Earnings Call Transcript - KOF Q1 2021

Operator, Operator

Good morning, everyone, and welcome to the Coca-Cola FEMSA First Quarter 2021 Conference Call. As a reminder, today's conference is being recorded, and all participants are in a listen-only mode. At the request of the company, we will open the conference for question-and-answer after the presentation. During the conference call, management may discuss certain forward-looking statements concerning Coca-Cola FEMSA's future performance and should be considered good faith estimates made by the company. These forward-looking statements reflect management's expectations and are based upon currently available data. Actual results are subject to future events and uncertainties, which can materially impact the company's actual performance.

John Santa Maria, CEO

Thank you, and good morning, everyone. Thank you for joining us today to discuss our first quarter 2021 results. With me are Constantino Spas, our Chief Financial Officer; Matias Molina, Strategic Planning Director; and Jorge Collazo, Head of Investor Relations. Let me begin by saying that I am encouraged by our first quarter results. The overall trends that we saw during the quarter provide promising signs of gradual recovery for the coming quarters. As we navigate what is still a very dynamic environment, marked by an increase in COVID-19-related lockdowns that mainly affected our performance during January, our mitigation actions and the passion of our team to serve our consumers enabled us to deliver the second consecutive quarter of consolidated volume growth since the start of the pandemic. Once again, despite significant currency headwinds, our ability to adapt to complex operating environments and drive efficiencies across the entire organization enabled us to protect our profitability, leading to a consolidated operating margin expansion of 60 basis points. While 2020 was a year of resiliency and transformation for Coca-Cola FEMSA, we aim to make 2021 a year capitalizing on opportunities across all of our strategic fronts. On today's call, I will briefly review our first quarter results, expanding on trends and our performance across key markets. Then I will hand the call over to Constantino, who will guide you through each division's results and expound on raw material trends, hedging strategies and initiatives that we are implementing to ensure our solid cash flow generation and disciplined approach to capital allocation, including dividends and CapEx. Reviewing our results. Consolidated volumes increased 0.9% versus the first quarter of 2020. Notably, this also marked a 0.6% increase versus our volume for the first quarter of 2019. This increase was driven mainly by volume growth in Brazil, coupled with double-digit growth in Guatemala and Argentina, as well as significant sequential recoveries in Colombia, Costa Rica and Nicaragua, which achieved positive year-over-year volume growth. As we better manage lockdowns and their effects on consumer demand, we continue to see improvements across beverage categories in most of our territories. The performance of our sparkling beverage category continued to accelerate and outperform our consolidated volumes.

Constantino Spas, CFO

Thank you, John, and thank you all for joining us on today's earnings call. And I will now expand on our division's first quarter highlights. In Mexico, our top line remained flat driven mainly by a 2.7 volume decline, as pandemic-related lockdowns were still impacting this market, as John previously described. These factors were offset by average price increases, resulting from headline pricing and our revenue management initiatives. Our ongoing cost and expense management initiatives continue to drive efficiencies and savings, helping us to expand our operating margin. We believe that many of these savings are sustainable and will help us to continue protecting our margins in this market during 2021.

John Santa Maria, CEO

Thank you, Constantino. Our company has undertaken profound transformation over the past years, renewing its purpose, culture and strategy. We are confident that we have the right talent, capabilities and initiatives to deliver long-term growth and shareholder value. Although the overall operating environment remains very dynamic, we are encouraged by the overall trends and strategies that we will be continuing to roll out in the upcoming quarters. Once again, our top priority is to protect our employees, ensuring a safe work environment while supporting our clients and communities. Additionally, we are especially encouraged that all of our territories delivered volume growth in March, and we are seeing consolidated double-digit growth in April. This positive trend reinforces our confidence that we are on the right track to continue our business recovery. Thank you for your continued trust and support. Operator, I would like to open up the call for questions.

Operator, Operator

Thank you. Our first question comes from Isabella Simonato with Bank of America.

