Cott Management Discusses Q4 2012 Results - Earnings Call Transcript

Feb.15.13 | About: Cott Corporation (COT)

Cott (NYSE:COT)

Q4 2012 Earnings Call

February 15, 2013 10:00 am ET

Executives

Michael Massi

Jerry S. G. Fowden - Chief Executive Officer and Director

Jay Wells - Chief Financial Officer

Analysts

Mark D. Swartzberg - Stifel, Nicolaus & Co., Inc., Research Division

Perry Caicco - CIBC World Markets Inc., Research Division

Kevin M. Grundy - Morgan Stanley, Research Division

John A. Faucher - JP Morgan Chase & Co, Research Division

Karru Martinson - Deutsche Bank AG, Research Division

Reza Vahabzadeh - Barclays Capital, Research Division

Bryan C. Hunt - Wells Fargo Securities, LLC, Research Division

Operator

Welcome to Cott Corporation's Fourth Quarter and Fiscal Year 2012 Earnings Conference Call. [Operator Instructions] The call is being webcast live on Cott's website at www.cott.com and will be available for a playback there until March 1, 2013.

We remind you that this conference call contains certain forward-looking statements reflecting management's current expectations regarding future results of operations, economic performance and financial condition. Such statements include, but are not limited to, statements that relate to estimated revenues; volumes; selling, general and administrative expense; gross margins; net income; free cash flow; earnings per share and leverage ratios; estimated commodity inflation; and estimated cash taxes. This conference call also includes forward-looking statements reflecting the company's business strategy and includes statements related to the company's capital deployment strategy; the payment of future dividends; share repurchases under our share repurchase program; future revenue enhancements and cost savings; and goals and expectations concerning our market position, future operations, product mix and estimated capital expenditures. Forward-looking statements are subject to certain risks and uncertainties, which could cause actual results to materially differ from current expectation. These risks and uncertainties are detailed from time to time in the company's securities filings. The information set forth herein should be considered in light of such risks and uncertainties. Certain material factors or assumptions were applied in drawing conclusions or making forecasts or projections reflected in the forward-looking information. Additional information about the material factors or assumptions applied in drawing conclusions or making forecasts or projections reflected in the forward-looking information is available in the company's press release issued earlier this morning and its Annual Report on Form 10-K for the year ended December 29, 2012, which will be filed by February 27, 2013. The company does not, except as expressly required by applicable law, assume any obligation to update the information contained in this conference call. A reconciliation of any non-GAAP financial measures discussed during the call with the most comparable measures in accordance with GAAP is available on the company's fourth quarter and fiscal year 2012 earnings announcement released earlier this morning, as well as on the Investor Relations section of the company's website at www.cott.com.

I'll now turn the call over to Michael Massi, Cott's Director of Investor Relations.

Michael Massi

Good morning, and thank you for joining our call. Today, I'm here with Jerry Fowden, our Chief Executive Officer; and Jay Wells, our Chief Financial Officer. Jerry will start this morning's call with some introductory remarks before turning the call over to Jay for a discussion of our fourth quarter and fiscal year 2012 financial performance. Jay will then turn the call back to Jerry, who will complete the call with his perspective on our 2012 performance as well as the discussion of business drivers and expectations for 2013. Following our prepared remarks, we'll open the call up for questions. With that, let me now turn the call over to Jerry.

Jerry S. G. Fowden

Thank you, Michael. Good morning, everyone. Before Jay reviews our financial results, I wanted to offer a few introductory comments. First, I'd like to formally welcome Carlos Baila as our new Chief Procurement Officer. Carlos comes to us with extensive experience in procurement as well as supply chain, 2 important areas for Cott. He has successfully sold his house in Connecticut, built one in Tampa, and started 10 or so days ago. So we already know he can move swiftly, and we wish him the best of luck in his new role. Now turning to our results for 2012.

First, I think it's important to remind ourselves what we set out to do in 2012 in comparison to what we were able to achieve. If you recall, our aim for 2012 was to start the process of restoring gross margins following a period of significant commodity inflation by adjusting the delicate balance between gross margin and volume. Our objective was to achieve an improvement in gross margins from a combination of 3 primary actions. One, appropriate adjustment of our price per case to reflect the significant impact of commodity cost increases that occurred in 2011 and those foreseen for 2012. Two, the exiting of certain low gross margin business, alongside our continued focus on improving our product mix, thus ensuring appropriate value creation from the use of our extensive high-quality manufacturing footprint. And three, a continued focus on operating efficiencies across a number of areas of our business; in particular, our investment behind vertical integration of bottle blowing in the U.S.

