Boston Beer Company, Inc. — Q2 2011 Form 10-Q
Business context and period: The company sells alcoholic beverages, including Samuel Adams, Twisted Tea and HardCore. This unaudited report covers the quarter and six months ended June 25, 2011, compared with the periods ended June 26, 2010. Dollar amounts below are in millions unless stated otherwise.
Financial results and liquidity
| Metric | Q2 2011 | Q2 2010 | First half 2011 | First half 2010 |
|---|---|---|---|---|
| Net revenue | $134.0 | $129.6 | $236.1 | $223.6 |
| Gross profit | $76.1 | $72.3 | $128.4 | $120.2 |
| Operating income | $44.9 | $26.6 | $51.5 | $36.9 |
| Net income | $28.0 | $16.3 | $32.0 | $22.5 |
| Diluted EPS | $2.01 | $1.13 | $2.29 | $1.57 |
- Q2 net revenue rose 3.4%; first-half net revenue rose 5.6%. Total shipments increased 3.0% in Q2 and 5.9% for the first half. Core-brand depletions rose about 6.8% in Q2; management estimated year-to-date depletions through July were up about 6%.
- Management reported core-product gross margin of 56.9% in Q2 versus 55.8% a year earlier, and 54.5% for the first half versus 53.8%. Lower ingredient costs and higher selling prices supported Q2 margin; unfavorable package mix and brewery processing costs partly offset benefits.
- Advertising, promotional and selling expenses increased 15.4% in Q2 and 18.4% in the first half, reflecting greater brand investment, sales staffing and freight costs. General and administrative expense also increased.
- Cash and cash equivalents were $66.3 at June 25, up from $49.0 at December 25, 2010. Current assets were $142.2 and current liabilities $82.6. There were no borrowings on the $50.0 revolving credit facility, which expires March 31, 2013; the company reported covenant compliance.
- First-half operating cash flow was $42.4 versus $27.2 in 2010; investing cash use was $6.0 versus $4.2, principally for brewery equipment. Financing cash use was $19.1, including $22.6 of share repurchases. The company reported no off-balance-sheet arrangements.
- Inventory was $31.8, up from $26.6 at year-end. Total liabilities were $103.3; the balance sheet reports no outstanding debt borrowings.
Material changes and unusual items
- Q2 and first-half operating income and net income include a $20.5 cash settlement received from the former glass-bottle supplier over the 2008 recall, recorded as an offset to operating expenses. The company also reversed about $0.6 of reserves against supplier invoices as an offset to cost of goods sold. Operating cash flow includes the settlement payment, so reported earnings and cash generation benefit from this nonrecurring item.
- Excluding the settlement, management reduced its 2011 diluted EPS outlook to $3.20–$3.60 from $3.45–$3.95, citing lower expected full-year depletions and higher energy costs. The projection includes an estimated $0.10–$0.20 per-share negative impact from Freshest Beer Program-related shipment reductions; actual results could vary significantly.
- After quarter-end, the board increased the share-repurchase expenditure limit from $225.0 to $250.0. By July 29, the company reported $219.9 of cumulative repurchases and $30.1 remaining under the limit.
Outlook, risks and contingencies
- Management expected 2011 revenue per barrel to increase about 1%, excluding further price changes, and full-year gross margin of 54%–56%. If the Freshest Beer Program reaches 50% of volume, it expected shipment growth of 6%–7%.
- The company expected to increase full-year brand-support investment by $12–$18, with about $10 incurred in the first half. It cautioned that increased advertising and promotional investment may not produce sales growth.
- Management cited competitive pricing, anticipated barley-cost pressure from the 2011 crop, and energy and freight costs as risks. It was exploring price increases for the second half of 2011 or early 2012. Estimated 2011 capital expenditures were $15–$25, mainly for brewery investments and kegs.
- Outstanding purchase commitments included $38.6 for hops, $14.2 for barley and $6.5 for advertising contracts, plus $3.6 of other non-cancelable commitments. Hops contracts extend through crop year 2015 and are mostly denominated in euros.
- The company received an approximately $1.3 arbitration award related to the Rochester brewery, but said collection was in doubt; it did not expect the loss of that capacity to materially affect near-term ability to meet demand. Management reported no pending or threatened litigation expected to materially adversely affect financial condition or results.
- Unrecognized income tax benefits were approximately $7.2, with $4.0 accrued for related interest and penalties. A Massachusetts tax audit was completed and under appeal; two other states were also auditing the company. Management did not expect potential changes to have a material impact.
- Management stated that interim results are not necessarily indicative of full-year results. It reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- How much of reported earnings and operating cash flow reflects the one-time recall settlement, and what underlying earnings trend remains after it is excluded?
- Whether shipment and depletion growth, including Freshest Beer Program implementation, supports the reduced EPS and margin outlook.
- Whether barley, energy and freight cost increases can be offset by pricing, productivity and product mix, without eroding demand or margins.
- The pace and price of further share repurchases, and the effect of repurchases on cash available for operations and capital spending.
- Developments in the Rochester brewery litigation and tax audits, including collectability of the arbitration award and any changes in tax reserves.