COTT CORPORATION Moderator: Jarrod Langhans May 5, 2016 … · 2018-04-18 · COTT CORPORATION...

COTT CORPORATION Moderator: Jarrod Langhans

05-05-16/9:00 am CT Confirmation # 9463425

COTT CORPORATION

Moderator: Jarrod Langhans May 5, 2016 9:00 am CT

Operator: Good day everyone and welcome to Cott Corporation’s First Quarter 2016 Earnings

conference call. All participants are currently in a listen-only mode. This call will end no later than

11:00 a.m. eastern daylight time. The call is being Webcast live on Cott’s Website at

www.cott.com and will be available for a playback there until May 20, 2016.

We remind you that this conference call contains certain forward looking statements reflecting

management’s current expectations regarding future results of operations, economic performance

and financial conditions.

Such statements include but are not limited to statements that relate to the company’s business

strategy, investment in organic and acquisition opportunities including expected synergies and

financial impart related thereto, goals and expectations concerning our market position, future

operations and estimated volumes, revenues, EBITDA, free cash flows, capital expenditures,

taxes and the impact of foreign exchange rates.

Forward looking statements are subject to certain risks and uncertainties which could cause

actual results to materially differ from current expectations. These risks and uncertainties are

detailed from time to time in the company’s security’s filings.

http://www.cott.com/



The information set forth herein should be considered in light of such risks and uncertainties.

Certain material factors or assumptions were applied in drawing conclusions or making forecasts

or projections reflected in the forward looking information.

Additional information about the material factors or assumptions applied in drawing conclusions

or making forecasts or projections reflected in the forward looking information is available in the

company’s press release issued earlier this morning and its quarterly report on Form 10Q for the

quarter ended April 2, 2016.

The company does not accept as expressly required by applicable law assume any obligation to

update the information contained in this conference call. A reconciliation of any non-gap financial

measures discussed during the call with the most comparable measures in accordance with gap

is available in the company’s first quarter, 2000 earnings announcement released earlier this

morning as well as on the investor relation’s section of the company’s Website at www.cott.com.

For opening remarks and introductions I will now turn the conference over to Mr. Jarrod

Langhans, Cott’s Director of Investor Relations. Please begin sir.

Jarrod Langhans: Good morning and thank you for joining our call. Today I am here with Jerry Fowden,

our Chief Executive Officer and Jay Wells our Chief Financial Officer.

I would encourage everyone to review a copy of our press release as we have provided a number

of bridges within the press release that we issued this morning in order to assist our

shareholders, analysts and potential investors with understanding the operations of our various

business segments during the quarter.

In addition we have included a few schedules on line at www.cott.com. With that said Jerry will

start this morning’s call with some of his observations on the quarter and our broader strategy





before turning the call over to Jay for a discussion of our first quarter, 2016 consolidated financial

performance and an overview of our business units. Jay will then turn the call back to Jerry who

will complete the call with our expectations for the remainder of the year and beyond.

Following our prepared remarks we will open the call up for questions. With that let me now turn

the call over to Jerry.

Jerry Fowden: Thank you Jarrod and good morning everyone. As I recently commented on our Fourth

Quarter Earnings Call we continue to transition our business through a combination of organic

action and synergies transactional activity in order to progressively shift towards a higher margin

and higher growth business while keeping our focus on our 4 C’s, especially free cash flow

generation with a goal of delivering strong compound growth in adjusted free cash flow for many

years to come.

If we look at our business as a whole while some segments and parts of our business remain

challenging such as the more traditional areas of carbonated soft drinks and shelf stable juices it

is very pleasing to see other segments of our business such as home office delivery demonstrate

exceptionally strong customer growth.

So on that note let’s take a high level look at some of the drivers behind our first quarter’s results

where you can see we invested in and saw significant customer growth DS services and in our

traditional business we saw strong growth across our entire sparkling waters and mixer segment.

This increase in spend or investment behind DS services customer growth and Cott’s traditional

business added some $4 to $5 million of expense in the quarter. These additional expenses

where that is reflected in our first quarter’s adjusted EBITA which came in at $71 million after $3

million of foreign exchange headwinds and as just mentioned $4 to $5 million of incremental

growth related spend.



First quarter adjusted free cash flow improved $10 million as we continued to manage working

capital tightly and controlled capital expenditure.

The three themes that play within our results are first, the investment in growth, second a number

of macro factors including foreign exchange and thirdly certain higher than anticipated operational

costs.

So let’s look at each of these in a little more detail and then I will pass over to Jay to cover our

financial performance and business unit performance in a little more detail.

First our investment behind growth - DS Services delivered the highest number of gross and net

organic new customers in the first quarter of 2016 than in any other first quarter. First quarter

gross customer additions, that is water coolers, brewers and filtration units were 42% higher than

the first quarter of 2015. This accelerated rate of new organic customer signups has continued

into April and as of present we see quarter two continuing this level of customer growth and the

associated upfront cost.

