Q4 2021 Keurig Dr Pepper Inc Earnings Call
Three year merger plan in the beginning of the next chapter of our transformation and growth as we detailed for you during our Investor day in October .
The merger plan now in the record books I am pleased to report that we met or exceeded all of our key commitments and we have demonstrated the power of our new company with a significantly faster growing business than at the time of the merger.
The volatile macro environment, we have faced since the merger has tested the industry and our business.
It has also provided the opportunity for Kt demonstrate the strength and resilience of our business model and our ability to withstand unforeseen events and deliver on our long term commitments.
In terms of a few specifics our topline strength over the past three years is a standout growing approximately 5% on a compound annual basis over the period almost double the merger target of 2% to 3% growth.
More importantly, our sales growth accelerated significantly over the three years with 2021 net sales advancing nearly eight 5%.
Our strengths this merger extends well beyond our financial commitments as we delivered high quality in market performance, including broad based market share growth across our portfolio and meaningful expansion of new households, using the keurig system.
Importantly, we maintained topline growth each year since the onset of Covid as we've been able to pivot to grow certain segments of our business faster to offset those that were and in some cases continue to be negatively impacted.
Market share expansion and cold beverages was driven by exceptional strength in CSD.
Which have grown one five share points since 2019.
And coffee secured ecosystem continues to expand with 8 million New U S household added to the system since 2018.
Since 2019, we've driven growth in <unk> consolidated net sales of nearly 14%.
And an adjusted EPS of 31%.
These results were fueled by strong execution successful innovation and high impact marketing.
On a three year basis key financial metrics, including adjusted EPS management leverage ratio and synergy capture were delivered well within our merger target range.
With adjusted EPS up more than 15% on a compound annual basis over the post merger period.
We delivered this performance.
While building a solid foundation for the future.
Including the advancement of our corporate responsibility agenda, achieving the goal set before the merger and expanding into new areas, such as diversity and inclusion positive hydration and regenerative agriculture.
All of this is underpinned by a talented team and our culture.
That rewards bold thinking speed and a mindset of ownership and accountability.
Investors, who have been with us since the merger have been rewarded by a total shareholder return of 109%, which.
Which is more than two X the consumer Staples sector index and two times the return of the S&P 500 index.
Important to the delivery of these strong results is how we manage KDB.
Our playbook includes a range of strategies and tactics that enable us to navigate through volatile conditions in the short term.
To stay true to our long term vision.
A good example is our strategic asset investment program, which we initially launched in 2019 and have used each year since including in Q4 of 2021 to maintain or increase marketing investment in our brand portfolio.
<unk> will discuss more in his remarks.
Let's talk about the current environment, we're facing.
At this point in the earnings season, you're fully up to speed on the range of issues negatively impacting the CPG industry.
Supply chain disruption driven by labor shortages lack of material availability and broad transportation issues have reduced industry customer service levels and pressured gross margins.
In addition, unprecedented levels of inflation across nearly all components of cost of goods and cost to serve necessitated multiple pricing actions across the industry.
Most of which lagged inflation in terms of timing in the market.
These challenges intensified in the fourth quarter with the onset of Amit.
Causing significantly higher absenteeism across manufacturing and commercial frontline workforces.
It's been reported that 6% of the U S workforce was absent at the start of the new year due to being infected with COVID-19 or caring for someone who had been affected.
As significant as that number is it actually understates the real impact on supply chains.
We for example experience absenteeism of key plants in the double digits.
Which magnified an already challenged labor situation.
Causing the workforce to drop below a critical threshold levels.
We're certainly not alone our suppliers of inputs transportation services and plant equipment are also experiencing these challenges which is comp has a compounding effect on our operations.
Of course, we don't get paid to report the news, but rather to deliver our commitments regardless of the macro situation.
That's exactly what we've done.
By implementing an unprecedented set of actions to increase labor availability and prioritize our portfolio to ensure availability of the fastest turning highest profit items.
A tangible example of the challenges we faced and the solutions. We've implemented is in coffee systems.
Record consumer demand for K Cup pods bumped up against lower manufacturing output and a delayed capacity availability.
Both directly related to Covid.
This caused us to tap into our finished goods inventory in Q4.
Following below safety stock levels, which impacted service to our partners and retailers.
We have successfully rebuilt production output since the height of omicron absenteeism.
But we are now servicing the continued high consumer demand, while working to rebuild inventory.
Which is a process that will continue well into the next quarter.
Ozone will talk more about the impact of the supply challenges in his comments.
While we're seeing light at the end of the supply chain tunnel as the wave of Omicron runs its course.
Inflationary pressure continues to be persistent.
To address continued inflation, we implemented several pricing actions over the past six months and announce more pricing in early 2022.
To date, our elasticities have held up nicely.
Most of the challenges discussed today were reflected in the 2022 outlook, we provided at our October investment Investor Day.
At that time, we expected the impact of supply chain disruption and escalating inflation to be significant headwinds for the year, resulting.
Resulting in our projection for net sales and EPS growth to be in the mid single digit range for the full year.
Nearly five months since Investor day, we continue to believe this guidance for the full year is realistic.
Yet it's important to highlight the expected pacing of results throughout the year.
