Q2 2022 Constellation Brands Inc Earnings Call

October 6, 2021

[music].

Welcome to the constellation brands Q2 full year 2022 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 I will now turn the call over to Patti Jong her love senior.

Vice President of Investor Relations. Please go ahead.

Thanks, Josh and good morning, and welcome to Constellation's second quarter fiscal 'twenty two conference call and you had this morning was down England, our CEO and Garth Hankinson our CFO.

A reminder, reconciliations between the most directly comparable GAAP measure and any non-GAAP financial measures discussed on this call.

In our news release or otherwise available on the company's website at sea brand's dotcom.

Please refer to the news release and constellations SEC filings for risk factors, which may impact forward looking statements. We make on this call before turning the call over to bill similar to prior quarters I'd like to ask that we limit everyone to one question per person, which will help us to end our call on time, thanks to the <unk>.

And now here Scott.

Thank you Patty good morning, and welcome to our second quarter call.

Right right into a discussion about the quarter there.

There were a number of puts and takes impacting our results in Q2, and Garth and I will spend time walking through them. However, the fundamentals of our business remains solid and consumer demand for our brands, particularly our core beer portfolio remains strong.

This gives us confidence to increase our EPS guidance for the year, which we outlined in our press release earlier today and Garth will review in more detail shortly.

In addition, we repurchased a significant number of shares in Q2 at prices that are favorable as we believe constellation stock is undervalued at current levels.

We've received some feedback from investors on this topic in recent weeks and we will address key themes that emerged from these discussions and our remarks.

As we walk through our Q2 performance and outlook for the remainder of the year. There are several key takeaways, we'd ask you to keep in mind.

One the momentum of our core imported beer brands provides a point of competitive strength versus industry peers as were the leading share gainer in the high end of the U S beer market.

The majority of our growth continues to be driven by Modelo especial yell supported by strong consumer demand for Corona extra and Pacific <unk> and we expect this to continue for the foreseeable future.

We continue to believe the Modelo especial in particular has a long runway for growth given the steadily increasing household penetration for this brand among non Hispanic consumers and continued strong velocity.

Now we've admittedly had some supply challenges this fiscal year driven by several external factors the most relevant being the ongoing robust demand for our beer brands.

We expect to return to more normal inventory levels by the end of Q4 <unk>.

Despite these challenges we continued to be on track to deliver a better than expected year for our beer business.

In fact, our strong performance to date gives us the confidence to increase guidance for our beer business as we now expect to achieve 90% to 11% net sales growth and 4% to 6% operating income growth for fiscal 'twenty two.

Our view is reinforced by recent 12 week IRI trends showing the constellation's beer business is significantly outpacing the high end and total U S beer industry.

0.2.

As it relates to our hard seltzer business and building off our last point.

We are unique in our position versus our competitors in this space as our primary growth is coming from our core beer portfolio and we're not reliant on the growth of hard seltzer and <unk> to.

To achieve the medium term growth goals for our beer business.

The hard Seltzer landscape has shift shifted considerably in recent months. Therefore, we have lowered our growth expectations for Corona hard seltzer, resulting in a sizable obsolescence charge taken for Q2, which includes our view of the total impact for the fiscal year.

But let's be clear, we continue to see the hard seltzer and broader Ava space as a meaningful sector in the beer market and we continue to believe it is important to participate in and gain our fair share in this segment to complement the growth of our core imported beer portfolio and to maintain our position.

As a leader in the high end of the U S beer market.

Going forward, we plan to focus on competing in this space.

Where we offer meaningful points of differentiation and unique value to consumers I'll have more to say on this topic in a moment.

Number three.

Our wine and spirits business was challenged in the quarter by underperformance of several mainstream brands due to the tough Covid comparisons are recent route to market transition and supply chain challenges for our imported wine brands. We continue to see the benefits of our premium innovation strategy take hold.

Performing well in the high end of the wine segment, which represents the vast majority of expected industry growth over the next several years and we continue to strengthen our capabilities in emerging growth channels key to long term success, such as ecommerce and DTC.

Number four we continue to enhance our approach to innovation with a more consistent strategic disciplined and consumer led approach with a focus on high growth segments aligned with consumer trends.

Our innovation agenda is designed to complement our organic growth and we are developing sustainable products that are incremental to our business. While further premium rising our portfolio into margin accretive price points.

Over the years, we've been able to extend some of our brands into new spaces recruiting new drinkers and expanding occasions, and we've achieved a healthy balance between growth from the core and from innovation.

Number five our capital allocation strategy remains unchanged since I assumed the role of CEO almost three years ago.

Since then we've made significant progress in reducing debt and achieving our goal of returning $5 billion in value to shareholders by the end of fiscal year 'twenty three through a combination of dividends and share repurchases.

In fact to date this fiscal year, we have repurchased one 4 billion of our shares and when combined with our dividend we have achieved nearly 60% of our $5 billion goal.

To be clear our shareholder value equation is based on outsized growth combined with the return of dollars to shareholders.

One of the most important capital allocation priorities is to continue reinvesting in our beer business to keep up with robust demand for our products.

Despite initial challenges associated with the build out of a third brewery in Mexico, we have moved onto other capacity alternatives in the country.

Our expansions in Nava and overcome help ensure we have adequate production capacity for the medium term and will create much needed redundancy capacity to better enables us to manage through unexpected events like we've experienced these past two years.

We continue to work with the Mexican government to solidified plans for a new brewery in south Eastern Mexico with adequate water supply and an available talented workforce.

Now, let's move onto a more fulsome discussion about our performance within the quarter.

During the quarter, the Modelo brand family posted depletion growth of 17% for the quarter and single Handedly drove total important share gains in IRI channels on a dollar basis.

As the number two beer brand in dollar sales in the entire U S. Beer category Modelo Especial <unk> is the only major beer brand growing household penetration and is leading the way as the number one share gainer among high end brands.

Modelo <unk> has become the number two brand family in the <unk> space posting depletion growth of more than 50% for the second quarter.

Corona extra continues its growth trajectory as the second fastest share gainer in the number one love brand in the import category driven by our return to growth in the on premise, which currently represents approximately 11% of our beer business volume.

In addition to the comments I made earlier about our hard seltzer I'd like to discuss industry trends and our refreshed approach to this sector of the beer market going forward.

In the short to medium term, we believe that there will be consolidation within the hard seltzer slash Eva space, primarily due to the chaos of SKU and brand proliferation with too many new entrants that don't have the velocity or consumer demand to warrant shelf space.

We also believe this subcategory will evolve beyond low calorie low carb offerings and open up to more distinctive consumer value propositions that include things like more flavor different alcohol basis and functional benefits.

We've already started to innovate in this way with distinct products like Rhopressa and <unk>.

We've also discovered that consumers are looking for more robust taste and flavor and Theyre seltzer.

As a result, we will be altering the flavor and taste profile of our seltzer portfolio to better align with the changing consumer preferences. While also introducing single serve packages to better serve the growing convenience channel our largest trade channel.

And we have a solid lineup of innovation that we have yet to introduce.

We have several great examples of our innovation strategy at work within our wine and spirits portfolio.

This business continues to drive growth from recently launched innovations, including Naomi Cabernet Sauvignon, Kim Crawford illuminate the prisoner Cabernet and Chardonnay, all of which are amongst the top 10 innovations across high end wine in IRI channels during the quarter.

And our wine and spirits innovation pipeline is ready to go with further consumer led new products as we head into our peak selling period, including the expansion of our sector ready to drink platform and the introduction of Woodbridge wine shelters and box plants.

In addition to driving growth through innovation, we're making progress with our core wine and spirits portfolio. Despite the previously mentioned challenges.

We continue to take price to further premium is our mainstream portfolio. As these steps are critical to maintain brand equity and to improve profitability, which will serve our brands well over the long term.

We're putting points on the board in a number of areas, where we're outperforming the U S wine market.

Our high end Super premium plus portfolio grew net sales double digits during the quarter.

In on premise channels, our investments are paying off with enhanced wine offerings at major restaurant chains.

We're thriving in critical emerging channels like three tier e-commerce and direct to consumer which continued to drive high end growth where were outpacing category performance at key accounts, such as instant card Amazon and Albertsons with a resurgence of online shopping due to the Covid pandemic.

For example, constellation's fine wine share has expanded significantly in the latest 12 weeks due to the robust growth of the prisoner on instant card and Robert Mondavi winery unwind Dot com.

In fact ecommerce and DTC sales are up nearly 3% to four times versus 2019, and they comprise roughly 3% to 5% of our business versus 1% pre pandemic.

Forward, we will continue to focus on becoming a category leader in ecommerce and DTC as we believe these channels will make up a significant portion of our mix over time, and we will continue to be an opportunity for high end growth.

I'd also like to provide you an update on our U S harvest, which is about 70% complete at this point, while our production facilities wineries and tasting rooms remain untouched by recent wildfire activity.

This quarter, our ventures activities included investments in Adaptogen infused hop water and Erin Paul and Bryan Cranston's artisanal dose Hombres mezcal.

Hop water as a non alcoholic calorie free sparkling water and fused with adaptor gyms and nootropics to provide the perfect balance of functioning flavor for health conscious consumers.

The non alcoholic segment of total beverage alcohol grew almost 40% in 2020 and dollar sales through IRI channels and according to <unk> research, 60% of consumers are switching between non alcoholic or low alcoholic and full strength strengths within the same occasion.

<unk> is an award winning handcrafted mezcal brand created by breaking bad Costars, who have developed an exceptional liquid that received frequent praise from both the industry and consumers.

Overall U S. Mezcal category grew 14% in 2020, according to AWS or Super premium mezcal priced above $30 per bottle is projected to be the largest and fastest growing segment within the category.

Moving on to canopy growth.

We're encouraged by the recent introduction of the cannabis opportunity in administration at <unk>.

<unk>, Bill, which was introduced by Senators Booker widened and Schumer in July.

More than 90% of Americans are in favor of cannabis legislation for medical purposes, and two thirds of those are in favor of legalizing for recreational use as well.

In fact, nearly two out of three Americans already have legal cannabis access is 37 states have legalized for medical use in 18 states for adult use.

While we're optimistic about federal legislation within this Congress canopy is not waiting for this reality to materialize.

Canopies U S business grew 91% year over year in their most recent quarter driven by robust consumer demand for their CBD and CPG products, including Martha Stewart branded products Futral beverages, Storz, <unk> bickel based products and <unk> deals new RTD.

Over the coming years revenue from canopies U S business is expected to grow significantly as it benefits from increasing distribution and new product introductions.

<unk> THC Permissibility becomes a reality in the U S cannot be expects their U S business to make a substantially greater contribution to their results.

