Boston Beer Company Inc (SAM) 2006 Q1 法說會逐字稿

Good day, ladies and gentlemen, we thank you for your patience and welcome to the first quarter 2006 Boston Beer Company earnings conference call. [OPERATOR INSTRUCTIONS] Today's conference is being recorded for replay purposes. I would like to send the conference over to your host for today's presentation. Mr. Jim Koch, Founder and Chairman. Please proceed, sir.

Thank you, good afternoon, and welcome everybody. This is Jim Koch. And I'm pleased to be here to kick off the 2006 first quarter earnings call for the Boston Beer Company. Joining the call from Boston Beer are Martin Roper, our CEO; and Bill Urich our CFO. I'll begin my remarks this afternoon with a few comments on our first quarter performance and the industry and then pass the microphone on to Martin who will provide an overview of our business. Martin will then turn the call over to Bill, who will provide the financial details for the quarter and the outlook for the rest of the year and immediately following Bill's comments we'll open the line for questions.

First off, we're pleased with our record first quarter 2006 depletion results. Boston Beer's core brand depletions increased by approximately 18% in the first quarter of 2006. This depletions growth appears to reflect the increased drinker appeal of the craft beer category that we saw in the second half of 2005 as well. We believe that Samuel Adams is well positioned to continue to grow with the craft beer category and maintain our leading brand position.

Our Take Pride in Your Beer campaign seems to be resonating with drinkers who are connecting with the Samuel Adams brand's authenticity and heritage and the superior quality of our beer. We believe that this communication launched in early 2005 has contributed to our depletions growth and has better positioned Samuel Adams to benefit from this category trend and has helped grow the craft category overall. I'll now pass over to Martin for a more detailed overview of our results.

Good afternoon, everyone. As Jim noted. We are optimistic about the depletions growth achieved in the first quarter. The quarter was a record quarter for the Company depletions, and our first double digit growth quarter since the launch of Sam Adams Light. This built nicely on the growth in the second half of 2005. It appears we have gained some brand momentum. It should be noted that the first quarter 2006 did benefit from an extra selling day and also from an easy comparison to a soft first quarter in 2005.

The depletions growth achieved through the first quarter reflected improvements in almost all of our major brands. During the first quarter we saw growth in each of our beer brand families and all main beer starts. Growth was strongest in Samuel Adams Seasonals, Samuel Adams Brewmasters Collection and Twisted Tea and also positive for Samuel Adams Lager and Sam Adams Light. We believe that our Samuel Adams brand has benefited from the strength of the craft category which continues to experience growth from increased consumer interest in drinking more full flavored, better quality beers.

We also believe that Samuel Adams brand has benefited from our increased investments in brand sports and sales force. The improvement in the Samuel Adams family trends during the quarter, suggest that the Samuel Adams brand continues to maintain strong brand equity with drinkers. We believe our brand health has been positively impacted by the Take Pride in Your Beer communication. We have been airing the Take Pride in Your Beer television commercials nationally since late March of 2005 and are continuing to develop this message consistent with Samuel Adams' positioning in the growing craft beer category.

We believe that strong Samuel Adams equity is vital to the continued health of our business and remain committed to investing behind it as the number one priority to ensure long term success. We continue to test and evaluate all of our initiatives to determine their effectiveness and to identify the optimum investment required to generate sustainable volume growth.

During first quarter 2006 our Twisted Tea brand family showed double-digits depletion growth. We plan to invest more towards Twisted Tea this summer in order to grow the brand in a currently flat flavored malt beverage category. While we are excited by our Twisted Tea trends it is unclear whether they will continue through the summer as the comparisons become more difficult.

In the first quarter we saw shipment volume growth for core products up 13.7%. And through our pricing initiatives we increased net pricing for our core products during the year by approximately 2%. However, we did see significant cost pressures continue in the first quarter, particularly in our freight, packaging and other energy related costs. We currently expect that if volume gains continue for the rest of the year, we'll be able to reach our previously communicated earnings goals despite these cost pressures. Nevertheless, we have intensified our review of all opportunities to optimize both revenue and costs so that we can continue investing behind our brands at appropriate levels for long term growth.

During the quarter we continued to maintain a strong balance sheet with adequate cash positions to support our business strategy. Subsequent to April 1, 2006 we received the anticipated notice from Miller Brewing Company terminating our existing contract relationship with them effective October 31, 2008. The termination is in accordance with the contract and the 2003 arbitration award. While we believe that there will be adequate other contract capacity to absorb our production requirements at acceptable economics, there's no guarantee that our current economics can be maintained.

