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Executives

Mary Winn Settino - Vice President Investor Relations

Eric J. Foss - President and Chief Executive Officer

Alfred H. Drewes - Chief Financial Officer

Robert C. King - President PBG North America

Analysts

Lauren Torres - HSBC

Judy Hong - Goldman Sachs

Kaumil Gajrawala - UBS

John Faucher - JP Morgan

Christine Farkas - Bank of America Merrill Lynch

Mark Swartzberg - Stifel Nicolaus

Alec Patterson - RCM

Bill Leach – [TIA Cress]

John Gilmore – Credit Suisse

Salso Sanchez – Citi

Pepsi Bottling Group, Inc. (PBG) F4Q08 Earnings Call February 10, 2009 10:00 AM ET

Operator

Welcome to The Pepsi Bottling Group’s fourth quarter earnings conference call. (Operator Instructions) As a reminder, today’s conference is being recorded, Tuesday, February 10, 2009. Please note the company’s cautionary statement. Statements made in this conference call that relate to future performance or financial results of this company are forward-looking statements which involve uncertainties that could cause actual performance or results to materially differ. PBG undertakes no obligation to update any of these statements.

Listeners are cautioned not to place undue reliance on these forward-looking statements, which should be taken in conjunction with the additional information about risks and uncertainties set forth in the company’s Annual Report on Form 10-K for the year ended December 29, 2007.

I would now like to turn the conference over to Mary Winn Settino, Vice President of Investor Relations and Public Relations of The Pepsi Bottling Group.

Mary Winn Settino

Thanks everyone for joining us. Eric Foss, our Chairman and CEO, Alfred Drewes, our CFO, and Rob King, President of our North American operations, are on the call this morning. Our call is being recorded and will be available for playback on our website at www.pbg.com. We are also broadcasting the call live on our website and we have posted slides that will accompany today’s prepared remarks.

Please keep in mind that all numbers referenced, unless specifically stated otherwise, are on a comparable basis. The items that impact our comparability are laid out in our non-GAAP reconciliation which is available on the Investor Relations section of our website.

As we have asked each of you when it comes to Q&A, please try to limit yourself to one theme of questioning at a time so everyone has a chance to ask what is on their mind. If you would like to ask a second question, please get back in the queue.

I would ask that you take note of our cautionary statement that the operator read. With that, let me turn the call over to Eric.

Eric J. Foss

Good morning everyone. We appreciate you joining us today as we conclude our 2008 fiscal year and look ahead to 2009. There are three things we would like to cover this morning. I will start by summarizing our 2008 performance, I will then move on to a discussion of our strategy and outlook for 2009. Finally I will turn the call over to Al for greater insight into our financial results and our 2009 guidance. We will then be happy to answer any questions.

2008 was unquestionably a challenging year. while we anticipated some economic headwinds, driven by commodity cost pressures, the market volatility and weakening global macros that we experienced as the year unfolded were more pronounced than anyone anticipated. As a result, the liquid refreshment beverage category did not generate the positive growth that we have become accustomed to in recent years.

The difficult business environment did not stop PBG from delivering solid full year results. Our mantra throughout the year was to control what we can control, with a strong emphasis on three key areas: revenue and margin management, cost and productivity initiatives, and a prudent approach to capital expenditures and working capital management. And I am extremely proud of our people for achieving success in each of these areas.

We enjoyed positive revenue and earnings growth in 2008. Our net revenue and comparable operating profit each grew 2%. Comparable earnings per share increased 3% to $2.27.

Worldwide net revenue per case grew 6% and gross profit per case grew 4%, with strong performance across all of our geographies. We delivered $170.0 million in cost productivity for the year reflecting our increased focus on cost containment throughout the organization.

We reduced our capital spending by about $100.0 million and we generated $526.0 million in operating free cash flow while returning $624.0 million in cash to shareholders.

We also did a number of things throughout the year to enhance our long-term position in the marketplace. For example, we continued to strengthen and diversify our brand portfolio. Our agreement to begin manufacturing and distribution Crush in the United States filled the gap in our fruit-flavored CSD offering. Our distribution rights for Muscle Milk in the United States and Canada give us access to white space through the protein-enhanced functional beverage segment.

And our deal with Pepsico to acquire Lebedyansky, Russia’s number one juice company, unlocked a significant scale opportunity abroad. At the same time, we continued to take advantage of opportunities to expand our geographic footprint. In December we completed our acquisition of Lane Affiliated Companies, the eighth largest Pepsi bottler in the United States. Earlier in the year we acquired Sobol, a deal that is key to our plans to expand into Siberia and Eastern Russia.

And we did all of this while continuing to invest in our employees, our communities, and the environment. For example, PBG was once again recognized as one the best companies for diversity, receiving honors from Diversity Inc., Black Enterprise, and Hispanic Business magazines.

We also published our first corporate responsibility report which documented our approach to sustainability. I was especially pleased to showcase how new technologies, process improvements, and other initiatives are enabling PBG to use natural resources more responsibly and product less waste.

For example, we are now conserving 300.0 million gallons of water per year and we saved 16,000 tons of plastic by reducing the amount of material in our bottles.

Our efforts to invest in our employees, strengthen our communities, and protect the environment, are vital to our long-term success as a company and we will continue to focus on each of those in 2009 and beyond.

