STZ

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended May 31, 1994, and the nine months ended on that date for Canandaigua Wine Company, Inc. (and subsidiaries). The company is a major producer and distributor of wine, spirits, and beer. The reporting period is significantly impacted by two major acquisitions: Barton Incorporated (acquired June 1993) and Vintners International Company, Inc. (acquired October 1993), which added brands such as Paul Masson, Taylor California Cellars, and Corona Extra to the portfolio.

Key Financial Metrics

Material Changes Versus Prior Period

• Revenue Growth: Net sales increased 136% for the nine-month period and 155% for the quarter, driven almost entirely by the inclusion of Barton and Vintners operations. Excluding acquisitions, organic sales declined 7.8% (nine months) and 11.8% (quarter) due to lower sales of non-branded products (grape juice concentrate) and dessert wines.
• Margin Compression: Gross margin decreased from 30.3% to 28.8% (nine months) and 30.4% to 27.7% (quarter). Management attributes this to the inclusion of acquired operations which have different cost structures.
• Expense Increases: Selling, General & Administrative (SG&A) expenses rose 132% (nine months) and 133% (quarter) due to the scale of acquired operations and increased advertising spend. Interest expense increased significantly (205% for nine months) due to debt incurred to finance the acquisitions.
• Product Mix: Branded wine sales declined 6.4% (nine months) organically, while imported beer sales (Corona Extra) increased 11.9% (nine months). Spirits sales were relatively flat.

Guidance, Outlook, and Risks

• Acquisition Outlook: On June 23, 1994, the company signed a non-binding Letter of Intent to acquire Almaden and Inglenook wine brands from Heublein, Inc. This transaction is expected to be significant and requires refinancing or bank consent.
• Liquidity: The company maintains a $95 million revolving credit facility with approximately $53 million available as of May 31, 1994. Management believes cash flow and available credit are sufficient to meet obligations for the next four quarters.
• Contingencies and Commitments:
  • Barton Earn-out: The company accrued $18.2 million in earn-out payments to former Barton shareholders, with a potential total obligation of up to $57.3 million over three years based on performance goals.
  • Vintners Purchase Commitments: The company assumed grape purchase contracts and established a $10 million reserve for estimated losses on firm commitments. Future purchases are estimated at $26.6 million for fiscal 1995.
  • Debt Covenants: The company is subject to restrictive covenants regarding indebtedness, liens, and fixed charge coverage ratios.
• Seasonality: Cash flow is heavily influenced by the annual grape harvest (August–November), requiring short-term borrowings to fund inventory purchases.

Investor Verification Checklist

• Acquisition Integration: Verify the actual performance of Vintners and Barton brands versus the pro forma results, specifically regarding the decline in organic branded wine sales.
• Debt Service Capacity: Confirm the company's ability to service $187.2 million in debt, including the $130 million in Senior Subordinated Notes, while meeting fixed charge coverage covenants.
• Heublein Transaction: Monitor the status of the proposed Almaden/Inglenook acquisition and the associated refinancing requirements.
• Earn-out Obligations: Track the performance goals for the Barton earn-out to determine if the full $57.3 million liability will be triggered.
• Inventory Valuation: Review the $10 million reserve for grape purchase commitments and the LIFO valuation of inventories ($215.5 million).