COCA COLA CO quarterly report, Q1 FY2017

Business context and reporting period

The Coca-Cola Company’s unaudited Form 10-Q covers the three months ended March 31, 2017; the comparable 2016 quarter ended April 1, 2016. Unless stated otherwise, amounts are in U.S. dollars. Results are affected by seasonal beverage demand and structural changes as Coca-Cola refranchises bottling operations.

Financial performance and position

• Revenue declined about 11%, while worldwide unit case volume was flat and concentrate sales volume fell 3%. Price, product and geographic mix added 3 percentage points; acquisitions and divestitures reduced revenue by 10 points, and currency reduced it by 1 point.
• Gross margin improved on favorable price/mix and lower commodity costs, partly offset by currency and portfolio changes. SG&A declined $446 million to $3.315 billion, reflecting divestitures, fewer days in the quarter and expense timing, as well as productivity savings.
• Other income (loss) was a $554 million loss, including a $497 million refranchising loss and $106 million of bottler agreement conversion payments. Other operating charges were $308 million, including $139 million for productivity initiatives, $104 million of intangible-asset impairments and $57 million of refranchising costs.
• Cash and cash equivalents plus short-term investments were $21.911 billion at quarter-end, versus $18.150 billion at year-end 2016. Current liabilities were $28.656 billion. Total loans and notes payable, current maturities of long-term debt and long-term debt were approximately $47.4 billion, up from $45.7 billion at year-end.
• Investing activities provided $1.039 billion, including proceeds from bottling refranchising and the China transaction advance. Financing activities provided $1.535 billion; debt issuance and repayments were both substantial. The company repurchased 29.2 million shares for $1.229 billion. The $0.37-per-share first-quarter dividend was paid April 3, after quarter-end.

Material changes versus the prior comparable period

• Net income attributable to shareowners fell about 20% and diluted EPS declined from $0.34 to $0.27, despite higher gross and operating margins. Lower revenue from refranchising and the larger net nonoperating loss were key factors.
• Operating cash flow increased $184 million, principally because pension contributions were $450 million lower than a year earlier; fewer days in the quarter and foreign exchange partly offset the improvement.
• Interest expense rose $51 million to $192 million, primarily reflecting debt issued in Q1 2017 and in the second and third quarters of 2016.
• North America refranchising continued to shift bottling assets and revenue out of consolidated operations. Assets held for sale rose to $5.789 billion from $2.797 billion.

Outlook, commentary, risks and unusual items

• Management described near-term business prospects as strong and expected substantial operating cash flow in 2017. It forecast an 18%–19% unfavorable full-year revenue impact from acquisitions and divestitures and expected foreign exchange to remain unfavorable.
• Expected 2017 capital expenditures, net of disposals, were $2.0–$2.5 billion; expected share repurchases were approximately $2.0 billion, net of proceeds from employee option exercises. Management estimated 2017 pension expense of $377 million, including projected settlement, curtailment and special termination costs.
• The productivity program was extended through 2019. The company targeted approximately $3.0 billion of total annualized productivity by 2019 and announced an additional initiative expected to generate $800 million of annualized savings by that year.
• The company intended to refranchise all U.S. company-owned bottling operations by the end of 2017. A substantial portion of China bottling operations was sold on April 1, 2017; remaining sales were expected to close in Q2. The company also disclosed pending bottling-related transactions subject to approvals.
• Risks include foreign exchange exposure, political and currency instability in Venezuela, and possible further asset impairments. Venezuela-related assets and receivables totaled $61 million; the company recorded $20 million of impairments and anticipated possible additional losses or write-downs.
• A major IRS dispute concerns transfer pricing for tax years 2007–2009. The IRS asserted approximately $3.3 billion of additional federal tax, plus interest, and indicated it may assert penalties. Trial was scheduled for March 2018. Coca-Cola disputed the claims and said it believed the outcome would not materially affect its consolidated position, results or cash flows, while acknowledging an adverse decision could be material.
• The company said it had $8.265 billion of available credit lines and considered liquidity strong. Most foreign-held cash and investments—$22.0 billion including marketable securities—were considered indefinitely reinvested; repatriation could increase future taxes. Management reported disclosure controls were effective and no material change in internal control over financial reporting.

Important facts for investors to verify

• How much of the revenue decline reflects the continuing refranchising strategy versus underlying consumer demand, pricing and currency effects.
• Whether flat unit case volume and weaker concentrate sales persist, particularly in Latin America and North America.
• The timing, proceeds and accounting impacts of pending bottling divestitures, and the extent to which refranchising-related losses recur.
• Debt growth, interest costs, cash generation and the planned use of cash for capital spending, dividends and share repurchases.
• Developments in the IRS transfer-pricing litigation and any changes to tax reserves or potential exposure.
• Further impairments or foreign-exchange losses relating to Venezuela and other markets, and progress against the productivity and revenue outlooks.