Constellation Brands Inc (STZ) 2013 Q3 法說會逐字稿

Good morning.

My name is Maria, and I will be your conference operator today.

At this time, I would like to welcome everyone to the Constellation Brands' Third-Quarter 2013 Earnings Conference Call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions)

Thank you.

I would now like to turn the conference over to Patty Yahn-Urlaub, Vice President of Investor Relations.

Thank you, Maria.

Good morning, everyone, and welcome to Constellation's Third-Quarter Fiscal 2013 Conference Call.

I'm here this morning with Rob Sands, our President and Chief Executive Officer, and Bob Ryder, our Chief Financial Officer.

This call complements our news release, which has also been furnished to the SEC.

During this call, we may discuss financial information on a GAAP, comparable, organic, and constant-currency basis.

However, discussions will generally focus on comparable financial results.

Reconciliations between the most directly comparable GAAP measure and these and other non-GAAP financial measures are included in the news release, or otherwise available on the Company's website at www.CBrands.com.

Please also be aware that we may make forward-looking statements during this call.

While those statements represent our best estimates and expectations, actual results could differ materially from our estimates and expectations.

For a detailed list of risk factors that may impact the Company's estimates, please refer to the news release and Constellation's SEC filings.

And now, I'd like to turn the call over to Rob.

Thank you, Patty.

Good morning, and Happy New Year.

I hope you had a great holiday, and the opportunity to enjoy some of our fine beverages throughout the season.

Now, before we get started, I would like to note that we are particularly proud of the fact that Constellation stock ended the calendar year on a high note as the best performing S&P 500 Consumer Staple Stock of 2012, increasing more than 70% for the year.

We believe that much of this stock praise performance has been driven by the exciting opportunity we have to obtain 100% ownership of Crown Imports.

The completion of this transaction will represent the next significant milestone in our Company's history, and will solidify Constellation's position as the largest volume-based US multi-category supplier across the beverage alcohol segment.

The deal is progressing as planned, and we continue to expect closure during the first quarter of calendar 2013.

I have nothing further to add at this point, including speculation or comments relating to transaction scenarios that are different from what we have already communicated.

And now I would like to focus our discussion on Constellation's third quarter fiscal-2013 sales and earnings results.

This year is unfolding as expected, as we continue to execute in achieving our overall strategic and financial goals across our beer, wine, and spirits businesses.

On a year-to-date basis through the third quarter, we gained market share for our Canadian wine business, as well as our US wine and spirits businesses collectively across all channels.

Posting solid depletion trends, while maintaining excellent marketplace momentum, particularly for our collection of focus brands.

Our focused efforts in the area of brand building, innovation, and new product development are also paying off, as we are benefiting from positive mix trends and distribution gains at retail, as well as receiving great consumer response to our new product introductions in the marketplace.

As you know, these initiatives represent primary growth drivers for us going forward, as they are also key contributors to overall US market growth.

Some of our strong marketplace momentum through calendar year end has been driven by this year's incremental investments in promotion and marketing, a portion of which is in connection with the launch of more than 50 new products this year.

And I would like to remind everybody that as we headed into this year's fiscal fourth quarter, we began to overlap last year's increase in promotional activity.

One of the things of which I am particularly proud is the ongoing string of awards and accolades that we continue to receive from several prominent wine industry publications for many of our new products and our focus brands.

They include the following.

The 2009 Robert Mondavi Cabernet Sauvignon Reserve was recently awarded a 94 point score from Robert Parker's The Wine Advocate.

Wine.com, the nation's number one online wine retailer, recently released its top 100 list based entirely on consumer preferences.

Some of the excellent Constellation brands that made the list include Robert Mondavi, Ruffino, Mount Veeder and Kim Crawford.

Impact presented Blue Chip Awards to Estancia and Robert Mondavi Private Selection and SVEDKA, while Hot Brand Awards were given to Black Box, Franciscan, Kim Crawford, and Rex Goliath.

In recent issues of Wine Enthusiast, several of our well-recognized brands were awarded 90-plus point scores, including Robert Mondavi, Hogue, Ruffino, Wild Horse, Ravenswood, and Inniskillin.

From a new product perspective, Beverage Information Group's 2012 Growth Brand Awards included The Dreaming Tree, Primal Roots, Rioja Vega, and Simply Naked, while we also received Impact Hot Prospect Awards for Primal Roots, The Dreaming Tree, Simply Naked, and Diseno.

And Rex Goliath Free Range Red won 2012 Best Red Wine Under $8 from the World Value Wine Challenge Competition.