I'm pleased to report that 2012 did see us make good progress in each of these areas, alongside our ongoing focus on the 4 C's of customers, costs, CapEx, and cash. This progress can be seen in our 2012 financial performance, with gross margins across the year up 110 basis points, adjusted EBITDA of $213 million up $14 million or 7%, and net income of $48 million up $10 million or 27%. We also received a credit rating upgrade and an improved credit outlook as well as generating over $100 million of free cash flow despite our increased capital investment behind vertical integration of on-site bottle blowing, leaving us in a position with approximately $180 million of cash on hand, no borrowings against our ABL, and a 2x net debt to adjusted EBITDA leverage ratio at the end of 2012.

As you're aware, this strengthening balance sheet and financial position has allowed us to start to implement our balanced capital deployment strategy, which provides a framework of how we intend to use our cash generation and includes the use of around 30% of our free cash flow for the return of funds to shareholders, of which the primary element is our recently announced quarterly dividend alongside our more opportunistic and discretionary share repurchase program.

Next, our continued focus on debt reduction with the goal of approximately 40% of our free cash flow being allocated towards reducing our level of debt, including an opportunity for early redemption of 2017 senior notes later this year. This action should lead to a meaningful reduction in interest cost and corresponding earnings, free cash flow and EPS benefit.

And finally, the use of the remaining 30% for investment, both organic and bolt-on acquisition based, into our business with the specific aim of accelerating the diversification of our business in terms of product types, packaging formats and channel opportunities; thus, steadily and consistently improving our product, packaging channel mix and reducing our various areas of concentration over time. On this note, let me hand the call over to Jay to cover Q4 and the financial year in more detail.

Jay Wells

Thank you, Jerry. The fourth quarter total filled beverage case volume, excluding concentrate sales, was 199 million cases compared to 228 million in the fourth quarter of 2011. Including concentrate sales, total filled beverage case volume was 280 million cases compared to 303 million. Revenue for Q4 of 2012 was $517 million compared to $549 million. Excluding foreign exchange, revenue was lower by 6%.

Gross profit for the quarter increased 18% to $61 million compared to $51 million last year. Gross profit was 11.7% of revenue, increasing 230 basis points compared to 9.4% in Q4 2011. The improvement in gross margin compared to the fourth quarter of 2011 was due primarily to the exiting of certain low gross margin business and an increase in average price per case on a global basis as well as operational efficiencies in North America.

SG&A expense was flat at $44 million. Operating income increased to $17 million compared to $4 million last year. We accrued $600,000 of expense in the fourth quarter of 2012 related to the conclusion of the Cliffstar acquisition earn-out arbitration process. This represents the final settlement for all outstanding claims associated with the earn-out. Interest expense was flat at $14 million. Pretax income increased to $3 million compared to a pretax loss of $10 million in the prior period. Income tax benefit was $1 million compared to an income tax expense of $1 million. The decrease in income taxes was due primarily to the payroll settlement of uncertain tax positions.

Net income was $2 million compared to a net loss of $12 million in the fourth quarter of 2011. Earnings per share on a diluted basis was $0.02 compared to a loss per share of $0.12 last year. EBITDA was up 53% to $42 million. Excluding Cliffstar's integration expenses and purchase accounting adjustments, adjusted EBITDA increased 31% to $43 million compared to $32 million in the fourth quarter of 2011. Free cash flow was $101 million, driven by $120 million of net cash provided by operating activities less $19 million of capital expenditures.

Now turning to the fiscal year. Filled beverage case volume, excluding concentrate sales, was 867 million cases compared to 960 million in the prior year. Including concentrate sales, total filled beverage volume was 1.2 billion cases compared to 1.3 billion. Revenue for the fiscal year of 2012 was lower by 4% to $2.3 billion. Excluding foreign exchange, revenue was lower by 3%. Gross profit for the fiscal year was $290 million compared to $277 million last year. Gross profit was 12.9% of revenue, 110 basis points higher than 11.8% in the prior year. SG&A expense was $178 million compared to $173 million in the prior year. The increase in SG&A expenses was driven primarily by higher employee-related costs compared to a lowering of the annual incentive and long-term incentive accruals in the prior year, partially offset by lower information technology expenses in 2012.

Operating income increased by 9% to $110 million compared to $101 million in the prior year. Interest expense was lower by 5% to $54 million compared to $57 million in the prior year. Interest expense declined as a result of lower average debt balances held throughout 2012 and lower ABL fees compared to last year.

Pretax income increased 41% to $57 million compared to $41 million. Income tax expense was $5 million, resulting in an effective tax rate of 8%. Income tax expense increased $5 million compared to last year due primarily to an additional tax expense from a U.S. valuation allowance and higher taxable income in 2012.

Net income increased 27% to $48 million compared to $38 million last year. Earnings per share on a diluted basis increased 25% to $0.50 compared to $0.40 in the prior year. EBITDA was up 8% to $209 million. Excluding Cliffstar's integration expenses and purchase accounting adjustments, adjusted EBITDA increased 7% to $213 million compared to $199 million in the prior year.

