Boston Beer Company Inc (SAM) 2006 Q3 法說會逐字稿

Welcome to the third quarter 2006 Boston Beer Company earnings conference call. [OPERATOR INSTRUCTIONS] I would now like to turn the presentation over to the host of today's call, Mr. Jim Koch, Founder and Chairman. Go ahead, sir.

Good afternoon, welcome. This is Jim Koch. I'm pleased to be here to kick off the 2006 third quarter 2006 earnings call for The Boston Beer Company. Joining me 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 third quarter performance and the industry and then pass it over to Martin who will provide an overview of the business for the 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. Immediately following Bill's comments, we will open up the line for questions. 2006 has been an exciting year of growth for Samuel Adams and the Craft Beer category. Samuel Adams is a leading brand in the Craft Beer category, which we believe is the fastest-growing beer category in the United States.

The third quarter of 2006 was another quarter of double-digit depletions growth for the Company. With an approximate 15% increase in core brand depletions over the third quarter 2005. I believe that our current "Take Pride in Your Beer" advertising campaign speaks to beer drinkers about the history, authenticity, and the quality of the Samuel Adams brand and the unique beers that we brew. I'm delighted to find more beer drinkers developing a passion similar to mine for great beer. The continued growth of the Craft category suggests to us that consumers continue to trade up to more, full-flavor, richer-tasting beers. And this trend is helped by beer retailers and wholesalers allocating more time and space to the fast-growing and profitable Craft category. I will now pass it over to Martin for a more detailed overview of our results.

Thank you, Jim, good afternoon, everyone. As Jim noted, we are pleased to have achieved the third quarter in a row of double-digit depletions growth. During the third quarter of 2006, we saw accelerated growth in our Samuel Adams brand family and most all of the Samuel Adams beer Stiles. Growth was strongest during the third quarter in Samuel Adams Seasonals and Samuel Adams Brewmaster Collection and was also positive for Sam Adams Boston Lager and Twisted Tea.

While Twisted Tea depletions growth was positive in the fourth quarter, the growth of this brand has slowed down. All styles in the Samuel Adams brand family, as well as Twisted Tea showed depletions growth during the first nine months of 2006 over the same period 2005. In the third quarter, we saw shipment volume growth for core products of 18.9%. Our overall pricing remains healthy as we've been able to maintain the price increases taken in early 2006.

The health of the Samuel Adams brand remains strong as evidenced by the approximate 17% depletions growth in the first nine months of 2006 for all our brand family. We continue to invest in the Samuel Adams brand as appropriate in order to grow the brand along with maintaining our leading position within the growing Craft Beer category. Given the current volume trends, we anticipate that 2006 could be a record depletions volume year for the Company as we project that we will end the year with approximately 15 to 17% depletions volume growth.

However, there is no guarantee that the volumes trends will continue in the fourth quarter or in the future. We expect that we will meet our previously-communicated 2006 earnings goals despite the significant cost pressures, our increased brand support and the costs associated with our continued evaluation of additional investments in brewery ownership, including the viability of brewery construction in New England. We continue to evaluate our investment in our brands and long-term security of supply options, which include brewery ownership and other production capacity alternatives.

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. The termination is in accordance with the contract in the 2003 arbitration award. While we believe there will be other contract capacity adequate to absorb our production requirements there is no guarantee if the current economics can be maintained. Accordingly, as previously reported, the Company's assessing the viability of brewery construction and the purchase of land on which to build a brewery.

We have identified a site in Freetown, Massachusetts on which we might be able to construct a brewery to serve our future brewing capacity needs. On August 10, 2006, we signed a purchase and sale agreement for land at the potential site. We are able to terminate this agreement at any time, subject to forfeiture of some or all of our initial $300,000 deposit. We are working through an evaluation of this site as well as the required permit process which we anticipate will be completed by the end of the year or early in 2007. We continue our discussions with engineering companies, local municipalities and state officials as we attempt to assess the viability of this site.

We have revised upward our capacity needs in New England, based on healthy Craft category growth, our own growth trends and higher freight costs and we are now exploring production capacity in excess of 1 million barrels in Sam Adams brands products and Twisted Tea. After further considering our estimated capacity needs along with more detailed site construction estimates, it now appears that construction of the facility and all equipment costs could be between 130 million and $170 million.

