4 percentage -- 4% during this quarter, with our returnable packages helping us to counter aggressive pricing stance from our competitors. And a strong 11.4% growth in our premium brands, as a result of our revenue management strategy.

In the quarter, our core and premium brands volume growth more than compensated for our value-protection brands' decline in volumes.

Our non-carbonated products continued to post strong volume growth, with the inclusion of the Juice brands acquired by the Coca-Cola Company last year, and a recently introduced flavored water product, as well as strong incremental sparkling and natural bottled water volumes. Non-carbonated beverages doubled their share of our total volume mix, to 2.7% in the quarter. Non-carbonated products, including bottled water, accounting for over 25% of incremental volumes during this quarter.

In the second quarter of 2005, our high revenues did not fully compensate for incremental raw material costs and operating expenses, including higher labor and freight costs. Consequently, our operating income decreased 1.1%, resulting in an operating margin of 12.1%.

In Argentina, despite a tough competitive environment on the pricing front, our share of market, carbonated sales and volumes, remains stable and we continue increasing our share of industry sales. The industry is showing favorable trends in terms of channel mix and there are ample opportunities to capture industry value in the premium carbonated soft drinks segment and from non-carbonated consumption occasions.

In just over two years, we have turned around the profitability of our Brazilian operation, from a money-losing business in 2003 to a generator of more than $70m per quarter of EBITDA.

We were able to achieve this result with the implementation of our new business model. As part of this model, we now directly serve more than 110,000 points-of-sale and are building a stronger returnable packaging base. For example, in many countries in which you have developed a portfolio of leading beverage brands, you control the -- your strategic execution from production to pre-sale and delivery, and an important part of the population resides in the lowest socio-economic segment, you must have the capability to develop an important returnable packaging base that offers affordable alternative to your consumers. We are in the process of building that platform.

Our returnable presentations grew more than 70% in the quarter, reaching almost 9% of our total CSD volumes. Volume grew almost 20%, driven mainly by brand Coca-Cola, which accounted for almost 60% of our incremental volume. The focus of our marketing efforts towards our Coca-Cola brand and a wider array of presentations contributed importantly to its volume growth. Today, we have 13 different packaging presentations for brand Coca-Cola alone.

Flavors also posted very strong growth, increasing 21% year-over-year, mainly driven by our core brands Fanta and Sprite. During the quarter, there was important innovation in the flavor category, as we launched the new Splash PET bottle for brand Fanta and launched Sprite [Furor], which is part of our premium brand segment. The Splash bottle for brand Fanta is increasing brand loyalty amongst teenagers and the Sprite [Furor] is increasing per capita consumption among young adults.

Our premium brand segment represents more than 9% of our total volumes and continues to generate double-digit growth. To put things in perspective in an industry that was perceived to be constrained by the existence of low-price brands, we are selling 60% more of premium brands than value-protection brands in our portfolio.

Our bottled water and non-carbonated segments also present a strong volume growth of over 45%, driven by increasing coverage of bottled water brand Crystal and favorable weather conditions.

Our average price per unit case continues to improve, favored by one, tactical price increases, two, incremental sales volumes from small retailers which carries higher price per unit case, reaching almost 56% of the total channel mix from 36% at the end of 2002, and three, a more profitable and diversified packaging and product mix.

On the profitability front, our higher revenues and our lower cost of goods sold per unit case, resulting from improved manufacturing efficiencies combined with the Brazil's real year-over-year appreciation, drove our 240 basis point gross margin expansion.

Operating income doubled its size as a result of higher operating leverage, which was driven by higher revenues and improved commercialization and distribution indicators that reduced our expenses per unit case significantly.

Brazil has outpaced Colombia as our second largest cash flow generator during South America's winter months. Along with Mexico, Brazil accounted for the majority of our incremental profitability this quarter.

On the financial front, our cash position at the end of the quarter was more than $500m, driven by internal cash flow generation and new debt acquired to partially pay down approximately MXN2.6b of upcoming maturities of Mexico peso points on July 15. This payment will be reflected in our third quarter 2005 balance sheet. We are taking advantage of favorable credit terms and improved credit ratings to increase the maturity of our debt.

We continue to maintain a strong balance sheet and a well-balanced capital structure. More than 75% of our total debt is denominated in local currencies, mostly Mexican pesos, and more than 75% of our total debt carries a fixed rate of interest. Today, Coca-Cola FEMSA does not face financial or foreign exchange exposure risk and is well guarded against the current increasing interest rate environment.

Additionally, based on the conclusion of our successful integration, our significantly improved leverage from stronger cash flow and debt reduction and our growing strategic importance in the Coca-Cola system, during the quarter Moody's Investor Service upgraded their investment-grade rating on our Company foreign currency senior unsecured debt to A3 from Baa2.

More than any other quarter since our acquisition of Panamco in May of 2003, this quarter proved that Coca-Cola FEMSA is prepared to capture every opportunity for growth. Our shareholders can rest assured that when circumstances are favorable, the house will bring money to the bank.

We still have a lot of work ahead of us to put in place the right business model and measurement tools that enable us to more effectively implement our multi-segmentation strategy and to achieve our desired levels of execution. We have plenty of growth opportunities in our favor, from improving the per capita consumption of our CSDs in light of consumers' potential purchasing power, to enter in new beverage categories, to fostering consumption of our premium portfolio and improving coverage of cooler placement, as well as potential improvement in execution indicators.

We have the fortune to have the right partner, the Coca-Cola company. Together we are building the best portfolio and the strongest platform of beverage in Latin America to serve more than 170m potential consumers.

Thank you for your support, and now I would like to open the call for any questions that you may have.