Free cash flow was $103 million, driven by a $173 million of net cash provided by operating activities, less $70 million of capital expenditures. Cash on hand was $179 million. Net debt was $424 million, and unused borrowing availability was $210 million. As Jerry mentioned, we finished the year with a 2x net debt to adjusted EBITDA of leverage ratio.

As announced in the press release this morning, our Board of Directors approved a quarterly dividend of $0.06 per share on common shares in Canadian currency, payable in cash on April 5, 2013, to shareholders of record at the close of business on March 20, 2013. Also during the quarter, we repurchased about 36,000 shares -- 360,000 shares associated with employee stock-based awards. And as an update to our opportunistic share repurchase program, as of the end of Q4, we have purchased approximately 35,000 shares.

Lastly, in regard to our capital deployment strategy, we currently anticipate redeeming a majority, if not all, of our 2017 senior notes later in the year. This redemption will allow us to strengthen our balance sheet and improve our financial metrics, specifically our net income, our earnings per share, free cash flow and leverage ratio. These interest savings will assist in funding our dividend obligation as well as future growth opportunities as we strive to continue to improve our overall business and maximize shareholder value.

With that, I will now turn it back to Jerry.

Jerry S. G. Fowden

Thanks, Jay. I'll now review the performance in each of our reporting segments. In North America, revenue of $1.7 billion was lower by 6%, 5% excluding foreign exchange, for the financial year compared to 2011. The decrease was the result of lower volumes from the previously mentioned exiting of certain low gross margin business and the general decline of the total CSD and juice categories. Looking at Q4 specifically, while volumes were somewhat disappointing, our performance was in line with our expectation of being similar to Q3, as we mentioned on our last call.

Turning to gross margins. We saw North America's gross margin increase 230 basis points for the quarter and 120 basis points for the financial year. We are pleased with the gross margin progress in 2012 and we will continue to focus on achieving a gradual gross margin improvement from the combination of efficiency improvements, product mix improvements and managing the careful balance of pricing versus volume. Since North America is such a large component of our overall business, the improvement of North America's gross margin is crucial in the slowly progressing towards our long-term gross margin goal of 14% to 15%.

Related to juice volumes, 2012 saw a continued juice market decline of 6%, which impacted our overall juice category as well as others in the industry. Looking at our total hot-fill volume, it was down around 8%, mostly as the result of the apple juice market being down 16%. As apple juice continues to be the large portion of our overall U.S. juice portfolio, the impact of decreased volumes in this category has a greater proportional impact on our overall hot-fill volume. The decline in apple juice was partially offset by some growth in sports drinks and juice drinks. And we believe that these areas will continue to be a growth opportunity for us in 2013.

Regarding 2013 pricing, North America is implementing its required pricing to cover various commodity cost increases within certain fruits, especially grape and cranberry. With regard to CSDs, our primary approach varies by specific products and package formats, with the largest single common factor being the increase in high fructose corn syrup due to the 2012 drought on corn shortage. We will also continue to focus on operational efficiencies such as our increased on-site bottle blowing, which will be rolled out across our remaining U.S. facilities during 2013.

Now turning to the U.K. We had another overall good performance in the U.K. during 2012. Our U.K. revenue increased 3% and 7% for Q4 and the financial year, respectively, excluding any impact of foreign exchange. In 2012, the U.K. also exited certain low gross margin business, and as you know, experienced the worst and wettest summer in some hundred years. Despite these factors, the U.K. gross margin increased 180 basis points in Q4 and 40 basis points for the financial year as a whole. This was mainly driven by a continued positive shift in both product and channel mix. As we look forward to 2013, we believe the combination of a normal summer, let's hope, and some increased U.K. capacity that comes online during quarter 2 should see further improvement both in U.K. volumes as well as revenue.

In RCI, volume increased 7% and revenue increased by 22% in the financial year. RCI had a strong year due to increased volumes associated with a new customer in South America as well as from the timing of shipments to customers in Asia. I'm pleased with RCI's results, and I believe that 2013 will be another positive year for RCI.

Turning to Mexico. Mexico's results, as you know, reflected the cessation of a regional brand license at the end of its term and the exiting of some unprofitable 3-liter volumes that required very high shipping and freight costs. Even with these difficulties, we have seen Mexico make strides with growth in contract manufacturing as well as being a regional supplier of private label beverages. For 2013, we believe Mexico has the ability to further expand their contract manufacturing customer base with a number of recent wins, which will begin production in Q2 and Q3. We thus look forward to Mexico achieving a stronger, more sustainable position as we move through the year.

Looking to company-wide overhead, SG&A was flat in Q4 and increased by $5 million for the financial year. As mentioned on the previous call, SG&A had a difficult comparison in Q3 2012 on a year-over-year basis compared to 2011 as we lowered our annual bonus on long-term incentive accruals. Thus, in effect, our underlying 2012 SG&A was slightly down, with IT efficiencies and savings offsetting normal inflation.

