Keurig Dr Pepper Inc. quarterly report, Q1 FY2019

Keurig Dr Pepper Inc. — Q1 2019 Form 10-Q

Reporting period: Three months ended March 31, 2019. Amounts are in U.S. dollars; financial figures are in millions unless noted.

Business context and comparability

KDP operates coffee systems, packaged beverages, beverage concentrates and Latin America beverages. The Dr Pepper Snapple Group merger closed July 9, 2018, so Q1 2019 includes the combined company while reported Q1 2018 results largely reflect the pre-merger Keurig business. Reported year-over-year growth is therefore not a like-for-like comparison; management also provides adjusted Q1 2018 pro forma comparisons.

Financial performance

Adjusted results are non-GAAP measures. Management said underlying adjusted sales grew 2.5%, from volume/mix growth of 1.4% and net price realization of 1.1%; portfolio changes, calendar timing and foreign exchange more than offset that growth in reported adjusted sales. Adjusted operating income growth reflected productivity and merger synergies, partly offset by input-cost and logistics inflation.

Net cash provided by operating activities was $591, versus $267 in Q1 2018; capital expenditures were $62, and net cash used in investing activities was $45. Financing activities used $556, including debt repayments and $211 of dividends. Cash and cash equivalents were $85 at quarter-end; cash, restricted cash and restricted cash equivalents totaled $139.

Debt, liquidity and balance sheet

Short-term borrowings and current long-term debt were $2,018, and long-term obligations were $13,246, for reported debt obligations of $15,264 in total. Commercial paper outstanding was $1,674. The $2,400 revolving credit facility was undrawn, and the company reported compliance with its financial covenants. KDP refinanced its term loan in February and said it made approximately $414 of net repayments related to notes, term loans and commercial paper during the quarter. Moody’s rated long-term debt Baa2 with a negative outlook; S&P rated it BBB with a stable outlook.

Current assets were $2,162 and current liabilities $6,656. Management said operating cash flows, cash on hand and available financing were expected to cover obligations over the next twelve months. It also identified rapid deleveraging within two to three years of the merger as a liquidity priority. Accounts payable obligations used by suppliers in third-party payment programs were $1,898.

Changes, outlook, risks and unusual items

• Comparable performance: Adjusted sales were down 1.1% against the adjusted pro forma prior-year period, despite 2.5% underlying growth. Coffee Systems adjusted sales rose 1.7%; Packaged Beverages fell 5.3%; Beverage Concentrates rose 4.8%; Latin America Beverages rose 2.7%.
• Merger integration: The company targets $600 of synergies over three years and expects $750 of total cash expenditures, including capital expenditures and expenses, with the program expected to finish by 2021. Cumulative pretax program charges were approximately $215 through March 31, 2019; Q1 charges were $61.
• Debt and interest: Interest expense was $169 and loss on early extinguishment of debt was $9. The company cited refinancing, swap gains and deleveraging as contributors to lower adjusted interest expense. A 1% interest-rate change was estimated to affect annual interest expense by about $34.
• Market risks: Management estimated a 10% currency-rate change could affect annual operating income by approximately $40. A 10% move in unhedged commodity prices was estimated to affect 2019 operating income by $12. Commodity derivative contracts had a net liability fair value of $27.
• Legal contingency: Keurig is defending a California Proposition 65 coffee-warning lawsuit; the company could not reasonably estimate potential loss. KDP subsidiary ABC also sued BA Sports Nutrition over an attempted early termination of a distribution contract; the outcome and potential recovery are uncertain.
• Other items: Q1 other operating income included a $10 net benefit from renegotiating a manufacturing contract. A February malware incident affected Coffee Systems; the filing’s reconciliation identifies a related adjustment but does not provide a clear standalone loss amount. ASC 842 lease adoption increased assets by about $314 and liabilities by about $319 at adoption. The company estimated a potential obligation of approximately $200 for a Texas headquarters lease expected to begin in 2021.
• Controls and guidance: Management reported disclosure controls effective at quarter-end, while noting merger integration activities could materially affect internal controls during 2019. The filing provides no specific full-year revenue or earnings guidance.

Key facts for investors to verify

• Use the adjusted pro forma comparison, rather than reported Q1 2018 results, to assess underlying trends; review the adjustments and non-GAAP reconciliations.
• Track delivery of the $600 synergy target against the $750 expected integration-program cash cost and the stated deleveraging timeline.
• Assess debt maturities, commercial-paper refinancing exposure, credit ratings and the negative Moody’s outlook.
• Monitor segment volume and pricing trends, especially Packaged Beverages portfolio/calendar effects and Coffee Systems pricing.
• Follow the Proposition 65 and BA Sports Nutrition proceedings, the malware incident’s financial effects, and integration-related internal-control changes.