Coca-Cola Icecek AS

IST:CCOLA.E

Earnings Call Transcript 2022-Q3

[Operator]

Ladies and gentlemen, welcome to the Coca-Cola financial results conference.

I will now hand over to your host, Mr. Çiçek Özgünes, Investor Relations and Treasury Director. Please go ahead.

[Çiçek Özgünes, executive]

Hello. Good morning and good afternoon, ladies and gentlemen. Welcome to Coca-Cola Içecek’s Third Quarter 2022 Financial Results Conference Call and Webcast. I'm here with Burak Basarir, our Chief Executive Officer; and Andriy Avramenko, our Chief Financial Officer. Following Mr. Basarir's and Mr. Avramenko's presentation, we will turn the call over for your questions.

Before we begin, please kindly be advised of our cautionary statement. This conference call may contain forward-looking management comments, including projections. These should be considered in conjunction with the cautionary language contained in our earnings release. A copy of our earnings release and financials are available on our website.

Now let me turn the call over to Mr. Basarir. Sir?

[Burak Basarir, executive]

Well, thanks, Çiçek. Good morning, and good afternoon, everyone. Thank you for joining us today to discuss our third-quarter 2022 results. We reported strong top-line growth and effectively executed our strategic priorities to create value in the third quarter as well. The external environment remained challenging and input cost inflation continued to run at record-high levels. The macroeconomic volatility in our regions, high inflation and the threat of recession started impacting the consumption growth rate. However, despite cycling the historically best quarterly performance of the last year, we delivered 1.1% organic volume growth on a consolidated level. Our growth was 7.5% on a reported basis, including Uzbekistan. Our core sparkling business grew by 11% on the back of a strong Coca-Cola and Fanta growth.

On a pro forma basis, the growth of sparkling was 2%. The number of transactions reached 3.6 billion bottles with a 5% annual increase. The high consumer price inflation environment and aggressive global tightening of credit conditions made shoppers more cautious since the summer of 2022. We maintained our disciplined approach to value creation and took the necessary price increases. At the same time, we continue utilizing revenue growth management effectively to address affordability and premiumization. Our consolidated net sales revenue increased by 156% reaching TRY 17.4 billion. Organic net sales revenue growth was also strong at 126%. Excluding foreign currency conversion impact, net sales revenue growth was 82% on an FX-neutral basis.

Weaker local currencies, elevated raw material prices and energy and transportation costs continue to create headwinds on profitability. Timely price increases, effective RGM activities, proactive hedging and pre-buyers of raw materials, and disciplined management of OpEx helped to mitigate the margin pressure in addition margin dilutive impact of Uzbekistan and exceptionally high margin of last year’s resulted in a 239 basis points contraction in EBITDA margin to the 21.7% in the third quarter of this year. On a pro forma basis, margin contraction was limited to 153 basis points. Net income also doubled, reaching TRY 1.8 billion. Next page, please.

Our strategic priorities led by the growth in sparkling iced tea and energy categories in line with our value creation focus. Continuing its strong momentum, the core sparkling category grew by 2% on a pro forma basis in the third quarter of 2022 and 11% on a reported basis. Brand Coca-Cola grew by 13% and Fanta by 11%. Innovative campaigns increased consumer and shopper engagement and effective execution supported the strong momentum of sparkling category. The stills category recorded 7% growth on a solid growth in iced tea and energy drinks.

The Monster Energy brand tripled volume in the third quarter. [ Sparkling ] 16% growth, the water category declined by 14% in the third quarter. We continue to focus on driving sales on small packs, sparkling water and flavored water extensions in line with our value-generation strategy. The sparkling mineral water subcategory grew by 40%. Registering 11% growth in the third quarter of 2022, the on-premise channel continued to be strong. Next page, please.

[ IC ] the historically highest quarterly volume of the third quarter of '21, Turkey volume declined by 8% in the third quarter. High inflation deteriorating real disposable income and less favorable weather in the July, August period compared to the 2021 summer season were the main drivers of the slowdown in the volume. Despite volume decline, Turkey operation achieved value share gain in NARTD category during the summer. [ Cycling ] 13% growth. The sparkling category volume declined by 10% in the third quarter, while sugar-free sparkling drinks grew by 4%. The stills category grew by 6% on a solid IC performance.

The energy drinks grew close to 80% from a small base, building a meaningful scale. We continue to focus on value creation and water by growing in more profitable segments of mineral water, flavored mineral water, and IC packs of still water at the on-premise channel while reducing our exposure to the large packs of the still water category. Accordingly, the water category was down by 10%, cycled 18% growth of last year. The net sales revenue in Turkey was 22% – 122%, while per unit case net sales revenue by 140%. This growth was achieved with a better channel and package mix, time price adjustments, and tight promotional management.