Specifically, we expect Q1 to represent our most challenging comparison to last year as we manage through the peak levels of supply chain disruption and significant ongoing inflationary pressures.
EPS performance is projected to improve starting in Q2.
<unk> high single digit growth in the second half of 2022, which would put us back on our long term algorithm.
Let me take a few minutes to shift back to 2021 to highlight our full year results.
Our top line performance continued to accelerate with full year net sales growth of more than 8% in all four business segments up strongly.
Our packaged beverage segment was a standout.
Posting double digit net sales growth for the year.
Fueled by an impressive 17% increase in the fourth quarter.
Our beverage concentrates in Latin America beverage segments also delivered strong double digit net sales growth in 2021, while our coffee business posted net sales growth of 6% due to an almost 6% increase in parts shipments and a double digit increase in brewer shipments.
In 2021, we added nearly 3 million new U S households to the keurig system on top of approximately 3 million new households added in 2020.
Which means total U S. Keurig households are now approaching $36 million.
Adjusted EPS for the year advance more than 10%, which translated to 31% EPS growth on a two year basis as previously mentioned.
Strong end market performance for our brands underpins the delivery of our financials.
Our <unk>.
Portfolio grew market share across nearly 75% of the portfolio in 2021.
And almost 80% when looking at results on a two year basis.
Most notable was continued strength in <unk>, which grew consumption by 26%.
And market share by one five share points since 2019.
In fact, ADP took over the number two share position in CSD in the grocery channel in 2021.
The drivers of our CSD performance are widespread and sustainable.
While nearly all of our CSD brands continued to perform well Dr. Pepper was again one of the fastest growing major CSD brands in the U S last year and it was the single fastest growing since 2019.
When fortune recently unveiled its halo 100 ranking for how well branch serve their consumers. Dr. Pepper was the only beverage brand in the top 100.
And the only FMC G brand in the top 20.
Sunkist took over leadership of the fruit CSD segment in 2021 fueled by innovation.
Since 2019, Sunkist is growing dollar consumption by 35%.
Okay.
With the success of our zero sugar innovation in 2021, we gained over three share points and zero sugar CSD, capturing a third of the zero sugar category.
And later this year, we will be launching snapple zero sugar.
Looking at other key segments of our cold beverage portfolio, our core snapple and by brands, whose growth was capped in 2021 by supply chain disruptions demonstrated positive in market performance as product availability improved in Q3 and Q4.
Retail consumption was up double digits for both core and Bai in the quarter, while Snapple was up 5% in the quarter and ended with double digit growth in December .
The Snapple refresh, which was designed to bring younger consumers into the franchise with new graphics and sustainable packaging is proving to be successful.
Our premium water strength continues to be enhanced by strong partnerships.
The success of polar Seltzer demonstrates the power of the <unk> distribution network as we continue to expand availability outside the northeast region, achieving a four 3% share for our first year in the market for which <unk> is responsible for the brand.
Vita Coco or long term Katie peak partner and which we also made an equity investment in 2021 had an exceptional year.
Growing dollar consumption, 33% and market share by almost seven full percentage points to nearly 51% of the coconut water segment.
Switching the coffee, where retail dollar consumption of single serve pods manufactured by KDB in track channels grew two 7% for the year.
With higher growth achieved in untracked channels due to continued strength in E Commerce and club and a limited return to offices.
Growth would have been even higher if not for the Q4 supply chain disruptions, which led to reduced promotions and increased out of stocks.
<unk> manufactured share remained strong increasing to 83, 2% for the year.
As mentioned previously Keurig household penetration continued to be exceptional, adding 8 million new households to the keurig system since 2018.
Further demonstrating the power of the Keurig system for the first time ever unit market share of Keurig compatible Brewers surpass traditional drip coffee makers in the fourth quarter.
In 2021, we debuted a new platform procured with the launch of the case Supreme Smart connected Brewer, which is the first of many new connected Brewers to come.
The consumer reception has been very strong and we have line of sight to having more than a million connected households in the next few years.
Finally, although we don't give our Latin America beverage segment much airtime on these calls.
I'd like to point out that our team delivered 14% revenue growth growth and 19% operating income growth behind particular strength in <unk> in Colorado.
In addition to being a strong contributor to total company results.
Represents an attractive expansion opportunity for Kt P.
Before I turn it over to ozone to talk about our 2000 22021 results and our 2022 outlook in more detail I'd like to reflect on our long term outlook as discussed at our Investor day.
The completion of our merger period provides an opportunity to reflect on our accomplishments over the past three years as well as our potential over the next three years.
While we will always manage our business through the challenges of the day, we measure ourselves on long term value creation, and therefore keep our focus on delivering in the present and investing for the future.
As we look to the future one of the most attractive aspects of the KDB investment story is our unique potential to drive outsized returns through a combination of an attractive organic growth algorithm.
Coupled with the opportunity for significant inorganic value creation.
You'll recall from our Investor day, our outlook was to generate approximately $4 billion of discretionary free cash flow between 2022 and 2024.
Since Investor Day, we have received proceeds from our body armor investment as well as funds from the settlement of our litigation against body armor.
Combined this resulted in cash proceeds approaching $1 billion.