This accelerated customer growth is being driven by several factors including our DS Services

integration and restructuring is behind us and we are fully staffed in our customer facing sales

teams plus at the start of this year we initiated our first dedicated customer installation team to

augment our route sales representative’s efforts and improve our installation service.

Our new customer service center in Lakeland, Florida is now fully up and running and providing

improved levels of service compared to where we were this time last year when we set out on

consolidating three call centers into one new one with improved telephony and software.



Additionally, we have updated and simplified a number of our marketing programs for new

customer signups across multiple channels and geographies from which we have seen an

improvement in our conversion ratio. Plus as noted in our press release we have extended by

four additional years our install retail (booth) program with a major partner such that it now runs

right through to the end of 2021 and all of this has been going on while there has been an

unprecedented level of media and public concern concerning the quality of municipal water in

various parts of the United States.

We believe all these factors played a part and helped contribute to the strong organic new

customer growth. While this DS Services customer growth is obviously very attractive and

provides real momentum to the business it has required the following extra investment and work

but at times has been challenging to keep up with.

We have invested over $3 million during the quarter in sales marketing and commission cost plus

overtime to keep up with the pace of installations. It is not often a business is faced with an over

40% increase in customer growth and I would like to thank everyone at DS Services for rising to

the challenge.

With an average customer life of over four years and a 14 month average payback the economics

of accelerated customer growth while challenging in the short term are very attractive to our

investment hypothesis. Also, while on the topic of investing in growth but to a lesser degree our

traditional business in North America invested over $1 million in the quarter towards the launch of

a new flavored sparking water program with a large retailer that has seen significant launch

success. In fact outselling its entire year’s forecast in the first couple of months.

This success has driven higher than expected manufacturing setup, launch and freight costs plus

the need for us to further modify production lines in additional parts of the country to increase

output and reduce freight costs - in a sense another nice problem to have.



The sales of this new flavored sparking water program alongside continued growth in other

sparking waters and mixes lifted our overall North American sparking water and mixes growth in

the quarter to 11% which when added to a further 8% growth in contract manufacturing fully offset

the North American declines in carbonated soft drinks and shelf-stabled juices to produce 2%

actual case volume growth in the quarter.

We continue to believe that the combination of volume growth in contract manufacturing and

sparking water and mixes in our traditional business will broadly offset the ongoing volume

decline in the overall carbonated soft drink category which was 3.7% in the quarter and the

overall shelf-stabled juice decline which was 5% in the quarter and that our accelerated growth in

new home office delivery customers demonstrates the strength of our DS Services platform and

an increased consumer appetite for the benefits of quality hydration at work and at home.

To conclude our investment discussion let’s not forget we completed our acquisition of

AquaTerra, Canada’s oldest and largest direct to consumer home and office water delivery

business in January of this year and so far things are off to a good start and fully in line with our

acquisition model.

Now let’s move on to macro factors and the shift in our business in customer mix. As you are

aware foreign exchange rates have impacted many, if not all, multi-national consumer goods

company and for Cotts the adverse impact of foreign exchange for our first quarter’s EBITDA was

over $3 million, predominantly from our Canadian and UK operations.

Also in the macroeconomic category lower diesel costs while not having any real EBITDA impact

will continue to lead to a reduction in DS Services energy surcharge relative to last year which will

reduce DS Services revenue growth by around 1%.



While not strictly a macro factor it is worth commenting on the pricing and promotional

environment for our traditional business which remains very competitive in the pack sizes and the

channels where we operate. National brand 2 liter pricing in the US remains at $1.00 almost all

the time in large format retailers and UK prices for branded energy and sports drinks continue to

seek new lows.

The third theme was certain higher than anticipated operational costs. While not helpful we have

had certain higher than anticipated operational costs in our key DS Services and traditional North

American businesses in the first quarter and while they will not run into the second half of the

year they will continue during the second quarter.

In DS Services, operational manufacturing costs and fleet maintenance costs were higher than

anticipated and in our traditional North American business plant down time linked to a water

system failure and an ounce of specification ingredient provided by an external supplier created

some additional incremental costs within the quarter.

As I mentioned and in line with our focus on the 4 C’s, one of which is cost these items are not

expected to impact our second half but for now they are an unexpected drag.

That said, as Jay will cover we did significantly lower our cost in the UK and deliver at a much

higher gross margin than anticipated during the quarter. So I guess the old saying of swings and

roundabouts comes to mind.

I hope that gives you a little insight into the main drivers behind our first quarter and provides you

with a better understanding of the drivers behind DS Services exceptional new customer growth.

Our focus will stay on driving free cash flow and the compound growth in free cash flow over the

coming years even as we look to accelerate our organic and transactional related diversification.



Before I pass to Jay I just wanted to comment on our recent equity issuance. I am pleased to say

the equity offering received good demand and was over two times subscribed with a good mix of

demand from existing and new shareholders across the United States and Canada. It allowed us

to strengthen our balance sheet and put ourselves in a position to evaluate the various

opportunities to further consolidate our position in the home and office water, coffee, tea and

filtration categories where the growth and margin opportunities are attractive and we can leverage

our platform and operating strength to drive synergies.

