Coca-Cola FEMSA, S.A.B. de C.V. (KOF) Earnings Call Transcript & Summary

Good day, and welcome to the Coca-Cola FEMSA First Quarter 2023 Conference Call. Today's call is being recorded. At this time, I will now turn the call over to Jorge Collazo. Please go ahead, sir.

Thank you, and good morning, everyone. First of all, we apologize for the technical difficulties on the call. I know that some of you have trouble connecting. So we decided to wait a few more minutes before we begin the call. Apologies for that. As usual, I'm joined this morning by Ian Craig, our Chief Executive Officer; and Gerardo Cruz, our Chief Financial Officer. Before we begin, let me share the following information and disclaimers. Due to a conflict in his agenda, Ian, our CEO, will not be able to join us for the full length of our earnings call at around 35 minutes into the call, Ian will have to disconnect. Gerardo and I will continue for the remainder of the call to answer any remaining questions. Additionally, please bear in mind that this conference call may include forward-looking statements concerning Coca-Cola FEMSA's future performance and should be considered as 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 performance. And now let me hand the call over to our CEO. Please go ahead, Ian.

Thank you, Jorge, and good morning, everyone. We appreciate you joining us for today's call. The positive momentum of our company, coupled with the solid execution of our team. [Technical Difficulty]

Yes. Apologies again for the technical difficulties. I'm going to turn it back to Ian and he will take it from the start. Thank you.

