Constellation Brands Inc (STZ) — Q4 2023 Earnings Call Transcript

Thank you, Darryl. Good morning, all, and welcome to Constellation Brands year-end fiscal 2023 conference call. I’m here this morning with Bill Newlands, our CEO; and Garth Hankinson, our CFO. As a reminder, reconciliations between the most directly comparable GAAP measures and any non-GAAP financial measures discussed on this call are included in our news release or otherwise available on the Company’s website. Please refer to the news release and Constellation’s SEC filings for risk factors, which may impact forward-looking statements made on this call. Following the call, we will also be making available in the Investors section of our company’s website a series of slides with key highlights of the prepared remarks shared by Bill and Garth in today’s call. Before turning the call over to Bill, in line with prior quarters, I would like to ask that we limit everyone to one question per person, which will help us end our call on time. Thanks in advance. And now, here is Bill.

Thank you, Joe, and good morning, everyone. I’m pleased to report that our team delivered another solid year of performance in fiscal ‘23, driving a 7% increase in net sales and a 3% increase in comparable operating income, despite elevated inflationary headwinds faced throughout the year. We delivered record net sales and comparable operating income of $9.5 billion and $3 billion, respectively. We were recognized as the number one growth leader among large CPG companies by IRI and Boston Consulting Group in calendar year ‘22. And we’re the only CPG company of scale in recent times to make their top 10 ranking for 10 consecutive years. Our performance was driven by strong execution of our strategy, which centers on continuing to build powerful brands that people love; to introduce consumer-led innovations that address emerging trends and consistently shape our portfolio for profitable growth; to deploy capital with discipline, while balancing priorities; and operate in a way that is both good for business and good for the world. Here’s how each of our segments delivered against these objectives in fiscal ‘23. Our Beer Business delivered another year of double-digit net sales growth and its 13th consecutive year of shipment volume growth while maintaining best-in-class margins. We extended our lead as the number one high-end beer supplier in the U.S. and as the leading share gainer in IRI channels with a 12% increase in dollar sales. We increased depletions by nearly 27 million cases and delivered net sales and operating income growth well above the initial top end of our guidance range. We continue to build momentum for our anchor brands. Modelo Especial maintained its position as the top share gainer and the number one high-end beer brand in the category, increasing depletions by 9%; Corona Extra was the third largest share gainer and the number three high-end beer brand in the category, increasing depletions by nearly 4%; and Pacifico gained significant momentum as a top 10 share gainer in tracked channels, delivering depletion growth of over 30%. Several consumer-led innovations within our Modelo Chelada franchise served as growth catalysts in fiscal ‘23. Our Naranja Picosa flavor, a new variety pack, added over 1.6 million new cases of depletions to our Chelada brands. Our new Limón y Sal 12-ounce 12-pack helped to more than double the depletions of that flavor to over 5.6 million cases. And in tracked channels, the Limón y Sal 12-pack was a top 15 new package SKU and a variety pack of top 10 new brands. We continue to invest in our beer business, deploying over $800 million in capital investments in fiscal ‘23, which supported the ongoing expansions of our growing capacity at Obregon, the continued development of our new ABA alcohol production line at Nava and the early stage work at our new site in Veracruz. As part of our commitment to water stewardship, we recently worked with local authorities to complete a project that updated water infrastructure in the city of Zaragoza, near our Nava facility, which improved water accessibility for most of the families in this town of approximately 13,000 people. This is just one of a number of efforts we have underway in Mexico as part of our water stewardship commitment. As we look to fiscal ‘24, we will continue to prioritize investments against our core brands in Modelo Especial, Corona Extra, and Pacifico. We believe that the fundamental growth drivers for these brands, including awareness, distribution, and demographic upside opportunities, remain as strong as ever. We’re excited about several consumer-led innovations that are currently hitting the market, including Modelo Oro, which exceeded both external and internal benchmarks in three test markets where we trialed it last fiscal year; and Corona nonalcoholic, which addresses the rapidly growing betterment trends. We’ll also continue to build momentum for our Chelada franchise with the introduction of a second 12-ounce 12-pack for our best-selling traditional Chelada flavor and with the new spicy watermelon flavor, Sandia Picante. And we’ll continue to deploy capital to enhance our growing capacity to meet the anticipated continuing robust demand for our products, both near and long term. Shifting gears. Our Wine and Spirits business has transformed from a U.S. wholesale business, mainly serving the mainstream segment to a global omnichannel competitor with a higher-end focused portfolio. And this strategy is working as the strength of our higher-end brands supported our outperformance against the broader market. While lower demand for our mainstream brands drove a 2.1% volume decline for our Wine and Spirits portfolio in IRI channels, we outperformed the 2.6% volume decline for the combined U.S. Wine and Spirits categories in fiscal ‘23. We continue to focus on the growth of our consumer-preferred higher-end brands within our portfolio. Our Aspira portfolio, which includes our Fine Wine and Craft Spirits brands, delivered double-digit shipment growth. In addition, it significantly outpaced the Fine Wine and Craft Spirits segment, led by The Prisoner Wine Company, which delivered depletion growth approaching 10% and our Craft Spirits portfolio, which achieved depletion growth of nearly 29% in U.S. wholesale. In addition, these brands delivered exciting consumer-led innovations such as The Prisoner’s Blindfold, Blanc de Noir, Casa Noble’s ultra-premium Marqués tequila, and our Mi CAMPO ready-to-drink cocktails, which are still in early stages of their life cycles but are contributing to our expanded presence in the higher end of the market. Meanwhile, our Ignite portfolio continued to drive the momentum of our premium brands such as Meiomi and Kim Crawford, which delivered depletion growth of 5% and 7%, respectively, both gaining share in their respective segments. We continued to complement the growth of our core premium products with innovations that broaden the offerings of these consumer-preferred brands. As an example, Meiomi’s new Red Blend remains the number two wine SKU since its launch, and Kim Crawford’s Prosecco was the number two new wine brand. Within our Ignite portfolio, the performance of our higher-end premium brands was offset by our remaining mainstream Wine and Spirits brands, namely Woodbridge and SVEDKA, which experienced declines versus the market in the U.S. We continue to focus on stabilizing and revitalizing these brands. To further support our strategy to reshape our Wine and Spirits portfolio to the higher end, we divested several residual mainstream brands and acquired a smaller, higher-end wine brand and a ready-to-drink cocktail brand. Of note, our relatively recent acquisition of My Favorite Neighbor portfolio is delivering substantial growth and performing above our initial expectations. So overall, in fiscal ‘23, while net sales for our Wine and Spirits business declined just under 4%, a large part of that was due to the recent divestiture of primarily mainstream brands that I just referenced. And despite the strong performance of our higher-end brands, on an organic basis, net sales declined by 2%, mainly driven by lower demand for our mainstream brands, reflecting continued consumer-led premiumization trends, which I also noted earlier. We continued to build momentum for our higher-end brands and continued to accelerate our performance in key channels, such as direct-to-consumer and international markets, which grew net sales by 29% and organic net sales by 4%, respectively. Looking forward, we see an opportunity to continue to grow the DTC and international markets by investing in our Premium Wine, Fine Wine, and Craft Spirits brands that tilt their growth toward DTC and international routes to market. Importantly, our Wine and Spirits business delivered operating margin expansion in fiscal ‘23, further demonstrating the benefits of its strategy and making additional progress towards its medium-term targets. Overall, we are exiting the year in Wine and Spirits on solid footing, and I remain confident in the pathway of that business. The solid performance driven by our beer and Wine and Spirits teams enabled us to return nearly $2.3 billion to shareholders in share repurchases and dividends in fiscal ‘23, and we further demonstrated our capacity to conduct opportunistic share buybacks with an additional nearly $300 million of repurchases in the fourth quarter. This means our dividend payments and buybacks since fiscal ‘20 totaled more than $5.4 billion, well above our $5 billion goal. Moving forward, we plan to continue to deliver against our capital allocation priorities with our disciplined approach. Our fiscal ‘24 earnings and cash flow outlook should enable us to move closer to our net leverage ratio target to support dividend payments in line with our payout ratio target to continue to deploy capital to beer growing capacity additions and hospitality investments in the Wine and Spirits business and to opportunistically pursue additional share repurchases and small gap-filling acquisitions. Lastly, we remain committed to making meaningful progress against our enterprise ESG goals, which include reducing Scope 1 and 2 greenhouse gas emissions by 15% by fiscal ‘25 from a fiscal ‘20 baseline and restoring more than 1 billion gallons of water withdrawals from local watersheds, while also improving accessibility and quality of water for communities where we operate between fiscal ‘23 and ‘25. Water stewardship in particular has been a top priority for our team, and I’m pleased to announce that we have already surpassed our fiscal ‘25 goal related to water restoration. We’ll look to announce later this year new targets for our water stewardship efforts as well as other important areas that are part of our ongoing commitment to ensuring the long-term viability of our local communities and this environment. We have also significantly enhanced our ESG reporting, aligning references to the Sustainability Accounting Standards Board framework and considering recommendations from the task force on climate-related financial disclosures. As we look ahead, we intend to continue to take steps to more fully integrate ESG into our core business planning process, establishing thoughtful, specific, measurable, and time-bound targets supported by robust strategies and operating plans that we can map progress against. We believe this approach best serves the interests of our business, shareholders, other stakeholders, and our surrounding communities as it seeks to integrate ESG into our business operations and helps ensure that we can clearly deliver on our stated commitments. So in summary, we delivered another solid year of performance, resulting in record net sales and comparable operating income, despite elevated inflationary headwinds faced throughout the year. Our performance was driven by strong execution of our strategy, and we continue to make good progress against all dimensions, building brands that people love, complementing growth of our core products with consumer-led innovation, deploying capital with discipline while balancing priorities against our organization, and continuing to operate in a way that is both good for business and good for the world. With another strong year of execution against our strategy behind us, we’re quite confident in our ability to continue building momentum in fiscal ‘24. And with that, I will turn the call over to Garth.