This is consistent with our much discussed strategy to accelerate the pace and scale of our

acquisition based diversification outside of CSD’s and shelf-stabled juices as well as continuing to

expand our channel mix beyond large format retailers.

Now let me pass over to Jay to cover our financial and business unit results in more detail.

Jay Wells: Thank you Jerry and good morning everyone. With respect to free cash flow as Jerry noted

we continue to see positive results as we focused on our 4 C’s controlling CAPEX tightly and

rigorously managing working capital. As a result we saw adjusted free cash flows improve by $10

million during the quarter as free cash flow usage was $48 million compared to $58 million. We

continue to expect CAPEX to be in the range of $120 to $125 million and for adjusted free cash

flow to grow to $135 to $145 million in fiscal 2016.

Revenue of $698 million was flat, excluding the impact of foreign exchange - 2% lower on a

reported basis with a mix shift from private label and to contract manufacturing in our traditional

business offset by the growth at DS Services and the addition of the AquaTerra business.

Gross profit increased 6% to $214 million with gross margins of 30.6% compared to 28.4% driven

primarily by the ongoing operational leverage at DS Services, the addition of the AquaTerra

business and cost and efficiency initiatives within our traditional business offset in part by the



competitive landscape within our traditional business, the negative impact of foreign exchange

rates and certain higher than anticipated operational costs.

Adjusted EBITDA in the quarter of $71 million was lower by 4% as growth at DS Services, the

addition of AquaTerra and tighter operating controls in our UK business was offset by over $3

million of incremental investment in organic growth in new customers at DS Services, over $1

million for the flavored sparkling water launch mentioned as well as certain higher operational

costs.

Reported EBITDA was $69 million compared to $75 million in the prior year by $64 million in the

prior year if you exclude unrealized inner-company foreign exchange gains.

Adjusted net loss and adjusted loss per diluted share were $3 million and $0.02 respectively

compared to adjusted net loss of $8 million and adjusted loss per diluted share of $0.08.

Total operating income increased to $15 million from $7 million. On an adjusted basis operating

income improved by 12% to $19 million.

Our tax benefit for the first quarter of 2016 was consistent with the first quarter of the prior year at

around $9 million. As things stand today and assuming no new valuation allowance against net

operating loss carryovers we would expect a full year tax benefit on a reported basis to come at

around $10 to $12 million and we will continue to update our expectations as the year

progresses.

Cash taxes for the quarter were $4.2 million - $3.7 million higher than the prior year as a result of

paying a one-time tax in connection with the preferred shares redeemed in 2015. We continue to

expect our full year cash taxes to be minimal in 2016 at some $5 to $8 million dollars.



With that I will now cover the performance of our largest business units. Let’s start with DS

Services. Overall revenue was up 7% to $257 million during the quarter with the addition of

AquaTerra, growth in the home and office water delivery and increased retail sales offset in part

by a declining energy surcharge and lower coffee sales as declines in traditional brew basket

coffee more than offset growth in single serve coffee. On an energy surcharge neutral basis DS

Services revenue increased 8% - 2% excluding AquaTerra. DS Services gross profit increased by

10% to $154 million while gross profit as a percentage of revenue increased to 60% from 58.2%.

Adjusted EBITDA decreased by $1 million to $36 million as a result of investing over $3 million

behind strong first quarter growth in organic new customer additions and higher than expected

first quarter fleet maintenance and operational costs. Reported EBITA of $35 million was up 21%

from $29 million.

As it relates to AquaTerra the business generated approximately $14 million US dollars of

revenue during the quarter. Integration efforts are well under way and performance is in line with

our acquisition model.

In our North American business unit our first quarter 2016 volumes were up 2% in actual cases

driven by strong growth in the sparking water and mixer category which increased by 11% year

over year dated by the new launch previously mentioned, as well as 8% growth in contract

manufacturing.

Revenue was lower by 4% excluding the impact of foreign exchange at $313 million due primarily

to the overall mix shift into contract manufacturing and other private label categories. Gross profit

as a percentage of revenue decreased to 11.4% compared to 12.8% due primarily to the $2

million negative impact of foreign exchange, over $1 million of product launch cost as well as

higher operational costs.



Now turning to the UK, as previously mentioned the UK beverage and retail market remains

challenging as hard discounters pressure for more traditional large format multiple grocers but in

the face of these headwinds we are pleased with the operational results of our UK European

business unit this quarter as they made good progress against the cost and business efficiency

programs we recently outlined.

As a reminder our UK Europe operating segment is in the process of implementing a three-

phased approach for reducing costs, an increasing business deficiency which began in 2015 and

is expected to run through 2018. This three-phase UK action plan will best position our costs and

capabilities to serve the changing nature of the UK retail landscape.

