Fortune Brands, Inc. Q3 2009 Earnings Call Transcript

| About: Beam, Inc. (BEAM)

Fortune Brands, Inc. (FO) Q3 2009 Earnings Call October 23, 0000 5:00 AM ET


Bruce A. Carbonari Chairman of the Board, Chief Executive Officer

Craig P. Omtvedt Chief Financial Officer, Senior Vice President


Derek Leckow - Barrington Research

Peter Lisnic - Robert W. Baird & Co.

Lindsay Drucker Mann - Goldman Sachs

Ivy Zelman - Zelman & Associates

Thomas Mahoney - Cleveland Research

Ann Gurkin - Davenport & Co.

Shannon Joseph - Wells Fargo Securities

Kevin Dreyer - Gabelli & Company


Good morning ladies and gentlemen, I would like to welcome everyone to the Fortune Brands, Inc. Third Quarter Earnings Conference Call. (Operator Instructions). I would now like to introduce your host for today’s call Mr. Bruce Carbonari.

Bruce Carbonari

Welcome to our discussion of Fortune Brands third quarter 2009 results.

Please note that our presentation includes forward-looking statements. These are subject to risks and uncertainties including those listed in the cautionary language at the end of our news release. Our actual results could differ materially from those targeted.

Also, this presentation includes certain non-GAAP measures that are reconciled to the most closely comparable GAAP measures in our news release or on our Web site in the supplemental information link in the Web cast page.

I think we had some technical difficulties so I will get back to our presentation. Sorry for those difficulties. I already talked about the cautionary language so I will move on to the main dialogue here.

Despite the challenges of the global economy and the overall US housing market Fortune Brands continues to deliver results and operating margins at the forefront of our categories. Each of our businesses performed at our above our expectations in the quarters. Consumers are clearly remaining cautious, but our innovative new products, trusted brands, and compelling value propositions are helping us compete successfully in the market place.

In the third quarter we also remained focused on our successful initiatives to reduce cost structures, improve global supply chains, and enhance our cash position. All of these initiatives are benefiting Fortune Brands and are helping us position the Company for growth. Let’s start with an overview of our businesses.

Fortune Brands continues to benefit from the stability of our Spirits business. Spirit sales were flat in the quarter helped by higher sales of Jim Beam bourbon and Canadian Club whiskey, the Cruzan acquisition and strong growth in emerging markets. These are offset by soft results in other international markets. Spirits revenues also benefited from the required accounting for our Route to Market initiatives largely offset by unfavorable foreign exchange.

Amid signs that the US housing downturn is decelerating our share gain initiatives across product categories helped sales in our Home Products business decline at a more moderate pace than in the prior two quarters and in Golf we out performed the industry with successful new products and double-digit constant currency sales gains in Europe and Korea that partly offset a double-digit decrease in the United States.

Now let’s take a closer look at the numbers for the quarter. Net income for the quarter was $124 million or $0.82 per diluted share. EPS was impacted by a net gain of $0.05 per share in the quarter. Craig will discuss the 1x items in a moment. Excluding 1x items diluted earnings per share before charges and gains was $0.77 down from $1.11 in the year ago quarter. Net sales were $1.72 billion; that is down 11%. Sales would have also been down 11% on a comparable basis. That is defined as excluding excise tax, foreign exchange, acquisitions and the impact of the required accounting related to the Spirits Route to Market initiatives.

For the second consecutive quarter sales declined at a more moderate pace than in the prior quarter on both a reported and a comparable basis. Comparable net sales were off 4% in spirits, off 7% in golf, and 17% lower in home and hardware. Reported operating income came in at $204.5 million. On a before charges and gains basis operating income was $212.6 million for the quarter; that is down 27% largely reflecting the impact of previously disclosed costs associated with our Route to Market initiative as well as the adverse operating leverage in the home products and golf segments tempered by the impact of lower cost structures in these businesses.

Reviewing our assets and investment return measures, after tax return on net tangible assets before charges and gains was 14%. Working capital efficiency came in at 38%, absent maturing inventories or spirits working capital efficiency was 21% up slightly. Return on equity before charges and gains were 7% and return on invested capital before charges and gains was 5%.

In the third we continued to make progress in each of our businesses as we adjust to the evolving consumer and focus on gaining profitable market share. We also continue to improve cost structures, our global supply chains, and our productivity. We believe that delivering value to the consumer is critical in the current environment and value doesn’t necessarily mean price. It means brands and products that consumers trust, innovations that deliver tangible benefits, and providing consumers with choices across various price points.

To enhance our competitive position we have continued to innovate and build our brands during the economic downturn. These investments are paying off across our categories. In spirits Red Stag by Jim Beam has quickly become one of the most successful new spirits products in years. Red Stag bourbon infused with natural black cherry has been attracting new consumers to the bourbon category without cannibalizing other bourbon products. We now expect to ship more than 10,000 cases of Red Stag in 2009 and remember we just started shipping the product in May.

Sauza Margarita in a Box continues to significantly exceed our expectations. This product has been an excellent innovation for the at home entertaining and supports the trend of consumption off premise. Following our introduction of new packaging for Cruzan rum earlier in the year we recently launched the most sweeping positioning campaign yet for the brand. The Legendary Rum of San Croix campaign is elevating the profile of Cruzan with nationwide point of sale activation. Let me add that we signed a long-term agreement earlier this month with the government of the US Virgin Islands to continue producing Cruzan in San Croix. That agreement will be considered by the Virgin Island Senate next week.