[OPERATOR INSTRUCTIONS]. And our first question is coming from the line of Andrea Teixeira from JP Morgan. Please go ahead.

Hello, good morning everyone. I just want to -- could you please extrapolate on through the breakdown of the volumes in the changed flavors and colors in Mexico?

And also if you could explain a little bit on the Brazilian side if how much the reduction in costs was, as a percentage, explained by the strengthening of the real? Thanks.

Hello Andrea. If I understand correctly the first question you are referring to the growth in flavors, special colors?

Yes exactly if you could at least give us an idea. I understand that mostly of it's brand Coca-Cola, but if you can explain, let's say, if it was how Mundet, also Mundet it is behaving -- behaved throughout the quarter as well?

[inaudible]. Let me give you some [indiscernible] here. In total, if we speak in terms of unit cases for Mexico, we [sell] basically a growth of around 8.4% in the [indiscernible]. That always means, implies, different growth rates in the different territories we have. From a strong quarter in Mexico, in Mexico City, but for every area what we have in Mexico grew importantly. The highest growth that we have was in the state of [Eachokan], which is one of the territories that we acquired.

If we split the growth of flavors and colors, we basically have, out of this 8.4%, [indiscernible] grew around 5.5%, and colors represented just [to 8%] as we mentioned in our speech, and flavors had a negative performance of around [1.7%]. As we tried to explain during this introduction, flavors were carrying a lot of the growth in the last 2 years, so they -- our comparison in flavors was tougher than what we saw in Colors.

So two things that are important here to mention; that is the 8% growth in colors is -- which we are seeing that as a very positive spine in our market. Obviously that implies also gaining market share in that segment. The other area, which is the flavor category, we are facing, as we have expressed in that past a new entrance of some other different producers that are introducing flavor products. And, most importantly, we have mentioned the effect of brand Jarritos, especially in the Valley of Mexico.

Jarritos is not a big brand, it's a product that is priced between our core brands and B brands, which is a company that uses their own distribution as we do. It's a company that does a lot of advertising in Mexico and that has had a certain level of success, especially in the Valley of Mexico.

A lot of our initiatives with brand Mundet are focused mainly into [coloring] that specific issue. I think [because] it's a brand that is perceived as a natural [or] Mexican, and the same is the case for Mundet which is a brand that has been in Mexico for more than 100 years, and we are initiating a very important initiative with [Boliver] multi-flavors which is away from the traditional apple flavor Mundet, which is one of -- is a core brand in that sense, and we are using multi-flavors in 5 different flavors in that two-liter presentation and 600ml presentation.

We have started TV advertisement. Remember that Mundet has been pretty much without any marketing activity over the last two or three years, so we have started to push Mundet a little harder and -- but it's too early to know. We started with this marketing campaign only a couple of weeks ago and the introduction of these multi-flavor presentations have been there in the market for [a little bit] longer but we will start to wait and see the effect of the new initiatives in that category.

In the pricing of Mundet hasn't changed from [the last], right?

You mean from the MXN8 temporary launching price, Andrea?

Yes, the MXN8 promotions, yes.

Yes, we have realized that Jarritos, flavors Jarritos sales basically in the 'bodegas' channel in the supermarkets and 'bodegas' channels, and the price there is on the way from MXN7.50 to MXN8 for a two-liter presentation. However, Jarritos sales are MXN10 in the open market. The pricing that we have on multi-flavors Mundet is MXN8 basically [indiscernible] with the prices that they have in the modern channel. And the idea that's a price that we have to start working initially and the other we have is as we see the market [to grow] potentially to see the price of that presentation. But still the price is at MXN8.

And do you have another question related to the real, is that correct?

Yes, correct. I just want to see how much of the decline in COGS - I understand you had a 9% decline in COGS during the quarter. I just want to see how much of that -- you can just give us an idea of how much of that was the strengthening of the real?

Andrea, [inaudible] a very positive effect on our cost of goods sold as - especially with PET prices that even though that the increase is very important in dollar terms, when you would compare this with last year. In most of the countries where we have an appreciation versus the US$ the -- now what we see the effect of PET pressure would have been much larger than what we have. I don't have a specific number right now on the top of my head to give you, and specifically [based on the real] but let me ask Alfredo and Julieta to analyze that and come back to you on that.

Yes, and [indiscernible] for initial answer would probably [inaudible] - on the cost of goods sold [indiscernible] around the cost of around 20%, something like that. So the revaluation of the real [indiscernible] applied the opposition of the real year-over-year on that percentage should be more or less the effect in the cost structure.

Yes, I understand that but in terms of going forward, you're going to see some additional reductions in costs on - given that you're going to have PET resin costs over a decline, as you mentioned before. So it's going to be the trend is to continue to decline on a sequential basis, right?

Yes Andrea, certainly we are seeing a positive trend in some of the raw materials. PET prices we do expect -- we have seen already some declines in PET prices and we are expecting to see the [indiscernible] in the second part of the year some additional declines, probably around 5 [indiscernible] in dollar terms, and [compression] levels. And certainly no doubt about it this has been a quarter that has been positively affected by the appreciation that most of the [products] is in what it has to with raw materials that are dollar denominated in every country basically.

Alright thank you very much. Very helpful.

Our next question is coming from the line of Robert Ford of Merrill Lynch. Please go ahead.

Hello good morning, everybody. Great quarter, Hector. With respect to the latest announcement from the WTO, can you give us your thinking right now in terms of the sweetener outlook both for you and your competitors as it relates to Mexico?

Bob, it's very difficult to see what is the end result of all this. The World Trade Organization has said that the tax that we have should be taken away because it's -- and the Government has made some pronunciations, some sectors of the Government in favor of that and some other sectors against that. The main thing what I can tell you is we have seen some reductions in sugar prices in the 2 or 3% level, and obviously we have continued to use high fructose corn syrup as a sweetener product, as a way of lowering our cost of sweeteners.

