Coca-Cola FEMSA - Q2 2020

Transcript

Operator (participant)

Good morning, everyone, and welcome to the Coca-Cola FEMSA second quarter twenty twenty conference call. As a reminder, today's conference is being recorded, and all participants are in a listen-only mode. At the request of the company, we will open up the conference for questions and after the presentation. During this conference call, management may discuss certain forward-looking statements concerning Coca-Cola FEMSA's future performance and should be considered as good faith estimates made by the company. Forward-looking statements reflect management's expectations and are based upon currently available data. Actual results are subject to future events and uncertainties, which can materially impact the company's actual performance. At this time, I'd like to turn the conference over to Mr. John Santa Maria, Coca-Cola FEMSA's Chief Executive Officer. Please go ahead, Mr. Santa Maria.

John Santa Maria Otazua (CEO)

Thank you. Good morning, everyone. Thank you for joining us today to discuss our second quarter results. I hope you and your loved ones are safe and well. Constantino Spas, our Chief Financial Officer, Jorge Collazo, Head of our, of Investor Relations, and Matias Molina, our Head of Strategy, are also on the call today with me. Before discussing our results for the quarter, I would like to take a moment to express our solidarity with all of the people who have been affected by the COVID-19 pandemic, and our most sincere gratitude to the healthcare community and essential workers that have been fighting against this globally and specifically in our countries. Importantly, I want to express my recognition to all of our Coca-Cola FEMSA employees for their unwavering dedication.

Our team has risen to the occasion and is delivering outstanding service to our clients, consumers, and ensuring our business continuity and product supply, accelerating our transformational initiatives while supporting communities in need. During our call today, I will not only address our second quarter results, but also update you on the mitigation actions and comeback plans, as well as the early signs of recovery that we are seeing across our markets. Then, I will close with additional insights on our omni-channel capability. Finally, Constantino will expand on each division's results and provide you with an adequate update on our financials, underscoring Coca-Cola FEMSA's solid cash flow generation and strong balance sheet. The resiliency of our business, coupled with the deployment of market strategies and mitigation actions, enabled us to deliver better than expected results in the face of unprecedented operating challenges.

Our consolidated volumes declined 7.2% for the quarter, driven mainly by the implementation of mobility restrictions across our territories. During our previous conference call, we described a mid-teens consolidated volume decline for the month of April. During May, certain territories were gradually transitioned to partial lockdowns, resulting in sequential volume improvements that was driven mainly by a recovery in Brazil. The positive overall trend continued in June, as clients reopening allowed for improvements across markets, categories, channels, and packages. In the face of such complexity, it is important to highlight the resilient overall performance of our core operations in both Mexico and Brazil, which volumes declined mid-single digits for the quarter, and also our Guatemala's operation, which continued to grow versus prior year during the same period.

Our total revenues declined 10.2%, driven mainly by price mix headwinds, coupled with unfavorable currency translation effects from most of our operating currencies in South America. These effects were partially offset by our pricing and revenue management initiatives in key markets. On a comparable basis, removing currency translation effects, our top line would have decreased only 8.6%. The unfavorable price mix effect was driven mainly by increased demand for multi-serve presentations across our markets as consumption occasions lean towards at-home consumption. We expect this effect to gradually normalize as markets, especially the on-premise channel, continues to gradually reopen.

Our operating income declined 19.1%, as decreasing PET costs and operating efficiencies were offset by the unfavorable price mix effect, the reduction of tax credits on concentrate in Brazil, higher concentrate costs in Mexico, and the depreciation in most of our operating currencies as compared with the U.S. dollar. On a comparable basis, our operating income would have decreased 17.6%. For the quarter, foreign exchange impacts on our operating income remained significant, accounting for more than MXN 360 million. To give you a broader sense of our ability to mitigate the effects of COVID-19 on our operating income, we estimated an approximate impact before mitigation actions of MXN 3.9 billion during the quarter, mainly driven by volume declines and price mix headwinds.

However, our countermeasures, coupled with favorable raw material trends, enabled us to offset approximately 3.4 billion pesos of these headwinds, effectively mitigating more than 85% of the gross impact. Notably, thanks to these countermeasures, in the face of the quarter's complexities, our operating cash flow margin remained flat versus the previous year, at 19.1%. Finally, our controlling net income decreased 39.4% year over year, driven mainly by impairments to our Estrella Azul dairy joint venture in Panama and our Leão non-carbonated beverage joint venture in Brazil. By normalizing or controlling net income, excluding these impairments, our earnings per share would have declined only 18%.

While we continue to operate under a high level of uncertainty, and some markets worldwide have reversed or delayed reopenings, based on current overall trends, we continue to expect our second quarter results to be the most impacted quarter of the year. Moving on to an update on our strategies, mitigation actions, and comeback plans. As we noted during our first quarter conference call, we developed and implemented a framework comprised of five key areas, which what I call the five Cs, which comprise collaborators, clients, consumers, communities, and cash flow. Our priorities are clear. We are guiding our business through short-term operating disruptions while ensuring execution to our long-term goals. First, we continue to focus on the health and well-being of our employees above anything else. Our reinforced health, sanitation, and hygiene protocols, and our rapid deployment of protective equipment proved essential for our daily business continuity.