Thank you, Bill, and good morning, everyone. Fiscal ‘23 was another solid year for our company as we continued to relentlessly deliver on our operating plans and strategic initiatives. Despite the inflationary pressures that both our industry and consumers have been facing, we demonstrated yet again the strength of our adaptable businesses, higher-end brands, and resilient teams. We expect the same focus and dedication to further support our momentum in fiscal ‘24. So, let’s review in more detail our full year fiscal ‘23 performance and fiscal ‘24 outlook. As always, I will focus on comparable basis financial results. Starting with the fiscal ‘23 performance of our beer business. Net sales increased $713 million or 11%, exceeding the upper end of our guidance range. This was primarily driven by solid shipment growth of approximately 7% as strong demand continued across our portfolio, supporting a $464 million uplift in net sales from incremental volumes. Net sales also benefited from favorable pricing in excess of our usual 1% to 2% average annual pricing algorithm. As we previously noted, the incremental pricing actions taken in fiscal ‘23 were in response to cost pressures across the value chain due to inflationary headwinds. We introduced larger pricing increases and made pricing adjustments in certain markets ahead of our regular case. Depletion growth for the year was over 7%, which, as Bill noted, was driven by continued strong growth in our largest brands, Modelo Especial, Corona Extra, Pacifico, and Modelo Chelada brands. On-premise depletions grew 15% year-over-year, and on-premise volume accounted for approximately 12% of total depletions in fiscal ‘23, nearing the mid-teen volume share from prior to the start of the pandemic. As previously guided, our shipments and depletions were closely aligned on an absolute basis. Moving on to the bottom line for our beer business. Operating income increased 6%, also exceeding the upper end of our guidance range. This increase was largely driven by a $492 million benefit from net sales growth and yielded an operating margin of 38.3%, which was in line with our implied guidance range. As expected and noted over fiscal ‘23, operating margins were negatively affected by inflationary headwinds. For the import portion of our beer business, which represents nearly the entirety of COGS, we faced an increase of approximately 16% in our raw materials and packaging costs, which was largely driven by inflationary pressures that resulted in an 8% increase on a per case basis. This reflected some benefits from the lapping of the seltzer obsolescence charge in fiscal ‘22. Excluding any obsolescence impact, the increases in our raw materials and packaging costs would have been 20% on an absolute basis and 12% on a per case basis. Note that these two COGS categories, including the obsolescence impact, represented just over 55% of the import portion’s COGS in fiscal ‘23. We also saw a 12% year-over-year increase in freight costs, mainly driven by incremental shipment expenses that were offset by efficiency initiatives. Freight costs were up 5% on a per case basis and accounted for just under 25% of import costs. We faced a 14% rise in labor and overhead costs that were mainly driven by our brewery capacity investments. Labor and overhead were up 7% on a per case basis and accounted for just under 15% of import COGS. In addition, operating margins for the beer business were also affected by a $41 million or nearly 22% increase in depreciation, almost entirely associated with our brewery capacity investments. A $55 million or nearly 9% increase in marketing spend related to incremental investments in sports sponsorships and a $48 million or nearly 14% increase in our other SG&A, driven by incremental sales support to align with the momentum of our beer brands. Note, however, that while our marketing investments increased when compared to the prior year, they were still within our 9% to 10% range as a percentage of net sales. All of that said, it’s important to note that we still delivered best-in-class margins for our beer business in fiscal ‘23. Now shifting to our Wine and Spirits business. First, please recall that we divested a collection of primarily mainstream wine brands from our wine portfolio in fiscal ‘23. So during today’s remarks, I will also be discussing top line on an organic basis, which excludes the contributions from the divested brands. As Bill noted, despite the strong performance of our higher-end Wine and Spirits brands on an organic basis, net sales declined by 2%, ultimately landing in our guidance range. The decline in net sales, excluding the impact of the divestiture, was primarily driven by our mainstream brands as they faced challenging market conditions and lapping of prior fiscal year inventory build. Again, this decline was partially offset by strong growth in our higher-end brands, which outperformed in the U.S. in the higher-end category for both Wine and Spirits and the total U.S. wine market. Our higher-end brands also had strong growth in our emerging and rapidly expanding direct-to-consumer channels and international markets. Over time, we expect our portfolio to continue to migrate toward the higher end and for these higher-end brands, channels, and markets to support our top-line growth acceleration. Shipments on an organic basis decreased by under 8% and depletions decreased by 3%. As just noted, this volume decline, which reduced organic net sales by $148 million, was driven primarily by our mainstream brands, as mix and price, largely driven by our higher-end brands, provided an uplift to organic net sales. Wine and Spirits operating income, excluding the gross profit less marketing of the brands that are no longer part of the business, increased by 2%, and operating margin increased by 80 basis points to nearly 23%, also reflecting the same exclusion. This margin increase was driven by a $12 million uplift from net sales flow-through as favorable product mix was supported by lower grade costs as well as a strong New Zealand harvest. Benefits from other cost-saving actions primarily resulting in lower-grade costs helped to partially offset higher logistics material costs and more efficient marketing expense from enhanced investment strategies, which increased focus on the highest return opportunities that supported a $20 