Executives: Patty Yahn-Urlaub - Senior Vice President, Investor Relations Rob Sands - President and Chief Executive Officer David Klein - Chief Financial

Officer
Analysts: Bonnie Herzog - Wells Fargo Dara Mohsenian - Morgan Stanley Caroline Levy - Macquarie Andrea Teixeira - JPMorgan Vivien Azer - Cowen Judy Hong - Goldman Sachs Robert Ottenstein - Evercore ISI Tim Ramey - Pivotal Research Group Bill Chappell - SunTrust Bryan Spillane - Bank of America Lauren Lieberman -

Barclays
Operator: Welcome to the Constellation Brands’ First Quarter 2019 Earnings Conference Call. At this time, all participants have been placed in a listen-only mode. Following the prepared remarks, the call will be opened for your questions. Instructions will be given at that time. [Operator Instructions] I will now turn the call over to Patty Yahn-Urlaub, Senior Vice President of Investor Relations.

Please go ahead. Patty Yahn-Urlaub: Thanks, Laurie. Good morning and welcome to Constellation’s first quarter fiscal 2019 conference call. I am here this morning with Rob Sands, our President and Chief Executive Officer and David Klein, our Chief Financial Officer. As a reminder, reconciliations between the most directly comparable GAAP measure and any non-GAAP financial measures discussed on this call are included in our news release or otherwise available on the company’s website at www.cbrands.com.

Please refer to the news release and Constellation’s SEC filings for risk factors, which may impact forward-looking statements we make on this call. Before turning the call over to Rob, similar to prior quarters, I would like to ask that we limit everyone to one question per person which will have us end our call on time. Thanks in advance. And now here is Rob.

Rob Sands: Thank you, Patty.

Good morning and welcome to our discussion of Constellation’s first quarter sales and earnings results. These results were in line with our expectations and reflect significant investment across the business designed to ensure that we maintain our growth momentum well into the future as well as other timing issues. We have maintained our earnings guidance as the top line is responding to these investments, including digital enablement for our e-commerce initiatives and our new ERP platform as part of our Fit for Growth initiative. We continue to work with Canopy Growth to develop and build cannabis brands. Our investment in Canopy is certainly paying off as we have recognized gains of more than $700 million in our reported results since we made this investment last year.

Now most importantly, we continue to invest in brand building through our innovation and new product development initiatives across the country. Our most significant investment includes an increase in beer marketing to support our newly introduced products, which are exceeding our expectations and fueling sales momentum. The successful launches of Corona Premier and Corona Familiar are the first two major Corona initiatives in more than 25 years. Premier has achieved record speed, record speed to shelf with velocities increasing each month since launch and Familiar has already achieved a healthy share of the category in its regional expansion with velocities outpacing our expectations. These innovations help drive industry’s leading depletion growth of 9% for our beer business during the first quarter despite unfavorable weather related impacts early in the quarter in some of our largest markets.

As a matter of fact, this quarter marks 32 consecutive quarters of growth as the winning streak continues for the Constellation beer business. We remain the leader in the high-end of the U.S. beer market contributing more growth than any other supplier during the first quarter. Constellation also won the Cinco de Mayo and Memorial Day holidays driven by strong execution and sales increases across the Modelo Especial, Corona Premier and Corona Familiar brands. All of which were top 5 share gainers in IRI channels during the quarter.

We are well positioned throughout the remainder of fiscal 2019 with a great lineup of marketing and promotional activities to support the ongoing growth momentum of our portfolio. I would like to take a minute to highlight some of the activities we have underway for the summer selling season, the Corona Extra Summer campaign is currently in full stride leveraging new strategic partnerships and increased media activities. Corona Premier launched new English and Spanish language TV campaigns during the first quarter, which will continue throughout the summer and into the fall to drive broad brand awareness. New Premier programming has been developed that is relevant for live sports including golf, Major League Baseball and the NHL. Earlier this year, Modelo became the official beer for the Ultimate Fighting Championship, which is one of the fastest growing sports in America.

Throughout the year, Modelo will celebrate UFC’s 25 years of fighting spirit through fight sponsorships and national retail activation. And this summer Casa Modelo will celebrate soccer as the beautiful game through a national retail promotion as well as Spanish language broadcast of the World Cup. During the first quarter, we executed a nationwide launch of the Pacifico 12-pack can to build on the success of 24-ounce SKU. In support of Pacifico’s national expansion, the brand aired its first ever national TV ad campaign and is poised to be a top 10 national TV beer advertiser this summer. In addition to the Corona Premier and Familiar rollouts, we recently launched new brand entrants into test market within the alternative beverage alcohol space, which is a growing market opportunity that has been incremental to the beer category.

The new Specta-spiked premium seltzer is targeted as the female consumer who is looking for better-for-you, light options that fit an active lifestyle. Three new flavors made from natural ingredients have been introduced in select Northeast test markets. We have recently introduced Corona Refresca in three test markets. This premium spiked refresher in two tropical flavors is being supported by English and Spanish language TV as well as sampling events in targeted digital and social media activities. Western Standard, a high-end barrel finished easy drinking lager will be available in test markets beginning in August.

