Constellation Brands, Inc. (STZ) Earnings Call Transcript & Summary

Greetings. Welcome to the Constellation Brands' Fiscal Year '27 First Quarter Earnings Call. [Operator Instructions] Please note that this conference is being recorded. At this time, I'll turn the conference over to Blair Veenema, Vice President, Investor Relations. Thank you. You may now begin, Blair.

Thank you, Ralph. Good morning, all, and welcome to Constellation Brands Q1 Fiscal '27 Conference Call. I'm joined this morning by Nick Fink, our CEO; and Garth Hankinson, our CFO. Before we proceed, we trust you had the opportunity to review the news release and CEO, CFO commentary made available in the Investors section of our company's website, www.cbrands.com. On that note, as a reminder, reconciliations between the most directly comparable GAAP measure and any non-GAAP financial measures discussed on this call are included in the news release and website. We also encourage you to refer to the news release and Constellation's SEC filings for risk factors that may impact forward-looking statements made on this call. Before turning it over to Nick to kick things off, please keep in mind that as usual, answers provided today will be referencing comparable results unless otherwise specified. Lastly, in line with prior quarters, I would ask that you limit yourselves to 1 question per person, which will help us end our call on time. Thanks in advance. And now over to you, Nick.

Thanks, Blair. Good morning, everyone, and thank you for joining us. Before we get into the Q&A, I'd like to share a few observations from my first 2.5 months as CEO of Constellation Brands. Having spent significant time in the market over the last several months, I am increasingly confident in the enduring strength of our brands and the role they continue to play in consumers' lives, even in periods when discretionary spending is more challenged. Over time, we have repeatedly shown an ability to create demand and scale brands through a combination of consumer insights, commercial execution and disciplined investment. That capability is reflected in the strength of our portfolio today, whether it's Modelo, Corona, Pacifico, Crawford or Me Compo, these are brands with strong identities, deep consumer connections and enduring relevance. I also believe some of our greatest opportunities remain directly in front of us. As bans become larger and more established, it is important to find new ways to remain relevant in consumers' lives. That requires the people understand their behavior, motivation and the moments that matter most to consumers. That's an area where I believe we have significant strengths and meaningful opportunity. Leveraging strong commercial capabilities, rich consumer insights and increasingly powerful data and technology tools that can help us move faster and make effective decisions. My focus is on ensuring that we continue to build on those advantages. And lastly, I believe the most successful companies are willing to challenge their own assumptions about where future incremental growth will come from while still executing with excellence in the core. We have a strong portfolio in attractive positions today, but we also need to maintain a forward-looking perspective about where consumer demand is heading, and how we can leverage our capabilities to continue to create value through disciplined investment and execution. Across all 3 areas, one common theme is the importance of developing world-class insights. The better we understand consumers and emerging trends, the better position will be to allocate resources, execute effectively and create sustainable growth. So while the quarter reflected a continuation of the dynamic consumer backdrop that we have been operating enough as late, my confidence in the long-term opportunity for this business remains strong. we have exceptional brands, outstanding people and a set of capabilities that position us well for the future. Now back over to you, operator, for any questions.

[Operator Instructions] And our first question is from the line of Nadine Sarwat with Bernstein.

Nick, your prepared remarks touched a lot on your refined strategy for Constellation. So perhaps a 2-part question for me on strategy. First, you intend to deploy a different playbook to sustain growth at scale versus scaling emerging brands. How could that different playbook look like in practice? And then second, you called out exploring white spaces where you have a right to win. Is this organically, through acquisitions? And what white spaces are you seeing as most attractive today?

