PepsiCo, Inc. (PEP)
Q1 2009 Earnings Call Transcript
April 20, 2009 8:30 a.m. ET

Executives

Mike Nathenson – Vice President Investor Relations
Indra Nooyi – Chief Executive Officer
Richard Goodman – Chief Financial Officer
Mike White – Chief Executive Officer, PepsiCo International
John Compton – Chief Executive Officer, PepsiCo Americas Foods
Massimo D''Amore – Chief Executive Officer, PepsiCo Americas Beverages

Analysts

Bill Pecoriello - Consumer Edge Research
Marc Greenberg - Deutsche Bank Securities
Carlos Laboy - Credit Suisse
Kaumil Gajrawala - UBS
John Faucher - J.P. Morgan
Christine Farkas – Bank of America Securities/Merrill Lynch
Lauren Torres - HSBC

Presentation

Mike Nathenson – Vice President Investor Relations

Good morning, everyone. Thanks to all of you for joining us. Today''s webcast includes a slide presentation that can be accessed at our PepsiCo.com website. Before we begin, please take note of our cautionary statement. This conference call includes forward-looking statements based on currently available information, operating plans and projections about future events and trends. Our actual results could differ materially from those predicted in such forward-looking statements, but we undertake no obligation to update any such statements, whether as a result of new information, future events or otherwise. Please see our filings with the Securities & Exchange Commission including our annual report on Form 10-K and subsequent reports on Form 10-Q and 8-K, including the 8-K that we filed today, for a discussion of specific risks that may affect our performance. You should refer to the Investors section of PepsiCo''s website at www.PepsiCo.com under the heading Financial News to find disclosures and reconciliations of non-GAAP financial measures that may be used by management when discussing PepsiCo''s financial results with investors and analysts.

Now for a couple of housekeeping items, during today''s call all references to Q1 EPS growth, revenue growth and division operating profit growth are on a constant currency core basis and exclude net mark-to-market gains or losses on commodity positions included in corporate unallocated expenses, restructuring and impairment charges, including the impact of our Productivity for Growth program, and in 2008 our share of Pepsi Bottling Group''s restructuring and impairment charges and the impact of certain tax benefits.

With that I''ll turn the call over to Indra.

Indra Nooyi – Chief Executive Officer

Thank you, Mike. I know that all of you have had a chance to read the two press releases issued this morning, the first announcing our offer to acquire the shares we don''t currently hold of our two largest anchor bottlers, and second, our first quarter earnings report. Let me start by explaining our proposal this morning to acquire all of the outstanding shares of common stock in both the Pepsi Bottling Group, PBG, and PepsiAmericas, PAS, at a value of $29.50 per share for PBG and $23.27 per share for PAS. Here at PepsiCo we have a track record of making proactive moves to better position ourselves for the future, and as a leader in the LRB category it has become very clear to us that we need to reshape our North American business in a fundamentally different way.

The formation of our anchor bottlers a decade ago was the right decision at a time when the category had strong growth, CSDs dominated the market, the overall profit pool was expanding steadily, and there were really only two major players. In the more mature market of today there is a need to be more nimble given the increasing role of non-carbs, retailer consolidation, and the changing competitive landscape. In addition, we acquired Tropicana and Gatorade, which enormously expanded our non-carb footprint, but also brought hot fill manufacturing and both warehouse and chilled go-to-market platforms. In short, almost every aspect of the business has changed. In this environment it''s clear that reshaping the business requires a fundamental change in the North American business model and we can take PepsiCo''s liquid refreshment beverage business to a whole new level by reconsolidating our two anchor bottlers with PepsiCo''s combined LRB operating and franchise company. This would result in a fully integrated CSD/NCB supply chain and go-to-market business model. In short, we''d be creating another Frito-Lay type operating company within PepsiCo.

This agile North American beverage system will generate significant cost savings as well as incremental top line growth over the long-term. It will improve our cost structure, and allow us to more effectively meet the needs of both our customers and consumers. We expect that this transaction will have many benefits. First and foremost, it expands the overall system profit pool by eliminating redundant costs across the value chain. In headquarters, back office, operations, supply chain and sales, we believe we can unlock more than $200 million of pre-tax synergies on an annual basis, most of them related to overlapping costs and scale efficiencies. Next, this integrated entity, which would now include 80% of our total beverage volume in North America, would improve speed of decision-making across the company and eliminate friction points resulting from competing manufacturing distribution systems.

Let me give you an example. We would now have the ability to shift product between warehouse and DSD systems more easily, selecting the right system based on channel, customer and type of product. The outcome of this distinct flexibility is that we can now incubate new products that start out small in one distribution system and switch it to another with little friction. Third, this transaction will allow us to take our existing Power of One to a new level on several dimensions. In North America, we would step up Power of One offerings across food and beverages. We could now offer compelling bundled beverage offerings without wondering whether they''re DSD delivered or warehouse delivered. We would accelerate the work currently under way at Frito-Lay North America on a next-generation low-cost high-lift DSD system, and this will allow us to rapidly transfer new technologies to the beverage system also. We would be able to better serve both large and small format retailers and food service operators in the territories we own. We would provide one face to beverage customers in 80% of the country. And importantly, it would facilitate our bringing to market innovative new products that advance our human sustainability agenda with a greater range of nutritious offerings.

Turning to the International business, it''s also part of this transaction. Our scale and know how would enable us to more quickly and efficiently address international opportunities. Let me remind you that our beverage businesses in Russia and the Ukraine are successful joint ventures and that we are actively involved in their operations. Similarly, in international markets like Mexico, Eastern Europe and Russia, we could derive greater synergies between our existing snacks and the bottlers'' beverage businesses. In particular, we will capitalize on many of the Power of One opportunities, from bundling promotions to joint delivery and merchandising in these markets. And finally, this transaction would open up a whole new level of strategic flexibility for us. As most of you know, nearly all of the sales of Tropicana and Gatorade are distributed through PepsiCo''s warehouse system. This transaction will facilitate consolidation of the manufacturing network, which will have significant downstream cost benefits for the entire system.

Overall, we feel very good about this transaction. It will enable us, both franchisor and franchisee, to immediately compete more effectively in the North American beverage market while providing significant additional opportunities for future growth. On the people side we will have an expanded base of experienced operating executives we can move seamlessly across the company to staff our various needs. Our close working relationship with our largest anchor bottlers has enabled the current system to function at already high levels. We share similar values and mutual commitment to operating excellence in the U.S. and globally, and I am confident that this would facilitate a smooth integration process. We truly look forward to welcoming our PBG and PAS associates to the PepsiCo family.

Now let me turn it over to Richard to cover some of the financial aspects of the transaction before I come back and talk about our Q1 results. Richard?

Richard Goodman –Chief Financial Officer

Thanks, Indra. Before I cover the financials, I do want to remind all of you that the offers we made for the shares of PBG and PAS are cross-conditional and our discussion therefore assumes both are completed successfully. In addition, our offers to acquire these shares are only proposals and are subject to us negotiating and signing definitive agreements with PBG and PAS. As Indra mentioned, we believe there are considerable synergies both in the near and medium term which, together with an increase in leverage, would result in EPS accretion of at least $0.15 when the synergies are fully realized and would also accelerate our EPS growth over the next three years by about 100 basis points. We expect this transaction would unlock more than $200 million of synergies on an annual basis, mostly in cost reductions of which we would expect to be able to realize more than half within the first 18 months. Immediate cost synergies include G&A savings related to overlapping functions at the corporate and operating level both in the U.S. and internationally, a reduction of warehouse, transport and other supply chain costs, and the rationalization of selling and other go-to-market functions.