We are leveraging the equity and authenticity of our high-end small batch high west whiskey brand and building off trends of craft sprits and barrel-aged beverages. From an operational perspective during the quarter, we began the new expansion of our Obregon brewery while continuing to make progress at our Mexicali and Nava sites. The final phase of the 30 million hectoliter expansion project at Nava is on track as we add capacity for production, fermentation and for filtration. And furnace #4 at our Nava glass plant is now fully optimized and running at capacity. Construction continues at Mexicali with brew house tank fabrication nearly completed.

We are also progressing well on the packaging hall and site utility installation. Overall, I am very excited about the ongoing growth prospects for our beer business. We remain committed to delivering our fiscal 2019 targets for this business, with net sales and operating income growth in the 9% to 11% range. Moving to wine and spirits, our wine and spirits business delivered first quarter results that were consistent with the guidance we provided last quarter. As previously discussed, we experienced the Meiomi supply shortage, which caused the timing overlap versus last year’s first quarter.

In addition, this year’s first quarter depletion trends were muted following a better than expected finish to 2018. However, we continued to see strong consumer takeaway trends for our wine brands in the U.S. marketplace during the quarter as we gained share in IRI channels and we continued to make progress in executing a steady evolution to the high-end of the U.S. wine and spirits category by capturing growth at higher price points to achieve mix and margin benefits, particularly at the greater than $11 price point at retail. A good example of our success in this area includes key focus brands at these price points that posted double-digit depletion growth during the quarter, including Franciscan, High West, Robert Mondavi and the Prisoner portfolio.

Currently, Constellation’s wine business at the greater than $11 retail price point, is growing 12% versus market growth of 10%. Overall, our Focus Brands continue to drive growth of our wine and spirit portfolio and have consistently delivered growth at the 3x to 4x the U.S. market rate. From an innovation perspective, we are well-positioned with a strong pipeline of new brands including Black Box spirits, Robert Mondavi Selection Rum Barrel-Aged Merlot and Spoken Barrel, a Washington state red blend. In addition, we have expanded our rose offerings to include Kim Crawford, Meiomi, Black Box, Band of Roses, a Cheryl Smith brand to capitalize on this hot growing category within the U.S.

wine industry. We will continue to support this innovation and brand building efforts throughout the remainder of the year with impactful marketing campaigns to strengthen and build the portfolio. During the course [Technical Difficulty]

Operator: Ladies and gentlemen, this is the operator. I apologize that there will be a slight delay in today’s conference call, please hold and the conference will resume momentarily.

Rob Sands: …..indicate that our total beverage alcohol strategy is working as we achieved the most retail sales growth by a wide margin among our U.S.

beverage alcohol peers. As such, we remain one of the best growth stories within the U.S. CPG space. With that, I would now like to turn the call over to David who will review our financial results for the quarter. Patty Yahn-Urlaub: Operator, this is Patty Yahn-Urlaub, are we back online?

Operator: Yes, ma’am.

Please go ahead. Patty Yahn-Urlaub: Okay, thank you.

David Klein: Thanks, Rob and good morning everyone. Q1 results were in line with our expectations and were on track to achieve our full year comparable basis diluted EPS goal of $9.40 to $9.70. Now, let’s review Q1 performance in more detail, where I will generally focus on comparable basis financial results.

Starting with beer, net sales increased 11% on volume growth of 9% favorable pricing and a $10 million federal excise tax reduction related to tax reform. This benefit will not recur in the remaining months of calendar 2018 as we reached the maximum barrel-aged level allowed for this excise tax reduction. Depletion growth came in strong at 9%, with excellent portfolio performance during the key Cinco and Memorial Day holidays. This growth is even more impressive considering the 12% depletion growth we are overlapping from Q1 last year and weather-related softness experienced throughout the industry in March and April. Beer operating margin decreased 230 basis points to 37.8% as the benefit of favorable pricing was more than offset by marketing investments, higher COGS and unfavorable foreign currency.

The higher COGS reflect increases in transportation costs and depreciation. Beer segment depreciation increased $10 million to $49 million for Q1. Marketing as a percent of revenue increased 110 basis points to 11% of net sales driven by the upfront marketing investment supporting the successful Corona Premier and Familiar introductions. For fiscal ‘19, we continue to expect net sales and operating income growth of 9% to 11%. This includes 1% to 2% of pricing within our Mexican portfolio.

As a reminder, are facing a 12% shipment growth comparison for Q2 and 6% shipment growth comparison for Q3. We continue to expect operating margin improvement for fiscal ‘19 although benefits from product pricing, glass sourcing and operational efficiencies are expected to be mostly offset by marketing investments, increased transportation costs and higher depreciation. We continue to target fiscal ‘19 marketing as a percent of revenue in the range of 9.5% to 10.5% versus 9% for fiscal ‘18. This increase primarily reflects investment supporting our innovation activities and is weighted towards the first half of the year in an effort to generate strong marketplace performance throughout the key summer selling season. As a result, Q2 marketing as a percent of revenue is expected to be in the range of 10% to 11% versus Q2 fiscal ‘18 which came in at 8.4%.