Accordingly, we are accelerating the process of completing a review of our long term production strategy. If we choose to execute a strategy of 100% ownership of our production capacity and were to build a brewery, we currently estimate that this could require a capital investment of 70 to 90 million over two-years, with the expectation that there would be some improvement in operating and freight costs resulting from this investment. This estimate could change based on the actual production capacity and capability built and we continue to evaluate all options.

Our shipments and orders in hand suggest that core shipments for the second quarter 2006 could be up approximately 17%, when compared to the same period in 2005. Actual shipments may differ, however, and no inferences should be drawn with respect to shipments in future periods. April year-to-date completions are estimated to be up approximately 16% over 2005. Now, Bill will provide the financial details.

Thank you, Jim and Martin. Good afternoon, everyone, the Boston Beer Company realized earnings of $0.13 per fully diluted share in the first quarter of 2006, compared to $0.27 per fully diluted share in the first quarter of 2005. The decrease in net income was mainly due to higher costs of goods sold, freight fuel costs, increases in salary and benefits, and the timing of certain advertising, promotion, and selling expenses. Cost of goods sold increase was due to increases in packaged material costs and in production costs. Mainly due to utility cost increases and a shift in product mix.

We also experienced higher production and excise tax costs related to Twisted Tea due to changes in federal formulation requirements and regulation changes in certain states. For the 13-week period ended April 1, 2006, we recorded first quarter net revenue of $56.9 million which was a 16.8% increase over the same period in 2005. Net revenue per barrel for our core products increased by 2.1%. And this was primarily due to price increases implemented in the first quarter offset partially by a shift in the package mix from the cases to kegs.

Depletion volume for the quarter was approximately 292,000 barrels, this 18% increase over the first quarter 2005 was primarily a result of increases in Samuel Adams brand family and Twisted Tea buying. We posted double-digit percentage depletion increases on all Sam Adams brands with the exception of Samuel Adams Boston Lager. Twisted Tea volume also posted double-digit depletion increase for the first quarter of 2006. We currently believe inventories at the wholesalers at the end of the quarter were at appropriate levels.

Gross margins for core products as a percent of net sales decreased to 57.8% from 61.4% in the first quarter of 2005. This was principally due to increases in utility costs, packaging costs, production costs, and increases in state excise taxes related to Twisted Tea, which was partially offset by increases in pricing.

Our advertising, promotional, and selling expenses were up for the quarter by 5.6 million compared to the same period last year. This was primarily the result of an increase of approximately 3 million in point of sale merchandise expense, promotional commitment expenses, and advertising over the limited spending in the first quarter 2005 prior to the launch of the "Take Pride in Your Beer" campaign March 2005. Increases in freight costs, selling, salary, and benefits cost, and stock competition costs also contributed to the increase.

General and administrative expenses were up by $900,000 compared to the same period last year. These increases due to salaries and benefit costs, stock compensation expense, insurance costs, and legal fees. Our capital expenditures for the first quarter totaled 1 million. This reflected normal operating capital spend.

During the 3 months ended April 1. 2006, the Company repurchased 1.9 million of its class A common stock. Through May 9, 2006 the Company has purchased a cumulative total of approximately 7.7 million shares of its class A common stock for an aggregate purchase price of 89.2 million. And had 10.8 million remaining on 100 million share buyback expenditure limit.

Based on current known information, we are facing overall production and freight cost increases for the full year 2006 of between 5 and 10% over full year 2005. This could vary depending on actual energy costs in 2006 as well as several other factors. We estimate that our gross margin could be down 1 to 2% below full year 2005. Based on these assumptions, we still expect our 2006 earnings per diluted share to be between $1.10 and $1.18.

Absent any significant change, in current plan levels of brand support and before accounting for the impact of the adoption of FASB statement 123R the share based compensation. Our current estimate for full year's earnings per diluted share is based on the assumption that volume increases above the original expectation for the full year fully offsets these cost pressures. The Company estimates that the adoption of FASB 123R will reduce earnings per share by between $0.06 and $0.11 in 2006. Including a $0.01 per diluted share impact which has been recorded in the first quarter 2006. The impact for the year will ultimately depend on the vesting of certain performance based options.

Our ability to achieve these types of earnings growth in 2006 is dependent on our ability to achieve challenging targets for volume, pricing, and costs. We are continuing to pursue cost savings initiatives and pricing opportunities to preserve our economics and allow for continued support of our brands with the appropriate investment in order to grow volume and earnings. We will now open up the call for questions.