Isabella Simonato, Analyst

Hi, good morning everyone. Thank you for the call and the questions. And my question is more related to the mix, right, we saw that affected top-line dynamics pretty much across the board, and most importantly, in South America. I'm wondering how you're seeing the evolution of it considering that in terms of the rollout of acclimation, things are relatively slow. How can we think about the mix of channels and the mix of presentations throughout the year? And in that sense, what's the pricing strategy to offset the cost pressure? I understand you are relatively well-hedged in the main commodities where I understand that given the currency and the real in commodities, in general, you will face cost pressure not only this year but also in 2022. So how you're seeing pricing and actually real price increases to consumers to improve profitability? Thank you.

John Santa Maria, CEO

Hi, Isabella, it's John. I think in terms of the package mix, it's storytelling. What we've been seeing during the quarter is growth in our multi-serve one way packages. And we've also seen significant growth in our multi-serve returnable packages. Single serves, both nonreturnable and returnable packages have been improving month-after-month from double-digit declines to very low single-digit declines in the multi-serve and pardon me, in single-serve one way packages and mid single-digit range in the single-serve returnable packages, which is just a reflection of the continuing reopening of our client base. As of today, and when we look back to last year, our client base is probably only 1% less than what we had last year. So it basically shows a tremendous development of how all our customers have been reopening and how the pandemic has been iterating over time. If we think about the mix going forward or looking back, we still have about four to five points of incremental single-serve mix that we should see coming through both Mexico and Brazil as we go forward as these channels continue to open. And in terms of pricing, we've always been thinking, and we always have established pricing in line with inflation. So we have been taking those prices in Mexico. Mexico just took a price increase during the beginning part of April, late part of March, and we continue to see volumes recover in Mexico as well. So we continue to see encouraging signs of channel recovery on the on-premise channel, single-serve recovery on our package mix, which is our most profitable package, and also continued growth in our average pack size price. So the mix going forward should be very significant in terms of the improvement we see. Constantino, I don't know if you'd like to add something.

Constantino Spas, CFO

No. I would add that on top of all that, we are continuing to rely much more on our end-to-end analytics platform that allows us to, on top of headline pricing and the price back architecture that John just mentioned, also continue to optimize discounts and promotions. In that case, that's very relevant as the consumer behavior is changing every day given the impacts of the pandemic. So we need to continue to rely on our analytics pace in order to be more efficient in the deployment of discounts and promotions, and that evidently translates into pricing also.

Isabella Simonato, Analyst

No, that's very clear. But just a quick follow-up, but I mean, when we think about even the prices in line with inflation and the mix picking up, is that enough to pass through the cost pressure across the board, especially when Coca-Cola is also increasing concentrate prices? Overall, do you think margins can, this year and especially in South America, be similar or even higher than what we saw last year?

Constantino Spas, CFO

In the case of South America – I mean, let's understand one thing. The main headwind during the quarter was a very tough comparison versus the first quarter of 2020. That included a tax benefit of approximately MXN455 million. That's significant, right? Coupled with the unfavorable currency translation and price/mix effects that we just expanded on. I think that we're optimistic to your question about the outlook that we're able to protect the profitability for the year. If we exclude the extraordinary effects, we have hedged our main raw materials to protect those margins. Currently, we're hedging most of our sugar needs, at prices that are around 12% below what we paid in 2020. And in currency terms, we have hedged approximately 27% of our needs at around R$5.4 per dollar. If you add to that, the effect of the beer transition, that should be less than 50 basis points at the consolidated level than we initially guided for the year, I think that we are very well positioned to protect our margins in the case of Brazil. And also, if you look at Mexico – first of all, raw material hedging strategies, I think, have been quite successful. Despite the increasing oil prices, our PET needs are fully hedged at a very attractive price that is even lower than what we paid in 2020. In addition, our teams have done an impressive job in implementing cost and expense efficiencies, mainly in maintenance, marketing and freight costs. And we believe that, that a significant part of these efficiencies are sustainable for the future. If you look at PET and aluminum, we're hedged at prices that are around 5% to 10% below what we paid in 2020. And if you couple that with what John expanded on pricing in Mexico, slightly above inflation, considering all the discounts and promotional efficiencies that I mentioned, and in line with inflation in South America, I think we're confident that we're capable of protecting the profitability during the year. I don't know if that adds some more color to your concern, but I think that we're pretty confident that we're capable of protecting the profitability.