Canopy has scale a multi state route to market plan ready for legalization and has leveraged constellations distributor relationships to fuel their U S. Non THC business with more opportunities in a world post federal Permissibility.

Overall, we're comfortable with canopies progress and we're looking forward to the growth and legalization prospects for the business.

In closing I'd like to reiterate our main takeaways for this quarter.

First continued strong demand for our core imported beer brands provides a point of competitive strength versus industry peers led by the number one share gainer in the beer category Modelo Especial gel, which we feel has ample runway for growth well into the future given the steadily.

Increasing household penetration rates among non Hispanic consumers and continued strong velocity.

The short term.

The short term supply disruption to our imported beer business does nothing to dampen our long term prospects as we expect to return to more normal inventory levels by the end of Q4, and we're on track to deliver a better than expected year for our beer business.

Second we continue to see the hard seltzer and broader aviation space as a meaningful sector within the beer market.

Going forward, we plan to focus on competing in this space in ways, where we can offer meaningful points of differentiation and unique value to consumers and we have some upcoming innovation in this space that we're optimistic about.

Number three.

We continue to see benefits of our wine and spirits premium innovation strategy take hold we're performing well in the higher end of the wine segment and we continue to strengthen our capabilities in emerging growth channels key to long term success, such as ecommerce and DTC.

Fourth we continued to enhance our approach to innovation with a more consistent disciplined and consumer led approach focused on high growth segments aligned with consumer trends to complement our organic growth, while developing sustainable products that are incremental to our business at margin accretive <unk>.

<unk>.

And fifth and certainly not least our shareholder value equation continues to be based on outsized growth combined with the return of dollars to shareholders and let me reiterate our capital allocation strategy remains unchanged. We remain committed to our goal of returning $5 billion in value to <unk>.

Our holders by the end of fiscal year 2003 through a combination of dividends and share repurchases.

Our strong operational performance and cash flow generation allowed us to make significant share repurchases in Q2 aligns with our commitment which contributed to the increase in our EPS guidance for the year.

At the same time, we remain committed to continuing to reinvest in our business with an emphasis on our beer business to keep up with the robust demand for our products and with that I'd like to turn the call over to Garth who will review our financial results in the quarter.

Thank you Bill and Hello, everyone.

Q2, certainly reflected yet another strong quarter of marketplace performance for our beer business.

Due to continued robust consumer demand for our core beer portfolio. We now expect to exceed our initial top line and operating income targets for our beer business. Additionally, our strong cash flow generation enabled us to continue to repurchase shares during the quarter and through September we have repurchased six 2 million shares of common stock.

For $5.0 billion.

As a result, we've increased our full year fiscal 2022 comparable basis diluted EPS target.

And we now expect to be in the range of $25.0 to.

To $55.0

This range excludes canopy equity and earnings impact and reflects the increase in beer operating income guidance and decrease in the average and the weighted average diluted shares outstanding based on shares repurchased through September.

Partially offset by an increase in the tax rate for fiscal year 2022.

Now, let's review Q2 performance and our full year outlook in more detail, where I'll generally focus on comparable basis financial results.

Starting with beer.

Net sales increased 14% driven by shipment volume growth of nearly 12% and favorable price, partially offset by unfavorable mix.

Depletion volume growth for the quarter came in above 7% driven by the continued strength of Modelo especial and Corona extra as well as the continued return to growth in the on premise channel.

Depletion trends tempered in Q2 versus Q1, driven by out of stocks due to ongoing robust consumer demand as well as lost shipping days for some of our distributors due to severe weather events, including Hurricanes and wildfires.

We estimate that these factors hampered Q2 growth by approximately two to three points.

As Bill mentioned on premise volume accounted for approximately 11% of the total beer depletions during the quarter and grew strong double digits versus last year.

As a reminder, the <unk>.

On premise accounted for approximately 50% of our beer depletion volume of pre Covid and accounted for only 6% of our depletion volume in Q2 fiscal 2021 as a result of the on premise shutdowns and restrictions due to COVID-19.

Selling days in the quarter were flat year over year and will also be flat in Q3.

Wholesale.

Taylor Depletions continued to outpace cases shipped during Q2, resulting in lower than normal distributor inventory on hand at the end of the quarter.

To rectify this gap shipment case volume is expected to exceed depletion case volume throughout the second half of the fiscal year, resulting in a gradual improvement of distributor inventories during Q3 and Q4 as inventories are expected to return to normal levels by the end of the fiscal year.

Moving onto beer margins beer operating margin decreased 530 basis points versus prior year to 37, 2%.

Benefits from favorable pricing mix and foreign currency were more than offset by unfavorable cogs increased marketing investments and higher SG&A.

The increase in costs was driven by several headwinds that include the following.

First.

Our Q2 obsolescence charge of $66 million.

As a result of our production constraints earlier in the year, we prebuilt hard seltzer inventory in advance of the key summer selling season based on our best estimates for fiscal year 2020 to.

Due to the overall slowdown in the hard Seltzer category in the U S. Some of that growth is not going to materialize in the fiscal year, resulting in excess inventory.

Second.

Increased brewery costs, driven by labor inflation in Mexico increased head count and incremental spend related to capacity expansion.

Third.

Step up in depreciation expense largely due to the incremental 5 million hectoliter at <unk>.

And finally as expected increased material costs predominantly driven by increased commodity prices and inflationary headwinds on pallets cartons and aluminum.

These cost headwinds were partially offset by favorable fixed cost absorption.

Marketing as a percent of net sales increased 150 basis points to nine nine versus prior year as we've returned to our typical spending cadence, which is weighted more heavily towards the first half of the fiscal year.

As a reminder, marketing spend in the first half of the prior year with significantly muted.

Resulting from COVID-19 related sporting and sponsorship event cancellations <unk> postponements.

Lastly, the increase in SG&A was primarily driven by an increase of approximately $12 million and legal legal expenses as well as higher compensation and benefits.

As mentioned earlier, we are increasing full year fiscal 2022, net sales and operating income guidance for our beer business.

We are now targeting net sales growth of 9% to 11%, reflecting the strength of our core beer portfolio and pricing pricing actions that are higher than initially planned.

Furthermore, we are now targeting operating income growth of 4% to 6%, which implies operating margin in the low to midpoint of our stated 39% to 40% range.

Please note that the updated guidance includes all apps lessons obsolescence charges and legal expenses incurred in the first half of the fiscal year.

We continue to expect our gross margins to be negatively impacted for the fiscal year as benefits from price and our cost savings agenda are expected to be more than offset by several cost headwinds.

However, the mix and magnitude of these headwinds have changed from our original assumptions presented at the beginning of our fiscal year.

First we're still estimating a significant step up in depreciation expense, which began to accelerate in Q2.

However, some of this depreciation started later in the year versus planned.

As such we are now estimating total beer depreciation expense to approximate $250 million and.

<unk> of approximately $55 million versus last year.

Our 10 million or a $10 million decrease versus our original plan to estimate.

Second we still expect expect substantial inflationary headwinds across numerous cost components to continue during the second half of our fiscal year as commodity prices continue to rise specifically.

Specifically across aluminum diesel and pilots, resulting from a rather volatile inflationary market.

And third due to the growth moderation within the hard seltzer market as well as lower HCV levels across the category on new items, we do not expect our hard seltzer skus to meet originally planned volume expectations, which results in a positive mix benefit versus our original estimate.

Conversely, due to the slowdown in the hard seltzer sector excess inventory resulted in a fiscal year to date obsolescence charge of approximately $80 million.

Please note that these losses cover our hard seltzer obsolescence exposure and as such we do not expect to take any additional obsolete charges in the back half of the fiscal year for hard Seltzer.

From a marketing perspective, we continue to expect full year spend as a percentage of net sales to land in the 9% to 10% range, which is in line with fiscal 2021 spend of nine 7% of net sales.

Looking ahead to Q3, I would like to remind everyone of the difficult volume overlaps we will encounter as we're facing a 28% and 12% growth comparison for shipment volume and depletion volume respectively.

Additionally, we expect to reform our normal annual brewery maintenance during Q3, which will result in less throughput versus Q2, as we have to shut down production for a few days.

As such we are estimating low single digit shipment volume growth for Q3.

Moving to wine and spirits.

Q2 fiscal 2022, net sales declined 18% on shipment volume down 36% excluding.

The impact of the wine and spirits divestitures organic net sales increased 15% driven by organic shipment volume growth of nearly 6%.

Favorable mix and price and smoke tainted bulk wine sales.

Robust mix driven by the prisoner brand family, Naomi and Kim Crawford accounted for approximately nine points of the year over year organic net sales growth.

Shipments were negatively impacted by port delays for our international brands and route to market changes, which also impacted depletions.

<unk> volume declined 2% during the quarter and was additionally impacted by a challenging overlap to consumer pantry loading behavior, especially for our mainstream brands that experienced robust growth during the beginning of the COVID-19 pandemic.

However, as we head into the second half of the fiscal year, we feel as though most of these challenges are behind us and expect shipment volume and depletion volume to generally align in the second half of fiscal 2022.

Moving on to wine and spirits margins operating margins decreased 620 basis points to 19, 7% as mixed benefits from the existing portfolio and divestitures combined with favorable price were more than offset by increased marketing and SG&A spend higher Cogs and margin dilutive smoke tainted bulk.

Wine sales.

Higher costs were driven by unfavorable fixed cost absorption and increased transportation costs and.

Favorable fixed cost absorption resulted from decreased production levels in New Zealand due to a frost during their harvest season earlier this year.

As well as decreased production levels at our wineries in California due to the 2020 U S wildfires.

These headwinds were partially offset by lower raw materials and other cost savings initiatives.

Keep in mind that we're lapping a lower SG&A spend in Q2 fiscal 2021 due to COVID-19 and heavy smaller business post the divestitures, resulting in significant marketing and SG&A deleveraging impacting operating margins.

For full year fiscal 2020 to the wine and spirits business continues to expect net sales and operating income declined 22% to 24% and 23% to 25% respectively.

This implies operating margin to approximate 24%, which is flattish to prior year on a reported basis, which drove significant margin expansion on an organic basis.

Excluding the impact of the wine and spirits divestitures organic net sales is expected to grow in the 2% to 4% range.

From a Q3 perspective keep in mind that we are lapping unfavorable fixed cost absorption of $20 million in the prior year, resulting from decreased production levels. As a result of the 2020 U S wildfires.

We expect this favorable overlap to be partially offset by a continued increase in transportation costs and incremental unfavorable fixed cost absorption due to the New Zealand Frost.

Also.

We continue to expect marketing and SG&A deleveraging as a result of the wine and spirits divestitures as such we expect marketing and SG&A to continue to be a significant drag to operating margins in Q3 fiscal 2022.

Now let's proceed with the rest of the P&L.

