Jackson Kelly - VP and Director of IR
Muhtar Kent - Chairman and CEO
Gary Fayard - EVP and CFO
Bill Pecoriello - Consumer Edge Research
Kaumil Gajrawala - UBS
Mark Swartzberg - Stifel Nicolaus
Judy Hong - Goldman Sachs
John Faucher - JPMorgan Chase
Wendy Nicholson - Citi Investment Research
Lauren Torres - HSBC
The Coca-Cola Company (KO) Q2 2010 Earnings Call July 21, 2010 9:00 AM ET
At this time, I would like to welcome everyone to the Coca-Cola Company’s second quarter 2010 earnings results conference call. Today’s call is being recorded. If you have any objections, you may disconnect at this time. All participants will be in a listen-only mode until the formal question-and-answer portion of the call. (Operator Instructions).
I would like to remind everyone that the purpose of this conference is to talk with investors. And therefore, questions from the media will not be addressed. Media participants should contact Coca-Cola’s Media Relations Department if they have questions. I would like to now introduce Jackson Kelly, Vice President and Director of Investor Relations. Mr. Kelly, you may begin.
Good morning and thank you for being with us again today. I’m joined by Muhtar Kent, our Chairman and Chief Executive Officer and Gary Fayard, our Chief Financial Officer. Following the prepared remarks this morning, we will turn the call over for your questions. Before we begin, I would like to remind you that this conference call may contain forward-looking statements, including statements concerning long-term earnings objectives and should be considered in conjunction with cautionary statements contained in our earnings release and in the company’s most recent periodic SEC report.
In addition, I would also to note that we have posted schedules on our company website at www.thecoca-colacompany.com under the reports and financial information tab in the investors section which reconciles certain non-GAAP financial measures that maybe referred to by our senior executive in our discussions this morning, and from time-to-time in discussing our financial performance to our results as reported under generally accepted accounting principles.
Please look on our website for this information. Now, I will turn the call over to Muhtar.
Thank you Jackson and good morning everyone. Let me begin by saying that I am broadly pleased with our second quarter performance. We once again delivered a quarter of solid growth with consistent profitable results around the world. Working closely with our great bottling partners, we continue to advance our 2020 vision and road map for winning together.
The global equity of our brands is strong and growing stronger. Our worldwide FIFA World Cup activation was a tremendous success, bringing Coca-Cola to billions of consumers across cities, across towns, villages and living rooms the world over. And consumers clearly continue to prefer our brand with brand Coca-Cola growing 5% for the quarter and 4% year-to-date. Additionally, we saw extensive share gains this quarter across key beverage categories including sparkling, packaged water, ready-to-drink juice and juice drinks as well as sports drinks. As a result, we gained volume and value share in global non-alcoholic ready-to-drink beverages. We also gained global volume and value share in both the sparkling and still beverage categories.
At the same time, the global economy remains uncertain due to deficit concerns in Europe, recent downward revisions to China’s economy and continued weakness in consumer confidence in the certain pockets of the world.
This cloudy global economic picture however does not dampen the strong commitments we’ve made to invest in our global operations and our brands for long termed sustainable growth. We’re also encouraged by the real progress we’re making in our plans to integrate CCE’s North American bottling business. This transaction remains on track to be completed in the forth quarter of 2010.
Now turning to current performance results. This quarter we delivered strong 15% operating income growth on that comparable basis. Again on a comparable, currency neutral basis, our 11% operating income growth was well ahead of our long term growth target despite the lingering effects of the global recession.
We grew our quarterly volume, a strong 5%, cycling 4%, bringing our year-to-date volume to 4% at the higher end of our long term growth target. This was fueled by solid organic unit case volume growth across both North America, as well as key international markets. We increased net revenues 7% on a comparable basis in the quarter with our comparable currency neutral revenues coming in at 5% in line with our long term growth target.
And once again, we have generated significant cash from our operations with cash flow up 18% year-to-date. Now I will take a moment to share our performance in more detail across our markets and I will start by reviewing our business in North America which I’m pleased to say is continuing to gain momentum.
North America grew 2% this quarter, returning this region to positive growth. In fact, we gained both volume and value share across both sparkling and still beverages. Equally important to this growth is how it is been achieved in this critical market. First, we are focused on building strong value creating brands led by brand Coca-Cola which grew both volume and value share this quarter while increasing our favorite brand score advantage versus our primary competitive among key consumer segment. Second, we are focused on generating profitable growth by delivering a more sophisticated price, package and channel architecture in the United States.
For example, we forged strong gains in our highly profitable immediate consumption offerings. In previous calls, we have highlighted the success of our smaller single-serve packages and the role, the critical role they play in generating millions of incremental transactions. We are clearly building on this momentum. Additionally, we have seen 4% year-to-date growth of our portion control offerings in the supermarket channel. The growth of these offerings that provide consumers a choice of packages below 12 ounces with 100 or fewer calories is driven by our new 90-calorie mini can. And the recent introduction of our innovative 2 liter contour package has helped Trademark Coca-Cola enter nearly four million new households’ year-to-date.
