Constellation Brands, Inc.

Welcome to the Constellation Brands Fiscal Year 2004 to 2019 Earnings Conference Call. At this time, all participants have been placed in a listen-only mode. Following the prepared remarks, the call will be open for your questions. Instructions will be given at that time. I will now turn the call over to Patty Yonerloff, Senior Vice President of Investor Relations. Please go ahead.

Thanks, Shannon. Good morning, everyone, and welcome to Constellation's year-end Fiscal 2019 Conference Call. I'm here this morning with Bill Newlands, our CEO, and David Klein, our CFO. As a reminder, reconciliations between the most directly comparable gap measure and any non-gap financial measures discussed on this call are included in our news release or otherwise available on the company's website at www.cbrands.com. Please refer to the news release and constellations SEC filings for risk factors which may impact forward-looking statements we make on this call. Before turning the call over to Bill, similar to prior quarters, I would like to ask that we limit everyone to one question per person, which will help us to end our call on time. Thanks in advance, and now here's Bill.

Thank you, Patty, and good morning, everyone, and welcome to our fiscal year 19 year-end call. I'm sure you've all seen the announcement we made last evening indicating that we have signed an agreement with Gallup to sell a portion of our wine and spirit business for $1.7 billion. This strategic action is a result of our ongoing efforts to identify value-enhancing opportunities for to better align our portfolio with consumer trade-up trends, and to strengthen the financial profile of this business. Our remaining wine and spirits business will primarily consist of wines at the greater than $11 price point and will include fast-growing, high-margin power brands like Kim Crawford, the number one Sauvignon Blanc in the U.S., Mayomi, the number one U.S. Pinot Noir, Svetka Vodka, the number one imported vodka in the U.S. Naomi, I already mentioned, The Prisoner, Robert Mondavi, Ruffino, as well as iconic brands like Schrader. With a tighter focus on this powerful collection of consumer love brands, we will be able to accelerate growth while increasing brand awareness, consumer demand, and household penetration. I'm confident that this optimized portfolio of wine and spirits brands will enable us to consistently deliver growth, exceeding the trends of the U.S. wine market, while migrating to an operating margin profile of 30%, a significant improvement from the 26% margin achieved for this business in fiscal 19. In a minute, I'll get into some of the exciting marketing initiatives we have planned for this year. But first... I'd like to highlight that several of these key brands achieved significant milestones and accomplishments this past year. We received Impact's 2018 Hot Brand Awards for Kim Crawford, Mayomi, Rufino Prosecco, and Robert Mondavi Private Selection. Our portfolio was also called out in the Beverage Information Group's 2018 Awards, where four of our brands achieved fast-track status, recognizing their impressive growth Those included Kim, Naomi, and The Prisoner. In addition, 10 of our brands were named rising stars, and seven more received established growth brand awards. We also have a strong innovation pipeline planned for the coming year. Some of those keys are new product launches for Woodbridge Rosé and Robert Mondavi Private Selection Rye Barrel-Aged Red Blend. We are already having excellent success with some of our recently launched innovations, including Svedka Rosé, Robert Mondavi Private Selection Rum Barrel-Aged Merlot, and Crafters Union Wine in a Can. We will continue to expand our Bourbon Barrel-Aged Innovation Program, which has been a resounding success, selling over 1 million cases of volume in its first two years. This initiative has reinvigorated Robert Mondavi private selection while also becoming the foundation for some of our other innovations like Cooper and Thief. We're also ramping up our consumer marketing efforts in the coming year. For the first time, we're taking advantage of new sponsorship opportunities with the PGA, the U.S. Tennis Association, and several NFL teams for Mayomi, Kim Crawford, and Woodbridge brands, respectively. And our new spread to marketing campaign, Bring Your Own Spirit, has been a resounding success, recently driving double-digit consumer takeaway growth trends in IRI channels. These efforts will help to achieve our goal of accelerating growth for a more premium collection of powerful wine and spirit brands. Now let's move on to our beer business. Constellation continues to be the cornerstone of growth in the U.S. beer industry, delivering 36 consecutive quarters of growth dating back to the beginning of fiscal 2011. High-end beer is driving virtually all the U.S. beer category growth, and our beer business is the leader in high-end beer. For fiscal 19, Constellation drove 40% of the U.S. high-end category growth and 100% of the import segment growth. we grew share in every U.S. sales region with accelerating trends on the West Coast where we already have significant market share. There are very few industry segments where this level of growth has been sustained over this length of time. Fiscal 19 also saw a monumental shift for the Corona brand family as it expanded its offerings from extra and light into a more comprehensive beer family with the launches of Premier nationally, Refresca in test markets, and the expansion of Familiar. The Corona brand family generated 7% depletion growth for fiscal 19, selling over 150 million cases, which positions Corona as the number one brand family in the high end. It is also expected to surpass Coors as the second largest brand family in the U.S. retail market. and short order. Corona Extra remains the engine of the Corona brand family and continues to be the number one most loved beer among general market and Hispanic consumers. For fiscal 20, incremental media investments are expected to ignite Corona's core growth, including Corona Draft and canned formats. As part of these efforts, we are increasing both English and Spanish language media across digital, social, and TV, including heavy emphasis on the NFL and the NBA, where Corona is expected to have the number one share of voice during the NBA playoffs and finals. Corona Premier was the number one new brand introduction in both volume and dollars last year, and was larger than the number two and the number three product innovations combined. We are seeing strong repeat purchases with consumers motivated by the low-cal, low-carb benefits of Corona Premier's premium image. Corona Premier is winning across all demographics, including our core Hispanic consumer base. To continue the momentum on Premier in year two, we plan to increase our marketing investment double digits across marketing channels, including the launch of new creative for this brand. We are also significantly increasing support in both English and Spanish language media to reach Corona Premier's diverse drinker base. Corona Premier's national TV advertising focus will air in March through October with strong presence in sports programming, including sponsorships like the U.S. Open Golf Tournament, where we will be a proud sponsor through at least 2021. New incremental distribution opportunities for Corona Premier include the launch of 18-pack bottles to provide trade-up opportunities in larger format channels, as well as the national launch of Corona Premier Draft to lean into the momentum of the brand increasingly. and to provide opportunity for consumers to sample in the on-premise. In last year's regional launch of Corona Familiar 6 and 12-packs, that brand became the fourth largest growth driver in the category and a top 10 high-end beer brand. The Corona Familiar 12-pack was the top package innovation in dollars and volume last year, and we believe the incremental runway for this brand is particularly with unacculturated Hispanic consumers. To fuel additional growth, we recently launched Corona Familiar 24-pack bottles regionally to capture larger social occasions with current Hispanic consumers. For fiscal 20, Corona Familiar's expansion will be supported through double-digit increase in Spanish-language TV, as well as digital, social, and in-store merchandising products to drive incrementality at retail. Let's move now to Casa Modelo. Modelo Especial is the leading growth engine in the entire U.S. beer market, hosting double-digit depletion growth in 26 of the last 27 fiscal years. It is the fastest-growing major beer in the industry, accounting for almost 40%. 