Fiscal year to date corporate expenses came in at approximately $117 million up 7% versus last fiscal year. The increase was primarily driven by higher consulting services and compensation and benefits, partially offset by favorable foreign currency impact.

We now expect full year corporate expenses to approximate $245 million driven by increase in compensation and benefits.

Comparable basis interest expense for the quarter decreased 4% to approximately $96 million versus prior year, primarily due to lower average borrowings.

We now expect fiscal 2020 to interest expense to be in the range of $355 million to $365 million.

The slight decrease versus our previous guidance reflects early redemption of higher interest rate debt as well as $1 billion of senior notes issued in July at attractive rates.

Our Q2 comparable basis effective tax rate excluding company canopy equity earnings came in at 21, 8% versus 16, 9% in Q2 of last year, primarily driven by the timing of stock based compensation benefits and a higher effective tax rate on our foreign businesses.

We now expect our full year fiscal 2022 comparable tax rate, excluding canopy equity earnings to approximate 20% versus our previous guidance of 19%.

This increase is primarily due to a higher effective tax rate on our foreign earnings than originally estimated.

Also note that we expect stock based compensation tax benefits to be weighted towards Q4 as.

As a result, we expect our Q3 tax rate to be higher than our full year estimate an approximate 21%.

We also now expect our 2022 weighted average diluted shares outstanding to approximate $192 million, reflecting the impact of our September year to date share repurchases previously discussed.

Moving to free cash flow, which we define as net cash provided by operating activities less capex with.

We generated free cash flow of $3.0 billion for the first half of fiscal 2022, which is flat to prior year, reflecting strong operating cash flows offset by an increase in capex.

Capex totaled $353 million, which included approximately $295 million of beer Capex, primarily driven by expansion initiatives at our Mexico facilities.

Our full year Capex guidance of 1% to $2.0 billion, which includes approximately $900 million targeted for Mexican beer operation expansions remains unchanged.

Furthermore, we continue to expect fiscal 2022 free cash flow to be in the range of 141.5 billion. This reflects operating cash flow in the range of two four to $8.0 billion and the capex spend previous outlined.

In closing I will.

Want to iterate that while we had our fair share of challenges during the first half of our fiscal year, resulting in several puts and takes impacting our results. The fundamentals of our business remains strong and consumer demand for our products, particularly our imported beer portfolio remains robust providing us with strong momentum as we head into the second half of our fiscal year.

And with that Bill and I are happy to take your questions.

Thank you as a reminder to ask a question you will need to press star one on your telephone.

Withdraw your question press the pound key.

You limit yourself to one question since then while we compile the Q&A roster.

Our first question comes from Dara <unk>.

<unk> with Morgan Stanley You May proceed with your question.

Hey, guys.

So on the beer top line front first just a detailed question given the volatility here and the tough comp in Q3 can you give us an update on how September depletions are trending so far.

And also for the quarter are you expecting depletions to still be above that low single digit shipment rate that you mentioned.

Or is that tough with the difficult 12% depletion com.

And then secondly, the longer term question is.

You raised your revenue guidance for this year.

Much of that is underlying demand strength in depletions maybe versus <unk>.

Shipments and perhaps getting more supply and then the balance of the year.

Versus pricing.

The pricing front, you've sounded more aggressive in terms of pricing expectations going forward publicly.

I guess is that correct and B is that more just a bad higher commodity costs or is it more confidence in market share gains or the consumer.

The environment is conducive to taking pricing here. Thanks.

Sure Dara, let me take a swing at that and I.

I Miss anything Garth can fill in behind so relative to deplete in September we expect those to be fairly consistent with year to date trends.

Just about all wrapped up through September keeping in mind, that's going against the 20% any.

Increase that we had during September of last year. So that's a pretty powerful a pretty powerful start to the quarter.

We do expect the Depletions are going to continue to be above shipments for the reasons that Garth noted in his in his <unk>.

Remarks.

So we would expect the depletions would be above it for that window of time the pricing environment.

Remains relatively strong we as we've said we expect to be slightly ahead of our of our usual algorithm driven more by taking it to pricing on some skus that we had not anticipated earlier in the year more than we're doing anything unique to take additional pricing, where we had all over what we had already planned Garth anything you want to add.

No I would just say.

Depletions for the quarter depletion growth will absolutely outpace shipment growth in the quarter, but on an absolute basis shipments.

Well outpaced depletions.

Which helps us get into a better better positioned from an inventory perspective.

Yes keep in mind as we've said we have our inventory levels at our distributors below what we would like to see and what they would like to see on an ongoing basis. So we would be expecting to fill some of that in as we get our inventory levels back to normal position by the end of the fiscal year.

Thank you. Our next question comes from Bonnie Herzog with Goldman Sachs. You May proceed with your question.

Alright. Thank you actually had a question on your guidance as well.

Thank you Rohit and.

And thinking about the mid points of your new beer guidance for the full year.

Does imply a pretty big step down in the second half, Brian and Ken your guidance implies around.

Four 5% beer shipment volume growth, 3% op income growth and then beer margin, 39% for the second half.

And that compares to your beer.

40% in the first half, which did include the $80 million obsolescence charge that you called out.

I guess I'm trying to understand your level of conservatism.

FY <unk> guidance.

Especially with the margin Kevin.

You mentioned, there's going to be no more charges in the second half you highlighted you plan to take incremental pricing and then there are a few other net positives that you've called out. So just wanted to make sure I'm not missing anything or maybe what changed Karen.

Yeah.

Thanks Bonnie.

Look let me try to give you the walk on margins right and you noticed you noted we've got some we've got some headwinds and we've got some tailwind right and so just on.

On the tailwind obviously as we said in my opening remarks.

We've got a bit of a benefit on depreciation just starting later than expected in the year and so that's a net positive.

As Bill just articulated we're taking more we're taking.

Increased pricing across more skus than we had originally plants will be above our range there.

So that's a net positive.

Also have the mixed benefit of sellers.

And again net positive positive there and then the increase in core beer outlook as a net positive. So those are all but those are all those are all the headwinds, but we still have those are all the tailwind, but we still have the headwinds that we've been talking about all year long right. So even though depreciation is coming in less than expected we.

An.

An uptick in depreciation in the second half of the year, we still are facing increased and commodity prices, including aluminum diesel natural gas would those will continue in the second half of the year now we think that the guidance. We provided takes into account all of those cost increases. So we feel we feel we have those covered.

But again I mean, we just continue to have these these puts and takes and we feel confident that.

In the margin outlook that we provided keep in mind too that even though we're going to have a mixed benefit from.

From from from Seltzer is we still are going to sell sensors and those are margin dilutive.

As we've noted previously.

Thank you. Our next question comes from Nik Modi with RBC capital markets. You May proceed with your question.

Well thanks, good morning, everyone.

So I had.

Two questions. One is a real quick one just on the Seltzer reformulation Bill a bit I know you probably don't want to provide too many details on pellets in the market well that's changed.

Salary or the sugar levels.

Curious on that and then my broader question, though.

Clearly doing very well, we see that in the data.

With mountain planet consuming, but as we look at some of the numerator data and we look at different cohort, what we noticed is that corona.

Ludwig.

These demographic and mobile is doing much better.

We're seeing some of those numbers and curious just wanted to get a sense on.

Instrumentality Modelo, when you think about Magellan clients together.

And do you think that may be.

It's a merchandising scheme you can use instead of putting both brands right next to one another to kind of reduce some of that cannibalization.

Sure so relative to your first quick points, there won't be a radical change in the colonic formulation of <unk>.

Our seltzer lay out.

Relative to.

Madonna and Corona, obviously, there is interaction between those two brands as you would expect however, as we've said before Nick and I'm sure you are quite familiar.

Our household penetration on Modelo is still significantly below where corona has to say nothing of its below other brands that are that it competes against so while it is a true statement that as modelo grows or is corona grows it does eat into some.

Our of our brands, we still see it as largely positive.

As we see that growth profile and as we've talked before modelo.

It continues to grow velocity, there is a lot still a lot of runway to expand distribution.

Household penetration, which I touched on just a second ago remains a massive opportunity for that.

And we only started advertising to the non Hispanic community about three five years ago. So we're really just getting started on an <unk>.

<unk> and the opportunity that presents itself there so well.

<unk> to see some interaction and clearly I think.

The idea of separating those at retail to some degree.

Has some has some opportunity I think overall, we're still focused on expanding our presence of both of those brands as you probably shock Corona extra had a very good quarter.

And it just shows the ongoing strength of the core Corona franchise. In addition to exceptional performance bimodal.

Thank you. Our next question comes from Lauren Lieberman with Barclays. You May proceed with your question.

Great. Thanks.

I wanted to hear a little bit about Corona extra since you called out.

The 5% depletion growth for that brand and how that kind of shakes out between.

On premise recovery versus.

Track channels.

Sorry, I should say on off premise.

And then I was hoping you could also talk a little about Nielsen Slash IRI verses. What you guys saw in terms of off premise trends in total including on track outlets.

And then finally, just any kind of update on Pacific.

Can you really intrigued to hear about progress you are making with that brand. Thanks sure. So.

<unk>, 50% give or take of the of the growth profile that we saw in Corona extra is the reopening of.

Of the on premise as we've said in prior calls we were down as low as 3% of our business.

Few quarters ago during the sort of the peak of the initial COVID-19 pandemic.

Tissue, that's now up to 11% and clearly with the Corona being one of the most loved brands that exist in the category.

The increase that you would expect to see as on premise opens this has been important but don't underestimate Corona extra has done very well at retail as well.

Relative to specific Gulf, we continue to feel like specific dose another great opportunity, it's like a baby modality.

Developing in a very similar way to what Modelo did say 20 years ago with extensive growth profile on the west coast and is it starting to filter east.

As you know we're investing more against.

<unk> than we have historically, we had a little bit of challenge in this quarter.

With Brown glass, which had some impact on Pacific, though during the quarter as it did with <unk>.

Hello, Negra as well.

But those are those are ongoing supply chain challenges that we're working our way through it does nothing nothing just slowed down what we expect to be another superb brand for us as time goes forward into southern del.

Thank you. Our next question comes from Chris <unk> with Wells Fargo Securities. You May proceed with your question.

Hi, Thank you very much just on hard Seltzer as you had originally planned on.

On investing pretty significantly behind the launch this year are you getting any savings from those investment plans now that the category has slowed or are those locked in presumably that could be a good story going into fiscal 'twenty. Three. In addition, you had mentioned that you had planned to double capacity for your ABS.

And so.

So how are you thinking about flexing.

Flexing that capacity toward.

Toward beer, obviously are you looking at building a new brewery in southeast Mexico does that does this get the delay that that new build out.

Over time, because you have.

Yes, yes, thanks for the question so.