Now whether I’m talking to my team in headquarters or spending time with our field organization, I always tell people that there are really two ways to look back on 2008: pessimistically or optimistically. The pessimistic approach is to view today’s challenges as insurmountable obstacles or to mistake a short-term slowdown for an irreversible decline. The optimistic, and I think the correct approach, is to understand that this is still an attractive category with a lot of growth potential that PBG is well positioned to take advantage of.

It makes me think of something Winston Churchill once said about challenging situations, noting that pessimists see the difficult in every opportunity, while optimists see the opportunity in every difficulty.

We took advantage of several opportunities to strengthen our business in 2008, despite the difficulties in the marketplace and as a result I know that PBG will be a stronger company once the marketplace rebounds. Now optimism and pessimism aside, there is also realism and the reality is that the marketplace is unlikely to recover in 2009 and we are preparing accordingly.

When I look at the essential ingredients for the year ahead, four things stand above all others: first, we have to be great at the point of sale; second, we need to offer attractive consumer value while also focusing on margin management; third, we’ve got to demonstrate rigor when it comes to cost, capital expenditures, and working capital management; and fourth, we have to remain focused on positioning PBG for long-term success.

Let me say a few words about our plans for each of these. For starters, I strongly believe that great companies must constantly find new ways to improve at the point of sale. At PBG we have always prided ourselves on selling service and executional excellence. In today’s operating environment these things are more critical than ever and along those lines we have begun activating our promotional calendar and are working with our retail partners on programs to create excitement in the marketplace.

Pepsico’s rebranding campaign, called Breathtaking, repositions trademark Pepsi with an entirely new look. We will look for ways to enhance our core brand distribution, increase our shelf space and display activity, and energize our consumer base behind this initiative.

The second area is value, revenue, and margin management. In today’s economic environment the consumer is very focused on value and one of the things we’re most focused on is exploring new packaging solutions designed to deliver against three core objectives: offering better consumer value, increasing our volume, and expanding our margins.

We are in the midst of testing new package sizes and configurations across our single-serve and our take-home can businesses and while it’s too early to provide a full assessment of those tests, we received very positive initial feedback from customers who are similarly seeking to enhance the consumer value proposition. You’ll see us in the market with a national 18-pack limited-time offer later this quarter, as well as 16-ounce can that is pre-priced at $0.99.

The third area is to approach cost, capital, and working capital management. Over the last few years PBG has been very good at these and it is essential that we build upon our strong track record in 2009. Most of you are familiar with our Structured To Succeed initiative, a multi-year restructuring program we announced last November and the actions we are taking as part of this plan will strengthen our customer service and selling effectiveness, simplify decision making and streamline the organization, driver greater cost and productivity, and rationalize our supply chain infrastructure.

We are currently implementing Structured to Succeed across each of our geographic segments. In the U.S. and Canada we are focused on refining our selling and service organization, reducing our general and administrative expenses, and enhancing the efficiency of our supply chain infrastructure.

We are also taking steps to streamline our organization in Europe in order to improve operating efficiencies and marketplace effectiveness. In Mexico we are implementing a broad range of initiatives designed to improve the profitability of our business. These include overhauling our go-to-market system with an emphasis on achieving greater productivity in the areas of selling and delivery.

Overall, we expect these efforts to result in annualized pre-tax savings of between $150.0 million and $160.0 million upon completion. An overarching objective is to improve our output per employee, something we feel confident we will achieve.

Our fourth imperative for 2009 is that we maintain our focus on the future. The liquid refreshment beverage category still has attractive long-term growth potential and it’s imperative that we take the necessary steps to position ourselves to capitalize on it. This will require us to do a few things: first, we have to continue to strengthen our brand portfolio; second, we have got to pursue opportunities for geographic expansion; and third, we have got to continue to invest in our people and our culture.

When it comes to our brand portfolio we are very pleased with the innovation and marketing pipeline currently coming from Pepsico. What is particularly encouraging is Pepsico’s commitment to reinvigorating the CSD segment. One of the greatest strengths has always been the ability to use consumer insights to refresh brand identities in a way that resonate and connect with the marketplace and the new packaging and marketing behind brand Pepsi, Mountain Dew, and Sierra Mist demonstrate that strength once again.

When we look at opportunities for geographic expansion our first focus is on leveraging our 2008 acquisitions. Our acquisition of Lane closed in early December, providing us with new territories in parts of Colorado, Arizona, and New Mexico. These territories are contiguous to our existing business and enjoy favorable long-term demographic trends.

Our integration plans in these locations are on target, including the rationalization of our facilities and the right-sizing of our workforce and will continue to optimize our operations in these markets throughout the year.

At the same time, we will continue to look for additional opportunities to enhance our geographic portfolio. In Russia, the Lebedyansky integration process is well underway and has progressed as planned. We are expanding our distribution to include Lebedyansky juice drinks, a move that will be volume-accretive and further expand our brand portfolio and we feel very strongly that Lebedyansky is the right strategic platform to capture a big part of the Russia opportunity over time.

Let me also address the current economic environment in Russia. As a result of the devaluation of the ruble and the slowdown in the LRB category, we are being very prudent in the management of our business. Despite the current volatility, however, the long-term prospects for Russia remain sound and we are committed to capturing the long-term growth potential of our Russia business.

Finally, one of the most important drivers of our success in 2009 will be a continued commitment to investing in the men and women of PBG. They enable our success in the marketplace each and every day and it is critical that we continue to provide them with the tools, training, and technology to enhance their ability to do their jobs.