million tailwind to operating income. These benefits were partially offset by $17 million in higher SG&A from increased headcount as we continue to strategically invest in our growing DTC channels. We remain well positioned to continue to expand margins in our Wine and Spirits business over time with mix improvements and productivity initiatives in the future. Now moving on to the rest of the P&L. In fiscal ‘23, our corporate expense included approximately $270 million from SG&A and $20 million from unconsolidated investments related to our ventures portfolio, all-in, landing at the low end of our guidance at $290 million. Within the SG&A portion of corporate expense, the implementation of our DBA program, which stands for digital business acceleration, accounted for $47 million. As a reminder, we introduced our multiyear DBA initiative in fiscal '23 and expect similar investments to carry into fiscal '24. Interest expense for the year increased by 12% to approximately $400 million, coming in at the upper end of our guidance range. This increase was driven primarily by the financing of the stock reclassification that took place in Q3 of fiscal '23 as well as the impact of rising interest rates on approximately 15% of our debt with adjustable rates. Our full-year comparable basis effective tax rate, excluding Canopy equity earnings, came in at 19.2%, versus 17.5% last year as we lapped favorability in fiscal '22, primarily driven by higher stock-based compensation activity. Free cash flow for fiscal '23, which we define as net cash provided by operating activities, less CapEx, was above the upper end of our guidance range at $1.7 billion. CapEx totaled $1 billion, including over $800 million of investment in our beer business. CapEx came in below our guidance, primarily due to timing shifts in the spend for certain materials and equipment of our Mexico brewery investments at our Nava and Obregon facilities. As of the end of fiscal '23, our Mexico brewery operations had a total nominal capacity of approximately 42 million hectoliters. This includes 32.5 million hectoliters at our Nava facility and 9.5 million hectoliters at our Obregon facility. This represents a 1 million hectoliter uplift at our Nava facility relative to the capacity we communicated a few months ago. This uplift is once again the result of our continued productivity initiatives that have unlocked additional production flexibility from the existing footprint of our breweries. As a reminder, earlier this year, we shared that these initiatives had unlocked additional capacity of 1.5 million hectoliters at Nava and 0.5 million hectoliters at Obregon. In light of the 2.5 million hectoliters of productivity capacity unlocked at Nava in fiscal '23, we have slightly adjusted the ramp-up plans for our new ABA production line at that facility, which I will discuss shortly. With that, let’s move now to our outlook for fiscal '24. We expect a comparable basis diluted EPS to be in the range of $11.70 to $12, excluding Canopy equity earnings. For fiscal '24, our beer business is targeting net sales growth of 7% to 9%. As Bill discussed earlier, we expect continued strong volume growth momentum to be largely driven by our iconic brands, Modelo Especial and Corona Extra, and next wave brands, Pacifico and the Modelo Chelada brands. We anticipate our full-year fiscal '24 shipments and depletions to track each other closely, both on an absolute basis and in terms of the year-over-year comparison. As a reminder, despite some fluctuations in the last few years in our quarterly shipment cases and year-over-year growth rates due to severe weather and pandemic-related impacts, we expect the cadence of our shipments in fiscal '24 to follow a more traditional seasonal pattern. We anticipate approximately 55% of our fiscal '24 wines to ship in the first half as we meet peak summer demand for our products. In addition, from a quarterly perspective, particularly when looking at year-over-year growth rates, we also expect shipment and depletion comparisons to still show some variability as they always have, as we manage inventory levels around seasonality throughout the year and our regular brewery maintenance activities in Q3. All of that said, we do not expect to have any incremental lapping variability in our shipment growth rate for Q4 as we did in fiscal '23. From a pricing perspective, at this stage, we are planning for average annual pricing within our 1% to 2% algorithm. We are mindful that consumers will likely continue to face challenging macroeconomic conditions for the foreseeable future and that our pricing increases in the last 2 fiscal years were above this algorithm. As we advance throughout the year, we will continue to monitor inflationary dynamics and potential recessionary risks to ensure our pricing is appropriately balanced to support the momentum of our brands. We will provide any further updates in that regard as part of our future quarterly calls. In terms of operating income growth, our beer business is targeting 5% to 7%, which implies a fiscal '24 operating margin of approximately 38%. As we have discussed, we continue to expect our beer operating margin to be negatively impacted by inflationary COGS headwinds. The majority of these relate to the year-over-year adjustments in our packaging and raw material costs, which, on average, represent a high-single-digit increase in absolute terms for these inputs in the import portion of our beer business. While prices for some of these inputs are off their peaks, most are subject to contractual terms that reflect annual adjustments based on trailing pricing data, and some still remain significantly elevated relative to pre-pandemic prices. In fiscal '24, we expect packaging and raw materials for our imports to account for approximately 55% to 60% of our costs. In addition, we expect freight to be approximately 20% to 25% of costs and reflect a high single-digit year-over-year absolute increase as we continue to face annual volume and contractual increases. Labor and overhead are expected to account for approximately 15% of costs and reflect a high-teens increase in absolute terms, largely driven by increased headcount and training tied to our brewery capacity investments. For our beer business, we expect incremental depreciation of approximately $35 million to $40 million as we continue to