Thank you very much, sir. [OPERATOR INSTRUCTIONS] Our first question comes from the line of Laurie Hahn of Deutche Bank. Please proceed.

Hi, everyone, how are you? I wanted to dig into costs a little bit more. Wondering if you could talk about how you see the comps on advertising, promotional and selling playing out for the balance of the year. And then just a little more detail if you can on the cost saving initiatives you talked about?

Hi, Laurie, it's Martin. I think when we put our plans together for the year, we planned an increase in advertising and selling expenses that was driven by planned freight increases and planned brand increases and planned head counts, and I think it's fair to say that we're sort of operating according to plan with the exception of freight that has come in significantly higher due to what's going on with diesel surcharges and sort of trucking rates. So looking forward, I think we're still on plan except the freight number which is providing some pretty significant cost pressures on us as we head into the rest of the year. And Laurie, the second part of your question?

Just some more detail about some of the cost initiatives you said you're looking at.

Well, we're aggressively trying to reduce our use of various utilities, electric and natural gas at our breweries in Cincinnati as well as trying to negotiate packaging costs down, we're also trying to increase the efficiency with which we ship products, increasing the number of cases on trucks, where possible making sure the utilizations are correct rates.

With that -- and then also in a number of other areas in the Company, both G&A and advertising and promotional expenses, we have ongoing efforts to try and find cheaper sources for the same effective materials, and those efforts are proceeding -- having said that, a significant part of our cost structure is sort of wrapped up in sort of annual contracts that are locked in. And one of the things you're seeing with our costs on the production cost side is the effect of the cost increases the first of the year, that are in our sort of contractual production costs that are being driven up by both sort of CPI increases but also by energy increases. So on that piece of the cost there isn't a huge amount we can do.

Okay.

During the year. And until we get to the next year, and hopefully the inflation effects on those contracts aren't as great or maybe even rescind. That being said, we do have some flexibility in moving production locations around and obviously we continue to evaluate all of those factors.

So you think it's fair to say, you're going to have easier comps on it from a margin standpoint later this year?

I think we tried to give an expectation for what we thought the full-year gross margin would be and why we expected it to be down, versus last year; we expect it to be improved versus the first quarter.

Okay. Thanks.

Thanks, Laurie.

Thank you very much, ma'am. Ladies and gentlemen, your next question comes from the line of Andrew Sawyer of Goldman Sachs. Please proceed.

I just had a couple of quick questions. First, Corona and Constellation talked a bit about taking price increases much more opportunistically and more regularly than the lump every couple year price increases they've taken in the past. Has that created an opportunity for you guys to get more pricing? And then my second question comes down to the new brewery facility, and I was wondering if you could get us some sense of how much the freight cost savings would be from having a second production location? Thank you.

With regards to the pricing in the marketplace, we have yet to see any action from, or any significant action from Corona or either of their importers. And obviously, that's things we watch for, and if we were to see something we would endeavor to move. We were successful in the first quarter at putting through pricing that we increased our net revenue by approximately 2.1% per barrel and our hope is that that would continue for the full year. And if other competitive players were to move, we are in a position where we could make adjustments accordingly.

With regard to the second part of your question, Andrew, the freight reduction, I think that's still something that we're analyzing, obviously, if we were to locate that brewery closer to some of our core markets we would expect to see a significant freight reduction, the exact site of which we can't quantify for you today. But with diesel prices going up, obviously, that gets more significant and it's certainly a factor going into the decision making as to whether or not to build a facility or continue the contract strategy.

Okay. Can I also follow-up on the brand support comment, can I just get a clarification? In the release it reads as though you're keeping your full-year guidance and expecting stronger sales, but that offset by higher costs. Have you actually raised your brand support budget relative to where you were entering the year? Has that been held flat?

I think at this point in time, as we indicated in the press release, we expect the incremental volume to cover the incremental sort of cost items that we raised, and as I think mentioned in my comment to Laurie, we're currently still on plan for advertising and selling expenses excluding the freight line item which obviously has gone up higher than we anticipated.

Okay. But you're--.

And we account for freight in our selling expense line item.

You're keeping at your discretion to potentially taking -- raising that in the future if the sales line continues to come in this strongly.

Well, one, I think we expect it to be higher than planned because of the increased freight costs that are coming in. And those have been driven both by diesel and also the increased volume.