Importantly, our still beverages in North America were up 7% for the quarter. We have now grown volume share for 10 of the last 12 quarters and value share for 6 of the last 7 quarters.
Across North America we are expanding the footprints of our innovative Coca-Cola Freestyle Fountain dispenser. This summer, we are adding another 500 machines as part of our pilot test and early results show that our customers are very, very excited about Coca-Cola Freestyle and the greater choice of brands available to distribute in their outlooks.
For the past two years, we have voiced strong confidence in our strategies in North America and we told you that we would return growth to our flagship market. What we are seeing today is not an [admiration]. We firmly believe that North America will be a growth market of great opportunities for the next ten years and beyond. This market is driven by an extremely positive demographic profile, the envy of a developed world.
We are confident that the actions we are taking today will only strengthen our future in North America and that we are positioned to capture more than our fair share of the great value, this important market has to offer.
Now let me turn to Eurasia and Africa which saw broad based growth of 10% in the second quarter and 11% year-to-date. This dynamic growth was led by India, up 22% in the quarter and a strong 24% year-to-date despite cycling over 30% growth for both the quarter and year-to-date.
India has now delivered 8 consecutive quarters of double digit growth. Additionally, we gained volume and value share this quarter across most key beverage categories in India. We also saw double digit growth for the quarter in Turkey and Southern Eurasia and high single digit growth in the Middle East. In Africa, we just recently announced our systems commitment to more than double our investment in our business to 12 billion through 2020. This past quarter, we saw double digit growth in Eastern and Central Africa and high single digit growth in North and West Africa.
This growth was led by the strong performance of both our sparkling as well as still portfolio and the immediate benefits of course of our FIFA World Cup activation programs across the entire continent of Africa. Russia importantly also improved on this first quarter momentum, delivering 6% growth in the quarter, bringing volume growth up to 3% on a year-to-date basis. This improvement has been driven by the sustained strong performance of our sparkling brands and in particular brand Coca-Cola which once again gained share while growing a strong 19% in the second quarter.
Moving now to Latin America, where we continued our steady and consistent performance. For the quarter, we were up a solid 7%, supported by a strong FIFA World Cup activation program. We outperformed the industry, gaining non alcoholic ready-to-drink volume and value share across multiple key markets including Argentina, Brazil, Chile and Mexico. These great results were driven by a strong 13% growth in Brazil and as expected, Mexico rebounded well from the unseasonable cold weather in quarter one, growing 5% in the second quarter, cycling 6% from the same period prior year.
Our Pacific Group continued to expand, growing 6% in both quarter two and year-to-date led by double digit growth across Thailand, the Philippines and several other markets in this region. Our volume performance in Japan was the same as in quarter one, down 3% for the quarter, cycling positive 2% growth from last year. This result was a little better than expected as Japan continues to suffer from economic headwinds as well as unfavorable weather conditions.
Despite these challenges, our brand portfolio continues to gain traction with our consumers. For example, Coca-Cola trademark in Japan grew 2% in quarter two, while our Georgia Coffee brand showed positive growth in its core and most profitable vending channel. Our [ILO house] single-serve water continues to grow double-digit even as the cycling last year’s May launch. In fact, since the quarter one of 2008, immediate consumption water volume as a percent of total water volume in Japan has improved by over 20 percentage points.
This is a great example of how we are executing a strategy of focusing on profitable system volume. And we just launched Sokenbicha tea in an innovative double eco bottle which is both a plant bottle as well as ultra light weight.
Overall, we are encouraged by the improving trends observed in Japan during this past quarter and believe we are executing the right strategies. Yet, we remain cautious as we expect the economic headwinds in Japan to continue in the near-term.
China also maintains its quarter one performance growing 6% in quarter two, cycling 14% from prior year. We outperformed the industry this past quarter, growing both volume and value share in nonalcoholic ready-to-drink beverages.
Further, we are more than twice the size of our primary international competitor in China and we once again widened our lead in terms of total unit cases sold. We saw sequential improvement over the course of the quarter with our strongest overall growth in June including positive sparkling growth. We also captured value share in our sparkling beverages in the quarter. And we continue to grow our still portfolio this quarter with our innovative Minute Maid Pulpy brand, up double digits and our overall still beverage is up a strong 30%.
Clearly, with the consumer fundamentals and our very strong position in China, we’re just getting started in this region. We are working hard to build our business across all categories and especially our sparkling beverages. Our system has committed to investing $2 billion in China through 2011 and we remain dedicated to growing in China for the long term.
A good prove point of our commitment to grow in this exciting region is our participation as the 2010 World Expo in Shanghai. Our interactive pavilion has been rated as one of the Expo’s most popular attractions and our presence in the Expo has already generated close to $17 million in ad value in the first month since its opening. We encourage all of you to visit our pavilion if you’re in Shanghai in the coming months and experience first hand, how we are building brand equity in China for the long term.
Now moving to Europe, we’ve seen that consumers and customers are still pressured by the difficult economic conditions that have impacted this region. For both the quarter and on a year-to-date basis, our volume rounded down to minus 1% with solid growth in France, as well as growth in Germany and Iberia, offset by ongoing challenges in Southern and Eastern Europe.