Moving from employee-related costs to SAP. As we mentioned, 2012 saw IT savings. And as of today, we have rolled out SAP across 12 manufacturing sites. We expect to complete the implementation of the remaining facilities during 2013. As a reminder, our total SG&A remained in the 7% to 8% range as a percentage of revenue for the financial year, which is considerably less than most companies in our industry. We believe this level of SG&A, which reflects our low-cost philosophy, will continue in 2013.

As we summarize the financial year, fourth quarter, and look forward to 2013 as a whole, we're pleased with our year-over-year gross margin improvement, service levels and improved operating efficiencies. We believe our 2012 gross margin restoration strategy was a necessary step towards our long-term gross margin goal.

Turning to cash flow, we're pleased with this year's free cash flow of $103 million despite our increased investment in bottle blowing. We, again, managed year-end working capital tightly. Thus, it's important to note our underlying free cash flow was around $93 million. As Jay mentioned, our 2017 senior notes will be callable later in 2013. And thus, we look forward to this opportunity to significantly reduce our gross debt and interest cost while improving net income, free cash flow and earnings per share. I'm also pleased with our quarterly dividend announcement, which is only the second time in some 10 years. This dividend is part of, and consistent with, our balanced capital deployment strategy that sees us allocate some 30% of free cash flow for the return of funds to shareholders while still reducing debt and investing behind the diversification of our business.

As we look forward to 2013, we aim to continue our gross margin restoration via a further modest gain. We hope national brand pricing and promotional activity remains rational. We still believe our 2013 commodity inflation to be in the low single-digit range, primarily driven by the increasing cost for high fructose corn syrup following the poor corn harvest and various fruit costs, especially grape. For 2013, we are covered 100% for our sweeteners, which includes high fructose corn syrup and sugar, and for approximately half of our fruit and fruit concentrate requirements. Aluminum appears to be flat overall as, while the commodity itself has declined slightly, the associated aluminum conversion cost and the rising Midwest premium have largely offset this. We are covered for approximately 70% of our 2013 aluminum requirements. We've seen PET resin escalate in the past few months, and now believe this commodity to be a slight headwind in 2013. As a reminder, PET resin remains a spot exposure for us. As always, we will continue with our 4 C's approach of managing cost, cash and CapEx tightly while concentrating on excellent customer service. We anticipate 2013 CapEx of just below $70 million as we complete our investment in vertical integration of bottle blowing. From a tax perspective, we expect our cash taxes to be minimal for 2013.

Thus, all in all, we continue to aim to be a tightly run, cash-generative, high-service, low-cost producer while implementing our capital deployment strategy, which includes investing behind the diversification of our product, package and channel mix alongside the return of funds to shareholders and debt reduction. In summary, despite softer volumes, we were pleased overall with the financial progress we've made, and we look forward to our 2013 opportunities to further reduce debt and achieve noticeably lower interest cost and thus, increase cost attractiveness, financial metrics and general appeal to all stakeholders.

I'd now like to turn the call back to Michael.

Michael Massi

Thank you, Jerry. During the Q&A, so that we can hear from as many of you as possible, we will ask for a limit of one question and one follow-up per person. Thank you for your time. Operator, please open the line for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Okay, seems there are no questions over the phone lines. Do you have any closing statements?

Michael Massi

Well, thank you, Brenda, for the return. If there's no questions for the call, this will conclude Cott's fourth quarter and fiscal 2012 conference call.

Jerry S. G. Fowden

And just separately, this is Jerry Fowden here. It's a rather unique situation that we've not had any questions in the past. They now seem to be coming up on the screen, so I don't know if there was a technical glitch with our service provider. So we are very happy to stay here and take the calls. At this stage, I'll pass it back to Michael.

Michael Massi

All right, it looks like we have our first call. Operator, if you could queue it up.

Operator

Certainly. Our first question comes from the line of Mark Swartzberg with Stifel, Nicolaus.

Mark D. Swartzberg - Stifel, Nicolaus & Co., Inc., Research Division

Well, I'm tempted to do the free cash flow question, but it seems a little early in the year. But I'll ask you 2. One is, this exit impact, it seems like, at least I know it was consistent with what you said in the third quarter, but it seems like it's dragging on longer than what I would have thought at the beginning of last year. Can you just give us a sense when you think you are going to start to lap the benefits, so to speak of -- or the drag, I should say, of this exit impact and it starts to get more to what's going on in the larger categories in your strategic decisions? And then I had a separate question on price.

