Brown Forman Inc

Ladies and gentlemen, thank you for standing by, and welcome to the Brown-Forman Second Quarter Fiscal 2020 Earnings Conference Call. At this time, all participants are in Ellison-only mode. After the speaker's remarks, there will be a question-and-answer session. To ask a question during the session, you will need to press star 1 on your telephone. If you would like to withdraw your question, press the pound key. Please be advised that today's conference is being recorded. If you require further assistance, please press star zero. I would now like to hand the conference over to your speaker today, Leanne Cunningham, Senior Vice President, Shareholders Relations Officer. Thank you. You may begin.

Thank you, Dorothy, and good morning, everyone. I would like to thank each of you for joining us for Brown Forman's second quarter and first half of fiscal 2020 earnings call. Joining me today are Lawson Whiting, President and Chief Executive Officer, and Jane Moreau, Executive Vice President and Chief Financial Officer. This morning's conference call contains forward-looking statements based on our current expectations. Numerous risks and uncertainties may cause actual results to differ materially from those anticipated or projected in these statements. Many of the factors that will determine future results are beyond the company's control to predict. You should not place undue reliance on any forward-looking statements, and the company undertakes no obligation to update any of these statements, whether due to new information, future events, or otherwise. This morning, we issued a press release containing our results for the second quarter and first half of fiscal 2020, in addition to posting presentation materials that Jane will walk you through momentarily. Both the release and the presentation can be found on our website under the section titled Investors, Events, and Presentations. In the press release, we have listed a number of risk factors that you should consider in conjunction with our forward-looking statement. Other significant risk factors are described in our Form 10-K and Form 10-Q report filed with the Securities and Exchange Commission. During this call, we will be discussing certain non-GAAP financial measures. These measures are reconciliation to the most directly comparable GAAP financial measures and the reasons management believes they provide useful information to investors regarding the company's financial conditions and results of operations are contained in the press release and investor presentation. One quick item before I turn the call over to Lawson and Jane. In the interest of time and fairness, we ask that you limit your questions to one for analysts. You're welcome to rejoin the queue, and we will take your follow-up questions as time permits. With that, I would like to turn the call over to Jane.

Thank you, Leigh Ann, and thank you, everyone, for joining us for our second quarter earnings call. Today in our earnings release, we reaffirmed a four-year growth outlook for underlying net sales and earnings per share and modestly adjusted our outlook for underlying operating income. I'm going to walk you through our first half results, which, as Leanne just said, are accompanied by the presentation we posted to our website this morning to provide clarity to our performance given the remains from year-over-year noise, particularly related to tariffs and timing considerations. After I finish my prepared remarks, I'll turn it over to Lawson for an update on progress against our strategic ambitions and the overall health of the business. But before I discuss our first half results, I thought it might be helpful to remind you of how the retaliatory tariffs, particularly from Europe, continue to affect our performance. As you know, we've been discussing the tariff effect over the past six consecutive quarters, beginning with last year's Q1. In fact, in the first half of last year, the tariff-related inventory buy-ins in Q1 and subsequent givebacks in Q2 created noise in our underlying rate of sales growth both last year and this year. In addition to the buy-in effects, which are essentially behind us now, the cost of tariffs has reduced our margins, which are a result of either, one, lower pricing, in certain markets where we sell to our distributors or higher costs in markets where we import and distribute our products directly. While we expect tariffs to remain for the full year and to weigh on our margins, the comparability issues we will improve over the second half of the fiscal year as we cycle the full-year impact of tariffs beginning in Q3. Aside from tariffs in summer to our first quarter, Our year-to-date underlying results continue to be affected by timing-related considerations, including customer buying patterns and promotional activities across a number of markets. I will highlight these factors while inspecting our underlying trends as I discuss our first half performance. So with that, let's dig into our first half performance. As expected, our second quarter underlying net sales accelerated significantly growing 6%, lifting our first half underlying net sales growth to 3%. We estimate that timing-related buying patterns and promotional activities across a number of markets negatively affected our underlying net sales growth during the first half of the fiscal year by 2 percentage points. The key contributors to our top-line growth during the first half of the fiscal year were, first, sustained momentum behind our premium bourbon and tequila brands, Second, accelerating growth for several of our super premium brands, including Gentleman Jack and our single scotches, particularly outside the U.S. And third, increased contribution from Jack Daniels RTDs and Jack Daniels favors, most notably reflecting the October launch of Jack Daniels Tennessee Apple in the United States. While on the Jack Daniels Tennessee Apple topic, you will probably note in our earnings release this morning that we released that our underlying earnings net sales growth was lower than our reported net sales growth, both on a quarter and a year-to-date basis. That difference is due to the required pipeline and supply chain fill associated