Again as it was the case in the first quarter, the increases that we have in PET were basically compensated by some of the efficiencies that we have -- efficiencies [mainly] in reduction in sweetener cost by using close to 40% of our total mix with high fructose corn syrup.

I don't know what is this, what the end result of all these negotiations, if I can call it that way, WTO and the Mexican Government. But certainly there is lot of pressure with respect to the taxes on [indiscernible] on top of the high fructose corn syrup.

Great. And then just to get a better sense of how things are more immediately, can you give us a sense of where we are in terms of volume and pricing trends, particularly in Mexico? And why we may have more confidence in terms of your ability to sustain this much better level of - or much better dynamic - in terms of pricing in Mexico?

[inaudible] The -- my expectation, Robert, is that we have been able to -- two effects here which are important. One is we did this price increase at the beginning of the first quarter, which was followed basically by all of our competitors except Jarritos. And [indiscernible] Jarritos is pretty much based in Mexico City, and -- but obviously that's the positive time for us.

The improvements that we have seen in some of the raw material costs I don't think that at this moment will create any specific pressure on the pricing front because [if you take] they are not of a magnitude such that will start creating the temptation to lower prices by some of our competitors. But that's a trend that we have there [now], we have to be very careful that some of the raw materials have started to -- [then] we have a better environment with respect to raw material costs.

The second element here which is very important and which would give us the confidence that we are growing [indiscernible] but all the initiatives that we have done in terms of segmenting or the multi-segmentation of the market, and especially [indiscernible] and trying to direct more consumption of our Single-Serve are starting to pay off, and that's why when you look specifically at CSDs, basically two thirds of the growth is coming from recapturing volume that was lost in the past by the 600ml presentation.

So going forward, if you tell me what is your idea with respect to prices and volumes, I think that in Mexico we will see a stable pricing environment. I don't see still a lot of flexibility to continue to increase prices so I'm looking more at a stable pricing environment going forward.

And with respect to volume growth I'll say that if you look at the whole semester so that we avoid this seasonal comparisons because of the Easter week or etc., we have growth [indiscernible] of around 3% and I think that's pretty much what we'll see the effect is for the second part of the year, some kind of seasonal low to mid single-digit growth.

Great, thanks Hector. And then just one last question, you mentioned that your -- you need to redefine the operating model in Venezuela, can you give us some examples in terms of what you're implying?

Yes. The -- let me [indiscernible] what happens in Venezuela, obviously we don't like nothing at all of seeing very important growth in prices and volumes, and seeing all that revenue being eroded by freight and labor expenses. It's a very difficult environment, Bob, because at the same time labor expenses have been increasing importantly because of regulation in the country. When you look, you compare the minimum wages versus the beginning of last year and this year and this last year and a half minimum wages have been increased by 60% when inflation in this -- during [indiscernible] is around 20.

Our labor cost has increased slightly below that, it's been 55%, and that's [actually basically] with wage increases in terms of pressure from the unions - again, much faster than the pace of inflation, [that's twice] or a little bit more than twice the pace of inflation.

At the same time, you don't have a lot of flexibility to adjust your operations because there is this - I don't know if the translation is correct but it's in Spanish it's called ['mebe immobiliaro'] - [inner] mobility's lost, so you cannot fire people or adjust your workforce because the Government is passing and on these regulations where certain categories of jobs have to stay there and you cannot fire people.

So we are in that difficult environment but it's important I think that the positive twist in Venezuela is that we are generating a lot of volume growth and pricing, which is very good for our business there, and now the focus should be in how can we contain some of these cost increases, especially labor and freight.

The other element that we have here that has also impacted negatively in our performance this quarter - and that's different from labor, this is totally in our control - is that we should have very high maintenance expense because these were operations that were neglected for a long time prior to our acquisition. We started to invest a little bit more importantly within these last two years on the very difficult environment, because you don't have very easy access to dollars. If we had had a free market for currencies, our investment in Venezuela would have been higher than what we have, and therefore our maintenance expenses that we [need] are smaller.

We are facing, believe it or not, even with this important growth there that we have in volumes, we are facing out of -- important out of stocks because we are not producing everything that is demanded in the marketplace. So we need to adjust our model to obviously with some investments, and adjust our production facilities, try to have a better maintenance environment as opposed to the very high maintenance that we have, and obviously avoid these out of stocks that are very costly in the marketplace.

Those elements are the main environment and a focus for us is labor and freight costs that I [indiscernible] very importantly out-pacing inflation in the country, importantly, and out of stocks and maintenance expense.

Thank you very much, Hector, that really helps to understand what you're going through in Venezuela. And again, congratulations.

Thank you.

Our next call will be coming from Jose Yordan with UBS. Please go ahead.

Hello good morning. I just want a clarification on the raw materials. You said that most of your gross margin improvement in Mexico had to do with sweetener prices. I'm assuming your percentage of fructose didn't change, so it was just all a decline in the price of sugar. If you can quantify that and when it happened?

And also on the PET side I was under the impression that the price peak was in March and that therefore you did have a full quarter's positive impact from PET resin. If you can also quantify the timing of that and the decline in price since that peak, that would be great?

Yes good morning, Jose. Let me clarify [indeed] our PET prices on -- and then we go into the sweetener. When you look at our PET prices in this quarter they are slightly below what we had in the first quarter and by slightly [a gain] basically 1%, and that's in dollar terms. Obviously the effect of exchange rates will have an impact, but speaking purely of dollar prices in -- for PET, we have a reduction of around 1%, slightly less than 1%.

