Constellation Brands Inc (STZ) 2014 Q1 法說會逐字稿

Good morning.

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

At this time, I would like to welcome everyone to the Constellation Brands first quarter 2014 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 call over to Patty Yahn-Urlaub, Vice President of Investor Relations.

Please go ahead.

Thank you, Jackie.

Good morning, everyone, and welcome to Constellation's first quarter fiscal 2014 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 discusses 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 measures 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 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.

Thanks, Patty.

Before we get started, I'd like to thank those of you who attended our recent New York City investors meeting.

I hope one of your key take-aways from that meeting is that we are definitely a new Constellation.

The powerful combination of our existing wine and spirits business with our newly consolidated beer business, including our new Mexican brewery and the other 50% of Crown, adds an entirely new dimension to our Company, one that adds size and scale and provides new avenues for growth.

Since the closing of the beer deal less than a month ago, we have experienced a smooth transition for our new brewery in Mexico.

Our beer supply chain is operating efficiently, as we continue to make and move beer.

And we are fully engaged in working collaboratively with all brewery employees, including the operations team in Mexico.

Overall, we're off to a good start for the year on all fronts, with results that were generally in line with all of our expectations.

During the first quarter, our US wine and spirits business continued to gain marketplace momentum, posting strong consumer take-away growth of 9%, versus category growth of 3% in IRI channels.

In terms of consumer take-away by market channel, Constellation's wine portfolio outperformed the category overall, due to solid growth across every channel.

Overall, we continue to benefit from continuing consumer trade-up trends, distribution gains at retail and contributions from our brand-building efforts with our focus brands' depletions growing at more than double the rate of our total portfolio during the quarter.

Now I'd like to take a moment to highlight some our key brand-building initiatives that were executed during the first quarter, including accolades received for some of our popular wines and spirits.

The Dreaming Tree, which is one of our most successful new brand introductions to date, launched an everyday white blend named after a song made famous by Dave Matthews.

It is the perfect companion to the crush red blend that was introduced last year.

Building on the success of their frozen wine cocktails, Arbor Mist expanded and launched frozen spirit style cocktails, including strawberry daiquiri, pina colada and lime margarita.

Wine Enthusiast recently awarded 90-plus point scores to several Ravenswood Designate series zinfandel wines; and the Robert Mondavi 2010 Napa Valley Fume Blanc recently received 91 points and the Best Buy accolade from Wine and Spirits magazine.

The month of June was dedicated to Robert Mondavi as heritage month, as we celebrate his legacy and the 100th anniversary of his birth.

Throughout the month, we featured special sales promotions, marketing campaigns and events for Robert Mondavi wines in an effort to celebrate his great contributions to the wine world, including many fine wine-making techniques and the creation of marketing and educational innovations that enhance the worldwide reputation of Napa Valley and California wines.

We recently achieved an important milestone within our wine business, by becoming the number one wine producer and exporter of New Zealand wines, with our award winning portfolio of brands including Kim Crawford, Nobilo and Monkey Bay.

Throughout the last 52 weeks, these brands posted strong double-digit growth trends in the IRI channels.

During the quarter, Kim Crawford also had the distinction of reaching the one million case mark in global sales over a 12-month period.

From a spirits perspective, during the first quarter both SVEDKA vodka and Black Velvet Canadian whiskey posted double-digit consumer take-away trends in IRI channels, in addition to gaining market share of their respective market categories.

Just in time for Memorial Day celebrations, we released SVEDKA Stars and Stripes II, our limited edition 1.75-liter party bottle, which will certainly come in handy for this week's Fourth of July celebrations.

SVEDKA has become the number two imported vodka and the number three vodka overall in the US.

It also recently moved up to number seven on Impact Magazine's list of top 10 distilled spirits brands in the US.

We also recently launched the new Black Velvet Cinnamon Rush, which can be enjoyed straight, on the rocks, or blended in a hand-craft cocktail, and is priced at a premium versus our base Black Velvet brand.

The cinnamon flavor category in whiskey is currently on fire, experiencing triple digit growth trends.

Moving to Crown Imports and our beer business.

For the first quarter of 2014, Crown posted its 13th consecutive quarter of share gains and out performance of the total US beer industry and imported beer category, gaining almost 1 point of volume share of the import category.

This was the result of excellent execution during the Cinco de Mayo and Memorial Day holidays.

Modelo Especial continues to be the shining star of the portfolio, posting double-digit sales and depletion growth trends during the quarter.

Collectively, Crown extra and the entire Modelo portfolio posted depletion trends that exceeded the overall US beer market in the first quarter, benefiting from increased marketing investments which include Corona Extra, launched four new Find Your Beach advertisements, reinforcing Corona's leadership position, demonstrating that finding your beach can be a state of mind as well as a physical place.

Corona Light also launched a new advertising campaign during the quarter that encourages consumers to trade up from domestic lights.

You may remember some of these spots that we showed at our recent investor meeting featured the talking sheep, which encouraged consumers to ditch the herd.

Overall, this brand is outpacing the imported light category in IRI channels.

Following Cinco activities, we launched the Live It, Share It, Win It summer promotion for Corona Extra and Corona Light, which is supported by new TV and digital spots.

