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 presentation of Campari Group's acquisition of Wilderness Trail Distillery. [Operator Instructions] At this time, I would like to turn the conference over to Mr. Bob Kunze-Concewitz, CEO of Campari. Please go ahead, sir.

Thank you. Good afternoon to all and thank you very much for joining us at such short notice. What we'll do is go through a short presentation and then take your questions. If you follow me to the first page of the presentation -- actually, number two, you'll see why we're really thrilled to have been able to sign this agreement, the acquisition of an initial 70% stake, with clearly puts and calls to take it to full control in 2031, in Wilderness Trail Distillery. Wilderness Trail is really a unique distillery; all very high-end handcraft, fast-growing super-premium bourbon and rye whiskey. Then you'll see in the following chart the price positioning which makes it very, very interesting for us, clearly helping us to leverage even further one of the fastest-growing spirits category in the core U.S. market. The distillery brings with it industry-leading capabilities in engineering, R&D as well as best-in-class bourbon and rye crafting driven both by art as well as science. [ It brings with it ] state-of-the-art production infrastructure which next year will be able to produce 100,000 barrels. And Paolo will take you what that means in terms of finished cases production in a little while. And clearly we also have warehousing capacity in place to scale. Putting all of this together, you realize that what we're doing strategically is ensuring that bourbon is primed to become our group's second major leg after the aperitifs. The value of the acquisition ends up being an enterprise value of [ about ] USD 600 million for 100% of the outstanding capital on a cash-free and debt-free basis, so clearly it's a value-enhancing acquisition both gross margin as well as cash earnings per share accretive. Moving on, just a discussion. Actually we're almost buying our neighbors because they're based in Danville, which is 20 minutes away from the Wild Turkey distillery. And some of our warehouses are actually on the border between both distilleries, so it's really putting 2 neighboring distilleries and operations together. Wilderness Trail was launched in 2012 as really a premium craft distillery with a very clear focus on making the highest-quality bourbon and rye whiskeys. In the range are currently 2 expertly handcrafted super ultra-premium brands Wilderness Trail Bourbon and Rye Whiskey. And the range now also includes 2 bottled-in-bond wheat small grain and rye small grain bourbon brands, 1 rye whiskey brand, a silver label 6 years old and an 8 years old bourbon for deeper and more mature flavor. Average selling prices are very, very interesting. They start at USD 55 and actually go beyond USD 75 for the 6- and the 8-year-old bourbon expressions. Distribution currently is widespread across key states via independent wholesalers and distributors. And I think one of the most important charts is actually Chart #4, where you really see the value chain pyramid and how our different expressions are positioned. It's also interesting to see how our portfolio has evolved over the years. We essentially started with the entry-level Wild Turkeys, the bottom left of the pyramid, together with the American Honey-flavored whiskey. And then over the years, we built Russell's into a very exciting high-end super-premium brand. We added the whiskey brands. We added Longbranch; and also pushed up the higher-end expressions of the Wild Turkey brand, including the limited editions. And last but not least, a few months ago, we took our minority interest in Howler Head flavored whiskey, with the aim of obviously taking full control over the years. So it's a very complete portfolio; and Wilderness Trail fits in very, very nicely in there. And this is a solid, very solid, base upon which to continue to grow and actually accelerate our growth in the key U.S. whiskey market. The brand itself [ is a ] distillery combined [ with a blend ] of innovation and tradition. And they are going to help us to accelerate and significantly expand our innovation platform. The 2 cofounders, Shane Baker and Dr. Pat Heist, have more than 20 years of experience in the production of whiskey. And they're clearly recognized as pioneers in fermentation. I call them the fermentation gurus -- as well as distilling activities, with an incredible technical and product development understanding to produce superior whiskey. The distillery has a proprietary infusion-mashing process as well as a sweet mash technique, which enables also a very flexible output driven by multiple mash bills and yeast strains, crafting bourbons and rye whiskeys with very distinctive flavors, so this is really a tool which is going to be very, very important for us in order to continue to innovate on our existing portfolio and taking it to the next level. Clearly it is based on the careful selection of locally sourced premium seed grade corn, wheat and rye varietals; and has a pioneering use of the chemical-free steam in the boiler. And what's also very distinctive is that the whiskeys enter into the barrel at the lowest proof, and that helps magnify the taste. The production infrastructure is scaled and very flexible, as well as the warehousing capacity. And this is going to result in significantly expanding our own production capacity as well as aging inventory to satisfy the future growth of our premium bourbons. The distillery itself is the 14th largest bourbon distillery in the world and it has plenty of capacity also to expand going forward. Currently it has a bottling facility and it has a current annual production capacity of 85,000 barrels. And this is the equivalent of 1.6 million 9-liter cases of finished products, so quite a bit. And this capacity will increase to 100,000 barrels, so the equivalent of 1.9 million cases next year, whilst the storage capacity will increase to 250,000 barrels in the same time horizon. By 2028, the overall maximum capacity is expected to increase to 125,000 barrels, so in other words, the equivalent of 2.3 million cases, with the storage capacity leading to 0.5 million barrels or about 9 million cases in the same time horizon, so you can see that clearly we're doubling down on bourbon and rye. And we expect this to help really develop the second major leg of this great company beyond the aperitifs. Why are we attracted to this? Clearly American whiskey is very well positioned to continue its positive trends. I mean it grew by 7% in '21 versus previous year, but most importantly, the super premium price segment, so where Wilderness Trail is positioned, grew at a whopping 17%. It's clearly a very large category. It's 13% of U.S. spirits value. Again that is 2021 data, and it is continuing to premiumize, so very, very interesting. And what makes it more interesting is our, let's say, ownership -- I mean, ability to play in the top 16 cocktails in the world in high-end mixology because clearly, beyond the 4 dedicated Campari-based cocktails, you have a lot of whiskey-based cocktails. The old fashioned is #2; Manhattan #8; whiskey sour #10; and obviously the Boulevardier, where also Campari [ plays, of ] #12. Bourbon was the single biggest contributor to U.S. spirits volume growth over the last 5 years. And what's also very important is that internationalization is only at the beginning of the generation life cycle, again driven by high-end mixology and premium sipping, so clearly there's quite a bit of leeway growing internationally. And if you look at the -- on the bottom left, you see the trends of the category, but what's also interesting is to look at the bottom right chart. And you see how Campari is very well positioned in the premium-plus range. So this is it for [ a little while ]. And I'll pass it on to Paolo for a few comments and then I will conclude.

