Boston Beer Company Inc (SAM) 2006 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the second quarter 2006 Boston Beer Company earnings conference call. [OPERATOR INSTRUCTIONS] I would now like to turn the presentation over to your host for today's conference, Mr. Jim Koch, Founder and Chairman. Please proceed, sir.

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

Once again, we are pleased with our quarterly depletions growth. Boston Beer's core brand depletions increased by approximately 17% in the second quarter of 2006. This was another record quarter for us in terms of depletion volume and in shipment volume. The continued growth of the Craft beer category, in which Samuel Adams is the leading brand, demonstrates a strong consumer trend of trading up to more full-flavored, richer-tasting beers. We believe that our current brand messaging is resonating with beer drinkers and this is being reflected in the volume growth of both the Craft beer category and our beers. It appears that drinkers are more open to Craft beers than in recent years and appreciate the authenticity, the heritage, and the quality that the Samuel Adams brand has to offer. I'm excited by the growth of the Craft beer category and the role that we can play in expanding that category to more drinkers in retail locations. It's a great time to be an American beer drinker and despite the cost pressures that Bill will talk about, it's also a fun time to be an American Craft Brewer. I will now pass over to Martin for a more detailed overview of our results.

Good afternoon, everyone. As Jim noted, we are quite pleased with the depletions growth achieved in the second quarter. During our record second quarter, we saw continued growth in our Samuel Adams and Twisted Tea brand families. And most all of the Samuel Adams beer styles. Growth was strongest during the second quarter in the Samuel Adams Seasonals, Samuel Adams Brewmasters collection and Twisted Tea, but also positive for Samuel Adams Boston Lager. The health of the Sam Adams brand remains strong halfway through the year, as evidenced by the second quarter in a row of double-digit volume growth.

All styles in the Samuel Adams brand family show depletions growth during the first six months of the year. We believe our Samuel Adams 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 March of 2005 and are continuing to develop this message consistent with Samuel Adams positioning in the growing Craft beer category. We plan to continue to invest in the brand as appropriate in order to maintain our lead brand position within the Craft beer category and to help drive Craft beer category growth.

While Sam Adams light declined slightly in the second quarter due to competitive product introductions, we are encouraged about the bright future of a better light beer and are prepared to invest in Sam Adams light to grow our brand in this emerging category. Our Twisted Tea brand strength continued with double-digit volume increases, although volume growth did slow down in the second quarter of this year. In the second quarter, we saw shipments volume growth of core products of 22.8%. Our overall pricing remains healthy. We have been able to maintain the pricing increases taken in the first quarter and we plan to implement some additional price increases in the third quarter. Significant cost pressures related to production and shipping costs continued in the second quarter. We currently expect that if our volume trends continue for the rest of the year, we will be able to exceed our previously-communicated earnings goals despite these cost pressures. Our increased brand support. And the costs associated with our evaluation of additional investments in brewery ownership. We will also continue to evaluate appropriate levels of capital investment and investment in our brands to meet long-term growth goals.

In April 2006, we received the anticipated notice from Miller Brewing Company, terminating our existing contract relationship with Miller Brewing Company effective October 31, 2008. This termination is in accordance with the contract and the 2003 arbitration award. While we believe that there will be other contract capacity adequate to absorb our production requirements there is no guarantee that the current economics can be maintained. Accordingly, as previously reported, the Company is assessing the viability of brewery construction and the purchase of land on which to build a brewery. We believe this is an appropriate strategic investment based on the growth of the category and known and unknown risks.

We have identified a site in Massachusetts from which we might be able to construct a brewery to serve our future brewing capacity needs. We have initiated an evaluation of this site and the permit process involved and we intend to sign a purchasing sale agreement for this land within the next few days. We anticipate completing this evaluation by the end of the year and are in discussions with engineering companies, local towns, and state officials as we attempt to assess the viability of this site.

We have revised upwards our capacity needs in New England, based on healthy craft category growth, our own growth trends and higher freight costs and are now exploring production capacity in excess of 1 million barrels of Samuel Adams and Twisted Tea. Our current estimates are the construction of such a facility could cost between 120 million and $160 million. With the ultimate cost dependent on the final specifications, including the initial capacity and capabilities and expansion potential and site-specific costs and the like. We are also evaluating financing options for the potential new brewery investment and are confident we will be able to secure financing sources sufficient to meet our requirements.

Our shipments and orders in hand suggest the core shipments in 2006 could be up approximately 14% 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. July year-to-date depletions are estimated to be up approximately 17% over 2005. Now Bill will provide the financial details.