Additionally, I would like to highlight the fact that our Mark West brand, which has been an exciting addition to our portfolio, posted third quarter marketplace volume growth of almost 30%, while gaining share of the Ultra Premium Price Category in the SymphonyIRI channels.

From a spirits perspective, in an effort to enhance SVEDKA's flavor lineup, we will soon be introducing two new unique flavors, Strawberry Colada and Orange Cream Pop.

For the third quarter, SVEDKA posted SymphonyIRI growth of more than 20%, in addition to gaining volume share of the vodka category.

Black Velvet Reserve Whiskey recently earned a rating of 91 points, and took Best In Class for Canadian Whiskey at the Los Angeles 2012 International Wine and Spirits Competition.

In addition, the new Black Velvet Toasted Caramel has capitalized on the hot trend of flavored whiskeys, driving overall growth of the Black Velvet brand in SymphonyIRI channels to more than 20% during the third quarter.

Now, before we move on to a discussion of the beer business, I would like to mention that one of the most frequently asked questions I receive relates to the current pricing environment within the US wine industry.

As I mentioned last quarter, we are currently seeing some moderate price increases in the US wine space, particularly at the less than $5 retail price point.

However, there is minimal price movement within the $5 to $15 price range, which represents the majority of our market participation.

Now, moving to the Crown Imports joint venture.

Crown's third-quarter results were in line with our expectation, but impacted by a few anomalies that we previously anticipated.

Bob will discuss these in further detail in a few moments.

Overall, the underlying Crown business remains healthy, with depletions for Modelo products growing in the 3% to 4% range during the third quarter, driven primarily by Modelo Especial.

This depletion trend excludes the negative impact from the loss of the St.

Pauli Girl brand.

According to retail data coinciding with the end of our third quarter, Crown continues to outperform the total US beer industry, the import category, and the other three major beer suppliers in both case and dollar sales trends in the SymphonyIRI channels.

Crown is also gaining share from a depletion perspective in the on-premise channel.

This strong consumer demand is benefiting from the combined success of a number of promotional and marketing initiatives, including Corona's Extra's Find Your Beach for the Game promotion and Corona Light's Refreshing Change of Beer advertising campaign.

Pacifico recently rolled out its new State of Pacifico national marketing campaign honoring the brand's free spirit lifestyle.

This campaign will help drive Pacifico's rapid growth, which is being fueled by the expansion of Pacifico on draft, which is already available in 37 states.

And the Modelo Especial first-ever English language TV campaign continued this Fall, highlighting the quality of the brand, and engaging the social-seeker consumer within the general market.

Modelo Especial recently achieved a new milestone, surpassing 40 million cases and depletions in calendar 2012.

This represents another major achievement in its impressive history.

Modelo Especial was also recently awarded the Leader's Choice Beer Brand of the Year by Market Watch Magazine, and was also identified as an Impact Hot Brand Award winner for the 18th consecutive year.

And last but not least, based on the success to date of Somersby Cider in current test markets, Crown will be leveraging the growing popularity of the cider business by jumping into new territory and expanding the launch to additional cities during the first quarter.

Somersby is a leading global hard cider within the Carlsberg portfolio that will be exclusively imported into the United States market via Crown Imports.

In closing, I would like to reiterate that our team is executing.

As our brand-building efforts are yielding results, we are gaining market share and we have strong marketplace momentum for our products and we are well on our way to meeting our financial goals for the year.

I am very excited about the Crown deal, and I hope to have the opportunity to discuss the future strategy for our new business with you at some point after the transaction closes, when we plan to host a New York City investors meeting.

I would now like to turn the call over to Bob for a financial discussion of our third-quarter business results.

Thanks, Rob.

Good morning, everyone.

Our comparable basis diluted EPS for Q3 came in at $0.63.

This result reflects a lower than expected effective tax rate due to some favorable tax benefits.

Given these and other anticipated tax benefits, we now expect our full year effective tax rate to approximate 27% versus our previous 30% estimate.

Consolidated EBIT continues to track in line with our expectations.

Solely due to the anticipated tax rate favorability, we are increasing our fiscal '13 comparable basis diluted EPS expectation to a range of $2.10 to $2.20 a share, from our previous $2.00 to $2.10 range.

Given those brief highlights, let's look at our third-quarter 2013 P&L performance in more detail, where my comments will generally focus on comparable basis financial results.

As you can see from our news release, Q3 wine and spirits net sales on an organic constant-currency basis increased 6%, as higher volumes and favorable mix were partially offset by higher promotional costs.

