Business context and reporting period
Constellation Brands, Inc. is a beverage alcohol company operating in Beer and Wine and Spirits, with Corporate Operations and Other reported separately. This Form 10-Q covers the quarter and six months ended August 31, 2016, the second quarter and first half of fiscal 2017; comparisons are with the corresponding 2015 periods.
Financial performance and position
- Quarter: Net sales were $2.021 billion, up 17% year over year; operating income was $610.9 million, up 27%; and net income attributable to CBI was $358.9 million, up 19%. Diluted EPS was $1.75 for Class A and $1.61 for Class B.
- Six months: Net sales were $3.893 billion, up 16%; operating income was $1.164 billion, up 28%; and net income attributable to CBI was $677.2 million, up 25%. Diluted EPS was $3.30 for Class A and $3.04 for Class B.
- Margins: Gross margin was 47.9% for the quarter versus 44.7% a year earlier, and 47.5% for the six months versus 45.0%. SG&A was 17.7% of quarterly net sales (17.1% prior year) and 17.6% for the six months (18.0% prior year).
- Segment drivers: Quarterly Beer net sales rose 20% and Wine and Spirits rose 12%. Management cited Mexican beer volume and pricing, organic wine growth, favorable product mix, and acquired Ballast Point, Meiomi and Prisoner sales.
- Cash flow: Six-month operating cash flow was $1.045 billion, versus $803.1 million. Investing used $653.6 million, including $368.6 million for property, plant and equipment and $284.9 million for the Prisoner acquisition. Financing used $297.0 million; cash increased $94.2 million to $177.3 million.
- Debt and liquidity: Total debt was $8.029 billion at August 31, down $52.2 million from February 29. Cash was $177.3 million; current assets were $3.170 billion and current liabilities $2.200 billion. Unused capacity included $1.133 billion under the revolving credit facility and $405 million across the CBI and Crown receivables facilities. The company reported covenant compliance.
- Other: Six-month interest expense increased 15% to $178.7 million. The effective tax rate was 31.8%, versus 27.6%. Class A and Class B dividends declared for the six months were $0.80 and $0.72 per share, respectively.
Material changes versus the prior comparable period
Growth reflected both segment improvement and acquisitions. Beer benefited from continued demand for the Mexican portfolio, selective pricing and Ballast Point; Wine and Spirits benefited from organic wine growth, mix, and Meiomi and Prisoner. Gross margin expanded, while quarterly SG&A as a share of sales increased. Interest expense rose with higher average borrowings, including debt used to fund Ballast Point and debt associated with a glass-plant joint venture. Six-month cash generation improved, while investing and financing cash outflows increased.
Outlook, commentary, risks and unusual items
- Management expects fiscal 2017 effective tax rate of 28%–31% and revised planned fiscal-year capital expenditures to $1.125–$1.225 billion, primarily for Nava Brewery and glass-plant expansions and the Mexicali Brewery.
- Nava capacity expansion to 25 million hectoliters was targeted by summer 2017, with a further increase to 27.5 million by early 2018. Timing and costs may vary.
- Management said U.S. wine shipment growth had outpaced depletions due mainly to timing; it expected shipments to lag in the second half and broadly align with depletion growth for the full fiscal year.
- In September 2016, the company agreed to acquire High West for approximately $160 million, subject to customary conditions, with closing expected by the end of October. It was also evaluating a possible IPO of part of its Canadian wine business, with a decision expected during calendar 2016.
- The company recorded an immaterial balance-sheet adjustment related to a prior-period $132.0 million conversion of noncontrolling equity interest to long-term debt; the conversion also contributed to higher interest expense. It repaid $700 million of 7.25% senior notes in August 2016.
- Risks include consumer demand and shipment variability, execution and funding of major brewery and plant projects, leverage and interest-rate exposure, foreign exchange and commodity movements, and acquisition closing conditions. The company reported that approximately 69% of relevant foreign-currency exposures and 74% of forecast commodity exposures for the remaining six months were hedged.
- In a previously disclosed antitrust case, the U.S. Supreme Court denied a petition for certiorari on October 3, 2016; the Ninth Circuit dismissal therefore remained in place. The company also disputed certain IRS proposed assessments for fiscal 2010 and 2011 and stated that it believed its position would be sustained.
Important facts for investors to verify
- Whether volume, pricing and segment margin trends continue, and whether shipment growth converges with depletions as management expected.
- Actual capital spending, completion timing and costs for Nava, the glass plant and Mexicali projects.
- Debt maturities, refinancing needs, borrowing costs and covenant headroom, particularly given debt of approximately $8.0 billion.
- Completion and purchase price of High West, and any decision or proceeds relating to the contemplated Canadian wine business IPO.
- Resolution of tax matters and the impact of the higher effective tax rate, acquisitions and the prior-period debt conversion on future earnings and cash flow.