Jerry S. G. Fowden

Okay. Well, let's do that one first, Mark, because I think you probably hit the biggest question that everyone would have there. As we look at 2013, we think our core business, carbonated soft drinks and juices, will lap the prior year's exiting of low gross margin business as we go through Q1 and Q2. Thus, as we to move into the second half of this year, I would see that business as being flat. Now could it be plus or minus a couple of percent either way? We all know that, that could be case. When we look at other smaller categories within our portfolio -- sports drinks, energy drinks, new age beverages, contract manufacturing and alcoholic, et cetera -- I think in those areas, we would look forward to growth as we go through this year. And that leaves the one category that we've never been that keen on, case pack water. And as we've mentioned in the past, we see this category really as something that helps cover some fixed costs. Now as things stand today, we're still not seeing this as a particularly attractive category. So I wouldn't be surprised if somewhere during the year, we continue to dial back on our case pack water. But to give you some kind of quantities around that, even if we halved our remaining water business, that would only be about $20-odd-million of revenue with kind of 0-ish gross margin contribution. So for all the rest of the business, I think we get back to stability as we go into the second half. Case pack water would be the only watchout, and it's not a big bit of our business.

Mark D. Swartzberg - Stifel, Nicolaus & Co., Inc., Research Division

And when you say stability in the second half, you're referring to stability in an absolute sense or stability relative to your categories?

Jerry S. G. Fowden

No. I'd say total volume, flat to plus or minus a couple of percent, just for normal lumps and bumps in either direction, Mark.

Mark D. Swartzberg - Stifel, Nicolaus & Co., Inc., Research Division

Okay, great. And one of your owners has asked -- has sent me an e-mail saying, "Ask it!" in all exclamation points. So I'll put the free cash flow question back in my mix, and I'll come back in a few with my other question on pricing. So what's your free cash flow view for 2013, as best you can?

Jerry S. G. Fowden

I mean, the first thing I'd say, which you'd expect me to say, it is a bit early in the year, and I'm still slightly scarred from 2011, having to give 4 or 5 updates of that in the year. Therefore, we played it a bit more cautiously for 2012, while promising everyone that keeping cash generation at the front of our list was a top priority. And I think everyone would say that we've come out in an okay position on that for 2012, and that's further helped our financial position overall. And it gives us this opportunity to look at calling the majority, if not all, of our 2017 notes later in the year. I would see 2013 as another year where we stay focused on good cash generation. Our underlying cash generation in 2012 was $93-odd million. I do not think we will have further positive movements in working capital in 2013. So I think without giving you an exact answer, that gives you a pretty decent steer.

Mark D. Swartzberg - Stifel, Nicolaus & Co., Inc., Research Division

Yes. It sounds like you're saying similar?

Jerry S. G. Fowden

Plus or minus, yes.

Operator

Our next question comes from the line of Perry Caicco with CIBC World Markets.

Perry Caicco - CIBC World Markets Inc., Research Division

Jerry, I just want to make sure I understand your sort of general projection on volume trends throughout 2013. You're saying that we could still see negative volumes through Q1 and Q2, and that the volumes could turn sort of flat or up in the back half of the year. Is that correct?

Jerry S. G. Fowden

Yes. Flat, plus or minus, I think, rather than the flat or up. I'm saying flat, and we all know, getting accuracy in this business, Perry, to plus or minus more than a couple of percent's tough. Within that, I would be much more confident in our -- all our kind of normal business. And the one thing we're really working through is to what extent long-term do we want to play in the case pack water business and to what extent can we some re-purpose of those lines, because we believe some can be potentially re-purposed towards making other kind of products, maybe even small-pack CSD.

Perry Caicco - CIBC World Markets Inc., Research Division

And would that trend be similar on juice?

Jerry S. G. Fowden

No. On juice, things actually got better towards the second half of the year than the first half of the year. Overall, while we've got some meaningful commodity moves up in grape, especially in the cranberry, we're starting to see a much more benign environment in the case of apple. Therefore, what I would hope, in the case of apple, which is a large part of our business, we could look towards getting back into a situation where there's more promotional activity in 2013. That's been an area many retailers, quite understandably, have not been trying to promote over the last kind of year or 2, as prices were just endlessly going up. With that situation now having stabilized and some potentially slightly more attractive apple becoming available, we see the chance to promote that category a bit more during 2013. And in fact, our apple in quarter 4 was flat in quarter 4 or 2012.

Perry Caicco - CIBC World Markets Inc., Research Division

Okay. And then with my sort of second question, I just want to get a bit of clarity on pricing in the CSD market. Do you -- you mentioned that there's a possibility of maybe taking some pricing in 2013. I think you related that to the situation on high fructose corn syrup?