So on the capacity piece first right as we announced last spring.

Investing in 5 million hectoliter is worth of EBITDA capacity that is moving forward as planned and should come online earlier in our fiscal year 2023 that is still an important initiative for us because as bill outlined in his prepared remarks.

Well the Seltzer category has slowed.

The <unk> segment within beer continues to be a dynamic and meaningful part of the high end and it's one that we need to we need to compete in and.

And by having dedicated aviate.

Capacity that frees up capacity for our core Mexican beer portfolio. So that goes on as planned.

And then Furthermore, on the investments that you referenced in the first part of your comfort in your question. We did indicate that we were going to spend $60 million this fiscal year behind.

Corona hard seltzer.

Or that spend was.

Slated to be spent in the first half of the year. So that has been spent and that which wasn't spent is being redirected to to invest behind our core Mexican beer portfolio.

The only other thing I'd add to that on the last part of your question was about whether or not it causes any delay in what we would do to invest in the southeast.

I said, we're continuing to work with the Mexican government, we feel the southeast is highly likely to be where we put our next brewery position and as we've said because of robust demand we're going to continue to invest.

To support our business.

So we would not expect to see any radical change of what our timeframe is all about demand has been higher than expected we need to create some redundancy in our system. As we've noted on prior calls and our brewery in the southeast will be an integral part of that strategy.

Thank you. Our next question comes from Vivien <unk> with Cowen You May proceed with your question.

Hi, good morning.

Well good morning, I was hoping you could comment on intra quarter trends in on premise, whether you saw an evolution or a softening there around the delta there and as well perhaps from an industry perspective are you observing any changes in consumer alcohol preference across kind of TBD.

Ill, let me cross category switching.

Consumers central back out in bars and restaurants.

Sure.

We saw a lot of variation.

And on premise.

At the risk of saying, yes, no, yes, no and yes no.

It is largely dependent on where you were geographically and what was going on in particular markets. So while we would sit here and say state actually is coming up and we're seeing more on premise. If you saw a wave of COVID-19 challenges in another market you saw stuff goes.

The other way so what that basically I think Jeff is there wasn't an overarching answer to that question. It was really on a localized basis.

That you saw many of the movements within the quarter again in the aggregate on premise was better than it was in the prior year and it has and continues to be increasing as a percentage of our business, but it's still not quite where it was before the pandemic. So hopefully that helps.

It's very hard.

To give a real aggregating the thing because it's really made up of a lot of individual answers rather than something being an overarching trend.

Across the marketplace.

I think relative to your question about cross category.

I think the overarching thing that you see there is the premium position trends continue whether you would think about it in in ready to drink in our aviation.

You'll continue to see people premium Isaac you see it in the wine business. We're at the higher end of the wine business continues to outperform the mainstream sector of the business and you continue to see that experience. So I think that is an overarching trend.

That you see you will also see what we've found for many years now which is consumers are more interested in having an a ramp beverages, depending on the exact occasion in which they are consuming product and are less likely than they used to be to consume only one type of product at any one occasion than what.

What's perhaps the case historically, so I hope that helps.

Thank you. Our next question comes from Kevin Grundy with Jefferies. You May proceed with your question.

Great. Thanks, good morning, everyone.

So just picking up on the on the last question, but really kind of laser <unk> I guess, a little bit on wine.

And broadly for the industry because theres been some discussion in the marketplace about the recent slowdown and it's not limited to the on premise and we've seen the Nielsen data. So your point is extremely well taken the premium position trends are still in place, obviously broad based across total beverage alcohol, but even on a two year average basis.

We're seeing the trend slowdown here, so I'm not sure how much more you can add to your comment previously do you view this as transient at this point some of this deceleration we're seeing in the category or is there a bigger.

Maybe a bit more difficult to quantify dynamic going on around ready to drink beverages in a way there hasnt been with wine before if you could comment on that and then just sort of a cleanup I think important to 30% operating margin target in the wine segment.

Is that still the target and as fiscal 'twenty for us over the next couple of years is that sort of enough Tom a timeline to take out the stranded overhead. So your comments there would be helpful. Thank you both.

I think you've got to keep in mind relative to the higher end of the wine business Youre also seeing some what I'll call channel evolution.

And things like three tier ecommerce and direct to consumer those are up for us three to four times what it was in 2019.

Youre seeing that as sort of 3% to 5% of our business today, where it was 1% before so some of what youre seeing in that is a difference in the way the consumer actually acquires and it may or may not be reflective of some of the IRI slash the Nielsen data because it's just it's not picked up in those channels. Some of it is with the <unk> Congress, but certain.

The direct to consumer channel is not so you've got some of that dynamic in play and of course, almost all of that tends to the higher end.

Where that consumer purchasing behavior occur so I do think.

There's ebbs and flows on all of those things I think you saw probably more consumption behavior at home during COVID-19, So you've probably seen a little bit of a more challenging comparable versus prior year. So I think as we get hopefully back to a bit more normalcy I think youll continue to see what the long term trend is.

<unk>, which is at the higher end of the business continues to outperform and then it's a strong growth play for for that sector.

Yes on the wine margins.

It certainly would be the target market for wine is still 30%.

As we've said all along that it was going to take us about two years post <unk>.

The best picture of the low end for us to be able to achieve that 30% operating margin. So by the time, we get to the end of our fiscal 2023 wine should be in that Zip code.

Obviously that the progress on that.

Is underway, we're making good progress as we've said before in order to get there. There's a number of initiatives that have to do we have to make progress on thats pricing mix footprint optimization.

Making smart design to value choices.

I said I mean, we're making good progress and we're confident that we can get to 30% by the end of 2023.

Thank you. Our next question comes from Robert <unk> with Evercore. You May proceed with your question.

Great.

A couple of questions first.

Obviously.

The low inventories hurt Depletions can you give us a sense of where you think depletions would have been if you.

You had full inventory levels and I'm hearing it hurt Corona. Most can you can you verify that.

Obviously, that's a little bit of a tough question to answer because unlike a year ago, where we were very selective of what we produced this year, we've been producing all skus, we've just had trouble keeping up with the demand.

Our best estimate would probably be in the two to three percentage points that we lost.

This process, but again.

Most instances if a consumer is looking for our brand. They may they may have an issue on a particular point in time, finding a SKU, but they don't have trouble finding our brand.

So I think that that's probably the way to think about it.

Great and then second question.

As you kind of do a diagnostic on.

What happened with Corona Seltzer.

I think I heard you say that you that flavor was an issue that the consumer wants more flavors. So as you think about it. It was was it a question of the taste not being differentiated or is there an issue with having a brand that's associated with a beer or are there other other.

Factors.

In addition to obviously the sector slowing a little bit just like to hear a little bit more of your diagnostic on the situation.

I would put more emphasis on your very last point, which is the sector changed a lot versus what everybody anticipated I think we were probably a bit on the conservative end compared to some of the competition as to what they expected going into this year, where some of them were predicting in excess of 50% growth we projected last.

But given as it was we were wrong.

So that is the fundamental issue when you when you combine that with the fact that we pre produced which again at the time was about production scheduling and in our judgment was the right thing to do at the time.

That in hindsight did not work out for us as well either but you got to keep in mind.

Despite all of that.

It's a relatively small percentage of our overall growth profile. It is additive to our growth. It is not the majority of our growth. The majority of our growth continues to be the robust demand against our core beer portfolio and Thats, where we expect it to continue to be so.

Now relative to the formulation. We've just we obviously do a lot of consumer research and we track consumer perspective, and we have found that consumers are desiring a bit more flavor and a bit more differentiation.

Within their seltzer preferences, and we plan to address those consumer needs.

Thank you. Our next question comes from Sean King with UBS. You May proceed with your question.

Great. Thanks for the question.

And thinking longer term on the margin front and some of the long term exposures you have in hedges you have in place in the second half.

Fiscal 'twenty two the right way to be thinking about margins in 'twenty three.

Look I think the right way to think about margins over the near and medium term is consistent with our long term growth algorithm, which is that we're going to achieve margins in the range of 39% to 40% and as we say it every call those are best in class margins and we are unapologetic about those.

And in any given fiscal year margins might be slightly higher than that due to.

Due to <unk> and in some years it might be slightly lower than that.

Too many headwinds, but the right way over the medium term is to think about those.

In the range of 39% to 40%.

Thank you. Our next question comes from Nathan <unk> with Bernstein. You May proceed with your question.

Hi, Thank you for taking my question I wanted to circle back to Pacific Don You had called out the brown cost challenges that you face. So obviously that brands saw weaker Nielsen off trade trends this quarter and I noticed that you didn't call out its depletion figures in the release. So could you provide that and maybe give us some color as to if they were there.

Issues outside of the glass of who you already called out thanks.

Sure.

Mid single digit depletion growth in and that brand during the quarter.

And obviously it was constrained we would have expected it to be higher without any supply chain issues that revolved around.

Around round less.

Thank you. Our next question comes from Andrew <unk> with Jpmorgan. You May proceed with your question.

Thank you good morning.

To go back to the depletion and shipments commentary you said depletion should outpace the low single digit shipments you've guided in the Q, which would imply a sequential acceleration in <unk> from the trough with sand on a two year stack.

You achieved in the second quarter, so given that you're facing tougher comparisons I feel good depletion to same amount about 12% in the third quarter of last year.

Is that acceleration on the two year coming from mostly from premise and at home decelerating, but still growing is that the way we should be thinking in other words should we think about beer depletion growing around mid single J&J. When you said I think as Senate emphatically.

Third quarter, Depletions would outpace shipments as well and then related to just a clarification on the pricing front should we think that you.

We will have about three 2% price mix realization are reading the tweak Q.

What are you seeing Alex this is playing out so far thank you so much.

Sir so just on the Q3 shipments and Depletions, what we said in terms of from a growth perspective shipments will grow in the low single digits and depletions will grow higher than that.

We Furthermore, said that on a volume basis depletions.

Shipments would.

Outpace Depletions and therefore, we've made progress in returning inventory to more normal levels by the end of the by the end of our fiscal year.

On the pricing question.

What we said on that one is that our typical pricing algorithm has us gaining 1% to two percentage points per year, given the pricing environment that we're in this year, we're able to be a little bit more aggressive on products that we wouldn't otherwise take pricing on and so we're going to be we're going to take pricing on those skus and as a result, I will be will be slightly up.

Above our 2% this year.

Thank you. Our next question comes from Laurent <unk> with Guggenheim You May proceed with your question.

Yes, good morning, everyone and thanks for the question so I'd like to come back on the sensor category. So first what is the growth strong positioning for the category.

Freedom interesting in the rational behind it and thinking about the next let's say year or so.

And then as you mentioned there would be a consideration that we see dimunition of lower velocity SKU.