Today, many of these protocols and practices are becoming not only a daily routine, but also our system and industry benchmarks. Second, we remain close to our clients in supporting their safe reopening. A key driver of positive volume trends has been our clients' consistent safe reopening. In Mexico, we saw the biggest number of closures during the last week of May, with approximately 15% of clients closed. From that point, we have seen consistent reopenings. For instance, our exemplary Tienda Segura, or Safe Store program, has supported more than 30,000 clients in Mexico reopen for business by extending protective measures, promotion, and commercial initiatives to customers to reactivate their businesses. Third, we are leveraging our direct-to-consumer channels while offering unmatched affordability. To maintain our momentum, we are increasing our offering of returnable presentation, magic price points, and multi-packs across markets.

As a result, refillables grew more than 25% during the quarter in Mexico and more than 20% in Brazil, leading our Brazilian market to achieve record share of sales in the sparkling beverage category. Share gains were not only limited to Brazil, as our affordability portfolio allowed us to gain value share across our territories. Importantly, in Mexico, our home delivery routes, Coca-Cola and Tu Agua, are growing more than 30%, while our digital trade channels are growing more than 140% year over year. Fourth, we continue to support our communities. Year to date, we have donated more than 3 million liters of beverages to medical centers and vulnerable communities. Importantly, we are collaborating with authorities by leveraging our market spaces and trucks to communicate preventive health measures. Additionally, we continue to donate COVID-19 tests in Brazil.

We helped set up a temporary medical facility in Mexico that has been open since late April. We continue to protect our cash flow and liquidity while strengthening our balance sheet. Our cash control tower enabled us to improve our cash flow from operations by 14% year-on-year, driven by cost and expense control, as well as working capital improvements. We will continue to aggressively target savings and to reprioritize CapEx across our operations. Notably, our cash position at the end of the quarter was more than MXN 43 billion. Even after paying the first installment of our annual dividend by more than MXN 5.1 million, our cash position grew. As part of our priority of consistently returning cash to our shareholders, the second installment of our dividend is intended to be paid in early November, and we continued with that commitment.

Aligned with the clear ambition of becoming our clients' preferred real-time sales and delivery platform, we are accelerating the development and rollout of our omni-channel capabilities. Given these tools' increasing importance in our anticipated new normal environment, I want to take this opportunity to expand on our approach and where we are in this journey. Our omni-channel strategy consists of leveraging state-of-the-art digital enablers to enhance experience when contacting with other customers, with our customers and consumers, intensifying our market presence and taking advantage of real-time, fully integrated platforms and information. With these initiatives, we expect to, first, increase sales by adding options and increasing our service window to 24/7. Second, improve our value offer and customer experience. And third, enhance our efficiency and productivity. Currently, we are rolling out three major enablers. First is WhatsApp for Business, an automated chatbot-enabled order-taking platform.

Second, our Juntos portal for digital order entry and engagement via an app or website. And third, our order tracking capability. These enablers, which are fully integrated into our transactional system, allow for seamless order taking with operating efficiency and enhanced customer experience. Brazil, our most advanced market, has become our testing ground, with an accelerated rollout of WhatsApp completed last month to 260,000 customers, from which 60,000 are now placing recurring orders. Initial results are better than expected in terms of volume, market share, and order recovery. For instance, the number of chatbot, or chatbots orders placed year to date represent close to 60 additional pre-sellers on the street. Additionally, more than 90% of chatbot bot interactions do not require the assistance of a human agent, boosting our contact efficiency.

Our Wingman feature, which supports our pre-seller if they miss a visit, is allowing us to recover approximately 25% of otherwise lost sales. Importantly, through our Juntos portal, more than 50% of our orders are happening outside working hours, making the twenty-four-seven objective, or completing the twenty-four-seven objective we have for this purpose and this tool. Going forward, as part of our accelerated pipeline, we expect to fully roll out Enterprise WhatsApp in Mexico and Colombia during the second half of 2020, and a light version in Guatemala. Moreover, our Juntos portal is already a reality today in Argentina and Brazil, with light versions in place for Costa Rica, Colombia, Uruguay, and Panama, and we expect to roll it out in Mexico before year-end as well.

In summary, I am optimistic about the way we continue to transform our organization and to invest in innovative capabilities. I am confident that Coca-Cola FEMSA enjoys a resilient profile, the right set of talent, and the right capabilities to continue navigating today's dynamic COVID-19 driven environment, and most importantly, to succeed over the long term. With that, I will now hand the call over to Constantino.

Constantino Montesinos (CFO)

Thank you, John, and thank you all for joining us on today's earnings call, and I hope that all of you are safe and your families are also safe and healthy. I will expand now on our division's highlights for the second quarter. In Mexico, our top line decreased 8.1%, driven by a 5.8 volume decline and an unfavorable price mix. These effects were partially offset by our pricing actions implemented in March and June, and our revenue management initiatives. Importantly, we continue to leverage our strength in the traditional trade channel while reinforcing our value proposition via returnable presentations and magic price points. These initiatives, combined with a relentless point of sale execution and a reinforced position in the direct-to-consumer channels, are providing an additional boost to our market share momentum.

In Central America, our volume declined 7.4%, driven mainly by the effects of COVID-19 containment measures in Panama and Costa Rica, as well as Nicaragua's complex environment. Notably, our impressive performance in Guatemala partially offset these markets' volume declines. On the pricing front, a positive currency translation effect from our Central American currencies into Mexican pesos mainly offset the price mix headwinds we experienced. As a result, our top line decreased 5.6% in the Mexico and Central American division. Importantly, despite the effects of COVID-19, concentrate cost increases and the depreciation of the Mexican peso, our operating income margin for the division expanded 160 basis points, while our operating cash flow margin expanded by 200 basis points.