Sure. And thank you for the question. I'd be happy to give some perspective, Nadine. I think there's little doubt about our capability to scale [indiscernible]. So we've got this incredible track record. And as I've spent time much deeper into it with the teams as well as just getting out into the market where our distributors talking about it, there is an execution playbook, it's disciplined, and frankly, it's the best I've seen. It's thoughtful, it's considered and there is a way in which we build distribution, we build awareness. We do it in a sustainable fashion that we know is going to hold over the very long run. And you've seen us do that over many decades, but like Corona [indiscernible], Modelo and some great rising stars in the portfolio, we'll continue to do that. So a little doubt, and I'd say best-in-class ability there. You then go to some of the places where we've scaled a brand. And I look at a brand like Corona where the brand metrics are phenomenal, most loved beer brand. We've got the right distribution. We've got great awareness. Really, the brand healths are green across the board. The the way to continue to maintain and grow a brand like that will be different to the playbook in which we're driving awareness and driving distribution and there's still opportunities there. It becomes much more about saliency and relevance connecting with the consumer where they are, understanding RGM and price pack architecture, connecting into the right cultural moments, being visible in the places where they are in the way that they want to interact, connecting into the right types of occasions. It is a different playbook, but it is one that many great consumer products companies do at scale and do very well. And I think it's a place where we'll continue to sharpen the capability and get after that. And if we can do both of those things, there is a ton of value creation to be had there. There's no question on online. And then you go to the third place you referenced, which is white spaces. And we have a consumer that's evolving quickly. We have a customer that's evolving quickly. We have shelves, right, that are evolving and look pretty different to the way they looked 5 years ago, 10 years ago, and there's a lot happening. And so being open-minded to what is happening in those spaces, what are facts and what are trends, being able to know the difference between those things, knowing what's sustainable, it's not sustainable, seeing where momentum exists and then in a thoughtful, disciplined way being able to get after that. And so an example for already in our portfolio, you take Corona nonalcohol. Here's a brand that we have strong double-digit growth behind. We're now #4 in the category. That's a space we weren't playing in. should we be putting more fuel on that fire because the buyer is burning. And that's a great example of whitespace didn't really exist for this company. Now we got a toe in the water. Do we want to go double down on something that we've already got some real momentum behind and be willing to invest, again, in a disciplined way. I'm not talking about going out and making huge bets and how it comes. But we and I think have done a much better job over the last couple of years of developing test and learn capabilities, ways to go, try one market versus a different markets, see what works, see where we're going to accelerate, see where we want to be agile and change, and that would be an example of a place where we might go do something like that.

Our next question is from the line of Filippo Falorni with Citi.

You called out in the prepared remarks, it's been pretty volatile start of the year, strong March and then softer April and May. So I was hoping you can give us a little more color what you're seeing in June given -- especially given the gas prices have moderated a bit more recently? Are you seeing improvement in consumption trends as gas prices come down? And then also, obviously, in June, we've had 3 weeks of World Cup. So maybe you can give us some perspective there on the consumption on your brands around World Cup, and whether we should see a further potential improvement in the on-premise business where a lot of those occasions potentially reside?

Sure. I'll be happy to jump in with some perspective and Garth perhaps share some color as well. There is no question it was a volatile quarter. I mean you saw -- you see it in all the Circana and another data, right, a very strong march out of the gates. And I say in a more normalized consumer environment a lot of great interaction with both us and the category but particularly our brands resonating very strongly. And then a massive spike in gas prices, and we did see the consumer to respond by slowing down. And I think not to be unexpected and that's not just us. I mean, as we've talked to even other companies in the consumer flare, traffic is down, a lot of choices being made. And as we ended the quarter and got to the early part of this quarter and some of those headwinds have moderated, we've started to see a modest reacceleration, I wouldn't say back to where we were much, but a healthy return to some growth rates and the Circana data just even for the last week was very encouraging, not just category, but really around our brands, which are somewhat more premium positioned and very attractive to the consumer. We saw some very strong numbers as consumers get to make the choices that they want to make and would like to make. And so encouraging in a somewhat more normalized environment that the portfolio is more than holding its own and responding to really well. And then certainly, it's been great to see both World Cup and some of the energy that we saw in one of our key markets like New York run, the [indiscernible], which was, to me, I think, yes, some lift from that. But even just more importantly, consumers engaging in that beer occasion coming together in the on-premise, in the off-premise, the pictures from New York, I thought were remarkable, just young people being together watching the game projected on the size of buildings and those are beer occasions, right? It's just a great reminder to that consumer of the role that this category can play in their lives, and I think having these great events rolling through the summer could be quite meaningful in that regard. Anything to add?

I think you hit it all, Nick.

Thank you.

The next question is from the line of Lauren Lieberman with Barclays.

Great. Just getting to the quarter itself, I was struck by the fixed cost leverage that looks like you enjoyed this quarter with the gross margins, the margins for me at 39%. So I just wanted to talk a little bit about the drivers of that, the 1.8% shipment growth is certainly better than what was anticipated. But it's a high bar for the margin with volumes still sub 2%. So just kind of curious, as we think about that going forward, you're absorbing incremental depreciation, but again, the strength of the margin in the quarter was particularly strong. I just want to understand the building blocks better so we can think about the path forward.