Modelo Especial has new creative for both Hispanic and general market consumers that plays to the beer's authenticity.

Collectively, the initiatives I have just outlined contributed to Crown's strong marketplace momentum, as the business grew depletions by approximately 3% in the first quarter, despite a difficult comparison overlap from last year's first quarter.

Throughout the remainder of the year, Crown plans to launch Modelo Especial Chelada by early fall, which is expected to build on the brand strength of Modelo Especial.

This product will tap into a new occasion with this brand's core Hispanic consumer.

Crown is planning draft format expansions for Corona Light, Negro Modelo and Pacifico in select markets.

Corona Light will also sponsor Kenny Chesney's 2013 US tour, leveraging Kroger as a strategic retail partner through its Rhythms and Brews program.

Pacifico will debut its first TV ads in Southern California.

The new Pacifico, Discovered in Baja, Imported by Surfers campaign includes several TV ads that celebrates the brand's surfing origins and adventure seeking consumers.

And finally, during fiscal 2014, chef Rick Bayless will work with Crown to promote Negro Modelo, Pacifico and Victoria, creating recipes and unique food pairing options for each brand that can be leveraged at retail.

In closing, from an operational perspective, we are off to a positive start for the year, gaining market share across our beer, wine and spirits businesses and IRI channels.

I am particularly pleased that we have closed the beer deal and that a smooth transition is underway at our new brewery in Mexico.

As you know, we have been working diligently to build a solid and sustainable foundation of operational excellence, financial strength and innovation, and we expect to continue in these areas throughout the remainder of the year.

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

Thanks, Rob.

Good morning, everyone.

Our comparable basis diluted EPS for Q1 came in at $0.38.

At a high level, this result was generally in line with our expectations and we are reiterating, or in the case of EPS, improving, our full year guidance.

We're pleased with our marketplace results, as our wine, spirits and beer businesses continue to gain share in IRI for the quarter from our brand-building investments, innovation efforts, and retail execution.

For Q1, sales growth did not translate to higher EBIT, due primarily to some timing items.

In a few moments, I will highlight some additional timing and comparison impacts for Q2.

As a result, we expect this year's profit growth to be generated in the back half of the year.

Given those highlights, let's look at Q1 performance in more detail, where my comments will generally focus on comparable basis financial results.

As you can see from our news release, Wine and Spirits net sales on an organic constant currency basis increased 4%, primarily due to higher shipment volume.

We saw shipments outpace depletions in the quarter, as our US domestic depletion volume growth was a little above 2%.

In Q2, we expect this shipment benefit to reverse and we expect depletion growth to be quite a bit higher than Q1.

As a reminder, from time to time we will see fluctuations in growth trends between shipments and depletions on a quarter-over-quarter basis due to various factors, like timing of new product introductions and promotional activities.

But from an overall standpoint, we continue to expect shipments and depletions to generally align on an annual basis.

The acquisition of Mark West provided a contribution to our total growth, as total net sales for the quarter increased 6%.

For the quarter, our consolidated gross margin was 38.3% versus 39.6% for the prior year quarter.

This result reflects an increase in COGS, driven primarily by higher grape costs.

Wine and Spirits segment operating income decreased $5 million to $128 million, as sales growth was more than offset by the impact of higher grape and SG&A costs.

The increase in SG&A was in line with our expectations, and reflects compensation increases and commercial investments in the business.

We expect to continue to see higher SG&A as we move through the year from this activity, along with planned marketing investment behind initiatives for some of our key focus brands.

Corporate costs increased less than $1 million for the quarter.

Equity earnings for Crown totaled $66 million, versus $61 million last year.

For the quarter, Crown generated net sales of $762 million, an increase of 5%, and operating income of $134 million, an increase of 9%.

The net sales and operating increase was primarily driven by volume growth, led by strong double-digit growth of Modelo Especial and the benefit of increased product pricing taken in select US markets last fall.

Interest expense for the quarter was $55 million, up 8% versus last year.

The increase was primarily due to higher average debt balances.

That provides a good spot to discuss our debt position, which saw quite a bit of activity during Q1 related to the financing of the beer transaction.

At the end of May, our total debt was just over $5 billion.

This represents a $1.8 billion increase from our debt level at the end of fiscal 2013.

The increase reflects some of the permanent financing that was executed in May in advance of the completion of the $4.75 billion beer business acquisition that closed on June 7. This included $500 million of 3.75% senior notes due in 2021, $1 billion of 4.25% senior notes due 2023, and about $221 million drawn from our accounts receivable securitization and other revolving facilities.

We funded the remainder of the purchase price with cash, term loans and borrowings under our revolving credit facility, which were not drawn or utilized until after the close of the first quarter.

The timing of this financing activity could not have been better.

Our improved credit profile, combined with the favorable interest rate environment, helped us put in place an attractive financing package with an all-in interest rate just under 3%.

This was better than our original expectations, and as a result, we now expect interest expense for the year to be in the range of $325 million to $335 million, versus our original $345 million to $355 million projection.

We still do not have full visibility to the timing of the brewery cash flows, and the current interest rate outlook remains quite volatile.