This is consistent with our previous discussions around improved top and bottom line performance for the wine business in the back half of the year, as our commercial product initiatives take hold, and as we begin to overlap the prior year's promotional spending initiatives.

For the quarter, our consolidated gross margin was 41%, versus 40.5% for the prior year.

This reflects the benefits from favorable mix, and the consolidation of the higher margin Ruffino and Mark West brands, partially offset by the increase in promotional spending.

Wine and spirits segment operating income increased $24 million to $197 million, primarily due to the positive sales and gross margin results I just outlined, partially offset by an increase in SG&A expense, which was primarily related to an overlap of a favorable trademark-related legal settlement in Q3 of last year.

Corporate costs increased $4 million, primarily due to the overlap of a benefit recognized in Q3 of last year from the early redemption of notes receivable from Accolade, our former Australian and UK business.

Consolidated equity earnings totalled $53 million, and were level with the prior year quarter.

Equity earnings for Crown totalled $39 million versus $43 million last year.

The remainder of the equity earnings in Q3 of both fiscal '13 and fiscal '12 are primarily generated by our Opus One joint venture.

For the quarter, Crown generated net sales of $547 million, an increase of 1%, and operating income of $79 million, a decrease of 9%.

Third-quarter net sales for Crown were tempered by the Q2 wholesale or buy-in of beer in advance of the planned price increases, and the loss of St.

Pauli Girl brand volume.

Crown's operating income was impacted by the volume shift and timing of marketing spend.

Interest expense for the quarter was $61 million, up 33% versus last year.

The increase was primarily due to the higher average debt balances.

To better help frame in the drivers of the interest increase, let me discuss our debt position.

At the end of November, our total debt was just under $4 billion.

This represents an $866 million increase from our debt level at the end of fiscal '12.

We also finished November with $201 million of available cash on our balance sheet.

The higher than normal cash balance primarily relates to the funding of the pending Crown acquisition.

As a reminder, in Q2, as part of securing the permanent financing for the $1.85 billion Crown transaction, we issued $650 million of 4.625% senior notes due in 2023.

The cash proceeds from the notes issuance were placed in escrow, and will be released when the Crown transaction closes.

As a result, this cash has been recorded as restricted cash on our balance sheet.

After factoring in the cash and restricted cash, our net debt at the end of November was $3.1 billion, and our net debt to comparable basis EBITDA ratio came in at 3.5 times.

Also, as an additional reminder, during the first quarter we refinanced our senior credit facility and issued $600 million of 6% 10-year senior notes.

Proceeds from this note issuance, along with our free cash flow generation and proceeds from stock option exercises, have been effectively used to reduce borrowings under our revolving credit facility, and to fund the Q1 share repurchases and the Mark West acquisition.

In December, we entered into an accounts receivable securitization facility, which can provide up to $250 million in liquidity at an interest rate that is generally expected to be about 75 basis points lower than our revolving credit facility.

This new facility further enhances our financial flexibility, as our $850 million revolving credit facility continues to remain in place.

We will reassess our revolving credit facility after the Crown acquisition closes.

We continue to expect interest expense for fiscal 2013 to be in the range of $225 million to $235 million.

Our comparable basis effective tax rate came in at 28%, compared to 37% for Q3 of last year.

The favorable rate in the quarter was driven by higher foreign tax credits.

As mentioned earlier, we now anticipate the full year fiscal '13 effective tax rate to approximate 27% as a result of the foreign tax credits and some anticipated state tax benefits.

Now let's discuss free cash flow, which we define as net cash provided by operating activities less CapEx.

For the first nine months of fiscal '13, we generated free cash flow of $337 million, versus $587 million for the same period last year.

The decrease reflects the receipt of tax refunds in the prior year that were driven by the sale of our UK business, and from higher US grape and bulk-wine purchases in fiscal '13 following the lighter grape harvest in fiscal '12.

In addition, we are seeing higher interest costs from the senior notes issuances I just highlighted.

For fiscal '13, we continue to expect to generate free cash flow in the range of $450 million to $500 million.

As discussed earlier, we now expect fiscal '13 comparable basis diluted EPS guidance to be in the range of $2.10 to $2.20 per share.

For this range, we continue to assume the weighted average shares will approximate 190 million.

Our comparable basis guidance excludes restructuring charges and unusual items, which are detailed on the last page of the release.

It also excludes any impact from the closing of the purchase of the remaining 50% interest in Crown.

As we approach the end of fiscal '13, we believe we are well on our way to achieving our financial goals for the year.

We are seeing solid consumer takeaway and depletion trends for our US wine and spirits business, with good results around our innovation efforts and initiatives supporting our focus brands.