Thank you, Jim and Martin. Good afternoon, everyone. The Boston Beer Company realized earnings of $0.56 per fully diluted share in the second quarter of 2006 compared to $0.35 per fully diluted share in the second quarter of 2005. The Company's adoption of FASB 123R this year reduces net income for the second quarter of 2006 by approximately $400,000 or $0.03 per diluted share.

The increase in income was mainly driven by higher net revenue resulting primarily from four shipment volume increases, which was offset by increases in cost of goods sold, freight fuel costs, increases in salary and benefits and increases in certain advertising and promotional and selling expenses. For the 13-week period ended July 1, 2006, we recorded second quarter net revenue of $79.3 million, which was a 28.7% increase over the same period in 2005. Net revenue per barrel for our core products increased by 4.4%. And this was primarily due to price increases maintained from the first quarter combined with a shift in the package mix from kegs to cases and a shift in our product mix. The increase in cost of goods sold for the quarter was due to increases in package material costs and in production costs. Mainly due to utility cost increases, production efficiencies, and a shift in package and product mix.

We also experienced higher production and excise tax costs related to Twisted Tea. Due to changes in the federal formulation requirements and the regulation changes in certain states. Completion volumes for the quarter was approximately 401,000 barrels. This was an approximate 17% increase over the second quarter of 2005. This was primarily a result of volume increases in our Sam Adams and Twisted Tea brand families. We posted double-digit percentage depletion increases in Sam Adams Brewmasters Collection and Seasonals. Twisted Tea volumes also posted double-digit depletion increase for the second quarter of 2006. We believe that inventories at wholesalers at the end of the second quarter were at appropriate levels.

Gross margin for core products as a percent of net sales decreased to 59.4% from 60% in the three months ended July 1, principally due to higher package materials, utilities, and fuel costs, increase in costs related to production and efficiencies, increases in state excise tax, related to Twisted Tea and a shift in package and product mix. These cost increases were offset partially by increases in pricing. Our advertising, promotion, and selling expenses were up for the quarter by 4.3 million, compared to the same period last year. This was primarily a result of increases in freight cost, sales for salary and benefit costs, stock compensation expense and promotional expenses over the second quarter of 2005.

General and administrative expenses were up by 1.4 million compared to the same period last year. Due to an increase in salary and benefit costs, stock compensation expense, consulting cost, and legal fees. Our capital expenditures for the second quarter totaled $1.8 million which included a purchase of land in Cincinnati, Ohio for potential future expansion of the Cincinnati brewery production capabilities and with residual being normal capital spending.

During the three months ended July 1, 2006, the Company repurchased 3.4 million of its class A common stock. Through August 4, 2006, the Company has repurchased a cumulative total of approximately 7.8 million shares of its class A common stock for an aggregate in purchase price of 92.6 million and has 7.4 million remaining on $100 million share buyback expenditure limit. Based on current information, we are facing overall production and freight cost increases of between 6 and 9% over the full year 2005. Which could vary depending on energy costs in 2006 as well as other factors. We estimate that gross margins will be down approximately 2% below full year 2005. Based on these assumptions, we now expect our 2006 earnings per diluted share to be between $1.16 and $1.31, absent any significant change in current planned levels of brand support and based on the assumption that volume increases over the original expectation for the full year which would fully offset these cost pressures.

The earnings per share range is prior to accounting for the impact of the adoption of FASB statement 123R share-based compensation. Which was not included in the prior year earnings per diluted share of $1.07. The Company estimates that its adoption of FASB 123R and the impact of performance-based stock options, will affect earnings per diluted share by between $0.06 and $0.11 in 2006. Including a $0.04 per diluted share impact which has been recorded in the first six months of 2006. The range for the year will ultimately depend on the vesting of certain performance-based options. Our ability to achieve this type 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 saving initiatives and pricing opportunities to preserve our economics and allow for continued support of our brands with appropriate investment in order to grow volume out. We will now open up the call for questions.

Thank you. [OPERATOR INSTRUCTIONS] And your first question will come from the line of Cheryl Gedvila from Prudential. Please proceed.

Good afternoon.

Hi, Cheryl.

Hi, Cheryl.

Could you talk a little bit about what you saw in maybe the channel mix in the quarter? In terms of on-premise and off-premise?

We didn't see any significant shift there other than what you would expect, maybe because there was some strong growth in the Brewmasters collection, which is primarily off-premise. Our volume shifted a little bit that way. But nothing really out of the ordinary.

Okay, and just one other question about the plant that you're looking at -- the brewery you're looking at adding. When would you really need to break ground on this facility to have it up and running in time?

I think it's something we're looking at. We'd certainly like to have, if we did move forward in this direction, we'd like to have something up and running sometime in 2008/2009, our contract with Miller expires mid to end 2008. So in order to do that, we certainly need to make decisions sort of during the latter half of this year, to actually break ground could be as late as middle of next year.