Looking to the fourth quarter in spirits, we are shifting brand investment to align closer to the holiday selling season. That includes ramping up brand investment behind Jim Beam with new TV advertising that begins this week on major cable networks. You will also see new ads for EFFEN vodka and we are planning a promotional activity around the new supply of Knob Creek that will be coming online in the days ahead.

In home products we are gaining market share with a host of new products including Moen’s line of eco-friendly faucets and showerheads, cabinetry lines covering new price points at home centers, energy-efficient glass packages from Simonton windows, advance design garage organization products from Waterloo and innovations such as a speed dial for Master Lock, which has become one of the brands most successful new products ever.

In golf our new product pipeline continues to deliver a steady stream of advanced technology in products: as a result we strengthened our appeal to avid golfers and continue to perform especially well at the high end of the market.

This has just unveiled the next generation AP1 and AP2 irons as well as the new CB and MB forged irons. Cobra recently launched a new S2 irons and just his week introduced the new zero limit or ZL driver and FootJoy is extending its leadership in golf footwear with a new ICON line and we are very excited about the forthcoming FootJoy sports series. At the same time the 2009 Titleist Pro V1 family of golf balls continues to expand its market leadership and we are preparing to launch new critical golf ball models here in the fourth quarter.

Those are just a sampling of things we are doing to profitably compete in the market place, gain share, and adjust to the evolving consumer.

Through out the downturn we have been committed to keeping consumers excited about our brands and products with a steady focus on new and innovative products and brand investments. At the same time, to protect and enhance margins and help position the Company for a strong growth when the economy recovers, we are also continuing to aggressively reduce cost structures, enhance supply chains, and improve efficiency across our operations. Over the past few quarters we have discussed our initiative to build a high performance organization in our Spirits business including our next generation Route to Markets.

These moves have elevated our consumer insights and new product development program, brought us closer to the customer, and given us much greater control over the sales and distribution. We like the progress we made with these initiatives and we will continue to build on that progress to enhance the long-term growth profile of the business. Earlier this week our Beam Global Spirits business announced the logical next steps in its ongoing initiatives to strengthen its long-term performance and enhance the efficiency of the organization. These steps included aligning into six cross-functional business teams, three in the US and three internationally, each with its own P&L responsibility. This new alignment will enhance how we position, activate, and sell our brands.

The US team teams are built around customer buying categories, the first of which is the bourbon category; the second team is the mixables team which includes tequila, rum, vodka and cordials, and the third team is built around the classics comprised primarily of cognac, scotch, and Canadian whiskey. Internationally we have united two European regions into one resulting in three international regions, Europe, Asia Pacific, and the rest of the world which includes the emerging markets in travel retail.

In the US we have also aligned the sales organization by distributor rather than geographic region to fully leverage the benefits of our new performance based contracts and distributor partnership programs. Under the leadership of our new Spirits CEO Matt Shattock these steps will build a simpler, smarter, faster organization of freeing up resources that will support stepped up brand investment.

Over the past year we have built our new global Route to Markets and now initiated the realignment in the commercial business teams. This now completes the major restructuring initiatives around sales and marketing in the US. Even as the decline in the US housing market appears to be decelerating we are continuing to reduce cost structures and improve supply chain efficiency in our home products business.

In the quarter we announced the quarter we announced the closure of the Canadian padlock plant and we have integrated those operations into our Master Lock supply chain. We have also moved to integrate our Fypon urethane millwork brand into ThermaTru doors operations and sales organization. We have also had further workforce reductions at select home products facilities to align production with marketplace conditions.

At the same time, we are pleased that our signs and window business has been able to recall approximately 450 associates benefiting from seasonality and demand generated by the consumer tax credit for the purchase of energy-efficient home products.

While maintaining strategic investment in new products development and international growth our golf business also continues to aggressively manage costs across its operations.

As we move forward we remain focused on our initiatives to out perform in the market place and position Fortune Brands for strong growth when the economy recovers. We are doing that by first adjusting to the evolving consumer and energizing the marketplace with innovative new products; second, by reducing cost structures and enhancing supply chain flexibility; and third, aggressively managing our costs to strengthen our balance sheet and enhance our financial flexibility. The cash management initiatives we announced earlier in this year are on track to deliver our enhanced target for free cash flow.

Now here is Craig with a closer look at our markets and the third quarter performance for each of our segments. Craig?

Craig Omtvedt

Thanks Bruce. We will start with spirits. The spirits market continues to hold up relatively well. While we have certainly seen lower consumption by consumers at on premise restaurants and bars that has been offset by a shift in consumption to at home. To some degree we also continue to see some level of consumers trading down. We estimate industry volumes and value in the US are both up in the range of 1%.

Internationally markets continue to be mixed as economic weakness challenges markets in Western Europe and Mexico while Australia, our largest international market, is growing and the emerging markets demonstrate healthy growth patterns. Against this backdrop our spirit sales for the quarter came in at $637 million level with last years third quarter record. Sales were up 4% on a comparable basis and that excludes the impact of foreign exchange, excise taxes, the Cruzan acquisition, and the impact of required accounting related to our Route to Market initiatives.

Geographically our comparable sales in the US, excluding excise taxes, were down modestly in the quarter and up slightly year-to-date.

In constant currency third quarter sales outside the US were off at a high single-digit rate excluding excise tax. Strong double-digit growth in the emerging markets of Brazil, India, and China were offset by lower results in Spain, the UK, Germany, and Mexico. Australia was off slightly.

