Davide Campari-Milano N.V. (CPR) Earnings Call Transcript & Summary

Good afternoon. This is the chorus call conference operator. Welcome, and thank you for joining the Campari Group First 9 Months 2021 Results Conference Call. [Operator Instructions] At this time, I would like to turn the conference over to Mr. Bob Kunze-Concewitz, CEO of the Campari Group. Please go ahead, sir.

Thank you. Good morning, and warm welcome to our 9 months call to everybody. If you have our presentation under your ride, I kindly ask you to move on to Page #3, where I'll kick off with key highlights as usual. As can be seen clearly highlighted in the chart, we have very strong business performance with double-digit growth across all of our indicators, both versus 2020 as well as 2019. Looking at net sales on an organic basis in the first 9 months, they're up 27.3% versus last year, and this is driven by the bounce back -- the strong bounce back in the on-premise as well as the sustained home consumption. Versus 2019, we're up 24%, and this highlights really the solid underlying business momentum continuing in the second year in a row. We have sustained net sales organic growth in Q3, up 12.8%, and this despite a very tough comp base. If you'll recall, we had a very strong Q3 in 2020 where we've grown by 12.9%. And the key drivers here are the aperitifs in their key summer season. We have a strong growth, obviously, also versus Q3 2019, up 27.3%. On an adjusted organic basis, EBIT margin is accretive by 410 basis points, and this is a result of gross margin accretion of 140 basis points, thanks to the strong high-margin aperitifs business, which more than offset the dilutive fast-growing Espolòn. A&P was neutral, and the SG&A line was accretive by 270 basis points. The EBIT adjusted margin accretion versus the first 9 months of 2019 is driven by top line growth despite the gross margin dilution effect due to agave. We had very strong cash generation. Net financial debt is down by EUR 177.8 million versus the end of 2020. And this brings the net financial debt-to-EBITDA adjusted ratio down to 1.8x. If you follow me to Page #5, you see that we have really strong momentum across the business, double-digit sales growth both versus 2020 and 2019 across all our regions and all our brand clusters. We're seeing, as I said earlier, strong momentum in the on-premise coupled with sustained home consumption. And that point is driven home further on Chart #6, where you see on a 2-year stack basis. So in comparison to the pre-COVID period, very strong double-digit off-premise sell-out data. Kicking off with our regions. Our largest region, the Americas, on Page #7. You see the Americas up by a strong 28% again, thanks to the strong on-premise momentum combined with the sustained home consumption. Starting with our largest market on an organic basis, the U.S., we are up 23.4%, very solid growth across all of our core brands with a positive performance in Q3, where we grew by 12.3%. And this is on the back of a 21.8% growth in 2019. Clearly, we've benefited very strongly from the on-premise reopening as well as maintained and grew share in the off-premise. In particular, Espolòn, Grand Marnier, Wild Turkey, Aperol and the Jamaican rums registered very robust double-digit growth. Our overall sales performance in the first 9 months versus 2019 is up 23.7%. Clearly, strong brand momentum across the portfolio driven by the brands I mentioned earlier. The off-premise sellout reflected a very tough comp base versus the first 9 months of 2020. Whilst on a 2-year stack, we're up by 37.7% (sic) [ 36.7% ], a growth in value versus the first 9 months of '19. You'll also recall that there were stimulus checks in consumers' pockets in September 2020, which actually generated a 44% value growth in our distribution network. So clearly, the comp in September was very, very tough. Moving on to Canada, up 10.7%. Very solid overall growth generated by Forty Creek, Grand Marnier, Appleton Estate and Espolòn. Our performance in Q3 was slightly negative, but this really reflects the tough comp base in the previous year. Jamaica, very strong, up 37.4%. Here, we have again a sustained off-premise performance and a recovery in the on-premise driven primarily by domestic trade, but also a resumption of international tourism. Brand-wide strong performances from Wray & Nephew Overproof, Campari, Appleton Estate and Magnum Tonic. The rest of the region was up 53.7% with a double-digit growth rate across every single market to be fair, though, against easy comp basis. Moving on to our second region on Page #8, Southern Europe, Middle East and Africa were up by almost 32%, and this is largely driven by the on-premise recovery. Italy, the largest market in the region was up by 29.6% organically, very, very positive. We're growing 50% faster than the market. And this is thanks to the recovery in the on-premise and the fact that 'revenge conviviality', is very alive and doing well. We've benefited to be fair also to the easy comp base on a 9 months basis last year where we're down by 11.6%. Obviously, the comp base has changed once we look at exclusively Q3. Key brands here are aperitifs of Aperol, Campari and Campari Soda leading the charge with strong double-digit growth rates, whilst Crodino is up by high single digits. Importantly, the performance in Q3 was positive. We were up 1.3%. This on the back of a very, very tough comp base. You'll recall that in Q3 2020, Italy was up by 35.4%. Obviously, we've benefited by -- also by the staycation effect as well as from international tourism. Compared to the first 9 months of 2019, again, here, the performance is very positive, up 14.6%, way over-performing versus the market. Compared to Q3 2019, the performance was up by 37.2%, reflecting the very strong brand momentum in the key summer season. Moving on to France. France was up by 21.9% again, positive results of normalization in Q3 against a very tough comp base. The underlying trends remain quite positive. Growth in the 9 months, clearly, again, driven by Aperol, Riccadonna, Trois Rivieres rums, which we bought last year, Campari, Grand Marnier and The GlenGrant. The rest of the region grew strongly, up 62.6%, positive performance across all the other markets, thanks largely to the on-premise recovery as well as the help of an easy comp base. Moving on to Northern, Central, Eastern Europe on the following page, up again, a very robust 19.8% with very positive momentum across markets and channels. The largest market in the area, Germany grew 10.1% on an organic basis. And this must [ be seen ] as a very positive business performance because on the one hand, we've had a very tough comp base. We were up 11.6% last year in the first 9 months. And we're very happy to see that our momentum continued in Q3, up 7.7%, notwithstanding the quite adverse weather conditions during the summer and a less pronounced vacation effects as Germans took their vacations in the Mediterranean countries. Our performance in the 9 months was largely driven by Aperol, up by 9.7% as well as the very successful launch of the Aperol Spritz ready-to-enjoy. Campari grew very nicely as well as Grand Marnier and Crodino. The U.K., very strong, up 42.5%, this mostly driven by Aperol, Wray & Nephew, Campari as well as Magnum Tonic, which is becoming a significant contributor in that market. Russia, despite a complex situation from a COVID standpoint, the overall market doing very nicely for us, up 32.2%. Again, some normalization in Q3 versus the first half, but very sustained double-digit growth rate of Aperol, Mondoro and Campari. The rest of