In addition, the land acquisition costs, other site specific costs, and other start-up costs could be between 25 and $40 million. The cost of the project will ultimately depend on the final specifications, including but not limbed to initial capacity and capabilities, expansion potential, and site-specific costs. We are evaluating this potential investment in brewery ownership along with other supply strategies to determine which investments are appropriate for the Company, given the growth of the Craft Beer category and known and unknown risks in supply chain alternatives.

We are also evaluating financing options for the potential new brewery investment and are confident that we will be able to secure financing sources sufficient to meet our qualms. Our shipments and orders enhanced just the core shipments for the fourth quarter 2006 could be up between 6 and 10% when compared to the same period in 2005, which was up approximately 14% over the fourth quarter 2004. Full year 2006 shipments are expected to be up between 15 and 17% over full year 2005. Actual shipments may differ, however, and no inferences should be drawn with respect to shipments in future periods. October year-to-date depletions are estimated to be up approximately 17% over 2005. Now Bill will provide the financial details.

Thank you, Jim and Mark. Good afternoon, everyone. The Boston Beer Company realized earnings of $0.41 per fully diluted share in the third quarter of 2006. Compared to $0.29 per fully diluted share in the third quarter of 2005. The Company's adoption of FASB 123R this year reduced net income for the third quarter of 2006 by approximately $300,000 or $0.02 per diluted share.

Stock-based compensation expense recorded in the same period in 2005 was insignificant. The increase in net income was mainly driven by higher net revenue, resulting primarily from an 18.9% core shipment volume increase. Which was partially offset by increases in cost of goods sold, freight, fuel costs, increases in salary and benefits and increases in certain advertising, promotional, and selling expenses.

For the 13-week period ended September 30, 2006, the Company recorded net revenues of 175.9 million, a 20% increase over the same period in 2005. Net revenue per barrel for core products increased by 0.4%, primarily due to price increases maintained from the first quarter. These price increases were offset partially by an increase in returns of some specialty product as well as an increase in state excise tax related to Twisted Tea. Which were slightly -- and a slight shift in the package mix from cases to kegs. The increase in cost of goods sold for the quarter was due to increase in packing material costs, production costs, and utility costs. Also impacting our gross margins were higher supply chain costs caused by the growth and the demand for our beers.

Additionally, we have experienced higher production and excise tax cost related to Twisted Tea. Due to changes in the federal formulation requirements and regulatory changes in certain states. While we have seen some slight decreases in fuel costs, the majority of these cost pressures are expected to continue through the remainder of 2006. Our depletion buying for the quarter was up approximately 412,000 barrels.

This was an approximate 15% increase over the third quarter 2005. This was primarily a result of volume increases in our Samuel Adams and Twisted Tea brand families. We posted double-digit percentage depletion increases in the Sam Adams Seasonals and the Brewmasters collection. Twisted Tea volume also posted a double-digit depletion increase for the third quarter of 2006. We believe that our inventory at wholesalers at the end of the third quarter were at appropriate levels.

Gross margin for core products as a percent of net sales decreased to 57.4% from 59.2% in the three months ended September 30, 2006. This is principally due to higher cost of goods, drivers indicated earlier. These cost increases were offset partially by increase in core brand net revenue. Our advertising, promotional, and selling expenses were up for the third quarter by 3.1 million, compared to the same period last year.

This was primarily the result of increases in freight cost, driven primarily by volume, sales force salary, and benefit cost, and advertising and promotional expenses over the third quarter 2005. General and administration expenses were up by $1 million compared to the same period last year, due to an increase in salary and benefit costs, stock compensation expense and costs associated with the move of the Company's corporate office in the third quarter 2006.

For the nine-month period ended September 30, 2006, the Company recorded net income of 15.7 million or $1.10 per diluted share, which was an increase of $2.4 million or $0.19 per diluted share as compared to the same period last year. The Company recorded stock-based compensation expense of $900,000, net of tax effect, or $0.06 per diluted share for the nine months ended September 30, 2006, as a result of the adoption of FASB 123R.

