Molson Coors Brewing Company

2016 Third Quarter Earnings Conference Call

November 1, 2016

Speakers:

1) Mark Hunter, President and Chief Executive Officer

2) Mauricio Restrepo, Chief Financial Officer

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[Operator:]

Welcome to the Molson Coors Brewing Company 3rd quarter 2016 Earnings Conference Call. Before we begin, I will paraphrase the company’s Safe Harbor language. Some of the discussion today may include "forward-looking statements." Actual results could differ materially from what the company projects today, so please refer to its most recent 10-K and 10-Q filings for a more complete description of factors that could affect these projections. The company does not undertake to publicly update forward-looking statements, whether as a result of new information, future events, or otherwise. You should not place undue reliance on forward-looking statements, which speak only as of the date they are made.

Regarding any non-U.S. GAAP measures that may be discussed during the call and from time to time by the Company’s executives in discussing the company’s performance, please visit the company’s website – www.molsoncoors.com – and click on the financial reporting tab of the investor relations page for a reconciliation of these measures to the nearest U.S. GAAP results. Also, unless otherwise indicated, all financial results the company discusses are versus the comparable prior-year period and in U.S. Dollars. Now, I would like to turn the call over to Mark Hunter, President and CEO of Molson Coors

[Mark Hunter:]

Thank you Chad. Hello, and welcome everybody to the Molson Coors earnings call....

Thanks for joining us today.

With me on the call this morning from Molson Coors, we have:

  • Mauricio Restrepo, Global CFO
  • Gavin Hattersley, CEO of the USA business
  • Fred Landtmeters, CEO of Canada,
  • Simon Cox, CEO of Europe,
  • Stewart Glendinning, CEO of International
  • Sam Walker, Global Chief Legal Officer, and…
  • Dave Dunnewald, VP of Investor Relations

Today, Mauricio and I will split our call into two parts. First, we will take you through our 3rd quarter 2016 results to, in essence, close out Molson Coors Brewing Company as it has been structured for the past several years. Then, we’ll turn our attention to our recently completed MillerCoors transaction and three new or updated financial reporting metrics, along with some perspective for the 4th quarter of this year.

In the 3rd quarter, we continued to focus on our First Choice ambition and on building a stronger, broader and more premium brand portfolio, underpinned by incremental sales and marketing investment, as we have discussed all year. Business highlights for the quarter and year to date included:

  • Increased net sales revenue per hectoliter on a constant currency basis in all of our businesses for the quarter and year to date,
  • Increased investments in our brands globally,
  • Coors Light and Miller Lite again gained share in the U.S. premium light segment for the quarter, including the highest segment share gain in three years for Coors Light.
  • 1.2% global volume growth for Coors Light year to date, with growth of more than 14% outside North America,
  • Fast-growing innovations in key markets, including Henry’s in the U.S. and Mad Jack in Canada, and…
  • Global growth year-to-date in Above Premium through, for example:
  • Doom Bar and other Sharp’s craft brands in the U.K.; Creemore Springs and Belgian Moon in Canada; and our four newly acquired brewers in the U.S.
  • Strong growth by Staropramen across Europe outside of its home market and
  • Cider volume increases with Rekorderlig in Europe and Strongbow in Canada, and…

Overall, we continued to strengthen our business through improvements to our sales execution and revenue management capabilities, increased efficiency of our operations, and implementation of common global systems.

Regional highlights for the 3rd quarter and year to date are as follows...

In the U.S. overall sales-to-retail volume decreased 4% for the quarter and 2.5% year to date on a trading-day-adjusted basis, driven primarily by our below premium and premium light brands. Coors Light and Miller Lite again gained segment market share, but STRs declined, reflecting industry trends. Coors Banquet continued to grow STR volume and segment share. In the highermargin Above Premium segment, Henry’s continues to be the No. 1 Hard Soda franchise. Also, our Saint Archer, Terrapin, Hop Valley and Revolver businesses have significantly expanded our craft offering for consumers and customers. Domestic net sales revenue per hectoliter grew 1.6% for the quarter and 1.2% year to date as a result of favorable net pricing and positive sales mix. On the bottom line, U.S. segment underlying equity income increased 9% in the 3rd quarter, driven primarily by lower cost of goods sold, higher net pricing and positive sales mix. Year-to-date underlying equity income increased 9.3%, primarily due to the factors mentioned above, as well as a $12.3 million anticipated refund of federal excise tax paid on imports, which we discussed on our last earnings call.