Okay, thank you, Bob. If you follow me to Page 8. We have a few numbers on the Wilderness Trail acquisition. For fiscal year 2021, the acquired company achieved overall net sales of USD 40.8 million, of which Wilderness Trail Distillery brand accounted for USD 7.2 million. And the balance was generated by bulk sales as well as storage fees and visitor center revenues. The EBITDA for 2021 accounted for $22.7 million. If you look at current year. The estimated net sales are $57 million, growing by 39% over last year. And the EBITDA is expected to come in at $37 million with an increase over prior year of 64%. Clearly the disproportional increase in EBITDA year-on-year versus the increase of net revenues is due to the improvement of mix, where the brand business grew from 18% to 23%. And clearly there is also a gross margin arbitrage in the business, as the gross margin on sales of the brand business is way higher than the bulk business. The gross margin for the acquired business, on sales, accounts for 70%, the blend of the two, bulk plus brand; and [ in short ] is 20 basis points accretive to the overall gross margin on sales. The scarcity value of the bourbon liquid implies a very strong demand for the bourbon bulk, which today represents, as I said, an important source of business for the Wilderness Trail Distillery. Moving forward, our ambition is to progressively change the -- further change the sales mix and expand the brand business [ as opposed ] to support our new product development program at Campari. Clearly, as Bob has just said, we can rely on installed distilling capacity for an equivalent amount of 1.6 million cases last year and 1.9 million cases in 2023. That is destined to become 2.3 million cases in 2028, showing ample room to develop the Wilderness Trail Distillery brand as well as our own portfolio. As of 30 September 2022, the inventory book's value accounted for $24 million. That is exclusively composed of the Wilderness Trail Bourbon and rye. The bulk of -- the bulk production is sold as new make and hence no inventory is built on bulk. On top of the $24 million of the inventory, we have [ $37 million ] of fixed tangible assets. Moving on to Page 9. We have the analysis of the Campari Group pro forma net revenues for year 2021 as if the acquisition occurred 1st of January of 2021. As you can see, the first-time consolidation of the Wilderness Trail brand would move the overall Campari Group bourbon portfolio at 11% of the overall group revenues and in so doing will become the second largest category or leg after the aperitifs that account for 35% of group revenues. And clearly size of the bourbon would be 2x as big as the following -- each of the following 3 categories: tequila, rum and SKYY, accounting for 5% to 6% of overall group revenues. If you move on to Page 10, where we have deal structure and valuation. The perimeter of the acquired business entails the Wilderness Trail Distillery including the full production facilities as well as the local visitor center. And of course, within the perimeter, we have the IPs or the trademark and the [ EUR 24 million ] inventory that I've mentioned. With regards to the enterprise value, we're talking of $600 million for 100% of the outstanding capital on a free -- on a cash-free, debt-free basis. The implied enterprise value-to-EBITDA multiple is 16x, based on 2022 estimated EBITDA. And the good news is that the goodwill generated by the acquisition, together with the trademark value, is tax deductible in the U.S. over a period of 15 years, so from a cash perspective would generate $6.5 million of tax savings. It's a value-enhancing acquisition both from a gross margin perspective, as said, 20 basis points; as well as from an EPS perspective, north of 1% EPS and about 3% on a cash EPS basis if you factor in the $6.5 million tax savings that I have just mentioned. With regards to the transaction structure at the beginning. At closing, we will be buying 70% interest of the outstanding capital. That is valued $420 million. The remaining 30% of the outstanding capital is subject to call and put options that will be exercisable in 2031 at an enterprise value which will be determined by applying the multiple above, the 16x, to the highest between the 2030 EBITDA, so the year before the exercise of the call, and -- or the highest between this and the average EBITDA for the period 2028 to 2030. The funding. The acquisition will be funded by a combination of existing cash, available cash; and bank term loans. The net debt-to-EBITDA on a pro forma ratio -- on a pro forma basis is expected to increase from 1.5x to 2.3x upon closing, so 0.8x. The deal is subject to customary closing conditions. And the transaction is expected to close by year-end, so the first-time consolidation most likely will occur at the beginning of January next year, in 2023. Until the transaction closes, each company will continue to operate independently. I think this is it on the numbers. I will hand back to Bob for conclusion.