Stock-based compensation recorded in the same period in 2005 was insignificant. Net revenue per barrel for core products increased by 2.3% during the period, primarily because of price increases maintained from the first quarter 2006, and a shift in product and package mix which was partially offset by an increase in returns of some specialty product. Our gross margin, as a percent of net sales for core products decreased to 58.2% from 60.1% in the same period last year.

This was principally due to increases in production costs, packaging costs, utility costs and higher supply chain costs, caused by the growth in demand for our beers. Increases in state excise tax related t Twisted Tea and a shift in product mix also negatively impacted our gross margin. These cost increases were offset partially by the increase in net revenue. Advertising, promotion, and selling expenses for the nine months were up by 13 million or 18.1% compared to the same period last year. These increases are principally due to increases in freight costs, which were primarily driven by volume increases, increases in sales force salary and benefit costs, and stock compensation expense, promotion, advertising expense, point of sale expense, and package redesign expense.

General and administrative expenses increased by $3.3 million compared to the same period last year, due to increases in salary benefit costs, stock compensation expense, consulting expense, insurance costs, and costs associated with the move of the Company's corporate office in the third quarter 2006. Our capital expenditures for the third quarter totaled $5 million, which include the build out cost for a new corporate office and information technology infrastructure. The purchase of land in Cincinnati, Ohio for potential future expansion of the Cincinnati brewery production capabilities and normal capital spending.

During the three months ended September 30, 2006, the Company repurchased less than 1,000 shares of its class "A" common stock. Through November 6, 2006, the Company has repurchased a cumulative total of approximately 7.8 million shares of its class "A" common stock for an aggregate purchase price of 92.6 million and ha 7.4 million remaining on the 100 million share buyback expenditure limit. Based on current known information, we expect that the full year 2006 gross margin will be down approximately 2% below full year 2005.

We expect our full year 2006 earnings per diluted share to be between $1.16 and $1.26, which includes the impact of stock compensation expense. This earnings range does not include any significant changes in current expected levels of brand support or any impact for significant changes to the current supply chain strategy. The Company estimates that it's adoption of FASB 123R and the effect of performance-based stock options will impact earnings per diluted share by between $0.07 and $0.11 in 2006, including a $0.06 per diluted share impact, which has been recorded in the first nine months of 2006. The range for the year will ultimately depend on the vesting of certain performance-based options.

Our ability to attain these earnings growth in 2006 is dependent upon current trends, continuing for volume, pricing, and cost. We are continuing to pursue cost savings initiatives and pricing opportunities to absorb 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.

[OPERATOR INSTRUCTIONS] Your first question will come from the line of Laurie Hahn of Deutsche Banc.

Hi, everyone.

Hi, Laurie.

Can you just help us understand, in a little more detail, if you can, the puts and takes of this decision to build -- potential decision to build a new brewery? Have you seen any new alternatives since we last spoke to you? And if you could just talk us through what you would need to see to make the decision to do it? And why might you not do it?

Hi, Laurie, it's Martin. Why don't I try and handle that and then if Bill or Jim have additional thoughts they can throw them in. I think when we did our initial analysis, our estimate of the cost of building a brewery in New England was significantly lower than it currently is and leads to us believe that that probably was the preferred outcome. A couple of things have changed since that analysis, which was done about a year ago, as we got into designing the facility and finding land, I think we found that some of the costs that we had anticipated were significantly higher than we had planned for. Some of that may be due to poor planning, but some of it also due to economic factors, mainly stainless steel costs are up significantly, the euro dollar exchange rate has moved significantly and then, frankly, our own growth rates have changed significantly since that first look at it.

The net result of all of those factors has resulted in a much larger planned potential investment than we originally anticipated when we stepped out, so, as that number has grown on us -- we have taken the opportunity to go back and redo the initial analysis, which led us to believe that building a brewery would be potentially the right decision for us and in doing that we've -- and I think -- I have to say we're still in the process of doing that, evaluating all alternatives to constructing our own brewery. I think in the end, the decision was based economics, the new brewery potentially gives us lower freight, lower production costs and some potential brand equity gains from having a large brewery presence in our home market. And we'll be evaluating those positives against the capital costs of such a facility and the comments of the alternatives that are available to us.