40% of total category growth. Across the country, Modelo Especial is now the number one brand in three markets and the entire state of California and the number two brand in five additional major markets, growing double digits in 41 of the 50 states. From a channel perspective, Modelo Especial continues to be the fastest growing brand in the on-premise, with draft growing more than 25% last year. And in the off-premise, it became the number one selling beer in 7-Eleven, the biggest retailer and the biggest class of trade in beer. Modelo Especial has incremental momentum, and its superior velocity should command more space at retail when compared with other top 10 brands. The number of especial drinkers is up versus last year for both Hispanics as well as non-Hispanics as we continue to grow both penetration and loyalty with our core Hispanic base and the general market consumer. We've seen an incredible 60% increase in general market drinkers over the past two years, but we still have lots of opportunity as we estimate that less than 5% of the general market currently drinks Modelo. So, with this much momentum on Especial and the household penetration that still under-indexes major brands, we believe that this brand has a long runway for growth. For fiscal 2020, we expect to make our biggest ever investment in marketing support behind Modelo. We plan to continue to engage our core Hispanic consumer, by increasing our investment in Spanish-language TV, and we will be a major player in live sports, led by soccer, but rounded out by strong presence in the NFL, Major League Baseball, and NBA games. We'll be upping our game on NFL Sundays, and we'll strengthen our college football presence with a new edition of NCAA football for the first time. We plan to complement our live sports activity with significant investment in top-rated entertainment programming across Univision and Telemundo, while increasing our digital and social media activities as well. We will also be launching, literally, one of our biggest new items with the rollout of the Modelo 32-ounce bottle as the single-serve segment continues to be on fire. It also offers a trade-off opportunity as almost 75% of the volume in its 32-ounce format is held by domestic low-end brands that are in decline. Let's turn to Pacifico, our up-and-comer brand of our portfolio, selling almost 10 million cases this past year. The brand is attracting new drinkers, especially outside its core California market, and is seeing double-digit growth in many of these markets increasingly. through increased awareness with the national expansion of Live Life, Anchors Up campaign. For fiscal 20, we plan to push Pacifico aggressively through increased investment behind national media and sponsorships, as well as expansion in digital via Facebook and Instagram. We're increasing our national TV presence for additional engagement with consumers on key entertainment properties like The Daily Show, as well as live sports like the NBA playoffs, the NHL playoffs, and Major League Baseball. And with more than 50 million Americans now participating in action sports, Pacifico is continuing its partnership with ESPN as the official beer sponsor of action sports' biggest events, the summer and winter X Games. We've added a new Pacifico partnership with the U.S. ski and snowboard team, and we will be the official beer sponsor of the Burton U.S. Open of snowboarding. The growth opportunities, though, don't end there. Innovation is the second piece of the equation that gives us confidence in our high, single-digit, top-line growth expectations for fiscal 20. We're building a strong pipeline of new, innovative products, leveraging the power of our existing brands to fill gaps in our portfolio and and complement our core franchises. We'll continue to invest in early-stage emerging brands that are both scalable, with high growth, and high margin potential. Our goal is to drive sustainable, high-end share growth through consumer-driven innovation that recruits new drinkers, expands occasions, and adds value to the category. But we will do it in a very disciplined and and focused way. During fiscal 20, we'll extend the Corona Master Brand to take advantage of consumer trends with the national launch of Corona Refresca. Corona Refresca brings a completely new drinker to the Corona franchise and allows us to carve out a space within the large and growing FMB category that's anchored in Corona's carefree lifestyle. Beginning this month, we're launching Corona Refresca nationally in guava lime and passion fruit lime six-packs, plus a new variety 12-pack with the added flavor of coconut lime. This year, we're also testing Wildish, which is to be introduced as a seltzer in the Northeast and as a tea in one to two additional test markets. It is being positioned as a platform to capture the opportunity driven by the health and wellness trend. And then there's Western Standard, one of my personal favorites. This offers a high-end, sessionable, full-flavored beer that will be available in five states this coming year. Alera and El Grito are products specifically developed to meet the needs of the fast-growing Hispanic consumer. Alera is an FMV that was created for bicultural and acculturated Hispanic and general market women and will be offered in four test markets this year, while El Grito is a newly created beer that will be part of our planned Four Corners expansion. Now, turning to the operations side of our beer business. As planned, we have completed the 30 million hectoliter capacity expansion at Nava, which brings our existing capacity, including Obregon, to 34 million hectoliters. This marks a monumental achievement over the past five years to provide ample supply to meet the growing demand for our beer portfolio while completing the project on time and on budget. Furnace number five is underway at Nava and expected to be producing glass by the end of this calendar year, and we will continue to make progress ahead of schedule with the 5 million hectoliter expansion at Obregon, which I highlighted last quarter. the Mexicali capacity expansion continues with expected completion by fiscal 23. As a reminder, upon completion, this planned expansion project will represent roughly 10% of our beer capacity in Mexico. To sum it up, I am excited about the strong, high, single-digit growth prospects for our beer business in fiscal 20. As you can see, we have excellent opportunities to grow our business through a combination of enhanced distribution and consumer innovation across our portfolio. And now just a few comments about our investment in Canopy Growth, which continues to be a leading share in the Canadian recreational cannabis market, supported by solid product inventories, a national sales force, and the rollout of value-added products, including soft gel caps, oral sprays, and pre-rolls. Throughout calendar 2019, we expect Canopy to benefit from favorable changes in the recreational Canadian market as brick-and-mortar retail stores come online and stimulate new growth in larger provinces like Ontario. Canopy is also preparing to deliver incremental value-added recreational products, including bathes, beverages, and edibles. which are slated to come online in the fall of this year in Canada. We share Canopy's view that a significant opportunity exists going forward for the inclusion of cannabis as an ingredient in future consumer products and medical therapies. Canopy's current patent portfolio includes more than 35 issued patents and 195 patent applications. including those related to a unique process it has developed to produce cannabis-based beverages, which are expected to be available when Canadian regulations open up this fall. So in closing, I hope your key takeaways from my comments this morning are as follows. One, I am confident in the ability of our beer business to generate industry-leading, high single-digit growth trends for fiscal 2020. with the initiatives we already have underway for this year. Two, fiscal 20 will be a dynamic year for our wine and spirits business. A tighter focus on high-performing brands strengthens the business and strategically positions it for future growth and success. Three, we are working closely with Canopy Growth on a focused long-term strategy to win markets and form factors that matter while paving a clear path to profitability. We are confident in their ability to achieve the previously communicated run rate of $1 billion next year. And with that, I would like to now turn the call over to David, who will review our financial results for fiscal 19 and provide guidance for the coming year. David?