the region was up 20.9% again, strong positive performance across markets, largely driven by Aperol. Closing up with our smallest but fast-growing APAC region, up 30.4%. And this continued growth, obviously, was helped by some shipment recovery due to the route-to-market changes we had in Asia last year. Australia, on an organic basis was up 5.7%, quite a solid performance against quite a tough comp base. We were up 21% last year. This was helped by a strong start to the year. Q3, on the other hand, was down by low single digits due to a combination of snap lockdowns which impacted particularly in our 2 largest states as well as the beginning of supply constraints linked to trans-ocean shipments. The underlying trends in Aperol, Campari and Espolòn remained very strong. And the launch of Aperol Spritz ready-to-enjoy was also a success in this market. Looking at the rest of APAC region, we're up a triple-digit, 120.2%, very positive results in Japan and China and Korea were also positively impacted from the strong shipment recovery post the route-to-market changes. The triple-digit growth in China was driven by X-Rated Fusion Liqueur, SKYY Vodka, Aperol, Grand Marnier and Wild Turkey. Japan also was up by strong double digits driven by Wild Turkey bourbon, Grand Marnier, The GlenGrant and Campari. Moving on to Chart #11 and the review by brands. You see Aperol, very, very strong, up almost 40% versus last year, 33.2% versus 2019, very positive performance across the board in markets. We've been able -- thanks to the reopening of the on-premise to renew our recruitment drives, and this obviously has generated quite a boost for the brand, and we're also seeing sustained home consumption. Our core markets such as Italy, the U.S., France, the U.K., Russia, Switzerland, Belgium, Austria, grew by sustained double-digit rates, whereas newer markets such as China and Mexico grew even faster, up triple digit. The positive momentum continued in the key summer season, with Q3 up 15.5% against a very, very tough comp base. On a 9-month basis, we grew by 33.2% versus '19. Clearly, this is a really a strong mark of how the brand is doing. Campari as well, benefiting from the same effect, up 28.4% versus '20 and 27.1% versus '19. We have strong growth across all our major markets, where we're benefiting from home mixology trends as well as very positive on-premise momentum, which is largely driven by the Campari spreads. Moving on to Chart #19, you can see the strength, the underlying strength of our aperitifs versus the 2019 unaffected base. Growing at a very sustained double-digit rate, both on Aperol and Campari across all of our markets. And importantly, you also see that the sell-out, the off-premise sell-out is stronger than our shipments, value organic growth. So that means that there's quite a bit of tension at the [ stock level ], and we don't have much on the shelves. Moving on to Chart #13, Wild Turkey, also double digit against both years. On the one hand, there is an easy comparison base, but the U.S. is driving very nicely, also helped by the solid category momentum. Australia was flattish due to the tough comp base, up 28% last year as well as some trans-ocean shipment delays. Looking at SKYY, we're up 11% versus last year but down 6% versus 2019. We have an overall positive performance in international markets, particularly Argentina and South Africa as well as Germany and China. The U.S., where the brand was relaunched in July, was slightly positive. Now compared with the first 9 months 2019, our performance on this brand is negative, and this is particularly due to the destocking effect, which took place in the U.S., during 2020. Moving on to Grand Marnier, which is going from strength to strength. Up 43.3% versus last year, 28.3% versus 2 years ago. This growth is clearly driven by the core U.S. market, which is benefiting from a very positive homemade cocktail consumption boom, and particularly the success of the Grand Margarita in both channels. Our Rums portfolio, up 28.2% versus last year, 35.1% versus 2 years ago. If we break this up, Appleton Estate, which is really benefiting from the relaunch we did last year behind the renewed range, more premium packaging and price increases was up, overall, 38.2%. Clearly outpacing the Rum category in its core markets. Wray & Nephew Overproof also grew by strong double digit, 23.7% and this thanks mostly to Jamaica, the U.K., Canada and the U.S. Closing up with our regional priorities -- sorry, no, we're not closing up yet. But moving on to the regional priorities. Espolòn despite 2 price increases in the past 18 months, continuing to perform very nicely at 41% versus last year, a whopping 83% versus 2019. Clearly, very strong growth driven by the core U.S. market, and we're also doing very well in all of the seeding markets. Bulldog is also benefiting from reinforced marketing spend behind it, growing by 46.6% versus last year, 16.6% versus 2 years ago. Key markets here are Spain, Italy, Germany, Argentina as well as Global Travel Retail. The GlenGrant, growing very strongly on a value basis versus last year, 36.3%, flattish versus 2019. This overall positive performance is, yes, against an easy comp base. But on the other hand, you really see a big change in the mix of the brand as we're repositioning in the premium -- super premium end. So we're gradually shifting from high volume and shortage variants into premium higher-margin propositions. Our Canadian whiskey, Forty Creek, grew double digit, 10.9% versus last year, 19% versus 2 years ago, and this is mostly driven by Campari. We're also happy to see our Italian amari portfolio, returning to growth. We were down 1.9% versus 2 years ago, but up 20.3% versus last year, benefiting from the reopening of the on-premise and revenge consumption. The Cinzano franchise also up double digit. And here, it's mostly driven by the Sparkling Wine, with the Vermouth higher-end expression also contributed. Last one but not least, are more premium Sparkling Wines, Mondoro and Riccadonna growing very strongly, up 56.7% versus a year ago, 68% versus 2 years ago, and this is mostly due to Russia, France and Peru. Now finally, closing with the local priorities. You see Campari Soda, which is continuing to give us a lot of satisfaction and that's very important for us, up double digit versus both reference points and then building momentum this year, up 40%. So clearly, the relaunch, which we activated last year, and the increase for cocktails to go in Italy are benefiting this brand. Crodino is growing versus last year, but it's down versus 2 years ago, down 11.7%. We have 2 stories. International markets are growing double digit, Italy is slower. But again, this is a brand which will benefit in the months to come from their relaunch. The Aperol Spritz ready-to-enjoy growing very strongly, almost doubling versus last year and growing by 156% versus 2 years ago. Thanks to the highly successful introductions in Germany, in Australia and continued strong growth rates in Italy. The Wild Turkey RTDs in Australia, up only 4.9% this year. This is clearly against a very tough comp base last year, but up 33.4% versus 2 years ago. Magnum, which is becoming a priority in 2 key markets, not only in Jamaica, but also in the U.K. now, growing by 66% versus last year, 90% versus 2 year ago. Closing up with X-Rated, which is particularly strong in China as well as Korea, growing by 128.5% versus last year and 181% versus 2 years ago. So this is it, in terms of the top line review, and I'll pass on to Paolo, who will take you through the intricate details of our financials.