Increasing our discretionary free cash flow outlook over the three year period.
<unk> 5 billion.
This cash flow is being prioritized to the highest ROI use of our capital, which we continue to believe is strategic M&A, where we have a differentiated and demonstrated management expertise and track record.
Discretionary cash of $5 billion translates into more than $20 billion of M&A capacity, assuming the same reasonable expectations. We discussed in October .
Coming out of Investor day, we saw few headlines, suggesting that we were looking for a singular large acquisition.
Let me assure you that we remain intentional and disciplined in our allocation of capital and that the significance of our more than $20 billion in M&A firepower represents total capacity for M&A not a singular our targeted deal size.
In the absence of evaluate a value generating M&A, we will use our new share buyback authorization to opportunistically repurchase shares.
Our effective deployment of free cash flow over the previous three years is a good examples of how we think about shareholder value creation through deployment of capital.
During that time period debt repayment was our top priority and a strong generator of shareholder value.
However, also during that time, we acquired the core big Red and limitless brands.
We made an equity investment in Vita Coco and several startup businesses.
Brought 22 independent distributor Terry territories indicate EEP to strengthen our company owned DSD system.
And invested in expanded production capacity and high return plant and warehouse automation projects.
At the same time, we also passed on numerous M&A opportunities, including body armor.
When we believed it was more prudent to be on the sidelines or a seller rather than a buyer.
With our balance sheet and strong position and exceptional free cash flow in front of US. We're excited about our ability to continue to generate strong inorganic returns on top of our attractive organic <unk> algorithm.
Let me hand, it over to Osaka.
Thanks, Bob and good morning, everyone.
I will start with any view of our performance for the fourth quarter and full year 2021 .
Rich.
Release discusses.
If he can't detail and then turn to our 2022 guidance.
All of this discussion will be on an adjusted basis.
Constant currency net sales in the fourth quarter increased eight 5% to three points for the $9 billion.
Fueled by higher volume mix of four 4% and.
And favorable net price realization.
One 1%.
These past four months was driven by 17% growth in packaged beverages.
Well as very strong growth in beverage concentrates and Latin America beverages.
On a two year basis.
Net sales for the fourth quarter that increased 15, 7% versus 2019.
Adjusted gross profit increased four 7% in the quarter to one <unk> billion dollars.
Adjusted gross margin declined 210 basis points versus a year ago.
The three 8% of net sales.
This pad hormone reflected the impact of the significant pricing actions, we put in place.
As well as the elevated Shlomo mind robust productivity programs have not yet seen that.
Yes.
Offsetting these drivers was the impact of more white with scale.
I stood on anything installation and supply chain challenges.
Many of which compounded with the onset of <unk> in the fourth quarter.
It is also a seasonally high demand period for us.
Adjusted operating income in the quarter grew six 1% to $910 million.
Good even by the increase in adjusted gross profit and the benefits of productivity and merger synergies.
Hey, what else impacted SG&A.
As well as $7 million gain in the core that Shlomo, let a strategic asset investment program.
I will talk more about this program in a few moments.
Partially offsetting these positive drivers were broad based insulation in outbound logistics and labor.
Again as head of marketing investment.
On a constant currency basis.
Adjusted operating income increased five 9% versus a year ago.
And on a per unit basis, adjusted operating income increased 11, 9% versus 2019.
Adjusted operating margin declined 70 basis points to 26, 8% of net sales in the quarter.
Primarily due to the lag between the timing of inflation and pricing.
Adjusted net income in the core of that advanced 15, 5% to six 1 million.
As mentioned a year ago.
Primarily driven by the growth in adjusted operating income.
In Tennessee.
And then lowered adjusted tax rate.
Adjusted diluted earnings per share in the quarter grew 15, 5% to 45.
Compared to 39 in the year ago period.
Before turning to.
2020 , one full year result.
I would like to spend a moment discussing the inflationary pressures.
In supply chain disruption, we have referenced this morning.
During the fourth quarter that installation us generated constant.
This increases across nearly all key inputs.
Leading to a double digit inflation rate across cost of goods sold.
And SG&A combined.
This is significantly higher than we experienced in the third quarter.
As we look to 'twenty to 'twenty two.
We would expect this level of inflation to continue for much of the year.
There is some moderation I expect in the fourth quarter.
As Bob explained earlier.
Similar to others in the industry.
We have faced a number of supply chain challenges.
However, and therefore, it was our coffee systems business in which short term profitability was most pressured by the convergence of demand and supply events.
Consistency.
Strong consumer demand.
K Cup pods exceeded our manufacturing output.
Which was limited due to labor shortages, and absenteeism, driven by Omi corn and the DNA of our Spartanburg facility ramp up also due to the impact of Covid on our European equipment suppliers.
As a result.
Pulp revenue opportunity.
Current incremental logistics costs as we expedited the available supply to partners.
We incurred substantial customer clients.
Our customer service levels, Mr. Todd again.
It is important to highlight that embedded in our coffee systems pricing result.
The customer claims related to service levels, which had included on the P&L.
The deduction to pricing which month.
Positive net price realization the coffee systems achieved in the quarter.
As Bob also mentioned.