Thanks, Bill, and good morning, everyone. In fiscal 19, we grew net sales and comparable basis EPS by 7% and produced a three-year comparable basis EPS CAGR of 20%. In addition, we generated over $2.2 billion of operating cash flow, returned over $1 billion of cash to shareholders in dividends and share repurchases, and completed our incremental investment in canopy growth. Let's look at full-year fiscal 19 performance in more detail today. where I'll generally focus on comparable basis financial results, starting with beer. Net sales grew 12%, primarily due to volume growth of 10% and favorable pricing. Depletion growth for the year came in at 9%. Depletion growth was lower than shipment growth, primarily due to year-end timing, as poor weather conditions, especially on the West Coast, muted our February depletion results after experiencing strong depletion trends during the winter holiday months of December and January. As a result, distributor inventory levels finished the year higher than expected. Beer gross margin increased 10 basis points to 54.4% as favorability and pricing was essentially offset by higher COGS, which were primarily related to transportation cost headwinds. Given the challenging cost environment, I'm pleased with this result as our operational cost and efficiency initiatives helped offset the impact of other cost increases like depreciation. Marketing as a percent of net sales increased 30 basis points to 9.3%, reflecting incremental investment in support of successful innovation activities. This result came in 20 basis points lower than our previous 9.5% target as we tactically balanced our marketing investments. As a result of the above-mentioned factors, operating margin decreased 20 basis points to 39.3, which is best in class amongst North American brewers. Moving to wine and spirits, shipment volumes were down 1% and net sales were flat, reflecting a slight pricing benefit. Shipment volume ran ahead of depletion volume for the year. Operating margin decreased 70 basis points to 26.5%, primarily due to higher COGS and unfavorable mix, partially offset by favorable pricing. The higher COGS primarily reflect increased grape and transportation costs. Corporate expenses increased $32 million, primarily in support of growth and technology initiatives. Comparable basis interest expense for the year increased 17%, to $387 million. This reflects approximately $55 million in interest expense related to the funding for our incremental investment in canopy growth in November of 2018. Our comparable basis effective tax rate for the year moved down a percentage point to 18%, which was in line with our guidance. Now let's review Q4 results. Beer net sales increased 9%, primarily due to volume growth of 8% in favorable pricing. This net sales result came in ahead of our previous expectation due to the shipment and depletion timing items I mentioned earlier. Beer gross margin increased 50 basis points to 53.8%, primarily due to pricing and FX benefits, partially offset by higher transportation costs. Marketing as a percent of net sales was 6.4%, or 160 basis points lower than Q4 last year. Primarily as a result of these factors, operating margin increased 250 basis points to 40.5%. Wine and spirit shipment volume was down 9%, and net sales were down 8%. While Q4 shipments ran below depletions, we finished fiscal 19 with shipments outpacing depletions. Operating margin increased 60 basis points to 27.7%, primarily due to benefits from lower SG&A and favorable pricing, partially offset by higher COGS driven largely by increased growth in transportation costs. We recorded $17 million of equity loss on a comparable basis, or $0.06 per share related to our canopy investments. As a reminder, we're recognizing our share of Canopy's earnings on a two-month lag. As such, we recognized our share of Canopy earnings for only two months, November and December, which is included in Canopy's third quarter fiscal 19 results. In our Q4 reported basis financial results, we recognized an additional $1.2 billion pre-tax net gain from the change in fair value of the canopy warrants and convertible notes, bringing the total pre-tax net gain on our canopy fair value investments to almost $2 billion for fiscal 19. We also recorded a $108 million impairment charge related to the trademark value of Ballast Point. While this investment has not met expectations, as the craft marketplace has slowed since our acquisition, It has increased our leadership position in the high end of U.S. beer and provided us an innovation and operating platform in the craft and specialty category to contribute to future growth. These items were excluded from our comparable basis financial results. Moving to fiscal 19 free cash flow, which we define as net cash provided by operating activities less capex, we generated $1.4 billion in compared to $874 million last year. Operating cash flow totaled $2.2 billion, up 16%, primarily driven by beer earnings growth. Operating cash flow came in below our expectation, primarily due to cash flow underperformance in the wine and spirits business. CapEx totaled $886 million, which was 16% below last year's spend. CapEx spending was favorable versus our previous expectation, primarily due to timing. Given the accelerated pace of the 5 million hectolitre expansion at the Obregon facility, we've been able to shift out the timing of some of the spend related to our Mexicali brewery build. Moving to our fiscal 20 P&L and free cash flow outlook. For fiscal 20, we expect comparable basis diluted EPS to be in the range of 850 to 880. This excludes canopy equity earnings and assumes the transaction to sell a portion of our wine and spirits business for $1.7 billion will close at the end of Q1. Primarily as a result of this