I meant the discretionary portion.

The discretionary portion, I think we're currently still on plan. But as we get a bit more comfort and as to which elements of our marketing mix are working, we are perfectly willing to change our spending both up and down as is appropriate based on the effectiveness we see in the marketplace.

Thank you.

Thank you very much, sir. Ladies and gentlemen your next question comes from the line of Bryan Spillane of Banc of America. Please proceed.

A couple of questions first. I just want to -- because I haven't heard you talk enough about the advertising budget, I want to hear it one more time. If I thought about going into the year, your top line expectations were to grow if I remember this right, in line with the craft beer category, and I guess my modeling, I was sort of assuming that you would grow your advertising and promotion sort of in line with that type of growth rate. And so I would assume, for the full year, that would be a similar type growth rate year-on-year for that line?

I don't think, historically we've given direct guidance on that line. I think, as you know, the way we like to address it is give some sort of volume guidance and give up a bottom line guidance, if that's what your model came up with, then your model is obviously right.

Okay. And then it's just. You look at the first quarter it was up 28%, that is not the run rate for the year.

Well, I would -- with regards to the first quarter, what I would suggest you do, is take a look at Q1 '04, '05, and '06. And in '05 we had lower spend which we commented on at the time due to some delay in expenses as we prepared for all out our new campaign. That was delay in expenses both in sort of media, but also in point of sale. The comparison that you see, the '05 to '06 comparison on the advertising promotional line is quite unfavorable because of those delayed expenses in '05.

Okay. And then if I look at the cash flow for the quarter, it was pretty strong, and it looks like there's proceeds from sale of trading securities if I'm reading this right, of about 28 million, 28.5 million, what is that?

We'll let Bill handle the cash.

Hi, Bryan.

Hi.

Sure, through the quarter, and really at the end of the quarter, we rebalanced our portfolio, and so it actually, the way it has to be reported is through the sale here. But it's just a rebalancing of our portfolio, if you look at the balance sheet and the cash flow.

But that's cash in the door?

Well, it was either cash or short term investments, and as we rebalanced it ended up being cash. And we have reinvested that money.

Okay. And there's no P&L impact for that at all?

No.

Okay. Okay. And then -- I don't know if you've talked about this, but any fuel surcharges? Is there any thought on that? Going-forward?

Bryan, it's Martin. We obviously look at that, I think -- we are bearing a disproportionate amount of the increase in freight costs because we actually sort of pay the freight, to have the product delivered to our wholesalers and sort of guarantee our wholesalers at deliver price. We're being unfairly burdened at this point in time. With that said, our wholesalers are also experiencing fuel cost increases of their own in the delivery, and we've had discussions with a number of them.

The way we look at it, and the way we are currently thinking about it at least is that a fuel surcharge is de facto a price increase to our wholesalers and what we've heard back from our wholesalers is they would just pass that on to their customer, the retailers. We are approaching this more in the line of where can we take price increases so that we control what the end price point to the consumer is, at least as far as we can. As opposed to saying arbitrarily, here's $0.10 a case, fuel surcharge, wholesalers do whatever you want to with the end pricing. Which we think is an inefficient way to go about it. We plan to continue to look at pricing throughout the summer and where appropriate, to endeavor to take more.

Okay. And given where the volume growth being as strong as it is, you're confident in having the capacity to meet that demand?

Well, I think when you have the growth that we've had, you obviously have some creaks and strains. But at this point in the time, yes, we're probably months away from peak shipping months, at this point in time, it looks like we're going to squeeze by. That's not to say that something unforeseen won't occur like shortage of glass or something like that. We'll just have to see.

Okay. And then finally, I guess for both Jim and Martin, just -- you've seen Heineken light in the market now here, which looks like it's gotten off to a pretty strong start. And just a lot more investment in the better end of the beer category. Any impact on your business at this point, and is it helping grow better beer in general?

So far, Bryan, we haven't seen any negative impact of the Heineken Light rollout. I think they've done a good job with it, and what we have seen is increased wholesaler and retailer attention to the better light beer category. Something that we predicted would happen several years ago, and it seems to be coming true today and as a result of that increased attention I think it might even be helping Sam Adams Light.

And along with that, we have not seen a negative impact so far on our Sam Light distribution. Particularly on premise, which was my biggest area of concern. The fact that wholesalers and retailers are more interested in better light beers has enabled us to hold our Sam Light distribution on premise as Heineken has come in to the category, and they're very different in flavor profile. The Sam Adams light is Amber, it's malty, it's smooth. And the Heineken Light I think is more in the general Heineken flavor profile, a little crisper and drier.