Okay. Do you -- can you share with us any estimates you've made of when this will open? You know, what kind of utilization you'd be looking at? Given whatever growth you've assumed?

I -- that's sort of difficult to do. I think, we're looking -- obviously have announced that Miller terminated our contract relationship effective October 2008. We have other contract relationships that we believe will allow us to continue to produce our beer, perhaps not at the same economics that we currently enjoy, but we're looking at that sort of time period to try and have lower cost alternatives in place so that we can, to the best of our ability, maintain our current economics, even if that is at the expense of some significant capital. So, I think building a brewery, a reasonable timeframe for that, is 18 months to 2 years, but a lot of it is dependent on permitting and other issues related to the site and also, in fact, in New England, we can't really do any construction in the winter. And as to alternatives, some of the alternatives we're considering we could put in place immediately potentially, but also those might happen over a period of time.

Okay. That's helpful. Thanks.

Your next question will come from the line of Andrew Sawyer of Goldman Sachs.

First, I just need a quick clarification. WHEN you guys are talking 6 to 10% shipment growth that is off of the 14 week -- fourth quarter from last year?

Yes, that's correct.

And then can you talk a little bit about pricing and what you guys are thinking about in the market, especially given some of the confusion with what's going on with the Crown Imports? And, again, bringing this changeover?

Sure. Why don't I take a hack at it first and then Jim will commentate. I think -- we obviously have had a good history of attempting to generate 2 to 3% net pricing increase over the last two to three years, maybe even longer. I forget now. That's still our goal. Obviously, the ability to do that is somewhat dictated by competitive moves. I think as we look out we see a relatively healthy pricing environment driven not only by some of the pricing increases that you mentioned that Crown -- that, Gambranus initiated and the predecessor to Crown, that obviously happened to be universally passed through, but that's created somewhat of a price umbrella for us and it certainly sounds like there may be other moves by other key, Better Beer players that would allow us to continue on our strategy of gaining 2, 3%.

So, right now we feel pretty good about the pricing environment. We certainly aren't seeing any significant discounting. I think that's certainly helped by the shortage of Modelo product in the marketplace right now. And -- but we don't see why that should change under Crown's management and I think we look forward to next year, to hopefully deliver similar pricing to what we've been able to deliver so far this year.

I would second that. I think other breweries are having the same kind of cost pressures that we're having and the ability to eat those cost increases is diminished because a couple of people didn't raise price very much in 2006. So we see 2007 as -- at least as healthy as 2006 has been, maybe even a little more healthy on the pricing side. And bear in mind these increases that we're talking about are still below the rate of inflation. So, in real dollars, our beer becomes more affordable, even in a context of 2 to 3% price increases.

I think it's also fair to say that we're still putting plans together for next year and I think historically we tried to provide some sort of direction and guidance in the first quarter, along with our annual lease. So, we would be uncomfortable providing you with any guidance at this point in time, other than saying that we believe that the pricing environment is healthy.

And another follow-up question for Jim. You alluded to the retailers and wholesalers giving more time and attention to Craft brews. Can you kind of talk about where you think Craft brews are still kind of underindexing at retail as far as shelf space or number of tap handles or overindexing on shelf space? And where can you get further gains going forward?

We're seeing consumers pulling Craft Beers and looking for variety, authenticity, looking for beers from independent breweries, like Sam Adams, so, the consumer is beginning this and as Craft Beers and all of better beers, including imports, have continued to get double digit increases in healthy pricing, retailers are now beginning to see Craft Beers, specifically in imports, as well, as their key driver of volume and profitability and that is carrying through to wholesalers. The mood at wholesalers is now that they need to grow their Craft Beers and imports as well as their major domestic beers and they need to pay attention to beers like ours because we are the only ones out there right now that are providing volume growth and price growth.

And finally, just one last question, can you talk a little bit about what you are seeing on-premise with -- I mean it seems as though Craft Beers and import beers may have dented the wine and spirits growth rate just a little bit in the last six or nine months? Is that a fair characterization? And what are you seeing competitively in that channel?