transaction, we expect fiscal 20 wine and spirits net sales to decrease 25 to 30%, and operating income to decrease 30% to 35%. During fiscal 19, for the businesses sold, shipment volume was 28 million cases, net sales was $1.1 billion, and gross profit after marketing was $389 million. We've also identified approximately $130 million of stranded costs resulting from the transaction. The company is developing plans to eliminate these costs during the fiscal 20 to fiscal 21 timeframe. We currently expect to realize $35 to $55 million of these cost reductions during fiscal 20, and have factored them into our fiscal 20 guidance. For Q2 through Q4 of fiscal 19, The shipment volume, net sales, and gross profit after marketing costs for the businesses being sold totaled 21 million cases, $852 million, and $303 million, respectively. When you exclude these Q2 through Q4 amounts from our fiscal 19 wine and spirits results, our remaining wine and spirits business is targeting net sales growth of low to mid single digits and operating income growth of high single digits for fiscal 20. We expect to incur a restructuring charge in the first quarter of fiscal 20 in connection with the cost reduction plan that's being developed. We've not reflected this change in our fiscal 20 reported basis guidance. In addition, we've not included any potential net gain or loss in our fiscal 20 reported basis guidance. Both items will be excluded from our fiscal 20 comparable basis guidance. We expect most of the wine and spirits shipment timing benefit for fiscal 19 that I mentioned earlier to reverse in Q1 fiscal 20. As a result, Q1 fiscal 20 wine and spirits net sales and EBIT is expected to decrease 10% and 20% respectively. For fiscal 20, our beer business is targeting net sales and operating income growth in the range of 7% to 9%, and our full-year operating margin to approximate 39%. Our projections include 1% to 2% of anticipated pricing benefit for our import portfolio. We expect gross margin to be flattish as cost inflation headwinds primarily related to glass, raw materials, transportation, and labor costs in Mexico are expected to be mostly offset from product pricing and productivity initiatives. As mentioned earlier, beer marketing expenses of percent of net sales finished fiscal 19 at 9.3%. For fiscal 20, we expect marketing as a percent of net sales to increase slightly around 20 basis points to 9.5% to support the innovation in brand growth initiatives outlined earlier by Bill. We expect some of the beer shipment timing benefits that we recognize at the end of fiscal 19 to reverse in Q1 fiscal 20. As a result, Q1 fiscal 20 beer net sales and operating income growth is expected to increase mid single digits. Interest expense is expected to be in the range of 420 to 430 million. This includes approximately 105 million of incremental interest expense associated with the financing of our November 2018 canopy investment. This brings the total canopy-related interest expense to $160 million. Net proceeds from the Wine and Spirits transaction will be used to pay down debt, and an interest expense reduction of approximately $40 million has been factored into our fiscal 20 guidance for this item. Our tax rate is expected to approximate 17%. Weighted average diluted shares outstanding are targeted at $195 million. This guidance assumes no share repurchases for fiscal 20. Net income attributable to non-controlling interest is expected to be in the range of $30 to $40 million. I would also note that our comparable basis guidance excludes comparable adjustments, which are detailed in the release. We expect fiscal 20 free cash flow to be in the range of $1.1 to $1.2 billion, which reflects operating cash flow in the range of $1.9 to $2.1 billion, and capex of $800 to $900 million. This includes approximately $600 million of capex for our Mexico beer operations expansion, including investments in the Obregón and Mexicali breweries and a fifth glass furnace at the Nava Glass plant. This expansion CapEx spend is below our previous fiscal 20 guidance as we've shifted out the timing of spend for Mexicali. For fiscal 21 and 22, we expect total company CapEx to be in the range of $700 to $900 million per year. This includes $200 to $400 million of maintenance CapEx across the total Constellation business. In fiscal 21 and 22, we expect beer expansion project CapEx to moderate from the $600 million level in fiscal 20 as we work to complete the build-outs of Obregon and Mexicali. While our fiscal 20 comparable basis EPS is moving down due to the wine and spirits divestiture, we remain committed to growing our dividend and have increased our quarterly dividend slightly. As summarized in the earnings release, fiscal 19 comparable basis diluted EPS excluding Canopy equity earnings totaled $9.34 per share. As mentioned earlier, we expect comparable basis diluted EPS, excluding Canopy equity earnings, to be in the range of $850 to $880 per share. Canopy's business is rapidly evolving, and their financial results will likely be volatile as they invest behind their growth opportunities. Additionally, as Canopy's planning process for the next fiscal year is ongoing, and the canopy equity earnings we recorded in our income statements are non-cash. We've not factored canopy equity earnings into our fiscal 20 guidance. This will allow us and our investors to focus on the underlying performance of our core business. In closing, the actions we are taking in fiscal 20 will provide us a more premium portfolio of wine and spirits with a stronger growth in financial profile. This, along with the opportunities we plan to capture to increase our leadership position in high-end beer, has us very excited about the future. With that, Bill and I are happy to take your questions.