This expansion is driven mainly by declining PET costs, currency hedging initiatives, and savings related to our Fuel for Growth efficiency program that we implemented in 2019, as well as our operations' outstanding job, generating additional savings and efficiencies. In contrast, our South American division faced a more challenging overall environment. Volumes through the division declined 9.5%, driven mainly by a challenging April, resulting from the rapid implementation of social distancing measures and lockdowns. Like in most parts of the world, these measures have been gradually relaxing, allowing our Brazil and Uruguay operations to post positive volumes during June, while Colombia improved to a single digit decline. On the other side, unfortunately, while Argentina showed mild improvements during June, this market remains very complex as the pandemic adds complexity to the structural macroeconomic challenges.

For this reason, we're prioritizing our affordability throughout our portfolio, while maintaining a very disciplined approach to costs and expenses. As was the case for Mexico and Central America Division, our pricing initiatives were offset mainly by price mix headwinds. These factors, coupled with a negative currency translation effect, due to the depreciation of most of our operating currencies in the division, led our top line to decline 17.3%. If we exclude the currency translation effects, our top line would have declined only 8.3%. Under this environment, the division's profitability faced a challenging comparable base, driven by our decision to temporarily suspend tax credits on concentrate in Brazil as of fourth quarter of 2019. This effect, combined with lower volumes, unfavorable price mix dynamics, and currency headwinds, pressured our margins.

However, favorable PET prices and expense efficiencies partially mitigated these effects. I'll now expand on our financial results, which are the outcome of our initiatives to strengthen our balance sheets and financial position. Our interest expense recorded a reduction as compared to the previous year, driven mainly by our liability management initiatives, including the tender offer and make whole of a 2023 US dollar bond. These effects were partially offset by additional short-term debt that was incurred mainly in Mexican pesos during the first quarter of the year, to reinforce our cash position in the face of the upcoming pandemic that we saw in the middle of March. As part of our comprehensive financial results, we recorded a foreign exchange gain of MXN 8 million, as compared to a loss of MXN 91 million.

This is driven mainly by a positive mark to market from cross-currency swaps that benefited from the appreciation of the Mexican peso during the quarter. These effects were partially offset by our cash exposure in US dollars, which was negatively impacted by the appreciation of the Mexican peso, as compared to the first quarter of the year. Additionally, we recognized a gain of MXN 81 million in monetary position and inflationary subsidiaries, as compared to a loss of MXN 36 million during the same period of 2019, related to Argentina. As John previously mentioned, our controlling net income was negatively impacted by impairments recognized in our other non-operating expenses for a total of MXN 903 million. These impairments correspond to two elements.

One is our Estrella Azul dairy joint venture in Panama, as the outlook of that operation was negatively impacted by the pandemic. And on the other hand, our Leão non-carbonated beverage joint venture with the Coca-Cola system in Brazil. This impairment is driven by a change in the business model of this joint venture, going from a centralized production model to what we envision as a more profitable internalized model. Finally, I wanna highlight Coca-Cola FEMSA's strength and resiliency, which is reflected in its robust liquidity position and strong cash flow generation. As of June thirtieth, twenty twenty, our net-to-debt EBITDA ratio is 1.2 times, and our cash position is more than 43 billion MXN. Our company has ample flexibility and is within our priorities to implement the right protective measures while returning cash to our shareholders.

Accordingly, the first installment of our dividend was paid on May fifth, representing a 37% increase versus the previous year's dividend. Going forward, we will continue leveraging our expense controls and efficiencies, reevaluating and reprioritizing immediate needs, while prudently managing our CapEx to continue strengthening our cash flow for the year. As we mentioned during the first quarter earnings call, we're confident that we're taking the right steps at the right moment. Despite the fact that we expect the second quarter to be the most impacted, we remain confident that our conservative profile and resilient business model will enable us to continue our path towards our long-term objectives. And with that, I will now hand the call back to John for his final remarks. Thank you very much.

John Santa Maria Otazua (CEO)

Thank you, Constantino. We are encouraged to see trends move in the right direction. Despite the significant volatility and uncertainty faced during the first half of the year, we are on track to deliver on our strategy, satisfying our clients and consumers, deploying cutting-edge transformational initiatives, and leveraging our disciplined approach to capital allocation while maintaining our solid financial position. We are confident that we have the right objectives and capabilities to emerge as a stronger Coca-Cola FEMSA, committed to delivering sustainable value creation for all our shareholders and stakeholders for many years to come. Thank you for your continued trust and support. Operator, I would like to open the call to questions.

Operator (participant)

If you would like to ask a question, please signal by pressing star one on your telephone keypad. If you are using a speakerphone, please make sure that your mute function is turned off to allow your signal to reach our equipment. Again, that is star one to ask a question, and our first question will come from Isabella Simonato with Bank of America. Go ahead.

Isabella Simonato (Managing Director in Equity Research)

Thank you. Good morning, John and Constantino. Hope everyone is fine. I have a couple of questions. First of all, Coca-Cola mentioning their results, that they were seeing July volumes down mid-single digits, improving from what they saw throughout the second quarter. Can you comment on how you're seeing the performance in your territories versus their indication for July, and how you're seeing the performance of each channel now that on-trade is reopened in most countries? That will be my first question. The second question is, can you elaborate a little bit on the beer performance in Brazil throughout the quarter, in terms of how you saw volumes and prices throughout the months of the Q2?