Yes. So quickly, conclusion before taking your questions. I mean, what are the key drivers of this fantastic deal? Clearly it further expands our bourbon brand portfolio by adding a very fast-growing super ultra-premium brand, Wilderness Trail. And that also accelerates our premiumization journey as well as enriches our RARE portfolio. Importantly, it helps expand production capacity and accelerates production capacity growth. And that will enable us to accommodate the growth of our bourbon portfolio, excluding obviously of -- the core Wild Turkey which will continue to be exclusively distilled in our Williamsburg -- Lawrenceburg facility; and will also provide liquid for the accelerated growth of our high-potential and highly profitable Whiskey Barons range, which unfortunately currently are capped due to capacity constraints. And again here it's a very interesting proposition because we have 375 ml bottles retailing between $50 and $60, so quite a bit of value [ to be on that ]. And it will also help us unlock further value by continuing to differentiate our bourbon offerings via limited editions, which as well currently are capped by capacity constraints. We will accelerate and significantly expand our innovation platform, thanks to the very flexible output of the distillery. And last but not least but very importantly, we're very happy to insource a team of fermentation and distillation experts which have pioneered the sweet mash whiskey and developed proprietary distilling processes and methodologies. So that will benefit our overall bourbon portfolio. This is it in a nutshell. And we're happy to take your questions.

[Operator Instructions] The first question is from Andrea Pistacchi with Bank of America.

Yes. Bob and Paolo, I have 3 questions, please, elaborating a bit on some of the things you said. The first question, please, on if you could give a bit more color on how it will help you sort of improve or use the potential capacity constraints that you have on the sort of current U.S. whiskey business. And sort of related to that, with the new capacity you have, what sort of growth do you think you can sustain in this new leg of the business? How -- going forward, what kind of growth should we expect, in your [ view ], from the U.S. whiskey? Second question is for Paolo. Did you have an EBIT number you could give us potentially? And also the split how -- what you're assuming in terms of financing cost, how it kind of splits between available cash and bank loans. And if I may, the last one, again referring to one of the points you made about that you're being -- gradually phasing out the bulk part of the business. So should we interpret this as that in the -- sort of in 2023 -- I mean this will be just a gradual process, so in 2023, we won't be seeing a sort of sudden decline in sales because you're stopping bulk.

Let me take the first 2 questions, Andrea. So how can this help us free capacity? Clearly, as I said earlier, I mean, the Wild Turkey brand will continue to be distilled in Lawrenceburg, but what this facility will enable us to do is to actually cater for our flavored whiskey brands as well as for the non-Wild Turkey brands. So it frees up capacity in Lawrenceburg which we can then dedicate to Wild Turkey. Now what kind of growth can we generate out of the whole portfolio? I think our aim will be to grow faster than the overall category. And then depending on the mix, obviously we'd like to grow faster the super ultra-premium part. So you can calculate from there. It's going to be in the high single, low double digits.