Taken action to maximize production within our existing network to improve customer service model.
And to meet the continued the strong consumer demand.
Working closely with our partners.
Able to simplify their Iot and implement minimum order sizes.
We have also used the supply challenges as an opportunity to ration ally.
Certain skus in our owned and licensed brand portfolio.
And we have shed some lower profit partner business.
Collectively these actions are enabling us to improve production output.
And rebuild inventory.
Our <unk> manufactured share.
And to a lesser degree on the licensed Shack that you will see in syndicated data.
We will be negatively impacted by these actions Hello that maybe we will have little to no impact on our profitability.
Finally.
We continue to work with our equipment supplier on the dumping up in Spartanburg.
But we have derisk, our plan by increasing capacity in existing facilities.
Assuming no additional pump capacity coming from Spartanburg until 2023.
The actions, we have taken to increase production in all other sites.
Enable us to supply and they needed demand until that time.
Let me turn now to our full year results for 2021 constant.
Constant currency net sales grew eight 4% to $12.6 million to $8 million.
Driven by higher volume mix of five 7% and favorable net price realization of two 7%.
More importantly, net sales growth was a strong and balanced across each of our business segments.
On a two year basis.
<unk> net sales up 13, 9% versus 2019.
Adjusted gross profit growth of seven 9% to $7.04 billion.
Equating to a gross margin of 55, 5% for the full year.
70 basis points decline versus last year.
This performance reflects a series of pricing actions implemented late in the year.
Combined with productivity and merger synergies.
Offsetting these positives was it significant.
Broad based installation and supply chain disruption previously discussed retail stimulated in the fourth quarter.
Adjusted operating income grew seven 2% to $3 42 billion and adjusted operating margin declined 50 basis points.
Given the industry challenges in 2021, finishing the year with operating margins down on the 50 basis point speaks to the underlying strength of our business and the benefits that come with a strong top line growth.
In addition to the gross margin path hormone also benefiting operating income.
Wrong productivity and merger synergies as well as the benefit of our strategic asset investment program.
This program, which was started in 2019 creates value from certain assets to enable reinvestment in this strategic asset to drive accelerated growth.
Earlier I mentioned the impact of this program in the fourth quarter that is up.
Oh that.
Most of the other one is the much smaller than a full year impact of only $28 million.
Which is significantly below the increase in marketing investment we made in 2021 .
We plan to continue to use this program in 2022 and beyond.
Adjusted net income for the year advanced 14, 7% versus year ago to $2 8 billion.
Billion.
Primarily reflecting the growth in adjusted operating income as well as lower incentive expense and the lower adjusted tax rate.
For the year adjusted diluted EPS grew 14, 3% to $1 60.
Compared to $1 40 in the year ago period.
On a two year basis adjusted diluted earnings per share was up 41, 2% versus 2019.
Free cash flow for the full year continued to be strong at almost $2 $6 billion.
Presenting a free cash flow conversion ratio of approximate the 113%.
This is strong free cash flow combined with the cash proceeds of $576 million.
From the sale of our equity interest in body armor and.
Enabled us to reduce our outstanding bank debt by over $1 7 billion and.
And a structural payables by $11 million.
We also ended the year with $567 million.
Unrestricted cash on hand.
Due to our growth in earnings and reduction in bank debt.
<unk>, our management leverage ratio to two nine times at the end of 2021 .
They leveraged on our merger commitment to achieving our management leverage ratio at or below three <unk>.
Times.
As Bob discussed earlier in addition to the $500 million to $86 million received from Macedo our body.
With the Internet.
We also resolved our litigation against <unk> in January .
In additional proceeds of $350 million driving the combined amount of these items to almost $1 billion in cash proceeds.
If these additional proceeds we now expect to have approximate $5 billion of discretionary cash over the next three years to drive inorganic value creation.
Let me now move to our guidance for 2022 .
Earlier today, we affirmed our 2022 full year guidance for both net sales and adjusted diluted earnings per share to grow in the mid single digit range.
Supporting this guidance and expect the following.
Adjusted interest expense is expected to approximate $430 million.
Our adjusted effective tax rate is expected in the range of.
22% to 22, 5%.
Diluted weighted shares outstanding.
Estimated to be approximate the one point.
8 billion.
Finally <unk>.
While we do not provide quarterly guidance given the current environment.
I want to share a perspective on how long, we expect 'twenty to 'twenty two to unfold over the course of the year.
From a timing standpoint, we expect the peak of the supply chain challenges to occur in quarter one.
With our results improving through the remaining three quarters.
Inflation is expected to push our margins for much of the year.
With some moderation late in 2022.
Typically supply chain disruption worsen in the second half of last year and is expected to moderate as we lap it in the second helpful. 2022 .
Installation of the spike in the second half of last year.
Particularly in the fourth quarter.
And as such is expected to moderate as we lap in the latter part of 2022 .
Total <unk> revenue growth is expected to improve sequentially flowed 2022 .
From a segment standpoint, it's worth noting that coffee systems is expected to start slowly.
We rebuilt inventory to meet strong consumer demand and improved service levels.
Violence, Comping net sales growth of 17, 4% in quarter, one 2021 .