This marketing investment in the overlap of the strong Q2 fiscal ‘18 shipment volume is expected to move our Q2 fiscal ‘19 operating margin into the 39.5% to 40% range versus our record 41.2% operating margin result achieved in Q2 last year. Q1 fiscal ‘19 wine and spirits net sales and EBIT decreased 3% and 15% respectively. This was in line with our expectations as we overlap strong Q1 fiscal ‘18 wine and spirits financial results where EBIT grew approximately 20% and U.S. shipment volumes significantly outpaced depletions. Net sales were impacted by the overlap of strong shipment volume in Q1 fiscal ‘18 driven by replenishment of Meiomi supply, which was constrained coming out of Q4 fiscal ‘17.

U.S. depletions were down 4% as overall depletion performance was muted following strong Q4 fiscal ‘18 results. Wine and spirits operating margin decreased 430 basis points to 25% primarily driven by higher COGS mostly reflecting increased grape and transportation costs and marketing investments for key Focus Brands in innovation initiatives. We recognized approximately $5 million of income from our Opus One investment during Q1 due to a first time spring release of certain older vintages. The 2015 Opus One vintage to be released this fall is expected to be smaller than the previous year.

As a result, fiscal ‘19 investment earnings from Opus are expected to be similar to our fiscal ‘18 earnings, but Q3 fiscal ‘19 investment earnings will be below Q3 last year. In Q2, we expect to see ongoing cost pressures and marketing investments impact wine EBIT performance. However, we expect financial performance to improve in the back half of the year, which includes the key holiday selling season. As a result, we continue to expect wine and spirits net sales and operating income growth of 2% to 4% for fiscal ‘19. For wine and spirit sales, we continue to target low single-digit volume growth and mix benefits from our premiumization efforts.

We continue to realize benefits from the increased marketing spend on brands like Meiomi and Kim Crawford over the next several quarters. As Rob mentioned, the wine business gained IRI market share in the first quarter and has a strong innovation pipeline and solid programming in place for the remainder of the year. We continue to expect mix benefits and COGS productivity enhancements which are targeted for the back half of the year to be mostly offset by higher grape and transportation costs and marketing investments. Even with some of the cost pressures I just noted, we expect full year operating margin expansion for both business segments. However, we expect the deltas between sales and operating income growth to be contained within the guidance range provided.

The increase in corporate expenses primarily reflects investments in people and consulting services in support of our growth organization, cannabis investments and our digital enablement in Fit for Growth initiatives. These investments will continue in Q2 when corporate expenses as a percent of sales, is expected to be similar to that of Q1. Interest expense for the quarter increased 7% primarily due to higher average borrowings. Fiscal ‘19 interest expense is still expected to be in the range of $355 million to $365 million. When factoring in cash on hand, our net debt totaled $10 billion, a decrease of $199 million since the end of fiscal 2018.

Our net debt to comparable basis EBITDA leverage ratio came in at 3.5x at the end of May versus 3.6x at the end of fiscal ‘18 while we continue to invest in our Mexican operations and return cash to shareholders with $141 million of dividends paid and $100 million of share repurchases for the quarter. Our comparable basis effective tax rate for the quarter came in at 21.4% versus 19.2% for last year. Our rate benefited from the new 21% U.S. federal statutory rate, but was more than offset by higher tax on foreign earnings and lower benefits from stock-based compensation activity due primarily to timing. We anticipate that our Q2 fiscal ‘19 effective tax rate will be similar to the Q1 rate in the 22% range.

However, we continue to forecast our full year fiscal ‘19 effective tax rate to approximate 19% with stock-based compensation benefits expected to be weighted toward the back half of the year. Moving to free cash flow which we define as net cash provided by operating activities less CapEx. For Q1, we generated $336 million of free cash flow compared to $165 million for Q1 last year. This improvement primarily reflects lower CapEx and strong operating cash flow growth. While CapEx was down for the quarter, we still have significant spending planned for the balance of the year as our full year CapEx guidance of $1.15 billion to $1.25 billion remains unchanged.

This guidance includes approximately $900 million targeted for our Mexico beer operations expansion. We expect fiscal ‘19 free cash flow to be in the range of $1.2 billion to $1.3 billion. This reflects operating cash flow in the range of $2.35 billion to $2.55 billion and the CapEx spend that I just outlined. In Q1, we recognized an additional $258 million pre-tax unrealized gain from the change in fair value of the Canopy growth investment and warrants bringing the total pre-tax gain on this investment to over $700 million. Earlier this month, we acquired CAD$200 million worth of convertible debt securities issued by Canopy in support of their growth initiatives.

We also recognized a $101 million net gain on the sale of our accolade wine investment. The gains I just noted were excluded from our comparable basis financial results. As mentioned earlier, we continue to project our comparable basis diluted EPS to be in the range of $9.40 to $9.70. Our comparable basis guidance excludes comparable adjustments which are detailed in the release. Before closing, I’d like to note we adopted new accounting standard guidance for revenue recognition at the beginning of the year.

Under this guidance, we are recognizing certain sales incentives earlier than we have historically. We have provided restated income statement information for fiscal ‘17, fiscal ‘18 and fiscal 18 quarters in the investor overview section of our website. As a result of this activity, our fiscal ‘18 comparable basis diluted EPS was restated from $8.72 to $8.70 per share. In closing, we are executing against our plans and on track to achieve our financial performance goals for fiscal ‘19. While our first half financial results are being impacted by the investments behind the marketing, innovation and growth initiatives I noted earlier, we are confident that we will produce top-tier financial performance versus CPG for fiscal ‘19.