Finally, you highlighted a lot in the comments, right, how strong the balance sheet is, which we totally agree, and actually leverage is quite low. What can we think in terms of capital allocation going forward? Maybe dividends, buybacks or CapEx. Thank you.

John Santa Maria Otazua (CEO)

Okay. Isabella, I think what we have seen going and sequentially forward is we've seen from March being the beginning of the pandemic, April being the worst month out there, May being equivalent, a little bit better than May. In June, overall, our volumes were very low single digits. Currently, June, we saw at the end of the month, we saw three of our markets already start growing and being positive versus prior year. We continue to see that trend. So in July, as looking at where things are, is we're seeing continued stabilization in most of our markets and continued improvement. So yes, we're working. I mean, our major markets, Mexico and Brazil. Mexico continues to improve towards low single digits.

Brazil is already beginning to have a second, you know, phase of a second month of continued growth. Small market like Uruguay, you know, starting to bounce back for us. Guatemala continues to grow, and Colombia is a market that looks like it's starting to go from double digits, you know, twenties, down to, you know, low single digits for July. So we're seeing continued improvement in trends. In terms of channels, we were down in May, probably we lost about 15% of our client base, and most of that came from traditional trade or modern on-premise accounts. We're seeing that come back. We see more growth in traditional trade. Proximity continues to be a very big factor in our recovery.

Currently, our account base is not down the 15% we talked about, but it's down 10%, so we're seeing continuous week-to-week openings of accounts. So we're seeing, you know, slow but improving trends in on-premise. Most of the on-premise channels that have been opened, you know, have been opened with some kind, sort of, social distancing requirements. So the capacity, you know, utilization in restaurants or on-premise channels have been down to about 30% just by regulations at this point in time, as we move through the pandemic. And they're still... although open, they're not seeing a lot of traffic. So that is a slow, it's gonna be a slow recovery.

So I think, you know, the channels for us is, you know, the one that continues to grow very fast around all our markets, it's the traditional mom-and-pop store, in each one of our countries. Our modern channel is recovering. Had an initial boom at the beginning in April, and then it kind of backed off during May, June, but it's recovering. And, what we're seeing is, you know, most of what we're selling today is really in multi-serve packages, returnable multi-serve packages, as affordability continues to become more, more important for consumers. As what I or Constantino mentioned, you're starting to see growth of returnable packages of up to 25% or refillable packages in Brazil, or 20% in Mexico.

They're playing a very key role, which combines various factors, home consumption, affordability, and nearness for consumers at the traditional trade. I think in terms of the beer perspective that you asked us for, you know, we continue to grow beer, and as Heineken said in their press release, you know, what we're seeing is, you know, very strong share gains in Brazil from our Heineken portfolio. And we're also, you know, executing it very well. You know, it's very consistent with what Heineken announced in the marketplace. Going forward in terms of capital allocation, I think we have, if we're...

I think right now we have increased our dividend base, and we'll continue to analyze what the dividend base looks like going forward, and if there's opportunity to even do something a little bit more aggressive with that, probably next year. But more importantly, I think what we're looking at is, okay, where are the internal investment capabilities? And returnables continues to be one area which we're gonna continue to invest aggressively in. But it would maintain us within the parameter that, we've been discussing with the markets over the last couple of years, between five and a half and six% of revenues, which is what we usually accustomed do. So, you know, I don't think it's gonna take us more than that.

I think, you know, what we'll be in, is in a very good position, to leverage this up with an accretive acquisition as we go forward and as the opportunities emerge. Constantino, would you wanna add something to that?

Constantino Montesinos (CFO)

No, I would also want to highlight, Isabella, for example, in Mexico. Well, there's two elements under the channel performance that I think are notably remarkable, I would say, in terms of the way they're behaving right now. Definitely digital channels. So all the digital channels in the markets where we, you know, have a position there and a series of commercial initiatives are growing triple digits, and that is something that we will continue to see. It's a natural progression of channel behavior and channel mix going forward, and we continue to be much more competitive and define and execute and implement more capabilities along the lines of the digital channel growth, on one hand.

And then, on the other hand, we're seeing a resurgence of our home channel, home delivery channel in Mexico. Home delivery channel in Mexico has grown 30%. I think it's an interesting discovery for us. Now that we have much more digital capabilities, and we can enable that home market channel more through the digital capabilities, we believe there's an interesting opportunity for growth there with an enhanced portfolio versus what we've done historically. And, and, currently in Mexico, just to give you an idea, we have around 1,000 home channel routes, and we are aggressively expanding that with you know, with an ambition of finalizing this year with 1,500 home delivery channels, if we can.

So that's an interesting opportunity there, that has become an interesting discovery as you know, our consumers have changed their consumption occasions and moved much more into home. So from that end, I think that's an interesting angle that we would like to comment. And on the beer performance, as John said, I mean, Heineken covered it. I think there's, you know, to reiterate, four elements. You need to have very strong brands with great brand equity, which we believe Heineken has done a great job there. You need to have remarkable execution, which we, you know, we strongly believe that we have a fantastic platform for execution in the on-premise channel. And you definitely need for the on-premise channel to start recovering.