When you compare second quarter of this year versus second quarter of last year our prices are still around 35% above, and that's what we tried to show you in the [indiscernible]. So when we compare our PET costs versus last year we have a 35% increase, but you are right, versus the first quarter which is -- which was the peak, we are around 1% below those prices.

Our vision in going forward is that PET prices will continue to decline around 5% in the second half of the year, [based out as a potential] of going slightly above 5%. Some people, some [indiscernible], especially [indiscernible] mentioned them all the way to 10% reduction in the second half of the year. So somewhere around 5 to 10% is what we are expecting.

With respect to high fructose and sugar we have [seen a] very effects on sugar in -- with respect to prices coming down slightly when you look at the second quarter versus first quarter 2005, and we are using around 40% of our mix with high fructose. High fructose continues to have an important difference in price. If I remember correctly [indiscernible] 15%.

[indiscernible] per cent [indiscernible]

Versus sugar. And obviously we are taking advantage of using that type of sweetener. So again and again in sugar we are seeing a reduction in sugar prices but we are still using importantly high fructose as it [has] a very important price gap versus the -- versus cane sugar.

I don't know if that clarifies.

It does. What's your outlook for sugar? I know it's a lot more difficult to tell going forward, but what's your outlook right now for the rest of the year on that?

I [said] what's happening in Mexico is that the production has -- production of cane sugar has increased, has been above expectations and we do see still some pressure in sugar prices; pressure meaning sugar prices coming down in the second half because of the, let's say, other suppliers of sugar versus the targeted production levels plus the price that some of the industry participants are using high fructose. So there is some excess sugar in the marketplace. So we will see prices of sugar coming down. The kind of movement that we have seen it's somewhere around 1% in the first quarter, around 1% in the second quarter, so I don't think that the change will be that large in the second half.

Okay thanks a lot.

Thank you.

Our next question is coming from [Dan Korkalski] with Schroders. Please go ahead.

Hello, good morning and congratulations on the results. The first question is on your net working capital, it showed a substantial increase year-on-year and also a substantial increase quarter-on-quarter. Can you explain that to me and explain what you think is going to happen in second half?

Good morning, Dan.

Morning.

Yes, we do have -- we [have] -- not having a specific important change in the [indiscernible] number. Obviously the seasonality of the business is an important element here, usually first quarter we start collecting a lot of the -- [we feel] that we have towards the end of the year and therefore the first quarter is a little bit more cash flow positive with respect to working capital. But let me ask [indiscernible] to take that how they look and we'll get back to you, but there has not been any specific [indiscernible] prices. [inaudible]

It's nothing to do with returnable bottle or anything like that?

Not in a substantial manner. We have been investing some in returnable bottles but it shouldn't be more than [indiscernible].

And returnable bottles are expensed or are they capitalized?

They are expensed when they are introduced and then they are [assets] we accrued of the breakage. We are -- there is a period which they are capitalized.

Okay if you can get back to me and that would be great. The second question is more general. Have you seen any interesting investment opportunities arising in any of your territories that you're possibly having a look at? Is there a conducive environment to make acquisitions now that you've bedded down your recently acquired operations?

Yes we - [indiscernible] have any -- in some of the countries where we operate we basically have 100% of the country and therefore we - there is an opportunity there. The areas where we see opportunities in going forward is Mexico and Brazil, because again they have still a very fragmented bottling system that is competing versus specially Pepsi Cola systems that are basically fully integrated in the country [indiscernible] under this [work] in 100% of the country.

So in Brazil we have [60] different bottlers, in Mexico [30]. We do think that there might be opportunities in those markets, the answer is yes. We don't have a specific [indiscernible] in our radar screens, but we are always in conversations with neighbors and just being alert of what is happening in these two specific territories to see something that's available for acquisition.

And --

But it's -- but in general my sense is that still in Brazil or Mexico where we can start finding some opportunity.

And should we take it as given that you're not talking to [Postevon]?

What do you mean by talking to Postevon?

Well, Postevon is apparently up for sale. I know it's a Pepsi bottler but they can possibly tell, could possibly ditch the Pepsi side. You're not in talks to acquire any of their brands?

We have been approached by institutions that obviously bring opportunities to the table and they have mentioned the Postevon opportunity. We are not properly sure that they are for sale, but given what has happened with the Bavaria acquisition, things might change in Colombia. I'm [indiscernible] that Postevon is - will be a good bid for different player in Colombia.

But not you?

I would not rule out us looking at Postevon.

Okay great. Thanks very much.

If a CSD business was very important in brands, local brands, and I think that if indeed Postevon is for sale we're willing to take a look at that.

Great thank you.

And the next question is coming from the line of Alex Robarts of Santander. Please go ahead.

Yes hello, couple of questions on Mexico. I guess first of all just on the Waters which were very interesting in the quarter, and just trying to get a little bit more understanding behind the 19% growth. I mean clearly we're at the point where these Waters are about a fifth of your Mexican volumes and half of your quarterly volume growth here in Mexico. Just a breakdown maybe of that growth between [coms, weather] versus category growth, if that's possible?

And do you think that we should, or it's fair to assume, that we get double-digit growth for the second half of the year in Mexico?

Good morning, Alex.

Hello.

Let me give you some -- when you say category growth [indiscernible] meaning single-serve versus jug water, something like that?

Exactly. Yes, those two segments, really.

We have, let me go into a little bit more the [sector]. We have a very important initiative in - well remember that the [indiscernible] is to have jug water presentations in the territories that they have, and that we expressed at the very beginning of the acquisition is something that we will analyze and see if we can have a profitable operation with that. It's a very - jug water is very competitive, a lot of [let me put it] quarter-on-quarter informal competition by very small what is called 'Aqua Centers' in Mexico that basically refill with very simple equipment they fill these jugs of water.