In Q4, we should continue to see volume, sales, and earnings grow nicely for wine and spirits, as we overlap last year's promotional investments.

And we continue to see products mix improvement driven by new products and our focus brands.

The beer business continues to outperform both the total beer industry and the import category, and is on track to deliver solid performance for the year.

For Q4, Crown's results are expected to be tempered by some unfavorable sales calendarization and the St.

Pauli Girl transition.

During the first three quarters of the year, we have seen a reasonable amount of year-over-year variability in all business segment results.

This will continue in Q4.

To get the best gauge of performance for fiscal 2013, you should focus on year-to-date and full-year results.

I would also like to note that we continue to look forward to completing the Crown transaction, as the full incorporation of Crown's strong business and financial model will further enhance our overall financial profile.

With that, let's open up the line for questions.

(Operator Instructions)

Kaumil Gajrawala of UBS.

First question on wine.

Typically, what we've seen in the past is the first guys to move on price are the below $5.

But then as some time passes, you start to see more pricing move further up the scale.

Is that something we should expect to happen this cycle as well?

Hello, Kaumil.

It's hard to judge.

But that is what we are currently seeing.

That most of the pricing that has been taken is in the below $5 area.

That segment of the market is a lot more concentrated than the above $5, really being dominated by a just couple of brands and a couple of companies.

Whether we'll see pricing above the $5 mark really remains to be seen.

But we certainly think that it's possible.

Okay.

And then also as it relates to pricing, you've taken pricing in a variety of markets at Crown.

Can you talk a little bit about the price elasticity you're seeing in those markets?

Yes.

We really haven't seen very much impact of the pricing he that we've taken.

In other words, we haven't really seen any slowdown in our depletion trends.

They continue to remain pretty robust.

So, we really haven't seen any impact.

We would expect to see some, because whenever you take pricing there's some degree of elasticity.

But we're not really seeing anything at all right now.

And I would just point out that the pricing that we took was sort of significantly below just the general level of pricing that's been taken in the beer industry.

So our pricing was below 2% overall, whereas the industry, as a general proposition, has taken more pricing than that.

So, that could be the reason why we're really not seeing any slowdown or impact of our pricing thus far, because it was a pretty modest increase.

Yes, okay.

Got it.

Thank you.

Thanks.

Judy Hong of Goldman Sachs.

Hello, Judy.

How are you?

Good.

So first on the wine business.

So it sounds like you're pretty pleased with the turn around that you're seeing on that business with stepped up innovation, increased investments this year.

Do you think that you're at a point where we could potentially see some profit improvement, or do you think that you should continue to see investments perhaps exceeding sales and that sort of compromises margin because you want to sustain sort of the volume momentum on the wine business?

Yes.

Where we are now, Judy, we're kind of sticking with our guidance for the year.

So we are going to see profit improvement in the wine and spirits segment, albeit not as high as the sales improvement.

But as we said at the beginning of the year, that was our conscious effort to keep the top line moving along to maintain or grow share and continue our momentum and to see the results of all the new products we're introducing and some additional execution focus.

So, I think we continue to stick with that, and that's why we're staying with the guidance for this year.

Of course, we haven't given guidance for next year either.

But that -- we'll be assessing that.

We actually haven't had our internal annual plan meetings yet.

So we'll be providing guidance for fiscal '14 around the April time frame.

Okay.

And then just in terms of the Crown side of the business, so I know there's a lot of innovation and growth that's coming from sort of the price segment that's of premium domestics.

You've got Yuengling that's growing pretty strongly, but Black Crown is coming into the market.

Do you think that that sort of changes the competitive landscape and whether you see risk to import pricing if you do have that kind of price points really gaining momentum?

No, we don't really see -- we don't see that impacting the import segment.

The import segment remains very strong.

It's driven by completely different market dynamics.

Our business' demographic is significantly different than those of some of the brands that you mentioned.

So I don't see it being any issue whatsoever.

And if anything, a rising tide will float all boats.

So I don't think that it's an issue for us.

If anything, it portends a stronger beer business in general.

Okay.

And then my last question, just if you can just give some commentary around kind of the macro sort of consumer behavior, particularly as you guide into more December time period.

If you look at some of the measure channel data, the beverage category seemed to have slowed a bit in December.

So just curious, was there -- you've seen sort of a similar softening across both wine and beer?

Anything in terms of the channel dynamics, on premise versus off-premise?

Any color there would be great.

Yes.

So, I think we've seen all three categories, wine, beer, and spirits, slow down as we've moved into the fourth quarter this year.