And looking at the operating results for the quarter UK Europe volume decreased 8% in actual

cases and revenue decreased 4% on a foreign exchange neutral basis to $121 million. Gross

profit as a percentage of revenue increased to 16.3% from 11.8% due primarily to tighter cost

controls and lower inventory levels.

Looking forward we expect the UK market to continue to be a challenging environment over the

next couple of years and as we have previously discussed we see a headwind to 2016 EBITDA

as a result of UK market pressures and lower volumes from a large UK customer as the year

progresses.

With regards to Aimia Food in the UK we are again pleased with the performance of Aimia Foods

which had another good quarter with 20% FX neutral revenue growth and good EBITDA growth.

I will now turn the call back to Jerry.

Jerry Fowden: Thank you Jay. As we look at the quarter’s performance and the year as a whole we

expect DS Services to continue to deliver customer and top line growth as we move through 2016



and that the higher fleet and operational manufacturing costs will no longer be present in the

second half of the year.

We also remain focused on the AquaTerra integration which is going well. As you may recall our

plan was to use 2016 as a base year to get AquaTerra fully on to the DS Services operating

platform and systems before extending our other DS Services programs such as our retail

partnerships, our Aqua Café Program, our new Customer Generation Programs and ((inaudible))

acquisitions into Canada. On DS Services ((inaudible)) acquisitions we continue to target $10 to

$20 million of such transactions per year and believe the figure for this year will be just about $10

million and predominantly phased into the second half of summer.

As it relates to our traditional business we expect the North American beverage landscape,

especially CSD’s to remain challenging but overall we believe our North American business can

maintain broadly constant volumes via growth in contract manufacturing and sparking waters and

mixes which alongside tight capital controls should allow the delivery of strong free cash flow.

As you will have just seen Steve Kitching is returning to run our UK European operation after a

very successful assignment as President of our North American business and we are pleased to

announce the appointment of Brad Goist who will take over from Steve. Steve and Brad will

undertake a phased handover during the next couple of months.

In the UK we remain focused on our three-phased cost and efficiency program for our traditional

business which alongside continued growth in Aimia Foods should generate stable free cash flow

despite the foreign exchange and headwinds discussed.

On a consolidated basis we continue to believe revenue is not the best leading indicator given the

ongoing mix shift within our traditional business towards contract manufacturing and the current

adverse foreign exchange environment. To assist you with modeling revenue and its various



contributory elements we have included schedules for the quarter within our press release, as

well as a full year schedule which is on our Website.

As an update to FX and consistent with comments made by many of the national beverage

companies our global EBITDA will be adversely impacted by FX in 2016. Based on our current

hedge positions we currently estimate that 2016 FX rates will provide an $11 to $14 million full

year EBITDA headwind but we will continue to update you on this topic as the year progresses.

On commodities we are looking at another year in which from a net basis commodities inclusive

of our advance coverage and hedges are fairly benign. As mentioned these all for DS Services

operates by a pass through mechanism, high on these ((inaudible)) costs have been passed

through to our customers and higher high-fructose corn syrup costs should be offset by some

resin softness plus the overall commodities are relatively benign.

As we look to the future we believe we have a very clear strategy and direction, one that

generates strong free cash flow from our traditional business, one that has seen great progress in

our transition to supply a broader customer base with better view beverages and one that offers

an attractive cash generative opportunity to further build upon and consolidate opposition in

water, coffee, tea and filtration services to multiple channels by both organic and transactional

means.

So in closing we were pleased with many aspects of the company’s performance this quarter,

including the exceptional new customer growth at DS Services, better than expected UK

European performance and another quarter of improved free cash flow, albeit we recognize we

had certain higher than expected costs mainly in operational areas and the foreign exchange

remains a headwind.



So on that note I would like to turn the call back to Jarrod to open up our question and answer

session.

Jarrod Langhans: Thank you Jay and Jerry. During the Q&A so that we can hear from as many of you as

possible we would ask for a limit of one question from one follow-up per person. Thank you for

your time - Operator please open up the line for questions.

Operator: Ladies and gentlemen the question and answer session is conducted electronically. If you

have a question please press Star 1 and again as Jarrod reminded everyone please limit yourself

to one question and one follow-up.

We will go to our first question from Nik Modi with RBC Capital Market.

Male: Hi, good morning guys. This is Russ ((inaudible)) for Nik.

Jerry Fowden: Good morning Nik.

Male: You touched on in your prepared remarks but I was just wondering if you could provide any more

specifics around what has been driving DS Services customer growth, how DS customer growth

trended so far in the second quarter and over the long run what is a more normalized rate we

should expect in terms of customer growth each quarter or year? Thank you.

Jerry Fowden: Okay, thanks Nik, good question and as we mentioned on the prepared remarks, you

know, we have seen about a 42% lift in the rate of customer signups in DS Services in the first

quarter, not just compared to 2015 but actually compared to the average of the last 10 years and

as far as we can see in our history there has never been a first quarter as strong as this.