Thank you. Ladies and gentlemen, if you wish to ask a question at this time, please press star then 1 on your touch-tone telephone. If your question has been answered or you wish to move yourself from the queue, please press the count key. To prevent any background noise, we ask that you please place your line on mute once your question has been stated. In the interest of time, we ask that you please limit yourself to one question. Our first question comes from Dara with Morgan Stanley. Your line is open.

Hey, good morning, guys. Hey, Dara, good morning. So clearly a lot of variance in the beard depletion growth within fiscal Q4 with the great start that you mentioned and then the weaker end of the quarter. dampened, I guess, literally by weather. So I'd love to get more detail on if you think the softness in February was just weather-related or if there are any other factors that may linger and any update on March if you're expecting sort of if you're now back to that full-year trajectory that you're expecting. And then just second on Premier on the beer depletion fund, I guess what level of growth are you expecting out of that brand in fiscal 2020 and what gives you confidence that it can build and grow in year two? Thanks.

Sure. Yes, the entire scenario around the slight weakening at the end of the fourth quarter was driven by weather. The last two weeks in the state of California, which, as we all know, is our biggest market, was literally wet, soaking wet. In fact, only 1% of the state of California today is in drought conditions, and just a few years ago that number was in the 90-plus range. So we literally saw everything dampened in the last couple of weeks. You combine that with the polar vortex that we had in the northern tier of states, and it was a literal weather mess for the last couple of weeks of our fiscal. We are, though, very pleased with the start of our march, and we feel that it's consistent with the guidance that we just provided. Relative to your question on PREMIER, We expect Premier growth to be in the 30% to 45% range this coming year, so we see significant upside in that brand beyond the results that we saw this past year. As most of you know, Premier virtually doubled what our expectations were in its first year, and we expect that acceleration to continue.

Thank you. Our next question comes from Lauren Lieberman with Barclays. Your line is open. Great, thanks.

I wanted to keep talking a little bit about innovation. So a lot of activity in the ABA space broadly. So first, if you talk a little bit, Refresca, my understanding from test markets is it's largely incremental. But how big is SMB? When they launch, if they hit, they can hit really big. But the sort of trajectory, generally speaking, for a lot of these brands has been year two or year three is a real struggle. So as you look for planning out the future of Refresca, how do you manage that kind of boom-bust scenario, and what are your general expectations for year one? Then secondarily, you mentioned Alera. So how does that intersect with Corona Refresca in terms of positioning and marketing, knowing that's still just in test markets? Thanks.

Sure. Let me cover those. Refresca in our test markets had tremendous incrementality. In fact, it was even better than Premier was. So we are very excited about the opportunity to put a strong, recognized brand like Corona packaged as refresca into a separate area of the store, both on the retail shelf and in the cold box. It appeals to a much broader demographic than what our core beer business does, and we think it opens up a wonderful vehicle with the strength of the carefree lifestyle that Corona represents. for our business. Alera, on the other hand, is much more focused to Hispanic women, also multicultural women, but Hispanic women specifically. And that will be somewhat different than what we see as the demographic profile around Refresca. As you know, Alera will only be in test market. We have a very defined approach to innovation where we test and learn in year one, And as we see success, we expand, much like we did with Premier. We're doing the same thing with Refresca, and we will do that assessment with Alera and El Grito and things of that nature as well, so that we have a focused approach and disciplined approach to our innovation agenda.

Thank you. Our next question comes from Vivian Asler with Cowan. Your line is open. Thank you.

Hi, this is Gerald Pasquarelli on for Vivian. Thanks very much for taking the question.

You don't sound like Vivian.

Indeed, indeed. So just kind of building on Refresca, the national rollout, obviously encouraging and bringing a seltzer to market. As you guys look to build out your portfolio, are there any gaps that you see that you might want to invest in and kind of enter, not just across beer but across spirits as well? Thanks.

