Constellation Brands, Inc. — Q3 FY2017 Form 10-Q
Reporting period: Quarter and nine months ended November 30, 2016; comparisons are with the corresponding prior-year periods. The company sells beer, wine and spirits, with Beer and Wine and Spirits as its principal operating segments. Amounts are in U.S. dollars unless noted.
Financial performance and position
| Metric | Q3 FY2017 | Q3 FY2016 | Nine months FY2017 | Nine months FY2016 |
|---|---|---|---|---|
| Net sales | $1,810.5 million | $1,640.5 million | $5,703.5 million | $5,005.2 million |
| Gross profit | $891.4 million | $733.5 million | $2,741.7 million | $2,246.2 million |
| Gross margin | 49.2% | 44.7% | 48.1% | 44.9% |
| Operating income | $534.0 million | $447.3 million | $1,697.6 million | $1,354.0 million |
| Net income attributable to CBI | $405.9 million | $270.5 million | $1,083.1 million | $811.5 million |
| Diluted EPS, Class A | $1.98 | $1.33 | $5.27 | $3.99 |
| Operating cash flow | Not separately provided | Not separately provided | $1,415.7 million | $1,091.6 million |
| Capital expenditures | Not separately provided | Not separately provided | $591.6 million | $513.8 million |
- Q3 net sales rose 10%, operating income 19%, net income attributable to CBI 50%, and diluted Class A EPS 49%. For the nine months, the respective increases were 14%, 25%, 33% and 32%.
- Beer drove much of the growth: nine-month segment sales were $3,338.1 million, up 19%, and segment operating income was $1,195.7 million, up 22%. Wine and Spirits sales were $2,365.4 million, up 8%, and segment operating income was $604.7 million, up 11%.
- Management attributed growth to Mexican beer volume and selective pricing, acquired brands, and favorable wine mix. Q3 Wine and Spirits shipments were slightly lower year over year; U.S. Focus Brand depletions increased.
- Q3 SG&A rose 25% to $357.4 million; nine-month SG&A rose 17% to $1,044.1 million. SG&A was 19.7% of Q3 net sales versus 17.4% a year earlier, and 18.3% for nine months versus 17.8%.
Liquidity, debt and capital allocation
- At November 30, 2016, cash was $197.3 million; current assets were $3,444.8 million and current liabilities were $2,636.6 million.
- Total debt outstanding was $8,631.6 million, up $550.4 million from February 29, 2016. Balance-sheet long-term debt, including current maturities, was $8,278.2 million; notes payable to banks were $353.4 million.
- Available borrowing capacity at November 30 included $913.3 million under the revolving credit facility and $358.0 million under receivables securitization facilities. The company reported compliance with debt covenants.
- Nine-month financing cash flow was a use of $146.4 million. It included $907.7 million of long-term debt principal payments, $372.6 million of share repurchases, $238.3 million of dividends, and $1,350.1 million of long-term debt proceeds. Ending cash increased by $114.2 million from the start of the fiscal year.
Material changes, outlook and risks
- Tax: The nine-month effective tax rate was 26.7% versus 29.2%; Q3 was 16.3% versus 32.1%. A change in the company’s assertion that certain foreign earnings would be indefinitely reinvested lowered the rate and boosted Q3 earnings. Management expected a FY2017 effective tax rate of approximately 26%. If the relevant earnings are later repatriated, the company estimated possible additional U.S. and other taxes of approximately $100 million.
- Canadian wine divestiture: Completed December 17, 2016, after the reporting date, for transaction value of C$1.04 billion ($776.2 million). Cash proceeds were C$775.1 million ($581.2 million), net of outstanding debt and subject to adjustments. Management preliminarily estimated a $255 million gain and approximately $70 million of taxes payable across FY2017 and FY2018; it also expected an $8.4 million trademark impairment. The divested business contributed nine-month net sales of $288.6 million and operating income of $46.6 million.
- Acquisitions and capacity: During the period, the company acquired Prisoner, High West and Charles Smith. In December 2016 it acquired the Obregon Brewery for $583.4 million, adding expected capacity of four million hectoliters and ending the interim supply agreement with Grupo Modelo. The Nava Brewery expansion and Mexicali brewery construction remain key investment projects.
- Capital spending: FY2017 capital expenditures were projected at $825–$925 million, including $725–$825 million for Beer, mainly for Mexico expansion projects. Management estimated approximately $2.4 billion of project spending over the next five fiscal years, within an estimated $3.9 billion total spend from FY2014 through FY2021. Timing of some Nava spending shifted from FY2017 to FY2018; Mexicali’s initial five-million-hectoliter capacity was still targeted for calendar year-end 2019.
- Other risks and unusual items: Results include acquisition-related and other comparability adjustments; the nine-month operating-income benefit from changes in these adjustments was $74.0 million. The company cited foreign-exchange, commodity-price and interest-rate exposures, as well as possible effects of U.S. trade, tariff, tax or regulatory changes. It hedged about 85% of specified near-term foreign-currency exposures and 80% of specified commodity exposures. A related antitrust lawsuit was dismissed, with the U.S. Supreme Court denying review in October 2016.
- The company declared a quarterly dividend payable in February 2017 of $0.40 per Class A share and $0.36 per Class B and Class 1 share. It authorized a new $1.0 billion repurchase program in November 2016.
Important facts for investors to verify
- Whether beer volume, distributor depletions and shipment timing support continued organic growth, particularly as Q3 Wine and Spirits shipments softened.
- The final Canadian divestiture gain, tax cost, post-closing adjustments and effects of the lost business on reported results.
- Execution, cost and timing of the Obregon integration and Mexico capacity projects, and whether planned capital spending can be funded while maintaining liquidity and debt-covenant headroom.
- The sustainability of earnings growth after separating the benefit from the tax-rate change and favorable comparability adjustments.
- Exposure to currency, commodity, interest-rate and potential trade-policy changes, and the eventual tax treatment of foreign earnings if reinvestment plans change.