Mexican Economic Development Inc Q2 FY2020 Earnings Call

Good morning, and welcome, everyone, to FEMSA's Second Quarter 2020 Financial Results Conference Call. Please note that today's call is being recorded. During this conference call, management may discuss certain forward-looking statements regarding FEMSA's future performance, which should be viewed as reasonable estimates made by the company. These forward-looking statements reflect management's expectations based on currently available data. Actual results may be affected by future events and uncertainties, which could significantly impact the company's actual performance. At this time, I would like to turn the conference over to Eduardo Padilla, FEMSA's Chief Executive Officer. Please go ahead, sir.

Good morning, everyone, and welcome to FEMSA's Second Quarter 2020 Results Conference Call. As is customary, Juan Fonseca and Jorge Collazo are also on the line. And today, we're also joined by Eugenio Garza. We hope that you and your loved ones are healthy and safe. The second quarter was the most challenging period we have faced operationally in many decades, although there were differences in performance among our business units. But also, we saw a severe impact from continuing lack of consumer mobility in the geographies we serve. That translated into soft performance for most of our categories and consumer occasions. And the challenge was compounded by the lack of beer supply that only began to recover in the month of June. Our Health Division fared better as demand for its products remained high, but sales were constrained by strict restrictions imposed on consumers and their ability to move around, particularly in our key South American market. The Fuel Division was impacted most as vehicle utilization fell quickly and drastically. However, from a deeper value and in relative terms, it is the retail operation that seems to be rebounding faster. For its part, Coca-Cola FEMSA was quite resilient, leveraging execution capabilities to once again adapt to consumer needs and minimize the negative impact of the downturn. Having said all that, our team continues to execute at a high level in a very complex environment, and we continue to focus on the safety and health of our people and our customers above all else. Moving on to discuss FEMSA's consolidated quarterly numbers. Total revenue during the second quarter decreased 10.7%, while income from operations decreased 37.5%. On an organic basis, total revenues decreased 14.3% and income from operations decreased by 40.4%. For this quarter, the difference between reported and organic figures reflects 2 months of our drugstores in Ecuador, a full quarter of the AGV operation in Brazil and 45 days of the WAXIE and North American distribution platforms acquired in the United States. Net income decreased significantly, driven by: number one, lower income from operations, as I just described; number two, higher other non-operating expenses, including ancillary charges related to the extraordinary payments of almost MXN 8.8 billion agreed with the Mexican tax authority as well as impairments, including for certain assets at Coca-Cola FEMSA and the closure of our specialties operations; and number three, in terms of participation in Heineken results, which were lower relative to the comparable figure we reported last year. In terms of our consolidated net debt position, in the first quarter, it increased by approximately MXN 10 billion compared to the previous quarter, to reach a level of MXN 72 billion at the end of June. This reflects our investment of approximately $900 million in the WAXIE North American platforms as well as the majority of the large tax payments mentioned before. While we are on the target of debt, we should mention that during the quarter we placed $700 million in the second reopening of our 30-year dollar-denominated bond issuance, bringing the total amount to $2.5 billion, which was our original target. The weighted average yield for the total issuance was 3.5%, which was also our target back in September when we started with this project. And I highlight this because it took us 9 months, and we went to the market on 3 separate occasions in order to get the amount we wanted at the cost we wanted. We were very patient, and it paid off. And this is the approach and the discipline that we try to bring to our financial decisions. Moving on to discuss our operations and beginning with FEMSA's Comercio Proximity Division. We should start with our comment about store openings. While we managed to open a number of new stores during the quarter, we also have to close a small percentage of our store base due to COVID-19 restrictions and effects. Some of the closures will be temporary, but some will be permanent as we take this opportunity to remove certain marginal stores from our base. The numbers for the quarter went like this: 159 new openings; 85 reopenings after remodeling and maintenance; 24 definitive closures; and 260 temporary closures. As a result, we recorded a net reduction of 40 stores for the second quarter to reach 950 net store openings for the last 12 months. In addition to the store closures, we reduced the number of operating shifts from 3 to 2 in a large percentage of our stores as 24/7 operations is not viable or necessary given the current consumer dynamics. Also, same-store sales were