Thank you very much, Bob. If you follow me to Page 17, we have the P&L at a glance. As you can see to the right-hand side, in the first 9 months of 2021, net sales came in at EUR 1.5757 billion up 22.9% on a reported basis versus 9 months of a year ago. And EBIT adjustment adjusted came in at EUR 359.8 million up 44.8% versus a year ago, showing 350 basis point EBIT margin expansion in the first 9 months of the year on a reported basis. If we focus on the organic performance versus a year ago, first 9 months, net sales were up 27.3%, and EBIT adjusted that was up at 54.2% showing 410 basis point organic expansion. As you can see to the bottom of the chart, organic change in EBIT accounted for EUR 134.8 million where basically gross profit contribution accounted for EUR 230.8 million in value and corresponding to an organic growth of gross profit of 30.3%, leading to 140 basis point gross margin expansion. The contribution from gross profit was partly reinvested in A&P step-up accounting for EUR 58.5 million as well as investments in new capabilities, route to market by EUR 37.5 million still up 12.6% below top line and leading to 270 basis point EBIT margin expansion. On the other hand, the combined effect of negative Perimeter and negative Forex drove an EBIT erosion of EUR 23.5 million in value and 60 basis points in marginality. To the right-hand side, we have the comparison versus 2 years ago, first 9 months of 2019. And even here, you can see the organic growth has been quite robust with net sales up 24% and EBITDA adjusted, up 31.7%. And EBIT margin accretion of 140 basis points, notwithstanding negative gross margin on sales over the 2 years of 130 basis points. If we compare the third quarter on a stand-alone basis, versus a year ago and 2 years ago. Organically, net sales were up 12.8% and 27.3%, respectively, and EBIT adjusted was up 16.2% and 29%, respectively. In both cases versus a year ago and versus 2 years ago, EBIT adjusted in the third quarter of the year was increasing ahead of net sales with 70 and 30 basis points accretion, respectively. If we move on to Page 18. More in detail. Gross profit on a reported basis was up 26.2% in value with 160 basis point accretion for each and any P&L line, we have highlighted the performance versus both a year ago first bullet and 2 years ago second bullet. So versus 2020, organic growth organically. The organic growth of gross profit accounted for 30.3%, stronger than top line, leading to 140 basis point margin accretion against a favorable comparison base. The margin expansion accelerated in the third quarter of the year, as we saw before, it accounted for 170 basis points and was driven by a solid mix, thanks to the outperformance of both high-margin aperitifs and high-margin premium spirits. And secondly, price increases in selected brand market combinations that we've started to take. On the other hand, again, as a positive, thanks to a very robust top line growth rate. We have a stronger absorption optics production cost. And also the suspension of the U.S. import tariffs was a positive effect. Those effects more than offset the intensified input cost pressure that we've seen in the third quarter of the year, particularly in logistics costs, which were also combined with elevated agave purchase price, although on the agave purchase price, we see an improving trend versus 2 years ago, organic growth of gross profit accounted in value for 21.4% with a dilution of 130 basis points, mainly driven by the outperformance of Espolòn, which in isolation, accounted for a gross profit dilution of 150 basis points. On the A&P side, on a reported basis, a big increase in A&P in value by 24.5% with 20 basis point dilution versus a year ago, the strong A&P organic increase of 27.2% reflected the sustained investment behind key brands, in particular, the aperitifs in their key summer season. The increase in A&P was fully absorbed by strong topline growth, hence the mark was margin neutral. If you look at the third quarter on a stand-alone basis versus a year ago, A&P was up 13.6% in value against a tough comp base and was slightly dilutive on margins, versus 2 years ago, A&P was up in value by 18.2% in the first 9 months with a margin accretion of 80 basis points, which was totally driven by the strong topline growth. Looking at the third quarter in isolation, A&P versus 2 years ago was up 33.6% in value, confirming the continued A&P step up to build brands in the future. Looking at the SG&A line, on a reported basis, they were up 11.9% in value with a 210 basis point accretion versus a year ago, the SG&A increased by 12.6% in 9 months with margin accretion of 270 basis points, driven by strong top line growth. Looking at the third quarter in isolation, SG&A organically were up 18%, growing faster than topline and driving a margin dilution of 90 basis points, on the back of investments in enhanced business infrastructure and cycling through lower discretionary spend. Looking at the 2 years ago comp base, SG&A were up in 9 months, 13.7% in value, with an acceleration in the third quarter where we had a 20.3% increase of SG&A organically. And that SG&A increase was primarily attributable to the announcement of capabilities. The overall margin accretion in 9 months versus 3 years ago accounted for 180 basis points. Net-net, EBITDA adjusted on a reported basis was up 44.8% as we saw 350 basis points and organically, we reiterate organic growth of 54.2% in value and 410 basis points, quite a strong performance and organic growth versus 2 years ago, 31.7%, and 140 basis point accretion against any year that was not affected by COVID is, again, a very strong performance. Moving on to Page 19. We see the P&L below EBIT adjusted. We report operating adjustments of EUR 9.7 million, well below the EUR 48.3 million of last year, which were attributable to brand impairment losses and EUR 9.7 million operating adjustments were attributable to tailwind effects of restructuring initiatives, namely Jamaica and nonrecurring retention schemes. With regards to financial charges, if we carve out positive exchange gains of EUR 3.9 million, net financial expenses came in at EUR 19 million, EUR 8 million below last year despite higher average net debt EUR 1.04 billion this year versus EUR 948 million of last year. The compression of financial expenses was due to a lower average cost of net debt, 2.4% this year versus 3.8% of last year, and the decrease in cost of net debt is primarily attributable to a lower average coupon for the long-term debt on the back of liability management initiatives that have been carried out in 2020 as well as due to a lower negative carry effect. On a positive side, again, we have positive financial adjustments of EUR 4.7 million attributable to positive successful closure of the dispute in Brazil. That has been which -- whose costs have been accrued in prior years. And then we have tiny profits from JVs where the cost of the [ colon ], the South Korean JV was below expectations. Group profit before taxation came in at EUR 341 million, up 79.4% in value on a reported basis. But if we carve out the operating adjustments of EUR 9.7 million, which I've mentioned before, as well as the positive financial adjustments of EUR 4.7 million. And lastly, the positive adjustment related to remeasurement of JVs and associates of EUR 2.9 million. The group profit before taxation adjusted came in at EUR 343 million, up 56.1% in value versus a year ago. If you follow me to Page 21. In closing, we have the net debt picture. Quite a strong cash flow generation with a net debt compression of EUR 177.8 million versus December of last year, down from in value, EUR 1.1038 billion to EUR 926 million. On the back of the robust cash flow generation as well as the steep rise in EBITDA, we see the leverage ratio, the net debt-to-EBITDA ratio coming down 1 turn from 2.8x to 1.8x. So even here, very solid delivery. I think this is it on the numbers. Bob, I would hand back to you on the marketing initiatives and a conclusion.