Do you see a risk with one fee for the corn that sits around the right Ken.

As you will.

<unk> has been significantly underperforming to get the euro So do you see a risk here that you.

You could use a C D and finally, how are you planning to gain to finishing off the subject category, especially young.

Mexican brand I mean to put Chico.

Is is really becoming more national and became a mixture and also launching your margherita flavor more flavor.

Okay Skus so they turned us on how you would pay that.

Sure if I understood. The first part of your question correctly, I mean keep in mind that the beer category has been roughly flat at a time when we are up roughly 8%. So there is a significant.

<unk> between what the overall category is performing and what we are performing we're radically outperforming.

The category relative to our desire in the in the Seltzer Slash Aviate space Theres, a number of things first of all.

We're going to focus our attention on where we think we bring differentiated products that are distinct given what we have today I would use refresher and Lee manada as two examples of that that meet specific needs and are not what I would describe as me too products. We also have as we noted in our script some innovation agenda items that we.

Are going to be distinctive and will bring unique value to the table as well. So we continue to believe this is going to be an additive portion of our growth, but certainly not the largest portion of our growth that will continue to be our core beer portfolio.

Thank you. Our next question comes from June to Polish Foods. You May proceed with your question.

Thank you sorry.

Sorry to belabor, the seltzer questions, but.

I mean I guess.

Two things one simple one bigger picture I mean, two quarters ago. Like you said, we have a lot of market research.

You and everybody else was very bulled up about the market and it seems like it was a soft summer, but it didn't seem like.

The category or that was a fad or it's over.

But in kind of redirecting marketing advertising and moving to kind of focus skus.

It seems that is what youre kind of thing. So I guess is that what youre, saying I mean do you see this as kind of a small niche permanently or.

Everybody was kind of wrong, there was going to be a bigger place or is this just a pause for the category and then the second question is with you redirecting.

Kind of advertising marketing towards your core beer portfolio does that result in.

I know, it's small, but seltzer falling off a cliff over the next two quarters and creating headwinds for your growth on beer.

Sure relative to the category our view of it is this we still think that the overall <unk> space is going to be a growth category, whether or not the seltzer sub segment of the beer category is growing how much of that is going to be driven by the seltzer sub segment.

It remains to be seen.

Quite frankly, it clearly is going to be a lot less than what everyone anticipated coming into this year.

But again for us it's a relatively small percentage of our overall play so.

We are not entirely reliant on success in the Seltzer category. In fact, we expect to achieve our algorithm through our core beer business.

Relative to the question of will this put a damper on our on our growth in the beer business.

<unk> is challenging not really I mean, the fact that we were able to raise our guidance is largely driven by the fact that we're able to make more beer and we're able to make more bureau, because we're making a little less seltzer and that is margin accretive and that's a very high growth categories. So I realize theres a theres a bad side. The good signs of that answer but the reality is it is.

Not inconsistent with what we've always seen which is our core business portfolio of of beer from Mexico continues to radically outperformed the industry and we continue to be the leader in the high end and the high end growth. So.

What.

Is it going to be any different going forward I think it's a little bit it remains to be seen we're going to have a little bit more of a watch and see.

Efforts than we had before I think everyone got a little bit excited about seltzer and frankly, the category has slowed significantly so.

I think we will probably do a much better job of being.

<unk> in terms of our expectation around that while continuing to leverage our outstanding portfolio of core beer brands.

Thank you I would now like to turn the call back over to Bill Newlands for any closing remarks.

Alright, thanks, very much and thank you all for joining our call today. Despite some challenges impacting our results. This quarter as you can see we remain very confident in the strength and underlying fundamentals of our business. Our beer business in particular continues to be a tap growth driver within the industry. While we continue to see the benefits of our wine and spirits.

Utilization take call we remain bullish on the future performance of our powerful collection of consumer connected brands, which provides us with strong momentum as we head into the second half of our fiscal year. Our next quarterly call is scheduled for early January so, we hopefully wish everyone, a safe happy and holiday season.

Please remember to enjoy some of our great products during your celebrations and please remain safe thanks for joining the call.

Thank you. Thank you for participating you may now disconnect.

That concludes today's conference call.

[music].

On her love Senior Vice President of Investor Relations. Please go ahead.

Thanks, Josh and good morning, and welcome to Constellation's second quarter fiscal 'twenty two conference call I'm here. This morning, with Bill Newlands, our CEO and Garth Hankinson our CFO.

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 Companys website at <unk> Dot com.

Please refer to the news release and constellations SEC filings for risk factors, which may impact forward looking statements. We make on this call before turning the call over to bill similar to prior quarters I would like to ask that we limit everyone to one question per person, which will help us to end our call on time, thanks in advance and now here's Ben Thank.

Thank you Patty good morning, and welcome to our second quarter call, let's dive right into a discussion about the quarter there.

US confidence to increase our EPS guidance for the year, which we outlined in our press release earlier today <unk> will review in more detail shortly.

In addition, we repurchased a significant number of shares in Q2 at prices that are favorable as we believe constellation stock is undervalued at current levels.

We've received some feedback from investors on this topic in recent weeks and will address key themes that emerged from these discussions and our remarks.

As we walk through our Q2 performance and outlook for the remainder of the year. There are several key takeaways, we'd ask you to keep in mind.

One the momentum of our core imported beer brands provides a point of competitive strength versus industry peers as were the leading share gainer in the high end of the U S beer market.

The majority of our growth continues to be driven by modelo, especially all supported by strong consumer demand for Corona extra and Pacific and.

And we expect this to continue for the foreseeable future.

We continue to believe the modelo, especially out in particular has a long runway for growth given the steadily increasing household penetration for this brand among non Hispanic consumers and continued strong velocity.

Now we've admittedly had some supply challenges this fiscal year driven by several external factors the most relevant being the ongoing robust demand for our beer brands.

We expect to return to more normal inventory levels by the end of Q4. Despite these challenges we continue to be on track to deliver a better than expected year for our beer business.

Our strong performance to date gives us the confidence to increase guidance for our beer business as we now expect to achieve 9% to 11% net sales growth and 4% to 6% operating income growth for fiscal 'twenty two.

Our view is reinforced by recent 12 week IRI trends showing the constellation's beer business is significantly outpacing the high end and total U S beer industry.

0.2.

As it relates to our hard seltzer business and building off our last point.

We are unique in our position versus our competitors in this space as our primary growth is coming from our core beer portfolio and we're not reliant on the growth of hard seltzer and <unk> to.

To achieve the medium term growth goals for our beer business.

A hard seltzer landscape has shift shifted considerably in recent months. Therefore, we have lowered our growth expectations for Corona hard seltzer, resulting in a sizable obsolescence charge taken for Q2, which includes our view of the total impact for the fiscal year.

But let's be clear, we continue to see the hard seltzer and broader space as a meaningful sector in the beer market and we continue to believe it's important to participate in and gain our fair share in this segment to complement the growth of our core imported beer portfolio and to maintain our position.

As a leader in the high end of the U S beer market.

Going forward, we plan to focus on competing in this space and where we're.

Where we offer meaningful points of differentiation and unique value to consumers I'll have more to say on this topic in a moment.

Number three while our wine and spirits business was challenged in the quarter by underperformance of several mainstream brands due to tough Covid comparisons are recent route to market transition and supply chain challenges for our imported wine brands. We continue to see the benefits of our premium innovation strategy take home.

<unk>.

We're performing well in the high end of the wine segment, which represents the vast majority of expected industry growth over the next several years and we continue to strengthen our capabilities in emerging growth channels key to long term success, such as ecommerce and DTC.

Number four we continue to enhance our approach to innovation with a more consistent strategic disciplined and consumer led approach with a focus on high growth segments aligned with consumer trends.

Number five our capital allocation strategy remains unchanged since I assumed the role of CEO almost three years ago.

Since then we've made significant progress in reducing debt and achieving our goal of returning $5 billion in value to shareholders by the end of fiscal year 2003 through a combination of dividends and share repurchases.

In fact to date this fiscal year, we have repurchased one 4 billion of our shares and when combined with our dividend we have achieved nearly 60% of our $5 billion.

To be clear our shareholder value equation is based on outsized growth combined with return of dollars to shareholders.

One of the most important capital allocation priorities is to continue reinvesting in our beer business to keep up with robust demand for our products.

Despite initial challenges associated with the build out of a third brewery in Mexico, we have moved on to other capacity alternatives in the country.

Our expansions in Nava Andover gun health insurer, we have added production capacity for the medium term and will create much needed redundant capacity that better enables us to manage through unexpected events like we've experienced these past two years.

We continue to work with the Mexican government to solidified plans for a new brewery in south Eastern Mexico with adequate water supply and an available talented workforce.

Now, let's move onto a more fulsome discussion about our performance within the quarter.

During the quarter, the Modelo brand family posted depletion growth of 17% for the quarter and single Handedly drove total import share gains in IRI channels on a dollar basis.

As the number two beer brand in dollar sales in the entire U S beer category.

Hello, especially al is the only major beer brand growing household penetration and is leading the way as the number one share gainer among high end brands.

Modelo <unk> has become the number two brand family in the <unk> space, posting depletion growth of more than 50% of our second quarter.

Corona extra continues its growth trajectory as the second fastest share gainer is the number one love brand in the important category driven by our return to growth in the on premise, which currently represents approximately 11% of our beer business volume.

In addition to the comments I made earlier about our hard seltzer I'd like to discuss industry trends and our refreshed approach to this sector of the beer market going forward.

In the short to medium term, we believe that there will be consolidation within the hard seltzer slash aviate space, primarily due to the chaos of SKU and brand proliferation with too many new entrants that don't have the velocity or consumer demand to warrant shelf space.

We also believe this subcategory will evolve beyond low calorie low carb offerings and opened up two more distinctive consumer value propositions that include things like more flavor different alcohol basis and functional benefits.

We have already started to innovate in this way with distinct products like refresher in alumina.

We've also discovered that consumers are looking for more robust taste and flavor and Theyre seltzer.

And we have a solid lineup of innovation that we have yet to introduce.

We have several great examples of our innovation strategy at work within our wine and spirits portfolio.

<unk> continues to drive growth from recently launched innovations, including Naomi Cabernet Sauvignon, Kim Crawford illuminate the prisoner Cabernet and Chardonnay, all of which are amongst the top 10 innovations across high end wine in IRI channels during the quarter.

In addition to driving growth through innovation, we are making progress with our core wine and spirits portfolio. Despite the previously mentioned challenges.

We're putting points on the board in a number of areas, where we're outperforming the U S wine market.

Our high end Super premium plus portfolio grew net sales double digits during the quarter.

In on premise channels, our investments are paying off with enhanced wine offerings at major restaurant chains.