bring into production incremental growing capacity from our investments, particularly at Obregon, in fiscal '24. As noted earlier, the incremental capacity unlocked from our existing Nava facility footprint from productivity initiatives has given us additional flexibility on the ramp-up of our new ABA line. We now intend to spend a bit more time optimizing that new additional ABA production to better support the strong growth of our Modelo Chelada brands. Accordingly, we anticipate the ABA line will be ramping up in Q4 of FY24. Conversely, we have been able to accelerate the ramp-up of our next 5 million hectoliter investment at Obregon to Q1 of fiscal '24. This is being enabled by the move of brewery and package equipment that we had previously intended for use in Mexicali. Now, going back to operating margins. We plan to execute a number of productivity initiatives to help offset inflationary pressures. The expectations shared for our beer business COGS in fiscal '24 have operational efficiencies and cost-saving actions embedded into them. These initiatives include benefits from our ongoing hedging program and contractual negotiation efforts, as well as from our fiscal '23 DBA program. To that end, it is relevant to note that only around 25% of our beer business COGS are subject to contractual pricing adjustments within fiscal '24, and then we expect our hedging program to reduce our exposure to those adjustments for about 10% to 15% of COGS. In addition, we expect to deliver marketing and other SG&A efficiencies, including an even greater focus on optimizing these types of investments toward our icon and next wave brands. So despite remaining slightly below our medium-term operating margin target, we expect our fiscal '24 efforts to still yield best-in-class results for our beer business, and we expect all quarters within fiscal '24 to deliver operating margins above this latest quarter’s result. Moving to the outlook for our Wine and Spirits business. Our fiscal '24 targets for organic net sales are to be relatively flat within 0.5 percentage point from fiscal '23 net sales, excluding $38.5 million of net sales from the brands divested in fiscal '23. We expect to continue the strong growth of our Premium Wine, Fine Wine, and Craft Spirits brands and in our DTC channels and international markets. These segments of our business will help to offset the headwinds we expect to face with our mainstream U.S. wholesale brands, which are facing challenging market conditions due to ongoing consumer-led premiumization. Conversely to our beer business, we expect our Wine and Spirits business to ship approximately 55% of our fiscal '24 volumes in the second half, again, in line with seasonal demand for our Wine and Spirits products. More notably, despite continued inflationary pressures, we are targeting operating income growth between 2% to 4%, exclusive of $19.5 million of gross profit less marketing related to brands divested in fiscal '23. This implies an operating margin improvement of at least 40 basis points. The primary margin improvement drivers for fiscal '24 include additional mix improvement, particularly with our further optimized portfolio, driven by ongoing growth in our higher-end brands from continued consumer-led premiumization trends, enduring growth momentum in our higher-margin direct-to-consumer channels and targeted international metro areas, primarily through our Aspira portfolio brands, additional innovation with new consumer-led products that help extend our higher-end offerings and stabilize our mainstream brands, reduced marketing spend relative to net sales with optimized investments increasingly focused on high-growth, high-return areas, and additional SG&A reductions in cost management initiatives. Similar to our beer business, we expect approximately 25% of our Wine and Spirits business COGS to be subject to adjustments within fiscal '24. Now moving to expectations for the rest of the P&L in fiscal '24. Corporate expense, including just the SG&A portion, is expected to be approximately $270 million. We expect to see favorability from the termination of certain compensation and benefits that will not be payable in fiscal '24 following the retirement of Rob and Richard Sands from their executive roles for the reclassification agreement approved by shareholders in fiscal '23, offset by the impact of inflationary pressures and merit-driven salary increases. Interest expense is expected to be approximately $500 million for the year. This is a 25% increase from fiscal '23 and is primarily due to the incremental interest expense associated with the financing of the reclassification. The comparable tax rate, excluding Canopy equity earnings, is expected to be around 19%. Rounding up the P&L, we anticipate approximately $40 million in non-controlling interest benefits and weighted average diluted shares outstanding are targeted at approximately 184 million. Turning to cash flow. We expect fiscal '24 free cash flow to be in the range of $1.2 billion to $1.3 billion, which reflects operating cash flow in the range of $2.4 billion to $2.6 billion and CapEx of $1.2 billion to $1.3 billion. CapEx includes approximately $1 billion to support our Mexico brewery investment and most of the remainder will support our Wine and Spirits hospitality updates. To wrap up, I would like to reiterate that our refreshed capital allocation priorities that we have introduced and discussed throughout fiscal '23 and earlier by Bill remain unchanged. We remain committed to a disciplined financial foundation by maintaining an investment-grade rating as we move towards our net leverage ratio target, delivering returns to shareholders via both dividends in line with our payout ratio goal and through incremental share repurchases to at least cover dilution while remaining opportunistic for any additional repurchases, continuing to support the growth of our businesses through deployed capital in our beer brewing additions and in our Wine and Spirits hospitality investments, and lastly, through smaller acquisitions that will fill gaps or enhance our existing portfolio. We believe that this strong disciplined capital allocation strategy, combined with exceptional execution, will empower us to be a premier shareholder return generator for the foreseeable future. With that, Bill and I are happy to take your questions.