Yes. Thank you, Paolo. Before getting to the outlook, some pretty pictures illustrating the strong marketing plans we're rolling out across geographies. Starting off with Campari, which benefited from a delayed Negroni week, which was in September this year versus the May-June period, we used to do in the past. A very strong presence with the Fellini Forward film in film festivals, dominating Venice, very strong presence in New York, Locarno, and Melbourne. And this is quite an out-of-the-box exercise as we used our artificial intelligence to analyze Fellini cinema techniques and then apply that with biography of his. Moving on to Aperol. We really painted every possible spot, that free orange this year across Europe, the Americas as well as APAC, and that has been very, very beneficial to our recruiting efforts and the long-term growth of the brand going forward. We also have an important milestone on the brand. We opened the first Terrazza Aperol in Venice. As you know, Venice is really the birthplace of the Spritz and the Aperol Flagship, which is owned by us is in Campo Santo Stefano which is absolutely strategic as 9 million tourists go by there every year. And it will enable us to develop a model, which we then expect to export across international markets. While Turkey is benefiting from a new campaign with Matthew McConaughey who is doing quite a bit to premiumize the brand, and we've also done that with the new packaging on 101. At the same time, the brand is collecting many, many accolades, particularly on the high end of the brand with Kentucky Spirit and Rare Breed in all sorts of competitions. The premiumization of GlenGrant continues. We introduced a month ago in London at the Rolls Royce shop the 60-year-old anniversary edition. It was a fantastic launch event. It's a very limited addition, 360 of them priced at EUR 25,000 and upwards. And we're very pleased to say that most of them have already been sold and some of them have been sold at auction at EUR 50,000. So this bodes well for the premium development of the brand. This is it from a marketing standpoint, the complete outlook. I think there's no point going over the conclusion, very successful first 9 months, thanks to sustained home consumption and revenge conviviality in the on-premise with us really benefiting from the strength of our brand, strong marketing program, continuing to take market share across markets and channels. Looking at the remainder of the year with regards to the underlying performance, we expect our positive brand momentum to continue. We expect the favorable sales mix to continue in the last quarter as well, partially offsetting the intensified input cost pressures and the logistics costs as well as the accelerated brand building investments and structure costs phasing, so particularly incentives for the Campari's [indiscernible] as well as hiring catch up. Looking at Forex and Perimeter effects on EBIT adjusted, we do not expect Forex to materially worsen in Q4 on the Perimeter also broadly unchanged on a full year basis versus our previous guidance with an estimated negative effect of approximately EUR 9 million mainly due to termination of agency brands. Looking forward to the future years, there is some uncertainty, which remains in connection with the evolution of the pandemic and what the pandemic also induced in terms of logistic constraints as well as intensified input costs. This despite the improving -- nicely improving agave outlook. Having said that, though, we remain quite confident about the solid business momentum, and we will continue to invest behind our brands and capabilities and keep on building momentum on that. So this is it on our side, and we're all ears waiting for your questions.