Operating income in spirits came in at $145 million and that is down 3%. On a comparable basis before charges spirits OI was off 14% primarily reflecting the impact of costs we have previously discussed associated with our Route to Market initiatives.

Product mix and timing of expenses also impacted results.

Turning to the markets, in the US our year-to-date completion case volumes remain off at a low single-digit rate. Even so, US depletion revenues for our global brands are up 3%. In markets outside the US our depletion case volumes remain down at a high single-digit rate. Year-to-date volumes are flat in Australia, off slightly as expected in Spain and Canada, and down at a double-digit rate in the UK, Germany, Mexico, and duty free. At the same time we are generating solid growth in Brazil and New Zealand and double-digit growth in India.

Looking at the year-to-date performance of our key brands, and as usual, this is on a constant currency basis and excludes excise taxes.

Starting with our industry leading bourbon portfolio, while global volumes for Jim Beam remain off at a low single-digit rate, year-to-date case volumes for Jim Beam have turned positive in the US now up 1%. The Jim Beam franchise gain dollar share in the US in the quarter, we are seeing pricing benefits in the US for Jim Beam as depletion revenues are up 8%. The popularity of Red Stag continues to build, as Bruce mentioned, and add to Jim Beams results.

In international markets, performance for Jim Beam have stabilized in Australia following the 2008 RGD tax increase in the world’s No. 2 bourbon market. Beam is also performing solidly and gaining share in Germany, the No. 3 bourbon market. Soft results in the duty free channel have offset some of the brands gains.

Makers Mark is demonstrating double-digit growth in depletion revenue in the US and it is continuing to expand internationally led by very strong growth off a relatively small base in Australia.

In Tequila Sauza volumes and depletion revenues remain off at a high single-digit rate year-to-date. In the quarter solid depletion gains in the US were more than offset by lower volumes in Mexico. Results in Mexico reflect trade inventories that remain elevated due to our previous distributor arrangement, as well as the difficult local economy and reduced travel. Here in the US modest growth for super premium Sauza Hornitos continues to lead the brands year-to-date performance. We also saw improving US share trends for Sauza Gold and Blanco in the quarter.

In rum Cruzan case volume remains up at a double-digit rate.

In cordials, sours continue to grow in Europe tempering lower volumes in DeKuyper in the US.

In cognac Courvoisier volumes remain off at a double-digit rate in the challenging cognac segment. Even so, on a depletion revenue basis the brand is off single-digits in its largest market which is the US and the UK.

On Canadian global volumes for Canadian Club are off slightly year-to-date. In the US depletion revenues are up 4% benefiting from a strong third quarter performance and at the same time Windsor Canadian whiskey continues to grow at a solid pace.

In scotch soft results for Teachers and Laphroaig in the UK are offsetting growth for Teachers in Brazil and India and Laphroaig here in the US.

As you know the fourth quarter is a seasonally largest for spirits. We feel well positioned for the holiday selling season with our enhanced Route to Market and distributor inventories, with emphasis on distributor inventories that are in balance.

We currently expect that we will deliver underlying operating income for the full year in spirits that is flat to up modestly, and as a reminder that excludes the impact of FX, Australia RTD, acquisitions, and the cost for our Route to Market initiatives.

I have a couple of final notes on spirits. As we have indicated in prior quarters we expect our full year spirits results to reflect net costs in the range of $30 million related to our Route to Market initiatives. Also, we now expect adverse FX will run about $10 to $15 million for the full year and that is the benefit of the weakening US dollar.

Well brand spend is lower both on a third quarter and a year-to-date basis, as we indicated last quarter we are ramping up brand investment here in the fourth quarter for the holiday season and we are going to continue that into 2010.

Lastly as a reminder, we have now annualized the more consistent and balanced inventory levels established at the end of 2008 as part of our inventory management component of our distributor partnership program.

Now turning to home and hardware, first I have a word about the markets. While there are signs of emerging stability in the new home construction market, we continue to believe that home products industry sales are on track to decline in the range of 25% for 2009 but perhaps a point or two better than previously projected. That estimate incorporates the impact of trading down and lower discretionary spending for big-ticket products including cabinetry, a segment that continues to lag the broader market as many consumers defer large-scale remodeling projects.

On the upside, we are seeing slightly better new home construction activity particularly for entry-level homes. It may very well be that this is a pull forward in demand in advance of the expiration of the first time homebuyer tax credit. In this environment third quarter sales for our home and hardware business were $802 million, off 18%, but ahead of the overall industry. Sales declines have moderated in each of the past two quarters. On a comparable basis, excluding FX and acquisition divestitures, sale in home products would have been down 17%. Our year-to-date sales are off 23% on a comparable basis.

While well below a year ago, operating income also continued to improve sequentially. Home and hardware delivered $75 million of OI before charges in the third quarter; that is up from $44 million in Q2 and in OI before charges margins of 9.3%. These results reflect better operating leverage including the ongoing benefits of our aggressive initiatives to reduce cost structures in this business, as well as our share gain initiatives.

Turning to the businesses, at Moen sales declined at a low double-digit rate as modest decreases in the retail channel tempered the impact of larger declines in other channels. The No. 1 faucet brand in North America continues to gain share at home centers with expanded shelf space, as well as the industries broadest offering of eco-performance faucets and shower heads.

Cabinetry sales were down at a mid-20s percent rate on modestly lower results at home centers and larger declines among dealers and builders. We are continuing to gain significant share at home centers which are capturing a larger share of total cabinetry purchases. We are benefiting from new product lines and new offerings across price points.