And we've seen the on-premise slow down as well.

The on-premise was probably in positive territory at the beginning of the year, and as we've moved into fourth quarter, we're estimating that the on-premise is probably down for beverage alcohol about 3%.

So we've seen a slowdown there.

The whys and wherefores of the slowdown are hard to know for sure.

We pretty much think that it's probably related to all of this fiscal cliff business, which impacted retail in general across all consumer goods.

But that's about the only thing that we can really say with respect to that.

That said, the beverage alcohol category still fundamentally remains pretty strong.

If we look at wine, there's very, very strong trading up going on in wine.

Just for an example, in the quarter, the wine industry was up about 2% in volume and 6% in dollars with the premium plus categories growing and super premium category plus categories growing double-digits.

So things are fundamentally good, although there has been a bit of a slowdown.

And if you look at our business, getting more granular here, I would say that our business performed pretty much on expectations for the holiday season.

So we're not seeing any issue with respect to the full year in that regard.

Great.

Thank you.

Tim Ramey of DA Davidson.

Good morning.

First on the Opus One, I don't ever recall it generating that level of EBIT.

That's a pretty impressive level for the size of that operation.

Is there anything from a timing perspective on that?

I know that's usually the release of the new vintage occurs in the 3Q.

Or is that just performing extremely well?

It's just performing extremely well.

Opus has been -- there's no timing difference here.

We always release at the same time.

Opus generally sells out its entire vintage at the release, minus a little bit that we hold back for some later in the year releases to fill distributors back up so that they can sell in more to their customers.

The brand is performing extremely well.

We never take any pricing -- any price discounts, that is, on Opus.

In fact, we usually take pricing almost every year.

The brand is extremely strong right now in Asia and in Europe.

So it's really just --

Nice.

A phenomenal performance.

Nice.

Hey Bob, you made a comment and I didn't quite catch it on the impact of bulk wine purchases in '13 versus '12.

Would you mind rephrasing or restating that?

I'm sorry Tim, what was that question again?

It was the impact of bulk wine purchases.

And you juxtaposed '12 versus '13.

And I'm sorry.

I didn't catch it in real time.

And just a little tidbit just to follow up on the Opus.

So we did have more inventory to sell as there was a better harvest.

And as Rob said, pretty much everything they can make, they can sell, right?

So that's a really good thing for us.

The '09 harvest was released in September.

And it was -- the '09 vintage was bigger than the '08.

Got it.

But this -- (multiple speakers) I don't think that comment in the prepared remarks related to Opus One, did it?

Or was it related just more generally?

Yes.

Got you.

I'm sorry.

I was following up on Rob's question just on Opus.

So to answer your question on the harvest, okay, essentially what happened was last year's harvest, so fiscal '13 harvest was light, as you know.

So we didn't bring in as many raw grapes, okay?

So we didn't have all that inventory built last year.

We still need the juice.

So what we did is in fiscal '13 to offset that, we bought more bulk wine.

So essentially, where normally you would have brought the harvest in in fiscal '12, because you're bringing it in bulk, you actually brought it in in '13.

So that was one aspect of why inventories are higher in '13.

The other aspect was the base harvest was higher in '13.

So in '13, you brought in the bulk that would have been raw grapes in '12, and you brought in more raw grapes in '13 than you did in '12, because the harvest was higher in fiscal '13 than in fiscal '12.

If that makes sense.

So you're pretty well positioned for growth then?

Yes, yes.

So if you're saying do we have adequate supply?

Yes.

And our ops guys do a great job.

They have a lot of good contacts in the industry.

So we feel we've got plenty of inventory, and the sales guys are geared up to sell it.

Terrific.

Thank you.

Sure.

Lauren Torres of HSBC.

Good morning everyone.

My question is on the beer business.

You gave us the reasons why we saw the weakness on the profit line.

I guess I'm just looking for greater clarity.

Bob, you mentioned some issues in the fourth quarter.

So I'm just trying to get a sense of timing of marketing spend, investment spend, what's really affecting it here.

I understand the inventory issue.

But if that's behind us, what other pressures are we looking at?

Yes.

So as I tried to say in my script, this year we've had a lot of quarter volatility.

But on the last quarter call, I did say for beer the front half is going to be much stronger than the back half.

That has come to fruition.

And it's a number of things, as you said, Lauren.

It was moving the cases into Q2 from Q3, because of the normal buy-in ahead of a price increase.

There has been a change in how our marketing expense hits by quarter, okay?

So that has impacted it.