For example, constellation's fine wine share has expanded significantly in the latest 12 weeks due to the robust growth of the prisoner wine instant card and Robert Mondavi winery unwind Dot com.

In fact ecommerce and DTC sales are up nearly 3% to four times versus 2019, and they comprise roughly 3% to 5% of our business versus 1% pre pandemic.

Going forward, we will continue to focus on becoming a category leader in ecommerce and DTC as we believe these channels will make up a significant portion of our mix over time, and we will continue to be an opportunity for high end growth.

This quarter, our ventures activities included investments in Adaptogen infused hop water and Aaron Paul and Bryan Cranston's artisanal dose Hombres mezcal.

Hop water as a non alcoholic calorie free sparkling water and fused with adaptor gyms, and new tropics to provides a perfect balance of function and flavor for health conscious consumers.

The non alcoholic segment of total beverage alcohol grew almost 40% in 2020 and dollar sales through IRI channels and according to <unk> research, 60% of consumers are switching between non alcoholic or low alcohol and full strength strengths within the same occasion.

<unk> is an award winning handcrafted Mezcal brand created fight breaking bad Costars, who have developed an exceptional liquid that received frequent praise from both the industry and consumers.

Overall U S. Mezcal category grew 14% in 2020, according to AWS or Super premium mezcal priced above $30 per bottle is projected to be the largest and fastest growing segment within the category.

Moving on to canopy growth.

We're encouraged by the recent introduction of the cannabis opportunity at administration at draft, Bill, which was introduced by Senators Booker widened and Schumer in July.

More than 90% of Americans are in favor of cannabis legislation for medical purposes, and two thirds of those are in favor of legalizing for recreational use as well.

In fact, nearly two out of three Americans already have legal cannabis access is 37 states have legalized for medical use in 18 states for adult use.

While we're optimistic about federal legislation within this Congress canopy is not waiting for this reality to materialize.

<unk> U S business grew 91% year over year in their most recent quarter driven by robust consumer demand for their CBD and CPG products, including Martha Stewart branded products Futral beverages, Storz, <unk> bickel based products and bio steels new RTD.

Over the coming years revenue for canopies U S business is expected to grow significantly as it benefits from increasing distribution and new product introductions.

<unk> THC Permissibility becomes a reality in the U S cannot be expect their U S business to make a substantially greater contribution to their results.

Canopy has scale a multi state route to market plan ready for legalization and has leveraged constellation's distributor relationships to fuel their U S. Non THC business with more opportunities in a world post federal Permissibility.

In closing I'd like to reiterate our main takeaways for this quarter.

Increasing household penetration rates among non Hispanic consumers and continued strong velocity.

The short term.

Second we continue to see the hard seltzer and broader aviation space as a meaningful sector within the beer market.

Number three.

<unk>.

Our holders by the end of fiscal year 2003 through a combination of dividends and share repurchases.

Thank you Bill and Hello, everyone.

Q2, certainly reflected yet another strong quarter of marketplace performance for our beer business.

For $5.0 billion.

As a result, we've increased our full year fiscal 2022 comparable basis diluted EPS target.

And we now expect to be in the range of $25.0 to.

To $55.0

This range excludes canopy equity and earnings impact and reflects the increase in beer operating income guidance and decrease in the average and a weighted average diluted shares outstanding based on shares repurchased through September partially offset by an increase in the tax rate for fiscal year 2022.

Now, let's review Q2 performance and our full year outlook in more detail, where I'll generally focus on comparable basis financial results.

Starting with beer.

Net sales increased 14% driven by shipment volume growth of nearly 12% and favorable price, partially offset by unfavorable mix.

Depletion volume growth for our quarter came in above 7% driven by the continued strength of Modelo especial and Corona extra as well as the continued return to growth in the on premise channel.

We estimate that these factors hampered Q2 growth by approximately two to three points.

As Bill mentioned on premise volume accounted for approximately 11% of the total beer depletions during the quarter and grew strong double digits versus last year.

As a reminder, the on premise accounted for approximately 15% of our beer depletion volume of pre Covid and accounted for only 6% of our depletion.

In Q2 fiscal 2021 as a result of the on premise shutdowns and restrictions due to COVID-19.

Selling days in the quarter were flat year over year and will also be flat in Q3.

Wholesaler Depletions continued to outpace cases shipped during Q2, resulting in lower than normal distributor inventory on hand at the end of the quarter.

Moving onto beer margins beer.

Beer operating margin decreased 530 basis points versus prior year to 37, 2%.

Benefits from favorable pricing mix and foreign currency were more than offset by unfavorable cogs increased marketing investments and higher SG&A.

The increase in costs was driven by several headwinds that include the following.

First.

Q2, obsolescence charge of $66 million.

As a result of our production constraints earlier in the year, we prebuilt hard seltzer inventory advance of achieved summer selling season based on our best estimates for fiscal year 2020 to.

Due to the overall slowdown in the hard Seltzer category in the U S. Some of that growth is not going to materialize in the fiscal year, resulting in excess inventory.

Second.

Increased brewery costs, driven by labor inflation in Mexico increased head count and incremental spend related to capacity expansion.

Third a step up in depreciation expense largely due to the incremental 5 million hectoliter at <unk>.

And finally as expected increased material costs predominantly driven by increased commodity prices and inflationary headwinds on pallets cartons and aluminum.

These cost headwinds were partially offset by favorable fixed cost absorption.

As a reminder, marketing spend in the first half of the prior year with significantly muted.

Resulting from COVID-19 related sporting and sponsorship event cancellations and postponements.

Lastly, the increase in SG&A was primarily driven by an increase of approximately $12 million and legal legal expenses as well as higher compensation and benefits.

As mentioned earlier, we are increasing full year fiscal 2022, net sales and operating income guidance for our beer business. We are now targeting net sales growth of 9% to 11%, reflecting the strength of our core beer portfolio and pricing pricing actions that are higher than initially planned.

Furthermore, we are now targeting operating income growth of 4% to 6%, which implies operating margin in the low to midpoint of our stated 39% to 40% range.

Please note that the updated guidance includes all apps lessons obsolescence charges and legal expenses incurred in the first half of the fiscal year.

We continue to expect our gross margins to be negatively impacted for the fiscal year as benefits from price and our cost savings agenda are expected to be more than offset by several cost headwinds.

The mix and magnitude of these headwinds have changed from our original assumptions presented at the beginning of our fiscal year.

First we are.

Phil estimating a significant step up in depreciation expense, which began to accelerate in Q2.

However, some of this depreciation started to later in the year versus planned.

As such we're now estimating total beer depreciation expense to approximate $250 million, an increase of approximately $55 million versus last year, or 10 million or $10 million decrease versus our original plan to estimate.

Second we still expect expected substantial inflationary headwinds across numerous cost components to continue during the second half of our fiscal year as commodity prices continue to rise spa.

Specifically across aluminum diesel and pallets, resulting from a rather volatile inflationary market.

Conversely, due to the slowdown in the hard seltzer sector excess inventory resulted in a fiscal year to date obsolescence charge of approximately $80 million.

Please note that these losses cover our hard seltzer obsolescence exposure and as such we do not expect to take any additional obsolete charges in the back half of the fiscal year for hard Seltzer.

From a marketing perspective, we continue to expect full year spend as a percentage of net sales to land in the 9% to 10% range, which is in line with fiscal 2021 of nine 7% of net sales.

Additionally, we expect to reform our normal annual brewery maintenance during Q3, which will result in less throughput versus Q2, as we have to shut down production for a few days.

As such we are estimating low single digit shipment volume growth for Q3.

Moving to wine and spirits.

Q2 fiscal 2022, net sales declined 18% on shipment volume down 36% excluding.

The impact of the wine and spirits divestitures organic net sales increased 15% driven by organic shipment volume growth of nearly 6% favorable mix and price and smoke tainted bulk wine sales.

Robust mix driven by the prisoner brand family, Naomi and Kim Crawford accounted for approximately nine points of the year over year organic net sales growth.

Shipments were negatively impacted by port delays for our international brands and route to market changes, which also impacted depletions.

However, as we head into the second half of the fiscal year, we feel as though most of these challenges are behind us and expect shipping volume and depletion volume to generally align in the second half of fiscal 2022.

Wine sales.

Higher costs were driven by unfavorable fixed cost absorption and increased transportation costs.

The unfavorable fixed cost absorption resulted from decreased production levels in New Zealand due to a frost during their harvest season earlier this year as well as decreased production levels at our wineries in California due to the 2020 U S wildfires.

These headwinds were partially offset by lower grade raw materials and other cost savings initiatives.

Keep in mind that we're lapping lower SG&A spend in Q2 fiscal 2021 due to Covid and heavy smaller business post the divestitures, resulting in significant marketing and SG&A deleveraging impacting operating margins.

For full year fiscal 2020 to the wine and spirits business continues to expect net sales and operating income declined 22% to 24% and 23% to 25% respectively.

This implies operating margin to approximate 24%, which is flattish to prior year on a reported basis, which drove significant margin expansion on an organic basis excluding.

Excluding the impact of the wine and spirits divestitures organic net sales is expected to grow in the 2% to 4% range.

We expect this favorable overlap to be partially offset by a continued increase in transportation costs and incremental unfavorable fixed cost absorption due to the New Zealand Frost.

Also.

Now let's proceed with the rest of the P&L.

We now expect full year corporate expenses to approximate $245 million driven.

Driven by increase in compensation and benefits.

Comparable basis interest expense for the quarter decreased 4% to approximately $96 million versus prior year, primarily due to lower average borrowings.

We now expect fiscal 2020 to interest expense to be in the range of $355 million to $365 million.

The slight decrease versus our previous guidance reflects early redemption of higher interest rate debt as well as $1 billion of senior notes issued in July at attractive rates.

We now expect our full year fiscal 2022 comparable tax rate, excluding canopy equity earnings to approximate 20% versus our previous guidance of 19%.

This increase is primarily due to a higher effective tax rate on our foreign earnings than originally estimated I.

I would also note that we expect stock based compensation tax benefits to be weighted towards Q4.

As a result, we expect our Q3 tax rate to be higher than our full year estimate an approximate 21%.

We also now expect our 2022 weighted average diluted shares outstanding to approximate $192 million, reflecting the impact of our September year to date share repurchases previously discussed.

Moving to free cash flow, which we define as net cash provided by operating activities less capex we.

We generated free cash flow of $3.0 billion for the first half of fiscal 2022, which is flat to prior year, reflecting strong operating cash flows offset by an increase in capex.

Capex totaled $353 million, which included approximately $295 million of beer Capex, primarily driven by expansion initiatives at our Mexico facilities.

Our full year Capex guidance of 1% to $2.0 billion, which includes approximately $900 million targeted for Mexican beer operation expansions remains unchanged.