Our beverage business in Europe is almost four times the size of our primary international competitors, and this quarter we gained volume and value share in total nonalcoholic ready-to-drink beverages across the continent of Europe. And Germany is sustaining momentum capturing volume and value share while delivering its fourth consecutive quarter of positive growth. Year-to-date, total volume in Germany is up 3%, and importantly, brand Coca-Cola volume is up 4%. We are encouraged by how we continue to build brand preference for our consumers and drive value for our customers.
Going forward, as we look at our total business in Europe, we remain cautiously optimistic despite difficult economic conditions. These global results, despite difficult operating conditions in some regions are a testament to our seasoned operating team and our global franchise partners for executing our 2020 vision in a disciplined, aligned and decisive manner. We are working as an effective and integrated business system in order to best serve each market’s unique customer and consumer needs and we are gaining market share despite a challenging global marketplace.
We recently concluded a brand equity analysis for Coca-Cola across our top 22 markets from 2007 to 2009 looking at multiple brand health metrics such as favorite brand and the number of weekly and monthly consumers. The results of this analysis show that when looking across all our top 22 markets as a whole, these key metrics improve between one and two points during this two-year time period. To see our brand equity scores trend, brand equity scores trend upwards during a time of macroeconomic pressures, demonstrates clearly our success in connecting closely with our consumers to build brand equity across the markets which we proudly serve.
Looking ahead, we remained intently focused on what critically matters to our business, communicating with our consumers and investing in our brands.
Let me briefly update you on some of the ways we’re doing this. First, communicating with our consumers. Having just returned personally from South Africa, I can confirm that our 2010 FIFA World Cup program has been very, very effective. It is our best example of how we can collaborate as a global team with our bottling partners to create powerful and integrated programming to build our brands. We have leveraged one campaign throughout 116 markets and drove our most unified marketing communications effort yet. All by capitalizing on our global scale while communicating locally relevant, as well as compelling stories that meaningfully connect with consumers all over the world.
Our Powerade’s FIFA World Cup program was rated near the top of all World Cup campaign as tested, surpassing norms on all key measures. Importantly, consumers are responding to our World Cup messaging. Our FIFA inspired World Cup anthem Waving Flag has been a real hit, reaching the number one position on the music charts in 17 countries, moving more than 800,000 download purchases and amassing more than 87 million video views on YouTube.
A survey conducted in the UK by Lightspeed, found that when asked to name their favorite FIFA World Cup ad of the year, consumers rated Coca-Cola, Number One. And when we purchased a FIFA World Cup related tweet on Twitter, the results were absolutely phenomenal. In the first day, after the tweet went online, our ads received over 85 million impressions and a 6% engagement rate, compared to the 0.02% rate usually seen with other web based advertising. That translates into over 5.1 million people interacting with our FIFA World Cup ad in just a 24 hour span.
Our innovative use of online marketing and social media is not just limited to the FIFA World Cup campaign however. Our “Happiness Machine” video showing hidden camera footage of smiling students interacting with a generous Coke vending machine has been viewed nearly 2.5 million times again on YouTube. This video was awarded CLIO’s Prestigious Gold Interactive Award at the 51st annual dinner held in New York City this past May. This once again reminds us that there is nothing as good as authentic Coca-Cola stories of happiness, inclusion and optimism.
Secondly, we are relentlessly focused on investing in our brands. Let me start by saying that now more than ever, we truly have momentum behind our brands. Not only is our brand equity strong and getting stronger, but we are also seeing this equity translate into solid results across both our sparkling and still brand offerings.
Sparkling beverages grew 3% in the quarter with international sparkling beverages case volume up 4%. Importantly for countries with per capita consumption under 150, our sparkling beverages grew 7% in the second quarter, underscoring our strength in these important gross markets.
As for Coke Zero, it continues to be one of the fastest growing sparkling beverages in the world. In North America, Coke Zero delivered double-digit brand volume growth for the 17th consecutive quarter and across our top 22 markets, Coke Zero’s share of the sparkling category is more than four times greater than the share of its primary competitor. We will keep placing the growth of our sparkling portfolio front and center in all of our 2010 plans.
We are expanding our still beverages as well, with total still beverage unit case volume increasing 10% in the quarter, led by continued growth in juice and juice drinks, teas and water brands. In North America, Powerade is building on its 2009 momentum, growing high teens this past quarter, while once again gaining share. Consumers are clearly responding to the category leading innovations we have pioneered this past year, including the functional advantages provided in the Powerade’s Ion4 formulation as well as the Zero calorie benefits of Powerade Zero. In fact, Powerade Zero continues to accelerate up 60% this past quarter alone and representing 15% of our year-to-date Powerade trademark volume in this important market.
As for vitaminwater, we have a leading consumer engagement model that is building, continuing to build brand health. A great example of this is our flavor creator app on Facebook which encourage our consumers to design the newest vitaminwater flavor connect. These types of innovations have helped make vitaminwater one of the most popular beverages on Facebook with more fans than any of our primary competitor’s flagship brands.