And there's also been some timing impacts on SG&A as far as when you take bonus accruals versus the prior year.

So that's why I said we should probably look at year-to-date and full year.

And we haven't changed our full-year guidance for wine or for beer.

And for wine what we've said is net sales growth will be mid single digits.

EBIT growth will be low single digits, because of that promotional investment.

And in beer we've said net sales growth will be mid single digits, and profit growth will be right around mid single digits as well.

So we're sticking to that.

It's just a bit difficult for you guys to get at it because of all the quarter year-over-year overlaps.

Got it.

That's helpful.

Thanks.

And if I could also ask broadly maybe Rob, as we think about you having full ownership of the Crown business.

Generally speaking, once again can you talk about your level of comfort, marketing spend behind the brands?

Ability to take more pricing?

I'm trying to get a sense of having full control of the business where you see the opportunities to be going forward.

Well I think that first of all in terms of our marketing plans, I would say really we anticipate no change in how we've been marketing the brands and -- or really the levels of investment behind our marketing.

So we will continue to market the brands as aggressively as we have in the past.

Now as to pricing, our philosophy hasn't changed either.

Crown monitors the markets carefully.

We look at things on a market-by-market basis, and they will continue to address pricing on a very strategic level as they have in the past.

So, really no change on either front.

Okay.

All right.

Thank you.

Bryan Spillane of Bank of America.

Hello.

Good morning and Happy New Year, guys.

Happy New Year, Bryan.

Just a couple of questions.

First, just on the tax rate.

So I know it's going to be lower this year, but should we do anything and as we're modeling the tax rate out going forward, and let's think about it maybe just excluding Crown, is there any other like permanent long-term reduction to your tax rate, or are we still just kind of cleaning up past open tax issues?

Yes.

So two pieces to that Bryan.

The reduced tax rate guidance this year is due to what you said.

It's due to some tax planning around our international business historically, which is kind of coming to fruition.

In the grand scheme of things, because we've become much more of a North American business, we should expect our tax rate to go up.

Now that has -- where the government is going to go with corporate tax rates we don't know.

So that's just business as usual.

We would expect our tax rates to go be up going into the future.

Okay.

Great.

And then I guess as we -- you've acquired more inventory, you've got the inventory based on the larger harvest.

We're talking about wine here.

Can you talk at all about how you think you're positioned on how you -- the cost of wine maybe relative to your competitors or relative to what you think that the market is?

I'm trying to get a sense of how well you think you've bought inventory and where your costs are on wine going into I guess really going in through the balance of calendar '13.

Yes.

We've discussed this before.

It was a good harvest this year.

Both quantity and I've spent a lot of time out in California with the wine makers and I've never seen them happier about the quality of the product.

So we're going to have some just fantastic wines when these come out to the consumer.

But look, it's a competitive marketplace.

The price per ton for the grapes did go up for everybody.

And we were just as impacted as everybody else.

Now, we're a little bit more broad.

So it depends what geography you're buying the wine from.

But we're buying a lot from all the regions because we have wines that hit all the different price points.

But our cost per ton of wine in our tanks as we sit now will be higher year-over-year when that wine comes out and hits cost of sales.

Okay.

And then just one last one.

Just in terms of the I guess the mix dynamic in wine, your mix was pretty good this quarter in terms of price mix.

Even in context of having some promotion.

Can you talk a little bit about, A, just some of the drivers of mix within your wine and spirits segment first?

And then second, are you seeing any evidence in the market at this point, that as you've seen prices rise at the value segment are consumers trading to sort of the next price tier at all?

Yes, if you look at IRI you can see the pricing below $5 a bottle.

And volumes aren't all that great in that price scheme.

But they really haven't been recently.

When you play in that price segment, you have pretty thin margins.

So if your cost of goods go up, you've got to pretty much price it on to stay profitable.

But I think in the wine category, as Rob said earlier, wine above $5 a bottle continues to grow must faster than wine below $5 a bottle.

And we are benefiting from that industry trend.

In addition to that, because we've added global Ruffino sales and we've added Mark West to our portfolio year-over-year, they are both higher price point wines and higher gross profit margin wines.

So that's also helping us from a mix perspective.

Okay.

Great.

Thank you guys.

Reza Vahabzadeh of Barclays.

Yes.

Just on the M&A front, obviously you have a big transaction pending right now.

But you were able to get some smaller tuck-in transactions done earlier this year.

Are there more opportunities of that type that you are looking for, the type similar to Mark West as well as Ruffino?

Or are you just really focused on the base business?

Yes.

I think if we see some strategic tuck-in opportunities manifest themselves we will consider taking advantage of them.