While our ThermaTru door brands saw sales decline in the range of 20% sales of Simonton windows were off at a single-digit rate. Simonton continues to benefit from new demand and favorable mix generated by the stimulus packages consumer tax credits for energy efficient home products.

In security and storage products Master Lock was down at a mid-teens rate due to a challenging comparison last year as well as softness in commercial and industrial sales this year.

Waterloo sales grew modestly in the quarter benefiting from load in at a new major home center customer.

As challenging as the home products market has been we are pleased on two fronts: first that our business is outperforming the marketplace and second that our efforts to reduce cost structures have helped drive industry leading operating margins while maintaining flexibility to boost production when conditions recover.

Her in the fourth quarter even with the benefit of our cost actions we will face significant adverse operating leverage due to the seasonally small revenue nature of the fourth quarter. Additionally, while we are seeing some level of improvements in new home construction we expect the replace/remodel segment of the market to again be down double-digits here in the fourth quarter.

Turning to 2010 for a moment, and admittedly we are still early days, preliminary market data suggest the replace/remodel segment while better may be down at a mid-single digit rate next year. As a reminder replace/remodel represents about 80% of the home products industry. We do expect consumers will continue to approach big ticket remodeling with caution.

On the new construction side market projections call for a return to growth, but that growth may primarily be for entry-level homes which often rely on fewer windows, cabinets, and faucets than larger homes. All in this preliminary market data suggests the overall home products market will be slightly down in 2010. If this is correct, this will clearly make for a continuing challenge, but we believe we are properly positioned and we will obviously be working to continue gaining profitable market share.

Now I will conclude with golf. We continue to compete in the challenging industry landscape. In the US, while rounds of play are relatively flat, golfers are reducing overall golf related spending. That is especially reflected in discretionary purchases such as game improvement clubs. Also, corporate spending on golf, which includes outings and related product purchases has been reduced. As you would expect that has had an adverse impact on our market leading corporate custom golf ball business. At the same time, we are seeing more stability in European markets and sustained growth opportunities in Asia where we are continuing to invest and see resulting market share gains. Rolled together we estimate 2009 worldwide golf industry revenues are down in the range of 12% to 15% year-over-year. We are pleased that our results continue to out perform the industry and we are encouraged that our strongest performance has been for premium priced products such as the Titleist Pro V1, and our latest Titleist golf club offerings from drivers to fairways, irons, wedges and putters.

Our third quarter golf sales came in at $279 million; that is off 10% and down 7% on a constant currency basis. While revenues in the US were off at a double-digit rate sales in constant currency were up 10% outside the US and that includes double-digit gains in Europe, Korea, and Australia.

At the OI line operating income before charges came in at $10 million reflecting lower sales and timing of year-over-year expenses.

Our sales of golf balls were down at a double-digit rate mostly due to the impact of lower corporate custom orders and soft sales below the Pro V1 price level. The golf ball market continues to remain strongest at the high end as consumers risk trading down from advanced performance products such as the industry leading Pro V1. Year-to-date through August the Pro V1 family of golf balls has gained two share points at US on and off course golf shops. Our sales of golf clubs were off modestly in constant currency.

Titleist and Cobra both grew club sales in international markets partly offsetting softer sales in the US. Sales of Titleist irons were off in advance of the introduction of the next generation AP1 and AP2 irons plus the new forge CB and MB irons.

Sales of bulky design wedges and the Titleist 909 series of drivers, fairways, and hybrids continued to grow.

Sales of Cobra clubs were essentially flat for the quarter in constant currency.

Sales of FootJoy golf shoes increased slightly in constant currency driven by growth internationally and the success of several new styles including the initial shipments of the new FootJoy ICON.

Sales of gloves and accessories were off slightly in constant currency.

Our golf business is now in its seasonally smallest quarter which historically produces a loss due to lower volumes spread across our fixed costs base. This year will be no different. While we continue to believe that our golf business will deliver industry leading operating margins and a substantial profit for the full year, we will again have a fourth quarter loss and it will be larger than last year due to lower sales, which will be comping against last years launch of the Titleist 909 series. While FX will moderate in the fourth quarter, we anticipate our full year golf results will reflect an unfavorable impact from FX of approximately $20 to $25 million.

Now before turning things back to Bruce, I have a few additional items to discuss.

First, our 1x items. We recorded at third quarter gain of $0.08 per share related to a dissolution gain on our former [Maxium] International joint venture. We also recorded after tax restructuring charges of $5.4 million or $0.03 per diluted share primarily related to ongoing initiatives in our home products and spirits segments.

Year-to-date we have recorded $0.32 per share of restructuring related charges inclusive of charges related to the initiatives in our Spirits business, which Bruce just discussed a moment ago, as well as ongoing supply chain actions in home products, we expect to record fourth quarter charges of approximately $0.20 per share. That would bring total 2009 charges to approximately $0.52 per share. Inclusive of the third quarter gain net charges for the year would be approximately $0.44 per share.

With regard to our tax rate we are now targeting that our full year effective tax rate before charges gains will be approximately 24%. Inclusive of the routine true ups of our worldwide tax positions our third quarter rate before charges gains was 22.2%.

Turning to the balance sheet and financial flexibility, we continue to track well with our free cash flow generation. As you saw in the press release this morning September year-to-date we have generated $414 million. I would highlight that that includes a benefit in the quarter of approximately $50 million due to timing. We continue expect that we will generate free cash flow for 2009 in the range of $400 million, which of course is after dividends and net capital expenditures. Now benefiting from factors including our free cash flow initiatives this year and our bond issuance in June we are now in an undrawn position on our revolver and continue to be in a strong liquidity position.