down 12.4% for the second quarter, reflecting a 24.1% decline in store traffic and an increase of 15.4% in average customer ticket. Here, it is also useful to pause and discuss a little bit about what happened in the entire quarter because we did see meaningful differences as the quarter went by. During April, as you may recall, we still had relative availability of beer through most of the month as well as some panic buying for certain categories on the part of consumers. And this mitigated the glow in late April, the last month of the quarter for OXXO. During May, however, we basically depleted our beer inventories, and we saw the steepest contractions in traffic, making it the worst month of the quarter. Finally, in June, we began to recover beer availability, and we also began to observe a gradual shift in consumer dynamics. During the first part of the quarter, most of the consumer demand weakness came from mobility restrictions and lockdowns with the thirst and craving suffering from the absence of customers going about on the street and the gathering occasion reeling from social distancing. However, late in the quarter, the weakness in demand seems to be driven increasingly by economic hardship as so many consumers have lost their income, making the crisis today a bit more similar to prior downturns, but also more pronounced. Adding to the headwinds, as much as half of our stores in Mexico were under some type of operating restriction from local authorities during the quarter. Also related to the sale of alcohol in certain time windows, we expect most of the restrictions to be temporary. Moving down the income statement. For the second quarter, gross margin contracted by 10 basis points, reflecting a negative sales mix effect caused by the beer shortage in May and improved performance of our daily and replenishment categories, partially offset by a high single-digit increase of our services category. Income from operations decreased almost 66%, and operating margin contracted 620 basis points, reflecting significant operating deleverage. Moving on to FEMSA's Comercio Health Division. We reduced our store count by 7 drugstores as the amount of temporary closures was enough to offset the number of stores we opened during the quarter. Having said that, we have a total of 3,189 open units across our territories at the end of June and 128 total net new stores for the last 12 months. Revenues increased 2.4%, while on an organic basis, they decreased 9.1%. Same-store sales decreased an average of 9.8% in Mexican pesos, reflecting the negative impact of the strict mobility restrictions implemented in our South American markets, including curfews, partially offset by a solid performance in operations in Mexico. Gross margin expanded by 80 basis points in the quarter, reflecting: number one, a positive sales mix effect driven by consumer behavior shifts in connection to the pandemic; number two, more effective collaboration with key supplier partners in our operations in South America; and number three, better margin performance in our business in Ecuador, where applying Socofar's operational best practices has greatly improved results. Operating margin contracted 120 basis points, reflecting lower operating leverage in South America. As we anticipated last quarter, FEMSA Comercio's Fuel division was the most exposed to the current environment of lockdowns and reduced mobility, and the impact is visible in our quarterly results. While we were able to add 1 new net station to our network, same-station sales decreased an average of almost 50% in the second quarter. Gross margin reached 13.3%. The operating margin was 0.8% of total revenues, reflecting considerable operating deleverage. Operating expenses decreased 15% as a result of tight expense control and increased efficiencies. As a silver lining in relative terms, it seems this business is the one that is recovering more quickly in relative terms, showing sequential improvement in certain weeks, but rising from a very deep contraction. Finally, moving on briefly to Coca-Cola FEMSA. As John highlighted yesterday, the results show a resilient volume performance in Mexico, improvements in Brazil and Colombia, and continued strength in Guatemala. They made further progress in the development of digital and omnichannel initiatives in key markets and managed to deliver solid profitability in Mexico and Central America even in the context of the current pandemic. For more detail, you can listen to the webcast of the quarterly conference call. Looking ahead, uncertainty remains high, and it is hard to make predictions. However, as I mentioned before, it seems the crisis is terribly evolving. In the beginning, its main drivers were severe health concerns and the lack of consumer mobility, and this remains a problem. However, we are increasingly seeing the signs of another set of more traditional economic headwinds come into play. This is not to say that we are in a stable position, but at least we have more experience with economic downturns. As you might imagine, we continue to look for our entire business in an effort to optimize it to the changes taking place today and for those that seem to be underway. And we will continue to work hard to evolve our company to meet the moment and to come out in better shape on the other side. And with that, we can open the call for questions.

