Ambev S.A. Q3 FY2020 Earnings Call

Good morning, and thank you for waiting. We would like to welcome everyone to Ambev's Third Quarter 2020 Results Conference Call. Today with us, we have Mr. Jean Jereissati, CEO for Ambev, and Mr. Lucas Lira, CFO and Investor Relations Officer. As a reminder, our slide presentation is available for downloading on our website, ir.ambev.com.br, as well as through the webcast link of this call. We would like to inform you that this event is being recorded and all participants will be in a listen-only mode during the company’s presentation. After Ambev’s remarks are complete, there will be a question-and-answer session. Before proceeding, let me mention that forward-looking statements are being made under the safe harbor of the Securities Litigation Reform Act of 1996. Forward-looking statements are based on the beliefs and assumptions of Ambev's management and on information currently available to the company. They involve risks, uncertainties and assumptions because they relate to future events and therefore, depend on circumstances that may or may not occur in the future. Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of Ambev, and could cause results to differ materially from those expressed in such forward-looking statements. I would also like to remind everyone that, as usual, the percentage changes that will be discussed during today's call are both organic and normalized in nature. And unless otherwise stated, percentage changes refer to comparisons with the third-quarter 2019 results. Normalized figures refer to performance measures before exceptional items, which are either income or expenses that do not occur regularly as part of Ambev's normal activities. As normalized figures are non-GAAP measures, the company discloses the consolidated profit, EPS, EBIT and EBITDA on a fully reported basis in the earnings release. Now, I'll turn the conference over to Mr. Jean Jereissati. Mr. Jereissati, you may begin your conference.

Thank you. Good morning and good afternoon. Thanks for joining our call for the third quarter. If the second quarter was marked by resilience, adaptability, and agility, Q3 was all about building momentum. The overall environment remained fluid and challenging, but the team did a fantastic job executing our plans. Thanks to them, we remain on course for our recovery plan. Before diving into the results, I just wanted to thank my team. Great people have always been the foundation and driving force of our company, and I'm very proud of all of them. The third quarter continued to be marked by the pandemic. Despite all the difficulties, our commercial strategy worked, and the V-shaped volume recovery trend that started back in May continued throughout the quarter across all of our markets. The trends by country also remain very similar to Q2. Bolivia, Panama, and the Dominican Republic continued to recover more slowly. Although the volume performance is improving gradually on a monthly basis, these countries continue to have more severe restrictions. In Argentina, the pace of the recovery was impacted mainly by the macro backdrop in the country. Paraguay, Chile, and Guatemala recovered faster thanks to market share gains, while in Canada, our volumes benefited from the strong performance of our Premium, Core Plus and Beyond Beer portfolio that led to market share gains amid a positive industry. In Brazil, what we saw was our adaptability, operational excellence, and innovation all came together during this quarter. We estimate that the majority of our volume growth came from market share gains, as our commercial strategy is gaining traction. The rest came from a combination of industry pricing calendar and tailwinds. We continued to see operational restrictions across the country, which varied between regions, with big cities and urban centers still being more affected. The good news is that the on-trade is gradually reopening, and the small mom-and-pop off-trade stores continued to gain relevance. To give a dimension, we have ended the quarter with an increase of 10% in the number of total buyers versus pre-pandemic. Also, I'd like to say that Brazil became gigantic geographically during this pandemic. As customers and consumers were less mobile, Ambev was the trusted partner to deliver volumes to the most remote areas of the country. Following all safety and health protocols, our products were delivered from Oiapoque, the most northern city in Brazil, to Chuí, the most southern city in Brazil. Just to illustrate this point, during this quarter, our fleet of trucks drove 22% more kilometers than in the third quarter of 2019. Looking more at the long-term, our strategy will continue to be built around three pillars: Ambev as an ecosystem, innovation as a mindset, and business transformation enabled by technology. Today I want to spend more time on innovation. We are making a deep transformation of our business to respond faster to customer demands and shifts in market trends. We are at the beginning of this journey to bring solutions to our clients and consumers, but I'm very happy to see that results are starting to come. We will continue to focus on consumer centricity; flexibility to create unique recipes with exclusive ingredients; a pilot testing and learning approach; the creation of an ecosystem that benefits clients, consumers, and suppliers; and the logic of creating demand ahead of supply. We have a framework for innovation, where we are betting on five growth avenues. The first one is flavors and value propositions, looking for products such as Brahma Duplo Malte, which created its own space in the market and took over the leadership in the Core Plus segment, with a regionalization approach based on an affordable local supply chain. The second is health and wellness, which we see as the biggest opportunity for the future. Last quarter, we launched Stella Gluten-free and continue to test and accelerate Michelob Ultra in different countries. The third is convenience for our consumers, with initiatives such as Ze Delivery in Brazil, Appbar in Argentina, and Colmapp in the Dominican Republic. The fourth is innovation in services for our clients. The Dominican Republic continues to expand BEES, serving as our laboratory market for the marketplace service. More than 75% of the net revenues there already come from the platform. The fifth is Beyond Beer, where we are exploring new territories in ready-to-drink wine among other beverages. As I said in a letter to all our colleagues in Ambev in June, we are rejuvenating ourselves. Our market share in the new products launched in the last three years is greater than our total market share in Brazil. This shows that innovation has been over-indexing and will continue to be a key growth driver for us. Finally, as I mentioned at the beginning, the word that defines this third quarter is momentum. We are strengthening our bonds with our ecosystem and opening new perspectives for the future. Thank you for your time and attention. I will hand over to Lucas.

