Constellation Brands, Inc.

Greetings, and welcome to the Constellation Brands Fiscal Year 23 Q2 Earnings Call. At this time, all participants are in listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Joseph Suarez, Vice President, Investor Relations. Please go ahead.

Thank you, Kevin. Thank you, Kevin. Good morning, all, and welcome to Constellation Brands' second quarter fiscal 2023 conference call. I'm here this morning with Bill Newlands, our CEO, and Garth Hankinson, our CFO. As a reminder, reconciliations between the most directly comparable GAAP measures and any non-GAAP 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 made on this call. Before turning the call over to Bill, in line with prior quarters, I'd like to ask that we limit everyone to one question per person, which will help us end our call on time. Thanks in advance, and now here's Bill.

Thank you, Joe, and good morning, all. Welcome to our second quarter call. I hope everyone had a good summer and enjoyed some of it with our great products. Before we get started today, I want to take this opportunity to say that our thoughts are with all those affected by Hurricane Ian. Thankfully, all Constellation employees living in Hurricane Ian's path are safe and accounted for. We're also fortunate to have avoided any adverse impact to our operations in the area to this point, and we continue to stay in contact with our local distributors, retailers, and other partners to best support their needs in this difficult time. Additionally, thousands of people in Florida, South Carolina, North Carolina, and Virginia have been impacted by this natural disaster, so we are also supporting the American Red Cross with a significant contribution to help provide food, shelter, and much-needed assistance. We will also match employee contributions to the American Red Cross two for one as part of this effort, and we hope it provides at least some comfort to local residents as they work to recover and rebuild. I also want to remind everyone that we filed our proxy statement in connection with the Class B common stock reclassification a couple of weeks ago. We have called a special meeting of shareholders to vote on the reclassification next month on November 9. At this point, we are unable to comment further or provide additional information on this topic during today's call beyond what is available in the proxy statement and our other filings with the SEC. All of these filings are available through our investor relations website, and I urge anyone interested in a special meeting or the reclassification to review these documents. Now, as usual, I would like to start by emphasizing a few key takeaways from our latest results. First, consumer demand for our products remains strong. Consumer-led premiumization trends continue across beverage alcohol, giving further confidence in the resilience of premiumization as a fundamental driver of demand for our brands. Buy rate, which captures both the number of trips a consumer makes and the amount they spend per trip, increased in the second quarter for both high-end beer and total wine categories and track channels. And buy rate for Hispanic high-end beer consumers, which is particularly relevant to our core beer portfolio, is also proving resilient. More specific to our brands, our beer business posted depletion growth of nearly 9%. That is more than 9 million additional cases for the quarter. And in our wine and spirits business, our wine portfolio gained share and outperformed the entire wine category and track channels, while our craft spirits brands outperformed the higher-end segment of the spirits category. Second, our beer business also continued In the second quarter, our beer business remained the leading share gainer in U.S. tract channels across the entire beer category and now accounts for 28% of the high-end segment. Importantly, we believe our beer business remains well-placed to continue to support the steady growth of our brands with inventories across the supply chain at historical norms and production continuing per our operating plans to meet volume expectations for the fiscal year and incremental capacity unlocked from our existing brewery operations in Mexico through optimization and productivity initiatives, and the expansion of our breweries at Nava and Obregon, as well as the construction process of our new brewery in Veracruz, are all advancing as planned, all of which has given us the confidence to increase the fiscal 23 net sales and operating income growth guidance for our beer business, and continued conviction in our medium-term top-line growth and margin algorithm. Third, the transformation of our wine and spirits business continues to yield results. Over the past few years, this business has been evolving from a U.S. wholesaler business focused mainly on the mainstream segment to a global omni-channel competitor primarily focused on the higher end. And in our latest quarter, our largest premium wine brands, Kim Crawford, Robert Mondavi Private Selection, Naomi, and Rufino, and our largest fine wine brand, the Prisoner Wine Company, all delivered solid depletion growth. In our craft spirits portfolio, High West, Casanova, and Me Campo all achieved strong double-digit depletion growth. In addition, our international and DTC channels each delivered double-digit net sales growth year-over-year, and we continue to gain share in three-tier e-commerce. Fourth, our capital allocation priorities remain firm, starting with our investment-grade rating. We expect to remain investment-grade, including after funding the expected $1.5 billion cash payment for the Class B common stock reclassification, given the strong operating performance and cash generation of our business. Moving on to cash returns to shareholders, as of the end of the second quarter, we were over 97% toward meeting our $5 billion goal, and