[Operator Instructions] The first question is from Simon Hales with Citi.

Bob, Paolo, two questions, please. Can I ask a little bit first about sort of how you see profitability really developing in Q4? I know you won't want to comment specifically about consensus. But for what it's worth, when I look at work in consensus, it looks to be around EUR 90 million of EBIT to the fourth quarter. That's clearly a long way below where we were sort of pre-COVID in 2018 and 2019 for the fourth quarter. Is there anything specific that we should be thinking about as we think about the increasing costs in Q4 at higher A&P that you've talked about higher SG&A costs that could really mean that you could be significantly below 2019 levels of profitability in Q4? Or is it just that consensus is just plainly wrong at this point? And then my second question is just looking forward to your comments then, Bob, around input cost pressures as we look into 2022. Where are you seeing those pressures building most in your business? And are you able to share any more detail about the scale of the COGS inflation that you're seeing and your confidence in your ability to offset at least a significant part of that through pricing.

These are questions for me, I believe. With regards to Q4, the first question, if I remember it well, is around the SG&A cost in Q4. Now if you look at the development of structural cost in 2022 versus 2021, we have 2 factors here. On one hand, we have a phasing effect where clearly, we've put on hold hiring -- new hirings in the company for a good year. So you have no phasing effect of SG&A buildup across the quarter. And secondly, you have the effects of the accruals on STI and MTI where basically last year, the Q4 of last year, we've clearly reduced the STI and MTI to take into consideration the deterioration of the company performance. Whilst this year, we're basically -- we're increasing STIs and MTI to reflect the robust performance of the business. So I think a better way of measuring the SG&A trajectory is to compare the Q4 performance to the one-off -- to the performance of 2022 versus 2019 so 2 years -- '21 versus 2019, so 2 years ago. So comparing not with 2020, but with 2019. So we think if you take Q3 of 2 years ago, the SG&A were up about 20%. So I think we will marginally increase versus that trajectory, but I think this is a number which takes into consideration of the effects of phasing and as well as one-off effects that I've mentioned before. Then you have, I believe, a question on gross margin on Q4. We expect that although we've spotted some sort of risk on input cost pressure, given the stronger underlying business momentum and sales mix, we expect Q4 still to have a gross margin accretion. And so we're not really changing our guidance on a full year basis in terms of gross margin as a percentage of sales. Where to -- everybody on the same page is to recover at least 50% of the 280 basis point gross margin on sales shortfall that we've been [ courting ] in 2020 versus 2019. And then I think you had a third question that is looking beyond in 2022, how do we see margin evolving. And here is the -- due to the deterioration of input cost environment, particularly on logistics. We believe that our goal of covering in 2022, entirely, the gross margin as a percentage of sales shortfall of 280 basis in 2022 that plan is to be probably shifted by 6 months. So we'll -- we believe that we'll hit our goal of achieving neutral gross margin on sales, neutral versus 2019 by the end of first half of 2023 as opposed to December 2022. So that's how we see it. We see, in the last 3 months, we've seen a further deterioration of input cost environment. But we think this is probably a temporary effect. And in the second part of next year, I think things are destined to improve. For the next year, we're overall targeting an increase of cost at constant volumes of about 5%. So that's the number that we will factor in our plan, including any potential savings coming from agave. On the other hand, that 5% will be more than offset by a combination of savings improvement, and we have seen that the mix has been positive so far. And we'll keep on being positive in the future. Then as we have highlighted, we have a number of initiatives, internal initiatives to achieve efficiency in procurement and production. We can also rely on operational leverage in production costs, where a good chunk of production costs are fixed. And given the robust topline, we have some opportunities there. So I think overall, we'll deliver gross margin accretion. But overall -- and of course, price increase, I forgot the most important piece, be quite aggressive on pricing next year. So the goal is to achieve gross margin expansion in 2022, although at a more moderate pace vis-a-vis what we initially imagined, given the short-term bump in the procurement arena.

That's really helpful, Paolo. Can I just check on the pricing point? Have you taken any pricing sort of recently -- as we've headed into Q4 in any particular markets on your main brands?

We've taken price - we're being quite aggressive on tequila, for example.

That was at the beginning of Q3?

Beginning of Q3, but most of the price increases will be effective, fully effective from Q2 onwards, I would say. This is when we're negotiating price increases and that will become effective from Q2 onwards. So we -- if we look at the phasing, probably we will have tougher comps at the beginning of the year, Q1 and Q2 in terms of margin and easier comps in the second part of the year on the back of easing market conditions on procurement, on input costs and the benefits coming from price increases that have a little bit of delayed effect in the second part of the year.

The next question is from Laurence Whyatt with Barclays.

You've highlighted in your presentation at the cost of agave is making Espolòn dilutive, and you mentioned in response to Simon's question, it might be a little bit better recently. I was wondering if you could quantify any movements you've seen in agave in recent months and also what your expectation on agave pricing is for 2022? Secondly, you've mentioned you're doing a step up in your A&P investment. Your peers are also saying similar things. Are you seeing evidence of aggressive pricing at all in the market, or is it becoming more expensive to do the advertising? Or are you simply just getting better returns from your advertising? And finally, U.S., consumers appear to be drinking overall more volume of alcohol from the data that we can see. Do you think that the overall volume has materially increased versus 2019 levels? Or is this simply a price mix thing that means that the overall value is increasing, but volume's staying similar?