Included in our guidance is the 50 <unk> week in coffee systems, which will occur in the fourth core that of the year.
The net of all of these points is that we expect our adjusted earnings per share at four months to strength during the year, reaching the high single digit range in the second pump.
Which is in line with our long term algorithm.
With that let me hand, it back to the operator for questions.
At this time, if you would like to ask a question. Please press Star then the number one on your telephone keypad again that is star one.
Okay.
Your first question comes from Bonnie Herzog with Goldman Sachs.
Alright, Thank you good morning.
I had a couple questions on your guidance.
First you guys ended 21 with stronger than expected top line and it really does seem like underlying consumer demand for both your packaged beverage and coffee businesses, John what you bid again maintain your your outlook for this year. So I guess I'm just.
Just trying to understand how conservative that might be and.
How are you guys thinking about the affordability fair breweries.
Given the pressures on the consumer, especially the low income consumer this year and it just.
Trying to understand what factored into your guidance in term or on Brewers in terms of volume growth and.
Potential down trading risk and then just one final quick clarification on your EBIT growth. This year do you guys.
It could be up mid single digits as well again I'm just trying to understand that in the context of maybe something below the line driving you.
Your mid single digit EPS growth outlook for the year.
Okay.
Good morning, and thank you for those questions or do you want to talk about the the guidance. There were two of them really related to guidance and then I'll come back on the brewery question.
Yes, certainly.
So.
Good morning, Bonnie So let me start.
The last question with regards to the EBIT growth expectations for next year.
As we have guided everyone back in October during our Investor day.
Our expectation from the topline standpoint until you was mid single digits.
As well as earnings per share as mid single digit as well as you know we don't guide to specific on either operating income or earnings before interest and taxes, how long that as you said.
We always are.
<unk> client opportunities to improve below the operating income or the EBIT line specifically.
Interest expense line is that as the taxes and as you know over time due to our debt payment capacity as a law.
With the improved working capital I believe you managed to do a particularly good job of leading our input as an expense and that will continue into 2020 two as well at the same time, we always look for further tax effective rate efficiencies and that will be and how that with you that we expect Israel. So guided.
A little bit more of that tax rate expectation in 2020 . Two that's what I think that sums up can you guys talk about guidance and expectations on the top of it.
Then the step up you would like to take the let me talking about the worst one which is about the top line pacing with regard to 2022, you're right. The revenue growth has been incredibly strong if you decompose that growth, we're getting about half of that from volume and mix, which compared a lot of sectors is very robust.
And the remainder of that is coming from pricing. So I think that's where it gets challenging to forecast what's going to happen in the balance of the year, we have a great feel for what volume and mix looks like we're thoughtful about elasticity because we're all entering into uncharted territory here in terms of the price increases collectively that are happening across the industry.
And we build it more off of that then we build it off of anticipated pricing going forward and that's why we thought it's prudent to build a business model that does.
<unk> mid single digit EPS off of mid single digit top line growth.
The area, we will have to be thoughtful about and as you look at companies going forward is if topline numbers are.
Our exceeded because of additional pricing due to additional inflation that doesn't mean that any of its ever going to show up in earnings or EPS, but that's all hypothetical and to come I think the fact that we build our business model primarily off of volume growth and known pricing is how we got to that guidance.
A lot could change between now and at this time a year from now based on inflation and pricing trends with regard to brewer affordability.
Excellent question, because our number one driver of the Keurig system has continued household penetration growth.
<unk> added 8 million households in the past three years back to back years of 3 million households, which is nicely above what we think is our long term trend I'll remind everyone that there were concerns we deliver that 3 million that we had pulled forward from the following year, where we actually had another record year.
Also demand, we understand very well the critical price points, the threshold price points for consumers at different levels entry level upgrade level.
And we also know where there is.
More sensitivity around pricing and so we've been very strategic in the pricing that we've implemented in our Brewers, we've been able to design brewers to value. So that we hit in approximately $50 price point and certainly below that on promotion.
We know that $100 is the next price point and then we also know that we have a significant number of brewers that have very low price elasticity, because we offer so much value to them. So even though you'll see pricing move across Brewers in aggregate. We will also protect us predict a critical price points.
And understand that we can lean in more on certain brewers in certain channels, where there is less elasticity than others and we will never be distracted from our overall mandate of driving household penetration.
Okay. That's really helpful and just if I may just clarify because I know Robert you mentioned in terms of their brewer volume that will be quite pressured in Q1 as you work to I think you mentioned rebuild inventory levels I'm, just kind of putting that context of the full year, especially on top of like you mentioned two really good strong.
Long years in terms of volume I mean.
Again, just trying to think about what's factored into your guidance do you expect.
Total year volume to be up or is that.
Marketing services on the brewery side in terms of being flattish right, yes, I'm glad to be able to clarify that first of all the pressure that we're talking about the rebuild of inventory is all on the parts side.
What's what's quite remarkable is given all of the global supply chain challenges for.
Product line that has made overseas and ship on the Ocean and the fact that all of our breweries contained chips in them our team has been.
Pretty amazing and being able to find alternative.
Materials chips et cetera to be able to continue supply Brewers brewer.
Brewer supply has not been an issue at all.