That is what is happening today. As we continue to see, you know, reopenings in the on-premise channel, we should continue to, you know, sustain that type of performance on our beer portfolio in Brazil. I don't know if that answers your question, Isabella.

Operator (participant)

As a reminder, it is star one, if you would like to ask a question, and if you find your question has been answered, you can remove yourself from the queue by pressing star two. Again, that is star one, and we do ask that you please limit yourself to one question. We'll take our next question from Carlos Laboy, from HSBC. Go ahead.

Carlos Laboy (Senior Equity Research Analyst and Managing Director)

Yes. Good morning, everyone. John, you mentioned that Brazil has become an advanced market testing ground. I was hoping you could expand on that. And on a related basis, how do you engage chatbot, WhatsApp, and these other digital order taking tools to make sure that you're a better market developer as opposed to just a better order taker?

John Santa Maria Otazua (CEO)

Okay. Sure. Thanks, Carlos. How are you doing? Yes, Brazil has turned out to be the most important, or at least the most advanced market that we have right now. I would say that behind them is Argentina, and closely behind them is Mexico, as we continue to roll out. You know, in terms of what we're doing, we have various tools. The chatbot is one of them, okay? In taking orders there, we're up to 116,000 customers in chatbot in Brazil. We're targeting 250,000.

But what's really amazing about this is that, you know, first of all, we're getting most of the orders coming in outside of working times or work times. Secondly, you know, it's even coming in on the weekends, which we have usually very poor service on. So in that sense, they're developing more markets and becoming more available. In terms of the adoption rate that we have, you know, our adoption rate is probably 300% more than what we thought it was going to be. And that is, you know, something that is extraordinary service, you know, in terms of customer centricity. They're adopting this, you know, very fast and, you know, extremely satisfied with what we're doing.

Tied to that, we also have what is our order taking, order tracking capability. So that in Brazil, not only are you ordering via chatbot, but you're also tracking your order, you know, real time on GPS and when you will be getting there. And so we're putting together a set of tools, okay? That is allowing a much higher customer satisfaction. And I do think that customer satisfaction, you know, over the midterm and long term, not only does it translate into share and preference, but it also translates into equity and premiumness. So as we go forward, Carlos, you know, these tools, we continue to advance on these tools.

For example, in Argentina now, you know, on our B2B URL-based system, we're also starting tests with Mercado Libre for QR payment systems, which started last month. So we're amplifying the portfolio of commercial tools available to retailers very fast. And that, along with in-store execution that we're having with continuous coverages of cold and continued merchandising and are combining that with our right execution daily capabilities, is becoming very, very powerful. Very powerful. And it's increasingly more powerful since you have these tools and your competitors don't have them yet. I wouldn't say that it's something that's gonna be over...

You know, they'll match it over time, but right now, the amount of work that has gone into this, the acceptance by the consumer and the systems and IT infrastructure that you require to have this, you know, linked to your transactional systems, is very large. I don't know if I answered your questions, but.

Constantino Montesinos (CFO)

And if I can piggyback on John's comments, Carlos, I think that you're highlighting something that we which we strongly believe in. That we are we're definitely not a bottler, but a market developer, as you pointed out. And achieving that, you know, that status, we believe is a combination of multiple variables. Digital capabilities, like the ones that we are exhibiting and testing in Brazil, in order for them to be further expanded, not only in Brazil, then rolled out as we are in other markets, are just the evolution of a very strong basis of execution. We cannot forget that this continues to be a business of executing the fundamentals and the basics.

A great demonstration of that is what we've done in Guatemala. I think that Guatemala, as you all know, is a country where we consolidated the two outstanding franchises that were not under Coca-Cola FEMSA. Once we consolidated Guatemala, I think that we have put into place what Coca-Cola FEMSA is famous for, right? Understanding the market, an insights-driven organization that connects the dots, not only internally, but also externally with a customer focus. We then look at the operations from the inside out.

We see what can be improved internally, our operational model, our capabilities, people, taking care of our people, understanding where we can drive efficiencies and improve productivity within our manufacturing and distribution, capabilities, and, and then have a clear strategy that is properly executed, in the market. Just to give you an idea, year to date, despite the pandemic, Coca-Cola FEMSA in Guatemala has grown 8% versus previous year. We have grown six points in terms of NARTD, share of value versus, previous year. We've broken historical production records. We increased our pre-seller effectiveness by 22 points, and we have increased the route to market productivity versus last year, 37%. That means how many unit cases per truck per hour, you put, through your system.

And that is definitely showing in the market, and that is a fantastic example, I believe, of what we're capable of doing. Then you add the digital overlay that we're trying in Brazil, and we're consolidating in Brazil, where you are using your capabilities not only to drive efficiencies, but also to drive much better customer service and customer engagement. For example, the order tracking capabilities that we have in Brazil right now allow for a traditional store in São Paulo to understand the, you know, couple of hours in advance at what time precisely the truck is gonna deliver the goods. So he has everything ready, and he doesn't lose any time. It's normally a couple of people in that type of store operating their business.

So all we're doing is always with a customer focus in mind, and then redefining our processes and redefining our architecture digitally to continue to deliver our excellence in operating model and operational capabilities across the full value chain. At the end of the day, what we pretend to do is to enhance value, not only for Coca-Cola FEMSA, but also for the customer and also for the consumer. I think a great example of that is our revenue management capabilities and our price-pack architecture and the depth and breadth of what our portfolio offering is in the countries where we operate.