There is no doubt that all of the media coverage around the quality of municipal water, (north

face) US, Flint, Michigan, various things which has been covered throughout the US in most

media but that has been a contributory factor along with us getting our call center and our sales

operation and our marketing programs, you know, all fine-tuned and well under our belt and being

in a stronger position to execute now all the integration is behind us.

Now what does it really mean? Well in the first quarter we ended up with 20,000 net new

customers higher than we did last year and 20,000 customers on a full year basis if we were to

consider what might they do in 2017 would drive around $5 million of incremental revenue and

about $2 million of incremental EBITDA. We are already through April and I can say that that rate

of growth is continuing so we are expecting Q2 with regards to new customer signups also to be

very strong indeed and if we were to add 20,000 additional net customers in Q2, you know, that

would be a further $5 million of revenue and another couple of million of EBITDA so the first two

quarters together around $10 million of revenue and $4 million of EBITDA. So it is a good position

to be in albeit it is providing a lot of strain on the whole operation to get all of these installed.

There will obviously be a little bit of a lag between signups and installation but we have got all of

our suppliers of equipment and all of our people kind of working around the clock to keep up with

this because we have decided while they are coming in, you know, let’s take them.

So I hope that kind of fills in some of the gaps Nik.

Male: No, that is excellent Jerry. Thank you very much.

Operator: And we will take our next question from Derek Delay with Canaccord Genuity.

Derek Delay: Hi guys.

Jerry Fowden: Hi Derek.



Derek Delay: Hi, how are you, good morning just wanted a couple more housekeeping questions here.

Just in terms of - can you give an update on the synergies that you achieved in the quarter with

respect to DS, as well as the absolute or I guess the absolute number of incremental contract

manufacturing cases that you have to date?

Jay Wells: I will take the synergies and then I will pass it over to Jerry for the contract manufacturing.

When you look at the quarter we did have $2 million of incremental synergies on DS in the

quarter for a total of 12 up to date and, you know, we really feel that this is line of our goal to get,

you know, overall $30 million over a three year period.

Jerry Fowden: And on contract manufacturing growth it was 8% in the quarter, excluding anything that

we might internally manufacture called DS which provided between another one to two million

cases of incremental contract manufacturing growth bringing our target so far up to over $48

million ((inaudible)) equivalent cases of growth against our target of $50 to $80 million and we

have still got three more quarters to go so I think things are still tracking well there and as we look

out over the next couple of years because you tend to get quite a lot of advance knowledge of

things that are kind of coming down the pipeline, although often it is a one to two year customer

lead we are comfortable that we do see additional contract manufacturing growth not just in the

next three quarters but also carrying on into 2017 as well and we recognize that someday Derek

we need to, you know, provide some outlying guidance of maybe what we see contract

manufacturing growth for ‘17 and ‘18 to be as well but we will get around to that as this year

unfolds.

Derek Delay: Okay, thank you. That is very helpful and just one follow-up if I might. Can you just

comment on some of the areas where you are seeing, you know, the best growth? Clearly

sparkling water looks to be like one of those areas and areas where, you know, you think that

there would be an opportunity to extend your distribution presence and maybe even extend, you



know, your overall presence - your presence overall as you continue to look to diversify away

from, you know, CSD and shelf-stable juices going forward?

Jerry Fowden: Yes, in the traditional business and I think you picked the right category yourself, you

know, apart from contract manufacturing growth which is for all types of products that we can

make in our plants for multiple different, mainly global beverage companies, sparking waters and

mixes and various value added sparking and flavors waters is the area that we see as driving a

lot of potential growth. It was at 11% in the quarter. We believe we have a good trend there. The

current expectation for that new product launch which was originally forecast by the retailer at

about 700,000 cases, we have delivered well over a million cases in the first few weeks of that

launch and we now think it will do somewhere between three and five million cases in the year.

And I think if we look at quarter one and I might be in ((inaudible)) sent out to you Derek but I

think sparkling water and mixes were now up to about 27% of our mix in North America so you

can see that it is not just got a nice double digit growth rate, it has got a double digit growth rate

on a pretty meaningful base now so that comment that, you know, is it two or is it three year’s

time we could see sparking waters and mixes being bigger than CSD’s is something that looks

like it is very much on track.

Derek Delay: Terrific, thank you very much.

Jerry Fowden: Thank you.

Operator: We will take our next question from Amit Sharma with BMO Capital Markets.

Amit Sharma: Hi, good morning everyone.

Jerry Fowden: Good morning Amit, how are you?



Amit Sharma: I am very well, thank you sir. I apologize for jumping on the call a little bit late. Jay can you

help us just kind of bridge the gap between 42% increase in customer addition versus 2%

revenue growth in DS?

Jay Wells: Is that a delayed or?

Amit Sharma: Could you help us understand that please?