I should mention that our recent launch of vitaminwater zero is yielding positive results. In fact, our entire set of premium Glaxo brands were up a combined 4% this past quarter in the United States.
Across the globe, the expansion and increased availability of vitaminwater is driving solid results in multiple markets. Year-to-date, international vitaminwater volume has reached 7 million unit cases or the equivalent of the brand size in the United States for the same period back in 2004. Though we anticipate continued global momentum for vitaminwater fuelled by a 360 degree integrated marketing plan which is now being executed in 15 international markets. In addition to vitaminwater, we are expanding across other key still categories.
In the juice category, we saw continuous solid results across the globe. For example, in North America, we once again gained volume and value share in the juice and juice drinks category with our chilled juice business growing 10% in the quarter and are simply trademarked delivering another quarter of double-digits growth. And finally, in the water category, our branded water business in the United States returned to growth with Dasani up 3% for the quarter. Also, this quarter, we launched Dasani in both Singapore as well as Malaysia.
As we continue to grow and expand, we are fully committed to doing so in a sustainable manner living positively and responsibly in partnership with our consumers, with our customers and with our communities. This is why we were pleased to see the Coca-Cola Company receive high honors at the 22nd Annual DuPont Awards for packaging innovation. This prestigious DuPont award is the packaging industry’s longest running independently judged global awards program, leading international industry and sustainability experts, judge entrance on their excellent and innovation sustainability and cost waste reduction. Our PlantBottle packaging earned one of five gold awards out of more than 160 global entrants for its breakthrough packaging innovation.
Now, let me update you on the significant progress we have made in planning with a proposed integration of CCE’s North America operations and Coca-Cola North America. Our integration, seasoned integration team is working hard to identify opportunities to operate more efficiently and to serve our customers more effectively. Our team also building plans to ensure smooth operations from day one. Further, we have begun the important work of creating a business model, an organizational structure that will support a new era of success in North America. We will provide further details on this model once the transaction closes. We expect the transaction to close in the fourth quarter, in line with the time-line originally provided and we will provide updates as additional information becomes available.
Let me close by saying that despite ongoing global economic headwinds, we are confident in our system’s ability to win together to achieve our 2020 vision. And we remain intently focused on winning in 2010, growing volume, revenue, share and profits. Looking ahead, we have always said that there is no better consumer goods industry to be in than the nonalcoholic ready-to-drink industry.
As more consumers come into the middle class and emerging markets, and as consumers around the entire world search for new innovative ways to engage with their favorite brand, we believe that there is no better system investing more in these markets and providing meaningful innovations than the Coca-Cola Company. After all, the Coca-Cola Company is present in 206 markets, providing over 1.6 billion servings of refreshments each day through a global franchise system that engages with more than 20 million customers each week.
Only the Coca-Cola Company has the world’s greatest portfolio of beverage brands starting with our namesake brand, which keeps growing stronger each and everyday. And only the Coca-Cola Company is uniquely positioned to deliver quality results and returns both today and tomorrow. So while global economic pressures may continue in the short term, I can assure you that our company is doing all the right things to drive future sustainable growth and additional long-term shareowner value. So with that, I’ll turn the call over to Gary.
Thank you Muhtar and good morning everyone. As Muhtar said, we delivered another quarter of consistent, sustainable and quality growth, gaining volume and value share both globally and across our key markets, with volume and profit results coming in ahead of our long term growth targets. These results reaffirm that we have the right leadership team in place with the right strategic plan, capabilities and executions to achieve our long term goals.
As outlined in our release, we reported comparable earnings per share of $1.6, up 15% versus the prior year. Our comparable operating income was up a strong 15%, bringing our year-to-date comparable growth to 16%. Currency had a positive impact on operating income of 4% in the quarter and 6% year-to-date.
For the quarter, our comparable gross profit was up 8%, bringing our year-to-date gross profit growth to 9%. Currency had a positive impact on gross profit of 2% in quarter and 4 percentage points year-to-date.
Further, our business delivered comparable net revenue growth of 7% in the quarter, driven by 5% increase in concentrate sales and a 2% positive currency impact. Our total price mix for the quarter was even, in line with our expectations as our positive revenue growth management strategies, all except the expected ongoing impact of geographic mix. This improvement of our first quarter price mix results was fully consistent with what we indicated in our last earnings call when we said that we expected our price mix to be even for the full year. As for our cash flow from operations, this increased 18% year-to-date to $4.3 billion. This growth was primarily driven by our improved performance and including the positive effect of currency.
Now let me go through some detail around our quarterly results and year-to-date trends. Our comparable currency neutral costs of goods was up 3% for the quarter and is now even year-to-date. As you may now recall on our last quarterly call, we said that we expected our cost of goods to grow in a low single-digit growth range for the full year and we still believe this expectation is appropriate. Comparable currency neutral SG&A expenses were up 1% in the quarter and are net even year-to-date.
Lastly, we captured five points of operating expense leverage in the quarter. As a reminder, when we speak of operating expense leverage, we are referring to the point difference, percentage point difference between our gross profit growth and our operating income growth on a comparable currency neutral basis. The percentage points captured this quarter were driven by our continued strong focus on cost management and the leveraging of our productivity initiatives.