Thank you, Jean. Hi everyone. After a very tough Q2, it was good to see our financial performance bounce back in Q3. EBITDA grew organically year-over-year in three of our four regions, despite everything that COVID threw our way. How EBITDA grew was also quite positive, with our four regions delivering organic topline growth. In Brazil, LAS, and Canada, topline performance was driven by consistent volume recovery. In CAC, net revenue per hectoliter performance made the difference. We delivered consolidated 12% volume growth, with improvements from all our operations since Q2. More importantly, volume recovery also translated into improvement in our financial performance. Gross margins and EBITDA margins improved sequentially since Q2 in virtually all our business divisions. Normalized profit also grew year-over-year, even though net financial expenses increased, given exceptional gains in Q3 of 2019, increased carry costs in Argentina, and the impact of tax litigation regarding the ICMS in the tax basis of the PIS and the COFINS taxes. Finally, cash flow generation nearly doubled, thanks mostly to our working capital performance and operational cash flow. This result further strengthened our solid liquidity position. Profitability, though, remains a challenge. Let me comment on the main profitability drivers by business. Brazil Beer EBITDA margin improved sequentially, mostly driven by the operating leverage resulting from our 25% volume growth, the reopening of the on-premise channel, growth of RGB Premium and Core Plus brands, and margin-accretive innovation. Year-over-year, however, performance was still negative. Channel mix remained a factor; one-way mix led to underhedged costs, primarily FX and aluminum. SG&A was impacted by a combination of a tough cost from 2019 savings, our decision to reinvest some of the savings from Q2 that made sense, given the strong volume recovery, and also our desire to invest behind our key brands as we approach the summer. NAB Brazil was also able to increase EBITDA margin; the main reason for that was an easy comp from last year's phasing of tax credit, but it's important to see the mix of single-serve improve as the on-premise gradually reopens. LAS was where margin performance continues to struggle the most. In Argentina, the combination of price controls in food and beverages and hyperinflation continue to take its toll, and on top of that, Bolivia's slower recovery of the on-premise channel was also a factor. In Canada and CAC, we were able to increase EBITDA margin this quarter year-over-year, primarily due to volume trends and improved cost efficiency in Canada, along with revenue management and disciplined execution of our SG&A savings impact. The name of the game going forward will remain continuous and consistent improvement. The pace of our profitability recovery, however, will take longer due to FX headwinds coming our way in 2021. This is a priority for the entire organization. We know what we have to do in terms of topline: continue to grow volumes, the broad recovery of the on-premise, and drive returnable glass bottles, to grow Core Plus and Premium brands, and invest behind margin-accretive innovation, both in beer and Beyond Beer. As for costs and expenses, we need to maintain our heightened financial discipline behind working and non-working money and leverage our technology investments in our supply chain and sales organizations. More broadly, COVID generated a greater level of mobilization of the team, increased visibility and it's challenging us to rethink how we run many aspects of our business: from discounts management and cost management through resource allocation and return on invested capital. We still have lots to do, but after surviving Q2 and building momentum in Q3, we're definitely up for the challenge. Time for Q&A. Thank you very much.