Jerry Fowden: Yes, I mean I will pick up on something and then Jay can see what he might add

afterwards Amit and the DS revenue growth in the quarter was around 2% which was about 1%

lower than we would have wished and frankly that was all down to the coffee segment where in

this particular quarter our brew basket coffee declined at a rate that was larger than we were able

to offset by our growth in single serve coffee so all of that kind of 1% shortfall in DS is really

around the area of coffee.

And then when it comes to the new customer signups in our quarter one this year ended up with

20,000 net new extra customer signups above the position we had in 2015 and there will be a bit

of a lag between them signing up and getting the cooler installed in their home and the revenue

from that coming through but to put that 20,000 new net customer signups into perspective the

20,000 growth in net new customers in quarter one this year is higher than the total net new

customer growth we had for many organic means in 2015 and at the moment things are heading

for the growth in quarter two to be, you know, just as high, strong, exceptional whatever word you

want to use as we have just delivered in quarter one and we say that with the confidence of April

under our belt where we are have seen something like 10,000 net new customers added in the

single month of April and gain there will be a bit of a lag before the coolers are installed and the

delivery starts to all of those homes and offices Amit.



Amit Sharma: Got it and then Jerry I wanted to also talk about management changes recently. I mean

clearly it is seen as a ((inaudible)) here in North America but as you look forward and bringing

Brad to run the North American business can you talk about, you know, what are key priorities for

him and what should we look for in the next 12 to 18 months?

Jerry Fowden: Yes, and you know, first I want to welcome Brad and thank Steve. Steve came out to the

US, has done an over three-year assignment here and frankly for a whole collection of family

reason that, you know, I won’t go on to in this call with everyone listening I am very supportive of

his desire to return to the UK and very pleased indeed that we have managed to juggle things

around keeping everyone happy such that Steve can take back a role very similar to the one he

had before of President of our UK European business so, you know, that is on Steve.

The good news is we have got a couple of months of transition between Steve and Brad. We are

delighted to get Brad on board but we don’t see any changes with regards to this management

change in terms of the strategy, the direction, the priorities, the growth of contract manufacturing,

the growth in sparkling waters and mixes, that keep the volume flat through those growth areas

covering off CSD and shelf-stable juice decline and continuing the, you know, high stable free

cash flow generation.

Brad is aware of the strategy, a strong supporter of the strategy, actually listened to our last

conference call, will be listening to this call so no change with regards to the strategy and we are

adding Brad to the team and am very keen we have kept Steve on the team.

Amit Sharma: Got it, thank you very much.

Jerry Fowden: Thank you Amit.

Operator: We will go next to Judy Hong with Goldman Sachs.



Judy Hong: Thank you, good morning.

Jerry Fowden: Hi Judy.

(Judy Hahn): So for DS, you know, you talked about some of the incremental expenses, the $3 million

and the operational cost increases that you saw in the first quarter so first on the $3 million

incremental expenses it is great to see that is driving the customer growth but can you just

elaborate on sort of your decision to spend that money incrementally and then I think you said the

operational costs are going to be more first half and then gets eliminated in the second half but

are some of these incremental expenses staying or is this also just a Q1 or first half

phenomenon?

Jerry Fowden: Yes, I would like. I think you have more ((inaudible)) Judy. Let’s break it into two halves.

There is the cost associated with driving increased new customer growth in DS Services which

we would say we are very pleased at is a positive cost. It is an investment behind future growth.

The average DS Services customer life is about 4.2, 4.3 years. They have around about a 14

month payback. We expense the vast majority of all costs when we take on a new customer at

the time of acquisition but you can see with an over four year life and a fourteen month payback

they are pretty attractive in the long term.

Where do the costs come from? While we have a combination of online media costs, print media

costs, our own salespeople, where we have stopped out knocking on doors, our retail booth

program and what you have are media costs, the promotion for the new customer cost which is

often $50 off your first bills if you sign up, commissions that we pay to our retail partners and then

over and above that we have certain performance related commissions to our own team and the

actual cost of driving round, installing the cooler, training the customer on how it works for the first

time and as we have put into various presentations externally in the past excluding the capital



cost of the cooler you have initial customer cost anywhere in the $150 to $200 depending on the

channel they come through ((inaudible)).

So you get those costs, you get the customer and then you have on average 4.2 years of, you

know, high gross margin generation from that customer and as long as we can keep up with the

workloads, the supply of coolers and everything else that goes with that we will happily continue

to drive those incremental new customers and the costs associated with it.

On the other side of the fence the higher than anticipated operational manufacturing costs - they

were not expected, you know, if I was honest I would say a bit of a nuisance. We kind of had a

few too many accidents. We repaired things and ((inaudible)) in a few too many ((inaudible)). We

had some new managers but used some external hired equipment instead of borrowing from their

next nearest depot and we do believe we will be fully in control of those costs and they will not be

a continuing unexpected additional cost as we get into the second half of the year but we do see

them continuing in the second quarter both within our traditional business where I outline some of

the reasons for that and within DS Services.