We also benefited from the favorable cycling of marketing expenses versus the prior year and we do expect that this will reverse in the back half of the year. As such, we anticipate our full year 2010 operating expense leverage to be at low single digits for the full year as we noted in our Q1 call. As for our total marketing expenses including both our direct and point of sale marketing, these continue to be positive in the quarter as we remain committed to investing in our brands for long term growth.
Now let me build on Muhtar’s earlier remarks regarding our pending transaction to acquire Coca-Cola Enterprise’s North American operation. We have now achieved a number of important milestones and are on track with the remaining ones for our anticipated fourth quarter closing.
First, On May 25th, Coca-Cola Enterprises filed its Form S4 with the Securities and Exchange Commission, the company’s first formal step towards seeking shareholder approval of the transaction. And amended Form-S4 was filed on July 8th to respond to the SEC’s comments. The S4 provides details on the transaction and the [intended] new CCE business. The SEC must complete its review of the form S4 before the proxy statement that is contained within the S4 can be sent to CCE shareholders.
Second on June 7th, the Coca-Cola Company announced disagreement with Dr Pepper Snapple for continued distribution of their brands after the transaction closes. Third, the transaction must receive antitrust clearance from the FTC as well as the Canadian Competition Bureau prior to closing and we submitted our request for antitrust approval on June 30th.
As for CCE, they are awaiting a response to their request to the RAF for a revenue ruling approving to propose tax treatment and in addition, CCE shareholders must vote to approve the transaction. And with regard to these last two items, if you have any questions, I’d refer you to CCE on those. But as Muhtar mentioned, we continue to expect the transaction to close in the fourth quarter exactly in line with the timeline originally provided. We’ll provide update on that.
Finally, let me take a minute to provide how our outlook on a few key factors we see in the back half of 2010. Despite the recent volatility and some key currencies, we once again benefited from currency in the second quarter. This is consistent with the outlook we provided last quarter when we said that we believe the currencies would have a slightly positive impact on operating income on a full year basis with this benefit weighted towards the first half of this year. As such, we would expect currency to have a low single digit negative impact on operating income starting in the third quarter.
As a quick reminder, we are 100% covered on the Euro 2010 and will continue to execute our hedging strategies over multiple years as appropriate. Also, want to remind you that as highlighted in our previous calls, our comparable results for this year reflect the impact of the deconsolidation, certain entities, primarily bottling operations due to new accounting guidance that became effective, the first of this year for the FASB requirements. For the full year 2009, these entities accounted for approximately 3% of our consolidated net revenue and approximately 2% of our consolidated operating income. In addition, we reflected these changes within our GAAP and non-GAAP schedules for about a comparable income statement for external modeling purposes.
At the end of the last quarter, we also posted a schedule in the investor section of our website that takes into account this change and accounting guidance to assist you in adjusting the prior year results.
On productivity, we are on track and on plan to deliver the $500 million in annual savings from our initiatives by the end of next year 2011. And lastly, with regard to share repurchase as we said in our last call, we have to stay out of the market until the close of our transaction with Coca-Cola Enterprises while you will see minimal cash outflow for treasury stock purchases in our results this quarter. Note that these review the share withholding related to employee benefit plans. As for our plans to repurchased common stock, we remain committed to repurchasing at least $1.5 billion of shares by the end of this year.
In conclusion, while this is good to see some parts of the world experiencing a slow but steady recovery, it’s clear that many others are continuing to struggle through an extended global recession. Despite this challenging global environment, our results this quarter as well as our continued track record of success this past year is a testament to our seasoned management team, our sound growth strategies and our solid global brand portfolio, we are clearly executing the right actions to drive our business for the long term.
We remain confident that we’ll keep gaining global share and enhancing the health of our brands in order to drive long term profitable growth and importantly value for our shareholders.
Operator, we are now ready for your questions.
Yes, thank you. We will now begin the question-and-answer session. (Operator Instructions) Our first question comes from Bill Pecoriello with Consumer Edge Research.
Bill Pecoriello - Consumer Edge Research
A question on China, you can help us understand some of the weight the various factors might be having in the slower sparkling volume growth. You mentioned the weather also slowing economy, was there any local price competition that resulted in volume share losses and also as you are monitoring shift in consumption habits between sparkling and strong still that you’re reported? Thanks.
First, our volume in China grew 6% and importantly, we gained volume and value share in the total nonalcoholic ready-to-drink beverages and it is important to I think remember that our 6% growth was off from a volume base that is more than two times the size of our global competitor, therefore widening our lead in terms of total unit cases, actual unit cases sold in China. And during the quarter again, and China is a complex market. We have a great portfolio in China. We grew our still beverages up by 30% gaining again volume and value share. And in sparkling beverages, we saw a sequential volume improvement through the quarter and I think also in June, sparkling value share gains as well as in the quarter.
