COCA COLA CO quarterly report, Q2 FY2010

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Business context and reporting period

The Coca-Cola Company filed this unaudited Form 10-Q for the quarter ended July 2, 2010. The filing compares the three- and six-month periods with the corresponding 2009 periods. Amounts are in U.S. dollars; financial statement figures are in millions unless noted. Beverage sales are seasonal, with the second and third quarters typically strongest.

Financial performance and position

  • Second quarter: Revenue was $8.674 billion, up 5%; gross profit was $5.719 billion, up 7%; operating income was $2.763 billion, up 13%; and net income attributable to Coca-Cola shareowners was $2.369 billion, up 16%. Diluted EPS was $1.02 versus $0.88.
  • First half: Revenue was $16.199 billion, up 5%; operating income was $4.946 billion, up 15%; and shareowner net income was $3.983 billion, up 18%. Diluted EPS was $1.71 versus $1.46.
  • Margins: Gross margin increased to 65.9% from 64.8% in Q2 and to 66.1% from 64.3% for the first half. Operating margin increased to 31.9% from 29.5% in Q2 and to 30.5% from 27.9% for the first half.
  • Cash flow: First-half operating cash flow was $4.310 billion, versus $3.662 billion. Investing activities used $1.338 billion, including $893 million of capital spending; financing activities used $1.875 billion. Cash and cash equivalents ended at $7.735 billion. Operating cash flow less capital spending, a simple derived measure, was $3.417 billion.
  • Liquidity and debt: Cash, cash equivalents and short-term investments totaled $10.099 billion; current assets were $18.574 billion and current liabilities $13.934 billion. Loans and notes payable were $6.738 billion, current maturities of long-term debt $544 million, and long-term debt $4.427 billion. The company also reported approximately $2.4 billion in unused committed credit lines and described liquidity as strong.
  • Shareholder distributions: First-half dividends were $2.030 billion; dividends per share were $0.44 in Q2 and $0.88 for the first half. Management expected to repurchase at least $1.5 billion of stock in 2010, primarily after the CCE transaction closes.

Material changes versus prior comparable periods

  • Worldwide unit-case and concentrate-sales volumes each rose 5% in Q2 and 4% for the first half. First-half regional unit-case growth was strongest in Eurasia and Africa (+11%), while Europe declined 1% and North America was flat.
  • Revenue growth reflected volume and favorable currency, partly offset by bottling-operation deconsolidations. Price and product/geographic mix was neutral in Q2 and reduced first-half revenue growth by 1 percentage point.
  • Gross and operating margins improved, helped by geographic and product mix, currency, and deconsolidation of bottling entities. The company cautioned that deconsolidation also reduced reported revenue.
  • Equity income rose to $356 million in Q2 from $310 million and to $492 million for the first half from $327 million. Interest expense declined to $81 million in Q2 and $166 million for the first half, partly reflecting lower rates and deconsolidation.
  • First-half net income included a $103 million Venezuelan subsidiary remeasurement loss and $26 million of other-than-temporary investment impairments. Other income (loss) was a $97 million loss for the first half, versus a $20 million loss in 2009.

Outlook, management commentary and risks

  • Management expected substantial operating cash flow in 2010 and forecast a 2010 effective tax rate of approximately 23.2% before discrete items. It expected currency to have a slightly favorable effect on full-year operating income, price and mix to be neutral, and 2010 capital spending to be in line with 2008 and 2009.
  • Management expected full-year pension expense to decline approximately $50 million versus 2009 and anticipated a further $25 million of pension contributions in the remainder of 2010.
  • The proposed acquisition of CCE’s North American operations was expected to close in Q4 2010, subject to shareholder, regulatory and other approvals. Consideration included Coca-Cola’s 34% CCE stake, valued at about $3.4 billion, and assumption of approximately $8.9 billion of CCE debt. The company also agreed to sell its Norwegian and Swedish bottling interests for about $822 million cash.
  • For the CCE integration, management projected approximately $350 million in annual operational synergies, phased in over four years, and about $425 million of integration costs over three years. The company separately targeted $500 million of annualized productivity savings by end-2011, with approximately $500 million of total costs expected by then.
  • A related Dr Pepper Snapple distribution agreement required a one-time $715 million payment upon completion of the CCE acquisition. The agreement had a 20-year initial term, with renewal periods.
  • Risks included failure to complete the CCE deal, conditions imposed by regulators, integration costs exceeding estimates, failure or delay in achieving synergies, employee/customer/supplier losses, and increased borrowing costs from assuming CCE debt. CCE shareholder suits sought to block or unwind the transaction; the company said it would defend the claims and considered them without merit.
  • Venezuela was deemed hyperinflationary; further currency devaluation could cause additional losses or impairment of related intangible assets. The company also cited difficult European and U.S. economic conditions, weather effects, foreign exchange exposure, and ordinary-course legal and tax contingencies. It did not expect pending legal matters to have a material adverse effect on the company as a whole.
  • Other unusual items included $174 million of first-half operating charges, primarily productivity, integration and restructuring costs, and a $14 million first-quarter tax charge following legislation affecting Medicare Part D subsidies. Management said results to date were not necessarily indicative of full-year results.

Important facts for investors to verify

  1. Whether the CCE acquisition and related Nordic bottling sales received all approvals and closed on the anticipated terms and timetable.
  2. How the $8.9 billion of assumed CCE debt affects leverage, interest expense, credit ratings and capacity for dividends, buybacks and investment.
  3. Whether projected CCE synergies and productivity savings are achieved, and how actual integration costs compare with the estimates.
  4. Whether volume growth, margins and cash generation persist after adjusting for currency, bottling deconsolidations, seasonality and unusual charges.
  5. Developments in Venezuela’s exchange-rate regime, potential additional remeasurement losses, and any impairment of related assets.
  6. Outcomes of CCE shareholder litigation, regulatory review, and material tax or other contingencies.