Canandaigua Wine Q2 '97
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Canandaigua Wine Q2 '97
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(FOOL CONFERENCE CALL SYNOPSIS)* By Debora Tidwell (MF Debit)
Canandaigua Wine Company <% if gsSubBrand = "aolsnapshot" then Response.Write("(NASDAQ: WINEA & WINEB)") else Response.Write("(NASDAQ: WINEA & WINEB)") end if %> UNION CITY, Ca., October 14, 1996/FOOLWIRE/ --- Canandaigua Wine pre-announced lower than expected results back on September 6th. On Friday, after the market close, they released their second quarter 1997 results and held their conference call for stock analysts this morning. Sales for the quarter were up close to $50 million or over 20%. Roughly half of this came from internal growth driven by their imported beer sales and, to a lesser extent, their varietal wine sales. The other half came from the UDG acquisition.
On an apples-to-apples basis, their branded business was up 13.2% in volume and 14.4% in dollars. While imported beer was the highlight, up more than 40% in both volume and net sales, varietal wines were strong with 13% volume increase and a 28.5% dollar sales increase. For varietal wines, the difference between the dollar sales and the volume increases reflects their first quarter price increases where they began to close the competitive gap that they had created upon the introduction of their value varietals in March of 1995.
Within the varietal category, their sales of white zinfandel on a volume basis continued to be down about 10% with dollar sales being flat. This is indicative of their repositioning the price point of their white zinfandel further away from their non-varietals. This positioning makes the white zinfandel product significantly more profitable even in the face of previously mentioned declines. Their other varietals like chardonnay, cabernet sauvignon, and merlot continued to grow at way above the industry average at about 45% volume increases.
Another highlight in their quarter was their spirits business which was up 5% in volume and 1.2% in dollar sales. This reflects their more aggressive pricing of the recently purchased UDG products and their expanding sales. UDG volume alone was up 16.3% versus a year ago with dollar sales up 6.3% for the quarter. This acquisition continues to contribute to the bottom line as planned.
While they had record increases in sales, their profits were in line with their revised forecast in early September. Their profits reflect their annual LIFO estimate of $27.5 million which resulted in a pre-tax charge to this quarter of $7.9 million. That's versus a pre-tax credit last year of $400,000. In addition, they continued to experience bottling and warehouse inefficiencies along with unanticipated costs in their wine and concentrate processing area. This quarter, they estimate that these inefficiencies represented approximately $7 million, again on a pre-tax basis.
WHAT ARE THEY DOING ABOUT THE INEFFICIENCIES?
First let's put the problem into proper perspective. Their acquisitions and integration of the California wine business, beginning with Guild, followed by Vintners, and then their Almaden/Inglenook acquisition went according to their plan, saving over $28 million in synergies per year through August of 1995.
The second phase, the facility consolidation, was supposed to save $13 million per year and it did. These savings were achieved as they were primarily fixed overhead reductions and lower glass costs given that the location of the glass plant next to their Mission Bell facility reduced freight costs for bringing the glass to the bottling location. However, the complexity of the consolidation of over 2000 SKUs taxed their then current production information systems, their organizational structure, and their personnel resources. Unfortunately, due to these problems, they moved backwards over the last 12 months in the bottling and warehouse area and then the problems extended to the processing of wine and concentrate producing additional losses in the last quarter or two.
So, what are they doing about it? First, remember, these problems are not ones that require brain surgery or rocket science. These are problems that are common to companies consolidating facilities and are typical of situations where information systems are not properly integrated or the organizational structures are overly rigid and personnel do not have the experience to deal with the new complexities.
As a result, Canandaigua began changing the organization dramatically. Their first initiative was to hire a new President of the Wine Division. Since he was hired, they hired a new CFO for the Wine Division, a new Plant Manager for the Mission Bell facility, and a new Mission Bell Bottling Room Manager, and they changed the Warehouse Manager. Two of these new people have PepsiCo backgrounds with good strong production management experience and training.
In addition, they are in the process of installing fully integrated systems for forecasting, inventory, and production planning. These systems had been purchased two years ago and are now being implemented by the new organization. That implementation is well in-progress and they expect it to be completed over the next 3-6 months.
Finally, their re-engineering focus emphasizes accountable business units. The production facilities report to these accountable business units and they are beginning to see bottling line efficiencies improve which is a leading indicator of an improving situation overall.
It became apparent a year ago that they had outgrown their original infrastructure. They had an organizational structure, personnel and systems that couldn't keep up with the increasing complexity of their business. As a result they began a re-engineering effort within the wine and corporate division to redesign their work processes and revitalize sales at lower costs. The design of this structure is finished and they are in the process of implementing it this month. It is a customer oriented process on the one hand and a consumer-product oriented process on the other. The new organizational structure and work processes were designed with the input of many consultants and management of the company.