What we're working towards those we look at our forecast for the long term not just for 2022, but as we think about the long term procured we think about 2 million new households per year is what we describe as our long term trend and then there's always a significantly higher number of Brewers sold but a lot of those are due to replacements are up.
Grades while they show up in our revenue revenue line. They don't really have a material impact on our profitability. That's why we don't focus on brewer sales, nor do we forecast them for you. What's most important are the brewers that are in place to be able to drive new household penetration.
And we're fine on that with regard to pods.
We've had an incredible demand on pause now.
Demand has been increasing every year. We saw it also remained very strong through COVID-19 , although the composition of that growth shifted from away from to at home and a little bit of that is going back the issues that we've been building demand for for pods based on that increased installed household base for the cure Brewers and.
As the fourth quarter hit with and then later with Omicron into January .
We could not supply the current demand that caused us to draw down our finished goods inventory down to below safety stock levels and now we're rebuilding that production. Our production is up significantly versus where it was in early January for example.
But now we're serving two masters we have to solve.
Continued to serve strong current demand and at the same time, we have to take some of that production and use it to restock inventory to improve our efficiency and that's the process that's going to take another quarter or so, but we've seen the bottom of that and that was really driven by the absenteeism issue that hit in early January late Q4.
And we're improving that now so it's all part related with regard to inventory nothing with with Brewers at this point.
Okay perfect very helpful. Thank you okay Bonnie thank you.
Your next question is from Chris Carey with Wells Fargo Securities.
Hi, good morning.
Hi, Chris.
Just following up on coffee typically.
When when pods outperform.
Thats a margin tailwind.
Obviously, there were other drivers this quarter.
And I Wonder if you can maybe just review what you see as maybe structural or a bit more lasting to the margin rate this quarter and areas that you would expect to improve from here on a sequential margin rate said another way is this.
High <unk> level.
<unk>.
Base from which to go forward or should things sequentially improve with your supply chain.
Then just connected to that.
On pricing so.
In coffee clearly getting.
Your own business pricing.
Can you just maybe frame the impact of the.
The strategic pricing versus these.
These charges that you incurred in your updated thoughts on pricing of the business going forward. So thanks for that yes.
Yes sure Great question, let.
Let me start with with due I think anything is structural and long lasting the simple answer is no. What we're experiencing right now is a supply challenge not a demand challenge in the supply challenge that we're dealing with is solvable its already being soft and it's short lived.
The demand remains incredibly strong based on the fact that we're continuing to drive great household penetration if.
You think about the convergence of events that happened in Q4 and carried over into Q1, it's happened to a number of people in the broader CPG industry. It really hit us because our demand was so some incredibly strong at the same time that it caused a lot of pressure we just had.
Serious issues in being able to maintain that production due to absenteeism quite honestly.
As I said in my prepared remarks.
6% was the the national absenteeism rate in the beginning of January we had plants that were in regions that were harder hit where the number was a multiple of that that gets you get to a point where your production.
You drop below a threshold level for your production and that's exactly what happened to US and then there's a series of knock on effects that happen all of them are short lived but if I would give you a sense of it is.
We missed sales as a result of that we expedite orders to try to prevent out of stocks and service our partners, we prioritize our partners over us in some cases.
We are now paying a lot of overtime for people, who are showing up so all of these things start to build up that caused serious short term pressure on the business all of which is being unwound as we speak and none of which is structural in nature, but it has a significant impact as we said because we have to rebuild inventory.
We're compounded this a bit further as we were expecting.
In late 'twenty, one a ramp up in new production from our new plant in Spartanburg, and quite frankly, our equipment supplier Miss their deadlines again, if you think about it is as European driven manufacturing and they were ahead of us on Covid in general in Ami.
And so they started feeling the pressure at the time.
That we started seeing the demand really ramp up so that wasn't available to us at the same time again.
That's all we talked about in our script that we've now built our production outside of Spartanburg to be able to handle that demand.
We are now, giving our supplier full reign of that plant to be able to optimize production without trying to to also serve current demand and we also have a contingency plan should they continued to miss any milestones we have a backup plan. So we won't let it go any further than 2022 and when Spartanburg is up to full capacity not only does that represent.
We sent a growth opportunity that represents productivity, that's yet to be realized so not only is that not a structural issue going forward, that's a structural opportunity in front of us.
Last point is pricing because in an inflationary environment. We know the pricing is critically important I'll go all the way back to statements. We made more than four years ago, and we put the two companies together and we said that with regard to coffee systems, We said that strategic pricing investment, which was intentional to get the price point that pods down to the appropriate threshold levels.
Would moderate over time once we hit those thresholds. So if you think about what's happened since then.
2018, our net pricing in coffee systems down about 4% in 2019 down 3% 2020 down about 2%.
<unk> 21 down less than 1% in Q4, we had positive pricing that was masked by customer service lines. That's one of the knock on effects of the production issues I talked about and as we said in our prepared remarks in 2022, we're putting in more pricing. So you will see positive pricing.
In coffee systems going forward based on the pricing that we've already put in place so.
We've moved beyond now the strategic price investments into positive pricing.
And all of that is yet still in front of US again. Most important thing is there are few if any CPG businesses to have line of sight to growing their volume.