Everyone at PBG continues to focus on the fundamentals critical to achieving success, those being delivering consumer value, being a great seller and service provider at the point of sale, proactively managing cost capital and working capital, and remaining focused on investing for the future.

By doing that, I am confident PBG will continue to generate growth and create long-term shareholder value.

With that, let me turn the call over to Al.

Alfred H. Drewes

Let me start by making a few comments about 2008 before I take you through our 2009 guidance. The global economic challenges that Eric alluded to required PBG to be more disciplined, flexible, and nimble than ever before. With that mindset we placed a great deal of focus on achieving three priorities: delivering top-line growth, ratcheting up our productivity initiatives, and aggressively managing our working capital and capital expenditures.

Our full year results illustrate our success in all three of these areas. We achieved 2% comparable operating profit growth and 3% comparable earnings per share growth, numbers we feel very good about in light of the difficult operating environment we faced. In Q4 in particular our comparable operating profit growth was 9%.

In the quarter we were hit with below-the-line transactional ForEx, which you can see in the P&L line other non-operating income and expense, and that hit was $26.0 million.

Additionally, we incurred incremental interest expense due to the spread we paid on the bond offering, which pre-funded our February 2009 maturity. As I will discuss in a few minutes, this pre-funding solidified our already strong liquidity position. These two items negatively impacted our Q4 EPS by $0.19 and our full year EPS by $0.14 year-over-year.

Our ability to post positive earnings growth and a tenth consecutive year of record revenues is a testament to the discipline and precision with which we execute around the world. At the same time, we made important investments in 2008 to strengthen our brand portfolio and expand our geographic footprint. Our deals to acquire Lane, Lebedyansky, and Sobol, as well as the addition of Crush and Muscle Milk to our portfolio, will help us create shareholder value over time.

Before I turn to 2009 guidance let me set some context about the coming year. Without repeating what all of you know about the challenging global macros, we expect that declining GDP will cause the LRB category to continue to be under pressure this year.

While we remain convinced that there is ample opportunity for long-term category expansion in each of the countries that we operate in, we expect the LRB category to experience low- to mid-single-digit declines in each of our countries in 2009.

We are also dealing with a negative ForEx environment. Foreign currency has devalued substantially versus the dollar during the later part of 2008 and we are operating under the assumption that there will be no improvement in ForEx rates in 2009. Foreign exchange movements during the year will potentially be a significant variable in our U.S. dollar results. We are going to provide guidance on both a currency-neutral basis and in U.S. dollars.

We built our guidance to include a double-digit devaluation of our currencies this year. Our ForEx assumptions are based on very recent trading ranges. Based on that assumption, translational ForEx will have a high-single-digit negative impact on each of our operational P&L items, including operating profit. Based on these assumed rates, ForEx will negatively impact our EPS by about $0.18 per share.

Like many other corporations, our pension situation has been impacted by the deterioration of the financial markets as well as by the drop in the liability discount rate that occurred in December. As a result, the unfunded status of our pension obligations has risen from about $100.0 million at the beginning of last year to about $680.0 million at year end.

Our unfunded status is manageable given the standing of our company but it will have an impact on the amount of our cash funding. We currently project that our cash contributions for our pension plans will roughly double in 2009 versus 2008 levels to about $150.0 million. This is reflected in our ROCF guidance. Correspondingly, the pension-related expense embedded in our P&L will rise by about $30.0 million in 2009.

We have recently announced changes to our pension plans which will significantly reduce the growth in our liabilities over time.

One positive development has been the improvement in raw material costs, which have declined substantially from the peak levels of Q3 2008. We will benefit from these improvements over time. It is our approach to use hedging to smooth the volatility in commodity costs. We do this by averaging the into positions over time.

We will begin to recognize the benefit of the improved COGS environment in the second half of 2009 though the full benefit will not accrue until next year.

In light of the uncertainty that exists in the marketplace, we have taken a new approach to our planning for the coming year. It has been a much more dynamic, iterative process in which we are planning its multiple scenarios in each of our countries.

In addition, we are heightening our focus on productivity and taking an even more aggressive approach to working capital management and capital budgeting.

Lastly, given the ForEx uncertainty we have asked each of local teams to manage to local currency profit targets. Those local currency profit targets reflect our initiatives to offset about $150.0 million in transactional ForEx impacting COGS. This transactional ForEx is not included in the $0.18 earnings impact I mentioned a moment ago.

Now with all that as backdrop, let me provide our guidance.

Our currency-neutral comparable guidance is as follows: top line growth in the low single digits; COGS per case up in the range of 7% to 8%, including the transactional ForEx; and operating profit up low single digits.

Our comparable guidance in U.S. dollars is as follows: top line down low- to mid-single digits; COGS per case will be about flat; operating profit down in the low- to mid-single digits; and EPS of $2.15 to $2.25. And again, this includes a negative translational ForEx impact of about $0.18.

As Eric mentioned, the implementation of our Structured to Succeed initiative is on track and we feel good about our ability to achieve its stated objectives. The actions we are taking will improve our operating fundamentals and our ability to withstand today’s macroeconomic headwinds.

During 2008 we reduced our workforce by about 1,000 positions globally as part of the previously announced job actions. We also closed three facilities in the U.S., closed two plants in Mexico, and eliminated about 125 routes in Mexico. We will take additional actions in 2009 as we work to achieve the multi-year objectives Eric outlined.