Ruffino has worked real well.

Mark West has worked real well.

Those are great opportunities to fill in niches in the portfolio that are very strategic and will generate a very good return for the Company.

So if those type of opportunities present themselves, we will avail ourselves of it.

Got it.

And then as far as mix, are you seeing any sales mix or volume really moving from the $10 to $15 price range back down to the $5 to $10 range, or any other volume shifts within those price buckets that you operate in?

No.

I think that mix is generally improving in the industry favoring the higher priced products, not the lower priced products.

So basically people are trading up, period, from the $5 to the above $5, from the $8 to $12 to the above $12.

So, we see a very, very positive mix shift in general occurring in that whole segment so from $0 to say $20 bucks.

Got it.

Thank you.

Robert Ottenstein from ISI.

Thank you very much.

Mark West, I think you said volumes were up about 35%.

Can you talk a little bit about where you are in terms of penetration of that brand, and remind us on your acquisition criteria in terms of return on invested capital and how close are you to hitting your targets on Mark West?

And if you aren't there yet, when do you think you will be?

Yes.

So first of all I think we said that brand was up about 30%, which is very strong.

And in terms of penetration, Mark West has very, very good on-premise distribution, as well as very good off-premise distribution.

In terms of our targets, Mark West has exceeded our expectations with respect to what we thought the brand would do.

We probably anticipated some transition risk in buying the brand.

The transition risk has not come to fruition.

The brand has continued to grow basically at the same rates that it was growing prior to the acquisition.

In terms of our acquisition criteria, we are always looking and anticipate a return significantly in excess of our weighted average cost of capital.

And we fully expect that to be the case with the Mark West acquisition, which is running ahead of our expectations.

Yes, just to follow up on that, Robert.

Mark West, as you'll recall, we didn't buy any hard assets.

So what we bought was the brand and the grape contracts.

So to Rob's point, the returns can be better on that, because we can plug it into an existing winery and it actually leverages existing fixed costs.

No, no, that's great.

And can you just give us a sense of timing of when you think you'll hit your cost of capital on that?

Or are you there already?

And when you may be able to exceed.

I'm trying to get a sense of how long it takes to get there.

Yes.

I would say on a transaction like this, we would expect to hit it within a couple years.

And then -- and then exceeded by several hundred basis points pretty soon after?

Yes.

Great.

Thank you very much.

And -- yes.

Okay.

That's good.

Mark Swartzberg of Stifel Nicolaus.

Thanks.

Good morning.

Hey, Rob, two-part question on the wine business.

Firstly, can you speak generally about how you think about promotions?

It sounds like with the on-premise trend you just cited to Judy and having this nice quality high level of inventory you have a bias for continued promotion.

Is that a fair way of thinking about it?

That's kind of question one.

And then question two is, in the quarter do you still think you'll have positive depletions in light of what you were saying about the on-premise trade?

Yes.

So first of all, Mark, as it relates to promotions, it really is vastly related to the off-premise and how we sell in the off-premise.

Remember the on-premise is only about 15% of our wine business.

So, the promotional activity is really geared -- although there is some on the on-premise, but it's really geared around the off-premise, and it's all about driving merchandising of our brands.

So basically, ads, displays, and deals for the consumer in the marketplace, because that's what drives in the wine business in particular, growth.

It's getting the product on the floor and getting it in feature ads for their -- by the retailers.

So it's mostly an off-premise activity.

And then, no, we don't expect the slowdown on the on-premise to really affect the business overall, because percentage-wise you're really talking about only 15% of the business.

And then to the extent that there's a slowdown, it's a pretty small percent.

So it's a small percent of a small percent.

So it's not going to have any significant impact on our results.

And despite the fact that the on-premise has slowed down, we have some pretty strong brands that continue to grow very nicely and rapidly in the on-premise.

Mark West being a really good example of that.

Kim Crawford being a good example.

So, we expect -- and Ruffino being a good example.

Those are brands that, regardless of the slowdown, will continue to generate strong results in the on-premise.

So we don't really expect that to have any impact on us.

That's great.

And if I could follow up.

It sounds like you think low single digit depletions all channel is still a pretty good go forward rate of growth for you guys?

Yes.

More like -- yes.

More like mid.

Low to mid.

More like mid?

Fair enough.

Okay.

You're talking wine, right?

Yes.

Yes.

US wine.

Yes.

So mid.

And beer too, for that matter.

But year-to-date we're at about 3.5% depletion growth.

That's pretty good.

Good, okay.

Which is ahead of the market by probably 100 basis points.