Thank you. Good morning. Can you comment on what you’re seeing most recently that makes you feel confident about the 7% to 9% sales growth outlook, particularly in light of the broad deceleration in consumption called out by retailers in March? And related to that, are there any dynamics between shipments ahead of Cinco de Mayo, the start of the summer, and the depletions as we move into the first quarter and throughout the year? And if I can squeeze in a question on the pricing front, you mentioned the 1% to 2%, but I understand some of the competitors decided to just push back. Given the dynamics that you had towards the fall last year, are you going to be mostly looking to do pricing for the fall? Thank you.

Sure. Thanks for the question, and good morning to you. A couple of things that give us the confidence in the 7% to 9% range. First of all, we saw a very strong start to the year in markets like Texas and Florida, which have both seen double-digit increases in the first month of the year. Now acknowledging that the state of California has been challenging, but I’m very excited about California. In Q4, we saw our distribution growth; our effective distribution grew by 3.6%, Q4 versus the prior Q4, or simple distribution despite a very broad market capability there, saw simple distribution grow up 2%. Our draft panels went up over 9%. What this says to me is that we are well prepared for when California gets back into their normal weather pattern versus what we saw this year. So, we feel very comfortable. Obviously, we wouldn’t be giving you this guidance if we thought otherwise. But we feel very confident that we’ll be in that 7% to 9% range that we noted today. Garth, do you want to touch on the pricing point?