So remember we have -- we started to review some of our volume, cutting down on the [non-] profitable volumes, increasing importantly prices in some areas, and now we feel that we have in [model] that we feel comfortable and we have a specific team of people that was appointed around 6 months ago to specifically look at the jug water category and I think that they are doing a good job.

Jug water in Mexico grew around 19.5%, 19.5% basically. In -- remember that is only the territories that [where Fandanco] used to sell this product; we have not introduced that to Mexico City [for example].

In the rest of the category the [personnel sizes and 11.5] Ciel brand we have, our growth is around 17% in the quarter. So Jug Water continues to increase importantly but Ciel, including the introduction of these flavored brands that are a very important addition to our portfolio, are starting to show very important growth - as I mentioned, 17% during this quarter compared with this last year.

We still have a lot of things to do in water. At the end of the day we are far behind the leaders in this category. You have [Zanonagrans] in first place and [Inslist] brands also with very important participation, and we have a lot of work to do in waters to start taking our brands to the level that [we should have us] leader of the beverage sector in Mexico. So we will continue to work in that direction and [indiscernible] and I think that this is --

The 17% in [personnel size], was that the category as well?

Yes, I mean the category has been - remember, Alex, that weather conditions influence significantly volume growth of water in any quarter. In this quarter specifically weather really plays an important role on any beverage, and water especially. So I think that water can grow at a multiple of [CLDs], but I don't -- I cannot comment on a specific volume growth. I expect volume growth of water to be more moderate towards the second half of the year.

Okay, I guess that would lead into the second bit which is looking then at the out-pacing of these -- of Water formats and compared to CSDs, how do you balance and - or how do you look at what that does to the Mexican EBITDA margin? I would assume that the jugs - you've done a lot of work there - but might that be a little bit lower because of scale than the CSD margin? And specifically in your research what made you not -- decide not to exit the jugs?

No, I think that what we have found, Alex, is that we exit the jugs from some of the markets and - or some of the channels and the specific [developing] periods it was not profitable [indiscernible]. I'm referring basically, for example, where transportation costs was basically eroding our revenues. So in circumstance jug water is a very local business because you cannot pay for large, for long -- for very large freight expense, and we have cut down in some of those volumes. And if you look at some of the -- of our [part] numbers, jug water was coming down importantly in price when you look at some of the previous quarters.

Now that we are focused in some of the categories or channels where we look at [everything] in the channels and with the pricing the profit [pricing] in those channels where we make one we -- and then we have this team that is focused specifically geared to make the final analysis of all the Water. We see that there is some opportunities in that category. It's not as profitable as CSD? The answer is yes. Obviously that's correct. But [what is a] category where we feel comfortable because we are making money; it was not the case when we start - or we acquired the [dynamic] operation, we found that a good chunk of our volume was losing money for [indiscernible] for us.

And the other category as we add flavors to some of our waters, for example with [Gia Aquarius], [that we think we] are [indiscernible] for the consumer for that, and I think that's also where you're improving the profitability and the EBITDA of our water propositions [in] the consumer.

Okay. And --

And suffice to say of the future, we need to continue moving into those categories as you have seen in some other markets with [functional] Waters and etc.

Sure, and I guess the final bit is just on the non-carbs, interested to hear that you are keen to put a lot of more focus in the next 12 months in the non-carbs. And I can see water non -- outside of the waters it's a relatively small bit of the business. Do you think in the next 12 months it gets up to be more like where maybe Mundet is, 3, 4% of your volume? Or is that something perhaps beyond the 12 months?

[indiscernible] You have seen all the way from the Coca-Cola company in Atlanta to all the bottlers around the world is thinking about non-carbs. I believe this is a recognition that there is an important category in the non-alcoholic beverage segment that is growing importantly, but that we are not present in an important manner and that is an opportunity to start catching some of these consumption occasions. We will see a lot of focus on that, and obviously we will see a very important growth from a very, very small base that we have right now.

At -- in Atlanta, when they took -- when they talk to people there, they like to see non-carbs of the same size as brand Coca-Cola in ten years. I think that that's great as a vision, as an objective it's a very aggressive objective. In the specific areas where we are working, especially Latin America where we still have very -- a big chunk of the population with low per capita incomes, I think that this is more of a challenge because obviously we won't be able to charge in this area the premiums that are associated with some of these products, and you need to fine tune your stock as you move along.

Right now what I can tell you,Alex, is that we have had good growth in Powerade, we have had very good growth in Nestea, we have good introduction of these water brands, flavor brands with [Gia Aquarius]. And they -- we are in very close contact with the Coca-Cola Company, we know there is a big pipeline of growth that are being offered to the bottlers around the world, and in Latin America too, as a way of starting to fulfill this ambition of growing non-carbs important around the world.

Right now it's very hard to say if they will in 12 months will be the size of Mundet or not. I hope that Mundet with initiatives will continue to grow very strongly and also not -- but no question about it, there will be initiatives where we'll -- in non-carbs and we will be trying different initiatives and let's see how successful in executing that in the [market] business.

Great thank you.

The next question is coming from the line of Carlos Laboy of Bear Stearns. Please go ahead.

Yes, Hector, my question relates to Brazil. What's happened to your beer volumes in Brazil over the last quarter? Have you been proposed a new plan for selling beer in Brazil or is your view of beer in Brazil changing at all as we go forward?

And on the go-to-market side you mentioned that you are in the process of delivering a new -- a process of creating a delivery platform for poor consumers. How much of your volume is now in third parties? How much more does it have to go to direct distribution?