Hi, Lucas. I have questions here. First one, basically, surging volumes of aluminum cans this quarter put you in an unhedged position in terms of aluminum and FX, which resulted in a higher-than-expected cost increase. I just would like to understand if we can isolate the magnitude of this cost impact on your gross EBITDA margin. More specifically, what was your unhedged cost position this quarter and how much of this cost was above your hedged cost? Also, if we can connect that with your outlook amid the current constrained aluminum can and glass bottle supply environment?

With respect to the cost for Brazil Beer in the quarter, a few things we already expected. We anticipated that the FX headwind would hit us based on our hedging policy since last year, number one. Number two, we anticipated that the mix would also be a factor. As we saw in Q2, in Q3, we also saw a year-over-year increase in mix of one-way packaging, particularly cans, and that brings along with it an impact on our costs. Finally, what was unexpected was really that the weight of the growth in one-way year-over-year was greater than what we had hedged going into the year. Therefore, we faced additional costs because it was not hedged in advance. Net-net, we estimate that the impact was around 90 basis points. To give you some reference, for this additional impact, our EBITDA margin for Beer Brazil would have been 90 basis points better. And could you repeat again the second part of your question, please?

Yes. What's your outlook amid the current constraint in the aluminum can and glass bottle supply environment?

Sure. Well, number one, we're still ramping up our can plant. We launched our can plants in the state of Minas Gerais during the quarter, and it's currently ramping up. As it continues to ramp up during the next couple of weeks and months, we expect that to play a role in helping us alleviate the supply chain pressure. However, we acknowledge that the supply chain pressure overall will continue in the country. What we're doing about it is we're planning ahead, leveraging our global footprint and our global suppliers to be as prepared as possible for a summer that we anticipate will remain under pressure on the supply chain.

Got it. Very clear. Secondly, can you give us some color on how much innovation or recently launched products such as Brahma Duplo Malte were relevant for your market share gains this quarter?

Hi, Marcella, I can take this one. Innovation is really a big part of our strategy. We have been working on this for 18 months now, building the capabilities, hiring people, and redesigning the organization to have squads and innovation teams working in each growth avenue. Q3 was particularly strong, where innovation really played a very important role. We believe that the majority of our volume growth came from our commercial strategy, with a significant part of it being innovation. As you know, Brahma Duplo Malte took over the leadership in the Core Plus segment. So, the majority of our growth, more than half, came from our commercial strategy, and a big part of it is the acceleration of innovations.

That’s very helpful. Thank you, both.

Hi. Good morning, Jean. Good morning, Lucas. Thanks for taking my question. I wanted to ask about the beer performance in Brazil. Evidently, 25% growth was quite a dramatic move. I went back and I couldn't find growth above 20% since the early 2000s, so definitely a standout. But even if I look at it in absolute hectoliters at nominal levels, 20 -- almost 22 million hectoliters, it's something that typically we see in the fourth or in the first quarter, in the summer quarter. My first question would be, I understand some specific tailwinds at some exceptional levels; however, could you help us understand how much the pricing discussion also played a role in relative terms compared to what others have done in the market, and whether there's an element of anticipation of orders, if you've been eating into some of the fourth quarter volumes, if you can quantify that?