Last week with regard to FX we now anticipate negative full year impact in the range of $0.20 per share and that is a few cents better than our July estimate reflecting both the weakening of the US dollar and our currency hedging programs.

Now let me turn it back to Bruce.

Bruce Carbonari

Thank you, Craig. Looking to the balance of 2009 we now believe EPS before charges and gains will be in the range of $2.10 to $2.30 for 2009. That compares to our previous target of $2.00 to $2.30. While we are encouraged by the continued stability of our spirits business and signs of stabilization in new home construction, we anticipate the consumer will remain cautious in the months ahead and that the overall home products market, particularly for big-ticket remodeling purchases, will continue to be challenging in 2010.

In addition our fourth quarter results will also reflect the impact of adverse operating leverage in the seasonally small quarter for golf and home products, as well as double-digit year-over-year boost in brand investments behind key spirits brands. As we look to 2010 we feel well positioned to compete in our markets with our breadth of powerful consumer brands, our ability to deliver value for consumers across our categories, and our continuing sharp focus on execution and aggressive management of our cash.

Thank you again for joining us. Now Craig and I are available for questions.

Question-and-Answer Session


(Operator Instructions) Your first question comes from Derek Leckow with Barrington Research.

Derek Leckow - Barrington Research

Just looking at the seasonally strongest period for spirits here coming up I want to make sure I understand the comments around the distribution and being in balance. Does that mean that, earlier in the year I thought we were going to expect to see some headwind from the distribution inventory levels and it sounds like that is not the case any more.

Craig Omtvedt

Well no, as we discussed last year we took distributor inventories down in coordination with our distributors as part of the new program in the fourth quarter and so it as an impact fourth quarter last year against fourth quarter of ’07, but over the course of this year the movements, the ebb and flows, were a function of the first three quarters. So, as things currently stand our expectation is we are comping normally against last year’s fourth quarter.

Derek Leckow - Barrington Research

Okay that’s good to hear and then I wonder if you could provide a little bit of an update on your acquisition of the EFFEN brand. I mean you gave us some case volume numbers for the new Jim Beam product, but I am wondering if you could talk about that one; that sounds like a pretty exciting opportunity.

Bruce Carbonari

It is an exciting opportunity. It is a small brand though. It is really focused here in Southern California and Chicago. We are just going through the transition of that acquisition and we have realigned, as I mentioned in my comments, the advertising and position in the marketplace. So, we really haven’t seen much movement at all in the brand, it is really too early. I think basically by mid-September we were done with the transition of the acquisition and moving it into our distributors and so forth and so on. It takes a little while to get a new acquisition settled and we are still in the early stages of that, but we do think there is a nice upside for that business.

Derek Leckow - Barrington Research

Would you anticipate adding additional brand to that category, or would you expect to perhaps see some proliferation of products under the EFFEN brand?

Bruce Carbonari

Well again we have a great portfolio of brands and we are first going to focus on delivering performance on all of our brands. If we have select opportunities here and there like EFFEN was we will look hard at it and if it makes sense we will execute behind it. EFFEN is again a really targeted brand. It is a brand that we think we can leverage well inside of our national network now. So, we can take it from the Chicago/ Southern California regions and expand it selectively across the country. So, if we can get good leverage and expand a brand like that we will favorably look at the opportunity.

Craig Omtvedt

The only thing I would add there is what kind of our standard as well as our black cherry in particular, we think we have really exciting opportunities with those two for now.

Bruce Carbonari

Yes, the black cherry is selling extremely well.

Derek Leckow - Barrington Research

Great and a final question for you Craig, on the valuation on your balance sheet of maturing spirits could you provide an update for what that is right now?

Craig Omtvedt

I don’t have that on hand. It is in excess of a billion, but we will come back to you with the exact number.


Your next question comes from Peter Lisnic with Robert W. Baird & Co.

Peter Lisnic - Robert W. Baird & Co.

My first question is on the profitability at home and hardware. If you look at it on a sequential basis there is a pretty substantial incremental; so I am wondering if you could talk about what the levers there were in terms of pricing, mix, materials, cost, kind of what led to that significant sequential improvement.

Bruce Carbonari

Again, we have been reducing our cost structures and aligning to the demand. As we have suggested in the past I think we are in a very good position when we do get volume. The third quarter is a seasonally high volume quarter; that is just the nature of the home industry, so as we saw volume come into that we levered very well. There wasn’t a lot of material price fluctuation. Actually we are seeing a little bit of the down trading in mix, especially in the new construction side as we are seeing entry level homes being built, so that is more of the basic products going into that, the chrome faucets and the basic oak cabinets. But, generally it is really about leverage and getting good operating leverage on the new cost structure we have.

Craig Omtvedt

The only thing I would add in summary is just to kind of go back to maybe even the points that Bruce made, but price was minor. The real two drivers were exactly what Bruce just outlined, one was leverage and it just reinforces as sales come back. I mean we are going to benefit. Then secondly was just the quarterly benefit of our recovery actions. So the leverage and our recovery actions are really the two items that drove it.

Peter Lisnic - Robert W. Baird & Co.

Okay fine on that and then if you could talk a bit about the sequential trends outside of the typical seasonal patterns, but the sequential demand trends and what you are seeing in terms of big ticket and small ticket i.e. cabinets, faucets, just kind of what the demand pattern there is and what the consumer is telling you from quarter-to-quarter.