Yes. As we stated in our prepared remarks, we’re comfortable with the pricing at our 1% to 2% algorithm. Our approach to pricing gives us the flexibility throughout the year to monitor the macroeconomic and inflationary potential recession impacts on our consumer. It allows us to monitor competitor behavior and give us the flexibility to act agilely when we see a reason to adjust prices. So, that will be something that I mentioned in my prepared remarks that to the extent we make any changes throughout the year, we will provide updates on our regular quarterly calls.

Just a quick cleanup. Bill, I’m not sure if you can comment on March depletion trends. I mean, presumably, given the importance of California, I suspect it’s probably running a bit below what we saw in the fourth quarter. Maybe you could just comment on that. But my broader question is on the Oro launch, a follow-up on your expectations, and comments on cannibalization risk. Additionally, how we should think about this rollout relative to the premier launch several years ago and the degree of incremental spend? If I’m not mistaken, Garth, you can correct me if I’m wrong, I think that was in the $35 million to $40 million range of incremental spend behind that rollout, but just some context around there would be helpful. So, thank you both for that. I appreciate it.

Sure. So that I don’t step on myself after I just got done saying at CAGNY that I wasn’t going to talk about depletions anymore, I won’t specifically talk about March depletions other than to say they’re pretty much in line with what we expected. As I did note in my prior answer to Andrea, Texas and Florida were up double digits. Certainly, California was challenged this past year. But I think it’s safe to say that as we progress in the year, it’s extremely unusual to have rain, snow or flooding once you get into May, June, July, and August in the state of California. So much like we've seen many other times when there’s a dislocation in a particular market, we expect that to pass over time. Second, related to your Oro question, we’ve said we’re going to be very sensible about the rollout of Oro. I’m pleased to say that our beer group has done an exceptionally good job of getting distribution into the marketplace. As you know, we’re less than a month in on that particular project. But we are very positive about the cannibalization rates that we saw in the three test markets. We saw incrementality above 60% in those markets, which we are very pleased with. And we really think Oro fills a gap, particularly with our core Hispanic consumer, who has been looking for an alternative to some of the other light beer scenarios. So, we’re very positive about that, but we’re going to do it in a very sensible and approachable way. For those of you who watched March Madness, you would have noted that we started our media campaign during that event. This launch will be supported by significant media over the course of the summer.

On the beer depletion side, can you discuss a bit the trends you’re seeing on-premise? The gap looked better in terms of on-premise and some of the smaller store on-track channels relative to track channels versus Q2 and Q3. So just would love to get an update there. And then, also do you think you’re seeing any broader macro impacts in your portfolio? Maybe give us a bit of an update on trade down in general in beer and what’s occurring there and any impacts to your business? Thanks.