Let me start with the last one. Our pricing strategy previously has been very disciplined, but we believe we should move to a strategy that can bring more long-term value. We are being more flexible; we're playing different playbooks across countries. In Brazil, during the pandemic, we found the best moment to recover some net revenue per hectoliter in a manageable way for our customers. Even though I think the volume change wasn’t due to pricing, it was more about our commercial strategy.

Clear. So, just to clarify, so you don't think there was a meaningful element of Q4 volumes going to Q3 because there's an expectation of a price hike. Is that the right interpretation?

We monitored the level of inventory stocks in the market, and that's definitely not what happened.

Okay. And if I may just a quick one, more of a holistic question, but I wonder if a 25% growth in beer volumes doesn't move the share price, I don't know what will. I sense that there are worries about margins or questions on where the margins will land moving forward. Can you provide any guidance on how to anchor margin expectations as we think about Ambev 2021, 2022?

So we were forecasting a V-shaped recovery and were focused on strengthening the connection with our clients and renovating our portfolio. Our commercial strategy is really working. We are gaining momentum. Despite significant transactional FX headwinds, we believe we can continue to focus on volume recovery. Our core strategy, premiumization, and innovation strategies will help mitigate these short-term challenges. This Q3 was strong in terms of top line, resulting in EBITDA growth year-over-year.

As to the first part of your question, we can't comment on the share price, as market conditions dictate that. What we can focus on is our strategy that aims for consistent improvement. We survived a tough Q2 and are building good momentum in Q3.

Thank you, Jean, Lucas, and everybody. I've got three questions. The first one is circling back to the discussion on pricing. It's clear that there is flexibility in your pricing policy. However, discounts were pretty low relative to the levels that we've been seeing for several quarters now. So I'm wondering, do you think discounts can go even lower as a tool for you to play pricing with customers, or is this expected to be a one-off?

We want to follow inflation with our long-term pricing strategy while working on discount optimization and channel and packaging mix, which will support future profitability.

The second part of my question is on brand performance. You mentioned Brazil Beer in particular with some comments around international premium brands performing well and Brahma Duplo Malte as well. How did your core portfolio perform in the quarter compared to the average of the portfolio?

With respect to cash position, our strong cash flow generation this quarter has positively impacted our cash position, that is an ongoing discussion towards the end of the year. We provide a mandatory dividend of 40% of our adjusted annual net income, and our priority will be to reinvest in the growth of our business while potentially offering dividends to our shareholders.

Thank you very much. I'm wondering if you could go into a couple of specific things regarding returnable glass bottles as a part of your mix. Can you provide a sense of what their levels were in Q1, Q2, and Q3? And any color on Ze Delivery? How is that platform growing and progressing?

We saw a sequential recovery in RGB mix this quarter as our strategy targeting small RGB for in-home consumption continues to gain traction in mom-and-pop stores. In September, 300 ml RGB is already growing and gaining more traction than cans. We believe we are halfway back to where we were before, but the reopening of the on-trade and the RGB strategy should further enhance our growth. As for Ze Delivery, it's doing very well during the pandemic and has grown significantly over the last year, reaching more than 200 cities. We're seeing a great opportunity to enhance customer engagement.

I have two questions on the consumption environment in Brazil. The first is about the coronavoucher, as we see a decline from BRL 600 to BRL 200. Are these factors starting to impact your sales?

This quarter's volume performance and momentum are mostly attributed to our controllable commercial strategy, despite the coronavoucher decline and inflation.

Can you talk about your exposure to the on-trade channel and how it's developing? I believe Brazil went from 70% off-trade to slightly below 60% now in Q3. Any comments on that?

In Q3, our sales mix for Brazil Beer was 42% on-trade, including mom-and-pops, and 58% off-trade. While we are seeing progress, bars and restaurants are not operating at full capacity yet due to social distancing, so there’s still some way to go to return to pre-pandemic levels.

Your line is open. The Q&A session is closed. I would like to turn the floor over to Mr. Jean Jereissati for your closing statement. The Ambev's conference call is finished today. Have a nice day and thank you for using Chorus Call.