Delivering Shareowner Value
Chief Financial Officer
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So, good afternoon. Last presentation of the day, before we go into Q&A. So you’ve heard about our strategies to accelerate growth, and expand into other categories. And our Group Presidents walked you through the examples of how they’re going to make these strategies come to life.
So, now I get to put the pieces together, and demonstrate how we create value, and how we’re going to deliver our revenue and our profit targets, supported by our capital structure. So Francisco and the Group Presidents talked about the ways we’re going to drive sustainable revenue growth, so I’m going to just do a quick and high level recap of those things.
So, we absolutely have a disciplined approach to gain scale in category leadership, based upon the explorer, challenger and leader model. And we’re going to broaden the portfolio in many ways to do that, innovation, premium options and this reapplication, the lift and shifts to take a great product from one market and move it to another market.
As a good category leadership, you get pricing ability. And we have a very strong global system and we’re going to continue to use both on the M&A. So, we absolutely believe and we will deliver our 4% to 6% long term growth target. And I’m going to break down a little bit of how we’re going to do that.
So the industry is expected to grow approximately 4% by 2020. That’s a $150 billion. But you see the categories grow at different rates. So in the left hand side, we’re going to start with sparkling. And I’m going to do this and – I’m going to break this down into sparkling and then all of the products. So it’s sparkling, you say the industry is expected to grow at 3% to 4%. The outer ring is industry, the inner ring is us
So we are – we skew more to sparkling as you saw in the presentations and so over 50% of our portfolio is in sparkling beverages. Now we talked about the drivers that will help us to continue to grow sparkling and we believe sparkling will continue to grow. The one I’ve been focused on for just a minute is renewing category growth initiatives. So for us that means continuing to reduce the sugar content out of our beverages around the world. So, we offer our consumers choice. So consumers can have a full calorie great tasting beverage or they can have a reduced calorie reduced sugar content or zero calories, zero sugar content, great tasting beverage. It’s all about consumers having choice. And sparkling again, we said will continue to grow.
So then when you look at the other categories, we obviously need to gain share in the other categories and balance out that portfolio a bit. So we definitely have products in those other categories and you see the retail value growth that we anticipate over the next three years for those categories. So we’ve talked about those drivers as well, it’s been in all of their presentations. The one I would point out would be the export VEB model internationally. So the Venturing and Emerging Brands model started in North America as it’s been discussed and it is our way to incubate products and allow them to grow without the weight of the entire
Now a great example of the things I was just talking about would be innocent. So we did not buy all of innocent initially. We invested – made our first investment in 2009 and when it was the number one smoothie brand in the UK. And then we took that great company with a great entrepreneurial culture and a passion for their brands and we combine that with our resources and our consumer reach. And so to together, we improved the company we improved innovation. And one example, recent example being we took their knowledge about coconut water and ZICO from the United States and we helped them to launch the coconut water in Europe.
So now they’ve got a expansive portfolio. We invested behind the brands to grow brand awareness. And then using our full experience and their experience it became a national brand. It’s in all major retailers and it is now the number one chilled juice brand in Europe. And even better to this day they maintain their entrepreneurial culture.
So let’s pivot to talk a little bit about M&A. So we have used both on M&A to help us to, over the years to drive our consumer centric portfolio. We have purchased brands, we have purchased and refranchised bottlers. We have created alliances and partnerships. Maybe what you don’t think about though is we’ve created capabilities. And AdeS is a great example of that. So we bought this great brand in Latin America. And it was – it’s a plant based, protein based beverage company.
We needed to learn about that supply chain. We needed to learn about that manufacturing process. So we’ve now as we build out those capabilities, we can transport those capabilities around the world. So it was important to get that great brand, but just importantly, we’ve got great capabilities that we can now use around the world.
Now I recognize that this chart is a little busy. But it is only an illustration of how we have taken great products around the world, lifted them and shifted them to other places around the world and we will do more of that. AdeS again being another great example, as Brian mentioned, although he changed it maybe a little different, but we did lift and shift the brand to Europe this year, and we will be in next year.
