Good morning, and welcome to PepsiCo's Fourth Quarter Earnings Question-and-Answer Session. Your lines have been placed on listen-only until it is your turn to ask a question. Today's call is being recorded and will be archived at www.pepsico.com. It is now my pleasure to introduce Mr. Ravi Pamnani, Senior Vice President of Investor Relations. Mr. Pamnani, you may begin.

Thank you, Operator. I hope everyone has had a chance this morning to review our press release and prepared comments, both of which are available on our website. Before we begin, please take note of our cautionary statement. We may make forward-looking statements on today's call, including about our business plans, 2021 outlook, and the potential impact of the COVID-19 pandemic on our business. Forward-looking statements inherently involve risks and uncertainties and only reflect our view as of today, and we are under no obligation to update. When discussing our results, we may refer to non-GAAP measures, which exclude certain items from reported results. Please refer to today's earnings release and 10-Q, available on pepsico.com for definitions and reconciliations of non-GAAP measures and additional information regarding our results, including a discussion of factors that could cause actual results to materially differ from forward-looking statements. Joining me today are PepsiCo's Chairman and CEO, Ramon Laguarta; and PepsiCo's Vice Chairman and CFO, Hugh Johnston. We ask that you please limit yourself to one question. And with that, I will turn it over to the operator for the first question.

Thank you. Your first question comes from the line of Bonnie Herzog of Goldman Sachs.

Thank you. Good morning, everyone. I had a question on your marketing and how we should be thinking about your ad spend levels this year. It seems quite obvious that you can operate now at lower ad spend levels. So I wanted to clarify with both of you that you expect to pull back on the absolute level of your ad spend this year. And then how should we think about this from a long-term perspective, especially when I think about it in the context of the overall health of your categories, and certainly your brand equity, and how you're going to maintain that? Thanks.

Yes, good morning, Bonnie. Yes, this is Ramon. Listen, the advertising levels, I don't think we are maximized on the investments. What we think is that the A&M line has opportunities for optimization, especially in what we call non-working, and we're working hard on optimizing that part. And obviously, we're working on optimizing the return on investment on the advertising part of the media that impacts the consumer. One of the decisions we took this year was, if you look at Frito-Lay, for example, or some of our international business, we actually increased our A&M. And the reason for that is that within the formula for success of our portfolio we have to have our large brands growing at a decent pace, at the market level hopefully, and for that we need to keep them modernized and keep innovating on those large brands. But also, we need to invest in the growth spaces of the category where sometimes we need to create new brands. And that requires a well-funded kind of support package to get those brands up and running. For example, if you think about the Frito portfolio, we want to grow our Cheetos, Doritos, Tostitos, Lay's, Ruffles at a very good pace, and I think we're doing that. But at the same time, we need to build healthier portfolios, some brands like Off the Eaten Path or Smartfoods or PopCorners or Bayer, all those brands need to grow to have a portfolio in the future; the same with our beverage portfolio, with Bubly or with some of the smaller brands we're creating. So, that's how we're thinking about our A&M optimization, get the maximum ROI on the working part but ensure that we can support both the large brands and the smaller future brands in a way that we have sustainable growth for the future.

Your next question comes from the line of Dara Mohsenian of Morgan Stanley.

Hey, guys. So first, just a detailed question, as we look at your earnings guidance for 2021, it's in line with the long-term algorithm despite having nearly $800 million in COVID costs in 2020 that I assume will drop off significantly. So, just trying to understand why there couldn't be upside to the long-term algorithm should those costs drop off, assuming reinvestment or higher commodities or other factors? And then second, Ramon, just sort of further on the question you just answered, we did see a pretty big shift in A&M spend at the Frito side this year, obviously a pullback in beverage given the COVID situation. So I'd love to hear your thoughts on the ROI behind the higher spend in Frito, and if you think you're getting significant incremental revenue from that or the yield on those investments as you shifted the allocation within the portfolio in 2020? Thanks.