Right now, this is our best estimate.

We also finished May with $609 million of cash on our balance sheet and a little over $1.5 billion of restricted cash.

The higher than normal cash balance primarily relates to the building funds and drawing against our AR securitization facility for the beer acquisition activities.

The restricted cash relates to the senior note issuances I just outlined.

After factoring in the cash and restricted cash, our net debt at the end of May was $2.9 billion, and our net debt to comparable basis EBITDA ratio came in at about 3.2 times.

Our comparable base effective tax rate came in at 36.2% for Q1, and was essentially even with the prior year Q1 rate.

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

For Q1, we used $19 million of free cash flow, which compares to $77 million of free cash flow generation for Q1 of last year.

The decrease was primarily due to funding beer transaction related costs, higher interest expense payments, and the impact of GAAP reporting on equity-based compensation.

Our cash flow statement reflects excess cash benefits realized from stock benefit compensation awards as a reduction of cash from operating activities, offset by a benefit in cash from financing activities.

So for the quarter, there is no net impact to our cash position, but there is a negative impact on our reported free cash flow.

This is not a new reporting requirement, but it is noteworthy this quarter as we have seen a significant number of option exercises, given the substantial appreciation in our stock price over the past year.

While the accounting and reporting for this area is very technical, the tax benefit associated with this activity ultimately reduces the income taxes paid by the Company.

Now let's move to our full year fiscal 2014 outlook.

We're now forecasting comparable basis diluted EPS to be in the range of $2.60 to $2.90 a share.

This represents a $0.05 increase versus our previous guidance, and is being driven by the lower interest expense projection I outlined earlier.

This projection excludes any acquisition accounting impact.

We continue to forecast free cash flow in the range of $475 million to $575 million.

For our Wine and Spirits business, we continue to target organic revenue growth in the mid-single digit range, and low to mid-single digit operating income growth.

For the Beer business, Crown continues to target depletions and net sales growth in the low to mid-single digit range.

Operating income for Crown, before any benefits from beer manufacturing and brand right profits, is expected to be in the mid-single digit range.

We do not have any updates to our previous discussions related to the fiscal '14 incremental benefits that we are targeting from the beer manufacturing and brand rights profit stream.

Our guidance also continues to assume a tax rate of 37%, and weighted average diluted shares outstanding of 199 million.

I would like to note that from a gating perspective, we expect fiscal 2014 Q2 EBIT performance for Wine and Spirits to come in below Q2 of fiscal 2013.

As mentioned earlier, we saw shipments in Q1 outpace depletions and we expect this shipment benefit to reverse in Q2.

We also expect a portion of our planned incremental marketing investments for some of our key focus brands to occur in Q2.

From a Crown perspective -- this is before any brewery or brand owner benefits -- we expect operating growth in Q2 to be flattish versus Q2 last year.

We are overlapping Q2 fiscal 2013 income from an early termination payment related to the St.

Pauli Girl distribution agreement.

We also expect an increase in marketing expense in Q2, as marketing spend that historically occurred in the back half of the year is shifted into Q2 to further support the key summer selling season.

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

The one-time costs associated with the beer transaction are expected to approximate $80 million in fiscal 2014.

This includes approximately $50 million primarily related to professional services and transition costs associated with the transaction, and $30 million of costs for financing-related fees.

I would like to emphasize that the one-time cost and tax rate projections factored into the guidance I just highlighted are based on preliminary estimates.

As noted earlier, our guidance excludes any acquisition accounting impact.

While the purchase price allocation and acquisition accounting activities are underway, I would like to note that the disclosures related to this area in our upcoming 10-Q filing will be preliminary and subject to finalization.

The initial purchase price for the beer transaction is $4.75 billion.

This includes $1.85 billion for the remaining interest in Crown, and $2.9 billion for the brewery and perpetual brand rights.

As previously discussed, we estimate there will be a post-closing adjustment payment of approximately $560 million related to the brewery EBITDA calculation.

This payment is expected to occur about 12 months after close.

The purchase price allocation is expected to result in a significant increase in goodwill recorded on our balance sheet.

This includes a significant non-cash gain from the revaluation of our original 50% ownership interest in Crown to reflect the newly established fair market value.

This gain is essentially non taxable, and as a result, we expect this accounting requirement to result in a very low reported effective tax rate for the year.

Before we take your questions, I would like to reiterate a few key highlights as it relates to the completion of the beer transaction.

This is truly transformational for us, as it diversifies our consumer base, essentially doubles annual sales and significantly enhances operating profits and operating margins.

The brewery expansion activities over the next three years should position us for additional beer margin enhancement opportunities.

Although our leverage will move above 5 times range when factoring in a full year of acquisition earnings, we expect to focus on debt pay down to delever at a good pace and we expect to be below 4 times in approximately two years.

As we delever and complete the brewery expansion, we expect to see a dramatic increase in our free cash flow generation.

This should provide us with significant financial and capital allocation flexibility.

With that, we're happy to take your questions.

(Operator Instructions)

Your first question comes from the line of Bill Chappell with SunTrust.

Good morning.

Good morning.

Was wondering if you could talk a little bit on the grape costs, both in the quarter and then kind of looking forward.