Bruce Carbonari

Sure. I think we are seeing some signs of encouragement especially in the new construction market and I am really comparing that to a quarter ago. There we are really seeing the strength at the entry level. We believe it is driven by first time buyers. They don’t have a home to sell and they take advantage of the tax credit. On the repair and remodel side we are seeing a lot of activity around minor remodeling and repair activity. The more major, like remodeling your kitchen or whatever higher discretionary has slowed down. The ones that we do see are smaller nature projects, but we generally think the consumer is still active in their home, it is just they are not taking on the bigger projects right now.

Peter Lisnic - Robert W. Baird & Co.

Okay, is there perhaps a way that you can quantify what the share gains were in the quarter in terms of, I mean you talked about cabinets and some of the new price points that you have entered there, as an example. Do you have any sense as to order of magnitude in terms of share gains relative to industry that you want to talk about?

Bruce Carbonari

Competitively we don’t get into each of the businesses and the share gains, but generally we said the overall market was down into the 25% range and our sales were down in the 17% to 18% range; so I think that gives you sort of a macro look at the share gain that we have.

Peter Lisnic - Robert W. Baird & Co.

Okay and part of the share gain answer is this move across the price value spectrum and my take is that there is no real significant margin impact from that strategic or tactical shift is that right?

Bruce Carbonari

All of our businesses, if you look at our brands, the Moen brands and the 12 or 13 cabinet brands we have, we go up and down the price spectrum. We are doing manufacturing and assembly across the leverage of that whole market. There are obviously changes in margin as you look at specific products, but in general we are very pleased with the way we levered again in our businesses across our categories. Again, we are talking about a market that is off in the 25% range, so to come back with a 9.3% return on sales we are very pleased about that for the quarter. Again, a lot has to do with volume and our recovery actions.


Your next question comes from Lindsay Drucker Mann with Goldman Sachs.

Lindsay Drucker Mann - Goldman Sachs

I want to go back to your comments on our outlook for next year with the replace/remodel market down in the single-digits and then new homes growing but entry level not necessarily an area where you would benefit as much from. It seems to imply sort of mid to low-single digit decline for the industries in which you compete. Is that a fair assessment and could you dig a bit deeper into what data points are indicators under pin that outlook whether it be housing starts or existing home sales, that sort of stuff.

Bruce Carbonari

I think generally you are in the right direction as far as what we see as of today and the 2010 market. The things that we are just cautious and trying to be prudent about are the fact that the consumer still has some challenges out there and the housing market does too; so, let me get to the consumer first. Lack of available credit; unemployment still being an issue and the general confidence of the consumer, I think they are going to remain cautious. There isn’t anything there in the behavior that they have had so far that has shown us a lot of strength that we will see a robust recovery here especially in the bigger tickets, remodeling or the higher end of the housing market.

We also have in the housing market the foreclosure and shadow inventories. We have to work through those. We are still seeing delinquency and default rates at record levels: I think it is 13% to roughly 13.5% of total mortgages out there, so we have to work through that as well. There are headwinds. Although we feel more optimistic than we did a quarter ago there are just some challenges with just the basic overall general economy and in the housing market in general.

Craig Omtvedt

The only thing I would add there is obviously we are giving early perspective. This is the time of year when we are still working through our budgets and our plans for next year and we will be watching real time here what is going on and we will have a better view for you when we get to January.

Lindsay Drucker Mann - Goldman Sachs

Okay and then last time you spoke to investors you talked about a 10% margin was doable with a million annualized starts and I am wondering how the margin that you printed this quarter squares up with that view, whether there is upside or downside versus that outlook?

Craig Omtvedt

First of all the margin that we had here in the third quarter obviously was a function of both the leverage as well as our cost savings, but the numbers we’ve given people where we’ve said give us housing starts in the range of a million, give us some stability in terms of repair and remodel, and then the results of that would be we are talking about revenues that would be kind of up in the high three billions and we do think that the 10% or maybe slightly better margin is still the right number. It is here in the fourth quarter as we have outlined we are going to face the challenge of adverse leverage because of smaller sales and so the 9% is the high water mark for the year, but that is going to trend back here with the fourth quarter and then for the full year. So, I wouldn’t take the nine three of the third quarter out of context, but I do think that the guidance we have given is still exactly the right guidance.

Lindsay Drucker Mann - Goldman Sachs

Okay and then on the spirits side you mentioned a ramp up in marketing investment in the fourth quarter and I am wondering if this is sort of incremental versus what your planning had been call it mid-year and how much of that is true sort of brand support and how much of it is sending off what appears to be some pretty tough price competition, at least in the grocery data that we see.

Bruce Carbonari

Let me start with the brand investment piece. Do we have a little bit more shift than we had thought between the third and the fourth quarter, or the fourth quarter is going to be more robust than we thought at the end of the second quarter and that is really just a matter of timing. When we were able to execute and basically be able to deliver the product, the investments in advertising that we wanted to in the delivery of the market place, so that is a little bit timing between quarters.

Craig Omtvedt

Let me just jump in for a second because Lindsay as we said on the last call, through the first half of the year we had under spent against where we had originally targeted in the plan. As Bruce outlined that was just a function of kind of where we were with the various programs and what our expectations of them were. So, it is really bringing us back to where we had targeted to be for the full year.

Bruce Carbonari

Then specific to your other question, it is a combination of above and below the line. We are investing, as we called out here, behind Jim Beam. We have good momentum with Jim Beam, not only with Red Stag but the basic white product as well and we have some new campaigns behind Cruzan and EFFEN and obviously the Knob Creek coming back on line, but there are certain categories we are seeing pretty heavy pricing or actually more promotion, I would say, than pricing and in certain channels and we are responding to that as well.