Sure. We obviously do a lot through our chief growth officer in assessing what consumer opportunities and segments are available to us. That's frankly how we got to Premier. That's frankly how we got to Refresca and how we've gotten to Alera and other things that we are testing. We certainly see an opportunity in higher-end, sessionable domestic beer. That's why Western Standard is being tested in five western states this year. I personally am very excited about the opportunity around that, and it's a bit of one of those what I would describe as category blurring. It is a lager that then has time in high west barrels. So it has the benefits, and it's really what we're calling a saloon lager. It's a great opportunity to leverage existing capabilities that we have, but also put us into a new area as consumers continue to trade up. We're also evaluating and will continue to evaluate new things. I use the example of our bourbon barrel-aged wine programs, which, as I mentioned in my remarks, have generated over a million cases from zero in under two years. So we will continue to find those niche opportunities that we believe are big, impactful, and sustainable, whether it be in our beer business or in our wine and spirits business.

Thank you. Our next question is from Bonnie Herzog with Wells Fargo. Your line is open. All right. Thank you. Good morning. Good morning.

I actually had a question on your FY20 EPS guidance. It excludes the expected dilution from Canopy, and I think it appears a bit low, so possibly conservative. So I guess I was hoping you could touch on that and your level of conviction. And I was hoping to get a sense of your level of visibility with Canopy and if you have any sense of when equity earnings from Canopy will inflect positives. And then, you know, I think earlier you had mentioned that you were expecting that to happen by the end of this year. So I just wanted to confirm that. And I also wanted to understand, you mentioned that you're not going to include canopy in your FY guidance. So I'm just going to confirm that's going to continue through this year. And I'm curious, you know, how you think about it in the the out years, you know, especially when sanity is no longer a drag on earnings. Will you please start to include it then? Thanks.

Yeah, so let me take it kind of in two parts. So on our base level guidance, Bonnie, you know, our guidance is really out there for beer in line with our medium-term growth algorithm in the 7% to 9% range, kind of centering on that 39%. operating margin, which we think is aggressive but achievable, and again, in line with our medium-term expectations. For Wine and Spirits, once we have closed on our transaction, we have a base underlying business that we think, as a result of more focus from ourselves internally, where we can apply our ability to drive connectivity with our consumers, better performance in our operations, maybe some pricing along the way that we'll be able to deliver over time mid-single-digit growth and achieve the 30% operating margins that Bill talked about. The headwind there really for FY20 for us is the stranded cost removal. And so we've baked into our guidance between $35 and $55 million of cost takeout of the total of $130 million. Maybe the reason why we couldn't be more aggressive with that number is related to timing in the year when the costs come out for some of the costs. And the fact that some of the costs will be coming out of COGS and COGS overhead is which will take time to come through our P&L and won't likely show up until next year. So we think the story stays completely on our medium-term guidance. We just have to work through some of the near-term work. Shifting to Canopy, we still are confident, as Bill called out, that the Canopy business will be generating over a billion dollars in run rate net sales at the end of their upcoming fiscal year. We expect to be able to see profitability out of the markets that they were in when we did the transaction, so meaning Canada, medical, and rec, as well as some international medical markets. We would still expect to be able to see that come through our numbers in FY21. So our view on Canopy hasn't changed. But let me just touch on guidance or lack thereof. I'm personally disappointed that we weren't able to get to be able to provide guidance for the fiscal year on Canopy. But there are a couple of factors that played into that. The first is the planning process at Canopy isn't completed. In fact, the board and the management team will be going through their plans over the next couple of weeks. Secondly, we're seeing changes literally as we speak, because this week brick-and-mortar sales started to take place in the province of Ontario. We still don't have clarity on CBD products, how they'll be regulated in the U.S., and, of course, We expect different form factors to come online in Canada later in the year, but, you know, that timing could move around a little bit. So, you know, we looked at all of these factors, and we felt that we would probably just make things less clear to our investors if we tried to provide some very broad guidance range that would take into account all of these factors. And in any event, we're going to show Constellation X Canopy Equity and Earnings in our results, and so that's what we provided to you today. We do expect at some point to be able to provide at least a broad range of guidance for Canopy. We were just unable to do it today, and since I've already missed on that commitment, I'm not going to commit on when we'll be able to do that, but we'll get there as soon as we can.

Thank you. Our next question comes from Judy Hong with Goldman Sachs. Your line is open.

Thank you. Good morning. So I guess my first question is just one clarification. David, your comment about the mid-single-digit sales growth in beer in Q1, can you just quantify how much undershipment you're expecting in Q1 specifically? And then my broader question is really on your marketing investment. So throughout fiscal 19, it seems like That number has come down a little bit. You talked about tactically balancing the investments. I guess I just want to get a little bit more color on what you meant by that. And then when you look at fiscal 20, obviously a lot of innovations and a lot of activities even on the core. So I guess I'm just wondering if you're looking for more efficiencies in terms of marketing. Are you looking at that in sort of the different ways? Or, you know, is sort of the return you're getting – perhaps sort of influencing how much you're spending on some of these brands at this point.

Okay. So in terms of Q1, Judy, let me just kind of step back a little bit and talk about the ships in depletions growth rate imbalances over the last couple of years. So in FY18, depletes grew faster than ships. In FY19, ships grew faster than depletes. We would expect in FY20 – that we'll end up with a year where depletes grow a little bit faster than ships, just as a general comment. And by the way, the actual volume deltas between these, it really is a small number of cases, call it a million or two million cases a year. And so we just have different growth rates as a result of different numerators between shifts and depletes. So in the first quarter, we have, you know, we have an imbalance to unwind that gets us to the mid-single digits even while we're on target, mid-single digit growth in ships in the first quarter, even while we're on target for our, you know, our full year depletion growth rate. So, again, just timing. And, you know, as Bill mentioned, that imbalance really happened because of the way we plan out our shipments versus our depletions happens within a 10-day to two-week sort of window. And the last couple of weeks of February, depletions just slowed down for reasons Bill described. Shifting to the marketing question, our philosophy really hasn't changed. I would say that our marketing team headed by Jim Sabia does an outstanding job of both getting really good returns on our marketing investments while they're squeezing as hard as they can on the dollars that are applied to non-working marketing. Our returns haven't diminished, and so we remain committed to driving that real value-add marketing spend. What really happened is we believe that we should be spending about 9.5% on marketing, and just as a result of you know, timing of ad placements and that sort of thing. We ended up a little bit light in FY19, but we expect to be in that 9.5% range in FY20.