And we'll go first to Ben Theurer of Barclays.

Hope you're all safe and sound. Eduardo, Juan and Eugenio, welcome on board. So my one question would be on the more recent performance in OXXO. And you've elaborated how it went through the quarter. But if you could shed a little light on the current performance over the most recent weeks into July, where we've seen more states going into the orange phase, some of the reopenings. And if you could also share with us on the temporary store closures. How many you currently still have closed? And how do you think the reopening is going to evolve considering some of the tourist restrictions as well as office restrictions that are still in place? That would be my question.

Thank you, Ben. I want to highlight that we are making progress. In the last quarter, 50% of our operations faced restrictions, and now that number is down to 35%. There has been a slight improvement in same-store sales. While mobility is gradually increasing, it's important to note that the global mobility index in Mexico is still down about 40%. This situation affects how often people are on the move. However, we believe that individuals are starting to adjust to the new environment. Mobility is improving incrementally, including both vehicle and production mobility. A lot will depend on what happens with school systems and office openings in the coming quarter. We are optimistic as we gain a better understanding of the pandemic. I can say that the risk of contagion in our stores is very low. Our measures with staff are influenced more by the lockdowns and the lack of caution when interacting with family members. Most cases of the virus have been traced back to home environments rather than from commuting to work or shopping. While we remain hopeful, we are also feeling the effects of the ongoing economic downturn. We are adapting our offerings accordingly, but we maintain a cautiously optimistic outlook.

Our next question will come from Bob Ford of Bank of America.

In one of your opening comments, you mentioned the 24 closures that are announced. I was curious. Is it really for a wider assessment of the store base? And how do you think about the footprint right now in terms of maybe reallocating those resources to other locations or maybe just trimming in anticipation of a more traditional headwinds in terms of the slowdown in the economy?

We have experienced various restrictions on alcohol sales, curfews, and lockdowns, which have affected the operation of stores in certain commercial areas. Approximately 50% of our 19,000 stores have faced some sort of restrictions. For example, in Tamaulipas last weekend, we were prohibited from selling anything, not just alcohol, resulting in a complete store closure. Local authorities are making efforts to adapt and implement countermeasures against the pandemic, some of which are effective while others are not. We are trying to understand and support the government’s objectives without fundamentally restructuring our operations. Additionally, the lockdown has led to decreased social mobility and social distancing, severely impacting our night shifts. We have also had to close some night shifts due to a lack of consumer presence. However, we believe these challenges will be temporary, and we are doing our best to adapt.

We will now go to Miguel Tortolero of GBM.

Considering the timing of this crisis, which followed your recent investments in a couple of companies, which of those would you say have faced the most difficult start in essential direction?

We're very pleased with our partners and the companies we've acquired, which are part of the JanSan business. As you can imagine, there's been strong demand for these products. Between the two, WAXIE is more focused on JanSan, while North America has a broader platform. In fact, North America has had to sell to some hospitality customers, and I believe that sector has faced the most challenges. However, both companies have adapted remarkably to this environment, managing to protect their employees while also serving customers. We're extremely satisfied with them and believe we will build an exceptional platform with their support. We look forward to a very hopeful future.

I would add that even with Jetro Restaurant Depot, which is one of our recent investments and is closely tied to the restaurant sector, one might have anticipated a challenging period for them a few months back. While it has indeed been complicated, they have been adjusting and navigating the situation quite well, exceeding my personal expectations. This reaffirms our belief that they are a well-positioned and well-run company. They have been making better-than-expected adjustments, and I believe their customers, including smaller restaurants, are adapting to curbside delivery. As markets begin to reopen, I would say that on the restaurant depot front, we have experienced a positive surprise.

We will take a question from Marcella Recchia of Crédit Suisse.

Okay. Juan, Eduardo, I hope you are well. Just two quick questions here from my side. The first one is about G&A. I saw that basically, your G&A increased across the business divisions, so just to understand what's driving such increase. And secondly, very briefly, if you can give your impressions about the Mexican pension reform in terms of potential impacts for FEMSA.

I will address the second question, and I believe Juan can handle the first one. Regarding the pension reform, I think the situation has been challenging, but it's a positive development that we’re all working together to address it, especially given how tough the current environment is. We want to avoid a hasty solution that could negatively impact Mexico's economy. Although the measures we need to take may be difficult, I believe they are necessary. It's encouraging to see private companies and the government collaborating to address this long-term issue. Now, Juan, could you please take a shot at answering the initial question?

Yes. Marcella, so we are having some amortization of IT investments. I think on the OXXO front, they have continued to invest in their new versions of some of the software as well as developing the digital platforms across the board. We have had some closures of stores, and we've had some asset write-downs both at Coke FEMSA and at FEMSA, so I think that would be playing a part on that. Obviously, we can also follow up offline in terms of making the numbers match. But I think, off the top of our heads, those are concepts that come to mind.

And next, we will go to Gustavo Oliveira of UBS.

You mentioned that the OXXO gross margin numbers are very good, with only a slight contraction. While the beer shortage has impacted profitability, this was balanced out by the service category. In terms of recovery, do you believe there is a possibility for an expansion in your gross margin if the service category remains strong and beer sales improve? Could you provide more insight into the trend for OXXO's gross margin?