In Canada, net sales per hectoliter in local currency increased 0.6%, driven by growth in our abovepremium brands. This NSR increase reflected headline price increases and positive brand mix -- but with higher levels of spendback as we ensured that our brands were competitive on a market-bymarket basis. Our performance in the above-premium segment continued to be strong, as we saw growth in both our owned brands and our partner brands. Coors Banquet, Mad Jack and Belgian Moon all continued to deliver strong growth, and our craft brands continued to grow share of the total beer category. The mainstream segment continued to face market pressure, but our brand health scores for Coors Light and Molson Canadian have continued to improve month-over-month, and our sales execution input measures are similarly improving. Our COGS/HL increased 3.5% in local currency, with most of the increase being driven by volume deleverage and mix shift to higher-cost products. Our cost savings program continued to be strong and fully offset the impacts of inflation and other cost increases in the quarter. On the bottom line, underlying pretax income declined by $15.9 million in the 3rd quarter, driven by lower volume, increased COGS, higher marketing investments, and foreign exchange impacts of U.S. Dollar-based supplier contracts

Europe net sales decreased 0.6% in local currency for the 3rd quarter, driven by 1.4% lower volume due to weaker demand versus strong sales last year across much of the region, along with some trade inventory overhang from the Euro 2016 football championships in the 2nd quarter this year. Nonetheless, we held our share position in the region, and our continued portfolio 3 premiumisation and mix management drove a 1.2% increase in net sales revenue per hectolitre in local currency. In the quarter, we achieved strong growth by Coors Light, Staropramen outside Czech and our craft portfolios -- including Blue Moon, Doom Bar and the other Sharp’s brands -- as well as Rekorderlig cider. Underlying pretax income was lower in the quarter due to higher brand amortization expenses, lower net pension benefit and unfavorable foreign currency movements, especially related to the depreciation of the British Pound. Year-to-date, the benefit of higher net sales and NSR per hectolitre in local currency, volume and market share in Europe were more than offset by unfavourable foreign currency movements, higher brand amortisation expenses, lower pension benefit, and the termination of the Heineken contract brewing arrangement in the U.K.

Our International business continues to drive Coors Light momentum with year-to-date volume for this brand up mid-single digits, led by growth in Latin America and Australia. Excluding the impacts of total alcohol prohibition in Bihar, India, and the transfer of the Staropramen U.K. business to our Europe segment, our year-to-date underlying pretax performance has significantly improved versus last year, driven by volume growth in the remaining International markets.

Now, I'll turn it over to Mauricio to give 3rd quarter financial highlights and new performance metrics. Mauricio....

[Mauricio Restrepo]

...Thank you, Mark, and hello everybody....

As a reminder, all of the results I will be discussing are in U.S. dollars, unless otherwise noted. Our 3rd quarter and year-to-date financial headlines are as follows:

  • Net sales were down approximately 7% in U.S. dollars in the 3rd quarter and about 5% year to date, primarily due to currency movements, especially in Europe, as well as lower worldwide volume. On a constant-currency basis, net sales decreased 2.2% in the 3rd quarter and were virtually unchanged year to date versus the same periods last year.
  • Our net sales per hectoliter in constant currency increased 1.3% in the quarter and 0.9% year to date, due to positive mix.
  • On a U.S. GAAP basis, we reported 3rd quarter after-tax income from continuing operations attributable to Molson Coors of $202.5 million, up from $13.7 million a year ago. This increase was primarily driven by cycling $275.0 million of impairment charges recorded for certain Europe brands last year. On a year-to-date basis, U.S. GAAP after-tax income increased 67.5% to $539.8 million, driven by brand impairment charges last year and a gain on the sale of our Vancouver brewery earlier this year.
  • Third quarter underlying after-tax income decreased 14.3% to $222.7 million, or $1.03 per diluted share, driven by lower worldwide volume, a higher underlying tax rate, and higher brand investments globally, which were partially offset by positive mix and higher underlying U.S. equity income. Year-to-date underlying after-tax income decreased 5.5% to $576.4 million, driven by the same factors as in the quarter, along with negative foreign currency movements.
  • Underlying pretax income declined 6.2% for the 3 rd quarter and 1.3% year to date.
  • Underlying EBITDA in the quarter was $403.1 million, 4.1% lower than a year ago, and our year-to-date underlying EBITDA declined 0.8%.
  • Underlying free cash flow in the first three quarters of 2016 was $469.4 million. This represents a decrease of $24.9 million from the prior year, primarily driven by lower underlying after-tax income and lower distributions from MillerCoors.