Okay. Thanks, guys.

Thank you very much, sir. Ladies and gentlemen, your next question comes from the line of Cheryl Gedvila of Prudential Equity Group.

Continuing with that thought, could you comment a little bit more about what type of activity or what kind of performance you've seen between the on premise and the off premise channels during the quarter?

Well, both of them have been strong. We've been very happy with our draft business which is pretty much exclusively on premise. And we've been fortunate enough to get double-digit growth in the off premise as well. So we feel very good about both of them at this point.

Okay. Great, and then also, how are inventory levels, I think as you went into this quarter they were a little bit higher, if I remember correctly. Where are they currently?

I think we currently think that wholesaler inventory levels are appropriate based on sort of the volume of business they're doing, I think we finished the year with wholesaler inventory levels perhaps a little higher than we thought was appropriate, and you'll note that our depletions show trends -- we're ahead of our shipment trends. We think that's probably equalized out and we're pretty comfortable with where things are right now.

Great. Just one last question, regarding a potential brewery. It seems like a lot of the industry sources indicate that you're sort of settling on the New England area or Massachusetts and I was just wondering, is that -- is the East Coast your preferred area, or would you consider something on the West Coast at this point. Wasn't some of your original Miller contract brewery done on the West Coast and then moved to the East as one of those facilities closed? Now given rising freight costs and really not a lot of end in sight to those, is that something you would explore again or does a beach head on the West Coast not really make sense?

Well, right now our focus is on a brewery in the Boston area. And that's what would be required I think to replace what we might lose if we lose Miller. And the East Coast is a priority at this point. The West Coast is a secondary priority. And we could supply that from Cincinnati.

Okay. Thank you.

Thank you very much, ma'am. [OPERATOR INSTRUCTIONS] Your next question comes from the line of Matt Sherwood of ZS. Please proceed.

Hi, guys, good volume quarter in a tough environment. Just had two quick questions. One on sort of a housekeeping question. Just receivables jumped up in the quarter, is there anything specific or just one quarter anomaly?

Yes, hi, Matt, it's Bill. No, it's just timing. And you're looking at it versus the end of the year. Or even last year. It's timing in terms of the way that the month end falls.

Great. And then just a little bit more theoretical. I just wanted to understand, I know you haven't done the whole analysis on the brewery. But when you do do that, can you just walk through how you're going to look at it. Are you looking for a certain IRR or just for something to be accretive or versus a buyback, just wanted to understand that.

We're still in the process of evaluating all the options, both West Coast and East Coast. And an additional sort of comment on Jim's previous comment, Miller was providing both West Coast and East Coast production for us, in their replacement of our Stroh contracts. So both coasts are being evaluated as to what is the best thing to do.

In order to do that, we have to make some pretty tough projections as to what freight costs and other cost factors are going to be in 2, 3 years out. Because a project like this obviously has a number of years lead time to it. As well as we evaluate the alternatives, trying to evaluate what contract prices will be, and contract capacity availability will be in that same time frame. We're putting together models to have all of those assumptions in them. And we're trying to work out what is the best decision for the company.

Our initial estimates of owning capacities suggest that there are some operational savings, versus contract prices, coming from the freight piece and the operating cost, and obviously the tradeoff there is pretty significant capital in initial investment and then some pretty significant ongoing capital. We're just trying to pull those numbers together as best we can with as good as accuracy as we can. Given that they're quite forward looking. We'll be making a decision on what we think is right for the Company strategically long term.

Quickly, when you do pull the numbers together, do you have a certain return on capital criteria relative to all these estimates or, just curious how you think about it?

We're certainly applying discounted cash flow methodologies to that. And we're using discount rates, one, we haven't disclosed what our internal hurdle rate is. I'd rather just comment that we're using rates that you would ascribe to a company of our size and shape and risk.

But not just what you're earning on your cash.

As I said, we haven't disclosed the number.

Thank you.

Thank you very much. [OPERATOR INSTRUCTIONS] At this time we have no further questions in queue.

Great.

Thank you, everyone. For joining our first quarter call. And we look forward to speaking to you next quarter.

Thanks, guys.

Bye.

Thank you very much, gentlemen. Thank you, ladies and gentlemen for your participation in today's conference call. We appreciate your attendance and you may now disconnect. Have a good day.