And when I'm looking at gross margin, was the decline year over year almost all because of higher grape costs or was there higher promotion?

And then would you expect this type of impact throughout 2014, or should it ease as we get to the back end?

Yes, so I'll take that in pieces.

So the grape costs flowing through the cost of goods sold this year are pretty much as expected, right, as we -- because the last two harvests, in California specifically, the cost per ton had gone up.

And that juice will be flowing through our cost of goods sold over the next year to two.

So the cost of goods sold is up.

But to your point, for the quarter, promotion spending was up a bit, mostly due to some of the timing of the shipments versus depletions.

For the full year, we don't expect promotion spending to be up, except for the impact of positive mix.

So we do expect cost of goods sold to be up for the year, and that was part of our guidance.

We do not expect promotion spending, on a mix-adjusted basis, to be up for the full year.

But we did have a reasonable amount of quarter-over-quarter volatility.

Okay.

Great.

Then just on the beer side, was there any impact in terms of weather on the overall top line?

And then have you seen any change as weather's improved in the summer?

Yes.

So that's a great question, and we're very happy with our beer results.

We outpaced the industry again for the 13th consecutive quarter.

That being said, our results on the East Coast and in the Midwest were not very good, because the weather for the spring has actually been very wet and very cold.

And that's overlapping the previous year where the weather was actually beyond ideal.

So the whole beer industry had a very good first quarter last year.

This year, we're all kind of suffering.

We're not unique in that, but in general we're doing better than most.

We're hoping for better weather as we come into the peak summer season, which is right now.

Great.

Thank you.

Your next question comes from the line of Vivien Azer with Citi.

Hello.

Good morning.

Hello, Vivien.

I wanted to circle back on the commentary about the reversals in terms of the shipments and depletions.

I guess I was a little surprised to hear that you get a full reversal in the second quarter, because it looks like in the wine business your shipments have been running ahead of depletions for four or five quarters now.

It wasn't just kind of a 1Q '14 event.

Can you dig a little deeper into that?

Yes, Vivien.

The quarter-over-quarter thing gets a little confusing to complicate, especially -- to describe, especially when you're talking changes.

Because you have to take two years' activities into account.

But the way we look at it is there is volatility quarter over quarter, but it kind of clears up on an annual basis.

So I think if you go back and look at last year, for the full fiscal year, shipments and depletions were pretty much in line.

Actually, they have been for the last few years.

But the quarter volatility does exist.

Fair enough.

And then I wanted to follow up on Bill's question about promotional spending.

As I look at -- and I don't have the IRI data that you guys note.

I'm using Nielsen AOC.

But it looks to me that after significant easing in category-level promotional spending, that's really kind of eased off, and it actually ticked up recently.

So I'm curious whether you're seeing that on a category basis in IRI -- if you're seeing a shift in promotional spending from your competitive set?

We feel we're spending in line with the industry.

Again, a lot of our growth is coming out of the premium IRI segment, and we're making a concerted effort to get behind some of our brands there.

And we're certainly spending more of our money on focus brands.

But I think Q1 wouldn't be reflective of what we expect for the full year, especially when you look at some year-over-year indices.

Fair enough.

Thank you very much.

Your next question comes from the line of Alice Longley with Buckingham Research.

Hello.

I have a follow-up question on the difference between depletions and shipments in Wine and Spirits.

I think you said in the second quarter your depletions would improve significantly from up 2%, so I guess maybe up 4% or something like that?

Could you first of all comment on why that improves?

And then, if there's a reversal, does that mean your shipments are up 2%?

Yes.

And again, it can drive you a little bit crazy quarter over quarter.

So the second quarter will kind of even out some of the anomalies in the first quarter, because there will be a reversal of the trends.

Shipment growth will be a lot less than depletion growth in the second quarter, which was the opposite in the first quarter.

And again, for the full year, they should align.

So our income statement is driven off shipment growth, which is why we said that the Wine and Spirits business will see profits in the second quarter below the second quarter of last year.

And why do depletions accelerate?

So, again, they just happen in different cadences.

So depletions will accelerate.

Some of it will do what happened in last year's second quarter, but the other will be as we gear up going into October, November, December, we expect to have better depletion results in the second quarter.

And why does depletion get better?

Is it just the timing of your marketing?

Yes, Alice, this is Rob.

What really happens is, at the end of the fourth quarter, or I should say the fourth quarter, we had very, very, very strong depletions.

That tends to mute depletion growth in the first quarter of this year, as the inventory at retail from the fourth quarter moves through.

That moves through during the first quarter and, therefore, the second quarter we usually see bounce back to our normal depletion trends of at least around mid-single-digit depletion growth.

So fourth quarter, we had very high depletion growth, almost double digit.

First quarter, we have lower depletion growth, low-single digits.

Next quarter, we return to sort of our normal run rate.

Okay.

I mean, I suppose in the second quarter your depletions could be up 6% and your shipments still up 4%, right?

In the second quarter, you're saying?

Yes.

Yes, we're not going to comment on the exact numbers, which, of course, we don't know at this moment.

Remember, from a shipment perspective, we said that shipment growth over prior year will drive negative EBIT in the second quarter, so --

All right.