with the launch of this Jack Daniels Tennessee Apple. And looking at our business from a geographic perspective, starting with the United States, which led our underlying net sales growth through October, underlying net sales increased 6%. doubling the rate of growth we registered in the first half and full year last year, and accelerating since the first quarter of this year. This acceleration was driven largely by the launch of Tennessee Apple, sustained double-digit growth from our premium bourbon brand and tequila portfolio, and easy comms caused by our route to consumer change in last year's second quarter in one state. We're a in the very early days of Jack Daniel's Tennessee Apple launch. But so far, with about four weeks of takeaway information that we have available to us, it's comparing favorably to our launch of Fire and Honey. So we're very certainly cautiously optimistic at this point, but really excited to see what the trade and the consumer reactions have been thus far, which have been quite favorable. Our takeaway trends in this important market, the U.S., continue to increase over the past quarter, growing mid-cycle digits and largely in line with the healthy growth of total distilled spirits. So let's turn to our emerging markets. Underlying that sales were up 5% on top of last year's double-digit growth, we estimate timing related to certain customer buying patterns suppressed the top-line growth of our emerging markets in the first half by about two percentage points. As a result of this timing and incremental activities we have planned for later in this year, we expect emerging markets underlying net sales to accelerate in the second half of the year. Despite the second half acceleration, our full year expectation is for slightly slower top line growth than what we've experienced over the last two fiscal years. The full year Growth rate deceleration in emerging markets is driven by Mexico and Poland, our two largest emerging markets, which we expect to grow a bit slower than the last two years. We have a number of emerging markets growing underlying net sales, double digits for the first time, including Southeast Asia, Turkey, and Colombia, and collectively, the BRIC markets. To touch on a few of these markets, Russia's underlying net sales continue to be fueled in part by strong consumer demand of Jack Daniel's Tennessee Whiskey and Finlandia. In Brazil, consumer demand continues to expand for Jack Daniel's Tennessee Whiskey and Jack Daniel's Tennessee Fire. And we remain very encouraged by China and India's strong double-digit underlying net sales growth, led by the Jack Daniel's family of brands and our single-mot Scotch portfolio, as we believe we have only just begun to reach consumers in these markets where the long-term potential is so significant. And similar to our first quarter, it was in our developed international markets where tariff-related activity had the largest impact when looking at our Q2 growth rates. I tell two quarters, if you will. We call the first quarter underlying net sell for our developed international markets were hurt, down 3%. In comparison to last year, when significant retail and wholesale buy-ins boosted sales in several markets in Europe. Second quarter underlying net sales were up 8% this year, helped by easy comparisons to the same period last year when we experienced a giveback from those buy-ins. The timing noise related to tariffs essentially washes out when we look at our first half underlying net sales growth of 2% in our developed markets. This rate of growth is lower than our historical performance in our developed international markets due primarily to the timing of certain customer purchases and promotional activities. Considering these factors, we estimate timing-related activity had about a three-point drag on our overall top-line performance in these markets through the first half of our fiscal year. Just to touch on a handful of our developed international markets, Spain and Taiwan continued to be standout performers, while Australia and France also contributed solid underlying sales growth, with takeaway trends in both markets improving significantly for the most recent six-month period compared to a year ago. And while Germany and the U.K., our largest developed international markets, lagger underlying net sales growth expectations for the first half of the fiscal year, due in part to timing issues, We believe our portfolio is healthy in these markets as the latest six-month consumer takeaway trends are growing ahead of the distilled spirits category in each of those markets. And finally, as expected, travel retail's underlying net sales remain down for the first half of the fiscal year, declining 8% as recyclers against last year's first half very strong 14% growth. which was influenced significantly by the phasing of certain customer purchases. As we look ahead, we expect travel retail's underlying net sales trends to improve in the second half of the fiscal year as the timing effects smooth out, resulting in full-year underlying net sales growth in the low single digits. Now, looking at our business through a brand lens, Ejectino's family of brands' underlying net sales for the first half of the fiscal year increased 2% as growth was propelled by the launch of Jack Daniel's Tennessee Apple in the United States and broad-based geographic growth for both Jack Daniel's RTDs and Jack Daniel's Tennessee Honey. Those gains were partially offset by a 1% decline in underlying net sales growth for the first half of the year for Jack Daniel's Tennessee Whiskey, due in part to timing-related customer buying patterns and promotional activities in the U.S., and across a number of international markets in our travel retail channel. We estimate these factors negatively affected Jack Daniel's Tennessee Whiskey's underlying net sales growth by about three percentage points. Our portfolio premium brands, including Woodford Reserve and Old Forester, continued their strong double-digit underlying net sales growth up 22% through the first half. We remain very pleased with the continued leadership of Woodford Reserve in the super premium bourbon category, growing underlying net sales at a