I don't have any confirmatory data, but it is by sense that many of the same variables that drive consumers' interest in wine and liquor are also driving consumer interest in Craft Beer. Craft Beers offer a wide variety of flavors and tastes. They come from small, independent producers, they have a level of sophistication and image that wine and liquors have and they provide some sort of individual statement. If you're drinking a Craft Beer, it says that I'm knowledgeable about beer and I know what I like so I think that what you say is true. That some of the same consumer needs that are being met by good wines and good liquors are also being met by Craft Beers.

Thanks a lot, guys.

Yes.

[OPERATOR INSTRUCTIONS] Your next question will come from the line of Bryan Spillane of Banc of America.

Good afternoon, guys.

Hey, Bryan.

Hey, Bryan.

A couple of questions. First, Bill, tax rate for the quarter was a little lower than I thought. Do you have any estimate for tax rate for the year?

Yes, I think the tax rate for the year is slightly higher than it is for the quarter, for the full year.

Okay.

I think I'm right in saying that we will have that number in the "Q"? Yes that number is in the "Q." I can't remember the exact number off the top of my head.

The "Q" is later this week.

Comes out Thursday.

Okay. And then in the fourth quarter, are you looking for cost of goods per barrel to inflation to be higher sequentially in the fourth quarter versus where it was in the third quarter?

I'm not sure what you mean by that question.

Well, if your cost of goods per barrel is up about 4% in the third quarter.

I think it's fair to say that we're not expecting anything different in the fourth quarter than the third quarter other than usual mix impacts. I think natural gas is down a little bit. Obviously, some freight impacts it down a little bit, but we continue to see inflation on other factors. So, I think we would say we're not expecting to see anything materially different in the fourth quarter and, again, as it relates to next year, we will have some thoughts in February.

Okay. And then just circling back to this whole decision to -- whether or not to build a brewery or not, just -- have you settled on whether it would be debt financing, a credit revolver, just how you'd finance it?

We have evaluated a number of financing alternatives but I think it's fair to say that we haven't finalized one. I think the first step was to make sure in our own minds that we could finance it and we are comfortable that we as a company can finance it and we have interested partners who are anxious to lend us money to do so. And so now we are taking a step back and trying to determine what the ideal capital structure would be and we haven't made final decisions with that regard and obviously wouldn't make final decisions until we actually had a decision to build in hand.

Okay. And then it was my understanding that one of the drawbacks to using -- to co-packing was there wasn't really much capacity out there that did small batch brewing. I guess now that you're looking at bigger, more capacity, needing more volume, is that less of a hindrance now to getting somebody to co-pack this for you as opposed to doing it yourself?

I think when we look for co-packers, we look for a combination of factors, including brewing capability, brewing size, location, and quality. I think part of the decision as it relates to long-term ownership of our own brewing infrastructure, relates to how co-packers with those capabilities that I just listed, whether they will exist in five years or 10 years.

And then how long from the time you put a shovel in the dirt to being able to have beer come off the line? How long do you think it will take to actually build a brewery?

I think as I said earlier, the total process from commitment to full scale operation is expected to be 18 months to 24 months. Obviously that could vary significantly. If we run into any significant permitting or construction problems. But from actual shovel in the dirt, which obviously is a little later in the process than commitment, you might take six months off those numbers.

Okay. Okay. All right, great.

Bryan?

Yes.

Hey, it's Bill. To go back to your earlier question on the tax rate, we are thinking approximately the same rate as the rate is year-to-date for the full year.

Okay. Same rate for the full year that you did in the third quarter?

No, that we have done year-to-date--.

Year-to-date, got it.

Through the first nine months of the year.

All right, perfect. Thanks, guys.

Thank you.

[OPERATOR INSTRUCTIONS] You have no further questions at this time. I would like to turn the call over to Mr. Koch for closing arguments.

This is Bill. I wanted to make one clarification that's been brought to my attention that in the beginning of my script. I indicated our net revenue was 175 million. It's actually $75.9 million for the third quarter of 2006.

Great. Thank you. We will talk again when we have yearly numbers.

Thanks very much.

Bye-bye.

Ladies and gentlemen, thank you for your participation on today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.