So I expect to see continued sequential improvement in China. I think as I said China has had some very extraordinary weather in the first quarter, as well as some part in the strong markets on the East Coast in the second quarter. We clearly expect China to be a strong growth market for the company. I want to remind everyone of 26 quarters of, consecutive quarters of double digit growth that we’ve had in China, a strong growth market, I think we all believe that China will be a strong growth market for the company for the next decade as well as beyond. And I can tell you that we will continue to do what is right for the business in China by investing for the long term and also leading the industry in building strong brands across our entire portfolio, especially in sparkling beverages.
And again, I just want to reiterate that we are investing $2 billion. We’re in year two of that $2 billion investment. I was in China a couple of months ago at the opening of the Shanghai Expo. I’m going to be back again for the opening of our new plant in Inner Mongolia or in China, bring our total number of plants very close to 40. We have a wonderful template above in terms of production as well as in terms of go-to-market, and I am confident that China as I said will continue to be a significant growth market for the company in the decades to come.
And our next question comes from Kaumil Gajrawala from UBS.
Kaumil Gajrawala - UBS
If you could drill down a little bit more into North America, specifically if you could give some context on channel mix and then also maybe a little more detail on what was behind the acceleration in still volume growth?
Well firstly, I want to just reiterate, Kaumil, that I am very very pleased with the fact that we are, we have generated a quarter of growth in our flagship market. We have been talking about all the programs in terms of brand price pack channel architecture that is beginning to yield. We have the scale now and the yield result. I talked about in the call about the success of the contour tool is a bottle of the portion control packaging of the new immediate consumption, both 14 and 16 ounce packages. I think, our brands are getting stronger in the United States, a significant strength in our brands are up, and therefore, I think we’re seeing all of those culminate into results.
And it is particularly pleasing this that we are entering into our transaction that we intend to close in quarter four from a point of view of strength. That is really critically important that I want to reiterate. We delivered a solid quarter of volume, profit and share growth while staying again absolutely focused on our long term strategies. That is the key and we remain confident that we do have the right strategies for our flagship market, working closer than ever before, and our strategic focus remains consistent on continuing to build healthy brands, healthy customer relationships and healthy systems. And I think that we have all those and although they are getting stronger and therefore as I said, we’re confident that the actions we’re taking, have been taking in the last two years and taking today will only strengthen our future in North America, and that we are best positioned to capture the greatest value here in this market.
I’d like to add one other thing that I think is really important as you look at the North American market. You heard us talking so much about the smaller packaging and recruitment. We are using that as a recruitment package over the last year or so and we’re starting to really see it pay off, while we had extremely strong growth in our still brands. But just to see sparkling come back and be even in the quarter is great, but focus on brand Coke, brand Coca-Cola in North America was positive in growth this year and is because of the initiatives we have been putting behind that flagship brand that’s going to really lead to success we think in North America.
I think the simple way to look at it just to finish off just the question Kaumil is that if you walk across into our North America operations or into any of our bottling partners operations in North America today, you will see a completely different belief in our sparkling brands and the belief that they will grow compared to three years ago. And I think that says it all. That is the belief that our people have at every level that they can generate growth out of this market because of the wonderful demographics that the strength of the brands, the spending power and also the consumption habits. And that there will be bumps along the road and of course, the consumer is still confused in the United States. There is still confusion out there in terms of the consumer spent levels, but we are moving on along the right path, that’s the key message here.
And our next question comes from Mark Swartzberg with Stifel Nicolaus
Mark Swartzberg - Stifel Nicolaus
I guess Japan Muhtar, could you give us some more of a, some more color on the state of play through your vending business there and broaden that out as well and talk a bit about some of the other offsetting channel trends, not only in terms of any offsetting volumes you are getting from the weakness in vending, but also any efforts to improve profitability in these other channels?
First, Japan remains a very challenging environment. Everyone knows that. Our performance in this quarter was in line with our performance in Q1 and a sequential improvement of the last two quarters of 2009. Our business in Japan had also unfavorable weather in that part of the world that also hit the east coast of China. But overall, I think we are executing the right strategies and plans. We saw a sequential improvement in our business in the quarter that just passed, but we remained cautious because we expect the economic headwinds in Japan to continue in near term as well as throughout 2010.
As far as the vending channel is concerned, yes, there has been, I think, we have seen the dip and there has been some improvement because its again, factories that basically close down during a period of time in the very depth of the recession are back albeit not working as on all shift that they used to but certainly, the export business coming back trademark Georgia is positive in vending, I mentioned that. I think we see some really good, still a great green shoots in trademark Coca-Cola and I mentioned about also innovation in packaging is helping us in Japan, but I think across all consumer goods industries in Japan, the outlook remains as we need to remain cautious but we are absolutely implementing the right strategies to ensure that our business is actually more healthy in Japan and also we can as the economy picks up that we will be ones that actually benefit the most in coming years.
And we also, I have to say also that we are working absolutely diligently on the structural matters in Japan that will also aid our investment programs going forward.
Mark Swartzberg - Stifel Nicolaus
You are talking there when say structural, Muhtar, you are talking about the relationship with the bottlers and how the kind of route to market looks today versus future?