We also believe the investments we are making in support of growth opportunities today position us to generate industry leading sustainable and profitable growth in FY ‘20 and beyond, while we deliver on our FY ‘19 commitments. With that, Rob and I are happy to take your questions.

Operator: [Operator Instructions] Your first question comes from the line of Bonnie Herzog of Wells Fargo.

Bonnie Herzog: Thank you. Good morning, guys.

Rob Sands: Good morning, Bonnie.

Bonnie Herzog: I was hoping you could help us understand your conviction levels for the rest of the year given the weak Q1 results and your ability to hit your guidance ranges for the full year specifically for beer. When you look at the midpoint of your guidance, it implies that beer margins for the balance of the year need to expand 80 bps. So, could you drill down just a little bit more on the key drivers of that? And I guess I am just concerned that this might be tough given the spending and strong commodity and transportation cost inflation you touched on? And then does your guidance assume a price increase, for instance? Thanks.

Rob Sands: Yes, Bonnie, I will start off and I will let David address some of your points, but our convention level is very high.

I think that as I said in my comments, the first quarter was very much in line with our own internal expectations. We had planned to invest behind in particular the new products and the beer portfolio as well as some other investments in a big way during the first half of this year and in particular the first quarter and we did make those investments and we see the top line coming through. And that’s what I would say is the most important thing that everybody should be looking at is, is the top line coming through? And in that regard, the top line is probably a little bit above our own internal expectations and our new products are performing I would say, a little bit above our own internal expectations. So, our confidence level on the year and the guidance I would say is very strong. David?

David Klein: Yes.

So, Bonnie, let me start out with GP margins in beer. So, GP margins in beer benefited from robust pricing and then that was offset by incremental depreciation which we had planned on as well as about 70 basis points drag from incremental freight and logistics costs as a result of a tighter trucking market in the U.S. It also was impacted by a headwind on FX meaning the peso. Now that may seem a little counterintuitive, but the weakening of the peso really happened at the very end of May and our production cycle is such that transactional FX benefits or headwinds actually don’t flow through for about 30 days. So, we didn’t get any benefits from the weakening peso at the GP line in Q1.

We expect the remainder of the year to have a – to experience a tailwind from FX. We also have had several COGS improvement initiatives underway that we believe will offset the transportation headwinds that we are facing. We fully expect to expand GP margins in FY ‘19 versus FY ‘18. Now, I will also go on and talk about overall operating margins. So, in Q1, we had about 110 basis point headwind versus last year from the marketing investments that we made behind our brands in particular, Premier and Familiar.

We expect in Q2 that we will spend about 10% to 11% of net sales on marketing, primarily because the brands are getting real good traction in the marketplace. As Rob outlined, the distribution performance has been astounding and we now want to make sure that we continue to drive increasing velocity on the shelf. However, we are still committed to being in that 9.5% to 10% marketing load for the full year. So, when you kind of do all of that math you get to the place where confidence in the top line understanding that we have a path to expanding GP margins and getting the timing right on our marketing investments that we are very confident that we will deliver both our top line and bottom line guidance in the beer business.

Bonnie Herzog: Okay, thank you.

Operator: Your next question comes from Dara Mohsenian of Morgan Stanley.

Dara Mohsenian: Hi, guys. So, first just a couple of follow-ups. The drag from freight that you mentioned in the quarter, is that fairly consistent in the guidance in the balance of the year in terms of the year-over-year drag you are expecting in the balance of the year? And then on the beer pricing front, are you guys looking to perhaps be more aggressive with pricing given the rise you are seeing in transportation costs or do you look at it really more from a competitive standpoint in consumer demand elasticity than being tied to cost spikes? And then just the last one on the innovation front, can you just talk about Premier repeat rates at the consumer level so far. Obviously, you mentioned the distribution was strong, but what are you seeing in terms of repeat rates and cannibalization across the rest of your portfolio? Thanks.

David Klein: So, I will start out and I will leave Rob to talk about the cannibalization, so yes, we, in our thinking about the rest of the year, we have fully internalized the effects of the transportation drag and expect to be able to cover it. From a pricing standpoint, we typically talk about being able to take price of 1% to 2% a year across the portfolio. We are seeing a fairly robust pricing environment in the high-end. I wouldn’t expect that we will go outside of our pricing range that 1% to 2% range, although that work is going on literally this month as our teams are working through pricing.

Rob Sands: And then I’d say consumer takeaway and repeat on Premier in particular which is what we asked about.

As I said, Premier is responding probably a bit above our expectations. We were very – we were able to gain distribution on the product at a pretty rapid rate, you see velocities at rates which we think are very strong. So I’d say all good for Premier. We don’t see any cheeks in that armor. We think it’s going to be a very, very successful brand launch, plus we put a lot of investment behind the marketing of the brand.

And I think that we are seeing the response to that. And then to your question on cannibalization, we are not seeing cannibalization at a rate greater than what we expected in the first place. So, pretty much, I mean that’s the bottom line. So I would say as it relates to the new products, I put that above expectation, I’d say as it relates to the entire Mexican portfolio, I’d have to say that, that’s also slightly above expectations as well. That business, our Mexican beer business is performing very strongly as we go through this fiscal year.

So, we see no issues whatsoever there.

Operator: Your next question comes from the line of Caroline Levy of Macquarie.