Thank you. Our next question comes from Steve Powers with Deutsche Bank. The line is open.

Hey, guys. Good morning. Thanks. So I'm going to first just – I wanted to just confirm – that you're still holding to your Cagney comments of roughly 10% EPS CAGR off the reported 928 base that you just finished in 19, just a clarification there. And then my real question is on the wine sale and how, just a question around how you're thinking about the valuation. On a trailing basis, it looks like the transaction was done at about six times EBITDA, which is no more or less in line with some of your prior comments, but I guess I was a little surprised in that context with the magnitude of the stranded overheads, because on a contribution margin basis, it looks like GALA was paying closer to four times. So just a little bit more color around how you thought about that. And just one last just clarification, I know the restructuring charge is not in your outlook, but I'm assuming that any cash outlays related to that effort are in your free cash flow outlook, and just hope you can confirm that. Thanks.

Yeah, so I'll start with that one because that's easy. Yes, any anticipated restructuring cash costs we have included in our cash outlook. However, as you highlighted, we excluded that from our numbers from a P&L standpoint. So now I'll go back to your first question. Yeah, we are still on track for 10% EPS growth. Remember that that guidance was really on a three to five year basis. But our models, even as we roll our plan into it and have final FY19 numbers, we continue to support 10% EPS growth using FY19 as a base. So now let's talk about the transaction value itself. So I think... You know, we called out in our release some of the details about contribution after marketing spend. If you look at the brands on a trailing basis, yeah, you're in the six-ish range, you know, between six and seven on a trailing basis. These brands are declining to high single digits. So on a forward basis, you're more in line with seven or slightly above seven. We also have a fair amount – most of the CAM that we sold is branded CAM. We also have a couple of ancillary businesses such as our concentrate business and our polyphenolics business that were included in the sale as well because they actually reside at the Mission Bell facility. So when – When we look at the transaction on a multiple basis, we're comfortable with it. When we look at the transaction on a DCF basis, we're comfortable with it. And on an accounting basis, we're comfortable as well. So I think the important thing, though, to take away from the transaction is the strategic merit for Constellation in being able to direct their attention to these higher margin brands that remain in our portfolio. We believe that if we put the sort of thinking and maybe discipline that we've applied to our very focused portfolio in beer to this portfolio in wine and spirits, we can have some pretty impressive results. And that's really the point of the transaction. It's more the strategic merits than the economic merits, but we think it was a fair deal all around.

Thank you. Our next question comes from Robert Adenstein with Evercore ISI. Your line is open.

Great, great. Just one quick point of clarification. Have you finished the sales in the Wine and Spirits business? Is this what you had intended? Is it done? And then my real question, can you talk a little bit more about the potential for Pacifico how you're sizing, you know, how big that brand could be, and what you're seeing in terms of incrementality on that brand. Thank you.

Sure. Yes, we view this as the optimization effort in its entirety, for your first question. The second question about Pacifico. We were very excited around Pacifico. It has grown double – grew double digits this past year outside of the core California base. as the advertising campaign that we had associated with it kicked in and worked very well. I think we're going to continue to see this brand be a double-digit growth driver for us going forward as it extends itself. As I said in my prepared remarks, we have extended some of our sponsorship opportunities with this brand and will continue to do sort of the edgy, X-game type of approaches that that we think Pacifico has become known for, and we think it's got some continued success to come.

Thank you. Our next question is from Andrea Teixeira with J.P. Morgan. You're welcome.

Hi. Thank you. Hello, everybody. So my question is on beer. So Bill mentioned that you expect Premier to have about 35% growth embedded in Cisco 20 Guide. So what is the total assumption for the Corona family as a whole and for Modelo in site guidance? Thank you.

Sure. Our expectations is that the Corona family, after growing 7% during this past year, will probably be in the mid-single-digit range for this coming year. Premier, we do expect, as I said earlier, to be a significant growth driver as part of that, and we expect the overall brand family to be in the mid-single-digit range.

Thank you. Our next question comes from Kevin Grundy with Jefferies. Your line is open.

Thanks. Good morning, everyone. Quick housekeeping question for David and then one for Bill. So, David, the housekeeping after tax proceeds on the $1.7 billion sale of wine assets and then whether you had any flexibility to buy back the stock as opposed to paying down debt. And then, Bill, for you on pricing, just given the protracted volume declines in the industry, over a long period of time. Do you see any potential that the big domestic brewers become less rational at some point? How do you sort of handicap the possibility of that and potential implications for your portfolio? Thanks for both of those.

So, Kevin, we are not prepared to really talk about the after-tax proceeds, but it'll be a fairly efficient transaction for us from that perspective. We We do intend to repurchase stock, as we've said before, as soon as we are comfortably within our targeted leverage ratio range of three to four times. We haven't built anything into our guidance. We'll see how the year unfolds, but we would very much like to be buying our stock at this point, and we'll do so as quickly as we can.