So as I go back to where I started from revenue of this chart. So we start with the 4% industry retail value growth, right. So we took off a point because we skewed, which is sparkling, right and sparkling is growing at 3% to 4%. So, we said in all fairness, we’ll take off a point. But we’ve got great growth initiatives. Some of which you’re seeing today that will give us back 1 percentage point to 2 percentage points of growth, which then gives us 4% to 5% of revenue that we absolutely control.
And then when emerging markets rebound and we believe they will rebound. Now I can’t tell you when, but we will believe that rebound will occur. We pick up another point that gets us to our 4% to 6% long-term growth target. So we absolutely believe that we can deliver the 4% to 6% long-term target.
So let’s shift to profitability and our margins. So we announced earlier today that we will deliver operating margin expansion and that it will – our margins will be 35% plus going about the year 2020. Now refranchising helps that significantly, as well as productivity. Productivity allows us to – has helped us to deliver that. But in addition making the right portfolio choices helps. Continuing to grow sparkling helps, getting scale helps.
So if I break that down a little further, on the left hand side is gross margin by category cluster, relative gross margin by category cluster. So it’s very clear as the category margins will vary. And it’s not lost on anyone that sparkling gross margins are superior to the other categories. We’ve all known that.
But – well I shouldn’t say but I should say and when we expand, we know we’re going to get some margin pressure, but we absolutely believe in any one year, in any one year, we can manage that pressure. We don’t believe any one year will be significant enough that we cannot manage it. So we believe, we will be able to manage that margin pressure. And there are lots of different ways in which you can manage the pressure.
So one of these ways, people are talking about all morning, afternoon Francisco being one of them is our explorer, challenger, leader framework. Our products will go through that framework at different stages at different rates. And as – but the one thing that’s very clear is as they get category leadership and scale, our margins are improved. We have a very positive impact to our margins.
And then, the other things you can do, and example on this page is with any category, you have options. You can add – so the example here would be juice in North America. Sol, we got Minute Maid, great brand; and we’ve got Simply, more premium. Simply’s margins are a little bit better than the Minute Maid margins.
So, we’ve got options that will allow us to improve our margins over time, but the good news is, Sparkling continues to grow, which is a positive. And we will continue to take products to category leadership to allow us to gain – to get to that margin level and beyond.
So, let’s talk about productivity. I need to say productivity is ongoing and it is absolutely built into our long-term growth targets. So we have current program underway and it is focused against all categories of our spend, including our latest program Lean Enterprise. Lean Enterprise started earlier this year as James talked about. Purpose of it being to flatten the organization and to drive faster and more effective decision making.
But across our category spend, we’ve done other things. So in marketing, we drove more efficient marketing. The goal was to take – to reduce the amount of promotional marketing and non-media spend, and absolutely invest in our brands and invest in media spending. We’ve done things in the supply chain. We’ve changed designs of our packaging and we this example is that we’ve light-weighted bottles. We’ve taken cost out of our manufacturing systems. We have standardized and reformulated our manufacturing. So we have – you’ve heard examples of reformulations. And then we’ve standardized recipes around the world which also took out costs, and then we have leveraged technology and automation to continue to drive costs down.
In the IT systems and capabilities, it’s ongoing. We are upgrading our systems including, I’m happy to say, our financial systems. And we’ve trained our associates on the Agile Methodology. The Agile Methodology is a different way of working. It’s a way of problem solving where you take big problems and you put them into small manageable pieces and you solve them in a couple of weeks at a time until you solve the entire problem. The beauty about Agile is that it gives them a different way of thinking about their work. And the work that seemed like daunting and very difficult to change becomes easier to change.