Caroline Levy: Thank you so much. Just a couple of quick ones. Could you just discuss the level of beer inventories with distributors at the end of the quarter? How that looked versus where you are comfortable, is it a little high or little low and are there any other stock issues? Were there any other stock issues as a result of the new products being managed? The second thing really is just I have never in the past decade, I don’t think I heard you call out grape costs, so it sounds like those are creeping up if you could explain why? Thanks.

Rob Sands: Yes. So in terms of inventory levels at distributors, they are in line with where we typically are at this point of the year perhaps a bit on the low side. So I don’t think there are any distributor load issues clearly and there weren’t significant out of stocks to the best of my knowledge. From a grape cost standpoint, the callout is really based upon the flow-through of a tight NAPA harvest year 2016, which is starting to come through our P&L. Also, there was issues in Italy as well in terms of the grapes that are coming through that are driving increased cost.

Now that said, the operations team in the wine business has some overhead initiatives and some blend management initiatives that we have put in place that will start to see flow through the P&L over the remainder of the year. So, I don’t think there is anything that’s worrisome there. It’s just a callout in terms of our margins in line.

Operator: Your next question comes from the line of Andrea Teixeira of JPMorgan.

Andrea Teixeira: Hi, good morning everyone.

So, I want to just perhaps go back to the kind of depletion trends and how you see it evolving for the rest of the summer and on the price – and the pricing commentary that you gave, in terms of timing – is it the timing around October, which is the typical historical trend for the industry or given the cost pressures you may anticipate this price increase will perhaps reduce the promotional levels as we go? And then related to that just so as a clarification, so you are saying the second quarter pressure is on gross margin for the beer business would be slightly less than what we saw and then compounded the cadence through the rest of the fiscal year given that FX has been more favorable now that the beers are depreciating or should we still see some sort of the same magnitude pressure on the second quarter? Thank you.

David Klein: So let me start with the last one first. So in terms of gross margin in Q2, we expect that some of – we will still have some transportation headwinds we actually expect instead of having an FX headwind will have a bit of an FX tailwind and we will get some of the operational benefits that I touched on earlier. So, any operating margin pressure in Q2 will really come from the incremental spend behind our brands that I talked about from a marketing standpoint being in that 10% to 11% range of net sales. We are working through our price increase process.

Our revenue councils have been meeting working with our sales people to try to arrive at our pricing increase, which will take place in October, it will be announced before then. So, we see no changes on that front. And depletions I would say that 9% were quite strong, especially given the weather effects that we are seeing across the country, but in particular for us, in California, which is in our largest market. So, we are very happy with those depletion trends and we are feeling pretty bullish on the performance of that business throughout the remainder of the year.

Andrea Teixeira: Thanks, David.

And on depletion, can you give us like how much was each quarter so that we can see the cadence?

David Klein: No, we don’t really give depletion guidance.

Andrea Teixeira: Okay. And I am saying within the month of the fiscal – the first quarter fiscal ‘19?

David Klein: Yes, we don’t break it out to that level, but again, just generally and you can assume that March was soft in California, April was soft elsewhere in the country and May looked pretty strong, so.

Andrea Teixeira: Thank you, David.

Operator: Your next question comes from the line of Vivien Azer of Cowen.

Vivien Azer: Hi, thank you. So, I wanted to touch on Premier and Familiar as well please. So, two questions. In terms of the distribution gains, can you contextualize how your kind of ACV like has changed and perhaps like kind of the size of your shelf set has changed with this incremental innovation, one and number two, any callouts in terms of competitive responses? Thank you.

Rob Sands: Yes, Vivien.

ACV is a great story. We built ACV in Premier thus far to 63% and Familiar without it being introduced everywhere to 37%. So, we are pretty excited about that. And as I sort of indicated, I placed that in the category of excellent results and even potentially above our own expectations. And then I would say in terms of the shelf, we are fundamentally getting incremental shelf space for these products, which is great and makes a lot of sense for the retailers.

I mean I would say that retail is getting it, okay, retail understands and they are getting that they can increase their own sales and profitability by getting behind this portfolio, Constellation’s portfolio. So, we continue to be by a factor of many folds, the largest provider of growth at retail of any beverage alcohol company period in the United States. So, we are pretty pleased with these results which is one of the reasons I would say why we have the stomach, okay, to invest behind the portfolio, the way that we have invested behind the portfolio. So, we are pretty confident as we sit here right now that this is going to work out well.

Operator: Your next question comes from the line of Judy Hong of Goldman Sachs.

Judy Hong: Hi. So, one is just a quick follow-up on gross margins on beer, David, just was there any impact on Q1 related to any of the trades been linked to the Premier and the Familiar expansion? And then secondly the broader question just really on the Corona brand family, so obviously the new innovations are lifting the gross rate of the entire family, which is positive, but you are seeing slowdown in terms of the Corona Extra and the Corona Light declining? And I know Rob you talked about cannibalization actually being pretty close to your expectations, so what do you think is happening to those particular brands? And is there any concern that even though the family is accelerating that particularly those brands are a little bit soft as you think about the growth rate into maybe next year as you lap the innovation driven growth this year?

Rob Sands: Yes. I guess, I will comment on the last point. As I said, cannibalization is well within what we expected and predicted. We don’t see cannibalization really being a huge factor except perhaps against Corona Light, which I would say is what we expected.