Jerry S. G. Fowden

Yes, let me try and expand on pricing a bit more generally across the board for you, both to answer your question, Perry, and help anyone else. I mean, 2 broad areas: CSDs and juices. Within juices, we have taken action on pricing, especially cranberry and grape. We see that as going fairly well. While we are some -- more than 50% covered on our apple juice concentrate for 2013, we do potentially see some slight relief on that towards the back end of the year, and that should allow us on apple to put some additional promotional activity in price. So across the board, price increases on cranberry and grape. They're in or going in place, and we think that more or less a done deal. For CSDs, the approach we're going to take is much more on a product-by-product base, and the main driver there is only really high fructose corn syrup. Yes, we've had a little bit of resin firming over the past couple of months or so, but really, it's the corn syrup that's the driver of CSD pricing. We're really -- we're setting our price there on the kind of product pack market-by-market basis.

Operator

Our next question comes from the line of Kevin Grundy with Morgan Stanley.

Kevin M. Grundy - Morgan Stanley, Research Division

This may be a little bit early, but I was curious to get your thoughts, Jerry, with respect to what you're hearing from your competitors, particularly as it pertains to a potential breakthrough in the natural sweetener area and just kind of a general overall focus and a lot bigger push of late with low cal drinks given the scrutiny on the industry. And I was curious to -- how you think Cott's positioned with this shift? And are you already having this conversation with your retail customers?

Jerry S. G. Fowden

Yes, we are. And we actually, for, God, a decade-plus in the U.K., have been doing hybrid sweetened products. They're a much larger proportion of the U.K. market than in the U.S. market. Not always marketed as diet, either. We started introducing that approach in the U.S. probably about 2 years ago. So we have a number of range of products in retailers that use a blend of high fructose corn syrup or sugar and artificial sweeteners. We do make some products with the new all-natural artificial sweeteners. And I think, like everyone else in the market, we see that as a growth area as we go forward. Having said that, there still is, with regards to the all-natural enhanced sweeteners, a product/taste trade-off. And so for the moment, I still see that as a limiting factor, albeit the various masking technologies and blending technologies are moving forward at quite a pace. So I'm sure we will continue to make progress on that. Just like if you go back 30 years, you saw the rapid pace of progress being made on the artificial sweeteners that are predominantly used today.

Kevin M. Grundy - Morgan Stanley, Research Division

Okay. And a couple more, if I may. Just with respect to some of the recent share losses that I was seeing with -- in the track channel data. Are you still comfortable right now with the shelf space that you're getting at retail? Is your sense that any share losses are attributable to losses on the shelf?

Jerry S. G. Fowden

No, I don't think anything is to do with shelf space. In fact, if I looked where we are front quarter of 2013 versus front quarter of 2012, overall average space for our business would be up slightly. We did have some kind of supply chain changes at some retailers on their systems that led to a bit of a blip, predominantly in quarter 3, partially in quarter 4, on the way their supply chain works, that might have led to some greater out-of-stocks at point of purchase. But that's not something that would have reflected the space allocation. If you look at our overall business from a share perspective in 2012, I think it's what you would have expect, given what we said at the start of the year. We're down around 0.5% of market share in CSDs, consistent with our gross margin restoration strategy, and our overall share in fruit juice was flat.

Kevin M. Grundy - Morgan Stanley, Research Division

Okay. And one last one. You mentioned the potential win of some business down in Mexico. How material could that be?

Jerry S. G. Fowden

I mean, in volume case terms, as we get towards the back half of this year, that could be anywhere around the 5 million raw [ph] case, you just roughly double that up to 10 million 8-ounce case business per annum. Obviously, you're not going to get half of that, roughly, in 2013.

Operator

Our next question comes from the line of John Faucher with JPMorgan.

John A. Faucher - JP Morgan Chase & Co, Research Division

Following up on Kevin's question here, as we look at your price gap versus the branded competitors in carbonated soft drinks, for most of 2012, it looked like it was expanding a little bit. The last 12 weeks, it's come in. Should we expect the price gap to narrow, or would you expect the price gap, as we look out across 2013 to say -- stay relatively constant versus the branded competitors?

Jerry S. G. Fowden

Yes. We'd see the price gap to stay roughly where it is. As you say, it did narrow a little bit in Q4 with a bit of promotional activity that was going on for the national brands. We didn't see any significant or material shift in what's been a relatively rational pricing landscape. As you know, we set out to adjust our price versus volume balance. So it's not surprising to see, as the year progressing, that there was some slight tightening there. I think the area that will be different for 2013 is that we would like to, given the big price increases of 2011 and 2012 are behind us and we have this overall more benign, low single-digit commodity inflation environment. We would see the opportunity to do a little bit more promotional and display activity in 2013 than we could do in 2012 when we were passing through some significant pricing.

John A. Faucher - JP Morgan Chase & Co, Research Division

Got it. And then one further question on that, and this may not be a fair question to ask, but as you look at your hedging strategies versus what you know about your competitors, which may be very limited, do you feel like your outlook for high fructose is meaningfully different, given where you're hedged for 2012 versus 2013? Or do you think that the inflation on sweeteners is going to be about the same?