Yes, Carlos, good morning. Beer volumes were again down this quarter and let me just find this information and get back to you in a second. Obviously, regarding the approach by [Kaiser] or by [Monsant], basically to review the agreement that we had. Remember that we were before selling beer and collecting the money and distributing. And we changed to a model that we were focusing a lot onto this and [Monsant] wanted to try. Then, taking control of the sales effort, we changed all our agreements and now they do the sales effort and we just distribute the product, and therefore we just get a fee for that, for that distribution service.

And our conversation so far, and we have been very open with you, is that we are still focused a lot in all the things that we have to do in CSDs. They like to review that agreement, we feel they're comfortable with the agreement we have. And it's something that we'll have to continue discussions with them.

Beer volumes in this quarter was down around 30%. Again, it's obviously a very top story for brand [Kaiser Industrial] and let me just check a little bit on this third party distribution. We have increased a lot the -- the [indiscernible] we arrived, we had these third parties chiefly that were going and selling to the traditional trade and we have all these issues. When we arrive, we closed some of those contracts. We had very negative volume press at the very beginning, as we were recapturing some of the clients. When we arrived, if I remember correctly, we had somewhere around 70,000 clients or retailers. Now we have close to 110,000 as we recapture some of the clients that were being served like this by the distributors.

And the information that I have, basically, is that in 2002 what we call the indirect distribute -- the indirect distribution, which is by third parties, was somewhere around 30%. And now, as of June of this year it's around the 20% level. But we have lowered that and I think that we still have some room to improve.

We have also, at the same time, and this information is important for [indiscernible] also, supermarkets have also been declining in importance as we go more and more to a traditional channel. Supermarkets were around the 35% level and they are also on the 20% level as of June. And by definition, what we call the traditional channel, which was somewhere around the 37 to 40% level back in 2002, we are now around the 50, 55 -- between 55 and 60% of our mix.

Hector, just to make sure I got that right. So direct distribution is now 80% of your volumes in Brazil and beer volumes were down 30% - three zero - in the quarter?

Yes. Also remember, Carlos, that we only distribute the product.

Right.

The breakdown that we're giving you is taking into account that we control the pre-sell in the selling of those channels. So we have gone from 36 to 56% of the traditional channel that we can reach, and that percentage from the supermarket is [indiscernible] has come down probably from 35, 36% to lower than 25%. So remember, the distribution is a consequence of the way we do pre-sell. So what you can imply, that we directly serve 80% of the clients in Brazil.

Right, okay. Thank you.

The next question is coming from the line of Joaquin Lopez of Deutsche Bank. Please go ahead.

Good morning Hector. Actually, can you give us an update on the formula situation in Brazil? Have you heard anything new?

Yes, Joaquin. Not necessarily for CSDs. We know that there is progress made in the beer side of the business, in the industry. What we mentioned before is that there was a way in which the State of San Paolo, in terms -- in the case of the CSD industry was calculating top line taxes, that instead of being a percentage of the selling price was determined as a fixed amount as a consequence of a survey done by the government of prices. And in a way, that has benefited them on taking more revenues from that specific initiative. But things related to flow meters in the CSD side, we don't have any clear view.

Perfect. And in terms of, given the achievements you've done in Brazil over the last few quarters, what is your view of the long-term profitability levels that you are striving to achieve in this operation?

One of the main elements there is also that this real appreciation has helped us in some of the cost structure, but also, when you look at the pricing in dollar terms or Mexican peso terms, you have seen some improvement. Brazil still has low prices per unit case, and obviously that sets a feeling for the profitability that you might have. But all in all, everything said, we still believe that we can improve the profitability and get closer to a 20% EBITDA margin.

Excellent. And then just one final question, in terms of your Mundet portfolio in Mexico. Can you give me just a little bit more color on what you're doing differently in terms of the strategy today that what you were doing a year ago when you initially launched it?

Joaquin, for me the most important change is that we are doing a lot of promotional activity. Meaning obviously media and probably, when you visit Mexico City, you will see a lot of billboards and boxes that have this advertising. In the past, we were very quiet in terms of promoting Mundet.

Obviously it's a situation that is uncomfortable vis-à-vis the Coca-Cola company because it's a brand that is not owned by them. But we have agreements with them that there is a brand and a package and a pricing point that is near presently in Mexico, because of what has been happening regarding to the peso value of Mexico. And they are in full agreement that we should use, they meaning the Coca-Cola Company, that we should use Mundet multi-flavors as a weapon to counterattack the flavor market, especially Jarritos but also the other big brands that are around.

So my feeling is that it's a better coordinated effort, with now some media attention. And obviously, we're having a little bit more aggression on the pricing front versus vis-à-vis last year.

Okay. Then, just finally, has there been any interest from Coke and perhaps acquiring this brand, given the fact that they've been so interested in other flavor brands? Or do you think there is any strategic value in actually keeping the brand, even if Coke approaches you?

No. I think that -- in general, I think that buying a third party brand in Mexico or basically in Latin America in general, it's -- I think that it's very difficult for the Coca-Cola company because of antitrust circumstances. So I think that if that brand was available, was specifically -- a specific situation for Mexico City, we decided to move our head in that direction because we thought it was a way of protecting our market.

And we believe and we still believe that if the Coca-Cola company have tried to acquire that directly, probably antitrust regulators will not allow a transaction. It's different from the Coca-Cola company acquiring a brand that is already distributed by Coca-Cola Bottles, as in the case of [Goya] in the North of Mexico. Because in that case, you can argue that the competitive environment has not changed, because it's a brand that is already in the Coca-Cola truck. In this case, it was totally owned by a third brand -- by a third party.

Thank you. Thank you very much Hector.

Thank you.

And our next question is coming from Lore Serra with Morgan Stanley. Please go ahead.