I wouldn't expect shipment growth in the second quarter.

No shipment growth at all?

Well, again, let's move on, because we're kind of filling out economic models.

We're just trying to do a favor, giving some hints on second quarter.

It's a slippery slope.

And can you comment on price mix in the wine business in the first quarter?

I think your volume was up 5.4%, and your price mix was a negative 1.4%.

Why would that be, since -- (multiple speakers)

That's a good question.

So, again, in the first quarter, we had some anomalies.

I'd say price mix in the US business, which usually really drives the bus, was slightly positive.

And if you look at the wine category, the trend continues.

Generally the more expensive the wine, the faster it's growing.

That was kind of consistent for us.

But the anomaly in the first quarter was actually we had some negative price mix outside of the US, which it's normally not big enough to have an impact, but this quarter, because the first quarter's our smallest quarter and because it was a bit anomalous in -- mostly it was Canada and New Zealand -- it kind of impacted the total business.

Again, we don't expect that to be a full-year phenomenon.

It was just a kind of anomalous first-quarter event.

Most of the negative price mix -- actually all of the negative price mix was outside of the United States.

My final question is on the beer category in the May quarter.

Can you tell us what you think the growth was, and what it was on-premise as opposed to future consumption?

Thank you.

Yes.

In the first quarter, the total beer category was down in volume terms about 1%, 1.5%, versus our depletions, which, in the first quarter, were up 3%.

In general, the trends in on-premise are worse than the trends in off-premise.

It's hard to know exactly what the on-premise trends are, because they're not tracked.

So we don't know exactly what those numbers are, except that we expect that they're probably, as I said, worse in the on-premise than in the off-premise.

Now, as it relates to the beer business overall, the negative trends were largely driven by the domestic premium segment, which, of course, is dominated by the light premium beers of the two major brewers of domestic brands in the United States.

The import category generally outperformed the domestic category.

We represent about 50% of the import category.

And as I said in my remarks, we gained about 1 point, or 100 basis points, of share of the import category, and we gained about -- oh, around 20 basis points or so of the overall beer business in the United States.

So generally, those are the trends.

Great.

Thank you.

Thank you.

Your next question comes from the line of Brett Cooper with Consumer Edge Research.

Hello, Brett.

Hello.

A couple of questions.

On the wine business, you talk about the incremental SG&A.

I don't know if you're willing to give this, but how much are we talking that that part of the wine business should be up in fiscal '14?

Yes, the numbers that you see in SG&A are a combination of SG&A and marketing.

And for the full year, we expect marketing to be up as we reinvest in the -- in mostly commercial activities and mostly marketing spend.

But SG&A will be up, as well.

The big drivers are normal raises.

They're kind of CPI inflation kind of numbers.

As we come off -- as we fully capitalize our ERP system, we have some increased depreciation around that.

And then there's some overlaps from positives we incurred last year that aren't recurring this year that make SG&A looks like it's inflating, but it's really not.

It's just overlapping anomalous positives in the previous year.

They're the three big drivers for the SG&A increase.

Would you -- I don't want to put numbers in your mouth, but would you say mid-single digits?

Would that be off base to make that sort of assumption for that part of the business?

You can see it in the P&L.

I think SG&A was up like 7%, 8%, something like that, I think, in the P&L.

I'm sorry.

I was talking for the full year, not for the first quarter.

I'm trying to figure out how much it normalizes over the back end of the year.

Oh, full year.

I would say that the full year will be a little bit less, but pretty much right around where the first quarter was.

Okay.

And then on an unrelated topic -- throughout the quarter, we've gotten the announcement on the wine in Brazil and SVEDKA, I think, whatever it was yesterday or last week in South Korea.

Could you just talk about the strategy there?

Are we likely to see more and more of this in the near future?

Is this kind of a much longer build?

When you say more of this -- what we announced in both cases was the appointment of new distributors.

So around the world, whenever we appoint a new distributor for our brand, and these were just changes, so we distributed our brands with another distributor prior to this.

Whenever we appoint a new one, we usually issue a release indicating who our new customer is.

So you'll continue to see, as we make adjustments in our distribution matrix, you'll see announcements announcing who our distributors are around the world.

So that's really the sole import of all this.

Now, as a general proposition, yes, we continue to focus on building our Business in regions and countries around the world.

We basically distribute every place in the world, largely.

And as our brands build momentum, we make adjustments in that distributor network, and these announcements were merely reflective of that.

Brazil is a fairly buoyant market for imports so, of course, we're relatively optimistic about that business on a small base.

So is South Korea but, again, on a very small base.

Thank you.

Your next question comes from the line of Lauren Torres with HSBC.

Good morning.

My question goes back to the beer business.

We've heard a lot over the last couple years of you gaining share, and Modelo portfolio growing faster than the US beer industry.

But with that said, during that time period, you've not taken pricing, or now we're seeing some minimal pricing coming through.

So just curious to get your thoughts on the ability to take more pricing.

Are you willing to give up some volume, and take that pricing, or you think the market's just not ready to accept that yet?

Well, first of all, Lauren, last year we took about 2% of pricing, which is, on a percentage basis, lower than the industry, but on a dollar basis, pretty much consistent with what the rest of the industry did.