You bet. So in terms of on-premise, it continues to grow, as we noted in our prepared remarks. We continue to see acceleration in the on-premise, which we think is very good. We’re not quite back to where we were from a normal standpoint that we sat before the pandemic, but we continue to make progress as we are seeing more and more often that consumers are being out in the marketplace and consuming on-premise. So we remain optimistic. Our growth profile in the on-premise really continues to accelerate. As I think many on-premise accounts are looking more and more for brands that resonate consistently with consumers. Obviously, we have those, and that speaks very well. I used the example of a well-saturated market like California where our draft panels on our business were up 9% in the fourth quarter last year. I think that reflects potential that still exists for us in the on-premise. Relative to your question about trade down, we have seen very little trade down against our portfolio. Certainly, there have been some, but it tends to occur at lower price points than ours. So there are some consumers that are showing some concern about general inflationary macroeconomic trends. But by and large, that has occurred at lower price points where our brands compete. That’s fairly consistent with what we’ve seen relative to the consumer loyalty we see against our brands. It’s the benefit of having consumer-preferred brands in our portfolio.

I wanted to follow up on Garth's comments about guidance. I'm not sure if I completely understood. It seemed you were discussing productivity measures that could help achieve the margin target. Then you briefly mentioned hedging programs and the extent to which they are hedged, and I didn't quite catch that. I was trying to understand how hedging relates to productivity and the point you were making.

Yes. So sure, Robert, thanks for the question. As Joe indicated at the beginning of the remarks, we are going to be posting some slides to our website immediately following this call specific to the efficiency-productivity efficiencies and the hedging. The point on that is in any given year, we have certain productivity goals, efficiency goals, savings to help offset the impact of cost increases related to inflation. So that’s no different than any other year. The point of the comment was that those increases that I had stated previously are net of those efficiencies. On the point around hedging, we continue to have a robust hedging policy program. Typically, we are only able to hedge around 10% to 15% of what’s in our cost of goods. As we enter this year, we are at where we would normally be in terms of the percent of commodities that are hedged.

Just a few follow-ups. Bill, you mentioned some of the distribution gains you’ve seen in California. Just was hoping to get some context on your view on resets and what you’re seeing more broadly, especially in the markets where you’re undershared relative to California? The second question is just there’s been a lot of discussion in the trade about some of the other brewers perhaps rolling back some pricing or promoting back some of the recent price increases. Just wanted to get some context on how you think about if that were to happen; would you need to react or not? I'd love your context and perspective on that.

Yes. One of the things that relative to resets, we are doing extremely well in reset situations. It just makes good business sense because with our portfolio representing more than 80% of the growth in the total beer category, it just makes sense for retailers to increase our shelf positions versus the competition. You see, as we said in our prepared remarks, Modelo being the number 1 growth driver and Corona being the number 3 growth driver while Pacifico is among the top 10 growth drivers; these brands demand more shelf space. Our team is specifically focused on that very topic. Regarding pricing, as Garth noted, we carefully analyze the elasticities against our brands. We’re very mindful that we want to keep our consumer. Our pricing strategies over time have been to be sensible and approachable to ensure that we keep our consumers. We’ll raise prices within our normal algorithm this year in the 1% to 2% range as Garth noted but should expect no rollback of any pricing scenarios from us this year as we have been judicious and sensible about keeping the consumer engaged with us as we move pricing in the past. We’ll continue to monitor carefully as the year goes on.

I had a question on your free cash flow guidance of $1.2 billion to $1.3 billion this year. It’s a fair amount below your historical run rate. So maybe you could highlight the key puts and takes that are going to impact your free cash flow this year? And then, you completed your share repurchase goals so far and your $5 billion return to shareholder target, but you didn’t announce a new return goal. So, curious how you’re thinking about your capital allocation priorities going forward? What’s realistic to consider for cash return to shareholders this year and beyond thinking about this in the context of the CapEx needs and your leverage targets, etc? Thanks.

Thanks, Bonnie. To start on free cash flow, we need to start at operating cash flow. So operating cash flow is a bit down this year versus last year. The primary drivers of that are a couple-fold. One is the increase in interest that I referenced, pretty much a 25% increase on a year-over-year basis, driven primarily by the debt and interest associated with the collapse, and to a lesser extent some changes in working capital. Additionally, we’ll have higher cash paid taxes next year due to the U.S. and some nonrecurring tax benefits. Moving further down the list, we’ll continue to have significant investments in CapEx, as you heard. Those factors are driving the free cash operating cash flow and free cash flow ranges we outlined earlier. As it relates to returning capital to shareholders through share repurchases, we still have nearly $1 billion left under our existing Board authorization for share repurchases. We will continue to be agile and take advantage of market conditions, just like we did in Q4, where, as Bill noted, we aggressively bought back almost $300 million worth of shares due to dislocations in price. That will be how we will continue throughout the year. We like the flexibility it provides us.

So I wanted to ask about the pricing cadence and the commentary that you’re going to be monitoring the health of the consumer. You provided a lot of color in response to both Andrea and Nik’s questions. If you don’t plan to roll back prices, can you maybe just talk about what actions you would be willing to take if the environment were to deteriorate? Would that just be pricing at the lower end? And I guess what I’m really trying to understand is if the pricing outlook were to change at all, how would that impact your ability to achieve your margin targets? Could you lean in more elsewhere, or would it be more difficult?