In this challenging macroeconomic environment, we delivered in line with our quality growth algorithm, growing EBITDA ahead of our net sales revenue. Despite increasing cost pressures, EBITDA excluding other income and expense items grew by 136%, thanks to revenue growth momentum, tight expense management, and timely hedging initiatives. Let me move on to the next page.

On the international front, our sales volume grew by 20% in the third quarter of the year. Organic growth was 1%, cycled 9% growth of the third quarter of 2021. The consolidation of Uzbekistan contributed approximately 90% of the total reported growth. The core sparkling growth grew by -- category grew by 24% on a reported basis. Pro forma growth in sparkling was 8%, led by the brand Coca-Cola. Stills grew by 9% despite a cycling 35% growth. The main drivers of the stills growth were iced tea and energy drinks. Therefore, there is no meaningful difference between the pro forma and reported stills growth figures since 96% of the Uzbekistan operation sales volume was sparkling in 2021.

The water category contracted by 24.7% on a reported basis, mainly due to reduced exposure to large packs of still water in a low-profit markets. International operations, net sales revenue growth was 182% in the third quarter on a reported basis and 144% on a pro forma basis. Excluding the impact of currency conversion, the net sales revenue was up by 51.5% on an FX-neutral basis. Resilient volume performance, timely pricing actions, and tight discount management resulted in the solid top-line growth. EBITDA, excluding the effect of other international operations, income and expense grew by 125%. The EBITDA margin contracted by 569 basis points to 22.3% from an exceptional high level of 27.9% last year due to high raw material inflation, increased energy costs and dilutive impact of the Uzbekistan operation.

Let me touch base on the key international markets. Pakistan reached a record 372 million cases in the first 9 months of the year. This included 5% year-on-year growth in the third quarter of the year, cycling 8% growth of a year ago. Zero Sugar portfolio doubled in the volume in the third quarter of this year coming from a low base. It has been a tough year for Pakistan so far. The country has endured double-digit inflation driven by increasing food and fuel prices. The rupee devalues by 35% on a year-to-date basis. On top of it historically heavy monsoons, brought devastating rains, floods and landslides. 1/3 of the country was submerged in the water at some point, displacing more than 33 million people.

While prioritizing the safety of our people, we ensure to continue to afford production and availability of our products during this difficult period in Pakistan. We supported our people, distributors, customers, and communities by various means, as always. Kazakhstan grew by 8% with positive contributions from traditional and modern channels and strong activity in the e-commerce channel. The sparkling category was strong in the third quarter, going by 14%. Uzbekistan continued to performing above our original expectations, growing by 40% on a year-on-year basis. This was the highest volume growth among our operations in the third quarter. Improving execution, expanding outlet reach and the initiated restructuring of the route to market where the main reasons behind the successful growth of our Uzbekistan operation. Next page, please.

Let me touch base on the new launches, which are helping us to build our portfolio. We operate a brand portfolio that includes all of the world's best-known brands to stay relevant to our consumers in the future, we continuously expand our portfolio, entering into new categories, adding brand extensions, and introducing new packages. This is one of the main pillars of building a solid revenue growth management platform. Throughout the year, many brand extensions and seasonal flavors have been in the sparkling and still categories. These were successfully added to our portfolio contributing positively to our results. But here, I want to emphasize 2 categories, energy drinks and coffee. The [ form ] was already in our portfolio but has accelerated this year with the new brand additions gaining a [ meaningful ] scale.

The latest is a brand new category for us. We initially entered the coffee category with Costa Coffee’s proud-to-serve business in Turkey, selling coffee beans to on-premise customers. The plan is to roll out this business in other countries and expand participation in coffee category in different formats. Energy is one category with high growth potential in all our countries. In Turkey, the expansion of the premium offerings with Monster Energy's portfolio, innovative flavors and the new launched offerings in affordable energy segment with Predator Energy complement stable sales of the established Burn Energy brand in the mainstream segment. We plan to expand Predator's brands to our international markets. In Pakistan, we also successfully relaunched ROAR as a stimulant beverage. We were committed, and we are also committed to a robust innovation pipeline to stay relevant to changing consumption habits.

Now I will leave the floor to Andriy for a financial review. Thank you.