Any impacts on Corona – Corona Extra, which is performing very well is probably mostly weather-related in March in the first month. And frankly, I don’t really like to bring the weather off, because it doesn’t really matter and I think that we fully expect the portfolio and the base portfolio to respond or to perform as we expected. If you take a look at the whole Corona family, for instance, we were tracking, I don’t know, 200 or 300 basis points or 200 basis points behind where we were for the first quarter. So, that only appears to us that one plus one meaning the base portfolio plus the new products is adding up to 3, not just 2 or even below 2. So I think we are at 14.7% IRI, so – and higher than that for the latest.

So, on consumer takeaway is very, very strong across the entire portfolio. As I said, Corona Light, we expected some cannibalization there.

David Klein: And Judy, there was no real meaningful effect on the drag on margins as a result of the new product launches. Those were quite smooth based upon some really good work out of our production folks.

Judy Hong: Okay, thanks.

Operator: Your next question comes from the line of Robert Ottenstein of Evercore ISI.

Robert Ottenstein: Great, thank you very much. Rob, I was wondering if you could perhaps reflect on how you are looking at the cannabis opportunity touching on what roughly kind of your investment level and e-cannabis related projects this year. Do you see that being more or less than what you thought it would be 6 months ago? And in addition, can you address the potential of doing something in California, Loginetis is coming out of a product in 1 to 2 months, is there anyway in which you can create a separate subsidiary or something that would give you regulatory comfort that you could enter that market at some point in the future even if we don’t get full federal legalization. Is it even a remote possibility? Thank you.

Rob Sands: So, first of all, Robert, our investment in cannabis is completely in line with what we expected, but that said, we are making a significant investment in Canada from an operating point of view. We all know of our investment in Canopy and of course that’s working out quite well, but we didn’t do it specifically to speculate on Canopy stock, because that’s not what we do. We did it to, in essence, have a stake in Canopy and to create what’s almost a joint venture between ourselves and Canopy to develop product for the world market, okay, including the U.S. So, we have a team and a significant team of people that both came out of Constellation as well as new hires sort of the full accouterment that’s necessary to really develop products. They are headquarters, we call them, Green Star, they are headquartered in Toronto and they are working diligently with many of the major both advertising firms and marketing firms and consulting firms for that matter.

We also have Bane engaged on that topic meaning cannabis, so that we are ensuring that we are covering all fronts on that. I think that as to your question about the United States, the answer is, is that we are not going to do anything that is violative of federal law, but that said, we are looking closely at precisely that issue and making sure that we understand what we can do and what we can’t do. And sort of as you implied there maybe things that we can do and we will do them if we can do them as I said it’s not violative of federal laws and we would like to. So, yes, we are aware of the Loginetis. What they are saying, let me put it that way, I don’t have any really true inside knowledge of exactly what they are doing and how they are doing it, but we are pretty interested in what they are doing and how they are doing it and we don’t intend to get caught and becoming from behind.

So I suppose therefore the answer to your question is yes, we are looking at it pretty carefully and if we see that opportunity within the confines of what we can legally do, we will do it.

Robert Ottenstein: Terrific. That’s very clear. Thank you.

Operator: Your next question comes from the line of Tim Ramey of Pivotal Research Group.

Tim Ramey: Thanks so much. Hey, good morning. I think Rob probably continued talking in the couple of minutes that you weren’t on the call and if it was true to form previous calls it might have been when you are discussing some of the brand performance in beer, Modelo Especial, we didn’t hear any commentary on that if there was some? So that would be one question to maybe repeat some of that. And second of the wine grapes, based on my data, it looks like 2017 would have been flat to down from ‘16 so you understanding your FIFO structure, should we expect some easing of that as we roll forward?

Rob Sands: I will let David address that. Yes, I think we have some technical difficulties in the call.

And I believe I was talking about wine and spirits and perhaps what the part that was deleted was the fact that, that I said that we would reiterate – we wanted to reiterate that we are committed to growing net sales and operating income for our wine and spirits business in the 2% to 4% range in fiscal 2019, which is what our original guidance was, so. And then I think I was talking a little bit about appointing Jim Sabia, who is our beer marketing guy, historically to the position of Chief Marketing Officer for the whole company. So, I think that that’s what was cut out. And then on Modelo Especial, I think that I was saying that we had double-digit depletions in Q1 and so we see everything to be all good with Modelo Especial. Like some other brands, March was a bit dicey in the beer industry as a general proposition, especially in California in our largest market, but I think that the good news there is that we outperformed everybody else probably to the same extent that we have in the past and we saw everything bounce back.

And if you look at Modelo Especia’s latest IRI, it’s up 20%. So, we just don’t see anything there that’s indicative that our Mexican beer portfolio will perform in accordance with our guidance and in fact, we think it’s performing above – a bit above our expectations at the current time. So, we are very optimistic in general about hitting both the beer guidance and the wine and spirits guidance. I will just talk a moment about the wine side of the business, which first quarter was weaker than we would have liked on the depletion front and that was largely due to a couple of factors, really two factors, number one, strong finish to last year, so I think that there was some timing there and some borrowing perhaps at retail from the first quarter, but nothing untoward and I think that we will see that made up as we go forward here. I think we will see depletions fundamentally performing at sort of the historical level and you have been looking sort of the 12-week or the 52-week and sort of see what that is.