Yes. With regards to the target business EBIT, the D&A is [ 1.4 ], so we're talking $35.8 million in 2022. With regards to the cost of funding, we're currently considering to have a blend of new loans in the U.S. market and the existing cash of 70%, 30%. So we're aiming at having 4.5% coupon on the incremental debt as a blended for 2023 onwards. The CapEx, I've not mentioned. The CapEx is about -- on the distillery is about $9 million a year. So these are the numbers.

Yes. And the last point, please, on the phaseout of the bulk. Will it be -- you said gradual, right, so no sudden [ slip ] down in the sales.

No. It will be gradual. It will be gradual also because we have to bear in mind, I think, we're ramping up distilling capacity. So for a certain period of time, we will be able to preserve the bulk sales business. As we said, distilling capacity is moving from 1.6 million to 2.3 million cases. So we have time to accommodate both, on one hand, the rise in Wilderness Trail brand as well as our innovation pipeline; and on the other hand, to keep on selling bulk to third parties.

The next question is from Edward Mundy with Jefferies.

Congrats on the deal. 3 for me, please. The first is on distribution in the U.S. You mentioned that you've got pretty good distribution across the U.S. through independent wholesalers, which is helping to grow the brand awareness. Can you talk to the opportunity to broaden distribution if you migrate the business over to [ Southern ]? And the second is on Slide 7 and looking at the sort of the life cycle of bourbon. Clearly you got in there pretty early on bourbon with Wild Turkey just as it was sort of kicking off. And we've covered this a little bit on the conference call last week, that you're not seeing any clear signs of weakening consumer confidence, but what gives you confidence that up-trading within bourbon will continue if we do hit a bit of a rough spot from a consumer standpoint? And then the third question is on Slide 8. I think you're sort of helping us to fill in some of the pieces of the puzzle on the P&L. So you've got $57 million of revenues; about [ 40 ] of gross margin; and then about 36 -- 35 million, 36 million of EBIT, which implies very little for A&P and SG&A. Could you just perhaps just go and talk a little bit about the shape of the P&L? Why is the A&P and the broader SG&A so low as a proportion of sales related to a normal P&L?

Let me take the first 2 ones, Ed. Well, first of all, I mean, here we have really the combination of 2, let's say, best practices. The Wilderness Trail Distillery brings great liquid. And what we bring to the table is very strong distribution as well as strong marketing, so we'll be able to move it into our network as well as putting the expertise from a marketing standpoint. I think there's opportunity to premiumize the packaging further, so clearly we're excited and the sellers are all excited about what sort of transformation. Current distribution is good, but obviously it's not at the level of 1,000 [ places ], so quite a way to go. With regards to bourbon life cycle and premiumization: I mean, if you look back, even in tough times in the past 10 years, bourbon has continued to premiumize. I mean we launched a few weeks ago a 13-year-old rickhouse of Russell's Reserve online, and they disappeared within 2 hours [ and for ] $200 bottles. At the end of the day, it is really approachable luxury. And you have bourbon fanatics who are very happy to cut down on number of expenses but actually continue building their collections and really driving high-quality consumption.

Yes. With regards to the weight of A&P and SG&A on revenues for the acquired business, the reason why they are so low, you just say that on bulk sales you don't need to have SG&A and you don't do A&P investments. On the other hand, [ prospectively ] clearly, as you know, the branded business grows in size. We would invest more A&P. On the SG&A front, we would not add incremental costs because for us this is really that plug-and-play distillery not far from ours. So we wouldn't need to add much. On the contrary, I think there are some interesting opportunities at our own distillery to get the technology and the expertise from Pat and Shane. They are really an expert, and we believe we can generate some interesting savings if we were to use their processes that are quite advanced in distilling. So that's the answer to the odd shape of the P&L.

But bear in mind, as the branded business grows, obviously that gross margin is much, much higher than the bulk gross margin. And we have at those prices, $55, $75-plus, absolutely no issues and problems accommodating additional A&P.

Yes. The good news is that, if you look at the branded business, gross margin on revenues is in excess of 80%. So average for the company is 70%, but really bulk is lower in margin. And so directionally that will generate a, well, significant acquisition in the acquired business.

The next question is from Chris Pitcher with Redburn.

A couple of questions from me. You mentioned CapEx was running at $9 million per annum, but looking at the expansion plan, should we expect that to go up? And then secondly, on working capital, as you shift from bulk to aging liquids, I'd expect that to become a drain on cash flow as well. Could you sort of confirm that? And then finally for me, could you give us a rough age -- idea of the age of the brand and whether you were an existing customer of Wilderness for bulk whiskeys?

Well, I will take the last one, Chris. I mean the age on the premium [ sort of ] editions is between 6 and 8 years. The others are obviously between 3 and 6.