I just wanted to take advantage of your question to be able to explain more of our full operating model, which is a combination of our traditional capabilities, historical capabilities, and the digitalization that we are embarking in right now. I believe at the forefront of the industry.

Carlos Laboy (Senior Equity Research Analyst and Managing Director)

Thank you.

John Santa Maria Otazua (CEO)

And Carlos, just to add on that, you know, in terms of market development, when you start looking at the amount of share gains that we're getting at, in Brazil also, they've been consistent and they correlate very highly with the amount of increased customer, you know, customer connections that we're putting in place. And obviously that is servicing the market better, and we're getting much more availability, and we're getting better execution. So I think this, they're all connected. They're all connected.

Operator (participant)

And our next question will come from Álvaro García with BTG. Go ahead.

Álvaro García (equity research analyst)

Hi. Hi, John, Constantino, Matias. Hope you're all well. My question is on concentrate pricing in Mexico. My understanding is that the three years' worth of concentrate price hikes from the previous agreement are now over as of July in Mexico. But we know this is a pretty dynamic agreement. And obviously, Mexico is one of Coke's more defensive markets globally. So I was wondering if you can give us some insight as to whether or not these hikes might be over, if concentrate prices might increase again in Mexico or if you're even in conversations with Coca-Cola at the moment on this matter. Any color on this would be much appreciated. Thank you.

Constantino Montesinos (CFO)

Sure, Álvaro. As you said, I mean, concentrate increase is part of the way the relationship is built. You know, it's the way we-- it's one of the elements that we have of important interaction with the Coca-Cola Company. And that is something that is part of our continuous conversations in the relationship and definitely in Mexico. What I could tell you is that there will definitely be in the future the concentrate adjustments. I would give that a high level of certainty. And whenever that occurs, we'll definitely, you know, be informing the market on that.

The magnitude of that, on one hand, of that increase, that potential increase, and the impact it could have on our PNL is something that we're still you know discussing with The Coca-Cola Company, and at the same time, especially on the impact of that potential increase, we need to understand that our margins are a combination of multiple variables, and we currently have very favorable raw material tailwinds on our end. We've done a lot of productivity inside the company. We have a great revenue management practice, and we rely very strongly on data and analytics in order to define our price architecture going forward, so we believe that you know there's not necessarily a direct impact from concentrate increase translating into margins if that eventually occurs.

Okay, so that would be my answer to your question. I think once more, in the future, we should anticipate some adjustments in concentrate pricing, the magnitude of them, and the impact that they might have on our business, are still need to be defined. The situation right now is extremely complex. We have a great relationship with The Coca-Cola Company. I think it's one of the strengths of the business. We currently are very pleased to see how quickly we have reprioritized initiatives along with The Coca-Cola Company, and how aligned as a system we are today. And everything we have done has been together and in communication. So, you know, we currently have a lot of system-wide global meetings, regional meetings, country meetings. We share best practices, and that is something that's continuous.

So there is an acknowledgement of the you know the severity of the situation, not only in Mexico, but in other markets from the part of The Coca-Cola Company. And it's part of a healthy dialogue that we have every day amongst us, you know, and we're evaluating many things. I mean, you know, overall, we're we would like to have much more flexibility in terms of opening our distribution system, you know, the red truck to other products. Like, we're experimenting in some places in Brazil with spirit distribution. That's definitely dependent on the conversations we've had with The Coca-Cola Company. So it's these are very interesting times right now, and definitely many interesting things will unfold in the near future.

John, I don't know if you wanna comment on that.

John Santa Maria Otazua (CEO)

No, I just think, Álvaro, you know, incidence is part of the relationship, right? And incidents will be part of the relationship, you know, from here on forward. And I think, you know, The Coca-Cola Company rights are very clear on that, but also the Coca-Cola responsibility is very, very profound on that. So, you know, knowing where we are in terms of where the sensitivity of the business is today, the tremendously dynamic environment that we're finding, to how difficult the environments are in different countries, I think, you know, they're very aware of that. So, so I, I'd say, you know, it's gonna be something we're gonna be talking about from here until, you know, the relationship ends, if it ever ends. You know, and so, you know, that's part of the model, right?

So, you know, this is just the way it goes.

Álvaro García (equity research analyst)

No, that's, that's very clear. It's nice to hear, and it's nice to hear that sort of your, your margins and your business will be certainly taken into account.

John Santa Maria Otazua (CEO)

Mm-hmm

... if it were to ever happen. Awesome. Thank you very much.

You're welcome.

Constantino Montesinos (CFO)

Thank you, Álvaro. Thank you so much.

Operator (participant)

Next, we will hear from Felipe Ucros with Scotiabank. Go ahead.

Thanks. Good morning, John, Constantino, Matias. Thanks for the space for questions, and hope you and your families are doing okay. I wanted to focus a little bit on the traditional channel. You did have a couple of comments during the call, discussing how the channel is reactivating and how peak closings happened throughout, about the middle of the quarter, and things are improving. But I wanted to ask you if you could focus on the long-term consequences of those closures. I imagine-

Constantino Montesinos (CFO)

Mm-hmm

... some smaller, less professionalized shops might not open back up.

Mm-hmm.