Our suppliers and we are worried about the current lack of consumer economic strength, but we are working on developing various offerings to better gauge demand. We are collaborating with our suppliers and partners to create something valuable for them and for consumers during these challenging COVID times. However, Juan, could you please provide more details about the numbers?

Sure. Regarding gross margin, historically, the primary factors contributing to its expansion have been the financial services sector and the commercial income we generate from our supplier partners. Currently, as Eduardo mentioned, a pleasant surprise has been the resilience and even accelerated growth of financial services during the downturn. Consumers have been diligent about maintaining their memberships and utilities, and they've realized it's much more convenient to use OXXO than to visit a bank, which saves them time. Although financial services had contracted or experienced slower growth in recent quarters, in the last two or three quarters, we saw growth return to the high single digits this quarter, which was an encouraging surprise and likely boosts our gross margin. The situation with commercial income is more complex because some agreements depend on transaction volumes, making predictions difficult. We need more transactions for commercial income to rise. Therefore, the outlook for gross margin isn't as clear as we would prefer. I wouldn't forecast that we'll continue to expand it beyond the usual trends at this point, but at least in the second quarter, it managed to maintain its position.

I would also add that there was probably a small increase, and the lack of beer shifted demand to other alcoholic beverages. These changes have also helped to compensate for the margin a little bit.

And that actually brings up an interesting point, Eduardo, because, obviously, you're right. Consumers did shift to higher consumption of spirits during the quarter. And interestingly, I think what the OXXO or OXXO colleagues were observing in recent weeks was that, even as the beer came back, that the volume for spirits was still holding up strong. So maybe in the effort to look for the silver lining or the glass half full, as consumers realize what the assortment and the pricing is for spirits at the OXXO stores, that this becomes a category that is stronger than historically because, historically, we haven't sold as much spirits as we are selling right now. So hopefully, this remains after the pandemic is gone.

And we'll move on to our next question, and that will be from Alan Alanis of Santander. It looks like we may have lost Alan. We'll go next to Ulises Argote.

So here, I wanted to get your thoughts a little bit on any potential product portfolio rationalization there in OXXO. And maybe if you can share any color on what you're seeing in terms of the shift in mix more recently now in July, maybe going back a little bit more to the more profitable categories that you guys have there.

Unless we believe that this lack of mobility will persist for an extended period, which we do not foresee, we need to adapt better to the reduced economic power of consumers. This may involve offering a different product assortment, potentially including more affordable items. Our returnable soft drink sales are currently not as strong as they could be. While we anticipate some shifts in the future, we don't necessarily expect changes in consumer demand for categories like thirst, breakfast, or social gatherings. Our main concern is the diminished economic power of the consumer rather than a significant change in consumption occasions.

That's perfect. And a bit more on the short-term kind of thinking now on June, July after the beer categories back end, et cetera. Do you have any color that you can share with us kind of there on the shift back, let's say, in mix?

Yes. Juan?

Yes. One thing to highlight, which Eduardo mentioned in his opening remarks, is that the quarter had some ups and downs. May was the lowest point in this trend, and we believe it will mark the bottom of this downturn. As beer sales improve, it will positively impact our operations and margins, transitioning this situation into a more typical economic downturn. We've seen improving metrics and traffic, but I want to caution that even when mobility restrictions are lifted, we may not return to normal immediately. We are observing signs of a traditional economic-driven downturn. However, we're experiencing an unusual situation with beer supply, as both our suppliers are working hard to restock shelves, and consumers are buying more beer to avoid running out again. This has resulted in positive trends, particularly in the beer category, and I expect this to continue. We'll make necessary adjustments, including potential changes in packaging and mix for key categories. We need to be attentive to how quickly and what the new normal will look like, and we will adapt our value proposition accordingly, whether that involves new SKUs or shifts in product mix. While we aren't at the end of this situation, we have a better understanding of consumer behavior now compared to a couple of months ago, and we are responding accordingly.

And we will now go back to Alan Alanis of Santander.

Let's see if this time works. I hope your families are safe. Eduardo or Juan, I mean, most of us on the sell side have a buy rating on the stock due to the luxury valuation of OXXO implied here. Now regarding this quarter's results, the question is whether this result brings the business model of OXXO into question in the long run. This is the first quarter ever that you’ve closed stores. So the specific question is, what are the expectations for store openings going forward? The second question, which we get a lot and I'm sure Juan and Eduardo do too, is why the reluctance to engage in e-commerce and invest in jobs. You've indicated that every time you mention the partnership with Amazon, the stock reacts positively. Why not invest in additional office space for distribution for e-commerce, especially considering the pandemic's impact? Lastly, the third question concerns capital deployment. There seems to be some hesitance regarding visibility in capital deployment. Eduardo, you mentioned patience and discipline, and it's clear to investors that you are very patient. However, could you elaborate on how you will reassure investors that you will remain disciplined in capital deployment, given your strong balance sheet and cash flow generation? Those will be my questions.