Yes. That what’s I’m talking about, the [Canto] bottlers, I’m talking about continuing to work with Coca-Cola, West Japan and ensuring that we do have the lowest cost production as well as route-to-market.
And next is Judy Hong from Goldman Sachs.
Judy Hong - Goldman Sachs
Muhtar, just in terms of Europe and I just wanted to get a little bit better understanding in terms of the diversions and performance, between markets like France where you are showing high single digit growth and then you got obviously the southern part of Europe where trends are weak because the macros etcetera. So can you just give us a little bit more perspective on the trends that you are seeing and then maybe also talk about Great Britain in terms of your volume trend there, it sounds like the share trends have been a little bit softening in that market. Is that accurate and maybe just a little bit more color in some of the parts within Europe?
Look, I think I’ve said this before Europe is like a tail of two cities. You’ve got the East that is still challenged, very challenged, central and the East Europe is very challenged although Russia is beginning to show signs, the sun is beginning to comes through the clouds in Russia and Ukraine, which is really I think we look forward to seeing how that will progress, but certainly, I think the Western Europe, the economies, the consumer is better positioned, less confused and has a better outlook than the consumer in East and Central Europe and particularly also South Europe like Greece particularly as well as the former countries and the Former Yugoslavia as well as Italy.
So, that is the tale of two cities. So the South and the East being much more challenged from a consumer sentiment point of view than the west. And I think we saw some, again, improvement in trends in our business in Iberia, in France, the trademark Coca-Cola was very healthy in all of Western Europe, in the Benelux in England, generating growth in France of course and also in Iberia. So we were very encouraged with that and we had very very robust FIFA World Cup activation coming on with very integrated customer programs, as well as consumer programs related to the FIFA World Cup which our business also benefitted from.
Judy Hong - Goldman Sachs
Any color on UK in terms of your volume and share performance there?
Yeah. I don’t want to comment any further on the UK for obvious better reasons right now. But I think that as I said to you, we were encouraged with the Coca-Cola trademark being up and also we successfully re-launched Diet Coke as well and that I think generated some strength for the trademark.
Judy Hong - Goldman Sachs
And then Gary, just a quick follow up on currency. Obviously this year you talked about having 100% coverage on the Euro. As we think about 2011 and as you layer in the new hedges in places, is it fair to say that 2011, you would see a negative impact in terms of currency?
Judy, it’s actually two early to tell because remember that the coverage we put on is an option strategy. So, if the Euro actually strengthened and it is been very volatile where we’ve seen it hit a high, several month high in the last few days, it’s hard to tell. So, I think it’s one of those, I’m going have to hold the answer until later this year we actually see where Euro really traits, but we are putting option, kind of coverage on so that we’ll protect against downsize, but if in fact the Euro should strengthen, then it could be a positive. I just don’t know yet.
And next is John Faucher from JPMorgan Chase.
John Faucher - JPMorgan Chase
Can you guys talk a little bit about the price mix number in the Pacific? It’s been down for a couple of quarter so I kind of though it might get a little bit better this quarter as you cycled against an easier comparison. So can you give us a little bit of idea in terms of what’s happening with that, is it a package mix issue within certain countries? Obviously, Japan is an issue in terms of being a higher price mix market. So, can you give us a little bit of an idea of what’s going on there and kind of when we can expect that to get better as we continue to lap some easier comparisons? Thanks.
I’ll let Gary answer that question in detail, but I mean, it is a question of mix that you said it’s basically mix. We have the same mix, a similar mix in quarter one and I think I’ll let Gary give you more granularity on that, John.
I’d say it is a couple of things and this is where if I just start on total company first and then drill down to the Pacific specifically, remember we’ve always said that we’re going to have a negative geographic price mix. And that’s a really good thing if you think about it and that it means that our emerging markets are growing much faster which is what we would want to happen, what you would want to happen than the more developed markets, and because of that, they just want to give us a negative geographic mix. That is accentuated in the Pacific where you’ve got significant emerging markets. And so you have got the Philippines up, strong double-digit, you’ve got Thailand up strong double-digit, you’ve got Indonesia up strong double-digits. And then at a time when Japan is down three and Australia is actually down two, and you put those together and you’ve got significant geographic negative mix that is more than offsetting pricing whereas for total company, we’re able to balance that out as what we always said from a total company, total global portfolio perspective. We should be able to balance that out longer term, make it actually positive.
But basically, as geographic mix in the Pacific, it over time will get smaller. If you remember that if you went back even five years ago, Japan was probably 20% of the total profit, it’s now in single digits. And because of that, it is getting smaller. Now, we were working diligently on Japan so and I really would love it to be bigger obviously. But the geographic mix is the big thing. But one other thing I had in Japan is kind of back to one of the previous questions as well. On two of the bottlers in the Canto area, we took management control a year to two years ago and they actually had a really good quarter and we are actually positive and it’s just giving I think all the bottlers in Japan something now to understand what’s actually possible with.
And so we’re using that in best practices to really show what’s possible in Japan and I think a longer time we have positive view on Japan.