Okay. And are there any -- are there any tax incentives that you've been offered related to where you're looking at that you can talk about or?

We have -- as a site that we specifically are looking at that we potentially could sign a PNS in the next couple of days, we have, through the town and the state of Massachusetts, received what's called TIFs -- tax incentive funds, to assist with offsetting for the real estate tax issues and some credit towards Massachusetts state income taxes but in the scheme and the size of the project these are somewhat -- there's something marginal. They're not significant numbers.

Okay, and just one other question on the amount that you'll spend on building the facility. I know some of that has increased because of the capacity increase that you're looking at, but how much is the input cost of steel playing into that increased figure?

Well, that's certainly part of it. I think the bigger impact has been basically the scope of the project that we've expanded based on what we believe our brand trends are likely to be and what we're seeing in the category going on. Plus, as the freight cost has increased, the benefit of having a brewery more centrally located to our northeast business has increased, but also we're also seeing price pressures from, what's going on with stainless steel pricing and also the euro.

Okay, great, thank you very much.

And your next question comes from the line of Laurie Hahn of Deutsche Bank. Please proceed.

Hey, everyone.

Hi, Laurie.

Hey, Laurie.

In your release you talked about your willingness to continue to invest in the brands and I wondered if -- what has changed, and how much you're planning to spend for the rest of the year? Especially on Sam Adams light, which you mentioned specifically in the release?

Well, I think, Laurie, we're obviously excited by our current program, the "Take Pride in Your Beer" and the investment in that program in total this year will be up over last year. We're still in the process of analyzing different elements of that program for the fourth quarter and therefore don't have definitive numbers to provide you with as to what our full spending is. That's sort of one of the reasons why our sort of earnings range for the full year is so broad. With regards to light, we're in the process of adding light to that communication. We took a little bit of a pause on Light communication to allow the competitive brands to introduce and to play out and that spending on Light will increase in the next few months.

Okay. And then on the brewery, if you could provide any more detail on how you expect it to change your P&L, any detail there? And also on what type of financing you're looking at, just any commentary there would be helpful.

Sure. It's a little early for us to be providing any serious, well-informed guidance as to how this will impact the P&L. I think I would start off by saying that if we do choose to go forward, it would be a combination of both a strategic investment as well as being a financial investment based on the evaluation of what we believe the contract economics to be and the contract environment to be two, three years from now. That obviously involves some pretty deep thought and guesswork as to what's going to be happening. But as we look -- as we have those numbers, we will, I think try to share them. I think it's just way too early. With regards to financing, we've obviously been very blessed with a company with very strong cash flows, which has put us into a very advantageous position to finance even these large numbers. While we may need to borrow some money to support this and other investments we may need to make in Cincinnati, we are very comfortable that we will be able to secure this money at attractive rates.

Okay, thanks.

Thank you. Your next question will come from the line of Andrew Sawyer of Goldman Sachs. Please proceed.

Hi, thanks. Hello, guys.

Hi, Andrew.

Hi, Andrew.

I just had a quick question. On your thinking on the fall price increase and how you're thinking about that in relation to your 2007 cost environment and also if you could talk a little bit about any advantage you might have there versus competitors that have a bit more aluminum exposure?

Okay. Let's start off on the pricing. I think our pricing strategy is always to look for pricing opportunities whenever they present themselves. We believe that based upon what competitive pricing activity is anticipated to be in the second half of the year, that there will be some opportunities to move and therefore we're putting in some plans to move slightly in some markets. As we look into 2007, I think our sort of starting point goal will be to try and realize similar sort of net pricing increases that we've seen the last two, three years in the order of magnitude 2%, and then try and work on how to do that. Until we actually get there and understand what the competitive pricing situation will be. It's tough to tell when that would happen or how it would happen.

With regards to our cost situation, we are obviously all draft and bottled products and have no aluminum exposure like the big brews do. So, we're therefore in a totally different world. Having said that, on the glass side, the bottle suppliers are experiencing similar very significant cost pressures from energy costs and also labor costs and so as we look to 2007, I think we'd expect to see cost increases almost across the board on materials driven by energy and freight costs and then within our brewing environments, pretty similar, actually, driven by energy and labor costs and then within our own sort of operating system, we have three, four brewing sites throughout the U.S., but we're not particularly in a world located to minimizing our freight costs. So, we're pretty exposed to freight cost movement, as well. So, as we look to 2007, I think we see a continuation of the cost pressures that we're currently under and obviously it's difficult to project right now exactly what that would look like, but we should have more information, certainly sort of first quarter next year, but maybe in our next discussion.