We are very optimistic about OXXO in the medium and long term. We have an extraordinary platform, and with the right consumer adjustments and the current lack of mobility, we believe we will get back on track. Regarding e-commerce, we are engaged in initiatives that we are not ready to disclose yet. In the asset sector, we are observing developments and need to stay prepared. Additionally, our loyalty program connects with the international platform. We are making linkages with current platforms like Amazon, and we are optimistic about these efforts. However, we still have uncertainties about home delivery, particularly for small purchases that are not groceries. Nobody is making money in that area, and companies are trying to improve their methods. If we were in the grocery business, we would definitely be providing significant home delivery services, but economically it doesn't make sense for now. We are exploring some efficient delivery tests with back stores, but there are still lessons to be learned and efficiencies to be achieved for better performance. I don’t know if Juan wants to add anything to this. Thank you.

Thank you, Eduardo. Yes, I do. I think Alan's first attempt at the question didn't quite hit the mark, but in his second attempt, he made sure to address a number of important topics. So I'll try to elaborate on some of these points. Regarding the store front, Alan, what we're witnessing is that for several years now, we've been opening more stores each year than in the previous year, peaking at around 1,350. Currently, we are taking this opportunity to evaluate a layer of stores that may be marginal in their contributions to our overall numbers. We're identifying which of these stores shouldn't remain open, basically pruning our base of a small number of underperforming stores. Overall, prior to the pandemic, we were aiming to open about 1,200 stores this year in Mexico, which is slightly lower than our peak from a couple of years ago. However, we were already transitioning into a phase where we are more selective about the expectations for our new stores to ensure their profitability and productivity. Additionally, our budget for this year included approximately 150 stores outside of Mexico. I believe we are in the early stages of a process where international markets will start to contribute more significantly to our store count. Once we gain some momentum in Colombia, Chile, and hopefully Brazil, this will evolve from being solely a Mexico-focused story to a broader continental narrative. This year, the pandemic and its effects have prompted us to begin closing some of the marginal stores. I'm also optimistic about our storefront potential in Central and Western Mexico, especially now that we have both portfolios of beers, which will create many viable locations in cities like Guadalajara, León, Querétaro, and even along the value chain in Mexico. The addition of the ABI portfolio enhances the viability of many locations, allowing us to continue opening a substantial number of stores in that region. On the e-commerce side, Eduardo mentioned the importance of leveraging the OXXO platform to help bankarize customers and encourage the adoption of new technologies and products. We have the Saldazo experience, which gives us confidence in our ability to get people to adopt new payment methods or saving techniques. However, we are cautious not to overpromise and underdeliver. We are diligently working on the three key components of our digital platform at OXXO, which includes last-mile delivery, the loyalty program, and the e-wallet. We hope to present some developments to the market by the end of the year. Lastly, regarding capital deployment, as you've observed over the years, FEMSA grows in a couple of ways. We either take our successful operations to new locations or we expand existing operations incrementally. This approach is evident in various examples, such as Jugos Del Valle, Santa Clara, or our expansion into drugstores via OXXO. Currently, we're executing our usual strategy by identifying what we do well and extending that into another country, benefiting from strong partnerships in the U.S. We acknowledge that we are introducing some complexity into our organizational structure, but we will address that by increasing transparency and reporting, particularly regarding our logistics and JanSan businesses starting in the first quarter of next year. Capital deployment, these investments, and managing any resulting complexity are top priorities for our team, and we are actively working on addressing them.

I understand. You all excel in large-scale logistics in the region. It's a challenge for investors and analysts because that logistics expertise hasn’t fully transitioned to small deliveries. As Eduardo mentioned, that's the key point. I know this may sound humble, but it's important to remember that companies like Amazon, Tesla, and Facebook began without being profitable. They expanded and scaled up. Regarding Rappi in Colombia, it’s uncertain whether they can master small delivery operations. Many investors see a significant opportunity for you. You have a strong balance sheet and vast expertise. Initially, profits may be lacking, but eventually, consumers could be willing to pay higher prices for services like Uber or PayGroup or Amazon. With FEMSA's long-term vision, many investors are curious about your strategy in utilizing your strength and expertise.