Jerry S. G. Fowden

I don't see a position on high fructose corn syrup as being anything different to the positions our competitors would have. I'm pretty comfortable with where we covered and the reduced conversion cost that we agreed as start of our 2013 plan. As we know, with all of these commodities, and we spend ages studying it, the reality is, it's about when, which week did you cover what proportion of your forward requirement. And we try to cover slowly and progressively throughout the second half of the year to get our coverage position for many of the commodities around the kind of 50% to 75% of our following year's requirement by the time we get to the end of Q4 so we can set the following year's pricing. And as I look at things overall, I don't actually see us being advantaged or disadvantaged versus any of the major competitors we have. And frankly, the asset test on all of this, which is always the cases on those occasions, you look at M&A activity, you get to study things in detail. And every time we do that, we feel comfortable that our procurement team is doing a good job.

Operator

Our next question comes from the line of Karru Martinson with Deutsche Bank.

Karru Martinson - Deutsche Bank AG, Research Division

Just on that M&A acquisition opportunities, certainly hearing, in terms of...

Jerry S. G. Fowden

Is that Karru there, by the sound of the voice?

Karru Martinson - Deutsche Bank AG, Research Division

That is indeed. Just an acquisitions, not hearing that in terms of the uses of cash. I mean, what are you guys seeing out there? And where you do feel that there are holes in your portfolio?

Jerry S. G. Fowden

Yes. I mean, let's -- we've said in our capital deployment strategy that we'd allocate plus or minus 30-odd percent of our free cash flow for return of funds to shareholders, primarily dividend opportunistic stock repurchases. 40% towards reducing our kind of gross debt, more than net debt, because at the moment we're building up cash, and that's where we'd see this chance to call, in November this year, either all or most of 2017 notes. And getting closer to the answer to your question, we said that leaves around 30% of our free cash flow towards the allocation of both bolt-on or organic investment to diversify our product package and channel portfolio. And let's give a few examples. While we are well served in our manufacturing footprint for large and small pack hot-fill, for large pack 2-liter PET, for various canned formats for CSDs, we don't do any pouches today. We don't do any glass packages today. We don't do any carton or tetra packages today. So there are a number of areas that the mainstream beverage market, some of which have higher growth prospects than most core family-sized products, where I believe over time, through a mixture of organic investment and/or bolt-ons, we could strengthen our overall product pack and channel portfolio. Quite often, our retailers come to us first to say, "Can you supply us with this kind of package?" And if it's not in our manufacturing footprint, then we have to kind of send them somewhere else. So that's what we would look to do slowly and progressively over the next 1, 2 and 3 years. And we will be making some moves to adding some packaging formats to our business during 2013.

Karru Martinson - Deutsche Bank AG, Research Division

All right. Changing gears just a little bit. On the energy drinks side, there's been a lot of headlines, a lot of press, and mostly been negative in terms of legislative scrutiny, FDA scrutiny, adverse incidences. Have there been any issues with your private label products, given that, that is such an important growing part of your business?

Jerry S. G. Fowden

No, none at all. And that's kind of for good reasons plus, perhaps, some less good reasons. Let's give you the good reasons. I mean in the U.K., which is the biggest bit of our energy business, we'd still look forward in 2013 to something like kind of just double-digit growth in our energy business. In Canada, where it's nowhere near as big as in the U.K., again, we look forward to some kind of continued growth there. In the U.S., which as you know has always been a kind of bone of mine, where we've never done as well on energy drinks, that kind of means, if anything does get more concerning, it doesn't have much impact to us. However, saying that, I still believe we will make further progress in 2013 on energy drink. So there's been a lot of noise, but it's still a growth category and one where we have further opportunity.

Operator

Our next question comes from the line of Reza Vahabzadeh with Barclays Capital.

Jerry S. G. Fowden

Have you got a question for Jay? He's sat next to me, champing at the bit.

Reza Vahabzadeh - Barclays Capital, Research Division

I do have a question for him. In terms of net leverage, obviously a lot of progress last -- really 3 or 4 years. At 2x net leverage, is this an area where you're comfortable, or would you consider more deleveraging?

Jay Wells

No. I mean, that's a good question. First, we're talking net. You look at the rates we're currently paying on our notes, definitely want to look at, as Jerry and I said, on calling the notes when available later on this year to -- with the cash we're building in use of ABL and retire that debt. When you look at the 18 notes, that looks like the right amount of debt for us to carry through on just regular operations when we're not doing any type of significant type transaction works. And just look really to call it and refinance it based on markets next year to get it set up into more of a long-term strategy. So I would see the 18 notes as the right amount of debt, and really wouldn't want to see us go much below that level of debt. We just would really like to adjust the amount of the rate that we pay on those notes.

Reza Vahabzadeh - Barclays Capital, Research Division

Right. And then as far as the categories are concerned, Jerry, CSD volumes -- again, following up on prior questions. Volumes in the category have been obviously somewhat soft of late. Would you anticipate somewhat higher promotions sometime this year to drive back category volumes? Or how should we think about that?