Because you remember, our price for our product is substantially higher than the industry in general.

So on nominal terms, the same price increase results in a lower percentage for us versus the rest of the industry.

So 2% was pretty healthy.

That's point number one.

Yes, prior to that, there was a period of time, for a few years, where we really didn't take much pricing because the focus of the Business was largely against making sure that we maintained, and in fact, built market share following the recession of 2008, early 2009.

As far as our plans going forward, we expect to continue to monitor what's going on in the industry in general.

And we take a very strategic view towards pricing, and really look at it on a market-by-market, brand-by-brand basis.

And we're going to have to wait and see what happens with the rest of the industry as we move forward.

But looks like, up to now at least, pricing's been pretty healthy in the rest of the industry.

So I suppose, stay tuned for -- we'll see what happens.

Yes.

And I guess as a follow-up, and I guess you did address this at your Analyst Day, but now that you're 100% owners of the beer business, I know this is a very broad question, but any comments you'd like to make as far as things that may be done differently in beer that you may have not been able to do with a partner that you're excited about that could bring a great opportunity over the next couple years?

Sure.

Well, you know, probably the biggest area that we're excited about is the opportunities for innovation and new product development.

With the ownership of our own production, we can produce new packages and new types that previously we were entirely reliant upon the consent of Modelo to produce.

And generally, they didn't really want to do much in the way of innovation, new products, new packages, new types, no less new brands.

So we're doing a lot of thinking about what our NPD and innovation pipeline will be in the future.

We already are taking advantage of it.

We've intro'd, or we're test marketing Modelo Especial Light.

We are introducing Modelo Especial Chelada, which is a Bloody Mary-style beer, which is actually a pretty large category in the United States that's dominated entirely by one other supplier.

So we see a lot of opportunity there.

We are introducing new SKUs in draft that we haven't previously had.

So the primary area where we can really kind of do something different than what we have historically done is in the area of innovation and NPD.

Okay.

Great.

Thank you.

Your next question comes from the line of Bryan Spillane with Bank of America.

Hello, Bryan.

Hello.

Good morning.

Good morning.

Question about the wine business.

If you look at five or six quarters ago, you made the decision to ramp up or increase your marketing and promotional investment with the aim of holding or gaining market share, which you've been successful at.

And if when you look at it where you stand today, are you happy with the return on that investment, first?

And then now going forward, you feel like you have the right balance between spending on the product innovation, spending on advertising and marketing, and spending on promotion?

Or will there be any sort of tweaks to that mix going forward?

I think that certainly right now we feel like we have the right mix of those items.

And yes, we have been successful in driving share.

Our goal is not just to drive share, I'll say, as a complete and total end goal.

It's really about making sure that our brands are healthy so that we can take advantage of trends as they emerge.

Now, as we move forward in the future, I am sure, in fact, we will tweak the mix between those things.

And of course, in the end, our goal is to drive profitability and margin, but we really have to make sure, first and foremost, that the [TAB] line is healthy before we can turn our attention to that.

So we'll definitely continue to tweak the mix between those things, and especially as we sort of monitor what's going on in the industry as we move into our next fiscal year and thereafter.

And if I could just follow up?

If you look at the industry, the dynamic that's played out over the last year or so is that you've had -- the industry has seen pricing at the value end of the category, where you don't really participate.

At least our impression is that's helped maybe drive some mix benefit -- drive consumers into the next price tiers.

Just based on what you're seeing today, has anything changed in that dynamic?

Is there still firm pricing at the value end of the category, and would you expect that to continue?

Not much has changed.

The pricing is almost all at the low end.

But that's not surprising, because the low end is the least fragmented part of the category, dominated largely by two suppliers.

It has very much impacted the volume growth in the low end.

So the pricing was not without some impact on volume -- actually fairly significant.

It has driven some trade-up.

We are seeing more pricing, I suppose, at the top end, sort of above $15, $20, as wine supplies, especially in the above-$20 category, which is largely the North Coast, Sonoma, Napa -- wine supplies have been very tight up there.

So there has been some pricing there.

The, I'll say, more commercial part of the business, between $5 and $15, is much more fragmented.

So we tend not to see pricing occur in that category or in those segments as quickly as it occurs in the other two segments.

But I would say over time we probably expect to see some pricing start hitting in those categories.

And we have seen it in some specific brands.

We've seen some pricing being taken, and some specific suppliers have taken some pricing in that category.

But I would say not overall, as a general proposition.

All right.

Thank you.

Your next question comes from the line of John Faucher with JPMorgan.

Thanks for taking my question.

How are you doing, John?

I'm good, how are you?

Just a quick question here.

You talked about the on-premise being a little bit weaker for the beer business.

One of the things you're focusing on with Corona Light is more of a draft presence and getting tap handles.

So does this change -- do we need to see the on-premise reaccelerate before we see the payoff on this?

Or is this something where you think you've got enough momentum behind the brand that, even if on-premise remains a little bit weak, you can still drive some decent growth off of that?

Thanks.

Yes.

We are -- in our Business, draft is a very, very, very small percentage of our Business -- about 2%.