In the mid single digit range year after year by converting people from one behavior to another which is growing by the parts are growing by the cup not only is that attack. It's been delivered and we still have 55 million potential households remaining to be converted even after we converted $8 million in the <unk>.
Last three years.
Thanks, Bob.
Okay, Chris Thank you.
Your next question is from Kevin Grundy with Jefferies.
Hey, good morning, everyone.
First first a housekeeping question for Rosa and just on the tax rate, which has been trending lower here just comment I guess your expectation longer term and if theres any number one is that sustainable number two is there going to be any difference between the book tax rate and your cash tax rate and then also maybe just spend a moment on commodity costs.
Inflation, which has clearly gotten worse since you initially provided the mid single digit EPS growth guidance.
Spend a moment please on key exposures, what you're expecting and then as we think about gross margin how much do you expect to offset with pricing and productivity.
Absolutely good morning, again, so with regards to the tax rate.
We have.
Initiated and successfully implemented.
Not at all.
Our strategies around lowering our effective tax rate and when you look at our financial since the onset of the putting the two companies to get the last three years I believe we have been quite successful local managing a lot of tax rate and as I have just.
In our prepared remarks, we expect our tax rate for 2022 to be around 22, maybe 22, 5%. So that's our ingoing assumptions on the basis of the.
Implementations that unexpected to deliver the results for us. So that's number one and on a normalized basis co update.
<unk> two levels will more of a sustained maybe a little bit lower but look much so thats our expectation with regards to.
Effective tax rates for 'twenty, two and beyond so.
Let's talk a little bit about the installation and the commodity is gonna, let exposures right. So AGL no installation accelerated.
<unk> 'twenty 'twenty 150 horse corvette in.
In 'twenty, one increasing double digits.
If we currently have than what we anticipated and we also expect will continue through much of 2022 with some moderation in the core of that.
So as Bob also alluded a little bit ago, we expect core they would want to be the most challenging comparison to last year and I'd say a quarter then one item in 2022, as we manage through peak levels of supply chain disruption.
And if the ongoing installation, but when you look right now.
Although the overall commodity exposures, we typically call it six to nine months therefore.
We feel that the unveil covered for 2022.
But we continue to layer in some further coverage, albeit at significantly higher rates than last year at this time.
Some costs like transportation, some packaging materials like polypropylene, which is the market El Corte K Cup put example.
<unk> become hedged them, because theres no Amy with such a market that we can't hedge therefore.
Believe that the strike a good balance right now with regards so on coverages the impact or the overall commodity installation along with other input costs in 'twenty two versus 20.
One we also for example in coffee longer positions in 'twenty 'twenty as well as 2021.
Our low cost positions now fully utilized.
Making green coffee for example, one of the largest percent changes you'd already busquets input costs with BP.
But all of these assumptions.
<unk> built in our guidance and our numbers that we have just reported therefore, we believe that we have a good balance right now of building and managing the overall installation.
Which is rising as a result of all input costs transportation along with labor.
In relation to the guidance that we put along with the margin structure quoted in court put out.
Okay. Thanks for the color I'm sure. There's a number of other questions I'll pass it on.
Thank you.
Your next question is from Brett Cooper with consumer edge.
Good morning, a question on how you look at the portfolio in its entirety, and making business and pricing decisions. I guess the specific question is that with the cold beverage business performing well how much flexibility does that give you a bit.
Potentially taking less pricing coffee in order to manage deposit pricing to the levels that you're targeting with your prior strategic action.
And then just to follow on from that would love any.
<unk> on the impact of higher pricing moving back above the targeted level given the pricing action.
Okay, Yes, Brett thank you.
The benefit of the portfolio that we have is a bit of diversification in terms of different consumer trends different competitive dynamics et cetera, and so if you go all the way back to the commitments we've put out there in 2018, and the fact that we've been able to deliver them. Despite all of these challenges.
Is that with Covid now inflation supply chain.
Disruption et cetera, that's a benefit of having a portfolio that we have that we're able to leverage one part of the portfolio to be able to offset challenges in the others and then you've seen it reversed in certain situations, where coffee was over delivering to help one side of the business and now the coal business in some cases in Q4 was able to do that.
That's great from an investor perspective, with regard to how we take pricing, though we don't think about it that way we look at pricing at the consumer level segment by segment, we understand price elasticity as competitive dynamics.
And in an inflationary environment like the one that we're in right now we're going to push pricing as hard as we possibly can based on our best assessment of the impact on that individual business and that does that put us in a position, where we say because we can take pricing in one area, we will take less pricing than the other we take the maximum amount of pricing that we can in each individual business until we get to the.
Point, we think it adversely impacts demand to a level in which is not a great business decision, but the diversification of the portfolio that will allows us to step back when we deliver consolidated results.
And have the confidence that we are able to deliver against.
Against the guidance that we put forward despite all of the uncertainty and volatility that we face.
So we take the next question please.
Your next question comes from Lauren Lieberman with Barclays.
Thanks, Good morning, and you can probably it could leave it and have a long conversation, but I feel like there is.
Bob in your in your comments over the last few minutes.
Really sort of passion discussion that the visibility.
Thank you Paul.
Okay.