double-digit rate each year since its launch in 1996. Old Forester sustained an even faster rate of underlying net sales growth powered by volumetric gains across the portfolio of expressions, including the brand's most recent innovation, Old Forester Rye, and favorable mix driven by higher growth from our super premium expressions. Once again, our tequila portfolio provided double-digit underlying net sales growth on top of essentially the same growth rate in last year's first half. Herradura led the growth, with underlying net sales up 19%, driven by higher volumes in pricing in the United States and Mexico. El Jimeno's underlying net sales grew 13%, reflecting higher volumes in the United States, as consumer takeaway trends remained strong. Additionally, higher prices in Mexico as well as a growing consumer base for the brand and several other international markets contributed to the brand's double-digit increase. Moving down our P&L, gross margin declined 270 basis points, resulting in an underlying gross profit drop of 2% through the first half. The margin decline was driven by the same two factors, We've highlighted in the last two earnings costs, tariff-related costs, and higher input costs reflecting agave and wood inflation. Underlying A&P increased 4% in the first half of this fiscal year, largely reflecting spending to support the launch of Jack Daniel's Tennessee Apple and higher media investment behind Jack Daniel's Tennessee Whiskey in the United States. We invested incrementally behind the growth minimum of several other brands in the portfolio, including Woodford Reserve, Gentleman Jack, and Glendronic. Underlying SDNA decreased 1% for the first half of the fiscal year, driven by lower compensation-related expenses. In the aggregate, our underlying operating income declined 5% through the first half, driven by an approximate six-point drag related to tariff-related costs. Higher distributor inventory levels due largely to the launch of Jack Dean of Tennessee Apple and an effective tax rate of just over 16%, which included a couple of discrete items recognized in the quarter, drove 5% growth in diluted earnings per share to 97%. So turning now to our full-year outlook. Our underlying net sales growth through October keeps us on track to deliver another year of solid results. Starting with our top-line growth expectations, we reaffirmed our underlying next sales growth of 5% to 7% for fiscal 2020. As I discussed throughout my prepared remarks this morning, we had a number of timing-related issues across a number of markets affecting our first half results, that when we consider these factors, we believe our top-line trends continue to grow in the mid-single digits. We remain confident in the health of our businesses as our consumer takeaway trends in most of our major markets remain solid and supportive of our growth ambitions for the year. We anticipate our underlying net sales in the U.S. will accelerate, particularly for Jack Daniel's Tennessee Whiskey, reflecting our most recent value takeaway performance. We continue to forecast sustained double-digit growth for premium bourbon and tequila portfolios. And finally, We expect second-half results to benefit from incremental contribution from the launch of Jack Daniel's Tennessee Apple in the United States, as well as from the focused promotional support and incremental media that we have planned, particularly during the important holiday season that's upon us now across several markets. We expect gross margins will be down around 200 basis points for the year, split between tariff-related costs and higher input costs. Again, as a reminder, we do not expect further drag on margin from tariffs beginning in the second half of the year. But that being said, we do expect input cost pressures from Agave and Wood to continue. Regarding our operating costs for fiscal 2020, we continue to plan for solid reinvestment behind our brand with underlying advertising growth only a bit lower than our rate of underlying net sales growth. We are anticipating incremental investments to continue to support the launch of Jackie Andrews' Tennessee Apple, as well as incremental spend to fuel the momentum of several of our brands in our portfolio. We are thoughtfully continuing to reallocate certain investments from less efficient areas to broad reach media, digital, and scalable consumer-facing activities, which we expect to drive an effective increase well above our actual increase in spend. We are expecting modest growth in SG&A for the year, implying an acceleration in the back half, but still driving some leverage to operating income. So in summary, we are reaffirming our full-year outlook for underlying net sales growth of 5% to 7% and earnings per share of $1.75 to $1.85 for fiscal 2020. We've modestly reduced our underlying operating income outlook by one point, through a range of 2% to 4%, reflecting the falter of continued input cost pressures and macroeconomic and geopolitical uncertainty, notably in a handful of emerging markets and our travel retail channels. It's worth noting that in the absence of tariff-related costs, we are on track to deliver mid to high single-digit underlying growth in operating income for the year. In closing, Despite the short-term headwinds from tariff and input cost pressures, we continue to manage the business as we always have for the long term. This includes our multi-year period of stepped-up investment, including this fiscal year, in maturing whiskey inventory and capex to support the organic growth of our business in the years ahead. We expect this will drive additional free cash flow in the coming years, and provide opportunities to return cash to our shareholders as we always have, thoughtfully, disciplined, and consistently, including our recently announced cash dividend increase of 5%. We believe we have some of the best brands and assets in the world, along with a talented team of people across the globe, positioning us well for a long runway of growth ahead and continued value creation for our shareholders. Brown Foreman remains strong and resilient as we look toward our 150th anniversary in 2020. And with that, let me turn the call over to Lawson for his comments.