So we’ve taken the productivity, and we have reinvested and in our brands and in innovation. We’ve absolutely used it to cover category mix inflation and currency. And we’ve expanded our margins. The beauty of the productivity program is that you know we’ve been involved in productivity for a long time and it’s always been part of our long-term targets. So, it is now become just part of the DNA. It is part of the way our employees think about doing their jobs. Part of – the reason is because they know it’s an absolute expectation because it can’t go away. We will always be using productivity to fuel growth. So it becomes an enabler for the organization. And we’ve given them different ways to think about how to go about it through the agile methodology and other ways. That that has helped them, not be as concerned about it and be more excited about it.
One example of why they’re excited is about digitizing the organization. Ourselves is – we will benefit greatly from us digitizing the organization, they will benefit more than anybody else, and they are really looking forward to it. When I gave someone – an example of this earlier this afternoon about my finance associates looking forward to the SAP reimplementation, they looked at me like I had lost my mind.
However, when you know when it’s over, what it does to their lives and how big it makes their lives and their jobs much easier. You understand why they are looking forward to that work. And it’s a lot of work, but they’re absolutely up for it, and they’re looking forward to it. And it allows them to continue to find ways to be more productive, to continue to change the way in which they work, and they have more balance in their lives. It’s very simple.
So we have done things and we’re continuing to do things to digitize the organization. So we’re – our infrastructure is moving to a service-based model, moving to the cloud. We’ve created tools, collaboration tools. We’ve done more in automation, we’ve robotics. So we’ve done a lot of different things that have absolutely helped us reduce costs. They’ve helped us make decisions faster and will continue to. But as important, they’ve improved the employee experience, which means a lot to me and to a lot of others around here personally.
So let’s talk about our capital allocation strategy and cash flow. We have had a very consistent capital allocation strategy forever. Our priorities haven’t changed. We reinvest in our business. So our cash from operations, we generate great cash from operations and we will continue to. Our capital expenditures as we’ve been refranchising have declined. We have given cash back to our investors primarily in the form of dividends and that will continue. We’ve used bolt-on M&A.
And going forward, given all of the strategies you saw and the needs to expand and accelerate our expansion into other categories, there may be a incremental need for more bolt-on M&A in the near-term. And as a result we are tapering our share repurchase program and we will only cover dilution going forward. So, as we’re always going to looking at how we can continue to improve, we’ve taken cost out of the net working capital, so we’re improving our networking capital.
One example would be the extended payable terms that we are introducing and we started with Japan and the United States. Just those two really resulted in $1.5 billion in improvement in our net working capital, and we are looking at other markets around the world. And our cash conversion cycle has reduced from approximately 64, 65 days down to 35 days. So improvement in net working capital.
We have, as I said, reduced our capital intensity. As we refranchised, our capital expenses have gone down, but also as we refranchised our – we have divested an significant amounts of revenue. So going forward, you may want to think about that we’ve thought the better way to think about the capital expenses would be as a percent of net revenue, and that’s only in the long-term.
In the near and intermediate term, we are going to continue to invest in digitalization and other things that help us to continue our productivity programs. So, in the near-term, the capital expenditure numbers are coming down as much as we are investing, but over the long-term 4.5% to 5% is probably good way to think about – as percent of net revenue is probably good way to think about capital expenditures.
And then, our free cash flow and a free cash flow margins. So, on the left-hand side, I think we showed this at CAGNY. This assumes, so that number in 2016 is 16%. Assume that, if we had finished the refranchising at the beginning of 2016, so effectively 12/31/2015. We would have increased our free cash flow margin by about 700 basis points. And that – so the refranchising will complete, USA completed and got a little bit left to go, refranchising does complete. And then we determined that it was probably a good idea to put a target range out there. Now reinvestments we will – will lead to do different things to support the business going forward. So, we put a target range of 95% to 100% for free cash flow conversion ratio.
So then – so if you just start at the beginning. We are clearly are a global leader. We have a strong foundation. Hopefully you’ve seen through all the presentations this afternoon that there is a clear destination. And hopefully, you’ve heard how our culture is changing and our teams are aligned for growth. And that means to me over the long-term, that we will absolutely and we were committed to delivering on our long-term targets including our new adjusted free cash flow conversion ratio target.