Good morning and congrats on a good quarter. Just a couple of follow-up questions. I think Coke talked about, in their second quarter conference call, the fact that they're going to set up a non -- a dedicated non-carbonated sales force. And you also talked a lot in this call about how you're focusing more on non-carbs. I guess I wonder if you could help us think about what that means for you guys? I think in general, as you move out of the carbonated soft drinks, the profitability is not as high for the Coke system in general.

So can you talk a little bit about the plans or whether you will be establishing a non -- a dedicated sales force for non-carbs and conceptually how you and Coke are thinking about splitting up the pie?

Yes, Lore, good morning. When you go into non-carbs, especially in some categories like juices and some -- and even if it's not 100% juice, juice drinks that have some juice content, you start going basically to modern trade, to the convenience stores and supermarkets. It's very difficult to push so many different products to the small mom-and-pops. And you also go to categories that have very different commercial practices with the supermarkets and convenience stores.

So it's not the same case as when CSDs didn't have basically any discounts at all, or very minor discounts. The idea that we have is that to fully serve the modern trade we need a different model. We cannot use the same resellers that we have for CSD, going to sell, let's say, brand Coca-Cola with no discounts on a cash basis and then going with a juice, that in some cases the competitors have 30% margins for the supermarkets, which is substantially larger than what we have in CSDs.

So the idea that we have and the way we have been working with this is that modern trade in Mexico will be served by a different operation from what we have, with full accountability for the bottlers in the regions and also full benefit of the profit for the bottlers of these volumes that are sold to modern trade.

The traditional trade will continue to be served by -- in the same fashion that we are distributing CSDs right now. And that's basically the model that we are devising in Mexico for this.

What we have is a policy with the rest of the bottlers where we will go to the modern trade through this separate operation. And because the information technology's there and you are dealing with clients that have good information technology, you can keep track of where the Coke is being sent. So you have, like when you go to Walmart or Oxo or [Figanti], you go to a call-stop operation as opposed to direct store distribution, which is basic for this kind of product. And they would keep track of where the volume is being sold, and to where the profits are going to be directed from this separate operation.

But are you expecting the profitability of that, if I can call it new venture, to be similar to where you currently are in terms of the modern channel?

You mean similar to what --

Shouldn't this be something that -- the profitability, what you're doing is you're separating the modern trade and you're also adding more products, I presume. Should the incremental margins from this come -- be accretive? I guess the profit is accretive, I guess I wonder if the margin is accretive.

The margin accretive, meaning that we will make more money than what we do in CSDs, is that the question?

Well, I assume that the way you've split up the pie with Coca-Cola is that you make more incremental pesos as a result of this. I'm wondering if the margin, if we should expect this over time to be something that is a lower-margin business? I'm sure the monetary is lower than the traditional trade and if this grows more, the margin will come down. I'm wondering if you, with these new products, if you will enhance the profitability of the modern trade and how that is going to be split between you and Coke?

Yes, the agreement that we have with the Coca-Cola company is basically that we will be pushing this new vehicle to the modern trade. A lot of different products, with the idea that those profits are for the bottler where this product is being sold. Now, if a new product that we still don't have here has a lower or a higher margin than CSDs, right now it's very difficult to tell you.

But the basic idea is that the profits from this operation, from selling to this modern trade for this vehicle, is for the benefit of the bottler, as we have it right now with CSDs. Obviously, there will be production expenses that are going to be shared among the different bottlers, and initially the expenses of this new vehicle and all of that. But right now, it's difficult to judge if it's going to be accretive or not in terms of market. Obviously, our expectation is that all these new cases will bring profits, additional profits, to the base of products that we have.

Okay. And just briefly, because you've talked a lot about pricing in Mexico, the pricing year-on-year, if I get the numbers rights, in normal terms was up something like 7% and you talked about 3% pricing increases. Can I assume the rest of it is the mix shift you talked about, both for the single serve and in Mexico City?

Yes, Lore, that's correct.

Okay. And I guess, in terms of the traditional channel, if you've got Jarritos and Mundet at MXN8 to MXN10 price points, how do you think about the risk of contaminating the two-liter Coke at the traditional channel? Can you isolate the effect of more demand created by lower price points of flavors that would eat away at the Cola business potentially? How do you isolate it?

Our idea here, obviously, there is always that risk that you start getting some contamination from prices from products that have a lower price. But our idea here is that the consumer that is buying the two-liter Coca-Cola is going to continue to buy a two-liter Coca-Cola product as opposed to -- and our idea is to target specifically that the guy that is buying the Jarritos brand right now will buy Mundet, I suppose. So there is always that risk, Lore, and obviously that's where all the information systems and [indiscernible] and multi-segmentation of the channels where all that consumption took place. And the expertise we have developed over the years.

And also, Lore, just remember that as Hector was saying, you start getting the consumer that is drinking the other or the other alternatives and we were not participating in that segment. And the strategy of the Company, participating [indiscernible] in the low-price segment, I think lacked probably the comprehensive strategy we're building up in multi-flavor.

And just a final question on Venezuela. You mentioned before that you have out of stocks. If I remember correctly, maybe I'm wrong here, the last price increase you did in Venezuela was mid-2004 and there has been a lot of inflation since then. So given that kind of demand, why wouldn't you be taking some pricing in Venezuela?

You're right that the last price increase was, of course, middle of the second half of last year, but the idea that we have is to be more aggressive on the price in front. I think that we have had some mistakes in the execution in Venezuela. Obviously, one of them is that we should be pricing better at that. We have launched new products and complicated our distribution, and that should not happen when you are getting out of stock for brand Coca-Cola. Why are we launching new products and obviously, that is something that we need to focus on and change.

Okay, thanks.

