Constellation Brands, Inc. — FY2018 Form 10-K
Reporting period: Fiscal year ended February 28, 2018. The filing is an annual report, not a standalone quarterly filing; selected fiscal fourth-quarter results are included. Amounts are in U.S. dollars unless otherwise noted.
Business context
Constellation is an international producer and marketer of beer, wine and spirits. Its portfolio is led by Mexican imported beer in the U.S. and premium wine and spirits. Beer generated 61% of net sales in FY2018. Management’s strategy emphasizes premium brands, organic growth, acquisitions and expanded Mexican beer production.
Financial performance and liquidity
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Net sales | $7.585 billion | $7.332 billion | +3% |
| Gross profit | $3.817 billion | $3.529 billion | +8% |
| Gross margin | 50.3% | 48.1% | +2.2 percentage points |
| Operating income | $2.285 billion | $2.399 billion | -5% |
| Net income attributable to CBI | $2.319 billion | $1.535 billion | +51% |
| Diluted EPS, Class A | $11.55 | $7.52 | +54% |
| Operating cash flow | $1.931 billion | $1.696 billion | +$235 million |
| Capital expenditures | $1.058 billion | $907 million | +$150 million |
- Beer net sales rose 10% to $4.659 billion; shipment volume increased 8.8%. Beer segment operating income grew 20% to $1.838 billion, driven by Mexican beer volume, selective pricing and lower production costs.
- Wine and Spirits net sales declined 6% to $2.927 billion, mainly reflecting the Canadian wine divestiture. Organic net sales increased, supported by favorable product mix; U.S. Focus Brand depletions rose 6.6%.
- Cash and cash equivalents were $90 million at year-end. Total debt was approximately $10.2 billion, up $949 million year over year. The company reported $1.14 billion of remaining revolving credit capacity and compliance with its debt covenants.
- Current assets were $3.474 billion and current liabilities were $1.945 billion. The filing states liquidity was adequate to meet working-capital needs, debt service, dividends and planned capital expenditures.
Fiscal fourth-quarter results
For the quarter ended February 28, 2018, net sales were $1.766 billion, gross profit was $849 million, net income attributable to CBI was $926 million, and diluted Class A EPS was $4.64. Fourth-quarter earnings included a $363 million provisional tax benefit from the Tax Cuts and Jobs Act and a $255 million after-tax unrealized gain related to Canopy Growth securities and warrants. FY2017 fourth-quarter results included a $196 million after-tax gain from the Canadian divestiture.
Material changes and unusual items
- Net income growth substantially exceeded operating income growth because of the provisional tax benefit and Canopy-related fair-value gains. FY2018 income from unconsolidated investments was $487 million, including $453 million net of hedging from Canopy investment and warrant remeasurement; management warned that fair value may remain volatile.
- The FY2018 effective tax rate was 0.5%, versus 26.5% in FY2017, primarily due to the $363 million provisional tax benefit, foreign tax rates and stock-based compensation tax effects. The tax accounting remained provisional and could be revised.
- Operating income included $189 million of net unfavorable comparable adjustments, versus $204 million favorable in FY2017. Items included an $86.8 million Ballast Point trademark impairment, a $59 million glass-supply contract termination loss, and a $19.1 million write-down of wildfire smoke-damaged bulk wine. FY2017 included the $262 million Canadian divestiture gain.
- FY2018 acquisitions included Funky Buddha and Schrader Cellars. The company also invested $191 million in Canopy Growth for a 9.9% interest and warrants. In April 2018, it agreed to sell its remaining Australian and European business interest for about $100 million, expecting an approximately $85 million gain subject to closing conditions.
Outlook, risks and contingencies
- Management expected an FY2019 effective tax rate of 18%–20%, capital expenditures of $1.15–$1.25 billion, and approximately $560 million returned through dividends. It targeted additional Mexican beer capacity of 12.5 million hectoliters over five fiscal years, taking planned capacity to about 44 million hectoliters.
- Principal risks include dependence on the Mexican beer brands and a limited number of breweries and glass suppliers; construction delays or cost overruns in brewery and glass-plant projects; water, agricultural-input and packaging availability; climate and catastrophic events; competition and changing consumer preferences; distributor concentration; cyber and ERP implementation risks; and substantial indebtedness.
- The five largest customers represented 32.5% of net sales; Southern Glazer’s Wine and Spirits alone represented 13.0%. The filing identifies ordinary-course legal and regulatory matters but states management did not expect pending matters to materially affect results; outcomes remain uncertain.
- Contractual obligations totaled $21.983 billion, including $9.517 billion of long-term debt principal, $2.996 billion of related interest payments, and $7.702 billion of purchase obligations. The company reported no material off-balance-sheet arrangements.
Most important facts for investors to verify
- How much of reported earnings and EPS growth is attributable to the nonrecurring tax benefit and volatile Canopy fair-value gains, versus core operating performance.
- Whether Mexican beer volume growth and segment margins can continue, and whether planned production expansions remain on schedule and within budget.
- Debt repayment capacity and leverage as capital spending, dividends and share repurchases continue; review debt maturities and covenant headroom.
- Final adjustments to provisional tax accounting, the Canopy investment’s subsequent fair value, and the closing and realized gain on the planned business-interest sale.
- Potential impact of the Ballast Point impairment, California wildfire-related inventory damage and any insurance recovery.
KPMG issued unqualified opinions on the consolidated financial statements and internal control over financial reporting; management also concluded disclosure controls were effective.