And then last year we had – we ran ourselves out of Meiomi and I say ran ourselves out of it was really due to the fact that sales were so stellar that we ran out of Meiomi and then we rebuilt that pipeline in the first quarter, as you recall we have like this, why are we good first quarter last year in wine and spirits. And so we are overlapping that still, which also accounted for some of the performance below expectations on wine and spirits for the first quarter, but we don’t really see that necessarily impacting the whole year and we see the wine and spirits business performing in line with the market as we have been saying for quite a long time now and we don’t see any real chinks in that armor. There is nothing happening with our brands that is contrary to what’s been happening in the past. And in fact, we have got a lot of really strong marketing programs that are hitting strong promotional programs that are hitting our innovation pipeline on the wine and spirits side. I think it’s the strongest than it’s ever been.

So, we are optimistic on wine and spirits as well.

David Klein: And on the COGS question, Tim, so last year we finished with gross margins in the wine business kind of just sub 45% and then coming out of Q1 where we are just above 43%. We expect to grow our gross margins year-over-year in the wine business, so yes, that implies a combination of mix improvements some work we have done from an overhead and operational standpoint as well as blend improvements, which are inclusive of grape costs.

Tim Ramey: Is it a fair statement that ‘17 was flat to down versus ‘16 in terms of grape costs?

David Klein: Yes, I am not sure as it relates across – as it ties out across our portfolio, but we can get back to you on that.

Tim Ramey: Fair enough.

Thanks.

Operator: Your next question comes from the line of Bill Chappell of SunTrust.

Rob Sands: Hi, Bill.

Bill Chappell: Hey, good morning. Just following back upon Premier and Familiar, you have given out the ACV numbers, can you just kind of give us some color of where you thought they were going to be this quarter, because you last reported 3 months ago and something happened obviously in the 3-month timeframe to pull forward the marketing, was it a big customer added more or was it just across the board, there was much more ACV than you had expected kind of going into the planning process, just trying to understand how, maybe it seems like it was a pretty quick shift and meaningful shift in a very short amount of time? So maybe even just from ACV, what you thought it would be?

Rob Sands: So, Bill, we don’t really plan ACV quite that specifically in terms of the numbers.

So all I really say is I think that the numbers that I quoted were above what we expected, which basically means that we had more, even better retail take-up than we expected. I mean, it’s sort of as simple as that. I’d say like whether it’s 300 basis points or 400 basis points or whatever and I think it would be sort of soft history to start talking about those numbers in hindsight. And then on the marketing, we did not pull it forward. We plan to do what we have done.

In actuality, we thought that we had communicated that pretty specifically that we were going to be making significant investments behind the introduction of these new products in the first half of this year. We thought we had communicated that. And the only reason I’d say I thought we communicated that, I think that people seem a little surprised about it. But to be clear, we didn’t pull anything forward at all. We did exactly as we plan to do and there is no way around it, we have significant investment spending in the first quarter against these new products.

The good news is, this is not a plan to invest money for some long-term – on some long-term basis that is immeasurable. We do think it’s a very, very good investment for the long-term, but in terms of seeing our return on this investment, we expect to see the return on this investment this year. So, that’s why – and we are seeing it and that’s why we are confident in the guidance and that’s why we were able to give the guidance that we gave in the first place, which we think is pretty robust performance for our company and for consumer goods company, I mean it still puts us, I mean, in a percentile that can hardly be measured. So, that’s basically the story.

Bill Chappell: That helps.

So, it’s just reading it and I understand what you are saying the comments at our conference maybe a few weeks ago was more of we said this before, we on the Street just didn’t hear it clearly and so we are trying to reemphasize that. Is that the right way to think about that?

Rob Sands: Yes, I would say that. And again I just reemphasized one thing in particular, which is we didn’t do anything. Our explanation is not that we did something this quarter that we were fully planning to do. We did what we plan to do and based on our internal expectations things performed as well as we expected if not better.

So, we are on track for our guidance for the full year. I mean, I guess in the end, you can wait and see how the year turns out rolling in the first quarter.

Bill Chappell: Perfect. That’s crystal clear. Thank you.

Operator: Your next question comes from the line of Bryan Spillane of Bank of America.

Bryan Spillane: Hey, good morning. Two quick ones. One, David on the FX effect on beer gross margins, just how much of a headwind was it in the first quarter and how much of a like tailwind given where the exchange rate is now be expected to be in the balance of the year?

David Klein: Yes. So, there are really two components of FX was the small headwind to GP in Q1, but it was a larger headwind through at operating income, because we have as the peso weakened in the quarter and we have the reval or peso receivables with the biggest one being our VAT receivable, there was a reasonably sized SG&A drag on our beer business.

So again, at the operating income line it was a larger drag than it was at the GP line. And then going forward we are about just over 80% hedged for the year at reasonably favorable rates and so actually the pace has been a bit volatile leading into the elections this weekend. So I would say it’s probably too early to say, but we know we had a headwind in the first quarter and we are pretty confident it’s a tailwind for the rest of the year and I guess the size will be determined on what happens maybe even in the election over the weekend.

Bryan Spillane: Okay, great. And then just one second one on Corona Premier, can you give us a sense of where it’s sourcing its share from.