[Andriy Avramenko, executive]

Thank you, Burak. Our consolidated net sales revenue was up by 156% in the quarter, while pro forma NSR growth was 135%. The main drivers of the NSR growth includes resilient volume performance in international markets, timely price increases across the board, efficient revenue growth management initiatives, and tight promo management. Foreign currency conversion also contributed to the NSR growth. Net revenue increased 82% on an FX-neutral basis. The FX-neutral NSR per unit case growth was 69%. The gross margin contracted by 189 basis points to 33.8%, mainly due to raw material inflation, increasing energy and transportation costs, and weaker local currency. We were able to partially mitigate the cost pressures through timely price adjustments, better discount management, and well-structured hedging instruments throughout the year. On an organic basis, margin contraction was 100 basis points.

We continue managing OpEx with frugal mindset, achieving 59 basis points OpEx market improvement year-on-year. As a result, the contraction in gross margin was partly mitigated, and EBIT margin contraction was limited to 129 basis points on a reported basis and to 59 basis points on a pro forma basis. EBITDA grew by 131% to TRY 3.8 billion. The higher contraction of EBITDA margin against EBIT was due to the impact of inflation and TL devaluation on the nominal top line and EBIT growth, which was not managed by the increase in depreciation as the value of depreciable assets is not adjusted for inflation and currency movement.

EBITDA margin was realized at 21.7%, contracting 239 basis points from a year ago. Excluding the dilutive impact of Uzbekistan, the contraction was 151 basis points. We registered TRY 1.8 billion net income in third quarter '22, thanks to higher operating profitability, partially offset by the increased financial expenses. In an environment of Turkish lira depreciating more than 100% in the last 12 months, we were able to protect earnings per share in U.S. dollar equivalent, which is important for real value generation. On to the next slide, please.

[ 2 ] unit case metrics are one of the main pillars of our value-generation [ operate ]. We increased NSR per unit case by 69% on an FX-neutral basis. Disciplined price increases and proactive revenue growth management helped mitigating the high inflation in our geographies. As Burak mentioned, even in the market with fierce price competition, such as Iraq and Jordan, we chose different approach, prioritizing financially viable price realization over unsustainable volume growth and volume share gains. The NSR unit case growth was also supported by improving package mix in Turkey and positive performance at the on-premise outlet across the board.

However, the FX-neutral COGS per unit case increased by 72% ahead of NSR, mainly due to raw materials inflation, rising energy, and transportation costs, and weaker local currencies. Therefore, FX-neutral EBITDA per unit case growth was at 39% in the third quarter. The increase in EBIT per unit case on FX-neutral basis was above 50% as a result of the reverse inflationary impact on non-cash expenses, as I mentioned in the previous slide. We will continue focusing on the sustainability of profitable growth and real EBITDA generation in the coming period. On to the next slide, please.

Reflecting overall strength of our business and profitable operations across the market, EBITDA increased by 140% in the third quarter compared to the same quarter a year ago and reached TRY 3.2 billion. [ Planning ] was the main contributor to EBIT growth in the third quarter. It was also supported by positive momentum in the international volumes, better mix, especially in Turkey, and ongoing strengths on on-premise channel. As I mentioned in the previous slide, high inflation, rising energy prices, and weaker local currencies have a negative impact on operating profitability. On to the next slide, please.

We continued with disciplined financial management to maintain strong balance sheet and ample liquidity. Free cash generation enabled the leveraging of the balance sheet. Our net debt-to-EBITDA ratio is 0.7x, close to historically lowest level and significantly below the covenant. Our net short FX position, including the net investment hedge narrowed approximately to $20 million.

Excluding the net investment hedge, our net FX short position was around $400 million or close to 1x of annual EBITDA of our international operations, which we consider as a sustainable level. Prudent financial management will continue to be a priority for us in the foreseeable future. Considering the volatility in the financial markets and elevated cost of finance. However, with our recently extended average maturities and solid cash balances, we are very comfortable with our liquidity position. On to the next slide, please.

Finally, let me give brief information on our commodity hedging positions for the remaining of this year and 2023. We expect the supply chain disruptions and commodity cost inflation after the end of COVID pandemic. We are proactive in procurement, including long-term supplier relationships, effective use of hedges and prebuy and diversification of suppliers pool that have ensured uninterrupted raw material supply for business continuity and help containing cost increases. We also leveraged our strength in crisis management and didn't face any supply chain disruption despite all the external shops in 2022, including nationwide products in Kazakhstan, Russia, Ukraine war, demand-led commodity cycle, COVID-related closures in China and the recent flood emergency in Pakistan.

We completed most of our sugar procurement in the first quarter and avoided the negative cost impact from extraordinary price movements in sugar, especially in Turkey. We developed alternative supply points and implemented new supply routes for Kazakhstan, Uzbekistan and the rest of the Central Asia. For the coming year, we have secured 25% of sugar needs already at favorable cost and actively working on increasing the coverage.

