Molson Coors Brewing Company — Q2 2018 Form 10-Q Summary
Business context and reporting period
Molson Coors is a global brewer with operating segments in the United States, Canada, Europe and International markets. This unaudited Form 10-Q covers the three and six months ended June 30, 2018, with comparisons to the corresponding 2017 periods. Results are seasonal and quarterly performance is not necessarily indicative of full-year results.
Key financial metrics
| Metric | Q2 2018 | Q2 2017 | H1 2018 | H1 2017 |
|---|---|---|---|---|
| Net sales | $3,085.2 million | $3,091.3 million | $5,416.7 million | $5,540.0 million |
| Operating income | $590.9 million | $536.9 million | $1,020.4 million | $901.3 million |
| Net income attributable to MCBC | $424.1 million | $329.9 million | $702.2 million | $538.4 million |
| Diluted EPS | $1.96 | $1.52 | $3.24 | $2.49 |
| Operating margin | 19.1% | 17.4% | 18.8% | 16.3% |
| Net margin attributable to MCBC | 13.7% | 10.7% | 13.0% | 9.7% |
| Financial volume | 27.745 million hl | 28.340 million hl | 48.558 million hl | 50.218 million hl |
Q2 net sales were essentially flat year over year, while financial volume declined 2.1%. Six-month net sales declined 2.2% and financial volume declined 3.3%. Management attributed the Q2 earnings improvement to commodity mark-to-market gains, cost savings, lower taxes and interest expense, and positive net pricing, partly offset by lower volume, cost inflation and revenue-recognition effects.
Gross profit was $1,346.1 million in Q2, or approximately 43.6% of net sales, compared with 43.2% in the prior-year quarter. Six-month gross profit was $2,141.9 million, or approximately 39.5% of net sales, compared with 43.5% in the prior-year period.
- U.S. Q2 net sales declined 3.1% to $2,072.5 million; income before taxes declined 8.4% to $445.5 million.
- Canada Q2 net sales declined 2.5% to $397.4 million; income before taxes declined 12.1% to $61.3 million.
- Europe Q2 net sales increased 11.7% to $586.1 million; income before taxes increased 24.2% to $86.8 million.
- International Q2 net sales increased 4.3% to $67.9 million; income before taxes improved to $1.3 million from a $7.7 million loss.
Cash flow, debt and liquidity
- Six-month operating cash flow was $1,297.8 million, up from $818.5 million, primarily because of higher earnings, the $328.0 million acquisition purchase-price adjustment receipt, working-capital improvements, lower pension contributions and lower interest payments.
- Capital additions were $351.1 million in cash paid, while capital expenditures incurred were $265.6 million. Full-year 2018 capital expenditures were expected to be approximately $670 million.
- Six-month investing cash outflow was $397.2 million, and financing cash outflow was $524.7 million.
- Cash and cash equivalents increased to $792.9 million at June 30, 2018, from $418.6 million at December 31, 2017. Approximately 40% of cash was located outside the United States.
- Total long-term debt, including the current portion, was $10,852.7 million. Current debt and short-term borrowings were $1,411.0 million, and long-term debt was $9,455.1 million.
- The company had no commercial paper outstanding and had the full $1.5 billion revolving credit facility available. It was in compliance with debt covenants and payment obligations. The facility maturity was subsequently extended by one year to July 7, 2023.
- Reported long-term credit ratings were BBB-/Stable from S&P, Baa3/Stable from Moody’s and BBB(Low)/Stable from DBRS.
Material changes versus the prior comparable period
- Net income attributable to MCBC increased 28.6% in Q2 and 30.4% in the first half; diluted EPS increased 28.9% and 30.1%, respectively.
- The company recorded a $328.0 million special-item gain in the first quarter from settlement of the Miller International Business acquisition purchase-price adjustment. This drove much of the first-half increase in operating income and cash flow and is not representative of recurring operations.
- Q2 commodity derivative activity produced a $62.2 million pretax gain in cost of goods sold, compared with a $17.7 million loss in the prior-year quarter. For the first half, the company recorded a $12.2 million loss, compared with a $39.7 million gain in the prior year.
- The U.S. and Canada experienced lower volumes and profitability, while Europe and International improved in Q2. Worldwide brand volume declined 2.4% in Q2 and 2.7% in the first half.
- Effective January 1, 2018, the company adopted new revenue-recognition guidance. For Q2, reported net sales were $24.7 million lower and operating income was $11.7 million lower than under the prior guidance; for the first half, the effects were reductions of $40.8 million and $14.7 million, respectively. The company expects the change to reduce 2018 revenue and marketing, general and administrative expenses by approximately $60 million to $70 million, with no full-year net income impact.
- The company acquired Aspall Cyder Limited in the first quarter and formally began exiting its China business.
- Special charges included brewery and cidery closures, restructuring and the China exit. Planned closures include the Colfax cidery in December 2018 and Vancouver and Montreal breweries in 2019 and 2021, respectively.
Guidance, outlook, commentary and risks
- Management expected 2018 corporate net interest expense of approximately $330 million, defined-benefit pension contributions of approximately $10 million and capital expenditures of approximately $670 million.
- Management expected a long-term consolidated effective tax rate of 20% to 24%, primarily reflecting the 2017 Tax Act, while noting continued uncertainty regarding tax interpretations and GILTI accounting.
- The quarterly dividend remained $0.41 per share. Share repurchases were suspended while the company prioritizes debt reduction. Management expected to maintain the current dividend until reaching a 3.75x debt-to-EBITDA leverage ratio, anticipated near the second half of 2019.
- Management expected International to be a meaningful driver of 2018 results and cited continued portfolio, pricing, productivity and premiumization initiatives across the segments.
- Key operating risks include declining U.S. and Canadian volumes, competitive pressure, consumer preference shifts, aluminum and freight/fuel inflation, foreign-exchange volatility, commodity-price exposure and Europe receivable concentration.
- The company retained approximately $4 million of estimated exposure to Agrokor receivables and stated that the July 2018 settlement plan was not expected to have a significant financial-statement impact, although evaluation was continuing.
- Stone Brewing Company filed a trademark lawsuit concerning the Keystone brand. A potential loss range was not estimable at June 30, 2018.
- Guarantee liabilities totaled $59.8 million, and aggregate litigation, environmental and other contingency accruals were $13.9 million. The maximum potential claims remaining for Kaiser-related purchased tax credits were $90.3 million.
- Management identified no material impairment trigger for goodwill or indefinite-lived intangible assets, but noted that future impairment charges remain possible if assumptions are not achieved.
- Subsequent to quarter end, the company announced a proposed Canadian cannabis beverage joint venture with HEXO. The transaction remained subject to closing conditions and carries legal, regulatory, consumer-acceptance and reputational risks.
Important facts for investors to verify
- Separate recurring operating performance from the $328.0 million acquisition settlement gain and volatile commodity-derivative gains.
- Assess the sustainability of earnings and margins given continued volume declines, particularly in the U.S. and Canada.
- Reconcile reported results under the new revenue-recognition standard with prior-period results and management’s estimated $60 million to $70 million full-year revenue reclassification.
- Review debt maturities, leverage progression, covenant headroom and the company’s plan to reduce debt before resuming share repurchases or increasing dividends.
- Monitor capital spending related to the British Columbia and Montreal brewery projects and the expected $670 million 2018 capital-expenditure level.
- Evaluate exposure to commodity prices, foreign exchange, European customer credit, Agrokor, the Stone trademark litigation and Kaiser indemnities.
- Track the proposed HEXO cannabis beverage joint venture, including closing conditions, regulatory developments and potential effects on existing beer brands and investor perception.