Monster Beverage Corporation — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. Unaudited consolidated results; dollar amounts below are in millions unless noted.
Business context and reporting period
Monster develops, markets and sells energy drinks and concentrates. Its reportable segments are Monster Energy Drinks, Strategic Brands (including brands acquired from The Coca-Cola Company, or TCCC) and Other. The company acquired flavor supplier American Fruits & Flavors (AFF) on April 1, 2016, and continued transitioning U.S. distribution rights to TCCC’s network.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $827.5 | $693.7 | $1,507.7 | $1,320.5 |
| Gross profit | $517.8 | $394.5 | $940.9 | $763.5 |
| Gross margin | 62.6% | 56.9% | 62.4% | 57.8% |
| Operating income | $288.5 | $366.1 | $543.2 | $373.8 |
| Net income | $184.2 | $229.0 | $348.1 | $233.4 |
| Diluted EPS | $0.90 | $1.26 | $1.69 | $1.31 |
| Operating cash flow | — | — | $247.6 | $160.8 |
- Q2 sales rose 19.3%; six-month sales rose 14.2%. Case volume increased 28.7% in Q2 and 27.4% for the six months. Growth reflected higher demand, the addition of Strategic Brands, and price increases effective August 2015.
- Management estimated those price increases added $29.9 million to Q2 sales and $55.6 million to six-month sales. Average net sales per case fell 8.1% in Q2 and 10.8% for the six months, primarily because concentrates and beverage bases in Strategic Brands generate lower revenue per case.
- Gross margin improved, which management attributed to segment and product mix, lower costs for certain raw materials, pricing and the absence of lower-margin divested brands.
- Q2 operating income and net income declined year over year largely because Q2 2015 included a $161.5 million gain on the sale of Monster Non-Energy. Six-month operating income and net income increased; lower distributor termination costs and higher gross profit outweighed the absence of that prior-year gain.
Liquidity, capital allocation and obligations
- At June 30, cash and cash equivalents were $434.8 million and short-term investments were $44.3 million, compared with $2,175.4 million and $744.6 million, respectively, at December 31, 2015. The reduction primarily reflects share repurchases and the AFF acquisition.
- Current assets were $1,292.8 million and current liabilities $497.4 million. Total assets were $4,038.1 million; stockholders’ equity was $3,192.4 million.
- The filing reports no material conventional borrowings; it shows $1.6 million in capital lease obligations. Total contractual obligations were $187.6 million, including sponsorship and marketing commitments, operating leases and supplier purchase commitments.
- Operating cash flow was $247.6 million for the six months. Investing activities provided $2.6 million net, including the $688.5 million AFF purchase offset by investment maturities. Financing activities used $1,995.2 million, primarily for repurchases.
- Monster repurchased 12.82 million shares for $2.0 billion through a modified Dutch auction at $156 per share. On August 2, 2016, the board authorized a further $250 million repurchase program; no shares had been repurchased under it as of August 5.
Material changes, outlook and risks
- AFF brought the company’s primary flavor supplier in-house and added $618 million of preliminary non-amortizing flavor formula intangibles. The purchase-price allocation remained preliminary. Management said raw-material cost savings were minimally realized in Q2 because existing and acquired inventory had not yet flowed through cost of sales.
- Distributor termination costs were $25.3 million in Q2 and $28.7 million for the six months, versus $12.2 million and $218.2 million in the comparable 2015 periods. Q2 2016 sales included $5.0 million of accelerated deferred-revenue recognition tied to distributor terminations.
- Management stated that existing cash resources and operating cash flow should meet working-capital and other needs for at least 12 months. Estimated capital expenditures, including real estate purchases, were expected to be less than $150 million through June 30, 2017, subject to change. No specific revenue or earnings guidance was provided.
- About 42% of Q2 net sales and 44% of six-month net sales were to TCCC subsidiaries. Management noted that losing or reducing purchases by a large customer could materially affect results. Foreign exchange reduced Q2 segment net sales by about $4.1 million and six-month segment net sales by about $16.3 million.
- Key disclosed risks include energy-drink product-safety and advertising litigation or regulation, distributor transitions, reliance on TCCC and major customers, competition, consumer demand, foreign exchange, and input availability and costs. The San Francisco City Attorney case was set for trial in April 2017; the company stated it could not estimate a reasonably possible loss range. Accrued loss contingencies were approximately $0.3 million.
- In July 2016, Monster agreed, subject to conditions, to buy an office building for approximately $12.6 million and had an earlier conditional agreement to acquire land for approximately $39 million for a planned warehouse.
Important facts for investors to verify
- Underlying sales and earnings trends excluding price increases, added Strategic Brands, deferred-revenue acceleration and the prior-year divestiture gain.
- Whether the AFF acquisition delivers expected cost savings and whether its preliminary valuation allocations change.
- Cash and investment levels after the $2 billion tender offer, the new repurchase authorization and planned capital expenditures.
- Progress and economics of the remaining U.S. distribution-rights transition, including dependence on TCCC and its bottlers.
- Developments in product-related litigation and regulatory inquiries, particularly the San Francisco case and any potential financial exposure.