we have now exceeded the share buybacks component of our goal by $300 million. And upon payment of today's declared dividend, which we expect to take place next month, we will have fully achieved our goal ahead of our fiscal year-end deadline. Shifting to our third priority of reinvesting to support the growth of our beer business, as noted earlier, our capacity expansions and construction processes continue according to plan. And lastly, our M&A focus remains on small acquisitions to fill portfolio gaps, particularly in our wine and spirits business. This included, most recently, the investment in a minority stake in Archer Roos as part of our Focus on Female Founders initiative which is an accessible premium wine brand focused on offering consciously crafted wines to a new generation of legal drinking age wine drinkers. We are proud to say that five years into our focus on female founders initiative, we have fulfilled 76% of our commitment to invest $100 million in female founded and female led startups in the beverage alcohol sector as part of our efforts to enhance social equity within the industry. Now let's move on to a more fulsome discussion of our performance in the quarter. As I mentioned earlier, our beer brands continue to resonate strongly with the consumer, gaining 1.8 points across the entire category and 2.5 points in the high-end segment and track channels. Modelo Especial delivered depletion growth of over 10% and was the number one share gainer in the entire U.S. beer category. It continues to strengthen its position as the number two beer brand in dollar sales and is the number one or two beer in 11 states, more than double the number of states from just three years ago. We continue to see further opportunities to maintain the growth momentum of Modelo Especial, particularly given the resilience of premiumization trends and our relentless focus on striving to close the brand's distribution and awareness gaps. Corona Extra maintained its momentum with 6% depletion growth and is the number three share gainer in track channels. It remains the number one most loved beer brand with both general market and Hispanic consumers, and our La Vida Mosquina campaign has maintained the number one spot in ad awareness across the beer category. We continue to expect modest growth from Corona Extra, supported by distribution gains within certain pockets of the U.S. where it is underrepresented, and the brand's appeal and growth potential with younger legal drinking age and multicultural consumers. Pacifico achieved depletion growth of over 37% and was a top 10 share gaining brand in track channels. We continue to see a fantastic growth runway for Pacifico as an emerging brand, particularly as the brand has significant distribution potential when compared to Modelo and even more so when compared to Corona Extra. Lastly, our Modelo Chilada brands posted depletion growth of more than 60% for the second quarter, and Modelo Chilada Limoni Sal was a top 15 share gaining brand in track channels. Modelo Chilada remains the number one brand family in the Chilada space and owns nearly 60% market share of the gelato segment nationwide. However, awareness for Modelo Gelato is still relatively low compared to other flavor categories, and we continue to expect significant growth as we invest in marketing to broaden the demographic appeal and in additional flavors and package configurations to unlock new consumption occasions for this product. All in, The strong demand for our brands in the second quarter supported a net sales increase of 15% for our beer business, and this in turn drove a 25% uplift in operating income, which also benefited from the lapping of higher obsolescence charges last year. This gives us confidence to increase guidance for our beer business, as we now expect to achieve 8% to 10% net sales growth and 3% to 5% operating income growth for fiscal 23, which Garth will review in more detail shortly. That said, it is important to remember that in the third and fourth quarters of fiscal 23, we will be allowing elevated shipments from the second half of the last fiscal year that resulted from the rebuild of distributor and retailer inventories after supply shortages and severe weather-driven shipping disruptions that occurred in the first half of fiscal 22. So while on an absolute basis we continue to expect our shipments for the remainder of this fiscal year to be relatively in line with depletions, we believe the more comparable indicator for growth for our beer brands in the second half will be the depletion rate. Looking forward, we are also confident that over the medium term, our beer business remains well positioned to deliver 7% to 9% net sales growth and 39% to 40% operating margin supported by the sustained momentum of our core brands, the steady progress of our brewing capacity additions, and the continued development of our innovation lineup, including the momentum of our Cholata brands, the recent launch of Fresca Mixed, the expansion of Modelo Oro from select test markets to the entire national market next year, and the introduction of Corona non-alcoholic. The new non-alcoholic drinking age consumer is an attractive target as they also consume high-end beer as well as spirits and hard seltzers. So we are excited about the extension of Corona into this segment and we look forward to sharing more details as we approach the product launch. Moving on to wine and spirits. Our wine and spirits business is making headway with its vision to become a bold and innovative high-end market leader. As noted earlier, the largest premium and fine wine brands and craft spirits brands of our portfolio delivered solid depletion growth rates in the second quarter. And relative to the market, the higher end portion of our wine portfolio, which includes our premium and fine wine brands, outperformed the corresponding