Thank you, Alan. Regarding the question about super apps and how they have evolved rapidly in other regions, we aspire to build the right platform and partnerships to become part of such ecosystems in the future. Additionally, we plan to utilize our 20,000 physical stores, which set us apart from others.

And now we'll go to Rodrigo Echagaray of Scotiabank.

Just wanted to hear your thoughts on the state of the mom-and-pop stores in Mexico. I mean, on the one hand, it's hard to imagine many will not go on there of course. And on the other hand, high unemployment may push many sort of shop in the informal economy. So any thoughts on what you're seeing on the ground would be appreciated.

I believe that the small mom-and-pop stores have been significantly affected, particularly due to the shortage of beer and cigarettes. However, we managed to maintain good inventory levels for cigarettes. These two factors have had a major impact. In addition, many traditional mom-and-pop stores have closed in areas where people live, and those that remain have struggled due to mobility issues. Nevertheless, the neighborhood stores seem to be performing well. We are also better positioned with returnable bottles and soft drinks compared to competitors like OXXO, which gives us an advantage. I am optimistic that these stores will recover, as companies like Coca-Cola and Bimbo are eager to support them in remaining competitive. Overall, although the initial downturn was tough, especially for those lacking beer, I believe the system's support will help sustain them.

Great. And just related to the last question, I guess, you have taken some stakes in certain start-ups. And I have seen that one of those whole stores have been growing quite a bit. Any insights or things that you have learned on the delivery in these stakes that you can share?

Yes. We have been working to support our suppliers with some financial assistance to enhance our value proposition. I may not be familiar with the specific one you're referring to, but Juan might have more information. We are collaborating not only with technological suppliers but also with traditional vendors, helping them to grow. For example, we successfully partnered with Caffenio, which assists with our coffee operations. We believe we can provide significant support to them. During this pandemic, we are also ensuring that small vendors are paid promptly to alleviate any cash flow issues caused by the situation. Our small-scale suppliers are essential, and we aim to invest in our strategic partners so they can scale up quickly and become a competitive advantage for us.

Yes. I think on the whole store, new store investment, I mean, certainly, we're trying to help these new ventures through our FEMSA ventures arm, but also learn about things that would help us in our own value proposition or the way that we operate. And certainly, distribution, the use of dark, dark warehouses or dark kitchens, large stores, the handling of perishables. These are all things that we would love to be better at and to know more about. And this investment, in particular, obviously, has turned out to be an interesting one. I mean, the amounts involved are not huge relative to the size of FEMSA. But certainly, it's a start-up that is doing very well. And of course, I know that you stay close to these companies and the different rounds of financing and how quickly they're growing. And this has so far been a very nice success story.

And we'll go to Álvaro García of BTG Pactual.

I have two questions. First, regarding Heineken, could you comment on whether your stance on the 15% ownership stake has changed due to the new tax agreement with the Mexican government? Second, concerning M&A, would you say that you are currently in integration mode, and that this might be a good opportunity to take a break and integrate the various assets you have acquired over the past few years? Those are my two questions.

Well, the Heineken shares, yes, it's a temporary investment. We just have to try a way to deploy that capital in a better way. It is not as optimal as it was in the past, as you are referring. But we just have to find the right time and the right path to deploy that capital and have that use of those proceeds. The second question, I forgot, Juan. I forgot the second one.

Are we ready to take a break after a lot of activity in mergers and acquisitions? I believe the answer is yes. For the most part, you can expect us to start integrating, capturing synergies, and delivering on the promise of these investments. There may be one exception. The Jan-San platform is attractive due to its growth through acquisitions and eventual integration. It's difficult to say at this point whether there will be transactions in the upcoming months and quarters, but if there are, we would be interested in exploring them. Other than that, generally speaking, our approach is to take a step back and digest what we've acquired over the last 18 months.

Yes. Álvaro, regarding the fourth platform we are considering, I believe we already have it. We do not see the need to pursue a new avenue for growth. The platforms we currently have—Proximity, Health, and now the JanSan platform—are already well-established, and we will continue to focus on these existing platforms.

And now we will take our next question from Sergio Matsumoto of Citi.

Yes. I have two questions. One is, I want to go back on the portfolio and the assortment question at OXXO. You spoke about how you can change some of the assortments given the economic slowdown. But could you explain more on the assortment changes you can make in the face of the reduced mobility and especially over the long term, if this changes the consumer habits, like if the mobility stays low for a long time? That's the first question. And the second question is in Brazil logistics, which are the biggest industries that those businesses served?