I'll take the last 2 questions, and have Paolo take a break. Now with regards to U.S., drinkers, I mean, we met with our U.S., distribution partners last week. And in terms of volume, I mean they were saying that volume growth is pretty much stable across years. We're talking about something around 2% with more of the growth actually coming from price mix and mostly mix. Yes. Now on A&P, I mean, the reason -- I mean, the step-up in A&P, we're talking about is within the usual range, which we've always mentioned, which is plus or minus 20, 25 bps. So we're not talking about anything huge. But clearly, there will be a step up in Q4, which then will have that impact on a full year basis. And the reason why we're doing that is that we're seeing very good ROI behind our digital efforts, and we see a great opportunity for our premium plus aged dark spirits in the last quarter of the year for gifting purposes. So it is really an opportunity we see ahead of us.

Yes. With regards to the agave, we have 2 factors here and the overall cost of an internal cost of production of tequila. With regards to the agave price, we're seeing improving conditions and these declining prices are destined to continue in 2022 and if anything, we'll accelerate. So within the 5% at cost and volume, cost increase for next year, we've embedded a decline of the agave. So we think we're well covered there. So we're on a declining trend. Secondly, in 2021, clearly, we're being penalized from a production perspective by the fact that the huge rise in tequila demand and the steep price of the Espolòn brand led to poor performances on distillation with lower yields on the agave distilling -- cooking, milling and distilling. So this is something -- it's one of the production efficiency programs that we've launched and that will help offset the overall input cost pressure in 2022. So I think the worst is clearly behind us on the agave. It's just a matter of speed of recovery. But if you look at the comp base versus 2019, we're saying we're still lagging behind by 140 basis points versus 2 years ago in terms of gross profit on sales, 150 basis points is explained by Espolòn. So if we manage to stabilize that, we would be in a better spot to achieve our goal in terms of gross margin on sales by H1 2023 parity versus 2019.

The next question is from Andrea Pistacchi with Bank of America.

Bob and Paolo, I also have 3, please. The first one on the pricing environment in the U.S. You were saying earlier you're quite optimistic about pricing next year. But pricing in the U.S. hasn't been easy for the most categories in past years. So do you think the current environment with all FMCG companies facing cost pressures and clearly a very healthy spirits industry backdrop. Could all this put together, do you think mark the return to probably more sustainable pricing in the U.S. market? And second question on Europe. You've seen clearly remarkable growth, very remarkable growth in Europe versus 2019, even in some of your more mature markets. How do you think about the medium term in some of these countries like Germany, Italy? Do you think the big step-up that we've seen versus 2019, the higher base, this higher base could actually be a new level upon which to grow from or maybe some of the staycation benefit or revenge conviviality maybe some of this comes out going forward? And then the third one is just onto a follow-up, please, on SG&A. Paolo, you were saying SG&A up 20% in Q3 versus 2019, possibly a bit more in Q4. But I mean, historically, your SG&A has grown around 7%, 8% per annum. So this is quite a bit more. So is there anything specific, any specific capability build that you've done this year? And going forward, should, let's say, the growth rate of SG&A tend to normalize towards historic levels?

Andrea, I'll take the first 2 questions. I mean, first of all, with regards to pricing in the U.S., I mean, in the past or in the recent years, there hasn't been much real pricing being taken in the U.S. We're probably one of the few companies taking real pricing, particularly in tequila. But as you said, with these input cost pressures and really impacting FMCG companies and actually at a more heightened rate versus spirits, there is an overall environment where we believe that pricing will become a factor in the U.S. And all the spirits companies are on the same boat, and sooner or later, you face reality. So our expectation is that our pricing will start, real pricing and not just mix, will start happening in the U.S. next year. Now with regards to Europe, whether the current levels are new base, we think that overall, the base will be higher in Europe, but the growth will normalize in the years to come. Clearly, during lockdowns, spirits have penetrated even more households. You see that in the 2-year decks of off-premise sellout, which we've showed, even in markets like traditional online -- on-premise markets like Italy, you do see that you have double-digit growth. So we expect to grow from a higher base, but at a more normalized rate.

With regards to the SG&A point, it's a very good question. But if you factor in the numbers, a 20%-plus SG&A increase in Q4 versus 2 years ago, you still end up with a growth rate of SG&A over a 2-year period that represents a mid- to high single-digit growth rate for each in any year 2020 and [ 2019 ] average, which is not unconceivable considering the 2 effects. On one end, still versus '19, we have over 2 years, a double-digit growth rate. So you still have a drift of SG&A in value that is driven by variable compensation, salesforce and so forth, STIs and whatever. And secondly, clearly, the investments in Asia has been big over the last 2 years, notwithstanding pandemics. We've kept on investing to pursue the opportunities. And secondly, again, even centrally will significantly beefed up our capabilities in marketing and commercial capabilities as well. As well as we strengthen our presence in e-commerce and on trade. So I think, again, we've invested the organic growth rate of SG&A over a 2-year period is not off chart. It's marginally worse than it used to be before, but it's already explained by the reasons, the factors that I believe are very ideal. So you need to normalize everything because also, if you look at the progression of SG&A increase in 2021 versus 2019, still, there is a phasing effect because the increase is [ 6% ] Q1, 14% Q2, 20% Q3. So the combined effect of the fourth quarter is not the 20% that I've mentioned for the fourth quarter in isolation.

The next question is from Olivier Nicolai with Goldman Sachs.

Paolo, I've got a couple of questions, please. First, on the U.S., could you give us an update on your level of inventories and if retailers are complaining about shortages of some of your products, which could potentially impact the deflation in Q4? And also, you mentioned the stimulus for the consumer at the beginning of the conf call, stimulus has been scaled down. How do you see consumer demand into Q4 and also into next year? And the second question is on -- actually, a third question really is on France. Sales were down in Q3 so normalizing post a very strong H1. Now that you have integrated Trois Rivieres and you got the rough chart distribution for champagne, how should we think about the normalized growth rate in France going forward? Is mid-teens reasonable? And are you also seeking to add more brands to your portfolio to enhance the distribution?