Well, for us, it's even less -- I'm sorry, it's even less than 2%.

But for the industry overall, it's a much higher percentage.

So we under-index grossly when it comes to draft.

So regardless, basically, of what happens on the on-premise as an overall proposition, because we're so under-indexed, it's a big opportunity for us.

Now, that said, the strategy on draft is really all about providing the opportunity on-premise for sampling of our products, which translates directly into off-premise volume and sales growth.

So I don't think that the opportunity there has much to do with what's going on in the on-premise, in general, at all.

It's all about -- we have traditionally just simply not participated in this segment.

So the growth opportunity is quite substantial for us, even without the on-premise generally growing.

John, the on-premise, as Rob said, is not growing.

We feel we are growing in the on-premise in our beer business.

As Rob said, the numbers aren't really incredibly nuclear, but we feel we're growing pretty well in draft.

Draft is helping it.

And actually, we have some tests that said -- when draft is on the account, and people can see the tap handle, they'll actually also buy the bottled brand as well.

So it's kind of synergistic in that way.

Okay.

And then -- thank you.

And then one quick follow-up here.

You talked about the wine EBIT being below last year -- shipments below depletions.

Is the margins -- should we expect the margins to be down a similar amount in Q2 versus Q1, roughly similar from that standpoint?

Yes, so we would expect margin erosion again in the second quarter, because remember I said that our profit growth is back-end weighted.

So I don't think we'll see -- for the full year, our guidance is for margin erosion in the Wine and Spirits business, because we have operating profit growth estimated below net sales growth.

But I think you're seeing anomalously negative margins in the front half, which will start to come back in the second half of the year.

Okay.

But Q2 probably somewhat similar to Q1, then?

Probably.

Okay.

Thank you very much.

Your next question comes from the line of Robert Ottenstein with ISI.

Thank you.

Guys, I was wondering if you could give us a little bit more color on what you think is driving incredibly strong beer performance?

Last year --

Good beer.

Right.

Last year, everything went right.

The weather was amazing.

The timing of the holidays was great.

You had incredibly difficult comps.

This year, the weather couldn't have been worse.

As you try to objectively look back in terms of what you're doing right in the marketplace on an execution side and marketing side, can you give us any sense of what you think is driving these incredibly impressive results on the beer side?

Yes, Robert.

Thank you for that compliment.

I hope everybody heard that.

I hope our beer business guys heard that.

But look, if you talk brands, the current juggernaut is Modelo Especial.

And it continues -- it's above 40 million cases, which is a substantial brand, and it continues to grow in the 20% range.

So I think that's the big by brand section.

I think the other thing that's happening is the import category is doing better than the premiums or the sub-premiums, so that's helping.

And I think our marketing continues to resonate with the consumer, and the strong equity continues to resonate with the consumer.

And very good sales execution.

So I'd say not any one thing.

One brand is clear -- it is Modelo Especial.

And then it's good execution around everything else.

Terrific.

And Bob, as you continue to have more conversations with your leading retail customers about the new shape of your portfolio, and the increased importance of your portfolio at a lot of the retailers, can you give us any sense of how those discussions are going?

Whether you think -- you now have obviously a bigger seat at the table, you'll have more shelf space possibly going forward -- any color around that?

Yes, Robert.

We definitely have a bigger seat at the table.

As I commented before, total beverage alcohol is probably the most important category at retail, especially in the chain and mass merchandisers environment.

And as one of the largest multi-category players, or the largest multi-category player, and third-largest player overall, that puts us in a very important position.

So our conversations with these retailers are good.

And we hope to translate our position into a better position in these retailers.

So that's something that we're always working on.

And yes, we're making progress.

We have increased points of distribution in both wine, spirits and beer.

So we think that we should be seeing continued favorable trends as a result of this.

Terrific.

And then just one last question.

Can you give us an update on where you see currency potentially affecting results this year, and are you doing any hedging of any of your peso-based costs?

How should we be thinking about that in the second half of the year?

Yes, so we do do hedging.

We hedge currencies and we hedge fuel prices -- are currently what we're hedging.

We do not yet hedge the peso, because we don't have enough data from the new business to enter into those contracts.

We are looking at it, and I would expect us to start hedging the peso as we go forward.

The dollar strengthened versus the peso, but it's been very volatile.

So we're keeping our eye on it.

Right now, it looks better than it did a month ago; but again, it's very volatile.

Of course, the euro on dollar is very volatile, as well.

That's our other big exposure.

And we're also hedging fuel prices, which actually, for us, and it's all around freight, is a bigger number than our exposure to currencies.

So I think that's what we look at going forward.

I just want to make sure I get this right.

So any decrease in the peso is going to lower your cost, so that would be a benefit.

Am I right about that?

That's correct.

Yes, because we buy in dollars.

Can you give us, I don't know, for a 10% decrease, roughly, on an annualized basis, what that could mean?

I'm not going to give those numbers because, frankly, we're still investigating.

But actually, we're not as exposed to the peso as you might think, mostly because if you go back through the myriad of contracts that we have, the beer that we do not make, we're buying in dollars from InBev.

So that's a big thing.