Sergio, we have enhanced our capabilities to tailor our product assortment for an economic downturn. The reduction in mobility will have different implications because our offerings were designed for people who are active and on the move. In the past, we focused on daily and replenishment categories. When it comes to groceries, consumers may struggle to purchase what they need, especially the essentials that are missing from their pantries. Throughout this pandemic, we've managed to engage consumers by providing a well-rounded assortment for pantry staples, allowing them to find what they might be lacking. By exploring more options, customers are discovering our competitive prices. If mobility continues to be an issue, we will need to broaden this category compared to others that cater to those who are on the go. However, I anticipate that this will require additional time and effort in response to the economic downturn. Juan?

Yes. It will be interesting to see if consumers start to prefer Proximity even more in traditional supermarket categories and if our assortment and pricing are attractive enough. We anticipate that some consumers may opt to use OXXO as a more frequent source for products like cooking oil or rice, beyond just restocking between supermarket trips, and we will adjust accordingly. Additionally, I previously mentioned spirits as another potential category where we hope to become more prominent in consumers' minds regarding our assortment and pricing. Regarding your question about categories for Brazil's logistics, as we shift towards the less-than-truckload business and specialized warehousing, the pharmaceutical industry fits well with our logistics capabilities, both in distribution and warehousing. The company we acquired a few months ago, AGV, has its largest category linked to health, encompassing veterinary and human health. When considering product size, weight, volume, costs, and storage conditions, this industry proves to be attractive and profitable, aligning well with our operations. We aim to continue expanding in this area. There are also other categories, such as consumer packaged goods and electronics, but health, both human and veterinary, stands out as one of the biggest, if not the biggest.

And next question will come from Carlos Laboy of HSBC.

John and Constantino spoke of a concentrate price readjustment yesterday. As the controlling shareholder and with really important rights in your equity agreement with Coke, what role is FEMSA playing in this negotiation? And what can you tell us about the long-term clarity of profit split with the brand owner? Are they adequate for you at this point?

Carlos, this agreement was signed about four years ago. We would really like to establish a more stable and certain long-term relationship model. This is crucial not just for FEMSA's controlling shareholder but also for management, as the way we compensate management needs a degree of certainty for the long run and for minority shareholders as well. The Coca-Cola Company understands this, and we need to be creative and empathetic from both sides since we are in the same situation. This is important because, in the past, we may not have been as understanding of The Coca-Cola Company's financials, and they may not have fully appreciated ours. However, through our recent discussions, we have aligned our perspectives, recognizing that we are indeed in the same boat. Given the current economic conditions and consumer behavior, it is essential that we remain synced. Our goal is to build as much alignment and certainty as possible so we can invest, develop, and effectively engage with consumers. As I mentioned, our main objectives are to achieve full alignment, as well as to establish trust and certainty in our long-term relationship.

The previous agreement lasted for ten years, and you recently completed the final payment for a negotiation that took place four years ago. Do you know the duration of the new agreement moving forward, or are we currently in the process of negotiating a long-term agreement?

No, we have this established. However, it is something that they need time for, and we cannot disclose this to you without their full awareness. But don't worry. We're very happy with it. In fact, we would love to have this kind of agreement in other places as well. We have provided certainty for the long run along with alignment, certainty, and trust.

I think Carlos, if I could, a few weeks ago in one of the group calls that you've helped us set up with investors, you asked me the question of, is it possible to have a long-term relationship with Coke where both partners realize a reasonable spread of ROIC versus WACC. And my answer was, yes, yes, yes, we can, right? I mean, yes, it is possible. And I think the point I would make right now is that this is definitely not at odds with what John and Constantino said yesterday. I mean the alignment that is always talking about the expectation that there is a formula where both partners can make the right level of returns is what we are looking at.

And now we'll take a question from Ricardo Alves of Morgan Stanley.

Most of my questions have been answered. However, I would like to delve deeper into the JanSan asset. I appreciate your earlier comments. Now, I have a more strategic question. How do you plan to unlock value from this acquisition in the long run? Juan mentioned the potential for mergers and acquisitions. As you combine the two companies, you can realize synergies and so on. What is the strategy regarding how this fits into the overall FEMSA platform? Is it that the growth profile of these assets has improved significantly, and that mergers and acquisitions will be the primary driver for future cash generation? Some additional insights on this would be helpful. Also, could I get an update on the joint venture in Brazil?