Thank you. The positive momentum of our company, coupled with a solid execution of our team supported a positive first quarter. Our volume increased in 8 of the 9 markets where we operate, enabling us to grow our total revenues in the double digits despite significant currency translation headwinds. Additionally, in the face of cost and expense inflation, we achieved double-digit operating income and net income growth. During the quarter, we obtained another milestone in the rollout of our Juntos Plus B2B omnichannel platform, reaching more than 900,000 monthly active purchasers, adding approximately 100,000 as compared with the end of last year. These quarterly results are in line with our plan for the year, and we are confident that we have the right initiatives to accelerate the growth of our core business and to become our [Audio Gap]. With that, let's begin with a review of our consolidated results for the first quarter. Our consolidated volumes increased 6.6% year-on-year, reaching 940 million unit cases. This volume growth was driven mainly by increases in Mexico, Brazil and Guatemala, partially offset by a flat performance in Colombia. As reported in our earnings release, it is important to note that these volumes include the integration of Cristal, a bulk water business that we acquired at the end of last year in the Southeast region of Mexico. Although relatively small, we are confident in this acquisition's potential to strengthen our direct-to-consumer capabilities in the region. Excluding this integration, consolidated volumes increased 4.9%. During the quarter, performance across our core beverage categories remained strong. Sparkling beverage volumes grew 4%, while our still beverage and bottled water portfolio grew 9% and 19%, respectively. Importantly, despite currency translation headwinds, our consolidated total revenue grew 12% to reach MXN 57.4 billion, driven by volume growth and mix initiatives across our territories. Our gross profit increased 12.6% to reach MXN 25.4 billion, leading our gross margin to expand 30 basis points to 44.4%. This expansion was driven mainly by our top line growth, which was partially offset by higher raw material costs such as sweeteners and PET. Our operating income increased 12.9%, reaching MXN 7.7 billion, and our operating margin remained stable at 13.5%. This performance reflects our positive our top line, favorable mix effect and the noncash operating foreign exchange gain related to the appreciation of the Mexican peso. Finally, our EBITDA for the quarter increased 7.1% reaching MXN 10.5 billion, resulting in an EBITDA margin of 18.3%, a 90 basis point contraction. This contraction was driven mainly by increases in cost and operating expenses, such as labor, marketing and maintenance. In summary, we began the year with positive momentum and a performance that is in line with our plan for the year. I will now take a moment to share a few highlights across key markets. In Mexico, we continue to deliver solid volume growth. Our performance was driven by growth across all channels with double-digit growth in the modern trade. Additionally, aligned with our strategy to improve our mix, our single-serve presentations continued increasing as compared with the previous year. We continue making progress in the rollout of our Juntos Plus B2B platform which now reaches more than 460,000 active monthly buyers in Mexico. As a result, digital revenues in the country are up more than threefold compared with the first quarter of last year. In Brazil, despite unfavorable weather during most of the quarter, our volumes increased 4.3%. This positive performance was driven by growth across all categories including double-digit growth in both still beverages and bottled water, specifically the traditional trade and the on-premise channels mainly drove this growth. In Brazil, as broader company, we are focused on continuing to improve our customer service metrics. In Argentina, we continued focusing on our commercial capabilities to grow volumes and gain share. During the quarter, our volume increased 6.2%, driven mainly by the growth in Coca-Cola Sin Azúcar and double-digit growth in both our bottled water and still leverage portfolio. Finally, I want to highlight Uruguay's solid quarter with double-digit volume growth of 14.8%. This performance was driven by growth across all categories with double-digit growth in brand Coca-Cola and in our still beverage and bottled water portfolios. Our team's effort to support our execution and improve customer service metrics is resulting in share gains across most beverage categories. I also want to take a moment to speak about ESG. On March 27, we published our integrated annual report of 2022, which includes key operating financial and ESG achievements. A few highlights include the allocation of more than [ $300 ] million during 2022 to eligible green projects under our environmental pillar, which include circular economy, water stewardship and climate action. In total, we have allocated 94% of the proceeds from our green bond issued in 2020. On the circular economy front, we collected more than 80,000 tons of PET during 2022 as compared to 50,000 tons in 2021. We continue to focus on strengthening our collection capabilities and collaborating with communities, authorities, industry allies and NGOs as we continue progressing towards our goal of collecting 100% of the bottles we placed in the market by 2030. Notably, through our water stewardship, we continue gradually improving our water efficiency metrics and prioritizing water replenishment actions and water access, creating water resilience that provide for the return of water to nature. We aim to ensure a safe and reliable water supply for our communities. Finally, on the climate action front, we achieved a 29% reduction in Scope 1 and 2 absolute greenhouse gas emissions and 17% in Scope 3 emissions as compared with our 2015 baseline. These reductions are in line with our commitment to reduce Scope 1 and 2 emissions by 50% and scope 3 emissions by 20%, no later than 2030. Aligned with this progress, we have become a signatory to the United Nations CEO Water Mandate. The CEO Water Mandate is a partnership between the UN Global Compact and the Pacific Institute that mobilizes different stakeholders such as companies, NGOs and governments to take concerted, collective water action globally and commit business leaders to sustainable water management across their operations supply chain. I am confident in our capabilities as we continue to make a difference for our people, our communities and our planet. We are on the right track to achieve our objective for 2030 as we continue winning in the market and progressing on our key strategic priorities across our operations. Finally, let me address the cybersecurity incident that was disclosed yesterday. In recent days, the company's cyber monitoring processes determined that we were experiencing a cybersecurity incident. And as such, we immediately implemented our cybersecurity protection and response protocols. At all times, we remained and continue to remain in full control of all of our IT applications. The measures we implemented are preventive in nature, and we have not had a material negative impact. While these measures are undergoing, the company expects to continue our business operations through backup procedures and will prioritize the protection of the integrity, confidentiality and availability of its information. The current assessment of the situation is that our controls identified the incidents in a timely market. And we expect that by this weekend, we will return to our normal primary processes. Additionally, we're conducting a comprehensive forensic assessment of this cybersecurity incident and are taking all the proper measures to ensure no risks remain. With that, I will hand the call over to Gerry to expand on each division's results and CapEx for the year.