Total debt at the end of the 3rd quarter was $9.9 billion. Cash and cash equivalents totaled slightly less than $10 billion, resulting in a net cash position of $94 million, as we prepared to close the MillerCoors transaction on October 11.

Please see the earnings release we distributed earlier this morning for a detailed review of our business unit financial results in the quarter. Also, please see the Investor Relations page of our website this morning for updated 2015 full-year and 2016 year-to-date pro forma financial statements that reflect our preliminary purchase accounting for the transaction.

[pause]

Looking forward to the remainder of 2016, following are some financial factors to consider for the 4th quarter:

  • Our Europe business results will continue to reflect lower net pension benefit.
  • Total alcohol prohibition in Bihar has presented a headwind in our International business since its enactment in April this year, and we will continue to address this within our business.
  • And, finally, foreign currency translation, which at current exchange rates would be a headwind of approximately $8 million to our underlying pretax results in the 4th quarter this year, with all of the impact in Europe. Given the volatility of our key foreign currencies – particularly the British Pound – it is important to watch these rates closely.

Regarding 2016 guidance, all of the following metrics exclude any effects of the MillerCoors and Miller global brands transaction. For the full year, we continue to expect:

  • Cash contributions to our defined benefit pension plans to be in the range of $45 to $65 million in 2016, and pension expense of approximately $17 million, including our 42% of MillerCoors contributions and expense.
  • Underlying capital spending of approximately $220 million, which excludes capital this year related to the construction of our new brewery in British Columbia, which we expect to be largely funded by the proceeds from the sale of our Vancouver brewery earlier this year.
  • MG&A expense in Corporate of approximately $120 million on an underlying basis, which excludes expenses related to the MillerCoors transaction.
  • Consolidated net interest expense of approximately $110 million on an underlying basis, which excludes transaction-related interest expense and income.
  • An underlying effective tax rate in the range of 18 to 22%, assuming no further changes in tax laws, settlement of tax audits, excess tax deductions for share-based compensation, or adjustments to our uncertain tax positions.

As far as our cost outlook is concerned we continue to expect …

  • Full-year 2016 cost of goods sold per hectoliter in Canada and Europe to increase at a lowsingle-digit rate in local currency, and...
  • We expect a low-single-digit decrease in MillerCoors and to a double-digit increase in International versus prior year.

As we first mentioned several months ago, with the completion of the MillerCoors transaction, we are no longer providing the most recent volume trends for each of our businesses.

Earlier this year, we told you that we would share more specifics regarding three new performance metrics with you once the transaction closed. These metrics are transaction adjusted EPS; an all-in, multi-year cost savings target; and an early view of our combined-company underlying free cash flow target for 2017.

Taking these in order, transaction-adjusted EPS is a new non-GAAP performance measure we are introducing to provide enhanced visibility to the performance and value of our company posttransaction. To calculate this measure, we start with underlying book EPS, a non-GAAP measure, and then add back after-tax book amortization that is directly related to the transaction, and we then add the transaction-related cash-tax benefits. Based on our latest pro forma financial statements, which we will post on our website this morning, our 2015 pro forma transaction-adjusted EPS was $6.11 per diluted share on an underlying basis. This calculation includes transaction-related after-tax book amortization of approximately $42 million and cash-tax benefits of $275 million per year, but it does not include any pretax income related to the Miller Global brands, nor any benefit from deal synergies. Because the routes to market and supply chain structures for many of the Miller Global brand markets are still being developed, the cost and margin structures for these businesses are also work in progress. As a result, we have decided to exclude the Miller Global brands from our pro forma results for periods prior to the close of the transaction. For the first three quarters of 2016, pro forma transaction-adjusted EPS was $5.43 per diluted share, an increase of 4.0% versus $5.22 per diluted share for the first three quarters of 2015.

Second, in cost savings over the next three years, we have set an all-in target of $550 million, which will be made up of ongoing cost savings in all of our businesses, as well as transactionrelated synergies – all of which will be delivered by the third full year of our combined company, which is 2019. Approximately half of this three-year cost savings target is synergies, which represent a synergy goal that is nearly 40% larger and 25% faster than the original $200 million synergies target over four years that we shared with you when we announced the transaction nearly a year ago. We expect the synergies delivery to be weighted toward years Two and Three, while the other cost savings will be weighted toward years One and Two of the program. As we have been discussing for the past year, we expect these cost savings to come primarily from the areas of global procurement and shared services, along with North American supply chain, so they will primarily benefit the cost of goods sold line. As part of the planning process for the past year, we have also identified a moderate amount of savings from information systems. Please note that we do not plan to provide additional specifics regarding annual phasing of the cost savings or a detailed breakout of transaction-related synergies versus other cost savings.