Natural gas is generally priced in dollars.

Natural gas fuels the plants.

In addition, most of the global beer input costs -- malt, barley, things like that, are also paid for in dollars.

It's kinds of like oil.

So really the big exposure we have in pesos is the cash costs at the facility, which is mostly labor costs.

That's our exposure, which isn't as big as you would think it would be, because remember how automated this facility is.

So yes, we have peso exposure.

It's not as big as you might think.

Okay.

And then just a follow-up on the question we had at the Investor Day on the packaging side, and you had mentioned that there was a new packaging bottling plant that was being built in Piedras Negras.

How far along is that plant in terms of -- is that plant actually in operation now?

And if not, when do you think it will be operational?

My understanding is if ABI was to sell it, you have right of first refusal.

Can you give us any color around that situation?

That's InBev's plant, so we don't have any insights to it.

But we currently aren't sourcing any glass from that, and that's really not on our radar screen right now.

Okay.

But it is in operation now?

No, to my knowledge, it is not in operation currently.

Okay.

All right.

Thank you very much, guys.

Appreciate it.

Your next question comes from the line of Tom Mullarkey with Morningstar.

Good morning, guys.

Good morning.

I have a follow-up on John's question concerning draft beer.

In your prepared remarks, you mentioned roll-outs in a few select markets.

Are there currently supply chain bottlenecks or strategic reasons why you wouldn't want to do a more broad scale roll-out of tap handles across America?

And how do you foresee the mix of draft beer for you changing over the next three to five years?

Will it be a steady creep up, or will it be a stair-step change once the bulk of the brewery expansion is done?

There's really no, I would say, overall supply chain issues, other than just -- getting the supply chain for draft beer on a large scale up and going is a relatively complicated process, because it involves producing a lot more or having a lot more kegs than you need.

It involves having the infrastructure in place for delivering kegs and having kegs returned, and so on and so forth.

So there's no issue, and we will continue to build the business.

I would say it's going to be -- as opposed to like a gigantic step change, I think it will be a slower change as we continue to build the business from where we are currently, which is about 2 million cases out of 170 million.

So I said 2%, it's actually closer to 1%, to more of the industry average, which is around 10%.

So it will be a slow build.

Obviously, that's a lot of draft beer as we build towards those numbers.

But our intention is to continue to build the business, and we are putting the infrastructure in place.

And as we continue to -- as we build out the Piedras Negras brewery, we'll be doing so, making sure that we have that capacity in mind.

Yes, so just to follow-up on Rob, our draft business is doubling -- still small, but doubling.

It is logistically complex.

But also remember, we're trying to be very selective with the accounts that we go into.

So we're at a higher end, mostly, on our draft.

So we might not get the full distribution that maybe a Bud Light or Coors Light will, because we'll be a little bit more selective.

But we're very happy with the progress so far, and I think it's a slow build.

But I'll take a slow build if it's a doubling of the business every year.

Fantastic.

Thanks, guys.

Your next question comes from the line of Mark Swartzberg with Stifel.

Good morning, guys.

This is Jesse Reinherz in for Mark.

Hello, Jesse.

How's it going?

So, question on the SG&A spend.

Sounds like we're going to see more of an uptick in marketing in 2Q than we saw in [Q1].

And then that's going to kind of level out in 3 or 4Q -- you're going to be a little bit less than we saw in Q2; is that correct?

Yes.

We were just trying to give you a hint towards Q2.

So we're -- I'm not going to get into quarterly guidance stuff on marketing spend.

But marketing spend in Q1 was below prior year.

For the full year, it's going to be above prior year.

Okay.

Yes, so you'd expect the balance of year to be higher.

Okay.

Great.

And then just on the decision to take up marketing in second quarter and beyond, is this more of a proactive move, or is this a symptom of you guys seeing increasing competition in wine, and kind of trying to get behind that?

No, it's nothing -- I'd say in beer, it's maybe more conscious to move some marketing spend into the second quarter.

It's probably a little bit of a bigger bet on baseball, and probably driving some of our Hispanic marketing.

In wine, it's more just -- I don't think we're that anomalous from prior years, we're just increasing total marketing spending in wine.

It just so happened that Q1 was a little bit lighter, and the balance of year will be heavier than prior year.

Got it.

Okay.

Thank you very much, guys.

Your final question comes from the line of Carla Casella with JPMorgan.

Hello.

Just one quick finance question.

You mentioned you put the revolver in place to fund the acquisition.

Can you just say how much you drew on it in the second quarter?

No, I'm not going to give second-quarter balance sheet stuff.

So we did draw on it to fund the acquisition, which happened seven days into the quarter.

Okay.

Great.

Thanks.

That was our final question.

I'd now like to turn the floor back over to Rob Sands for any closing remarks.

Okay.

Well, thanks for joining our call today.

We are very excited about the final completion of the beer deal.

We have great marketplace momentum across Beer, Wine and Spirits, and we're on track to meet all our goals for the year.

I hope you've had the opportunity to enjoy some of our fine products, especially the SVEDKA Stars and Stripes during the 4th of July holiday later this week.

So thanks again for your participation.

Thank you.

This concludes today's conference call.

You may now disconnect.