Lauren, thanks for the question. And really, you hit on it. We had about 30 basis points of benefits this quarter versus last year really due to fixed over absorption -- largely due to fixed over absorption, as you say, related to the higher shipment. In addition to that, we also continue to make great progress on our cost savings agenda, and that was certainly a benefit. We also had 20 basis points of favorability due to pricing net of mix. And that was offset by about 30 basis points of currency headwinds and other small things that will flow through cost of goods. So that really is what drove the favorability on gross profit margins. On operating margins, we declined 10 basis points. We had the 20 basis points of variability on gross margin expansion, but we had a 20 basis points headwinds on increased SG&A, similar to last year, as we've added employees to support Veracruz going live later this year. We've brought those folks online. And until those -- until Veracruz commissions, they will sit in SG&A rather than COGS. And then we had 10 basis points of headwinds related to incremental marketing, mostly to support the World Cup that is happening now, as we indicated at our April earnings call. As we look forward into Q2 and Q3, we would still expect gross margins to be strong, but we will see some incremental headwinds as it relates to operating margins. Keeping in mind, we've increased our marketing spend expectations for the full year to drive incremental marketing investment, particularly around the World Cup and College Football and the NFL. So you'll see in Q2 and in Q3, a spike in marketing as a percent of net sales. As we said in our prepared remarks, that will be over the 10% in those 2 quarters. And then in Q2 and Q3, we will see SG&A increases. They're a bit more material in Q1. A big part of that is lapping last year's lower compensation benefits related to incentive income or incentive compensation.

Our next question is from the line of Dara Mohsenian with Morgan Stanley.

You mentioned in the prepared remarks you're looking to extend participation across more occasions. Just high level, can you give us a bit more detail there on how you execute that? Is it more marketing on base brands and refining that? Is it more through innovation? Is it more through moving into new areas or the white spaces through M&A? And just wanted to get a bit more detail on how specifically you do that. And then obviously, moving into white spaces potentially is a piece of that. So how significant a focus do you expect the white space expansion to be just relative to driving base business brand trends?

Yes, I'll start with that. Look, I think the headline is there will be no greater way we can create value than nailing this with our core brands and core portfolio period, right? And so when I talk about an understanding consumer occasions, it's really sort of taking the blinders off of not just thinking about our brands as they compete versus another beer or to be even more Mexican beer, but actually, how do you look more broadly at what is the choice that your consumer is making in that moment, right? We -- and the team does some fantastic work. We have a whole wheel of identified different consumer occasions. And so -- and then we make focused choices like here's where we want to compete and here's some moments where maybe we're happy if you take our product, but we're not spending to go win that moment in the same degree. But then understanding against other -- not just other beers for the beer brands that can find Wine & Spirits as well, not just within your category, but what choices as consumers increasingly cross up what choices are they making? And then how do you remains salient, and you win even with the core portfolio in that moment? And if you can do that, then you can actually, even within the beer portfolio, start to create some differentiation amongst our brands, right? They have different brand personas. They appeal to -- they have a lot of similarities, but appeal to slightly different consumer groups, different age cohorts, they be different [indiscernible], similar work that we're doing behind Pacifico, which is more lifestyle-oriented, more around adventure, doesn't necessarily play in some of the same moments. And if we're able to do that, then you expand the aperture of what these brands can do and how they can play. And frankly, I think you can get after a larger addressable moment and compete in a greater way as a portfolio as opposed to duplicating some of the activities. And so that's first and foremost. To the extent that within that as well, we identify other opportunities where the consumer is looking for something. And we think that is a space in which we can participate in a meaningful, but disciplined way. I think we should consider that as well and I gave the example earlier of [indiscernible] up, right? That business is growing strong double digits. Our consumers are telling us they love the product. We haven't put a ton behind it yet, should we start to participate that not just think of it as a product, but what is the occasion in which in which they're consuming that product. Is it an occasion where they don't want no alcohol at all. There's an occasion where they're actually combining use of it with some of our alcoholic products and extending occasion. And I think having that very strong consumer insight then definitely leads to an ability to execute in a much more targeted way and grow the addressable moment as well as our share at that moment.

Next question is from the line of Chris Carey with Wells Fargo.

I wanted to ask about I guess, the complexity of -- or the complexion rather, of the portfolio. Modelo Especial remains sluggish, Corona Extra has obviously been a bit of a challenge, and you're seeing kind of tremendous growth in other parts of the portfolio that are lifting up the portfolio just a bit. I think the sustainability of some of those faster growth offerings feels quite durable, but there remains question marks around, most importantly, Corona Extra and then Modelo Especial just getting back to a bit of growth. Can you just give us a bit more context on how you see these 2 brands specifically and a bit more detail on what you're doing to to reaccelerate? And maybe most specifically with Corona Extra, given the duration of the headwinds that the brand has seen?