We expect to generate at least $70.0 million in pre-tax savings this year as a result of these actions. In addition, we are also continuing to focus on finding new ways to optimize our manufacturing costs, transform our warehouse capabilities, and maximize our go-to-market capabilities. All totaled, we expect to achieve cost savings in excess of $250.0 million for the year.

We will be even more focused on capital productivity this year. We have reduced our capex plans for 2009 by over $100.0 million, on top of about $100.0 million reduction in 2008, so our capex guidance for the year is $550.0 million to $600.0 million. This level of spending is about 4% of net revenues, making substantial progress over the last two years.

Operating free cash flow is expected to be approximately $450.0 million, including increased pension funding and ForEx currency headwinds.

Our liquidity and access to capital remains solid. Our capital structure and our recently reaffirmed A, A-2 credit ratings helped PBG to maintain access to outside funding sources, primarily in the form of commercial paper and long-term debt.

Last October we pre-funded the $1.3 billion bond that matures next week and we did that at a 6.95% rate. In January we issued another $750.0 million in senior notes at a 5.125% rate. That offering termed out the funding for the Lane and Lebedyansky transactions.

These bond offerings solidify our short- and long-term liquidity.

As we look to our earnings calendarization for the year, the first half will be more challenging because we are lapping stronger volume and operating profit performance and the currency evaluations did not occur until Q4 of 2008.

Raw material laps will also be more favorable in the second half of the year. Q1 volume comps will be impacted by the shift of Easter from the first quarter of last year to the second quarter of this year and the shift in trading days in Europe from Q1 to the second half of 2009.

As we expected, EPS in Q1 will be impacted by higher interest expense as we pre-funded the bond maturing next week and have been carrying increased debt as a result.

Q1 EPS guidance is in the range of $0.03 to $0.06. The carrying cost of our bond pre-funding, as well as foreign exchange, will reduce Q1 EPS by about $0.10.

Now let me turn to some housekeeping items. In our first quarter financials we will change our segment reporting to include a corporate unallocated segment. We will be booking marked-to-market adjustments in this corporate unallocated segment. We will exclude the marked-to-market adjustments relating to our hedges that did not receive hedge accounting when we discuss our operating results.

The second housekeeping item is a recording of our joint venture earnings from Lebedyansky. The results will be recorded in SD&A, selling and delivery expenses, as a contra-account.

Finally, as a result of FAS 160, non-controlling interest and consolidated financial statements, minority interest will be reported as equity on our balance sheet and we are moving minority interest below the income tax line. This move will have an impact on our effective tax rate but our total tax dollars and earnings will not change. As a result, our tax rate will move from the range of 32% to 33% to 29% to 30%.

I believe PBG has the right set of plans, the necessary discipline and executional capabilities, and the best people to perform well in this kind of operating environment. Our 2008 performance shows that we can adapt to difficult circumstances to achieve solid results while also investing in long-term growth opportunities.

We feel good about our ability to do these same things in 2009 with the caveat that foreign exchange movements may impact our U.S. dollar earnings guidance.

With that, let me turn it back over to Eric.

Eric J. Foss

Let me conclude with a few final thoughts. Next month will mark the 10th anniversary of PBG’s initial public offering. If I had to pick one word to describe the past decade in our industry, it would be “change.” From the products we produce to the consumers that buy them, to the retailers that sell them, change has been a constant. So too has our ability to successfully adapt to that change.

PBG’s strong track record of results over the past decade has been built by our ability to evolve with the marketplace and turn challenges into opportunities. That’s the mark of a great company. Today, the winds of change are more brisk than ever before and this macroeconomic volatility sometimes makes it difficult to know which way those winds are blowing.

Once again PBG’s ability to adapt is being tested and there is no doubt that we will face challenges but I am confident that our track record of successfully adapting to change will enable us to not only weather this storm but ultimately emerge from it as a stronger company than ever before.

And with that, we would be happy to entertain any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Lauren Torres – HSBC.

Lauren Torres - HSBC

You left out any volume or pricing guidance or outlook for this year, but just on a very broad case or broad perspective that you may have at this point, I was curious if you could give us a sense, maybe more so for the U.S., as far as expectations about getting volumes growing again. And also, with that said, thoughts on the pricing for this year.

Eric J. Foss

Let me take and I will ask Rob to add some commentary on the pricing front. First of all let me say that we continue to be very focused on volume. I think if you look at 2008, really you saw for the first time in over five years where we have seen volume declines. Obviously part of that was due to the commodity pressures we knew going into the year and the pricing that we had to take to cover that, but a big piece of that was just the economic environment and the recession that we are dealing with.

But again, if you look back prior to 2008 and those economic pressures, I think you will see that PBG is a company that posted something like 5% to 7% top-line growth consistently year in and year out.

There are really three things we are doing as we focus on volume. Number one is we’re trying to strengthen our brand portfolio. I mentioned we like the Pepsico innovation pipeline, the addition of Crush, Muscle Milk, and Lebedyansky help us close gaps in our white space and build scale.

The second thing, and one that we think we are starting to get some key learnings on, is that we have to stay focused and make sure in this environment we are delivering the right consumer value impression at retail. And whether that be through some of the price pack work we’re doing on single-serve and take-home cans or just having lived with this for a year now, I think this year we go in better prepared with more volume-building initiatives and packaging initiatives. I mentioned the 8-pack LTL earlier. I think we’re just better prepared with a better arsenal of weapons to really focus against volume.