I believe we have a strong foundation for both the medium and long term. The pandemic has caused some setbacks, but in the longer term, we see opportunities for growth, particularly within our Health Division. The Proximity Division also holds promise, and we are optimistic about our performance in South America, especially with our joint venture in Brazil. Additionally, we are confident in our partnerships in the United States. We have two strong platforms, including Jetro Restaurant Depot, which has been gaining market share from competitors, showcasing its significant strengths. In the JanSan business, we feel we made sound decisions regarding our partners and the established platforms, which present integration opportunities and the potential for a broader national reach. We do not intend to pursue new avenues for growth, as we believe our current ones are sufficient; we just need to remain vigilant. While we anticipate temporary disturbances from the pandemic, we are focused on adapting and enhancing efficiencies to thrive in this new environment, and we see promising potential for growth ahead.

Yes. Following up on your comment about the JanSan platform, it’s clear that this industry is quite fragmented, lacking any significant incumbents. By combining WAXIE, we've already positioned ourselves as one of the larger players. WAXIE has a strong presence on the West Coast, while our Chicago operations extend across the Midwest to Florida. However, there is no substantial national presence. Therefore, integrating these assets effectively is a key aspiration for this business. Scale can be incredibly beneficial, and we’ve seen its advantages in many of our ventures. This situation holds the promise of similar benefits if managed correctly. You also mentioned an update about our joint venture in Brazil. The pandemic did introduce some delays in terms of store openings, but we are nearly on track with the launch of new Select stores at Raízen gas stations, as well as OXXO stores. We aim to start opening OXXO locations by the end of the year, and we’re making headway with our first distribution center there. Overall, things are progressing as planned, and the pandemic hasn’t significantly derailed our original strategy. That said, determining the appropriate value proposition for Brazilian OXXO will take time. Nonetheless, the opportunity is substantial, and our partnership gives us confidence that this will become an important pillar of our portfolio.

I believe our partnership with Cosan has been fruitful, especially in the Proximity Division, which has successfully identified the right approach for entering the Brazilian market. They are very pleased with their progress and are gaining valuable insights. In fact, they plan to implement some of the Select operations in this new model. We see significant growth opportunities and potential to refine the value propositions of both the Select and OXXO stores in the region. While this process will take time, we remain optimistic about the outcomes.

Now we go back to a follow-up from Gustavo Oliveira of UBS.

Yesterday, during the Walmex conference call, there was mention of potential risks related to the new labeling regulation rules set to take effect in October. Can you explain how these new labeling rules might affect your OXXO business, especially during the transition period as they are implemented? Additionally, how might this impact your suppliers' ability to drive sales growth?

We believe that sometimes there is too much information for the consumer, and I’ve learned that it's crucial to inform consumers so they can make better decisions regarding their health and nutrition. However, if the labeling becomes excessive, it may overwhelm consumers, causing them to ignore important information. We're unsure about our future position, but we are currently collaborating closely with our suppliers, which puts us in a good position to adapt to this new environment. We do not anticipate significant changes from major retailers. Would you like to add anything to this?

I mean just to point that, I think, on beverages, certainly, the consumer has been well informed for many years now about the calorie count and that sort of thing. And the industry has been evolving for a while, increasing the percentage of the portfolio that has reduced or no calories at all. And so I think the challenges from the relabeling involve more the costs and kind of the operational conundrums of changing labels or adjusting your packaging, that sort of thing, but not so much in terms of the incremental information that the consumer will receive. There are other categories where maybe the consumer has not been as exposed to nutritional information. And I think, for those, there will be a period of adaptation. But to Eduardo's point, I think also is it's very well positioned, and the flexibility and the level of dialogue and cooperation with suppliers leads, I think, to what should be a relatively smooth transition when this eventually becomes a fact.

During this transition, do you foresee the risk of more aggressive markdowns just to get rid of the inventory with the old labeling, or will suppliers assume the cost of that operation? I think that could impact your fourth quarter results or perhaps part of your third quarter results.

No, but I think the turnover of inventory in OXXO goes very fast. There will be some good opportunities to make more money. Yes, I think we'll probably be an alternative. I don't know if, Juan...

No, I agree with you that our inventory levels tend to be small and the turnover is fast. And I'm sure we will work with suppliers and come up with promotional activity as required. And I don't think it's something that is causing us to lose a lot of sleep at this point.

And ladies and gentlemen, that is all the time we have for questions today. I will now turn the conference back to Mr. Padilla for closing additional remarks.

Well, thank you, everyone. Thank you very much for your participation today. Stay safe, and be well.

Thanks, everyone.

Ladies and gentlemen, if you wish to replay the webcast for this call, you may do so at FEMSA's Investor Relations website. This concludes our conference for today. Thank you for your participation, and have a nice day. All parties may now disconnect.