Thank you, Ian, and good morning, everyone. Let me first expand on our division's results for the quarter. In Mexico and Central America, volumes increased 8.8%, driven by growth across all of our territories in the division. Excluding the integration of Cristal's bulk water business volume increased 5.7%. Our quarterly revenues in Mexico and Central America increased 16.2% and driven by volume growth and revenue management initiatives, offsetting unfavorable translation effects from most Central American currencies into Mexican pesos. Our gross profit increased 13.6%, resulting in a margin of 47.4% and a compression of 100 basis points year-on-year. This compression was driven mainly by increases in raw material costs, such as sweeteners and concentrate in Mexico. These effects were partially mitigated by our top line growth, raw material hedging initiatives and the appreciation of the Mexican peso as applied to our dollar-denominated raw material costs. Our operating income for the division increased 1.2%, resulting in a margin contraction of 220 basis points. This was driven mainly by increases in costs and operating expenses such as labor, marketing and maintenance that were partially offset by an upgrading foreign exchange gain in Mexico. Finally, our EBITDA margin for the division declined 330 basis points. Moving on to our South America division. Volumes increased 3.8%. This increase was driven by 4.3% growth in Brazil, 4.5% growth in Argentina and 14.8% growth in Uruguay. This growth was partially offset by a stable volume performance in Colombia. On a comparable basis, excluding on volumes of CVI in Brazil, the division's volume would have increased 2.8%. Our revenues for the South America division grew 6.6% driven by our volume growth and revenue management initiatives. These factors were partially offset by the unfavorable currency translation effects of most of our operating currencies in the division into Mexican pesos. When excluding currency translation and M&A effects, our comparable total revenues would have increased a solid 27.5% during the quarter. Gross profit in South America increased 11%, resulting in a 160 basis point margin expansion. This was driven mainly by the positive operating leverage resulting from volume growth and favorable mix effects. These effects were partially offset by an increase in raw material costs such as PET and sweeteners. Operating income for the division increased 43.3% and margin expanded 290 basis points as compared to the previous year. This increase was driven mainly by the combination of our positive top line operating leverage and tight expense control across our operations that offset higher fixed costs and expenses. Finally, EBITDA in South America increased 22.9%, resulting in an EBITDA margin expansion of 220 basis points. Moving on to our financial results. The quarterly comprehensive financing results recorded an improvement of 36.2% as compared with the previous year. This reduction can be explained mainly by a favorable comparison base that included a one-off market value loss in financial instruments of MXN 936 million recorded during the first quarter of last year. This loss was recognized as a result of interest rate increases and its effects on floating rate denominated debt during that period. By normalizing this effect, our comprehensive financial results would have improved 9.2% this quarter, driven mainly by an increase in interest income. These effects were partially offset by a higher foreign exchange loss driven by the appreciation of the Mexican peso as applied to our U.S. dollar cash position and a lower gain in hyperinflationary subsidiaries. Finally, our controlling net income increased 35.3% to reach MXN 7.1 billion, resulting in earnings per share of MXN 0.23. As we mentioned during our previous earnings call, one of our priorities is to continue allocating capital toward supporting our organic growth. For this reason, our CapEx expectation for 2023, as disclosed in our 20-F annual report, is a ratio of around 8% of revenues. These investments will be primarily focused on increasing our manufacturing and distribution capacity. Our projects include installing 7 new production lines this year and increasing our warehouse capacity through new distribution centers and warehouse expansions. Over the next 3 to 5 years, we expect to increase our warehouse capacity by 30% and our manufacturing capacity by 50% -- 15% to continue supporting our growth. Finally, as announced on March 27, our Annual General Shareholders Meeting approved a cash dividend equivalent to MXN 5.80 pesos unit which represents an increase of 6.8% as compared with the previous year's dividends. With that, operator, we are ready to open the call for questions. Thank you.

[Operator Instructions] We will take our first question from Ricardo Alves from Morgan Stanley.

I had a couple of questions. On -- perhaps a question to Ian. We've been discussing this a lot with investors, Juntos and in FEMSA. So just wanted to get an update from you on the overall role of Coke FEMSA, the importance of Coke FEMSA in the context of the FEMSA forward. We already discussed this in other instances. But from your perspective, given the recent meetings that you've had working closer OXXO -- with OXXO and overall FEMSA operations, what makes you more bullish today versus the last conversation that we had a couple of months ago, would assume that Juntos in Mexico is still the main opportunity. We've also discussed this in the past, but I don't know if there is any other details that you can share with us with ongoing process -- progress that you guys have already achieved or envision to achieve. I'm not sure if there's anything new for you to share on the digital initiatives, premium and spin, which is also another key focus from investors from a FEMSA perspective, but also trying to come to terms with what is the upside from cost as well. So just a broader update on your Coke FEMSA's role in this broader FEMSA strategy? That's the first question. Second question, this one much quicker. Mexico margins, appreciate the very strong top line performance, very strong execution. I was -- just wanted to get a little bit of update on the profitability outlook that you have for the rest of the year, if you still envision a scenario where you're able to protect margins year-over-year? And if that's the case, just a little bit more details on the cost front.