And then obviously third, you’ve got to be great at the point of sale and drive display inventory and execute well.

So I think our volume we expect, pretty much across geographies, our category assumption right now based on the GDP pressures, is probably kind of low-single-digit declines.

Now having said that, I will tell you, in the U.S., while one period does not a trend make, if you look at the performance of our U.S. business at the category level, you saw for 2008 the category of LRVs down about 2.5%, Q4 was a little softer at down 4%, CSDs were down mid-single digit during both Q4 and full year. If you look at the first month in measured channels, the LRV category actually was flat and CSDs improved and were flattish versus that mid-single digit decline.

So I think you will see us continue to be very focused on volume.

Robert C. King

On pricing, I would say in the U.S. we are looking at mid-single digit price increases next year, around 5%, versus prior year. I think that you know that we have different pricing across the country by package, but at the end of the day it’s got a 5%.

Our pricing is in effect. We took our price increases post-Labor Day. Those price increases are holding. I would say the market is rational right now and as Eric mentioned, we certainly have a sensitivity to consumer value in these challenging economic times. But we think our current business plan allows us the right level of flexibility to have the right level of promotional frequency in support of our brands to meet that business challenge.

Lauren Torres - HSBC

And the timing of pricing this year, is it similar to what we have seen in previous years?

Robert C. King

Yes. In 2008 we took pricing post-Labor day and our business plan would be to execute the same strategy in 2009.

Operator

Your next question comes from Judy Hong - Goldman Sachs.

Judy Hong - Goldman Sachs

I was hoping you could address the transactional exposure in a little more detail. I think the $0.18 is pretty clear, that’s translational. And then you’ve talked about the $150.0 million additional transactional exposure. I am hoping you could give a little more color in terms of what part of your cost structure is in U.S. dollars.

And then in relation to that if we then back our your transactional exposure, it sounds like your local currency profit growth is actually going to be much stronger than that low-single digit profit/growth that you’ve talked about. So what gives you confidence that you are actually going to be able to offset this transactional exposure on a local currency basis?

Alfred H. Drewes

There are a number of questions there. When I’m talking about transactional exposure in the $150.0 million, by and large that is COGS and it’s in Russia, Mexico, and Turkey, that are purchased in dollars and not in local currency. There are some other smaller items that relate to some marketing materials that may flow through the SD&A line but the big number is really in the COGS.

In a normal year you kind of just factor that into the numbers and we wouldn’t even really talk about it a whole lot. And as I think I said in the script, you look for either pricing or productivity to offset it. We highlight it this year obviously because of the magnitude of the foreign currency devaluations but our plans are the same, which is either through pricing or productivity initiatives to offset that. And that is why I was talking specifically about wanting our countries to focus on local currency profit targets this year rather than dollar profit targets. They have got to try and manage through that.

Were there some other questions?

Judy Hong - Goldman Sachs

I am just wondering, because you have talked about in the past, you are able to offset it with productivity savings or pricing, but clearly this year this magnitude of the transactional headwinds is much greater, which means that you are going to take either more pricing or productivity savings are going to be much greater than in the past and I’m just wondering if you can kind of walk through how you’re thinking both from pricing offsets or cost savings offsets in terms of the $150.0 million.

Eric J. Foss

I think Al mentioned earlier that this has been a fairly dynamic planning environment and so as we have gone through this I think we have gone through several scenario plans and contingencies that we have built. Again, the good news is that the Structured to Succeed initiative helps prepare us to deal with some of this and I think that, coupled with some of the other changes we are making on a local basis in the area of cost and productivity, allow us to offset most of this. And so our desire would be for a lot of it to come through the cost and productivity line. There are some pricing initiatives as well, particularly if we are dealing with inflationary environments but I think those are the two ways to offset that.

Alfred H. Drewes

Just remember we said a couple of things on productivity. One is the Structured to Succeed had a big component of Mexico in it, which talks about for a number of quarters. And the other thing is we have said in Russia, we are shifting our focus a little, and we’ve also talked about this in the last couple of quarters, we are shifting our focus to take a sharper pencil on the productivity side and also capital and working capital management. So I would just add those two more thoughts.

Judy Hong - Goldman Sachs

Any color you could give us in terms of the channel mix in the fourth quarter, media consumption versus take home, and then how you think that trend will evolve as we look out at the rest of 2009.

Robert C. King

As we exited the fourth quarter in the U.S. our cold drink business was soft, it was down about 9% versus the prior year. And our take-home business was soft as well. It was better than the cold drink business but it was also down high-single digits. So as Eric mentioned, as we started this year we have seen certainly improvement in those trends.

I think what you can look to this year is continued pressure on the cold drink side of the business. I think as we have mentioned to you many times before, our food service business represents about 60% of our cold drink business and the weakness in the food service business will likely persist. We think retail trends will improve as consumers shift their food and beverage consumption to the retail channels for at-home consumption.

And then as we focus on our business plan for 2009 behind our brand proposition, with all the innovation that we have and our execution of retail, we think that our performance will actually improve versus the category and we will gain share.

Operator

Your next question comes from Kaumil Gajrawala – UBS.

Kaumil Gajrawala - UBS

As it relates to the investments Pepsico is making in the U.S., do you have any incremental promotional commitments or any specific volume targets that you now need to hit?