John Faucher - JPMorgan Chase
Okay. So, just one quick follow-up on that, in terms of managing expectations for Pacific going forward, operating profit on a currency neutral basis I think is been down. Is it safe to say, is it just simply a re-acceleration of China or is it something where you are going to say look, for the foreseeable future, expect sort of minimal organic top line growth and minimal profit growth from Pacific. It’s a longer term engine of growth, but shorter term, not so much.
John, I think that is very well put. Short term, not so much, but longer term definitely one of the real engines of growth.
And next is Wendy Nicholson with Citi Investment Research.
Wendy Nicholson - Citi Investment Research
First of all, in North America, can you talk about the food service channel a little bit? What you are seeing there and what’s happening in terms of the timing of the roll out of the 500 Freestyle machines, how much of an impact that’s going to have on the top line?
Wendy, we don’t break the food service up, but I do want to say that the Freestyle is something that we are excited about. I often go to visit myself restaurants and customer partners that operates the Freestyle machine and I think that basically currently, we have said that we are pilot testing in restaurants, right here in Atlanta, Dallas, Southern California. We have plans for Orlando and Chicago to come in.
And again, we expect that there’d be probably around couple of thousand machines in the market by the year-end and the big innovation that we have, we see great consumer acceptance, excitement and we see customer excitement with the Freestyle and we believe that this will benefit our business in addition to everything else we are doing with our brands in North America. This will benefit our business going forward. It is again, want to stress that it is a long term play and we will see benefits of this in the decade, in the years to come and the next decade in our vision period.
Wendy Nicholson - Citi Investment Research
And do you think that Freestyle helps you gain distribution in new food service outlet or is it just to replacing the traditional fountain machines you already have?
Firstly, I think there is a tremendous vertical play here. So, inside the existing customer base, you need to understand that this will give us vertical volume gains. There is higher transactions and higher volume. Additionally, we believe that again, this will be an opportunity to even also gain horizontal expansion.
Wendy Nicholson - Citi Investment Research
Go it. And if I just have one quick follow up on Europe. Even though the macro environment is obviously very challenged and the top line is under pressure, the margins have held up surprisingly well. Do you think that’s an area and Gary, you talked about a shift in the timing of some of the investment spending, is that an area that’s going to see more spending in the back half or is there something structural or they just making out business, higher margin and saw pretty good actual profit growth this quarter?
It wasn’t very high margin business to start with and we have been diligently working to ensure that we can keep those margins as we grapple with the macroeconomic challenges, but I think I’ll let also Gary talk about the marketing spend levels that you asked about.
What I say on marketing, remember, total company in fact, there because of what we are cycling in the prior year the way, we record marketing expenses, marketing will be up much more in the second half of the year than the first half, strictly as the way of how we reported and our, what we are cycling. That will be most exaggerated and emphasized actually in Europe, where there will be a significant increase in marketing expenses in the second half of this year.
And next is Lauren Torres with HSBC.
Lauren Torres - HSBC
Muhtar, you touched upon Russia. I was curious to get your comments on how that markets change. We saw some great growth this quarter in comparison to weakness over the last several quarters, just curious if you feel that as a result of your initiative or is just a better help coming back to that market, something that we haven’t seen for last year or so?
Well, my 30 plus years of experience with, at that time with the Soviet Union and then, later in the last 20 years with Russia has always been that it is very volatile, it goes into a deep economic issue consumers, sentiment issues very quickly and it comes out very quickly. And I think we are seeing, I see what’s happening in Russia pretty similar to what happened back in 1998, when it went into a deep crisis and then came out again towards, end of 1999. So obviously, the reasons are not the same but the way the consumer is reacting, the way the customers are reacting is very similar.
However, I want to stress that what we are doing with brand Coca-Cola, up 19% in Russia in the last quarter is definitely a result of the success of our own marketing initiatives than working very closely with our bottling partner Coca-Cola Hellenic.
Lauren Torres - HSBC
So do you feel that 6% growth rate is sustainable going forward? You could kind of build from there or is it just somewhat reflected to those initiatives that help the quarter?
Based on my own personnel prior experience with Russia, I believe that we will continue to see growth in Russia coming, although again, there is a tremendous amount of volatility in Russia are names, two names that actually go together.
I’d like to turn the call back over to Muhtar Kent.
Thank you, Gary and Jackson. In closing, we had a very good second quarter, and are confident about our company today, and also where we are on our path to 2020. We continue to generate strong cash flow, remain committed to re-deploying that cash to both growing our business as well as rewarding our share owners. We are investing alongside our system to win around the globe. At the same time, we are committed to delivering consistent value to our share owners through regular dividend payment and share re-purchase programs.
We will drive a fast and seamless integration effort in North America, and bring increased value and profitability to this important critical region. We will execute flawlessly on our 2020 vision by working very closely with our bottlers, our employees and all our key stakeholders. We see a tremendous opportunity ahead for the Coca-Cola Company in all of our markets and geographies.
We remain intently focused on working across our system to execute our key strategic priorities and to generate long term sustainable growth. Thank you for joining us this morning.
And that concludes today’s call, thank you for your participation. Please disconnect your lines at this time.
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