In closing.

And with that Bill and I are happy to take your questions.

Thank you as a reminder to ask a question you will need to press star one on your telephone.

Withdraw your question press the pound key.

Limit yourself to one question. Please stand while we compile the Q&A roster.

Our first question comes from.

Simeon with Morgan Stanley You May proceed with your question.

Hey, guys.

So with the beer top line front first just a detailed question given the volatility here and the tough comp in Q3 can you give us an update on how September depletions are trending so far.

And also for the quarter are you expecting depletions to still be above that low single digit shipment rate that you mentioned.

Or is that tough with the difficult, 12% depletion comp and.

And then secondly, the longer term question is.

You raised your revenue guidance for this year, how much of that is underlying demand strength in depletions maybe versus <unk>.

Shipments and perhaps getting more supply and then the balance of the year.

Versus pricing and on the pricing front, you've sounded more aggressive in terms of pricing expectations going forward publicly.

I guess is that correct and B is that more just to combat higher commodity costs.

Is it more confidence in market share gains or the consumer.

The environment is conducive to taking pricing here. Thanks.

Sure Dara, let me take a swing at that and I Miss anything guards can fill in behind so relative to deplete in September we expect those to be fairly consistent with year to date trends.

With just about all wrapped up for September keeping in mind, that's going against the 20%.

Increase that we had during September of last year. So that's a pretty powerful a pretty powerful start to the quarter.

We do expect the Depletions are going to continue to be above shipments for the reasons that guard noted in here.

In his.

Remarks.

So we would expect the distributions would be above it for that window of time the pricing environment remains relatively strong we as we've said we expect to be slightly ahead of our of our usual algorithm driven more by taking at the pricing on some skus that we had not anticipated earlier in the year more than we're doing anything unique.

Take additional pricing, where we can all over what we had already planned garden anything you want to add to that no I would just say.

Depletions for the quarter depletion growth will absolutely outpace shipment growth in the quarter, but on an absolute basis shipments.

Well, outpaced depletions, which which helps us get into a better better positioned from an inventory perspective.

Yes keep in mind as we've said we have our inventory levels at our distributors.

Well, what we would like to see and what they would like to see on an ongoing basis. So we would be expecting to fill some of that in as we get our inventory levels back to normal position by the end of the fiscal year.

Thank you. Our next question comes from Bonnie Herzog with Goldman Sachs. You May proceed with your question.

Alright. Thank you actually had a question on your guidance as well.

Thank you.

And thinking about the midpoint of your new beer guidance for the full year. This does imply a pretty big step down in the second half Brian continue guidance implies around.

Four 5% beer shipment volume growth, 3% op income growth and then beer margin, 39% for the second half and that compares to your beer margins at 40% in the first half which did include the $80 million obsolescence charge that you pulled out so.

Yes, I'm trying to understand your level of conservatism.

New FY <unk> guidance.

Especially with the margin Kevin.

You mentioned, there's going to be no more charges in the second half highlighted you plan to take incremental pricing and then there are few other net positives that you've called out. So just wanted to make sure I'm not missing anything or maybe what changed here.

Thanks Bonnie.

Look let me try to give you the walk on margins right and you noticed as you noted we've got some we've got some headwinds and we've got some tailwind so Jamie just on the tailwind obviously as we said in my opening remarks.

We've got a bit of a benefit on depreciation just starting later than expected in the year and so thats a net positive.

Bill just articulated we're taking more we're taking.

Increased pricing across more skus than we had originally plants will be above our range there.

So that's a net positive we also have the mixed benefit of sensors.

An.

An uptick in depreciation in the second half of the year, we still are facing increased in commodity prices, including aluminum diesel natural gas would those will continue in the second half of the year now we think that the guidance. We provided takes into account all of those cost increases. So we feel we feel we have those covered.

But again I mean, we just continue to have these these puts and takes and we feel confident that.

And the margin outlook that we've provided keep in mind too that even though we're going to have a mixed benefit from.

From from sell because we still are going to sell sensors and those are margin dilutive.

As we've noted previously.

Thank you. Our next question comes from Nik Modi with RBC capital markets. You May proceed with your question.

Yeah. Thanks, good morning, everyone.

So I had.

Two questions one of the real quick one just on the Seltzer with formulation Bill a bit I know you probably don't want to provide too many details on pulling from the multiple global change.

Salary or the sugar levels.

And then my broader question.

Clearly doing very well, we see that in the data.

With modern plant and consumers as we look at some of the numerator data and we look at cohort what we noticed is that corona kind of <unk>.

Great.

These demographic and mobile is doing much better.

We're seeing some of those numbers deteriorate just wanted to get a sense.

Instrumentality Modelo, when you think about Magellan clients together.

And do you think that maybe they can get.

Merchandising scheme, you can use instead of putting both brands right next to one another to kind of reduce some of that cannibalization.

Sure so relative to your first quick point, there won't be radical change in the Clark formulation of our of our Seltzer layout.

Two.

Modelo and Corona, obviously, there is interaction between those two brands.

As you would expect however, as we've said before Nick and I am sure you are quite familiar.

As we see that growth profile and as we've talked before modelo.

It's continued to grow velocity there is a lot still a lot of runway to expand distribution.

Household penetration, which I touched on just a second ago remains a massive opportunity for that.

And we only started advertising to the non Hispanic community about three five years ago. So.

We're really just getting started.

On on Modelo, and the opportunity that presents itself there so well continue to see some interaction and clearly I think.

The idea of separating those at retail to some degree.

It has some has some opportunity I think overall, we're still focused on expanding our presence of both of those brands as you probably shock Corona extra had a very good quarter.

And it just shows the ongoing strength of the core Corona franchise. In addition to exceptional performance by the Dol.

Thank you. Our next question comes from Lauren Lieberman with Barclays. You May proceed with your question.

Great. Thanks.

I wanted to hear a little bit about Corona extra since you called out.

The 5% depletion growth for that brand and how that kind of shakes out between.

On premise.

First is.

Track channels.

Sorry, I should say I'm off premise.

And then I was hoping you could also talk a little about the Nielsen IRI verses. What you guys saw in terms of off premise trends in total, including Untracked outlets and then finally, just any kind of update on Pacific.

Just continuing on the intrigued to hear about progress you arent, making with that brand. Thanks, sure. So probably 50% give or take of the of the growth profile that we saw in Corona extra is the reopening of beer.

On premise as we've said in prior calls we were down as low as 3% of our business.

A few quarters ago during the sort of the peak of the initial COVID-19 pandemic.

Tissue, that's now up to 11% and clearly with the Corona being one of the most loved brands that exist in the category.

The increase that you would expect to see as on premise opens this has been important but don't underestimate current accident has done very well at retail as well.

Relative to our specific though we continue to feel like specific dose another great opportunity, it's like a baby modality.

It's developing in a very similar way to what Modelo did say 20 years ago with extensive growth profile on the west coast and is it starting to filter.

As you know, we're investing more against <unk>.

Pacific, though than we have historically, we had a little bit of challenge in this quarter.

With Brown glass, which had some impact on Pacific, though during the quarter as it did with <unk>.

Hello, Negra as well.

Thank you. Our next question comes from Chris Carey with Wells Fargo Securities. You May proceed with your question.

Hi, Thank you very much just on <unk> you had originally planned.

On investing pretty significantly behind the launch this year are you getting any savings.

Those investment plans now that the category has slowed or are those locked in presumably that could be a good story going into fiscal 'twenty. Three. In addition, you had mentioned that you had planned to double capacity for your ABS.

And.

So how are you thinking about flexing.

Flexing that capacity toward.

Towards beer, obviously youre looking at building a new brewery in southeast Mexico does does this get to delay that that new build out.

Over time, because you have.

Okay.

Yes, yes, thanks for the question so.

So on the capacity piece first right as we announced last spring.

Investing in 5 million hectoliter is worth of capacity that is moving forward as planned and should come online earlier in our fiscal year 2023 that is still an important initiative for us because as bill outlined in his prepared remarks.

Well the Seltzer category has slowed.

<unk> segment within beer continues to be a dynamic and meaningful part of the high end and it's one that we need to we need to compete in and.

And by having dedicated aviation.

Capacity that frees up capacity for our core Mexican beer portfolio. So that goes on as planned.

And then Furthermore, on the investments that you referenced in the first part of your comfort in your question. We did indicate that we were going to spend $60 million this fiscal year behind.

Corona hard seltzer.

Most of that spend was.

Slated to be spent in the first half of the year. So that has been spent in that which wasn't spent is being redirected to to invest behind our core Mexican beer portfolio.

The only other thing I'd add to that on the last part of your question was about whether or not it causes any delay in what we would do to invest in the southeast.

I said, we're continuing to work with the Mexican government.

The southeast is highly likely to be where we put our next brewery position and as we've said because of robust demand, we're going to continue to invest to.

To support our business.

So we would not expect to see any radical change of what our timeframe is all about demand has been higher than expected we need to create some redundancy in our system as we've noted on prior calls and.

Brewery in the southeast will be an integral part of that strategy.

Thank you. Our next question comes from Vivien <unk> with Cowen You May proceed with your question.

Hi, good morning.

Good morning, I was hoping you could comment please on intra quarter trends in on premise, whether you saw an evolution or a softening there around the delta Marianne and as well perhaps from an industry perspective are you observing any changes in consumer alcohol preference across all of television.

Ill, let me cross category switching.

Consumers central back out in the park.

Thanks.

Sure.

We saw a lot of variation.

And on premise.

At the risk of saying, yes, no, yes, no and yes now.

Largely dependent on where you were geographically and what was going on in particular markets. So while we would sit here and say state actually is coming up and we're seeing more on premise. If you saw a wave of COVID-19 challenges in another market you saw stuff go the other way.

So what that basically I think there wasn't an overarching answer to that question. It was really on a localized basis.

It's very hard to.

To give a real aggregating the thing because it's really made up of a lot of individual answers rather than something being an overarching trend.

Across the marketplace.

I think relative to your question about cross category.

I think the overarching thing that you see there is the premium <unk> trends continue whether you think about it in and ready to drink in our aviation.

You'll continue to see people premium is and you see it in the wine business. We're at the higher end of the wine business continues to outperform the mainstream sector of the business and you'll continue to see that experience. So I think that is an overarching trend.

And then you see you also see what we found for many years now which is consumers are more interested in having an a ramp beverages, depending on the exact occasion in which they are consuming product and are less likely than they used to be to consume only one type of product at any one occasion than what.

What's perhaps the case historically, so I hope that helps.

Thank you. Our next question comes from Kevin Grundy with Jefferies. You May proceed with your question.

Great. Thanks, good morning, everyone.

Just picking up on the last question, but really kind of laser I guess, a little bit on wine.