As we saw a gradual decline in aluminum prices from historical highs, we increased our hedging position on aluminum above 70% for 2023 to lock in at favorable levels and ensure cost visibility and guarantee of supply. Considering high correlation of resin prices with petroleum and availability of supply, we didn't rush to add significant coverage and continue monitoring the market for advantageous pricing level to build further hedging positions.

And now I will give the stage to Burak for his closing remarks.

[Burak Basarir, executive]

Thanks, Andriy. As you know, CCI operates in emerging and frontier markets with a lot of opportunities and challenges as well. We proved our resilience and built a solid track record despite facing macroeconomic and political fluctuations, currency shocks and various external crisis. We emerged stronger every time from these events, whether it's on a regional or global scale. We stay committed to the purpose of creating value in everything we do, leveraging our key strengths. Great people unified with one team spirit capable of adapting to every situation, excellent brand portfolio in our geographies with practically infinite opportunities for the foreseeable future.

Prudent financial management leads to a strong balance sheet and liquidity, digitally enabled and customer-centric business model leading to a more effective execution and higher productivity, execution excellence and strong route-to-market capabilities to win at the marketplace, sound, ambitious and measurable sustainability commitments towards 2030. As we embrace the difficulties ahead, we are fully confident to navigate these challenges and committed to value creation for all of our stakeholders, including but not limited to our shareholders, people, customers, consumers and our communities. I also would like to congratulate our employees sailing team for their championship in the Busfor Cup 2022. This trophy resulted from dedication, hard work, team spirit and endless efforts. They inspire us to be better sailors in the rough seas we operate.

We are ready to take your questions. The floor is now open for your Q&A. Thank you very much. Operator, please?

[Operator]

[Operator Instructions] And our first question comes from the line of Ece Mandaci from Unlu.

[Ece Mandaci Baysal, analyst]

My question is about the gross margin performance in Europe, Turkey and international locations. In Turkey [ location ], we have seen an improvement in your gross margin level. And if you also exclude the other income items, there is also an improvement in the EBITDA level or EBITDA margin level. Could this be sustainable for the fourth quarter and the first quarter as far as we can see the ongoing price increases, you have also delivered a price increase as of the third quarter as well. And for Pakistan operations, could we also see a better pricing in dollar terms in the fourth quarter and some improvements in margin performance on a Q-on-Q basis for the fourth quarter?

[Andriy Avramenko, executive]

Okay. Thank you for the questions. The first one is about Turkey performance, the gross margin. As you can see in terms of the volume and pricing relationship, as we guided from the beginning of the year, the first quarter was more volume-driven – the first half was more volume driven. The second half is more price-driven to compensate for the cost. That's why we managed to protect the margin in Turkey and other operation and contraction was limited to certain lower levels than it could be otherwise. But there is also a limit to where we can go with pricing constantly. Therefore, we will continue to monitor as we described before, the balance between our price realization and also volume growth. And we'll try to find that balance for Turkey also. We believe that the price increases we took [ equate ] to protect.

And then in the third quarter, as you know, we also took some pricing. So these are the adequate to enter the fourth quarter and going forward. So looking at the commodities that most likely [ past its peak ] in the second quarter or so for second quarter of this year. There should not be any further significant impact on the margins going forward. So this is in terms of Turkey and the overall business. In terms of Pakistan obviously, that's our ambition in terms of improving operations everywhere. But I don't think we disclosed the Pakistan numbers specifically as a separate business. So I would recall the comments, but as you can see, the growth of Pakistan is very significant, and we do focus both on volume and price improvement in Pakistan to make it continuously more profitable business.

[Operator]

Our next question comes from the line of Hanzade Kilickiran from JPMorgan.

[Hanzade Kilickiran, analyst]

And I wonder about your commodity cost inflation for next year. Is it possible to comment about the potential average unit cost increase next year based on your new contracts? I think you increased your contracts now. And for the next year, do you think that -- I mean, Turkey is now turned into a negative momentum. Do you expect this to continue in the fourth quarter and also next year? And finally, you were guiding for flat 200 bps contraction in EBITDA margin, but you also mentioned that there is still some downside risk. Do you still maintain really this? I mean do you still see some sort of downside risk to our guidance?

[Andriy Avramenko, executive]

In terms of the commodity inflation going forward, while we do believe that commodities as a market may have passed the peak, as you know, we booked commodities, and we explained it in previous calls in our first quarter -- first half this year. we had commodities in our financials and significantly below the market because we booked them well in advance at much lower price. So when you can -- what you see in the third quarter and what you will see in the fourth quarter is more normalized prices of commodities in our financials.