So is it coming from domestic premium light, is it coming from above premium or even outside the sector, is it coming from spirits, just any sort of color or early indication you have of where it’s pulling its consumers from? Thank you?

Rob Sands: I would say, it’s pretty much pulling its consumers from across domestic premium as a general proposition. So I think that your characterization of it is probably correct meaning it’s – I think it’s probably pulling its consumers from domestic premium lights and that kind of makes sense when you think about it, because it’s a low calorie, low carbohydrate beer, I would say that it’s primary competition, Michelob, also continues to perform well. So, yes, I don’t think there is evidence that it’s pulling necessarily from there, but Mic Ultra and I think Corona Premier is pulling from the premium light is probably the bottom line. People are drinking the light beer in the first place, aren’t all of a sudden switching from non-light beer to light. There you made the decision that they weren’t going to drink light, so I think that the simple logic would suggest that this is a premium choice for the already health conscious and light consumer.

That’s what I would believe.

Bryan Spillane: Okay, great. Thank you. Have a great weekend everyone.

Rob Sands: You too.

Operator: Your next question comes from the line of Lauren Lieberman of Barclays.

Rob Sands: Hi, Lauren.

Lauren Lieberman: Hey, thanks. Good morning. Two quick things.

One was just one brand you haven’t mentioned, which is Pacifico outside of your prepared remarks and I know I get Nielsen data, which doesn’t seem to be all that representative, IRI seem to do a better job for you guys, but Pacifico even as the weather improved looks to not be performing terribly well again in the scanner data. I was just surprised to see that as you are kicking off the national launch of the 12-pack on the TV. So I would just be curious to hear any commentary on Pacifico performance and what the scanner might be missing? And then also just on the distribution footprint, so there is the trade press, the gossipy stuff isn’t a lot of chatter about some changes you guys have been making in your distributor footprint. So, any color you could offer there on what’s been driving decision-making process and if there is any records to be set straight versus what’s kind of been reported again in the trade press would be great? Thank you.

Rob Sands: Sure.

So, first of all, on Pacifico, Pacifico is almost in the vast, vast majority of it is very regional in largely Southern California. So, it was probably affected by the weather in Southern California in the earlier part of the quarter to a greater extent than others. If you look at the performance outside of Southern California, it continues to perform at double-digits. And in general, it’s looking very good. We see no real issue with Pacifico other than that.

That market has been – was pretty weak in the first quarter and Pacifico was affected by it, but it continues to be a very strong brand that I think that we have very high hopes for and we don’t see anything dashing those of. Now, on the distributor question, number one I would say that we have the best distribution network in the country, we call it the Gold Network, we call it the Gold Network for a reason, because it’s like making gold, it’s as simple as that. The one change that we made in Southern California was the only one change. So I think that characterizing it as some kind of change in our distributor footprint in general or some kind of change in our philosophy of how we deal with or treat our distributor partners is simply incorrect, I think that it was kind of interesting news and there is a lot of pundits that we have a lot to say about it. But the fact of the matter is, is that it was one change in a market and the change made a lot of sense, because we were able in that particular market to give that territory to another one of our very important distributor partners.

So, that change as I said made a lot of sense to us. Interestingly, I think that the trade press glossed over another change that we made, which I think is very significant and probably more significant, which is the fact that we gave our entire wine and spirits business in the Pacific Northwest, i.e., Washington and Oregon to our longtime beer distributor up there at Columbia, which I think is an interesting thing, because it is aligned with our total beverage alcohol strategy, not that, that’s necessarily something that we intend to do either on a broader base and so in either case, it’s just simply not appropriate to extrapolate what we did in either one of those cases necessarily to any broader, I’d say, point about the network other than what we did in those specific instances. So, we have a great relationship with our wholesalers. We are the company that’s really providing 100% of their growth in many cases now, especially as you see craft having slowed down a bit. And I have to say that the results that we have achieved in our beer business and that we continue to achieve in our beer business is in a large part due to the efforts and the investment and really the skill of what we call our Gold Network and those distributors.

So, the only thing I would say is you can’t take one move and extrapolate it to mean anything whatsoever in a network that has 500 or 600 distributors across the entire United States, there is always something going on in stock market relative to the network. And I would say we have better relationships than anybody. I would say we will have better relationships than anybody and I would say that the network is completely intact and a very, very strong network. They may change the name of it from the Gold Network to the Platinum Network in fact.

Lauren Lieberman: Alright, thank you.

Operator: Your final question comes from the line of Amit Sharma of BMO Capital Markets. Amit, your line is open. Please state your question.

Rob Sands: Well, that’s an easy question to answer, Amit.

Operator: Sir, your phone is on mute, please un-mute it.

There is no response from that line. I will now return the call to Rob Sands for any additional or closing remarks.

Rob Sands: Okay. Well, I want to thank everybody for joining our call today. Let me just reiterate that our business prospects remain very strong and I’d like to reiterate that we are confident in achieving our full year goals as we are expecting a strong back half to the fiscal year.

As the July 4 holiday approaches, I hope that everybody gets to enjoy some of our fine beer, wine and spirits products at your celebrations with family and friends. So, thanks everybody and have a fantastic rest of your summer.

Operator: Thank you for participating in the Constellation Brands’ first quarter 2019 earnings conference call. You may now disconnect your lines and have a wonderful day.