Great. Okay, Hugh, you want to take the first part, on how we're thinking about the short-term, long-term, and in our algorithm.

Yes, I'm happy to, Ramon. Good morning, Dara. Obviously, there are a lot of items that are in our P&L. We've identified the COVID cost as something we wanted to call out because it was extraordinary. There will be COVID costs and significant COVID costs still in 2021. So you really can't pull all of that to the bottom line. In addition to that, we're investing in the A&M, as Ramon mentioned, in the snack food business and a bit in the beverage business as well. But as we proceed, given the level of uncertainty, we felt like our long-term algorithm from a revenue and profit perspective was an appropriate goal for us. And I think if we hit these numbers as we expected, it'll be a good year.

Yes, Dara. And we're thinking about maximizing the short-term but not at the expense of the long-term. It's -- and to start the year thinking about our long-term algorithm is a good way to focus the company on sustainable performance for many years. In terms of the marketing ROI, we're getting much better at measuring the ROI in our marketing spends. We think we're getting much better at the ROI delivery of our investments. We're putting tools and performance metrics to our marketing teams. In particular, regarding Frito, it has a very low level of advertising, below 4% for a business with so many multiple brands and growth potential if you think about the share of macro-snacks that we have. So, I believe that if you think about the levers of growth for Frito in the future, increased A&M should be part of it. As we think about our push model, it's optimized with our DSD execution capabilities. I think on the pull side, we have opportunities probably to maximize frequency and to enhance consumer connection with our brands and Frito versus what we do with some other parts of our business. So that's how we'll be thinking about A&M investments at Frito.

Your next question comes from the line of Andrea Teixeira of JPMorgan.

Thank you. Good morning. So my question is on the use of capital, as you emphasize the buybacks and you're focusing more on CapEx, on investment in capacity to meet demand or perhaps M&A. So if you can comment on your capital allocation, Hugh? And Ramon, I was positively impressed with Europe and the recovery momentum there. Is that going to continue into 2021, and is it embedded in your guidance? And conversely, what are your thoughts on the deceleration in LatAm?

Okay, let me start with the geography part, and then Hugh, you can talk about the capital. There, I would say, Europe, we're seeing different Europes. Now we're seeing Eastern Europe quite strong, I would say Russia extremely strong, Turkey very strong. Some parts in Central Europe are much better, by Central Europe I mean Germany and some of the more developed Europe. We're seeing the South of Europe very impacted by the lack of tourism and people not going there for weekends or longer vacations. So that is how we see Europe. When we look at 2021 we think, obviously, as mobility increases we're going to see even better performance in Western Europe. Hopefully, we can continue to see the good performance in the East. What we can see in Europe across the board is we're becoming more competitive; our share of market performance both in beverages and snacks was very good this year. We managed to gain share in almost every single market, which is a critical metric during a period of time where markets fluctuate depending on lockdowns, etc. In Latin America, Brazil has been strong throughout the year. We feel good about our Brazilian business in terms of share of market, and overall category growth has been very positive. Mexico, at the beginning of the pandemic, we suffered a little bit in the convenience part of our business. The traffic was down and that impacted our sales. However, the business came back to much more solid performance in the last quarter in Mexico. We've been gaining share across the year, and we're seeing the category recovering in Mexico. Hopefully, we see much better performance in Mexico this year in absolute terms. So those are the two big markets in Latin America, and we have a positive sign from those two.

Yes, happy to, Ramon. Overall, our capital allocation strategy hasn't changed. We've talked about this many times. Number one, make sure that we fund the business to compete and grow. Number two is dividend. Number three is tuck-in M&A. And number four is share repurchase. One and two, obviously we've discussed in terms of our guidance. I would not expect much in the way of M&A this year and certainly nothing large. From that perspective, I think we have a lot to digest right now. We're happy with where the portfolio sits. Lastly, in terms of share repurchase, we're trying to balance our debt rating versus our cash return to shareholders. We felt like the dividend increase was important. And at the same time, given the level of M&A that we had over the last couple of years, balancing that out with the debt rating, we decided that we're going to have significant share repurchase this year. That's purely based on balancing the debt rating with our return to equity shareholders; nothing more is driving that decision.

