Filing and reporting period
The supplied filing is Dr Pepper Snapple Group, Inc.’s unaudited Form 10-Q for the quarter and six months ended June 30, 2011—not a filing under the name Keurig Dr Pepper Inc. The company operated beverage businesses in the U.S., Canada, Mexico and the Caribbean across Beverage Concentrates, Packaged Beverages and Latin America Beverages. All amounts below are in U.S. dollars; financial amounts are in millions unless stated otherwise.
Financial performance
| Metric | Three months ended June 30, 2011 | Change vs. 2010 | Six months ended June 30, 2011 | Change vs. 2010 |
|---|---|---|---|---|
| Net sales | $1,582 | +4% | $2,913 | +5% |
| Gross profit / margin | $920 / 58.2% | $6 lower; margin 61.0% prior year | $1,704 / 58.5% | $26 higher; margin 60.6% prior year |
| Operating income / margin | $290 / 18.3% | $20 lower | $492 / 16.9% | $5 lower |
| Net income | $172 | Down 6% | $286 | Up 5% |
| Diluted EPS | $0.77 | Up from $0.74 | $1.27 | Up from $1.09 |
| Operating cash flow | Not separately reported for the quarter | $256 | Down from $1,266 |
Quarterly sales growth reflected pricing, favorable mix and currency, and sales associated with brands returned to the company under licensing arrangements. Six-month net income increased despite slightly lower operating income, helped in part by lower interest expense and a lower effective tax rate. Share repurchases reduced weighted-average shares, contributing to EPS growth.
Balance sheet, cash flow and capital allocation
- At June 30, 2011, cash was $550, up from $315 at year-end 2010. Current assets were $1,695 and current liabilities $1,561 (current ratio approximately 1.09).
- Long-term obligations were $2,184, plus $402 current portion; the balance sheet therefore reported $2,586 in total obligations, including capital leases. Cash less these obligations was approximately $2,036.
- The company issued $500 of 2.90% senior notes due 2016 in January. The $500 million revolving credit facility had no borrowings; $492 was available for additional borrowings and letters of credit. No commercial paper was outstanding. The company reported compliance with debt covenants.
- Six-month investing cash outflow was $103, including $104 of capital expenditures. Financing cash inflow was $79, including $500 of note proceeds, offset by $325 of share repurchases and $111 of dividends paid.
- Operating cash flow fell sharply from $1,266 in the prior-year period, principally because 2010 included a one-time $900 payment from PepsiCo recorded as deferred revenue. The filing also cites higher tax payments and seasonal working-capital uses in 2011.
- The company repurchased 8.4 million shares for approximately $325 in the first half, including 5.7 million shares for approximately $225 in Q2. Q2 dividends declared were $0.32 per share, up from $0.25 in Q1.
Material changes and segment trends
- Beverage Concentrates: Q2 sales were $321, up 1%, and segment operating profit (SOP) was $216, up 4%. First-half sales were $576, up 3%, and SOP was $371, up 5%. Pricing and licensing revenue supported results.
- Packaged Beverages: Q2 sales were $1,135, up 4%, but SOP fell $24 to $139. First-half sales were $2,120, up 5%, while SOP fell $29 to $248. Higher sweetener, packaging and other commodity costs, fuel and logistics costs, marketing investment, and costs associated with returned brands weighed on profit.
- Latin America Beverages: Q2 sales rose 16% to $126, while SOP fell $1 to $17. First-half sales rose 15% to $217, while SOP fell $1 to $24. Volume and currency helped sales; higher input and logistics costs pressured profit.
- Overall volume measured in bottler case sales was flat in both the quarter and first half. For the first half, U.S. and Canadian volume was flat, while Mexico and Caribbean volume increased 5%.
- Gross margin contracted as higher sweetener, packaging and other commodity costs outpaced pricing and supply-chain efficiencies. SG&A also increased, notably from transportation and fuel costs.
Outlook, risks and contingencies
- Management said operating cash flow should be sufficient for anticipated obligations over the next 12 months, with cash and the revolving facility available if needed. No specific earnings or revenue guidance was provided in the supplied filing text.
- The company expected annual discretionary capital expenditures, net of disposals, of approximately 4.5% of net sales. It identified anticipated tax payments related to PepsiCo and Coca-Cola licensing agreements of approximately $18 in 2011 and $535 in 2012.
- Key exposures include commodity price volatility (including PET, fuel, corn, aluminum, sucrose, apple juice concentrate and natural gas), foreign exchange and interest rates. Management estimated that a 10% currency-rate change could affect annual net income by about $16; a 10% commodity-price change could affect annual net income by about $15. These are sensitivities, not forecasts.
- Management noted that price recovery may be limited by competition, and that weather and seasonality affect beverage sales. A downgrade in debt ratings could raise financing costs. Foreign cash represented approximately 15% of total cash and might not be immediately available for all uses.
- The company reported no material changes to the risk factors in its 2010 Form 10-K and no off-balance-sheet arrangements likely to have a material effect other than letters of credit. It said pending legal matters were not expected to have a material adverse effect. A California wage-and-hour class-action settlement of $4.25 was accrued in 2010; a separate Snapple case settled in May 2011 for a nominal amount, with no admission of liability. Environmental cleanup costs at a New Jersey Superfund site remain undetermined.
- Tax benefits tied to the PepsiCo and Coca-Cola licensing arrangements included $6 in Q2 and $9 for the first half; the filing says these benefits will not recur beyond 2011. Potential Canadian legislation could lead to a partial write-down of deferred tax assets, partly offset by a related liability to Kraft.
Important facts for investors to verify
- Confirm the issuer identity: this is a 2011 Dr Pepper Snapple Group filing, not a filing by the present-day Keurig Dr Pepper Inc.
- Assess whether pricing can offset persistent commodity, fuel and distribution costs, particularly in Packaged Beverages, where sales rose but SOP declined.
- Review the quality and sustainability of cash generation, distinguishing recurring operating cash flow from the prior-year $900 one-time PepsiCo payment and considering 2012 tax payments.
- Check the maturity and refinancing plan for the $400 of 1.70% notes due in December 2011, alongside total debt, available revolver capacity and covenant compliance.
- Evaluate volume trends by brand and segment, including declines in Mott’s and several Core 4 brands, and the contribution from returned brands and Sun Drop’s launch.
- Monitor the licensing agreements’ deferred-revenue recognition, related tax effects, commodity and currency hedges, and the unresolved Superfund cost exposure.