Related to this cost savings goal, we anticipate incurring approximately $350 million of one-time incremental cash costs over three years to capture synergies, about evenly split between incremental capital spending and cash operating expense, primarily in the first two years of the program. Note that the incremental CapEx would be on top of our recent all-in CapEx run rate of approximately 6 $650 to $700 million, plus or minus 10%, including 100% of MillerCoors CapEx in recent years. With a base CapEx spend of approximately $2.1 billion over the past 3 years, the CapEx needed to capture synergies represents an increment of less than 10% to our current run rate. We will continue to apply our PACC model to these and all other significant potential capital and cash deployment decisions to help ensure that they are aligned with our priorities. Finally, as always, when these cost savings initiatives are completed in three years, we will continue to pursue cost reductions across our business in order to provide resources to help drive our top line, bottom line and shareholder value.

Finally, to help you model our business, we also want to share our preliminary underlying free cash flow target for 2017, which is $1.1 billion, plus or minus 10%. Note that this target includes the impact of incremental interest expense, U.S. tax expense, and synergies-related CapEx in 2017, as well as the cash tax benefits resulting from the transaction.

As in the past, we plan to report back to you each year regarding how we are performing against these targets.

[pause]

At this point, I'll turn it back over to Mark for highlights of the transaction, business outlook and Q&A. Mark....

[Mark Hunter:]

... Thanks, Mauricio.

This is a historic time in the evolution of Molson Coors. Three weeks ago, we completed our acquisition of the remaining 58% stake in the MillerCoors’ joint venture, along with the Miller global brand portfolio. We emerge as the world’s third-largest brewer, bringing together Molson Coors and MillerCoors into a bigger, better organization. As one company with an expanded portfolio of iconic brands, we intend to leverage our increased scale, resources, synergies and combined commercial experience to accelerate our First Choice agenda and deliver long-term shareholder value.

Because of this game-changing transaction, Molson Coors now controls 100% of the highly strategic and attractive U.S. business, and we will accelerate new growth opportunities in emerging and developed beer markets globally through the Miller brand rights. This transaction also improves our operating efficiency and go-to-market strategy by step-changing our commercial capability on a truly global scale. Financially, this is a compelling combination based on a very attractive price, planned operational synergies, substantial cash tax benefits, and the attractive financing package that we put in place earlier this year.

As a reminder, for $12 billion of cash, we have purchased:

  1. The remaining 58% of the MillerCoors joint venture that we didn’t already own,
  2. Full ownership of the Miller brands, which outside of the U.S. will be managed in more than 50 countries by our Molson Coors International, Molson Coors Canada and Molson Coors Europe businesses.
  3. Perpetual, royalty-free U.S. licenses for the existing SABMiller import and licensed brands – including Peroni, Pilsner Urquell, Foster’s, Grolsch and Redd’s – for which MillerCoors most recently paid royalties of approximately $16 million in 2015, and…
  4. Finally, because this is an asset transaction for U.S. tax purposes, we will receive immediate cash tax benefits that we now estimate will exceed $275 million annually for the next 15 7 years. This represents an increase from our previous estimate of “more than $250 million” per year, due to the detailed tax diligence work that we have completed during the past year.

The purchase price implies a headline enterprise value multiple of 11.5 times 2015 combined underlying EBITDA, but including the present value of the cash tax benefits, the purchase multiple drops to an effective 9.2 times. These tax benefits are common with this type of asset transaction, and they carry a high degree of certainty. As such, we believe this is the most appropriate way to value this combination. This represents a very attractive purchase multiple, even though it does not include the anticipated benefit of our transaction-related synergies.

We expect this combination to be accretive to underlying diluted EPS and transaction-adjusted EPS in the first full year of operations before synergies, and we expect it to meet our PACC hurdle rates in Year 1, which is consistent with our disciplined use-of-cash framework.

[pause]

Now, looking forward as a combined company, our teams are focused on driving our First Choice agenda, finishing the year with strong performance in each of our businesses, and hitting the ground running on integration. You have heard us speak about these themes in the past, but each of our businesses will continue to focus on transforming our portfolio to the above premium segment, introducing value-driving innovation, integrating the Miller brands, and lifting and shifting best practices and talent across our global organization.