Isabella Simonato, Analyst

Sure. No, that’s super helpful. Thank you very much.

Operator, Operator

Thank you. Our next question comes from Carlos Laboy with HSBC.

Carlos Laboy, Analyst

Yes, thank you. Good morning, everyone. John and Constantino, could you please expand on the adoption of your B2B platforms in Mexico and Brazil and also maybe shed some more light into where your stage – what stage of development you're at in terms of your digital capabilities in Colombia?

John Santa Maria, CEO

Constantino, do you want to take the first one?

Constantino Spas, CFO

I think you're very, very passionate about it. But yes, sure. I mean that's – I'll start, and then I'll let John complement on some aspects of it. If we look at it from a digital initiative perspective overall, let me give you some interesting highlights. I think, first of all, we're working very hard on the pure digital player front, right? And we're growing triple-digits versus the previous year, for example, in Mexico. And these include all the pure players, Amazons, the brick and click like Walmart, the aggregators like Corner Shop, and the food service aggregators like Rappi and Uber Eats, right? So on that front, we're growing triple-digits. We're very focused on continuing to develop this channel, which is a reality and a channel where we need to continue to improve and get more sophisticated in the way we handle the channel. And that is something that has been rolled out in all of our markets, particularly Mexico, Brazil and Colombia, to your question. On the other hand, in our trade omnichannel capability, we've been implementing what software business as a contactless selling method, as you all know. In the case of our chat bot-enabled WhatsApp platform, it's currently serving more than 300,000 customers, of which 220,000 customers are in Brazil and growing very rapidly, 80,000 in Mexico, with a very ambitious plan to grow to 150,000 customers in Mexico very, very quickly. We have been managing over 15,000 orders daily, which is equivalent to 200 free sellers in terms of order entry. So today, that is about the size of a very relevant region in terms of preseller, when you compare the amount of orders that we're experiencing through platforms. And during the pandemic, we have also improved the value offer by adding options and expanding the time window to place an order for customers, whether B2B, web and app developments. And on the other hand, it's not only about WhatsApp. There are some customers that continue to rely on URLs. Our platform that's called Juntos is a real-time customer development relationship portal where we have price, promotions, segmentation capabilities. And that has been rolled out in basically most of our markets with a couple of exceptions such as Nicaragua and other markets in Central America, but we will eventually roll that out. And then we have also sped up the development of our omnichannel platform as a response of the pandemic combining trade and at-home solutions to capture the full value of the market. On the home delivery front, Carlos, we've also been, as John mentioned in his initial remarks, expanding our home delivery channels in Mexico. And a key element of that expansion in the, I'll say, improved performance is also the digitalization of the home delivery routes, which is another element that's very significant in terms of our technological developments. And all of these developments, as we have mentioned before, sometimes we test them in one lead market, but at the same time, those tests inform the deployments in other markets. So far, Brazil has been on the cutting edge of that. But it is not only limited to Brazil. So let me give you an example of something that we are implementing in Brazil that we started testing in Colombia, which is a promotional push capabilities through WhatsApp. We have been able to test that in Colombia and has going to be extremely successful. And now we're enhancing once more our most advanced digital platform in the company, which is the Brazilian WhatsApp deployment. So as you can see, we're working in a synergistic way across our markets. And the intent is to continue to roll out in all of our markets where the market conditions and the market structure permits. I don't know, John, if you want to expand on particular topic since you're very...