Just for clarity, just speaking in principal, I guess when you look at the brewery decision, on the plus side you have the fact that contract brewing -- the reasons to do it are the contract brewing rates are going higher. You could cut freight costs by producing more in the northeast as opposed to the negative, it's just a pretty big capital commitment. Is that really the nuts and bolts of the decision?

Andrew, yes, I think that's right. Essentially, it's a trade-off of operating costs and as you lay them out, sort of versus initial capital and then, frankly, after some period, ongoing capital. So from a financial point of view, would be a trade off of probably some EBITDA gains against this significant capital investment.

See, we don't have much -- I guess one thing that's kind of tough for us on this side is that if you guys had to go to the capital markets for -- what are you saying, like 70 or $80 million, I guess we don't really have much of a sense of how your borrowing costs look or -- I guess you guys have some lines of credit, so, how much of that you'd have to go to the public markets with. Is that something you can give us any sense on?

I think it's probably a little early for us to do that. I think I will again come back to the fact that historically we've generated fairly strong cash flows and therefore, people have been willing to lend to us. I'd lead you then to sort of look at our line of credit agreements as they currently exist and as they previously existed because we actually scaled them back about 12 months ago, 2 years ago, I think. As recently as 2, 3 years ago, people were willing to lend us pretty significant sums of money. I think that will help you in your thinking on that.

Thanks a lot, Martin.

And your next question comes from the line of Bryan Spillane of Banc of America. Please proceed.

Hey, good afternoon, guys, can you hear me okay?

Yes, we can, Bryan.

All right. Great. Two questions. First, I just want to make sure I understand, on gross margin, if I'm looking at this right, your gross margins year-to-date are down about 2%. They were down more than that in the first quarter. Seems like they may have outperformed your expectations a little in the second quarter. In the second half of the year, is there anything that would lead to them to sort of sequentially get worse? Or are you just being a little bit conservative in terms of whether or not the pricing sticks? Seems like sequentially the margins have improved a bit. Maybe that's not fully appreciated in your guidance at this point.

Well, certainly one of those things in the second quarter is very significant seasonal volume that helps us with our gross margins relative to our fixed cost situation. So I would just say that I think if we were doing a full year of plan, we might anticipate gross margins to be a little lower in the first quarter and the fourth quarter than they would be in the second and third and maybe Bill has anything to add to that. No, he doesn't. Does that help?

Yes, that does help. It does help.

Okay.

And then second question was just on -- just going back to the decision to build the brewery. I just want to make sure I understand -- there's potential that you will sign an intent to purchase the land in the next couple of days. You're still trying to go through -- or you still have some hurdles to get through before you actually decide to break ground. And I guess some of that would be permitting -- some would be the feasibility. So if I'm right, does that mean there's a potential that you could sign an agreement and then break it at some point? I guess that first. Am I understanding that right?

Sure -- well, obviously we haven't signed an agreement yet so I can't talk about a signed agreement. But what we are talking about is an agreement that would give us the right to purchase the land, it would also give us the right to not purchase the land at some small financial fallacy, in the event that we're unable to secure permitting or we decided not to proceed with the project because we don't like it.

So signing -- what you would be signing, or what you may sign over the next couple of days doesn't even necessarily guarantee that you're going to build a brewery? All it does is -- it gets you closer to that, it's a piece of land that you're going to look at?

It clears the pathway at a particular site to move towards initiating the project, but it doesn't necessarily indicate us being any closer to pulling the trigger on the total project.

Okay. And if -- the time is starting to go by pretty quickly, if you determine that that piece of land isn't viable or if you can't get the permitting, what are the other options? Are other options using another Brewer's capacity or would it be just finding another piece of land? Are there other options on the table beyond just building a brewery on that site?

Well, sure, I think as in any sort of case like this, there's a multitude of options being evaluated and, indeed, maintained in order to ensure that we have backups. So those would range from additional land pieces that might be available to existing contract relationships we already have, which potentially could carry us, although at some freight penalty, to potentially new contract relationships.

So, you haven't necessarily ruled out doing something other than building a brewery, I guess, is what I'm trying to--?

I'd say that the -- we have -- yes, you're right. We have not ruled out not building a brewery.

All right, great. Thank you.

And your next question comes from the line of Tim Gordon of LaGrange. Please proceed.

My question has been asked. Thank you. Sorry about that.

[OPERATOR INSTRUCTIONS] And there are no other questions in the queue so I will turn it back to our speakers for any final remarks.

Thank you for joining us on the second quarter call. And we'll talk to you in the third quarter.

Thank you for your participation in today's conference. This does conclude the presentation and you may now disconnect your lines. Have a great day.