Well, there’s a lot of negative what-ifs in the question, which, frankly, we don’t see coming to pass. Historically, our beer business has been able to accomplish maintaining a very consistent approach to pricing over time, 1% to 2% year after year. The last couple of years, as you know, we’ve significantly gone beyond that in an effort to hedge against some of the strong inflationary pressures that all consumer companies have faced. Our belief is we are in a very good position to do our historical 1% to 2% pricing increase. That’s based on analytics and elasticity assessments we do on an ongoing basis. We feel very comfortable with that, and it should allow us to do everything we said. I would also note how strong the Modelo share is in its two strongest markets, California and Nevada, where we were double digits. I’m pleased to report that this is now in four states, which includes both New Jersey and Texas, further supporting what we just talked about regarding our ability to price within our 1% to 2% algorithm.

So just two quick ones for me. Garth, on the beer margin outlook, you gave a lot of great detail. Is there any way to frame expectations for gross margin relative to operating margin? I say that in the context of productivity initiatives, which I suppose can play out in both line items. I’m curious if you have any comment there. The second observation is Wine and Spirits just delivered what I think is the best operating margin in a few years. Yet the outlook would imply that you’re giving a lot of that back. Is that just conservatism, or is there something missing in the bridge about some of this nice premiumization that has really helped the margin structure there? I ask that in the context of prior margin targets for the Wine and Spirits business in general. Thanks for those two.

Yes. On the Wine and Spirits margins, we’re forecasting wine margins to increase by at least 40 basis points on a year-over-year basis. You’ll be able to see that detail on the website. As it relates to operating margin with beer, the headwinds we’re facing in beer this coming year will be in gross margin and not below the line. We’ll continue to effectively manage our marketing and SG&A spend and focus on the highest return and highest priority initiatives. The largest drag for us, as we’ve said, will be the inflationary impact, which we will encounter through COGS and some incremental depreciation throughout the year.

Coming back to the beer margin point, if I take the midpoint of your beer guidance for top line and operating income, it comes in a touch below your initial 38 that I think you discussed. Was there anything in particular that changed to the downside versus your previous commentary, or is this just a rounding situation? Given the margins of last year and what we’ll be seeing based on your guidance for this fiscal year, should we still be thinking about 39% to 40% as your medium-term margin for the business? Would it be fair to assume that you’ll be able to achieve that by fiscal '25?

We have full conviction that we’re going to deliver operating margins for our beer business at approximately 38%. The biggest driver again this year is going to be driven predominantly by inflation that we outlined in my script along with some incremental depreciation. Offsetting that, we’ll continue to take pricing as we have, and we’ll continue to drive incremental volume, which helps to offset fixed overheads and depreciation. We’ll talk about FY25 as we get closer to the end of the year.

I wanted to touch just move back to Wine and Spirits. And Garth, could you talk a little bit about how SVEDKA and Woodbridge are affecting margin and maybe margin progression there? I guess I ask this in the context of them being a much larger contributor to volume than to revenue. My assumption is their margins are lower than the average. So just trying to understand, is getting volume stabilization or growth in those two brands an important component for building margins there, or is that not really a big factor?

You’re correct that given the size of those brands, they do have a drag on our overall margin profile due to the price points in which they compete and their below-average margin profile. On a positive note, the Wine and Spirits team has aggressive revitalization plans in place for both brands so we can stabilize those brands and continue to outperform the price segments that they participate in. As we continue to make those efficiency improvements, we expect to achieve our margin targets.

Thanks very much. Fiscal ‘23 was a big year for Constellation Brands. We achieved record net sales and comparable operating income and were recognized for the tenth year as a CPG growth leader, despite some of the most significant inflationary headwinds affecting our company and consumers in recent history. Our beer business outperformed our initial expectations and continued to lead in share gains, growth, and margins. Despite some volatility across the year as we lapped distortions in our performance from prior periods and navigated incremental pricing actions beyond our annual algorithm intended to offset cost pressures across the chain. We delivered many other transformational milestones, including our transition to a single share class structure and other important corporate governance enhancements. We also started our construction activities at our new brewery site in Veracruz, along with additional refinement of our Wine and Spirits portfolio. The performance of our business, coupled with our disciplined and balanced capital allocation priorities allowed us to maintain our investment-grade rating, surpassing our share repurchases and dividend cash returns goal by over $400 million while continuing to grow our beer production capacity and executing small growth-accretive M&A. As we look forward to fiscal ‘24, we remain focused on delivering sustainable growth and value creation for our shareholders through the execution of our annual plan and by continuing to advance our strategic initiatives. We are confident in our ability to continue building momentum across our portfolio while pursuing strong volume growth and targeted pricing actions. We are bullish on the future performance of our Wine and Spirits business as it continues to advance its strategy, and we remain committed to our capital allocation priorities and ESG efforts. Thanks again, everyone, for joining the call. We hope you’ll choose to enjoy your Cinco de Mayo and Memorial Day celebrations with some of our great products. We look forward to speaking with all of you in late June on our next quarterly call. Thank you very much, and have a great day.