John Santa Maria, CEO

I know, Carlos, how are you? Stepping back, we currently have a substantial capability on our B2B platform, specifically our conversational commerce via WhatsApp. This is integrated directly with our transactional system, and we have 300,000 accounts on it. Notably, 200,000 accounts are in Brazil, which represents about 40% of our customer base. We're seeing an increase in monthly orders as we apply this service for our consumers, providing them with 24/7 access. Additionally, we're observing a higher average order value and an increase in the number of items per order. In Mexico, we currently have about 80,000 to 90,000 accounts. We have been diligently working to scale this platform across all of Coca-Cola FEMSA, with plans to launch by the end of the second quarter in key markets like Guatemala and Colombia. By the end of the year, we anticipate having integrated omnichannel capabilities in Brazil, followed shortly by Mexico, and we are also planning to introduce digital payment systems in Brazil and then in Mexico by the end of the second quarter. We're making rapid progress and are testing differentiated and expanded product categories in Brazil, including spirits and various snack options. This expansion complements our digital capabilities with product distribution across Latin America. I'm excited about this. Constantino has mentioned our home delivery sales in Mexico, and we're looking to enhance that platform by about 40%. What's interesting is that digitizing this platform has led to double-digit revenue growth in each household serviced, facilitated by a digital platform and payment systems that provide us with analytical insights into sales in at least a million homes in Mexico. The developments on our digital platforms are very significant. Am I still on the line?

Carlos Laboy, Analyst

That’s really helpful. Thank you so much.

John Santa Maria, CEO

Yes. You’re welcome.

Operator, Operator

Thank you. Our next question comes from Marcella Recchia with Credit Suisse.

Marcella Recchia, Analyst

Hi, John, Constantino. I hope you are well and thank you for taking my questions. I have two questions. First on Colombia. Could you provide us an update on the status of the joint distribution agreement with ABI? And secondly, on Brazil beer, if you can comment on the percentage of your last year's beer volumes that you expect to retain after the redesigned deal with Heineken starts to kick in. And which and when other brands are expected to be introduced? Thank you so much.

John Santa Maria, CEO

Sure. Let me begin with your first question about Colombia. As you saw last Friday, we have to seek approval for the joint distribution of ABI and Coca-Cola in Colombia. That distribution agreement was initially denied. The Colombian government has raised certain objections that we will be addressing, and we have a plan to tackle these over the next two weeks. We fully intend to collaborate with the Colombian government to understand their concerns. We are confident that we can resolve these issues, as many other companies successfully operate joint distribution platforms across the country. We believe that the significant benefits for consumers and clients in Colombia would be very positive, and it’s just a matter of working with the Colombian government to achieve this. Constantino, do you have anything to add?

Constantino Spas, CFO

Well, that covers it, John. We are convinced that this could be positive for the industry. We're going to ensure that we thoroughly discuss this with the authorities and present all perspectives on the value these types of associations could bring to the Colombian market and consumers. I believe we still need a few more weeks to gain a final perspective and position from the authorities. This is just the initial stage.

John Santa Maria, CEO

Yes. Regarding your second question on Brazil beer, we expected the transition to begin sooner due to the complications of COVID in Brazil, which unfortunately delayed the process by a couple of months. We still believe this transition will occur during the latter part of the second quarter or the beginning of the third quarter. As we mentioned previously, there will be a slight lag in volume due to the disruption and the changeover between us and the Heineken platform. If the timing were aligned, we projected a consolidated margin hit of about 50 basis points. However, the delay will lessen the impact for the year, providing us with additional time to recover this year and improve more rapidly next year. I don't have an expectation regarding the volume aspect. Constantino, I'm not sure if we've discussed that before.