Lindsay Drucker Mann - Goldman Sachs

Okay and then lastly, I think you maintained your free cash guidance but you have stepped up your CapEx anticipated spending, so I am wondering what the incremental projects are you are looking to.

Craig Omtvedt

At this point we have a few things that are in the pipeline that we’re looking at in terms of spirits, in terms of supply chain, and then also as we outlined we have some other things that are going on within the home category. The increase we will see if it comes to pass. I mean some of this is going to be a function of timing as well.


Your next question comes from Ivy Zelman with Zelman & Associates.

Ivy Zelman - Zelman & Associates

One of the things we noticed is that you have constantly generated cash flow in the fourth quarter since ’99, but yet you are saying that won’t be the case this year. Can you help us understand what has changed?

Craig Omtvedt

Yes I will. You look at the last couple of years, obviously the fourth quarter was pretty strong; you look at 2005 it was much more modest. As I look at the fourth quarter right now, when I look at where we may be with kind of net income and then the normal add backs, that is going to be more than offset by payments against capital expenditures that have already been made as well as those that will come in the fourth quarter and we have the dividend. So, the two of those basically net us down virtually to kind of even for this year. Then obviously the key variable is where we are going to come out with receivables and other working capital items. So, as we looked at where we are and also the benefit of what we got here in the third quarter, we are looking at it and saying that it very well could be neutral, we’ll see.

Ivy Zelman - Zelman & Associates

That is helpful, thanks Craig. Then just going to the home segment, you indicated, Bruce, that it has been in cabinets better performance at the home centers where you are gaining share. I realize that there are projects being done on a smaller scale basis, so if you look at the outlook for the cabinet business have you seen the mix for new construction change from the historical levels? I would imagine you might. Can you give us a framework of what that mix is today and how different the margins are on new construction versus repair and remodel and what is the margin outlook for that segment? Do you feel like you have taken enough costs out? I know it is a pretty lean, just in time business, but just looking at what opportunities might be, given that is probably one of the more challenging segments of the market as it is more decorative and discretionary.

Bruce Carbonari

Let’s start with what we are seeing in the new construction piece and move on to the margin. The new construction piece we are, again as I mentioned before, more entry level especially for the production builders. I think they have done a nice job of aggressively going after those first time buyers; so we are seeing the typical type of products in there and that basically reflects more of the materials more of an oak versus the maple. You don’t see the exotic finishes in that type of segment and you see less step up into storage, the insides of the cabinets as well. You are talking about your more basic type of cabinetry to hit the price point and not only price point for cabinets, but price point for the home, for the consumer. So, we are seeing more of that in the new construction side.

As far as the retail side the projects we are seeing on the home center, which is doing better than the dealer and traditional wholesale side, really are I think I described it before as sort of boxes in, boxes out. It is not the big remodeling where you blow a wall out and you change plumbing and you change electrical, this is basically taking the design I have today and just putting new cabinets and countertops on as well. So, that is obviously a lower ticket item, less boxes obviously has a lower ticket.

The way we are structured from an operations standpoint, we are structured with a stock operation, a semi-custom, and a custom. All of those are very profitable within their own segment and we have aligned, again, what we think the demand will be to each one of those particular types of operations. As you mentioned, we build a kitchen at a time, so there is no finished goods. So, the margins there are good, but they are challenged because we are trying to keep the flexibility in there because we believe a lot of the demand is going to be deferred.

The interesting thing also that I should mention to you is in the home center business it is more about, the average sell price is staying up and it is more promotional activity that is driving the business as well. Anyway, that sort of gives you generalities about what we see in the cabinetry business.

Ivy Zelman - Zelman & Associates

That was very helpful, Bruce. Lastly in terms of home you have some obvious challenges as it relates to the segment, but you have hopefully seen the worst behind you. Which would you say has the best outlook within the overall family of products that you guys are selling and where would you think the challenges would be the greatest within the family of businesses?

Bruce Carbonari

I would say that the best would be probably the faucet category because it does cover the repair, remodel, and new construction piece, whereas cabinetry is more about remodel and new construction, very little in the repair side in that business. Also I think the Moen of the world has done very well in the adjacent markets expanding North America and doing extremely well in China and we opened up India last year and we see very good opportunities there as well.

As far as the opening go I think, again, the energy credit has really stimulated demand. We mentioned earlier we hired 450 people back into our Simonton business, so if that continues into next year we hope that will continue.

The door business is a bit more challenging. We see more of a mix issue there going down from the higher level type of fiberglass products with a lot of grains in them to more with a smooth, which is a lower price point, and move to some types of steel as well.


Your next question comes from Tom Mahoney with Cleveland Research.

Tom Mahoney - Cleveland Research

On the spirit segment you talked a little bit about the pricing environment in spirits and I am wondering if you could provide a little more color on what you saw with mix in the spirits segment in 3Q versus what you are looking at second quarter and the first half of this year.

Bruce Carbonari

This was talking about the US market only here really. The US market really hasn’t changed that much overall. We are seeing about 1% growth in that market. We are seeing basically price and mix offset and volume up about 1%. Basically on the mix side a bit of a shift down from super premium, premium to value and standard, but it is not significant. More of the shift is really from on premise to off premise. Certain categories are doing better than others, but I think the more mixables are more challenged because they are mixables, you know you can make a vodka tonic or a screw driver and you hardly taste the vodka, so I think people are being a little more sensitive on the mix downturn there.