Yes, Olivier. Now with regards to France, I mean, we are building momentum there. So we feel very comfortable about the robust growth in that market. Clearly, we have strong momentum behind Campari, behind Aperol, GlenGrant as well as some selected brands in distribution. Moving on to the U.S., what are our level of inventories? I mean, our inventories are actually quite low at both the wholesale level as well as at the retail level. So we can be faced with out-of-stock situations. For instance, we had that on the larger sizes of Wild Turkey in Q3. So our supply chain is working 24/7 to try and produce what is requested. The question mark is will the trucks show up to pick up the goods? Now we're working proactively ahead of time to ensure that we're not impacted by that. But we'll only know for sure at the end of the year. Clearly, consumer demand is very robust, particularly in the on-premise. I mean if you look at salesforce data, I don't know if you were familiar with that, that's basically consolidated distributor depletion data. If you look at by the end of August on a rolling 12-month basis, the U.S. was up 7.4% on value, the off by 5.9%, but the on by 17.7%. So clearly, very robust. And as you know, we also skew more to the on-premise in the U.S., versus the average of the market. So we're well positioned. We'll do our best to make sure the goods are there. Let's hope that logistics constraints do not become much of a handicap.

The next question is from Edward Mundy with Jefferies.

Bob, Paolo. A couple for me, please. The first is really around revenge conviviality, which has been very strong. What's your sense as to how long that might last before we revert back to more normalized consumption patterns? The second is on ready-to-drink or ready-to-serve. If we think while Turkey in the U.S., clearly, you're focusing a lot on brand building and premiumizing that broader brand family. But how do you think about the opportunity for really to drink for Wild Turkey in the U.S., if that spirits restrict piece is taking off. And then on the Aperol Spritz-ready-to-serve piece in Italy, Germany and Australia. What is the criteria when you think about broadening distribution outside of those markets? And then the final question is really around bringing distribution in-house. You've pretty done a lot of changes in the last few years. I mean, Japan and France have seen good success. Are there more opportunities to bring distribution in-house in other markets?

Yes. I mean, most of the distribution in-housing developments, as you know, have been happening in Asia, where we have high ambitions, and we've created a series of joint ventures. And that is a model which we'll probably pursue in the years to come on a market-by-market basis when the opportunity presents itself and the idea is how it's to go in with a strong local partner on a minority basis and then as the business grows, take it over. So it's quite, let's say, efficient from a financial standpoint. Moving on to your first 3 questions, revenge conviviality, I don't have a crystal ball, but I have a gut feeling that this is here to stay for longer than people estimate. I mean, if you think about how people are reacting to the opening and the fact that it's still uncertain whether -- when markets will shut down again, if you take a market like the U.K., for instance, where the cases of COVID are increasing significantly. I mean that's driving even more people to make the most out of the openings at this stage. And there's this sort of carpe diem mentality, which I personally think is going to last at least for a few more years. But history will tell whether I'm right or not, at least I'll be proud of having coined the term revenge conviviality. Now moving on to RTDs in the U.S., and particularly on Wild Turkey. We're pretty selective when it comes to brand extensions in the RTD area on our existing brands. We think that a lot of what's been happening lately in various markets, particularly in the U.S. we'll bring short-term gains, but long term, a lot of pain to the brand owners. And so when we do something like that, we do it very, very selectively. We'll only do it when we own a call. I mean we own the Aperol Spritz. We own the Negroni. We own the Campari Soda. So when we own the call, we do it, and we do it in a very premium fashion with glass bottles. So we have to cut a long story short, we have no plans of introducing an RTD on Wild Turkey in the U.S. Wild Turkey is doing very, very nicely as we're premiumizing the brand and we're seeing very strong growth on the high end of the brand. Now with regards to Aperol Spritz, I mean, currently, the ready to interact Aperol Spritz accounts to somewhere between 9% to 10% of the volume of the mother brand. Again, here, we're very, very selective. Customers and our markets are clamoring for it across the globe. And we're only along those where we have already a very well-established perfect serve of the mother brand in the on-premise. So -- and we have various consumption per capita criteria as well as the quality of the drink criteria. So we're very selective with it. And what we found out from research is that it's not a recruitment tool, it is a convenience tool. So we only introduced it in those markets where we have a very established presence and consumers are looking for some more convenience.

Thanks, Bob. And is it too early to say whether that's going to be rolled out to other markets, next summer?

Well, I don't think we have any plans at this stage. But I mean, it's growing at a very sustained double-digit growth rate across all markets.

Next question is from Trevor Stirling with Bernstein.

Bob and Paolo. Nearly all my questions have been answered, gentlemen. But just one question for Paolo. You talked about the intensifying input cost, Paolo. Is it just on logistics? Or is there something else? And is it both ocean freight and ground transportation.

Yes. Yes, Trevor. No, it's broader than ventures logistics. Logistics clearly are the highest cost increase driver but also on packaging materials, particularly glass that is a constrained supply environment and the huge rise in overall demand is putting pressure on glass, which is one of the biggest bill of material components also on other raw materials, our core cereals, sugar and it's basically everything, so it's broader. On logistics, you have the combined effect of cost pressure and logistic constraints that is causing some phasing effects on shipments, but this is something we're carefully monitoring and managing.

The next question is from Fintan Ryan with JPMorgan.

Paolo, three for me, please. Maybe firstly, just following on from Trevor's question there. Are you able to give us a sense of which particular products or markets where you're seeing the most impact from other input cost inflation broadly or specifically logistics costs. I appreciate you've called out Australia...