Your next question comes from the line of Kaumil Gajrawala of Credit Suisse.

Hi, would you mind providing some insights on how you are looking at the commodity cost environment? Where you are seeing maybe raw material inflation? And then, how you plan on addressing it through pricing or mix or trade spend?

Hugh?

Yes, I'm happy to take that, Ramon. Kaumil, obviously, there is some pressure in commodities. We're viewing commodities as manageable right now. I'll remind you that we do forward buy on areas where we can of about nine months ahead. But, we can't forward on everything. There is inflation in certain aspects of our cost structure. That said, the overall mix is manageable between pricing and the balance of the P&L such that we don't expect it to be disruptive for the algorithm this year.

Your next question comes from the line of Bryan Spillane of Bank of America.

Hey, good morning everyone. I guess I had a follow-up question just related to Andrea's question around cash flow. And Hugh, maybe can you talk about the CapEx levels and whether they will be elevated for multiple years? Also, could you provide some color on where the incremental CapEx spending is going? Is it capacity? Is it capability? Just trying to get an understanding of whether or not we are going to be in an elevated CapEx cycle for a while? And then, also just where the capital is going?

Yes. Ramon, would you like to handle a little?

Yes, please, go ahead. I'll add to it.

Okay. Bryan, a couple of things on that, yes, it is elevated. We have been running about 5% of sales and now we are running a little bit north of 6%. There are a couple of big drivers behind it. Number one is the IT and digitalization spending that we are doing. That will be elevated for a couple of years as we work through an ASP upgrade and a variety of digitalization efforts that we have going on in our supply chain and selling system. The second piece is primarily around growth capacity, and we expect that to be elevated for a couple of years. Historically, we ran capacity pretty close to the edge, but as we pivoted to a growth strategy, we're taking capacity utilization down a little bit to enable us to capture more growth opportunities. So, that's a significant component of the spend. Lastly, we have productivity CapEx as we look at automation and adding capabilities into the plants that will yield cost savings. I would expect the capital spending to remain elevated for the next couple of years, and then return to our typical norms.

Your next question comes from the line of Laurent Grandet of Guggenheim.

Hi, good morning, Ramon and Hugh, and congrats on the strong hand of the year. I'd like to focus my question on the energy category. In 2020, we saw you making an effort to move into the energy category with the acquisition of Rockstar and the agreement to distribute Bang. Could you please update us on where you stand in your journey to become a leading energy player? I'd like to understand your view on the Rockstar revamp. We saw the Super Bowl ad, but I'd like to understand a bit more on that, along with your assessment of the situation with Bang, and what are you planning to do with other brands like Dew and DNH category?

Thank you, Laurent, and yes, a good question. Let's talk first about Bang quickly. We're surprised by this move by VPX, especially given that it was a good performance in terms of distribution metrics, but ultimately, we plan to continue to be the distributor of Bang until October 23. We'll do our best to make that brand well distributed in the marketplace. The core of our energy strategy was never Bang; it was about what we could achieve with our brands following the acquisition of Rockstar after freeing ourselves from some of the contractual obligations we had. The first pillar is Rockstar itself. Rockstar's re-launch both in the U.S. and its expansion internationally will serve as our key energy proposition. The integration of Rockstar into our supply chain is starting, but it will take some time until all formulations and everything are in our system. We plan to invest in the brand; we found a consumer space where it's quite differentiated, and we’re improving the formulas and developing different propositions for various spaces in that mainstream energy. In addition, you will soon see announcements related to a Mountain Dew launch in the spring time. This will be the first significant move for Mountain Dew into the energy space, and we are excited about the product concept and the support package we're receiving from our customers. This will be a positive event, and there will be future initiatives from Mountain Dew in the energy space. Our partnership with Starbucks is at an all-time high in terms of our relationship and market performance. We continue to innovate in the coffee-energy segment with Triple Shots and Double Shots, and we are exploring ideas that will soon enter the market. We also assess other brands in the sports area and various spaces within energy management to provide a variety of branded consumer solutions in this growing space, which holds many consumer opportunities. We feel good about the steps we're taking to build a solid foundation in energy over the coming years. You'll see more news from us in the coming weeks.