The brown spirits are holding up better, bourbon especially is holding up better because again you really don’t mix it. No appreciate change in the trends.


Your next question comes from Ann Gurkin with Davenport & Co.

Ann Gurkin - Davenport & Co.

Can you help me understand how energy efficiency and tax driven benefits maybe drove increased sales and maybe helped margins in the home business and is that something that should also help in Q4? How should we look at that?

Craig Omtvedt

It is certainly helping, obviously, our Simonton business and obviously anything that gives us increased revenue is going to improve the leverage, but the bigger issue right now is I don’t see that as a major factor. We think the trend line is going to continue where it is, but here in the fourth quarter, the bigger challenge is the potential slow down and obviously the fourth quarter is always a small quarter for people doing big ticket projects.

Bruce Carbonari

Mostly because of the holidays, people don’t want to open up their windows and doors and blow out their kitchens during the holiday season, so traditionally it has always been a small quarter.

Ann Gurkin - Davenport & Co.

Okay and then can you help us with the currency outlook for 2010 and a tax rate for 2010?

Craig Omtvedt

At this point that is a little early, but I would say that at least my starting point would be a tax rate next year that probably is right in the range or maybe a bit higher than what I have targeted for this year because of just where we are going to be with global mix. That is tax rate.

Currency, I would say to you right now that our expectation is that currency should be a net benefit next year. I can’t qualify it at the moment. Obviously though with the weaker dollar it is going to be a plus and so I would expect right now that that benefit is going to be, to the degree we have it, is going to be more weighted to the first half, but then kind of coming more in line in the back half of next year.


Your next question comes from Shannon Joseph with Wells Fargo Securities.

Shannon Joseph - Wells Fargo Securities

I was wondering if you could comment a little bit on your revolver that matures next year and what your plans are for that and then what you are seeing on timing for it?

Craig Omtvedt

As I mentioned here in the prepared remarks the fact that we are undrawn at this point we see as a significant positive and clearly the bank markets have been improving over the course of the year. We have just gone current now here in the fourth quarter and so we will be putting that in place by some time probably the middle of the first quarter as things currently stand. Whereas the existing revolver which was a five year and that $2 billion, as we have indicated before, our expectation is that we are going to be taking that down to probably somewhere in the range of say $750 million to maybe a tad higher than that.


Your last question comes from Kevin Dreyer with Gabelli & Company.

Kevin Dreyer - Gabelli & Company

I just wanted to drill in again on the margins and home going forward regarding the 10% or 15% plus that you said you should achieve on a more normalized basis. Just to be clear given the market dynamics you kind of laid out that you expect for next year you probably won’t get there quite yet, is that correct?

Craig Omtvedt

Well I mean you tell me where the market is going. As things stand right now the best we can do is kind of frame this within the bandwidth of “the numbers” and how it impacts our results. I would say to you that if consumers are cautious next year, if they continue to be as cautious as they have been and the repair and remodel is down in the mid single-digit range or more than I think the answer is no. But, depending on when we get to the numbers we’ve set and as we have said in a number of our calls and discussions at various investor conferences, if we are up in kind of the high $3 billions in terms of revenue with new construction around $1 million and the repair and remodel up slightly then we get up to around the 10% range and then over time recover up to something that is kind of near 15%.

Kevin Dreyer - Gabelli & Company

Okay and then just on the golf business your saying you expect the loss for the fourth quarter will be worse than last year implies a pretty big down number for the full year, something on the order of half of ’08 on an EBIT basis. Is this a permanent level down, or what needs to change in order to get that back up to say the ’08 level let alone the kind of ‘04 to ‘07 level?

Craig Omtvedt

First of all I don’t think your numbers are necessarily totally precise, but I won’t debate it. Obviously our number last year was 95 and with the fourth quarter down, I mean we are clearly going to be down. I wouldn’t put it down as low as half right now, but that is going to be a function of kind of what happens with spend here in the fourth quarter. But, as we look to next year what we really need to see is some level of improvement in consumer confidence and people coming back with higher and more willingness on discretionary spend.

Bruce Carbonari

I think it is worth taking a second and talking a little about what we’re seeing in the market.

First off the European market is performing better than we had thought. Rounds of play are strong and as we said we are up double-digits this quarter. In Asia there is still a very strong growth opportunity and there is a lot of momentum there.

In the US what is interesting is although we have seen obviously in the gain improvement side of the game some dramatic numbers down, where we are positioned with our Titleist brand is at the performance end of it and we’re avid golfers who are really concerned about and will pay for performance. That part of the market has held up well and I think that is why you are seeing the very positive results that we have; not so much compared to last year but compared to the competitive set.

So really it is a function next year of the maybe not so avid golfers coming back into the game, the corporate spending going up a little bit more, custom golf ball coming back a bit as well that will drive those results.


I would now like to turn the call back to Bruce Carbonari.

Bruce Carbonari

Thanks Kimberly. On behalf of everyone at Fortune Brands thanks again for joining us. We look forward to closing our 2009 as strongly as we can and to discuss full year results with you in January. Thank you.


Ladies and gentlemen that does conclude the conference call for today. We thank you for participating in today’s Fortune Brands Third Quarter Earnings Conference Call. T his call will be available for replay beginning October 23, 2009 at 12:00 PM Eastern Standard time through October 26, 2009 at 11:59 PM Eastern Standard Time. The conference ID number for the replay is 32209239. The number to dial for the replay is 1-800-642-1687, or 1-706- 645-9291. Thank you. (Operator Instructions)

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