First, Ricardo, on the B2B front or digital collaboration front. For us in Juntos Plus, we bring to the table, the largest B2B or traditional trade access in Mexico by far in Latin America as well. And at the same time, FEMSA digital has the most or the most advanced, in our opinion, fintech or wallet offering as well as a very interesting and powerful loyalty offering. So we are developing and looking to integrate these offerings in our Juntos Plus platform. This is going to take some time to bring to fruition, but those are 2 of the areas where we clearly can add value to both sides, FEMSA digital as well as Coke FEMSA in our Juntos Plus platform. We want to become that one-stop shop to our B2B customers. And for that, these value-added services in fintech as well as making our loyalty points more powerful by leveraging [indiscernible] is something that's very interesting to us in our Juntos Plus platform. When you talk about margins, I think we mentioned this in our prior call. We -- the first quarter was the toughest comp where we expected the most pressure, these pressures would be reduced gradually and turn into a margin expansion by the fourth quarter. Gerry, would you like to go into the details of the cost impact so that we could share that we Ricardo, please?

Yes, Ricardo, addressing the margin impact we had unusual higher expenses related to labor, marketing and maintenance during the first quarter, as Ian mentioned, with a tough comparison versus margins last year. For the fourth quarter, we expect an expansion of margins ending the year with margins for the full year at similar levels where margins were at the end of 2022. And this is in Mexico specifically. As you saw in our report, South America division presented a very healthy margin expansion.

We will take our next question from Ben Theurer from Barclays.

So I want to bring it down to South America. Obviously, very strong volume performance and some regions are a little softer. But if we take a look just at the results in their respective local currency terms, and particularly, if we take a look at the profitability, what's been like the key driver of these massive profitability gains? I mean margin expansion was really big in the quarter. And were there some things that were more of like a onetime nature? Or do you think just by having reached certain levels of volume in some of that -- some of these countries that the profitability can actually be sustained at these levels or maybe even further expanded. You just loaded a little bit to it on the strength, but maybe to dig a little better into -- a little more detail into the margin evolution here in South America. That would be much appreciated.

Thank you, Ben, for your question. South America, did perform quite well in terms of profitability and margin expansion. The good news here is that it was mainly driven by top line performance, both in volume and favorable mix performance. The expansion in margin was more than 200 basis points for that division and particularly Brazil and Argentina were able to absorb certain fixed expenses by the increase in sales, delivering a positive operating income in the region. Also during the quarter, we had a favorable raw material environment in most countries in South America, and we expect that raw material environment to continue to be favorable for the remainder of the year, probably a potential impact in sweeteners that have been the nagging impact in our P&L, but the rest of the raw material environment seems to be pretty positive -- stable to positive for the remainder of the year.

We'll take our next question from Álvaro García from BTG.

First, I was -- 2 questions. First, I was wondering if you could just remind me of sort of sweetener dynamics in each of your main markets. So [ rochers ] in Brazil versus fructose in Mexico and how you can hedge in each of these respective markets? And my second question is in Argentina. Gerry, I was wondering if you could sort of walk us through whether you are taking dividends out of Argentina at the moment and sort of what the outlook is given the FX environment there. Thank you.