Sorry. Could you repeat the question and speak a little bit louder because we missed it.

Yes. Sorry it's just the -- which particular markets or categories are you seeing the most impact from the logistics cost inflation? And should this be something that could impact shipment phasing between Q4 and maybe into 2022 in terms of availability? Secondly, would you be able to give us a sense as to what level broadly the on-trade in Europe has returned to? And are you seeing much of a difference between markets like Germany, France, Italy and the U.K. And anything maybe you can share in terms of what your outlook would be for the on-trade specifically and outlook for Q4? And then finally, one I guess for Paolo. We saw that the net debt has come down by around EUR 140 million, I think the end of H2 -- sorry, since the end of H1. Could you give us a sense of what the drivers of that work is and some of the key moving parts we should be thinking about for free cash generation for all of year-end?

Yes. I'll take your question on the level of the on-trade in Europe. I mean, looking across markets, the on-trade is either in line with 2019 or -- has grown significantly versus 2019. We're seeing very strong growth versus 2019 in those markets, which are either tourism destination markets or on the Mediterranean, such as Italy, Spain, Greece, France, et cetera. And other markets benefiting more from staycation effects. I mean, clearly, not many people really traveled abroad in the U.K., for instance. We saw a very, very robust growth there whereas in Germany, most people actually left the country for the Mediterranean, and had much less staycation effect. But having said that, overall, we're seeing very strong conviviality across Europe. I expect that to continue next year as well.

Yes, with regards to the brand category that are most impacted by input logistic constraints and phasing effect. I think the 3PL world, logistic is and the issues that we're seeing are clearly impacting both, ocean freight as well as land transportation, railroad and trucks. But clearly, if we had to highlight the area where we see most of the congestion is inbound logistics into the U.S., due to the combination of constraints of ships and land transportation in the -- inbound land transportation in the U.S. So this is where we see the biggest issues at the moment. And clearly, if you look at our portfolio, Campari, [ Aperol ] and Grand Marnier are the usual suspects, brands, which have a longer lead time to the U.S. consumers. And again, also ocean freight is creating issues on sourcing to Asia for both bulk that were managing quite well buying whiskey for Wild Turkey, Australia as well as premium brands in Asia in general. So that's the area where we see the biggest issues to be managed. With regards to the second question, that is the cash flow generation in the first 9 months, which is clearly ahead of expectations. If we had to highlight a key factor is probably the increase in operating working capital at the moment, which is due and led by the steep rise in shipments in consumption -- is below our initial forecast. You may remember that we've given as a target the objective of achieving 100 basis point, 1% operating working capital as a percentage of sales compressions versus the 2019 level. So from 13.6% to 36.6%. Here. We're performing better than that this is causing a better operating work, better cash flow conversion. The key reason is compression of inventories, due to logistic constraints. So we're running down stocks at the moment to supply the markets. And again, we're very disciplined on trading terms. And this is resulting in probably better days of sales ratios. So I think we need to see how the fourth quarter of the year unfolds. But I think on cash flow, if anything, we're on the positive side.

The next question is from Paola Carboni with Equita SIM.

I have 3 questions, please. So first of all, looking to 2022. I appreciate you gave your outlook on costs. I was wondering if you can give us some flavor also of how do you expect SG&A cost to keep growing in the future as we should look at H2 as a catch-up phase but in a more normalized environment, should we expect SG&A to grow ahead of revenues or to be a possible source of operating leverage, given the robust top line momentum you have mentioned. Second question, I come back on trial before from a colleague of mine, about the state-of-the-art in terms of a breakdown between on-trade and off-trade now 2 years almost since the start of the pandemic. I was wondering if you can update us on this balance, on your main markets as this is going to be the next starting base from now on? And third question, sorry, is about the price hikes you are going to perform during the next few quarters. I can -- I would appreciate if you can give us some example on the main product market combination of the kind of magnitude that you are thinking about?

Yes. On the first one, both, I would say, on SG&A and A&P as a percentage of sales, we're not seeing any risk of drift in 2022. So they will broadly follow topline development. If anything, there is a tiny opportunity sitting in SG&A as a percentage of sales. Whilst on A&P, we're quite disciplined in keeping unchanged the A&P on sales to further strengthen our brand's equity over time. And I would also take probably the last one on price increase. While we cannot be specific on which brand market combination but typically, we'll be more aggressive on brands that have low price sensitivity. So typically, all specialties are clearly, potentially the areas where we may want to cover the input cost pressure, while of course, you have standard categories where you can do something, but not to the fullest extent. This is, for example, vodka, where you can take price, but you need to be more cautious. So overall, we will have quite ambitious price increase strategy for next year. And I think the overall environment, frankly speaking, is boding well to take price because we're not alone in taking that measure, giving the input cost environment that is under the eyes of all industry players or FMCG companies and broadly speaking.

Coming to your second question, the balance between on-trade versus off-trade. As you know, Paola, I mean, the off-trade naturally gained share last year, significant share as there were lockdowns and consumers discovered their inner mixologists. What we're seeing now from the second half of this year is that the on-premise is growing much faster than the off-premise. So sometime in the next 18 to 24 months, I would expect things to rebalance themselves and we go back to the patterns we had around 2019. But clearly, I think on an overall basis, volumes will be higher for spirits as spirits have taken market share across both channels from other alcoholic drinks.

Mr. Kunze-Concewitz, there are no more questions registered at this time.

All right. Well, thank you very much for joining us. I'm sure we'll be meeting in the next weeks and months and answering more questions. Thanks for being with us and treat yourself for [indiscernible] in the evening. Stay well. Bye-bye.

Ladies and gentlemen, thank you for joining. The conference is now over. You may disconnect your telephones.