Sometimes I think that it might lead to more concentration, either bigger mom-and-pops or maybe some of those smaller ones that went out of business might be captured by the modern trade. So I wanted to see if you could explore kind of the consequences of this period of closings and what it might mean for the system. And then I was also wondering if you could discuss a little bit whether there's any advances on packaging development. There have been some articles about different drinks companies exploring paper-based packaging. I don't know if this is something that you guys have explored.

Obviously, incredibly hard with carbonated drinks, but I wanted to see if there's any advances, you know, given the backlash on PET from the public, whether there's an exploration of alternative packaging? Thank you.

John Santa Maria Otazua (CEO)

Thank you, Felipe. Listen, just to give you a little bit more context of the traditional channel. Like I said, we're probably down 10% in terms of the total count base, and you know, that's probably right now 150,000 accounts. Seventy percent of those are probably on-premise accounts, small on-premise accounts. The way we see this, okay, is that, well, it's gonna be, you know, probably of the 10% that we talked about, maybe, you know, 2% of that or 3% of that will not make it back because they're too small to open, they're undercapitalized, and they're businesses that were probably on the margin in any case.

What is typical of Latin America in crisis, okay, is that given, the crisis of closing businesses, there's also a surge in opening up smaller businesses. And we haven't necessarily seen that yet, but we expect that to happen with smaller, smaller shops coming on stream, to offer services, and that's just the way people go out there and, try to make a living here in Latin America. That being said, you know, the traditional trade, I think one of the things that, is happening is if you take away this temporary, you know, effect of COVID, you are seeing more and more, you know, technology being put into, the, traditional trade, either by what we're doing with omni-channel capabilities or what other players are doing to get there as well.

And so the traditional trade is not at disadvantage from a customer service perspective, or from that matter, from a consumer engagement perspective with their neighborhoods. So I think, you know, when you look at that, that is a very powerful statement, okay? And it's a very powerful position for that channel to be in versus your shopping formats and, you know, large format, modern channel stores. So I think over the long haul, you know, I don't see that there is gonna be a major disruption of the trends that are happening. I think, you know, from my perspective, they'll even flatten out between channels and channel mixes because of what I just told you. As people continue to be...

You know, I think one of the fundamental changes that we're seeing is people continue to be more at home, proximity becomes even more important. As proximity becomes more important and you give the tools for the traditional trade to be able to deliver to the home, engage better with the house, you know, I think they become very, very solid in terms of competitors, and if you open that up further to have the type of packaging, okay, that you would otherwise find in, you know, modern channels, it becomes even so much better for the traditional trade. Let me give you an example about that. We traditionally do not have, in the marketplace or in these channels, multi-packs, okay?

But, you know, what Mexico is doing right now is they're offering bi-packs or two-packs of a Coke and a flavor, you know, in the traditional trade, so they can go out there and deliver these to the home. There's a slight discount to it, but these things which you would always obviously find in your modern channels are now also being translated to your neighborhood convenience, your rapid convenience. So there's a lot that's happening in the channel that I would say is, you know, structurally in favor of the channel, and not necessarily against the channel.

I think that trend is something that I would, you know, if I were, you know, looking at the channel going forward, that would be one of the things that would fundamentally change my perspective of how the channels are gonna be working in the future. And then you talked about the packaging development, you know, on paper containers. And frankly, we haven't seen too much advances on that that I've seen.

Constantino Montesinos (CFO)

Yeah, and to complement on packaging, Felipe, I think that, you know, yeah, paper is definitely a challenge for carbonated drinks. There's definitely opportunity there for the non-carbonated beverages, and our understanding is The Coca-Cola Company is extremely active on that front. But let us not forget that on CSDs, which is our, you know, core business, we have two very important initiatives that we're extremely, you know, focused on. First of all, is the usage of recycling and recycled resin, and the increasing over time that percentage of recycled resin as a huge commitment of our business, and that continues to be the case regardless of fluctuations and, you know, virgin resin cost. This is a commitment for us.

We support the World Without Waste initiative that The Coca-Cola Company has set, and the objectives that for 2030, we should have at least 50% of all of our PET material using virgin resin - using recycled resin. Sorry, and we're looking at that target as of 2025, not even 2030, in our case. Then on the other hand, one of our biggest platforms that we believe in, and it's part of our core business, is the returnable packaging. Returnable packaging is definitely something that is positive in terms of the environmental impact it has, and the environmentally friendly connotations that consumers are rediscovering around returnable packages.

That Coca-Cola FEMSA is probably the leading company in the system in terms of returnables. On a consolidated basis, returnables represent 35% of our CSD portfolio. In Mexico, we're usually at 35%, but under the pandemic, we're seeing it increase up to 45%. In Colombia, Argentina, Uruguay, we're around at 30%. Brazil, we're lagging a little bit behind, but growing significantly, double digits, 25%. Our multi-serves have grown during this period, and then we're moving beyond the 20% total mark of returnables. So we have a great and solid base in returnables. We believe it. We will continue to expand it, and it's also important to understand that we're very good at it, and we're very focused on getting better.

So returnables require a lot of water, so we're, you know, we're reducing the water usage on the returnable circuit or the returnable platform. Our turns per bottle are increasing, and we have a lot of efforts and innovation efforts behind that. We're also moving and breaking some paradigms, moving into universal bottles, so we can use and leverage the bottles for different brands. We used to have, for example, a bottle per flavor, per brand, on returnables. Now we're capable of, by using labels, to use the same bottles and expand our portfolio very easily, which is better for us, better for the consumer and also better for the customer. So returnables is an interesting play. It seems not very innovative because it's always been there, but there is a lot of innovation behind the improvement and the expansion of the platform.