Your next question comes from the line of Vivien Azer of Cowen.

Hi, thank you. Good morning. I was hoping that you could touch on your agreement with Beyond Meat and explain the aspirations there regarding the partnership, as well as any embedded economic impacts in your 2021 guidance? Thank you.

Yes, great question. As we think about creating spaces for future growth, one of them is plant-based snacking and convenient plant-based solutions. We've seen that Beyond Meat is the right partner given our significant due diligence in terms of R&D capabilities and willingness to collaborate in the future. We have high expectations for that. There should be no implication for our 2021 investment or high sales—it will still be a small business for us in 2021—but we plan to enter the market within this year.

Your next question comes from the line of Lauren Lieberman of Barclays.

Great, thanks. Good morning. I was curious, thinking back to the longer-term plan that you laid out nearly two years ago. Is it fair to say that the first order of business was to shore up and reinvest in your bigger franchises? I felt like the language in the prepared remarks today had a little more emphasis on stepping up investment in some of the ancillary, but critical growth opportunities. Can you speak to how the environment last year may have accelerated the support to your biggest brands and its impact on your long-term goals? I'd be curious to hear a progress report.

Yes, that's great. Good question. Listen, if you think back and you see the growth opportunity for PepsiCo, with the global LRB category, we are less than 10% of a $600 billion category growing at 4% or 5%. The same applies to macro snacks, which is a large $500 billion-$600 billion global category where we are less than 10%. Growth as the lever for long-term value creation is clearly the number one focus. We've also seen great success with our SodaStream acquisition, which provides a platform that engages both better-for-you and better-for-the-planet initiatives for growth globally, while also allowing for customization. We're also focused on partnerships like Beyond Meat for building future growth opportunities. As we focus on our core brands that drive the vast majority of growth, the significant runway for growth is evident. That gives you a sense of how we're strategizing for growth; profitable growth, obviously, while also creating small spaces where we can enter and win in the future.

Your next question comes from the line of Kevin Grundy of Jefferies.

Great, thanks. Good morning, everyone, and congratulations on a strong year. Ramon and Hugh, I wanted to delve deeper into the margin opportunity at North America beverages, as this topic has arisen multiple times on previous calls. In your prepared remarks today, there has been more focus on achieving a better balance and improving profitability. I gathered from last quarter that the focus was more about enhancing profitability. I would like to understand how the current commodity cost environment is impacting your strategy and also your competitors, who are arguably more restrained than they have been throughout the past year. Are we likely to see limited margin enhancement again, given these occurrences at North America beverages? I would like more insight into how big of a priority this is for the organization and when we might expect movement toward those mid-teens operating margins. Thank you.

Great, listen, let me take this first, and then Hugh can add. The conversations started a couple of years ago focused on ensuring that PBNA becomes a growth engine. We’ve been able to develop a strong machine that relies on local execution capabilities and robust brands. As indicated by our latest quarterly growth, our brands are performing effectively, and this was critical because merely cutting costs is not a sustainable approach. Now we intend to work on margin expansion for PBNA, and this is a priority for us. We see this business achieving mid-teens margins in the long term, and we want to do that sustainably. We are exploring opportunities in high-profit segments, enhancing pack offerings in the right places at the right prices. Our revenue management capabilities include numerous cost opportunities in our supply chain management and around our G&A expenses and A&M optimizations. All of these factors should provide room for growth, despite the pressures of the category. This is a year where you will begin to see some movement in that direction. We are ultimately aiming for teens margin levels without compromising our competitive performance.

Your next question comes from the line of Nik Modi of RBC Capital Markets.