Our next question is coming from the line of Celso Sanchez with Citigroup. Please go ahead.

Hi. I'll try to keep it brief, given the length of the call. Just as a follow up on the non-carb question, in terms of the organization that Coke company set up. In regard to your comment on the modern channel, with Brazil and Argentina having higher percentages with modern channel, is this something that we might expect to see being formulated in those countries relatively soon, i.e. the next few months as well, or is Mexico really just a test case and we should wait for a year or so and see how it works in that market before it's rolled out to other regions? That's the first question.

Morning Celso. The answer is yes, we have already started to work a little bit different but with a similar vehicle in Argentina. Remember that we have this comparative where that is owned by all the bottlers for the production of cans. And now that the Coca-Cola company acquired brand [Sepeta], which is a juice drink product, we have been using the production capacity of the cans and distributing to the modern trade through that operation. That is, by the way, managed by Coca-Cola FEMSA in the administrative sense of that. But we are using a similar vehicle in Argentina.

In Brazil, I have not seen any actuals yet but certainly that's -- we need to look at this on a market-by-market basis, the different opportunities that we have with this segment. Again, it's very different from the traditional CSDs. The effort that you needed with the modern trade will be [indiscernible].

I'm sorry, I guess I didn't catch the comment on Mexico. So, the idea is potentially a jointly owned bottler, jointly owned production facility rather than tag-ons to existing bottler production facilities in Mexico? I thought the sales and distribution aspect was the --

It's basically more the sales than distribution, but potentially in the future, when you need a large investment, let's say for a [indiscernible] product, that there is not a lot of capacity in Mexico. The perception right now is that probably will be owned by the bottlers as opposed to one company, because we want to carry the burden of that capital expenditure, that investment risk. But what kind of return is the bottler going to have, if someone does the investment for the production capacity?

So the vision right now is that probably those are things that will be owned by the bottlers, as we are owners, for example, of the canning facility in Mexico, in [Teletoranora], this cooperative. But right now, the vehicle is for sales and distribution.

What would this production facility -- I imagine there's going to be some lead time to actually get it up and running. Is there something you'll have a decision on in the next few months or --?

Not yet. We have not decided yet because obviously the volume base that we have allows to use third parties, let me call it [maceba] right now, so someone to start producing for us the products that we are selling. For the simple reason with similar products, so he's actually some other products. And transporters, we go to some of these juicers who are doing this milk products with Mickey and things like that. That obviously is driven by someone else now. As we get a scale, we need to think about what to put in our production facility.

Okay. And just a second question on Colombia, quickly. I guess I was a little surprised that the -- at the gross margin fall. Can you quantify or help us isolate what the impact of the returnable bottle purchase did to COGS, and what are the things we should be thinking about there, given that revenues were relatively solid?

Let me give you some flavor on Colombia. The main effect that we have there, that's obviously the very, very successful launch of Crush. We did have some investment in bottles and that. We'll get Alfredo to give a number on that. But very importantly, we did spend substantially higher on marketing expenses because of the introduction. Marketing, meaning a lot of media for the very successful introduction of Crush.

I think that one of the -- there is no question that one of our objectives in Colombia is to continue growing in the flavor segment. Remember, as I mentioned last quarter actually, Colombia is the only country where flavor segment is larger than cola's. You divide the industry flavors around, if I remember correctly, 53% of the industry. And we have a competitor that has a very, very strong position in flavors. So in cola's, we were basically alone with very high market share numbers, but in flavors we have a lot of opportunities. And I think that the production of Crush has created a very important momentum for our flavor [indiscernible] in Colombia. But we did spend a lot on marketing, and I'll ask Alfredo to comment on the [inaudible].

We will get back to you a more elaborate answer, Celso, but for sure our 1% of total sales could be attributed to the introduction of total -- of marketing expenses to total sales could be attributed to what we're doing with the introduction of bottles with Crush in the campaign.

But that would be a marketing expense or a COGS expense, sorry?

A marketing expense.

Right. Okay. So -- okay, we can talk about that off-line. I'll try to clarify. Thank you.

And our final question for today's conference is coming from the line of Francisco de Gortari from Accival. Please go ahead.

Yes. Hi, good morning. I just have two brief questions. The first one is we have seen a higher shift towards non-returnable presentations in most of your regions. Can we expect this trend will continue near term?

And the second one is if you can give us some color regarding the new marketing campaign on your Fanta portfolio [Viva Ramboca] in Mexico City.

Yes. Certainly non-returnables in some of the markets have continued to increase. We believe a lot in the return of PET as a way of presenting an affordable Coca-Cola product to the consumers, basically in areas where you don't have a lot of disposable income. So, but even though those efforts are there, we do see some increases in certain areas of non-returnable products. So it's a trend that will continue there. We might see some improvement in returnable products, for example in Argentina. We will continue to see the growth in returnables in Brazil. There are a lot of efforts in returnables.

Fanta is a product that has different attributes in different parts of the world. From Europe, where it is an adult product, all the way to children, as it was used in Mexico for a long time. We have a campaign with a new Splash bottle. There is a [indiscernible] different bottle that has had a lot of success in other areas. It's the same bottles that we are using for Crush in Colombia. So we have a lot of confidence that the new bottle will sell Fanta's brand equity. And obviously, we will continue to have a big push forward for Fanta. Fanta is a very important brand for us, what it has to do with [kind], children, and to a certain extent young adults.

Okay, thank you very much.

Well, thank you for the interest in our Company and as always, Alfredo and Julieta will be available to answer any remaining questions and we hope to see you next quarter. Thank you.

Operator?

Yes, I'm here.

This concludes our call, I guess.

Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This concludes your presentation. You may now disconnect. Good day everyone.