Constantino Spas, CFO

No, I would like to focus on your question about the portfolio and elaborate on that. We are very pleased with the portfolio we are building with Heineken, not just regarding current brands. As we mentioned in our previous call, there are some exciting innovations and brand launches that we will implement through our collaboration with the Heineken company. Our approach is consumer and customer-centric. When we consider our portfolio from a customer-centric standpoint, there are interesting opportunities we are exploring with other brewers to offer the best value proposition to retailers, allowing them to deliver the best value to consumers. We are currently in discussions with several international brewers and have some promising ideas for local brands. This process is ongoing, and we anticipate being able to roll this out in the coming months. We expect to develop a robust portfolio that spans economy to super-premium segments in Brazil and caters to various beer offerings. Additionally, our work with Diageo in Brazil on other categories, such as spirits, complements this effort. By focusing on delivering a customer-centric value proposition in on-premise settings, we believe we will soon have a very strong proposition for our customers. I hope this provides clarity for you.

Marcella Recchia, Analyst

Sure. Super helpful. Thank you very much.

Constantino Spas, CFO

Thank you, Marcella.

Operator, Operator

Thank you. Our next question comes from Alvaro Garcia with BTG.

Alvaro Garcia, Analyst

Hey, good morning. Thanks for this special questions. A couple of questions. My first one is on gross margin in South America. I understand there's a specific one-offs, but I was wondering if you could break down, Constantino, how much of the decline was Brazil and how much was Argentina, sort of trying to break down the moving parts within that. And on the pressure in Brazil, specifically, how much is you a channel mix or how much is just the FX transaction headwind? That's my first question.

Constantino Spas, CFO

Well, I'm going to have Jorge to answer that one.

Jorge Collazo, Head of Investor Relations

Certainly. Thank you, Constantino. Álvaro, while we don't disclose specifics by country, it's important to note that the majority of the gross margin decline in South America this quarter originated from Brazil. In Brazil, we experienced a gross profit decline of roughly 20%. This decline is linked to a one-time event, which is significant. I would align with Constantino's comments regarding our profitability expectations in South America moving forward. This quarter presented a particularly tough comparison, but as we progress through the year, we anticipate easier comparison bases, which should lead us to an inflection point regarding profitability in South America. Additionally, we are still dealing with challenging conditions in Argentina, particularly regarding raw materials and a decline in both revenue and currency performance.

Alvaro Garcia, Analyst

Great. Thanks for that. And then my second question is on Fuel for Growth. I was wondering if you could perhaps provide an update on what should we expect maybe in terms of further restructurings or further savings from Fuel for Growth, just a general update there? Thank you.

Constantino Spas, CFO

Well, our Fuel for Growth program continues as we have planned. Most of the efficiencies that were initially diagnosed and have a plan accordingly to the magnitude of the efficiency that we wanted to capture are either in place or there's slightly more there. But in terms of reorganization, although this is an ongoing dynamic in any organization, most of our major restructurings that we've done are already in place. So we still had some small adjustments that are basically driven more by the operational dynamics. But overall, most of the major restructuring continues – is already in place. We still have some improvements and some efficiency to be captured in manufacturing in some plants, but those are plans that are already been mostly executed. And so, I feel very comfortable where we're at and it's a part of our business culture. So it was initially a program. And today, it's part of a continuing – continuous dynamic in terms of efficiency. At the same time, and in line with that, we are also starting to deliver and implement our deal-based budgeting initiative in the organization, and that is still incipient in the process of implementation, but we'll definitely provide with some updates in the upcoming earnings call. So it's more comprehensive than just the restructuring that we did initially. Now it's expanding into zero-based budgeting where we have identified some interesting efficiencies that we can execute behind spend, most importantly.

Jorge Collazo, Head of Investor Relations

And a lot of learning from our COVID-19 pandemic, these are times where some of your paradigms and some of your operating principles are stressed, and you have identified ways of doing this in a much more efficient and effective way. And those are learnings that will continue to be implemented through our day-to-day business going forward. I don't know, John, if you have a...