Eric J. Foss

I think most of the investment that they have identified is behind the brands, which is exactly where we want it. So obviously you have seen a fairly big investment behind Breathtaking, with what they did over the New Year’s holiday and some of the exposure they had on TV. That continues. And so I think most of the investment is targeted against brand support and innovation and the answer to your question on any volume target we have to hit, the answer is no.

Kaumil Gajrawala - UBS

They didn’t ask for any incremental investment from your side as well?

Eric J. Foss

I think through the planning process. Nothing that we wouldn’t have normally gone through in any annual planning cycle. So when we sit down and do our annual operating plans together, there’s their money and investment that go largely on the branding innovation side and there’s our moneys that largely go into the marketplace or on the pricing side and execution side. So nothing extraordinary, no.

Kaumil Gajrawala - UBS

On the brands such as Muscle Milk and Crush, can you maybe provide some light on if there are any other particular categories that you are interested in and how big is, perhaps as a percentage of the U.S. business, these ancillary brands can eventually become?

Eric J. Foss

I think a couple of things. First of all, again, let me just take you back to kind of our mindset which is we want to be a number one or strong number two in each of the segments we operate in. we identified an issue in the fruit-flavored CSD category. I think the combination of that, which we kind of consider closing a gap, and then also this Muscle Milk opportunity where we are kind of entering kind of a new emerging, growing category, we think those two can be a point and a half or two of volume growth for us this year. So not insignificant.

Relative to other opportunities, I would say another opportunity that we continue to have a lot dialogue on is the energy category and we would like to strengthen our position there. But that’s probably an area where we will continue to spend some time and effort against.

Operator

Your next question comes from John Faucher - JP Morgan.

John Faucher - JP Morgan

You talked about the improvement in the trends into January and you said that overall the cold drink business remains weak. Are you seeing any improvement in the CNG channel specifically, in terms of looking at that piece of your cold drink business. And I would assume that given the move to flat in January, take-home would have to have been improved as well. Are you seeing any differences in terms of club versus mass, what have you, as you look at that improvement in performance.

Robert C. King

What I would tell you on cold drink is that the weakness in food service persists and yes, we are seeing improving trends in the retail side of the business, and that would be both in the large format side of the business and also in the small turn out side of the business versus the exit rates in the fourth quarter. So that’s number one.

Number two, as you look at these take-home channels, and I think you asked specifically about club and other channels, the what we call ally channels, the non-grocer channels, like club stores, have historically outperformed, over the past couple of year, traditional channels and we see those trends continuing.

Eric J. Foss

I just want to make sure I’m clear. The numbers I gave you earlier were category numbers, for the first four weeks. I also want to point out Al’s point. Remember Q1, the impact of Easter and the trading days internationally. That’s worth about three points.

John Faucher - JP Morgan

On the CNG side, do you think that’s lower gas prices, are you converting more of these trips, any further insight or is it too early to say that you have actually seen a change in trend?

Robert C. King

I would tell you that it’s a little early to suggest that the consumer has completely changed their behavior in that channel. What I could tell you is that we are activating a very aggressive innovation in brand-building strategy, in small format, with the launch of Mountain Dew Voltage. And right now we with the launch of Crush. We do have good value programs right now in CNG to stimulate consumer demand and we are thoroughly focused on our execution and service in that channel to provide a competitive point of difference.

So we think those three things are combining to move our business forward.

Operator

Your next question comes from Christine Farkas - Bank of America Merrill Lynch.

Christine Farkas - Bank of America Merrill Lynch

I’m hoping I can get a little clarity on your international performance, specifically even full year volume performance in Russia, Turkey, Greece, and Spain, and perhaps Canada, on how your share performance as there, and then similar to your commentary in the U.S., if January trends are looking different at all overseas?

Eric J. Foss

Again, there are several questions in there. I think if you look at full year 2008 our Canada volume was flat. Our Europe volume was down about 3%. Our Mexico volume was down about 5%.

If you look at our share performance, we grew our share in Canada. In Mexico we grew our share in modern trade, we had a slight decline in traditional trade, and we grew our share in Russia as well.

Christine Farkas - Bank of America Merrill Lynch

Any country granularity with respect to for example, Russia and Turkey and how they had done in the fourth quarter and the full year?

Alfred H. Drewes

Russia was essentially flat for the year. We had strong growth in the first half and sort of mid-single digit declines in the second half of the year. Turkey was down a little bit, low-single-digit decline in Turkey. Again, good growth in the first half, some softening in the second half of the year in Turkey.

Christine Farkas - Bank of America Merrill Lynch

Any notable trends in early January?

Eric J. Foss

Again, I think it’s too early to tell. It’s obviously a small quarter for us in Europe and our international markets and I think the performance of the business internationally has been pretty consistent with what we expected.

Christine Farkas - Bank of America Merrill Lynch

The accounting for the Lebedyansky, if I understood you correctly, will be an equity line in the corporate unallocated but an offset in SD&A, is that right?

Alfred H. Drewes

No, not at all. So the income will just be booked in SG&A as income in SD&A, it will be offset to SD&A. I mean, there is some minority interest component down below but it will be in SD&A.

Operator

Your next question comes from Mark Swartzberg - Stifel Nicolaus.

Mark Swartzberg - Stifel Nicolaus

Rob, as you mentioned planning price Labor Day, I know it’s rather early in the year, but can you talk a little about the thinking there with commodity costs expected to provide some relief and potentially some incentives to get more promotional to drive volume. And then unrelated, but it’s also early, but Stevia innovation, can you talk a little about your own view of any benefit that might to your business.