To provide just a few examples by business:

In the U.S., Tenth and Blake will focus on the development and integration of these new craft partners -- Saint Archer, Terrapin, Hop Valley and Revolver. In FMBs, Henry's will add a new Hard Grape flavor to its line of Hard Sodas while introducing a new line of Hard Sparkling waters to play in the growing alcohol sparkling water category. Henry’s Hard Sparkling will be launched nationally in March with Lemon Lime and Passion Fruit flavors. Redd’s and Blue Moon Belgian White will introduce new Aluminum Pint packaging in the second quarter of 2017. Over the past few months, we've built a strategy that elevates value across our economy portfolio. For example, Miller High Life recently announced plans to reintroduce new advertising creative that brings back its classic jingle, “If You’ve Got the Time, We’ve Got the Beer,” while also revamping its packaging to further play up its unique heritage. Elsewhere across the economy portfolio, Hamm’s will be reintroduced nationally at an opening price point, and Milwaukee’s Best is getting a total packaging update to give it a fresh new look. And beginning early in 2017, we will fully revamp Keystone Light, including all-new packaging and advertising. For innovation in the value category, we are introducing Spiked Watermelon to the Steel Reserve brand family, and we are increasing the size of our PET bottle singles from 40 ounces to 42 ounces – for the same price, again to deliver value to our consumers and customers.

In Canada, our team is integrating the Miller brands back into our portfolio, and we will double down on above-premium MGD. We are also assessing the opportunities for Miller High Life and other U.S. brands that we can lift and shift to the Canada market. Mad Jack is performing well in the FMB space, and we will consider other innovative options that will drive value for our Canada consumers and customers.

In Europe, we now have the Miller brands in the U.K. and Ireland, and this business is also preparing to begin managing the International license and export business in the region starting on January 1. This will allow us to drive Staropramen, Carling, and other lead brands with fully 8 aligned strategies across Europe. We will also continue to build out our craft portfolio, including further expansion of Blue Moon across the region.

Our International business is well on its way to full integration of the Miller Global brands into our portfolio, and we are leveraging a new footprint that complements our growth strategy in emerging markets. For example, in Panama and Honduras, where our partners have already embraced Coors Light, we are ready to accelerate growth with the addition of the Miller brands. The International team has also begun the planning process for transitioning Puerto Rico over from MillerCoors on January 1. Going forward, the Coors and Miller brands will be the priority brands for our International business.

[pause]

To summarize, we are delighted to have completed the MillerCoors transaction, a compelling strategic and financial opportunity for our company and our shareholders that catapults Molson Coors to the next level. This combination fits into our key priorities in three specific areas:

  • First, in brand-led growth, the cash tax benefits and cost savings made possible by this transaction will provide resources that we can invest in accelerating the transformation at the front end of our business through:
    • Investing behind our core brands across all of our geographies
    • Premiumising our portfolio and engaging with consumers in new ways, including cross-border exchange of category-changing innovation,
    • Expanding the depth and reach of our international brands in fast growing markets, including securing a certain and aligned future for the Miller brands globally, and….
    • Leveraging our shared commercial excellence capability through extraordinary brand-building, world-class insights, digital leadership and unrivalled customer excellence.
  • Second, this transformation of our company offers unique opportunities for us to drive cash generation through substantial tax benefits, cost synergies, cross-border working capital improvements and disciplined use of our PACC model across the combined company. We expect all of these benefits to provide strong free cash flow and allow us to quickly pay down the acquisition debt and maintain our commitment to investment-grade debt ratings.
  • Third, this transaction represents a prudent, high-return use of cash for Molson Coors and our shareholders. We are using this transaction not only to make Molson Coors a bigger company – but also a better company – without the integration complexity normally found in a deal of this size. As we focus on deleveraging our balance sheet over the next two to three years, we have suspended our share repurchase program and have announced that we plan to maintain our current dividend per share level. We will revisit our dividend policy once deleveraging is well underway
  • Overall, this combination is a game-changer in our ambition to become First Choice for Consumers and Customers, and it is highly consistent with our goals and our focus on building extraordinary brands, delivering innovation, and driving significant value to shareholders.

Now, before we start the Q&A portion of the call, a quick comment:

As usual, our prepared remarks will be on our website for your reference within a couple of hours this afternoon. Also, at 1 p.m. Eastern Time today, Dave Dunnewald will host a follow-up conference call, which is an opportunity for you to ask additional questions regarding our quarterly results. This call will also be available for you to hear via web cast on our website.

So, at this point ______, we would like to open it up for questions, please….

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