Basically they divided the company into a collection of accountable business units each operating like a small wine company. There are 7 accountable business units. Their 10 wineries report to one of the 7 accountable business units. Each accountable business unit represents a grouping of products with a similar consumer orientation. This will allow them to focus on different consumer segments of the business. Each accountable business unit has a general manager staffed with a financial planning and reporting group, product development, production, marketing, and advertising personnel. So these are complete business units with P&L responsibility and balance sheet responsibility.
The accountable business units sell their products through customer business centers. And they have divided the total business into 7 customer business centers which are fully functional business centers focused on delighting their customers. The 7 customer business centers include Leaders, Sales, Customer Advocate, Business Information, Financial Support, Local Promotional Developers, Material Management, and Distribution and Administration personnel. Again, these are standalone businesses focused on their customer. With all the functional elements of a business on the team, the CBC is responsible for the profitability of these customers, balance sheet aspects of the customer, and the CBC is better able to understand the needs of their customers and the marketplace and is better able to respond quickly to the new trends and demands emanating from their customers.
To summarize, they divided their business into geographical business units, customer business centers, and product consumer business units (accountable business units). They believe they will be able to provide their customers with a great many more value added services and become a preferred supplier which will certainly benefit their sales.
They also announced that they are contemplating the issuance of an additional senior subordinated indebtedness in the amount sufficient to generate at least $50 million. They intend to use the net proceeds from this offering to repay amounts outstanding under their bank credit facility including their revolving loans. They will continue to use the revolving loans to support their working capital requirements and assuming the consummation of the offering, they will use the revolving loans to complete their previously announced stock repurchase program. The additional senior subordinated indebtedness will not be registered under the Securities Act of 1933.
ANSWERS TO QUESTIONS FROM ANALYSTS
The company was asked if the restructuring outlined would have an impact on SG&A expenses. The company responded that the person count is roughly the same, slightly less in the new organization than the old organization. But the upgrading of personnel does carry with it additional cost. And, those additional costs have been factored into their September 5th forecast. SG&A should stay somewhat high for the rest of this year as they deal with the re-engineering and the implementation costs of that re-engineering. The next year's costs for re-engineering implementation are less and there are other areas where they could see SG&A potentially improve as a percentage of net sales.
The company was asked why the payables on their balance sheet went way up. The company responded that payables are up becaues they have a fairly early grape crop and started harvesting more grapes in August and, as a result, they have payables associated with those grapes on the balance sheet on August 31st.
They were asked where they see the supply for grapes next year. They responded that they believe they have obtained and are processing an adequate supply for themselves. The industry in total is experiencing a short crop -- the second, if not third in a row. Last year's crop was short, especially with regards to varietals in the coastal areas and, to some extent, the San Joaquin Valley in California.
Nonetheless, they are going to have enough grapes to push their business forward, not to the extent that their varietal sales had been growing to date. In other words, they cannot support a continued 44% increase in their chardonnay, cabernet, and merlot. But they can support what they consider to be above-industry increases which are about 6-10% right now.
The whole industry is really facing a very similar situation. Everybody is experiencing higher grape costs and shorter supplies and they believe this could represent the peak in the price cycle for grapes and that grapes will either be flat or down next year. The reason they believe that this could represent a peak is that there have been numerous varietal plantings that come into bearing starting next year and the year after and will increase the supply dramatically while the growth in demand has slowed significantly due to price increases in the marketplace. This is characteristic of a peak in grape prices.
They won't roll back prices until grape prices come down and then unit volume should expand again and start utilizing the excess grapes that are coming out of the vast number of plantings.
There is 30% more bearing acres of chardonnay coming on this year and next than are bearing today. Zinfandel is lower, but zinfandel is not in short supply. Zinfandel prices actually peaked last year and have come down somewhat this year. They think there is still a lot of bearing acreage coming on for zinfandel and it was more like 15%.
The inefficiencies they are having at the Mission Bell facilities just represent increased overhead. They are getting the goods out and getting them out on time to the customers, customer satisfaction is at levels they have seen in the past. Therefore days outstanding in terms of accounts receivables are not affected by the inefficiencies at Mission Bell.
If they consummate the subordinated debt issue, they will resume their share repurchase program. So there were no share repurchases during the quarter.
The improvements in gross margin were somewhat masked by the $7.9 million of LIFO. If you add back the LIFO amount, the gross margins are even healthier. The gross margins came about as a result of two reasons. First, they had the addition of the UDG business and second, they had a full period of the varietals at the higher pricing. * A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. |
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Copyright 1996, The Motley Fool |