Robert C. King

Let me comment on pricing in the coming Labor Day. I mean, it’s really kind of early to be talking about that, so we will see how the year tracks.

And then Mark, what I would tell you on Stevia we are excited and optimistic about Stevia. I think you should know we are right now launching a number of flavors within our SoBe LifeWater brand with Stevia. We think a natural sweetener without calories is a positive addition to the LRB space and we are continuing to work with our partners at PC&A on other brands that we can extend the Stevia sweetener to and I look for this to be a positive addition to the category.

Mark Swartzberg - Stifel Nicolaus

Are you seeing anything market-based to affirm any particular innovation or discount some of your expectations?

Robert C. King

It’s just way too early, based on the availability of Stevia-based products, I think, to suggest that there’s in-market results. What we do know is that this addresses a specific consumer need and we think that as we build this scale over time with other products, it’s going to help the category.

Operator

Your next question comes from Alec Patterson – RCM.

Alec Patterson - RCM

Just was curious on the Lebedyansky contract account. Can you give us a sense of scale? It’s going to be very distorting to SD&A analysis or is it so small that we really shouldn’t worry about it? And then also just curious, private label obviously had a very strong uptick, unseemingly widening price gaps in the fourth quarter. Can you give us a sense of how that’s trending on any sense you have on how the pricing added to the private label is playing out in the marketplace currently?

Eric J. Foss

I think what we will do on Lebedyansky is we will talk about the results as the year unfolds and the impact it has on the SD&A account there.

Robert C. King

I’ll address private label. Private label, certainly in carbonated soft drinks, did see some positive share in volume movement, primarily in the fourth quarter of last year. Just for context, private label and carbonated soft drinks has typically ranged somewhere between a 10 and a 12 volumetric share, really over the past decade or so. And its value share, or share of revenue, is usually in the mid- to high-single digits.

We have watched private label and managed against private label for many, many years and we think we know the clear strategy to defend our business in the national brand business against private label. So number one, you do have to be cognizant of the price gaps between national brands on things like 12-packs and 2 liters, and we’re working with our retailers to ensure that we have the right gap between us and those products.

Number two, though, it’s not just pricing. It’s you have to have great brand building and you have great innovation in your pipeline and we have what I believe is some of the best innovation in our DSD pipeline this year.

And then finally, we leverage our DSD selling story, which is the power of the PBG organization to execute and provide service at the point of sale. I think most of you know, if not all of you, that with retail sales under pressure, one of the first things that retailers do is look at their labor costs as a vehicle to manage their business. DSD helps them offset those costs at retail and so we believe that that is a big competitive point of difference for us.

So price gap management, the innovation pipeline, and then leveraging the DSD story that we think is our strategy to defend our business against private label.

Alec Patterson - RCM

And I understand the innovation and the DSD leverage and that’s been an ongoing initiative, but the price gap is obviously the one that has had the biggest impact recently so I’m trying to get a sense of current trends, whether you are responding to their pricing or are you seeing them start to reverse fourth quarter promotions and re-establish the price gap that existed back in the summer/Labor Day time frame.

Eric J. Foss

First of all, I think, again, if you look at difficult economic times, the fact that private label sees a slight uptick, that’s probably fairly consistent with past recessionary time frames. I think one of the keys to understand here is while it may look like private label is a consumer-driven phenomenon, in most cases, at least history would tell you, it’s as much a retailer-driven phenomenon as it is a consumer-driven phenomenon. In other words, the retailer that is pushing private label through their ad strategy or display inventory strategy in store. So again, one of the things that’s proven out in every instance, is while the retailer can grow their own private label business, it doesn’t lead to overall category growth for them and therefore their all commodity volume tends to suffer.

So from our vantage point, again, this links back to Mark’s question, our approach to pricing starts and ends with the consumer, so we are very focused on making sure we have the right price value impression out there and you can expect us to monitor the private label situation very closely and to Rob’s point, manage the gap appropriately to make sure that we protect our business.

Operator

Your next question comes from Bill Leach – [TIA Cress].

Bill Leach – [TIA Cress]

Al, did you give out full year guidance for interest expense and shares outstanding?

Alfred H. Drewes

Interest expense is 325 to 350 and I didn’t give any guidance on the shares outstanding.

Bill Leach – [TIA Cress]

Do you plan to continue to buy back your shares at such a rapid rate?

Alfred H. Drewes

Well, if you think about what we do with our cash flow, the first thing we do is reinvest in our existing business. The second thing we try and do is do acquisitions. And then the third thing we do is return money shareholders. I would say on the share buybacks we are going to proceed a little more cautiously than we would have a few years ago, just as we watch how the year evolves. I would like to be very aggressive but at the same time I think there is an economic environment here that calls for a planful approach to this.

Bill Leach – [TIA Cress]

So if we assume like a 5% decline similar to the last few years that would be okay.

Alfred H. Drewes

Why don’t we see how the year unfolds.

Operator

Your next question comes from John Gilmore – Credit Suisse.

John Gilmore – Credit Suisse

Just thinking about Mexico, it looked like at the back half of last year that the business was being reset but I think a lot of that seemed to take place before the macros continuing to slide. Should we be expecting for further readjustment to the Mexico business, going forward?

And historically, brand Pepsi has experienced competitive pressures in Mexico during recessionary periods, and I’m curious if this is a concern going forward in 2009.