So there is very good costs and then there with the unanticipated operational cost that we see

going away by the second half. I hope - does that kind of fill the gaps Judy?

Judy Hong: Yes, that is helpful and then the second question is for Europe which I think came in better

again after fourth quarter also came in better. So are there any, you know, sort of one or two

things that are driving the better performance or as part of your first phase cost program you are

just finding more cost opportunities that is kind of adding up to better performance and then any

update on sort of getting the space that you have ((inaudible)) timing perspective?

Jerry Fowden: That is another good question and the UK did come in better than we were expecting for a

combination of factors. One, we had implemented the cost and benefit actions that was the first



phase of our three-phase cost and efficiency program and therefore we are getting the benefits of

those now even though the loss of some of the volume from a large UK customer does not really

phase in until quarter two, quarter three and quarter four.

If you were to look back quarter one last year was not a particularly strong quarter. We were

carrying higher levels of inventory post RSAP implementation and that inventory drove higher

external and out store costs and ((inaudible)) costs therefore this year with that well behind us we

are carrying lower inventory levels and there are lower costs there even though our customer

service standard is significantly improved post the implementation of SAP so that is a benefit.

And overall we believe our three phase program in the UK is well on track if not slightly ahead.

You may recall on the last call we mentioned that we had received the planning permission for

building a large warehouse at our largest plant in the UK. We have now agreed in principal which

third party we will work with to develop that site. We have advanced an awful lot of the detailed

planning and I would anticipate by the time we are next on this call we would have executed that

agreement which is kind of looking like it is a very attractive step towards finalizing the second

phase of that UK program so a mixture of good cost control, the costs coming in and leading the

reduced business from a large UK customer and lapping a ((inaudible)) quarter last year with

lower ((inaudible)) and warehousing cost.

Judy Hong: Got it, okay thank you.


Operator: We will take our next question from David Hartley with Credit Suisse.

David Hartley: Thank you very much.



Jerry Fowden: Hi David.

David Hartley: Hey Jerry, how are you doing?

Jerry Fowden: I am good, thank you. It is about 70 degrees and not humid down here in Florida today so

shame you are not down here with us David.

David Hartley: I know, I don’t know I am not too happy for that - to hear that. Listen, I just want to ask you

first of all on the $5 million $2 million numbers you threw out on the 20,000 new customers so -

and you talked about a 14 month payback period so you have got $3 million cost for those 20,000

new customers. You are getting $2 million so I guess you don’t get the full gain like - should I

expect that that $5 million and the $2 million actually grows over time or how should I think of that

because it doesn’t quite ((inaudible))?

Jerry Fowden: Yes, I mean the first thing is the numbers I have given you there are - we have adjusted

for net of the normal churn that we get within the customer base and that churn is normally a little

bit higher in the first year than future years so the best way to look at that is as a full year 2017

rough equivalent and hopefully I have kind of errored on the, you know, slightly safe or cautious

side which you would expect from this kind of call David in that $5 million and $2 million.

David Hartley: Okay, and, you know, of the - so the customers that you do get of the 20,000 I mean what

is the - is that a net number or is that what you are...

Jerry Fowden: That is a net number yes. Our actual gross customer signups which I think we put in the

press release in the quarter. I am going off the top of my mind and I can see people scattering

around to double check the number. With 100,000 gross adds compared to 70,000 gross adds

last year and out of that the actual high rate of incremental net i.e. gross adds minus ((inaudible))

customer growth in quarter one this year was 20,000 and I think something like 300 net new



additional customers higher this year than we did in quarter one last year and I think when you

look back last year with all our integration and other actions and changing call centers our total

net new organic customer growth last year for all of the services...

Male: Was just over 3,000.

Jerry Fowden: ...was less than 10,000 so we have already delivered more net new customers this year

than we had all of last year and as I mentioned the number of net news for April alone stood at

about 10,000 so we certainly see this trend continuing through quarter two and the real question

we have got David is, you know, can we in terms of reaching the service standards we want to

achieve can we install these fast enough, can we get the additional coolers from our suppliers

fast enough because, you know, it is a meaningful increase in work load all around for the team.

David Hartley: Okay, great and let me just follow up with A and B questions. First on A, you know, we

have seen the price of oil rise and that is going to affect resin cost, maybe not this year but into

the next. What is your view on commodity costs as we go out into next year and secondly B,

could you talk a little bit about the acquisition and divestiture environment in North America and

the UK?

Jerry Fowden: Okay, on the first one certainly we have a large degree of coverage for this year and I

think I gave, you know, quite a lot of detail about the specific drivers of what was up, what was

down, what would - passed on and hadn’t for this year with the, frankly but for all the puts and

takes it ending up a pretty benign environment.