So therefore, in the first half of next year, there will be some residual pressure in terms of the commodities in terms of comparative base of the last year -- sorry, of this year compared with – when we compare it in 2023 because again, while the prices will be most likely were around the current level, our base in 2022 first half was significantly lower. And that's what I can say about the commodity prices going forward. We do believe that we will continue to watch the commodities very closely. And whenever it is possible and necessary to mitigate the impact with the price adjustments, we will continue to be very diligent to protect the margins without depressing the volume growth.

So that's on commodities in 2023. In terms of Turkey, obviously, in Turkey, there is some [ institution ] from consumers taking into account that everything became a lot more expensive. And so -- that has an impact on everyone, including us on all consumer goods companies. In terms of specifically momentum going forward, I just want to make sure that we take into account a few factors. The third quarter of 2021 was historically a record quarter for CCI, and we are facing really high comps in this quarter in Turkey. The second important point is that this is when we faced the commodities at the significantly elevated prices.

And we continue to take significant price increases that had impact on the consumer and on the consumption in this specific quarter. So going forward, while the volatility remains, and uncertainty remains in Turkish market, we do believe that there will be a better performance going forward as in Turkey, we may pass the most difficult part, while unless there is another commodity price spike that we will have to manage. But we don't believe that this is the situation for Turkey at this time. In terms of the guidance, I think I want just to reiterate what Burak mentioned in the opening that we see for this year, the margin at the low end of our guidance in terms of contraction of 1% potentially slightly higher than the 1% contraction. And that as much as I think we can predict at this point in time.

[Operator]

We have no other questions at this time. [Operator Instructions]. And our next question comes from the line of Cemal Demirtas from Ata.

[Cemal Demirtas, analyst]

My first question is about the pricing side. We -- as you mentioned, we feel the price increases in all fronts. And do you have any comparison with other markets, confident the purchasing power, how do the prices in Turkey look like compared to other markets if you have any [ market ] evidence or numbers on that? And the other question is about the inflation accounting. Now it's one of the hot issue and currently high-growth numbers here. But there's a question about the real profitability of the companies in Turkey as we had experienced back in early 1998 years. Do you have any study on that? What should it be if you implement the inflation accounting, what's your real ROE in the business? Could you give us an indication about the real profitable growth of the company in your case?

[Andriy Avramenko, executive]

Okay. In terms of the prices in Turkey against other markets, as part of the Coca-Cola system, we have information in terms of benchmark in terms of the pricing. And within the context of purchase power parity, obviously, and real incomes in the countries. And based on information within the system, we can see that Turkey, despite of all the price increases that we took is still slightly behind the median pricing in other markets. So we do have some headroom on a comparative basis to continue with the pricing, obviously, what's important is that it's not a onetime activity. And technological interest and so on is very important. So we are on a path of gradually adjusting those levels. And obviously, as you can understand that with the commodity inflation, our peers also took very significant pricing action across the world and this year.

And therefore, the benchmarks will be also shifting. So from that perspective, we are fairly confident that we are on the right track, and we are not overshooting with the pricing in Turkey. In terms of inflation accounting, this inflation is running high in Turkey. We are reporting to the [ public ] company in regulated environment from a reporting perspective. And if the inflation accounting were adopted and situated for us, we will do it, and we are fully prepared to report if necessary. But that regulators determination if that reporting is necessary and not on a full comprehensive basis for the financial table.

Now in terms of the more readable income, I'm sure and profit and loss and so on, I'm sure you're doing your own assessment of how we're doing in more stable currencies, like in U.S. dollar equivalent or euro equivalent and so on. So we do the same internally and we are watching those metrics very carefully. And therefore, I think during the presentation today, you heard a couple of references to those metrics, we are very much focused on how we are doing in a more stable measurement unit in terms of our results.

[Operator]

And as we have no more questions registered, I now hand back to our speakers for any closing comments.

[Burak Basarir, executive]

Well, I would like to thank everybody for joining our call and your interest in our company and for your questions as well. I hope we were able to answer your questions and clarify our performance going forward. So thank you for that. I also would like to thank each and every one of our employees who are making these numbers reality. And we are confident that we're going to be able to deliver our guidance. And we started looking into next year with a bit more optimistic view. So I would like to thank you, each and every one of you for your participation and wish you a great and happy and healthy days. Thank you very much.

[Operator]

This concludes today's conference call. Thank you all for your participation. You may now disconnect your lines.