Jerry S. G. Fowden

I mean certainly, from our point of view, we'll do a few more promotions, particularly in the area of fruit juice as the year goes on, particularly if apple continues to provide some kind of opportunity from pulling back from the highs we had during 2011 and 2012. For national brands, I still see the pricing environment as being a very rational one, and I don't think there's any real attractive scenario for anyone in just trying to go back to beat up everyone on soda prices, and I don’t see that as happening. But our business, our focus is all on continuing to diversify this product, pack and mix. We'll be adding 2 lines in the U.K. as we go through quarter 2, to provide some extra capacity. And that's extra capacity that would be biased towards small pack, in some cases, ultraclean steel products. And there are lines that we managed to pick up out of administration at a price we were very pleased with. And our U.K. business was probably saved by the soft summer, given the kind of poor weather, from potentially being really stretched in terms of capacity. We have our hot-fill line coming onstream in Mexico, and a couple of other of the contracts we've won there have brand owners investing in that facility themselves with their own capital to provide us new types of packaging capability that we don't have today. So I see it less about promotions, other than in certain fruit juice areas, and more about us driving increased capacity and availability of different types of product package formats, which I think plays towards the long-term benefits of margin growth and mix management as we consistently do that.

Operator

Our next question comes from the line of Bryan Hunt with Wells Fargo Securities.

Bryan C. Hunt - Wells Fargo Securities, LLC, Research Division

It looks like I'm, again, the last question here.

Jerry S. G. Fowden

Well done, Bryan.

Bryan C. Hunt - Wells Fargo Securities, LLC, Research Division

When you -- Jerry, you gave us a good indication of the back half, what you're looking for from your steel -- or at least your juice products in your CSDs being flat. When you look at the remainder of the portfolio of drinks, could you talk about what you're anticipating in terms of growth for that mix of your business?

Jerry S. G. Fowden

Yes. I mean, overall, it's still a small part of our business. But if I look back over the past 2 to 3 years, we've certainly averaged anywhere between 5% and 15% growth on that collection of the kind of "others" category. So the only kind of spot out there that we're still working through is the extent to which we want to continue to invest in and drive case pack water, with its very low margins, versus the extent to which we think we've got to a point that it be worth us trying to re-purpose some of those lines towards making other products. And certainly, some of that infrastructure in case pack water looks like it could be converted to small pack CSD or other beverages. And small pack's an area that, historically, we are not strong in. And I think even in one of the pre-call write-ups today, someone pointed out that we weren't that strong in small pack, and that's something we recognize and are working through how we can do better there.

Bryan C. Hunt - Wells Fargo Securities, LLC, Research Division

All right. And then my next question is, when you look at your uses of capital over the longer term, are those general guidelines? And more specifically, when I look at your acquisition, use of capital, what leverage point would the company be willing to bear if you found the perfect acquisition?

Jerry S. G. Fowden

Yes. I mean, I think, let's first be clear on acquisitions. In acquisitions, we're looking at bolt-on type acquisitions that help expand and diversify our product and package offering. So I don't want anyone to kind of have any view that we're rushing out there to do massive-type transactions. We're setting out to be a kind of conservative and cautious management team. And therefore, even if we did larger acquisitions, which are not on the horizon, we would set ourselves a very cautious maximum kind of leverage ratio, just like we did in the past. And if anything like that ever happened, we would promise to focus all hands on deck on paying down that debt as quickly as possible. But I think the capital deployment strategy we've got, 30% free cash flow to shareholders, 40% further debt reduction, 30% whether it be organic or bolt-on additions to our business, it's probably a good strategy through to the back end of 2014, early 2015. Why do I pick that time point? Because by the time we've called the 2017 notes later in 2013 and swapped 8-and-a-bit percent interest rates for anywhere between nothing and 2-and-a-bit percent, that will put us in a much better position with regarding the level of interest that we have to pay. And then with some refinancing of our 2018 notes that are callable in September 2014, subject to the credit market not radically changing, we ought to be able to know at least 2, 3, 4 points off the interest coupon there, taking some kind of mix of term and high yield. And therefore, as we get to the end of '14, the start of '15, our overall balance sheet will be quite different. It will have a much lower interest charge associated with it. And that will be the time, I think, to stand back and relook at our capital deployment strategy as to the appropriate allocations of our cash flow from that point forward. Does that kind of help give you the building blocks of how we see things panning out?

Bryan C. Hunt - Wells Fargo Securities, LLC, Research Division

Absolutely, crystal clear now. I appreciate your time this morning, and good luck.

Michael Massi

Well, thank you very much. This will -- thanks very much for joining our call today and staying with us through all our technical difficulty today. This will conclude the call. Thank you.

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