Transitional in Casablanca.
Yeah.
But I was curious how you think about the types of potential in the core.
I'm guessing this is where the bulk of the M&A is expected to resolve is already paid off in full.
First on route to market.
Can you talk a little bit about sort of the spectral potential and how you think about volume, but perhaps versus price mix in those businesses as well.
I'd just be curious to hear your same kind of multiyear view on both side.
Side of the business.
Thanks for that question.
Our coal business is performing as performed exceptionally well since the merger.
It's been driven by the Formula that we discussed a number of times, which is building.
Share and volume growth on core brands through renovation and marketing.
Countless examples of that and we I won't repeat them because we've mentioned most of them in our in our prepared remarks.
Innovating into white space, and also doing partnerships and acquisitions to fill in territories that we arent covered with our current portfolio and then investing in and improving our route to market.
To ensure that the delivery of the merchandising the servicing on the cold side of the business.
<unk> every single year and it's the combination of those three that's delivering the.
Very strong result, what I just described has a significant amount of runway in front of it you mentioned, we've done a lot of work on the route to market by bringing in decent penetrators into our system. We have also invested heavily to improve the delivery and the effectiveness of our system, where we already cover there's still plenty of runway left on both of those.
White space, we still have significant amount of open territory in our portfolio.
We're able to fill in to leverage that distribution system as well as the marketing strength that we have and we still have tremendous line of sight to innovation and renovation on our existing brand portfolio.
As we talked about three years ago, a lot of conversations will allow Dr. Pepper's that successful.
You can't possibly grow that any further what else are you going to do and then I would point out that Dr. Pepper was the fastest growing major CSD. The past two years, driven by marketing innovation and we feel like we still have plenty more to go on that so it's that combination of existing brands white space and distribution system effectiveness that gives us line of sight to a significant growth.
In front of us.
Yes.
Thanks, so much.
Okay. Thanks, a lot.
Your next question comes from Andrew <unk> with J P. Morgan.
Yeah.
Thank you good morning.
Wanted to double click on the your comments about M&A, Bob should we interpret that the board this mostly looking for bolt on M&A compared to bigger transactions and if so what are the white spaces at this point.
Energy and coffee shops be out of question in this scenario.
And related to that on your use of capital you mentioned buybacks and normally you don't embed that in guidance. So just wanted to clarify that.
On 2022, and lastly on pricing I think what is included in your mid single digits and correct me if I'm wrong, you're assuming what is in the market already and with the labor and other costs were sitting since your analyst day.
Would you contemplate additional pricing at this point thank you.
Okay.
M&A side.
What we've talked about is our capacity for M&A. So we say, it's north of $20 billion based on the $5 billion of discretionary free cash flow and some of the assumptions that we put forward in the Investor day. The clarification, we are making today as there were a number of headlines that came out of that where people. So we were looking for a 20 billion dollar acquisition.
And what we're saying is that we've got significant capacity.
To continue to do acquisitions of a variety of sizes and our four areas are filling in the white spaces, we just talked about.
Continuing to build our distribution capabilities, which we've also talked about adding new capabilities, which as we get further along we could explain some of that and then obviously we have always had the opportunity for some geographic expansion. We operate in North America today heavily in the U S with nice positions in Canada and Mexico.
About today Latin American beverages for example, just continuing to deliver fantastic results that are.
Accretive to total KCP, that's an area, where we could see some opportunity for additional investment. So we have a wide range of targets all of which are strategic a range and sizes, but.
But we wanted to clarify that we're looking at it 20 billion plus as capacity not as a target.
I was not talking about buybacks in a second.
With regard to pricing the pricing that we have in the plan is not just what we've already put in place, but also pricing that we've already announced that's happening in the early part of 'twenty two.
With regard to the rest of the year, we always say, we need to be flexible based on inflation productivity pricing and marketing investment and we don't talk about any one lever in the future at the expense of others. We look at all four in combination and Thats, how we will continue to manage through 2022.
You want to I think this will be our last question do you want to end this on the buyback conversation.
Absolutely Bob.
Hello on there so a couple of quick points on our buybacks.
I just want to remind to.
Our sales that our board has authorized us.
<unk> program up to $4 billion.
Buyback, we just thought because January of this year through the end.
December 2025.
And we also.
Before that <unk> program is an opportunistic one is not formulaic by any means it will just depend on the market conditions and bill.
After management to decide on the buyback or not.
I Wonder as you said.
In line with our Investor day.
Announcement, and maybe I'd also need, particularly now we did not.
Bill for any plus or minus that may come as a result of a whole lot buyback decision into a lot of guidance.
2022 it is also fair to say as Bob explained just now.
Our priority to use a lot of capital, that's where those cash would be in M&A for somebody's Indianapolis work that we may decide.
To do some buybacks again on an opportunistic basis, so that would be my couple of quick remarks on the buyback. Thank you.
Thank you both.
Okay.
I'll now turn it back over to management for closing remarks.
Thanks, everyone for joining us this morning, the IR team Maria and myself will be around all day. If you have questions. Please reach out to us and we'd love to talk to you and thank you very much and have a good day.
Thank you. This concludes today's conference you may now disconnect.
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Yes.
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