Relative to your question on pricing, I mean, we continue to feel, as we have, that there is 1% to 2% pricing within our beer business on an ongoing basis. As you know, our brands have strong consumer demand attached to those, and we continue to feel that that opportunity is going to be there for us as we continue into the foreseeable future. Relative to, and I don't know if that was uniquely to beer, I would say we are putting some of the same capabilities on our remaining wine and spirit business We have put on our beer through revenue management, and we expect to see both mix and pricing benefits coming out of our wine and spirit business, which, quite frankly, we had been relatively unable to get in the recent past with our remaining portfolio, which we think is much more conducive to pricing and mixed benefits.

Thank you. Our next question comes from Brian Spillane with Bank of America. Your line is open.

Hey, good morning, everyone. Just two quick ones. David, do you have any sense on what depreciation and amortization is sort of ongoing as the divestitures?

I don't have that off the top of my head, but clearly that's something that we can provide at some point.

Thank you. Our next question comes from Tony.

Brian, sorry about that. We didn't give you a chance for your second question.

Shannon, can you let Brian back on the line, please?

Sure, one moment. Brian, your line is still open.

And just a question on beer margins, David. Can you just walk through a little bit more color on some of the pressure points on cost, on headwinds and cost of goods, I guess like glass and labor inflation, that type of thing, and just how fixed that is as you're kind of through the course of this year, meaning is there a chance or how much volatility could there be in that cost basket?

So, Brian, if I knew you were going to ask a beer margin question, we wouldn't have gone through that in the background. So, yeah, you know, I think I said this before that, We're seeing labor inflation in Mexico in the 4% to 6% range. We're seeing contractual costs of glass increasing in the 4% to 6% range, in particular coming out of our joint venture, which is producing about 55% to 60% of the glass that we use. We expect to see transportation headwinds in likely the high single-digit range. We do expect to have some benefit, clearly, from pricing. But in order to hold our gross margins, not only do we have to get benefits from pricing and possibly FX, we have to also deliver on productivity improvements, which, you know, the team is diligently working towards. So, I think all in all, given the sorts of headwinds that we're seeing and the pricing environment that we're anticipating with this 1% to 2% price increase activity, you know, we feel pretty good about being able to have flattish gross margins during the year.

Thank you. Our next question comes from Tim Ramey with Pivotal Research Group. Your line is open. Okay.

Good morning. Talking about the wine portfolio in 2021, just kind of skip ahead and take this transition year out. Have you modeled what net revenue per case might look like versus the current portfolio to help us understand, you know, where that was and where that's going?

We are obviously running models as we speak about what we expect our Remainco portfolio. As you would expect in a transaction of this size, the final dimension of what was going to be sold has just been recently completed. So a lot of work is now being done on our forward-looking wine piece. What I would say is this. I think you should expect it to be significantly higher than what it has been. because, as you know, the vast weighting of the portfolio that has been sold is that reflecting under $11 on a retail price basis. So the overall average out-the-door price point for our Remainco brands will be significantly higher than it was, and we'll be able to give you a more concrete answer to that as we get the work done.

Thank you. Our next question comes from Sean King with UBS. Your line is open.

Hi. Thanks for the question. The $0.75 dividend came in lower than at least our expectation. Are you thinking any differently about the cadence or composition of the $4.5 billion return to shareholders over the next three years?

No, not at all. We feel really bullish about that, Sean. We've been targeting a 30% 30% payout rate at our business. And as a result of the disposition of some of the wine brands, as our net income came down, our actual, at that 30% number, our payout would have come down. We wanted to keep it in line with where it was last year and quite honestly show a slight increase. So that's what we offered up. It really is more in keeping keeping on track at that 30% target more than it is any kind of indication around comfort level with being able to return the $4.5 billion. We remain absolutely committed to that.

Thank you. And our last question from Brett Cooper, the consumer, is your line is open.

Thanks. Dear question, what do you guys expect to get in terms of incremental placements as you go into the spring with the new products that you're rolling out? And then as you're putting more products, more packages in there, how do you guys think about driving velocity growth for the total of your business and the importance of doing that? Thanks.

Sure. As we've shared at prior discussions, we believe that as our algorithm for growth, that roughly 50% of our growth profile will come out of increased distribution with an increase of the innovation agenda to 30% and then various other miscellaneous things. So we continue to feel that there remains a lot of opportunity in distribution, as well as in formats like cans and drafts and so forth that we alluded to earlier on the call. Relative to velocity, as you know, a lot of work has been done in our space management approach that we have definitively proven improves the overall results in a beer section when our shopper-first approach is undertaken. We are radically increasing the number of retailers that are engaged with this particular program, which we expect to have a significant and helpful velocity improvement based on improving the overall space in the beer section. So we believe that particular element will be helpful not only for us, but for the overall category, and we're excited about the opportunity around it.

Thank you. This concludes the question and answer session. I would like to turn the call back over to Bill Newlands for closing remarks.

Great. Thanks very much. Much appreciate all of you joining Patty, David, and me today. Obviously, we're excited about our organic growth prospects for the coming year, and we're already hard at work, as you would expect, to deliver these opportunities while continuing to invest in our brands and in our operations. We look forward to speaking with all of you again in late June when we share the results of our first quarter for our new fiscal year. Before then, we certainly hope that you'll choose some of our fine products for your spring celebrations, including Cinco and Memorial Day weekend. Speaking of Cinco, look for us at the New York Stock Exchange as we will officially kick off the summer selling season by ringing that closing bell. So thanks again, everyone. Much appreciate your time, and have a good day.

Ladies and gentlemen, this concludes today's conference. Thanks for your participation. Have a wonderful day.