category segments and US track channels. Our craft spirits portfolio delivered dollar sales growth significantly ahead of higher-end segment of the spirits category. Our wine and spirits business also continues to advance its mainstream strategy through a greater focus on brands and initiatives with higher returns, including through the delivery of relevant and innovative products. As we also announced this morning, we continue to further premiumize our business with the divestiture of a portion of our mainstream wine portfolio combined with a couple of select premium brands to the wine group. When it closes, we believe this transaction will further enable us to focus our portfolio and efforts to deliver the industry-leading growth and margins that we continue to work toward. From an innovation perspective, we have several great examples of recently introduced products that are driving growth within our wine portfolio. Woodbridge Box was the number two premium box share gainer in the second quarter. Naomi Red Blend 750 was the number two wine SKU. Kim Crawford Sparkling Prosecco was the number four new wine brand. And the recent launches of the Prisoner Pinot Noir and Blindfold Blanc de Noir are respectively seeing early successes in priority accounts and the on-premise. Beyond product innovation, we continue to extend our growth in direct-to-consumer and three-tier e-commerce channels as well as international markets. Wine & Spirits DTC net sales grew 15% in the second quarter as our investments in these channels continue to yield strong performance. We also continue to outperform in three-tier e-commerce, delivering dollar sales growth 16 points ahead of the competition in the second quarter. Importantly, we're also outperforming in three-tier e-commerce with our beer business, which achieved a seven-point lead and dollar sales growth versus competition in the second quarter. Back to our wine and spirits business, international net sales grew 10% versus prior year, showing the continued momentum of our brands in the select international markets that we are targeting. Going forward, we will continue to focus on growing our omni-channel and international footprint, as we believe these channels will continue to grow as a portion of our mix over time and be an important opportunity for higher-end growth. Now let's move on to canopy growth. While the impairment of our canopy investment is clearly disappointing, it is not indicative of the significant long-term market opportunity that still exists for the legal cannabis market, particularly in the U.S., where the market was estimated at $25 billion at the end of 2021 and is expected to nearly double in size by 2026 as more states continue to legalize cannabis. In fact, the companies that Canopy invested in to establish its U.S. ecosystem continue to perform strongly and to scale. We also remain supportive of Canopy's efforts to restructure its Canadian operations and its plan to further drive BioSteel's growth and believe these actions will also strengthen their business and ultimately provide an opportunity to enhance the value of our holding. Before I conclude, I also wanted to take this opportunity to highlight that we expect to release our 2022 ESG Impact Report later this month. The report seeks to provide a comprehensive review of our ESG strategy and key initiatives designed to make a positive difference in our communities, safeguard our environment, and advocate for the responsible consumption of beverage alcohol. We will also, for the first time, be reporting with references aligned to the Sustainability Accounting Standards Board Framework and taking into consideration the recommendations from the Task Force on Climate-Related Financial Disclosures. We believe these planned enhancements to our reporting will be valuable steps intended to better align with stakeholder expectations on the information we provide on these important topics, reflect our company values, and better showcase our ongoing efforts to address pressing environmental and societal needs that are important to our communities, our consumers, and our employees. I invite all of our stakeholders to spend some time reviewing the report when it is released, which will be available through our company website. In closing, I'd like to reiterate our main takeaways from this quarter. Number one, consumer demand for our higher-end beer and higher-end wine and spirits products continues to be strong, and we remain confident in the long-term prospects of our portfolio and our runway for growth. Number two, our core imported brands continue to outperform the industry. Modelo Especial further strengthened its position as the number two beer in the U.S. market and continues to gain ground as the number one share gainer. And Corona Extra also maintained its momentum, delivering solid growth rates and taking the number three share gainer spot. in the beer category. This strong performance of our brands in the first half of the fiscal year now puts us on track to deliver better than expected growth for our beer business in fiscal 23. Number three, we continue to see the benefits of our wine and spirits strategy taking hold. Our largest higher-end wine and spirits brands are delivering growth, and we are also performing strongly internationally with our higher-end brands and e-commerce and DTC channels. And number four, we continue to deliver on capital allocation priorities by maintaining our investment-grade credit rating, delivering cash returns to shareholders through dividends and share buybacks, advancing the brewery capacity expansion and construction processes in our beer business to support its continued strong growth, and executing on disciplined tuck-in M&A to fill gaps in our portfolio. And with that, I would now like to turn the call over to Garth who will review our financial results in the quarter.