With the volatility that we have seen in oil recently, you know, I think it is too early for us to make

a call on 2017’s commodity environment. There is no doubt when oil starts to run up, you know,

within some eight weeks of that there will be impact across the commodity environment, not just

resin but also, you know, 60% of the cost of the making aluminum is energy cost and if we all



knew the answer to where oil is going I guess we wouldn’t have some hedge funds that are

struggling at the moment and we would all be millionaires. So a bit too early for next year - I sat

down with our Chief Procurement Officer last night as we were going through, you know, advance

planning and discussions for one of our business units so I feel I am giving you that too early on

so with full authority from my Chief Procurement Officer because we had this same discussion

last night David.

David Hartley: Great.

Jerry Fowden: On the M&A landscape I think we mentioned that, you know, we do not intend to do tuck-

ins on to AquaTerra in Canada until we have basically got the business and are all onto the DS

Services operating platform which we see being our priority for the first 12 months. We will then

be willing to do tuck-in acquisitions in Canada and we have been approached by at least three. I

am looking at Jay, yes he is nodding - at least three people up in Canada that would be interested

to talk to us.

Within DS Services in the US we closed on two very small tuck-in acquisitions in the first quarter,

one of them on the last day of the quarter and the two together were about $1 million in revenue

but remember we closed on AquaTerra in the first quarter as well so we feel fairly comfortable

with tuck-ins but I would image DS tuck-ins this year would be somewhere just over $10 million

phased to the back half and then for broader rollup of home office water, coffee and tea, as well

as filtration services we are actively looking some three to four opportunities. It is too early to tell

yet whether, you know, any of those will meet our stringent financial criteria which, you know, Jay

can always elaborate on if anyone is interested but we do see that there is availability, the pricing

landscape and expectation of the vendors of these businesses is broadly reasonable and that in

theory they should be able to meet the attractive cash on cash IRR’s that we look for as we

continue to consolidate the area and leverage our scale but, you know, it is never over until it is



done and we will fully update everyone if any of these come through with our stringent hurdles

David.

David Hartley: And divestitures?

Jerry Fowden: We don’t have anything particularly on the plan at the moment, you know, we are pleased

with the way the continuing strong cash flow is coming in from our traditional business so as we

mentioned on the UK we think there is more value in executing our three phase action plan in the

UK. Quarter four came in stronger than we expected, quarter one has come in stronger than we

have expected. We are looking at this sale of a piece of land or potentially a larger piece of land

or property to do the external warehouse on in the UK. We think that is progressing well and we

would assume we had that tied down and done which could bring in, you know, a few tens of

millions of dollars before the end of next quarter but as soon as we get that done, you know, we

will inform everyone David.

David Hartley: That is awesome Jerry, thanks a lot.


Operator: We will take our next question from Mark Petrie with Canadian Imperial Bank of Commerce.

Mark Petrie: Yes, good morning. I just wanted to...

Jerry Fowden: Good morning Mark, you are a bit faint.

Mark Petrie: Oh sorry about that is that better?

Jerry Fowden: Are we dialing up as high as we can go here?



Mark Petrie: ((Inaudible)).

Jerry Fowden: Carry on.

Mark Petrie: All right, sorry I just wanted to follow up on your comments on the coffee business and I

guess, you know, you have got the new machine coming in. I wonder if you could just update us

on your expectations in terms of the timing of that - of the new machine and how we should think

about the coffee business over the course of 2016.

Jerry Fowden: Yes, we had - I think it was two or three quarters last year where our growth in single

serve fully offset our decline in brew basket and we were pleased with that balanced position

because obviously as you continue to move forward then the brew basket becomes a smaller and

smaller proportion of the ((inaudible)) and if you carry on with a single serve growth you should

end up in an overall growth position.

Our brew basket coffee declined faster than we would have expected in this first quarter. We still

had good growth in the single serve but it wasn’t enough to offset that faster growth in brew

basket and therefore, you know, we came in lower than we would have expected and that is why

overall DS was really at 2% revenue growth not 3%.

We have got 950 out of the new (Acra Café R), the kind of smaller residential and small

commercial units now that we believe we will place over the next eight to twelve weeks so we see

that as a real positive and we would hope that we can certainly get our coffee business back into

equilibrium i.e. growth in single serve at least offsetting the decline in brew baskets. You know,

will we get there in quarter two - I wouldn’t want to promise that. On the other hand that is what

our plan is to get to a position where the single serve growth fully offsets the brew basket decline

and we are reshaping the business to be stronger for the future.



Mark Petrie: Okay, that is very helpful. Thanks a lot.

Jerry Fowden: Thank you Mark.

Operator: Ladies and gentlemen this does conclude our question and answer session. Mr. Langhans I

will turn it back to you for closing remarks.

Jarrod Langhans: Thank you all for attending the conference call.

Operator: Ladies and gentlemen thank you for your participation. This does conclude today’s conference.

END

COTT CORPORATION Moderator: Jarrod Langhans May 5, 2016 … · 2018-04-18 · COTT CORPORATION...

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Transcript of COTT CORPORATION Moderator: Jarrod Langhans May 5, 2016 … · 2018-04-18 · COTT CORPORATION...