And broadly for the industry because theres been some discussion in the marketplace about the recent slowdown and it's not limited to the on premise have you seen the Nielsen data. So your point is extremely well taken the premium position trends are still in place, obviously broad based across total beverage alcohol, but even on a two year average basis.

Maybe more difficult to quantify dynamic going on around ready to drink beverages in a way there hasnt been with wine before if you could comment on that and then just sort of a cleanup I think important to 30% operating margin target in the wine segment.

Is that still the target and in this fiscal 'twenty for us over the next couple of years is that sort of enough time, a timeline to take out the stranded overhead. So your comments there would be helpful. Thank you both.

I think you've got to keep in mind relative to the higher end of the wine business Youre also seeing some what I'll call channel evolution.

And things like three tier e-commerce and direct to consumer those are up for US three to four times what it was in 2019.

And youre seeing that.

Sort of 3% to 5% of our business today, where it was 1% before so some of what youre seeing in that is a difference in the way the consumer actually acquires and it may or may not be reflective of some of the IRI slash the Nielsen data because it's just it's not picked up in those channels. Some of it is with <unk> commerce, but certainly the direct to consumer.

<unk> is not so you've got some of that dynamic in play and of course, almost all of that tends to the higher end.

That's where that consumer purchasing behavior occurs so I do think.

There is ebbs and flows on all of those things I think you saw probably more consumption behavior at home during COVID-19, So you've probably seen a little bit of a more challenging comparable versus prior year. So I think as we get hopefully back to a bit more normalcy I think youll continue to see what the long term trend.

<unk>, which is at the higher end of the business continues to outperform and then it's a strong growth play for for that sector.

On the <unk>.

Wine margins.

Certainly the the target market for wine is still 30% as we've said all along that it was going to take us about two years post divestiture of the low end for us to be able to achieve that 30% operating margin. So by the time, we get to the end of our fiscal 2023 wine should be in that.

ZIP code.

Obviously the progress on that.

<unk>.

Is underway, we're making good progress as we've said before in order to get there. There is a number of initiatives that have to that we have to make progress on thats pricing mix footprint optimization.

Making smart design to value choices and like I said, we're making good progress and we're confident that we can get to 30% by the end of 2023.

Thank you. Our next question comes from Robert <unk> with Evercore. You May proceed with your question.

Great.

Couple of questions first.

Obviously.

The low inventories hurt Depletions can you give us a sense of.

Where do you think depletions would have been if.

You had full inventory levels and I'm hearing it hurt Corona. Most can you can you verify that.

Our best estimate would probably be in the two to three percentage points that we lost in this process, but again.

In most instances if a consumer is looking for our brand. They may they may have an issue on a particular point in time, finding a SKU, but they don't have trouble finding our brand.

So I think that's probably the way to think about it.

Great and then second question.

As you kind of do a diagnostic on.

What happened with Corona Seltzer.

I think I heard you say that you that flavor was an issue that the consumer wants more flavors. So as you think about it. It was it a question of the taste not being differentiated or is there an issue with having a brand thats associated with a beer or are there other other fact.

<unk>.

In addition to obviously the sector slowing a little bit just like to hear a little bit more of your diagnostic on the situation.

Well I would.

I would put more emphasis on your very last point, which is the sector changed a lot versus what everybody anticipated I think we were probably a bit on the conservative end compared to some of the competition as to what they expected going into this year, where some of them are predicting in excess of 50% growth, we projected less but even.

As it was we were wrong.

So.

That is the fundamental issue when you when you combine that with the fact that we pre produced which again at the time was about production scheduling and our judgment was the right thing to do at the time.

That in hindsight did not work out for us as well either but you got to keep in mind.

Despite all of that.

Then there is seltzer preferences, and we plan to address those consumer needs.

Thank you. Our next question comes from Sean King with UBS. You May proceed with your question.

Great. Thanks for the question.

And thinking longer term on the margin front and some of the long term exposures you have.

As you have in place in the second half.

Fiscal 'twenty two the right way to be thinking about margins in 'twenty three.

Look I think the right way to think about margins over the near and medium term is consistent with our long term growth algorithm niches that we're going to achieve margins in the range of 39% to 40% and as we say on every call. Those are best in class margins and we are unapologetic about those.

And in any given fiscal year.

Just might be slightly higher than that due to.

Due to tailwind and some years it might be slightly lower than that.

Too many headwinds, but the right way over the medium term as you think about those.

And the range of 39% to 40%.

Thank you. Our next question comes from Nathan <unk> with Bernstein. You May proceed with your question.

Hi, Thank you for taking my question I wanted to circle back to Pacific on you had called out the brown cost challenges that you face. So obviously that Brian saw weaker Nielsen off trade trends this quarter and I noticed that you didn't call out its depletion figures in the release, so could you provide us and maybe give us some color as to if they were there.

Issues outside of the glass of who you already called out thanks.

Sure.

Mid single digit depletion growth in.

And that brand during the quarter.

And obviously it was constraint we would have expected it to be higher without any supply chain issues that revolved around.

Around brown less.

Thank you. Our next question comes from Andrea.

Tissue with Jpmorgan you May proceed with your question.

Thank you good morning.

Wanted to go back to the depletion and shipments commentary you said depletions should outpace the low single digit shipments you've guided in the Q2.

Or would imply a sequential acceleration into Q founder Charles with sand on a two year stack.

You achieved in the second quarter, so given that you're facing some tougher comparisons as you grew the accretion the same amount to about 12% in the third quarter of last year is that acceleration on the two year coming mostly from premise and at home decelerating, but still growing is that the way we should be thinking in other words should we think about beer depletion growing.

<unk> mid single J&J, when you said I think as Senate and practically that the third quarter Depletions with outpaced shipments as well and then related to just a clarification on the pricing front should we think that you.

We will have about three 2% price mix realization our readiness.

<unk>.

And what are you seeing Alex this is playing out so far thank you so much.

So just on Q3 shipments and Depletions.

What we said in terms of from a growth perspective shipments will grow in the low single digits and depletions will grow higher than that.

We Furthermore, said that on a volume basis depletion.

Shipments of wood.

Outpaced depletions and therefore, we'd make progress in returning inventory to more normal levels by the end of the by the end of our fiscal year.

On the pricing question.

What we said on that one is that our typical pricing algorithm has us again, 1% to two percentage points per year, given the pricing environment that we're in this year, we're able to be a little bit more aggressive on products that we wouldn't otherwise take pricing on and so we're going to be we're going to take pricing on those skus and as a result, I will be <unk> will be slightly above.

Above our 2% this year.

Thank you. Our next question comes from Laurent <unk> with Guggenheim You May proceed with your question.

Yes, good morning, everyone and thanks for the question so I'd like to come back on the sensor category. So first what is the growth strong positioning for the category.

Freedom interesting in the rational behind it and thinking about the next let's say year or so.

And then as you mentioned there would be a consideration that we see elimination of lower velocity Skus do you see a risk with one fee for the corn that zero.

Ken.

As your <unk>.

<unk> has been severely underperforming to get the euro So do you see a risk here that you.

Produce ACB and finally, how are you planning to gain.

<unk> share of the category, especially.

Mexican brand I mean to put Chico.

Is is really becoming more national and began a mixture and also launching your margherita flavor more flavor.

Hey, Skus, so may turned us on how you play that.

Sure if I understood. The first part of your question correctly, I mean keep in mind that the beer category has been roughly flat at a time when we are up roughly 8%. So there is a significant.

Delta between what the overall category is performing and what we are performing we're radically outperforming.

Category relative to our desire.

In the Seltzer Slash aviate space Theres, a number of things first of all.

We're going to focus our attention on where we think we bring differentiated products that are distinct given what we have today I would use refresh Scott and Lee Manada as two examples of that that need specific needs and are not what I would describe as need to products. We also have as we noted in our script some innovation agenda items that we.

Thank you. Our next question comes from June two truths you May proceed with your question.

Thank you sorry to belabor, the seltzer questions, but.

I guess.

Two things one simple one bigger picture I mean, two quarters ago. Like you said, we have a lot of market research.

You and everybody else was very bulled up about the market and it seems like it was a soft summer, but it didn't seem like.

The category or that was a fad or it's over.

But in kind of redirecting marketing advertising and moving to kind of focus skus. It seems that is what youre kind of thing. So I guess is that what youre, saying I mean do you see this as kind of a small niche permanently or.

Everybody was kind of wrong, there was going to be a bigger place or is this just a pause for the category and then the second question is with you redirecting.

Kind of advertising marketing towards your core beer portfolio does that result in I know, it's small, but filtered falling off a cliff over the next two quarters and creating headwinds for your growth on beer.

Sure relative to the category our view of it is this we still think that the overall aviation space is going to be a growth category, whether or not the seltzer sub segment of the beer category is growing how much of that theres going to be driven by the sell through sub segment.

It remains to be seen.

Quite frankly, it clearly is going to be a lot less than what everyone anticipated coming into this year.

But again for us it's a relatively small percentage of our overall play so.

We are not entirely reliant on success in the Seltzer category. In fact, we expect to achieve our algorithm through our core beer business.

Relative to the question of will this put a damper on our on our growth in the beer business.

Seltzer is challenging not really I mean, the fact that we were able to raise our guidance is largely driven by the fact that we're able to make more beer and we're able to make more bureau, because we're making a little less as alger and that is margin accretive and that's a very high growth category. So I realize is a theres a bad side and a good side to that answer but the reality is.

It's not inconsistent with what we've always seen which is our core business portfolio of beer from Mexico continues to radically outperformed the industry and we continue to be the.

<unk> in the high end and the high end growth.

No.

What.

Is it going to be any different going forward I think it is a little bit it remains to be seen we're going to have a little bit more of a watch and see efforts than we had before I think everyone got a little bit excited about seltzer and frankly, the category has slowed significantly so.

I think we will probably do a much better job of being <unk>.

Guarded in terms of our expectation around that while continuing to leverage our outstanding portfolio of core beer brands.

Thank you I would now like to turn the call back over to Bill Newlands for any closing remarks.

Great. Thanks, very much and thank you all for joining our call today. Despite some challenges impacting our results. This quarter as you can see we remain very confident in the strength and underlying fundamentals of our business. Our beer business in particular continues to be a tap growth driver within the industry. While we continue to see the benefits of our wine and spirits.

Amortization take call we remain bullish on the future performance of our powerful collection of consumer connected brands, which provides us with strong momentum as we head into the second half of our fiscal year. Our next quarterly call is scheduled for early January so we hopefully wish everyone a happy holiday season.

Please remember to enjoy some of our great products during your celebrations and please remain safe. Thanks for joining the call. Thank you. Thank you for participating you may now disconnect.

Q2 2022 Constellation Brands Inc Earnings Call

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