Thank you, Álvaro, for your question. I'll start with the sweetener situation, and I'll give you a few details. As I was mentioning in my previous answer to Ben's question, sweeteners is the raw material that we are a little bit more concerned with, particularly in sugar. For Brazil and Uruguay, we have a pretty healthy hedge position. Brazil very close to 40% of our requirements for the whole year at a significant premium to -- or below the current market price significantly as well as in Uruguay, where that position is close to 60% of our requirements. In the case of fructose, for Mexico, which is the main operation where we use fructose, we have more than 90% of our requirements for the year already hedged at a very competitive price, which is also reducing any worry for us for the remainder of the year on that front. We have the expectation that sugar prices will continue to be tight for the remainder of the year, mainly due to the sugar -- world environment being pretty tight and countries that are swing players in the sugar market like India, not exporting that much sugar to the market. So that's where we are in terms of sweeteners. For your question regarding Argentina dividends, as you know, it's a very complex environment to be able to extract dividends from Argentina. We've been following the market and obviously taking advantage of any opportunities that present in the local market to be able to use our excess cash to invest in our organic growth requirements. And given that performance in Argentina has been very good for the last at least 2 years. We have the good problem of having to create capacity to serve a very positive market and protect our excess cash from any adverse impact that it can have by foreign currency depreciation.

We'll take our next question from Thiago Bortoluci from Goldman Sachs.

I'd just like to go back once again to the discussion on margins, right, specifically in Mexico. We appreciate that the commodity prices are still a headwind, and this should normalize going forward. But if I try to break down the bulk of our margin compression there is essentially SG&A, right? And I think Gerry pointed out some of the drivers that are impacting the quarter. I'd just like to understand when you share and reiterate the division of margins potentially improving by year-end has been flattish on a year-on-year basis, what you're assuming for [ days], right? Is there some room to improve the SG&A and reduce expenses? Or would it require further pricing for you to reach this more normalized margin level? And if this is the case, how confident you are on the Mexican consumption that dropped, like, volumes, I guess, for most of the Mexican bottlers in the first quarter, right, has been surprising on the upside. So it seems there is -- stickiness is still there, but just wanted to hear a little bit from you how confident you are that elasticity could remain relatively below going forward.

Thank you, Thiago. We certainly expect cost SG&A to normalize for the remainder of the year. As we mentioned during the script of the call, first quarter was the toughest comp in terms of margin as compared to last year. So we expect better cost absorption, but cost that we experienced during the first quarter were a bit unusual. And that impact, we do not expect to maintain for the remainder of the year. And as mentioned as well by the fourth quarter, having an expansion in margins and ending the year at very similar levels of margin where we ended the prior year.

We'll take our next question from [ Emiliano Fernandez ] from [indiscernible].

Just a quick one here regarding Mexico, very impressive volumes there. Could you give any discretionary breakdown on the evolution by month? And also, have you seen the performance in April? And also another one regarding profitability in Mexico, just a follow-up here. You said you're expecting to improve better quarter-by-quarter going forward. Are you expecting any price increases there to drive a better operating leverage? Or are you still comfortable with how you already have?

Thank you for your question, [ Emiliano]. For the first part, in terms of volume, as we stated in our fourth quarter call, we -- for this year, we are very focused on growth. We're trying to -- considering that the slowdown in economic activity globally and throughout our region, we're very focused in maintaining the competitive position of our portfolio promoting volume growth. In that sense, going into the second part of your question., We are very -- we're going to be very selective in any pricing action that we take, focusing a lot more on driving favorable mix, improving prices through mix rather than being very aggressive in pricing. We obviously will take care of internal inflation impacts, but we're being very careful in trying to promote growth and maintaining a competitive positive position.

I just wanted to mention that performance during the quarter in Mexico was as -- Gerry mentioned, was solid and was consistent pretty much across the quarter. And so far, during April, I think what we can say is that we have seen a continuation of that performance that resilient and solid performance in Mexico.

We'll take our next question from Rodrigo Alcantara from UBS.

Ian, so the first one I would say on the Bepensa and the acquisition you did in Mexico, just curious thesis a large quarter rate now in the south territories would be kind of like synergistic for you guys, just curious if at some point, it was on the table, acquisition of the FEMSA spot and operations instead of just the water operations that would be my first question. The second one, just to -- in turn, you mentioned you expect to increase manufacturing capacity by 15% and warehouse capacity at 30%, right? If that's the case, in which regions are you going to do that? And would be focusing in Brazil next quarter or on a consolidated basis. These would be my major questions.