Eric J. Foss

I think our focus is to continue to try to put our Mexico business on solid financial footing. And what you saw us through last year as a result of a lot of the segment profitability work we did was really focus on doing that and so we improved our net revenue per case up 6%. Our gross profit per case also was up 6% and as we went into the fourth quarter and went through this Structured to Succeed initiative, our focus is really on streamlining our cost base and optimizing our go-to-market structure.

So, again, I think the macro challenges we’re dealing with down there, on a near-term basis, job loss, loss in real wages, will be continued challenges for the category but I think the work we’re doing to improve our margins, continue to focus on productivity, are the right moves.

Relative to your question on brand Pepsi, the reality is that the cola franchise down there, we don’t start from a position of strength. We are actually much stronger in the flavored CSD category, as well as non-carbs and water. And so any time we do see any migration out of the cola category that actually helps us. But I think you can continue to see us play the game we’ve played which is really all about putting that Mexico business on the right financial footing.

Operator

Your next question comes from Salso Sanchez – Citi.

Salso Sanchez – Citi

You spoke before about the more dynamic planning process. I wonder from both an economic model and to some extent the price pack, if you could incorporate that into the discussion, how compatible do you think they are with a more dynamic environment in this earning possibility that you might look at more aggressively rolling the price back. I understand the LTL is coming out in a few weeks. You had said in the past that by the end 2009 you expected to have your price pack work set. Is it possible that might advance a little bit and would that also be helped potentially by perhaps reconsidering the economic model with Pepsico in light of what your competitor is doing.

Eric J. Foss

A couple of things. I think on price pack, again, our objectives in the test markets were to see if we could find a better value impression. That’s a) through a better entry price point and b) through more weeks in value. The second objective was to see improved volume, and the third was to have margin runway.

So I think what we are finding, particularly in the take-home can test, the 8-pack and 18-pack markets, is that, particularly for the off-ad weeks, the 26 weeks where we’re not in the ad, we’re seeing improved volume performance. And then I think relative to the ad weeks, what we’re still working with is kind of a pack rate dynamic, particularly on 8-packs.

So we are continuing to tweak the test markets. At this point in time we don’t have any plans to extend that until we get the full read of those test markets, which we would expect to have the end of first quarter.

But what we are seeing is we are driving more weeks in value and a lower entry price point which we think is absolutely the right thing to do in this environment.

Relative to the question on the economic model, again, you have heard us talk in the past that we are open to any change in the economic model if it makes sense for the enterprise. We continue to have dialogue with Pepsi on that topic. But again, the real challenge here is all about growth, not about whether you’re in a concentrate model or in an incidence-based pricing model, or in a joint venture.

I mean, we have all three of those across our geographies. I think the real question is, how do we get more growth into this business and to me that’s a more important question than the mechanism in which we interact with our brethren at Pepsico.

Salso Sanchez – Citi

So you are not necessarily convinced that one model or another is more suitable for the dynamic environment that we’re now in the U.S. and haven’t been in a similar environment, at least in the recent past?

Eric J. Foss

I think my experience, Al has had plenty of experience with different economic models obviously Pepsico has, is that there are certain models that might be certain models that might be more appropriate. We have a variety of models today and we are open-minded if it makes sense to change the model.

But again, my point is that is really all about creating more growth. And to me, if the economic model helps do that then it’s probably a great idea.

Operator

Your next question is a follow-up from Mark Swartzberg - Stifel Nicolaus.

Mark Swartzberg - Stifel Nicolaus

Regarding pension, understandable it’s going up to the $150.0 million contribution you plan for 2009. You talked about a $580.0 million increase in the unfunded liability. What conclusion should we draw there? Is there something I’m missing in why it’s not going up more or are you just going to be making more significant contributions over the next few years?

Alfred H. Drewes

No, the main point of that was the cash flow impact of that is substantial in 2009 and depending on what happens with the discount rate, I can’t tell you what’s going to happen at the end of this year when the discount rate comes in. We could conceivably have higher funding levels for the next few years. But if things turn around it might go lower, too. So the main point of it was just the cash flow and P&L impact of it in 2009.

Mark Swartzberg - Stifel Nicolaus

But knowing what you know today, it’s obviously going to have to be at this higher level for a while.

Alfred H. Drewes

If things stay the way they are it will be about the same level for the next few years.

Mark Swartzberg - Stifel Nicolaus

As far as the transactional ForEx, this $150.0 million, what variability is there to that number? Is that subject to changes in exchange rates or have you already made all the commitments you’re going to make, have you purchased the hedges to net out to $150.0 million this year, or round about $150.0 million.

Alfred H. Drewes

It’s pretty hard to hedge some of that right now because you are talking about hedging the ruble and the peso and you can do it but it’s very expensive. So there are some hedge positions on those purchases but they’re not extensive at this point, the currency piece of it. Our overall raw material situation is about 80% locked at this point. But again, the transactional piece can move up and down with the foreign exchange during the course of the year.

Mark Swartzberg - Stifel Nicolaus

So it sounds like most of that $150.0 million is subject entirely to how the peso, and the ruble, and so forth move?

Alfred H. Drewes

A big piece of it will be, yes.

Eric J. Foss

With that I want to thank everyone joining us today and we look forward to seeing many of you next week at Cagney.

Operator

This concludes today’s conference call.

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Source: Pepsi Bottling Group, Inc. F4Q08 (Qtr End 12/27/08) Earnings Call Transcript
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