Yes, good morning everyone. Ramon, I wanted your perspective on what's going on at retail regarding assortment, SKU management, and how retailers are focusing on higher velocity items while simplifying their shelves. Retailers have learned the lessons of COVID and the importance of having enough stock of targeted brands. So I'm seeking clarity on that, especially given that Quaker has been under space pressure.

Yes, I think, obviously, we all had to reassess our supply chain during the past year due to its challenges. Simplifying our portfolios has allowed us to maintain elevated supply levels to our customers, which has remained our focus. As we move forward, and consumers return to a more normal lifestyle with physical stores playing a significant role in shopping, I believe that consumers will begin exploring a bit more, seeking innovation and smaller SKU options. So, I foresee a gradual return to a more complex portfolio. However, we must all recognize that the longer tail of the portfolio often does not yield the returns we need from every SKU on the marketplace. Hence, a balance will need to be found between portfolio optimization and increased complexity as demand dictates.

Your next question comes from the line of Steve Powers of Deutsche Bank.

Hey, great, thanks. Perhaps two things: first, Hugh, given the higher CapEx you indicated, could you share your thoughts on free cash flow and free cash flow conversion expectations for the year? Would you consider the 80% free cash flow conversion reasonable based on 2020? Any insights as to why that could be materially higher or lower? Secondly, Ramon, can you talk a bit about the Gatorade franchise? It had a strong 2020 behind Zero and other initiatives. How are you approaching Gatorade in 2021? Additionally, you mentioned a convergence between sports and energy in your answer to Lauren. It seems you might position 24 to play in that space—could you elaborate on how those lines may blur?

Okay, Hugh, you want to take that?

Yes, I'm happy to provide insights. Steve, we didn't provide specific cash flow guidance, but I would say the general cash flow profile will be consistent with 2020's levels.

Now, let me share a few words on the Gatorade franchise. We are seeing Gatorade grow rapidly, particularly due to our innovations; Zero has proven to be an incredible success, generating $1 billion in retail sales value in just a year. That's a substantial innovation. We're witnessing increased exercise levels fueling this consumption. Looking ahead, Gatorade's future is very bright, especially in creating personalized solutions for athletes and casual users to enhance their engagement with hydration and nutrition. We envision a full ecosystem of engagement where we provide products, solutions, and information to our consumers. That’s the real future for Gatorade, which is a trusted brand with consumers. I believe we can leverage that trust to provide much more than just liquid hydration.

Your final question comes from the line of Rob Ottenstein of Evercore.

Great, thank you very much. Just a follow-up on Energy. Can you talk about the impact from your energy strategy on your 2021 guidance? What is the projected impact of Rockstar and Mountain Dew on your guidance? The broader question is about the impact of remote work on the snacks business. How much increased demand did you see in 2020, particularly in the U.S., and how sustainable is that moving forward? Thank you.

Sure, Robert. Energy is certainly a strategic driver for PBNA, but I wouldn't classify it as a make-or-break element for the company this year. If we don't perform as expected in that area, we have other levers that will still make it a successful year.

On the impact of new mobility habits on snacks, we lost a lot of high-profit volume in both the convenience and away-from-home channels. We experienced a significant drop in impulse purchases and away-from-home opportunities, which were high-margin. Conversely, in-home consumption surged, indicating a net positive impact on the category, particularly in developed markets where in-home consumption was more prevalent. However, developing markets reliant on away-from-home consumption may have seen some negative effects. The overall drivers will depend on how per capita consumption evolves in both contexts.

Ladies and gentlemen, this concludes our question-and-answer session. I would now like to turn the call back over to Ramon Laguarta for any closing remarks.

Yes, I wanted to thank all of you for your support during the year and for your investments in PepsiCo. Hopefully, everyone stays safe, and all the best to all of you. Thank you.

Thank you for participating in PepsiCo's fourth quarter earnings question-and-answer session. You may now disconnect your lines and have a wonderful day.