Sorry, Rodrigo -- sorry, sorry. But the first question -- we did catch your second question, but I think the first question was not that clear. So if you could first repeat your first question and then we'll answer that and then go onto your second one. Can you repeat your first?

Yes, sure. Yes, sure, sorry. Sorry, but that's okay. Now my question was on Bepensa, right? My question was if, at some point, it was the possibility for you to acquire the full bottling operations of Bepensa not just the water segment, but the full operations -- bottling operations of Bepensa, was that in consideration in this deal? Or you were not looking for that possibility. That was my question. I don't know if it was clear.

Perfect, Rodrigo. On the first question, this transaction that we closed last year was a very specific transaction that we were -- that made a lot of sense because it was in our territories. It helped us create a capability that we didn't have in that region to take advantage of the very good competitive position of that jug water business in that region to strengthen our capability of serving the direct-to-consumer market, that is a market that we're focusing on throughout Mexico. So that's the extent of that operation and what we are looking at for any foreseeable future. Regarding your second question, our creation of manufacturing and warehouse capacity. I think the good thing about this is that it's a good problem that we have throughout our operations with a lot of focus, I would say, in our 4 largest volume markets, which are Mexico, Brazil, Colombia and Guatemala. All of those 4 markets are very close to operating at full capacity, both in manufacturing and warehouse. But this is a problem that we see throughout our operations and given that we're promoting growth, and you've seen it with our numbers, we are expecting you to have to continue investing to create that capacity to serve this growth environment that we're facing. And obviously, coupled with our multi-category commercial platform initiative, which also needs to be, obviously, supported with the correct capacity to serve this market.

Okay. That's great. And just a third one very quickly on the very nice growth you reported there on the beer segment, you can comment but perhaps break on buyback pricing, volumes and essential comments about the performance of the Eisenbahn brand. Anything that you can comment us about that line about beer in Brazil would be also helpful.

Sure. Sure, Rodrigo. Yes, on beer, definitely during our previous call, Ian, expanded a little bit on what the trends have been across different segments from premium, mainstream and economy. And during the first quarter, we have seen a continuation of that economy. We are doing well, but it's a segment that has becoming smaller. Also we're gaining share there and also pretty much in line in the other segments, mainstream and premium with also what Heineken recently disclosed for trends for the first quarter. So all in all, we are focusing on the portfolio opportunities that we have. Eisenbahn brand as you know, is a brand that we are betting a lot on in the market. It's a brand that has a lot of potential, great recipe as well. So we're expanding its coverage. [indiscernible] as well. It's a brand that, as Ian mentioned in February, it's a brand that was not very present across our territories. Obviously, a small brand, but we are expanding coverage as well and leveraging those brands. And also what we're doing with [indiscernible]. So all in all, it's, in general, a first quarter that is in line with our expectations. And in line with the trends that, Ian, also described for beer in Brazil last quarter.

We will take our next question from Ricardo Alves from Morgan Stanley.

Yes. A quick one. It's actually just to double check. I think you mentioned in the preliminary remarks, your CapEx expectation for the year. But just wanted to make sure that I got that number right around 8% of revenues. So I just wanted to double check that. I asked this because we noticed FEMSA 20-F earlier this week. I think that it had a higher budget for cost CapEx than what we expected. So I just wanted to double check with you what is the most likely scenario for CapEx this year and perhaps next.

Yes, of course, Ricardo. We have a range of 8% to 9% of revenues, FEMSA, and I think was mentioned at the higher end of the range of the 8% to 9%, but that's where we are. And I think we spoke about this a little bit on our last call that this expectation for this year, we expect to continue for the following at least 2 years where we're trying to build this capacity to serve growth requirements of the business.

There are no further questions on the line, sir. Please proceed.

Thank you. Thank you very much for your confidence and interest in Coca-Cola FEMSA and for joining us on today's earnings call. As always, our Investor Relations team is available to answer any of your remaining questions, and we look forward to speaking again soon.

Thank you for joining today's call. You may now disconnect.