The thing that -- (multiple speakers) The thing that's driving my question.

I think you've answered it.

But just is that in the quarter you had plus 3.5%.

The prior quarter was plus 7%.

So I'm trying to get a sense of if you feel like you've kind of reached a leveling off steady state rate of growth.

It sounds like you did.

Well, as we said for the full year, we're anticipating sort of mid/single digit depletion growth.

Yes Mark.

I would just repeat what I said in my script.

Because there's just a lot of noise in wine and beer by quarter.

So year-to-date, wine depletions are up about 3.6%.

That's growing faster than the category.

So the category is healthy.

We're a little bit healthier.

If you look at the full year, and I think our full year guidance is around -- that's kind of mid single digits.

So we're pretty happy with that level.

That's great.

That's very helpful.

Thank you guys.

Vivien Azer of Citi.

Hello.

Good morning.

Hello Vivien.

My first question has do with your new product [expections] in wine.

You clearly have been very active.

I'm curious if you can comment on the contribution that new innovation has -- the contribution you've seen from new innovation to your shipment or depletion growth.

Yes.

As we define it, new products, which are products that have been introduced in the last 24 months, are contributing about 5% to 6% in terms of volume.

A little bit more in terms of net sales.

About 7%.

Okay.

Fair enough.

And can you comment on what impact the absence of St.

Pauli had on the Crown Imports business this quarter?

Yes.

It's about -- overall, for the year we're looking at about 2 million cases, and it's about --maybe 1% was the impact.

So it's not a big deal here.

Fair enough.

That's great.

That's all I have.

Thank you.

Okay.

Carla Casella of JPMorgan.

Hello.

I'm wondering if the impact -- if you'll have any impact on the industry from the fires and the drought we're seeing in Australia right now?

Well, not for us.

But I don't think so.

I don't think we're going to see too much impact.

Australia in general remains over-supplied as a general proposition.

So, anything that sort of impacts supply in Australia is probably good.

Now our participation in Australia at this stage is really largely through our 20% interest in Accolade, which were the Australian assets that we sold off a couple years ago.

So --

Okay.

-- we're not impacted by any of that.

When you look at your total grape buy for I guess either last year or this coming year, how much of it is coming from the US versus other key markets?

I guess when you talk about buying bulk wine, is that coming from the US, or is that coming from other markets?

Both.

The vast majority is US.

But we buy lots of non-US bulk as well.

Especially for the Canadian market, which has some particular -- which is quite different than the US market in that they have a segment of product called international -- yes, well, [filtered] in Canada or international content.

So we buy a lot of bulk wine for -- bulk imported wine for the Canadian market.

Okay.

Great.

And then there's been a lot of talk about the on-premise sales.

How much of the -- I guess I'm trying to get a sense for how much of the business is on versus off-premise and how much it differs for wine versus beer?

It's for wine -- yes.

It's about 15% for us.

And for beer it's a little bit more.

More like a quarter.

20% to 25%.

Okay.

Great.

That's helpful.

Thank you.

Brett Cooper of Consumer Edge Research.

Good morning guys.

A quick one.

I think about a year and a half ago your analysts and you guys talked about blending techniques, taking costs out.

And I'm trying to recall what the time frame was that we're going to see that.

So as we're going to calendar '13 and fiscal '14, can you just update us on those efforts?

And if we're likely to see the benefit of those is that this year or is that a calendar '14, fiscal '15 benefit for you guys?

Yes.

I would say we will start to see some of it in the fourth quarter of this year.

Most of it will come next year.

And what's ending up happening is those savings, which we can see and they are real, are helping to offset some of the input cost inflation from the higher cost per ton grapes that we've seen in the harvest for the calendar '11 harvest and the calendar '12 harvest.

And just to be clear, when you say the fourth quarter of this year, you mean fiscal '13?

Yes.

Okay.

Perfect.

Thank you.

Some in fiscal '13, but most of it will come next year.

The whites this year.

Most of the reds and most of the whites next year.

Great.

Thank you.

Sure.

This concludes the question-and-answer session for today.

I would now like to turn the call back over to Rob Sands for any closing remarks.

Okay.

Well, thanks everybody for joining our call today.

As I mentioned, we are very excited about the Crown deal, and I look forward to seeing you in New York once the deal is closed to discuss the strategy for our new business model.

I would say I'm very confident that we will meet our financial and strategic goals, as our plan is to continue solid execution of our initiatives throughout the final quarter of the year.

So thanks again for your participation today.

Thank you.

This concludes today's conference call.

You may now disconnect.