So that is something that we also want to make sure that gets across. Hope that answers your question.

Álvaro García (equity research analyst)

That's true. Yeah, that's very good color. Thanks a lot. If I can follow up on that, have you guys explored pushing returnables, not just as an affordable option, but as an environmental option? I really haven't seen it in advertising, but is that something you guys are exploring?

Constantino Montesinos (CFO)

Oh, yes, absolutely. And there's a big initiative with the Coca-Cola Company around that. You know, returnables is something that younger consumers are discovering. I can talk about my kids are teenagers and, you know, that now they're starting to understand how returnables work, and they, at least from an anecdotal point of view, you know, young consumers tend to value a lot the environmental impact that returnables have, which is, you know, seen as extremely positive. So yes, the Coca-Cola Company is working very hard on developing communication and raising the awareness of the benefits of returnable packaging beyond affordability. Absolutely.

Álvaro García (equity research analyst)

Great color. Thanks a lot, guys.

Operator (participant)

And we will take our final question from Marcella Recchia with Credit Suisse. Go ahead.

Marcella Recchia (Senior Equity Research Analyst)

Hi, John. Hi, Constantino. Thank you for taking my question. I have two quick questions here. The first one is about your impairment charges in this quarter. Do you have any expectation of further impacts going forward? And my second question would be about your initial thoughts about the pension reform impact for the company, if the proposal that was published yesterday was approved. Thank you very much.

Constantino Montesinos (CFO)

Marcella, I'll take the first one, and I'll leave John for the latter question and for his closing remarks as we're reaching the hour. Yeah, as we mentioned, the impairment was basically on two businesses that we have, Estrella Azul in Panama, which is a dairy joint venture with the Coca-Cola Company, and on the other hand, our Leão joint venture, which is a system joint venture in Brazil on non-carbonated beverages. In the case of Leão, would be the only one that we could foresee future impacts going forward, as we're moving from a centralized business model to an internalized business model.

You know, for all of you to understand, Leão is a business where a portfolio of non-carbonated beverages is manufactured in a central location and then distributed across the system in Brazil. After a lot of analysis, after understanding the current non-carbonated beverage, particularly nectar juices, dynamics in Brazil, and understanding our capabilities as bottlers in the system, we have, I think the system in Brazil has reached the conclusion that for some particular products, it is much better and more competitive to internalize the production in the different bottler facilities, which is also the case for Coca-Cola FEMSA.

There's still discussions and understandings, and strategic redefinitions of what the system could do with the Leão assets and the manufacturing capabilities that are there. There is a series of interesting initiatives and innovation that might be put out there in the future in Brazil, where Leão could play an interesting role. So we're still defining that. You know, we could see more in the future. We don't have a definite position right now of the future of that asset going forward. But we'll definitely inform in due course if that is the case. And then I'll have John talk about the very recent pension reform status that was announced yesterday, I believe.

John Santa Maria Otazua (CEO)

I'm sorry. I had fallen off the line. So what was the question? Just come back.

Constantino Montesinos (CFO)

Around the pension reform-

John Santa Maria Otazua (CEO)

Okay.

Constantino Montesinos (CFO)

-that was announced yesterday. Yes, for the Mexican government.

John Santa Maria Otazua (CEO)

Okay.

Constantino Montesinos (CFO)

For the Mexican government, yeah.

John Santa Maria Otazua (CEO)

I think first of all, it's a very, very important reform for Mexico. I think going out there and ensuring that people at a retirement age have a minimum salary, or I think it's 2.4 times minimum salary, retirement pension, and I think the quantity is in today's pesos, about MXN 10,000 per month, is extremely important. As it is a phased-in approach over the next three or four years, it doesn't seem to have a significant impact on our costs. I think it's just been an enormous initiative, and it's gonna be probably one of the initiatives that is most transformational in this president's term. So we're all for it.

I think it's something that labor embraces, private business embraces, and the government embraces. So I think it's gonna pass the House and the Congress and the Senate pretty quickly. But no, I don't think at this point, we have any significant impact of this. As you know, there is a realization that this, the times are not correct, and over the next three or four years is when things and payments start being phased in.

Marcella Recchia (Senior Equity Research Analyst)

Thank you very much.

John Santa Maria Otazua (CEO)

Mm-hmm.

Operator (participant)

That does conclude today's question and answer session. I'd like to turn it back over to Mr. John Santa Maria for any additional or closing remarks.

John Santa Maria Otazua (CEO)

I just wanna thank you all for your confidence and continued interest in Coca-Cola FEMSA. As you see, we're a company that's in continuous transformation and innovation. I think what we're bringing to the table today is a very powerful set of portfolio, operating model initiatives, digital initiatives, and always keeping our consumer at the center, and building our capabilities around all channels. Enhancing the home channel is one of those areas that we see increased potential growth from. I'd just like to thank you for your confidence, and I'd like to, you know, wish you and your families well, and be safe. If you have any follow-up questions, we're here to be able to take them later on. Thank you all for your interest. Have a good day.

Thank you.

Thank you.

Operator (participant)

This concludes today's conference. Thank you for your participation, and you may now disconnect.