John Santa Maria, CEO

I would like to highlight a few things. This is a process that has been in place for the last three years, centered around changing the company culture. A significant part of this change is the functionalization of the company. We targeted a series of restructuring efforts, which we have now completed, and we do not anticipate any further restructurings moving forward. We have made substantial progress, not just in terms of costs but also in cultural changes. Over the past year, we saved about $60 million from our supply chain in 2020 alone and another $56 million in the prior year. In total, we eliminated around $80 million in organizational costs over the past three years, resulting in total savings of approximately $160 million to $180 million last year due to our continuous focus on growth. More importantly, we have enabled our functions to collaborate across all territories by establishing functional communities that participate in projects aimed at increasing efficiency. This has led to enhanced digitization, improved system implementation, and greater efficiency across our processes. As we move forward, we currently have about 27 key projects focused on digitization, with 10 agile teams actively working on them. The combination of our past progress and the new culture of functionalization, along with agile processes, should create a sustainable framework for enhanced capabilities and ongoing margin support. The transformation of Coca-Cola FEMSA continues to evolve and is accelerating on multiple fronts.

Alvaro Garcia, Analyst

Great to hear and certainly there's good results across the board on the SG&A front. Thank you very much, John.

John Santa Maria, CEO

Thank you, Al.

Operator, Operator

Thank you. Our next question comes from Ulysses with JPMorgan.

Ulysses, Analyst

Hi guys. Thanks for the questions here. A couple of kind of housekeeping items on my side, but maybe any comments you can make on the Mexico outsourcing bill changes that were approved and what kind of impact we can expect from this maybe, if any? And the second on the CapEx, you are guiding here for a slight increase versus the previous years. Can you share a bit on the details on what are the main investments and main projects you will have for this year and how the CapEx breakdown looks across regions, maybe even in a very broad basis? Thank you.

John Santa Maria, CEO

Yes. Thank you. Ulysses, in terms of outsourcing, we don't see any major restructuring coming out of these new initiatives in this law. I think we're going to be fully compliant within the time frame established, and it will have some minor administrative adjustments. But we fully expect any of the incremental costs that are coming out of such legislation and regulation to be minor, and we'll be able to cover that throughout the year. In terms of CapEx, what we're doing is, I think, accelerating where we're seeing incremental volume and profit. A lot of our capital expenditures are going to be going towards increasing our returnable footprint for universal bottles. We have an aggressive plan in Mexico. We have an aggressive plan in Colombia. And we continue to see aggressive investment in Brazil also with increased in both Sol initiatives. A lot of this also has to do with our digital capability, but our two major focuses currently are making sure our affordability portfolio is in place, and also that our sustainability initiatives, turning or looking at recycling, particularly in Mexico, and collection capability throughout all of PET collection capability throughout all of our countries are in place as well. Constantino, I don't know if you want to add something.

Constantino Spas, CFO

Yeah. I think that's – it's a good summary, John. It's focusing on the market. It's our first priority. So that's returnables, bottles and cases, and evidently, coolers, wherever that is a growth driver, right, in the market. So that's paramount for us, returnable capability and serving the markets properly on that end. On the other hand, digital capabilities, I think we expanded a lot with Carlos' question on that. And then in line with that, it is also an important bucket on IT infrastructure. And at the same time, the Cybersecurity investments that are very, very relevant for us. Very important, and in a point in time where a company is digitizing much more on an everyday basis, our Cybersecurity capabilities need to continue to be enhanced. And we're very serious about it, and we're putting significant resources into relative terms of what we have had in the past on those items. I think that summarizes it.

Ulysses, Analyst

Perfect. Very clear, guys. Thank you very much for the color.

John Santa Maria, CEO

Thank you.

Operator, Operator

Thank you. That's all the time we have for questions today. I would like to now turn the conference over to our presenters for closing remarks.

John Santa Maria, CEO

Well, thank you for your confidence and interest in Coca-Cola FEMSA. As always, our team is available to answer any of your remaining questions. Jorge is always available with his team. And I think what is very encouraging, again, just to point out is the continued volume trends that are positive throughout all our markets that we've seen in March and April, and a continued opening of our client base as we go forward. And thank you again for your time and attention. Stay healthy. Stay safe.

Constantino Spas, CFO

Thank you.

Operator, Operator

Thank you, ladies and gentlemen. This concludes today's presentation. You may now disconnect.